You just won a lottery. There are two payout options for you: Option 1: a lump...

You just won a lottery. There are two payout options for you:

Option 1: a lump sum payment of $500,000 today;

Option2: a payment of $20,000per year for the next thirty years(starting from next year until the end of the 30th year)

If the required return is 5%, then what's the NPV of choosing the first payout option for winning this lottery?

Hint: Please regard the(present) value of the second option as opportunity costs in this calculation.

Solutions

Expert Solution

Present value of option 1 = $500000

Present value of option 2 = 20000/1.05+20000/1.05^2+....+20000/1.05^30

=20000/0.05*(1-1/1.05^30)

=$307449.02

NPV of choosing the first payout option for winning this lottery

=PV of 1st option - Opportunity cost( PV of 2nd option)

=500000 - 307449.02

=$192550.98

jeff jeffy answered 2 years ago

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