Time Value of Money
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Perpetuities
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Future Value of an Uneven Cash flow
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Perpetuities
| Perpetuities - | are equal payments made regularly, like every month or every year, that go on forever. |
You are rich. (Yes, but are you really happy?) You want to start the YOUR NAME HERE Scholarship at your university. Every year, some student will receive a $1000 scholarship. You're paying for it. Even after you, your kids and your grandkids are dead, you are still paying for it. Forever.
The question is....How much money will it cost you. In today's dollars. What is the present value of this perpetuity. (Hint: starting now and going on forever and ever, you assume the interest rate at your bank is going to be 3%).
| PV (of a perpetuity) = payment / interest rate |
Every year the interest you earn is used to pay for the scholarship. The principal in your bank account doesn't really change year to year.
- PV (of a perpetuity) = payment / interest rate
- PV = $ 1000 / .03
- PV = $ 33,333
So, you put $ 33,333 into the bank. Each year the money earns $1000 interest. That interest becomes the scholarship.