Perpetuity (Capitalized Cost)

• Occasionally, donors sponsor

perpetual awards or programs by a
lump sum of money earning interest.

• The interest earned each period (A)

equals the funds necessary to pay for
the ongoing award or program.
The relationship is A = P( i )
• This concept is also called capitalized
cost (where CC = P).
 Perpetuity Example
A donor has decided to establish a $10,000
per year scholarship. The first scholarship
will be paid 5 years from today and will
continue at the same time every year
forever. The fund for the scholarship will be
established in 8 equal payments every 6
months starting 6 months from now.

Determine the amount of each of the equal

initiating payments, if funds can earn
interest at the rate of 6% per year with semi-
annual compounding.
 Perpetuity Problem
Given:
A = 10 000 per year, every year after Year 5
n = 8 payments @ 6 mo. intervals, starting @ 6 mo.
i = 6%, cpd semi-annually
Find Amount of Initiating payments (Ai ):
 Perpetuity Problem
Given:
A = 10 000 per year, every year after Year 5
n = 8 payments @ 6 mo. intervals, starting @ 6 mo.
i = 6%, cpd semi-annually
Find Amount of Initiating payments (Ai ):
 Complex Flows and Perpetuity
In some circumstances, there is a mix of
recurring and non-recurring or one-time cash
flows that must be capitalized for perpetuity.

These mixed flows may be accounted for by:

1.) finding the NPW of all the one-time and
non-recurring cash flows (= CCPart 1 )
2.) finding the Annual Equivalent of one
cycle of all the recurring cash flows,
and then computing P (= CCPart 2) from
the perpetuity relationship A = P(i)
3.) summing (1.) and (2.) to find the total
capitalized cost:
CCTotal = CCPart 1 + CCPart 2
 Capitalized Cost Example
The SD School of Minds wants to build a
soccer stadium. It will cost $ 5 000 000 to
construct, and $ 7 000 each year to clean. In
20 years, the contractor will return to tighten
all the bolts on the stadium structure, and
they will charge $ 90 000 (one time cost).
Every 15 years, they will replace the artificial
turf at a cost of $ 50 000. Plant services will
pay $ 80 000 each year to mow and water the
plastic grass.
At a 4% annual cost of capital, how much
should they ask of the donor, for the honor of
putting his name on the stadium?