Question

35 Problem 6-27 Discounted Cash Flow Analysis [LO1] 10 polnts The appropriate discount rate for the following cash flows is 8 percent compounded quarterly. Year Cash Flow 1 930 2 3 eBook 1,010) 0 4 1,600 rirn What is the present value of the cash flows? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) Present value

Answer 1

The cash flows are annual and the compounding period is quarterly, so we need to calculate the EAR to make the interest rate comparable with the timing of the cash flows. Using the equation for the EAR, we get:

EAR = [1 + (APR / m)]^m – 1

EAR = [1 + (0.08/4)]⁴ – 1 = 0.0824 or 8.24%

And now we use the EAR to find the PV of each cash flow as a lump sum and add them together:

PV = $930 / 1.0824 + $1,010 / 1.0824² + $1,600 / 1.0824⁴

PV = $2,886.71