A financial fairy godmother wants you to be financially independent. She offers

Question

A financial fairy godmother wants you to be financially independent. She offers you a choice out of 5 financial alternative products, being: 1) An amount of 7 million today. 2) An amount of 650.000 yearly, forever. 3) Three amounts of 3.300.000, the 1st after 2 years, the 2d after 4 years and the last after 6 years. 4) A yearly amount of 1.600.000, 6 years in a row, the 1 after 1 year from now 5) A yearly amount of 1.400.000, 6 years in a row, the 1t today, the 2md 1 year from now and so on Your required rate of return is 10%. Taking into account the time value of money, please answer the following questions: a) What is the present value of alternative 2)? b) What is the present value of alternative 3)1? c) What is the present value of alternative 4)1? d) What is the present value of alternative 5)? e) Assuming you would like the most valuable alternative, what would you choose? f If alternative 5 would be a yearly amount of 1.475.000, 6 years in a row, the 1st today, the 2hd 1 year from now and so on, would that change your answer and why?

Explanation / Answer

a)=amount/return required
= 650000/10%=6500000
b)=(3300000/1.1^2)+(3300000/1.1^4)+(3300000/1.1^6)
=6843981.10
c)=(1600000/1.1^1)+(1600000/1.1^2)+(1600000/1.1^3)+(1600000/1.1^4)+(1600000/1.1^5)+(1600000/1.1^6)
=6968417.12
d)=1400000+(1400000/1.1^1)+(1400000/1.1^2)+(1400000/1.1^3)+(1400000/1.1^4)+(1400000/1.1^5)
=6707101.48
e)We choose alternative C
f)=1475000+(1475000/1.1^1)+(1475000/1.1^2)+(1475000/1.1^3)+(1475000/1.1^4)+(1475000/1.1^5)
=7066410.48
Yes it will chnage and it is alternative 5

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