Present Value of a Perpetuity
Edspira・3 minutes read
An annuity provides a fixed cash flow for a specific period, its present value calculated as cash flow divided by the discount rate as a decimal, whereas a perpetuity offers a perpetual fixed cash flow with a formula of cash flow divided by the discount rate as a decimal, giving a present value of $8,333.33 for an annual $500 cash flow at a 6% discount rate.
Insights
- An annuity provides a fixed cash flow for a specified period, with its present value calculated by dividing the cash flow by the discount rate.
- A perpetuity offers a perpetual cash flow, with its present value determined by dividing the cash flow by the discount rate, resulting in $8,333.33 for a $500 annual cash flow at a 6% discount rate.
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Recent questions
What is an annuity?
A series of fixed payments for a specific period.
What is a perpetuity?
An infinite series of fixed payments.
How do you calculate the present value of an annuity?
Divide cash flow by discount rate.
How do you calculate the present value of a perpetuity?
Divide cash flow by discount rate.
What is the difference between an annuity and a perpetuity?
Annuity has a limited time period, perpetuity is indefinite.
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Summary
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Annuity vs. Perpetuity: Cash Flow Comparison
- An annuity involves receiving a set cash flow amount, like $500, for a limited time period, such as five years, with a formula to calculate its present value being the cash flow divided by the discount rate, converted to a decimal.
- In contrast, a perpetuity entails receiving the same cash flow amount, like $500, indefinitely, with a simple formula to determine its present value being the cash flow divided by the discount rate, converted to a decimal, resulting in a present value of $8,333.33 for receiving $500 annually forever at a 6% discount rate.
