Question

You inherited an oil well that will pay you $26,000 per year for 25 years, with the first payment being made today. If you think a fair return on the well is 7.5%, how much should you ask for it if you decide to sell it?

Answer 1

Answer: $311,557.14

Step-by-step explanation:

GIVEN the following ;

Payment per period(PMT) = $26,000

Period(n) = 25 years

Rate of return (r) = 7.5% = 0.075

Asking price, if one decides to sell:

Using the formula for present value of annuity due;

Present Value (PV) :

PMT ×[ (1 - (1 + r) ^-n) ÷ r] × (1 + r)

$26,000 × [ (1 - (1 + 0.075)^-25) ÷ 0.075] × (1 + 0.075)

$26,000 × [ (1 - (1.075^-25)) ÷ 0.075] × 1.075

$26,000 × [11.146945860662] ×1.075

=$311557.13680550

=

Present Value if one decides to sell will be : $311,557.14 (2 decimal places).

Answer 2

$311,557.14

Step-by-step explanation:

Since the first payment being made today, the relevant formula to us the formula for calculating the present value (PV) of annuity due given as follows:

PV = P × [{1 - [1 ÷ (1+r)]^n} ÷ r] × (1+r) .................................. (1)

Where ;

PV = Present value or the sales amount to ask for =?

P = Annual payment = $26,000

r = interest rate = 7.5%, or 0.075

n = number of years = 25

Substituting the values into equation (1) above, we have:

PV = 26,000 × [{1 - [1 ÷ (1 + 0.075)]^25} ÷ 0.075] × (1 + 0.075)

= 26,000 × [{1 - [1 ÷ (1.075)]^25} ÷ 0.075] × (1.075)

= 26,000 × 11.1469458606622 × 1.075

PV = $311,557.14

Therefore, you should ask for $311,557.14 if you decide to sell it.