Question

It Q7 You are entitled to receive an annual cash flow of amount A at end deach year, starting 1 year from now, except no cash flow at end of fear 4 and year 5. The last cash ! flow will be paid at the end of year 8. At the end of 3rd year after you receive the 3rd payment, someone offeres offers you andnt of lump sum cash! Plow to buy the right to receive the best of the cash flows. At an annual internt rate of ip, chalate the minimum amount of х you are willing to accept the offer A= 18,500 2 10% X

Answer 1

Answer:

Cash flows as stated are:

At end of:

Year 1 = $18,500

Year 2 = $18,500

Year 3 = $18,500

Year 4 = $0

Year 5 = $0

Year 6 = $18,500

Year 7 = $18,500

Year 8 = $18,500

Now let us shift the time line to end of Year 3:

At the end of year 3:

Cash flows to be received are:

Year 1 (which is Year 4 above) = 0

Year 2 (which is Year 5 above) = 0

Year 3 (which is Year 6 above) = $18,500

Year 4 (which is Year 7 above) = $18,500

Year 5 (which is Year 8 above) = $18,500

Present values of these cash flows at the end Year 3 =18500 / (1 +10%)^3 +18500 / (1 +10%)^4 +18500 / (1 +10%)^5

= $38,022.12

At the end of Year 3, amount you will be willing to offer to buy the right of rest of cash flows = $38,022.12