Question

Investment X offers to pay you $4650 per year for seven years, whereas Investment Y offers to pay you $6 870 per year for four years. Which of these cash flow streams has the higher present value if the discount rate is 7%? If the discount rate is 21.5%?

Answer 1

Present value of annuity=Annuity[1-(1+interest rate)^-time period]/rate

At 7%:

X:

Present value=4650[1-(1.07)^-7]/0.07

=4650*5.389289402

=$25060.20(Approx)

Y:

Present value=6870[1-(1.07)^-4]/0.07

=6870*3.387211256

=$23270.14(Approx).

Hence X provides higher present value .

At 21.5%:

X:

Present value=4650[1-(1.215)^-7]/0.215

=4650*3.461215856

=$16094.65(Approx)

Y:

Present value=6870[1-(1.215)^-4]/0.215

=6870*2.516858053

=$17290.81(Approx).

Hence Y provides higher present value .