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Useful Shortcuts

Michael R. Roberts

William H. Lawrence Professor of Finance

The Wharton School, University of Pennsylvania

Last Time

Time Value of Money

Compounding

This Time

Time Value of Money

Useful Shortcuts

ANNUITY

Annuity

An annuity is a finite stream of cash flows

of identical magnitude and equal spacing

in time

0

T-1

CF

CF

CF

Annuity

An annuity is a finite stream of cash flows

of identical magnitude and equal spacing

in time

0

T-1

CF

CF

CF

auto lease, bond payments

Annuity

An annuity is a finite stream of cash flows

of identical magnitude and equal spacing

in time

0

T-1

CF

CF

CF

An annuity is a finite stream of cash flows

of identical magnitude and equal spacing

in time

0

T-1

CF

CF

CF

Copyright Michael R. Roberts

Example 1 Savings

How much do you have to save today

to withdraw $100 at the end of each

of the next 20 years if you can earn

5% per annum?

Example 1 Savings

How much do you have to save today

to withdraw $100 at the end of each

of the next 20 years if you can earn

5% per annum?

0

19

20

100

100

100

Example 1 Savings

How much do you have to save today

to withdraw $100 at the end of each

of the next 20 years if you can earn

5% per annum?

0

19

20

100

100

100

GROWING ANNUITY

Growing Annuity

A growing annuity is a finite stream of

cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

Growing Annuity

A growing annuity is a finite stream of

cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

project revenue/expense streams

Growing Annuity

A growing annuity is a finite stream of

cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

A growing annuity is a finite stream of

cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

Copyright Michael R. Roberts

Example 2 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on for the

next 19 years if you can earn 5% per annum?

Example 2 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on for the

next 19 years if you can earn 5% per annum?

0

100

2

102.5

100 x (1 + 0.025)

19

20

155.966

159.865

Example 2 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on for the

next 19 years if you can earn 5% per annum?

0

100

2

102.5

19

20

155.966

159.865

PERPETUITY

Perpetuity

An perpetuity is an infinite stream of cash

flows of identical magnitude and equal

spacing in time

0

T-1

CF

CF

CF

Perpetuity

An perpetuity is an infinite stream of cash

flows of identical magnitude and equal

spacing in time

0

T-1

CF

CF

CF

Perpetuity

An perpetuity is an infinite stream of cash

flows of identical magnitude and equal

spacing in time

0

T-1

CF

CF

CF

Example 3 Savings

How much do you have to save today

to withdraw $100 at the end of each

year forever if you can earn 5% per

annum?

Example 3 Savings

How much do you have to save today

to withdraw $100 at the end of each

year forever if you can earn 5% per

annum?

0

100

100

100

100

Copyright Michael R. Roberts

Example 3 Savings

How much do you have to save today

to withdraw $100 at the end of each

year forever if you can earn 5% per

annum?

0

100

100

100

100

GROWING PERPETUITY

Growing Perpetuity

A growing perpetuity is an infinite stream

of cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

Growing Perpetuity

A growing perpetuity is an infinite stream

of cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

Growing Perpetuity

A growing perpetuity is an infinite stream

of cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

A growing perpetuity is an infinite stream

of cash flows that grow at a constant rate

and that are evenly spaced through time

0

CF

CF(1+g)

T-1

CF(1+g)T-2

T

CF(1+g)T1

Copyright Michael R. Roberts

Example 4 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on forever if

you can earn 5% per annum?

Example 4 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on forever if

you can earn 5% per annum?

0

100

2

102.5

100 x (1 + 0.025)

19

20

155.966

159.865

Example 4 Savings

How much do you have to save today to

withdraw $100 at the end of this year, 102.5 next

year, 105.06 the year after, and so on forever if

you can earn 5% per annum?

0

100

2

102.5

100 x (1 + 0.025)

19

20

155.966

159.865

Summary

Lessons

An annuity is a finite stream of cash flows

of identical magnitude and equal spacing

in time

flows of identical magnitude and equal

spacing in time

Lessons

A growing annuity is a finite stream of cash

flows growing at a constant rate and equally

spaced in time

cash flows growing at a constant rate and

equally spaced in time

Caution

Annuity and perpetuity formulas

assume first cash flow occurs one

period from today

Growth rate, g, must be less than the

discount rate, R, for PV formulas to

make sense

Understand excel functions

assumptions

Copyright Michael R. Roberts

Coming up next

Problem Set

Taxes

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