you are connsidering purchasing a new software suite for your consulting company

Question

you are connsidering purchasing a new software suite for your consulting company. You estimate that the software will have a useful life of 5 years, with negligible market value at that point. The annual net positive cash flows (including both increased revenue and decreased cost) resulting from this software are estimated to be $60,000 in the 1st year, growing by 8% each year to the end of the useful life. to earn 18% rate of return on your investment, what would be the maximum amount that you should spend on this software suite?

Explanation / Answer

Present value of growing annuity = [P÷(r-g)]×[1-[(1+g)÷(1+r)]^n]

P is first payment

r is interest rate per period

n is number of payments

g is growth rate

= [$60,000÷(18%-8%)]×[1-[(1+8%)÷(1+18%)]^5]

Maximum spending = $214,645.89

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