Page 357 - F2 - MA Integrated Workbook STUDENT 2018-19

Capital budgeting

Annuities and Perpetuities

6.1 Annuities

In the special case where a project has equal annual cash flow, the discounted cash
flow can be calculated in a quicker way.

When a project has equal annual cash flows for a number of years the annuity factor
may be used to discount the cash flows.

The present value of an annuity can therefore be quickly found using the formula:

PV = Annual cash flow × annuity factor (AF)

The annuity factor can be looked up on the annuity (cumulative present value) table
or found using an annuity formula:

-n
1− (1 + r)
Annuity factor = ————————
r

Test your understanding 9

A payment of $3,600 is to be made every year for seven years, the first
payment occurring in one year’s time. The interest rate is 8%

Calculate the present value of the annuity.

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