A bridge will cost (in the present) $280 million to build, will be completed by next year, and will start producing the benefits next year, $8 million per year.

8. A bridge will cost (in the present) $280 million to build, will be completed by next year, and will start producing the benefits next year, $8 million per year. It will cost $1 million a year to maintain (starting next year, too). It is expected that the bridge will last for long time. The market interest rate is 5%. Approximate (with the formula for a perpetuity) the present value of the bridge project (including the cost of construction, benefits, and the cost of maintenance).

9. Find out at what interest rate this bridge would be worth building. The answer should be, “The bridge is worth building if interest rate is NO MORE THAN ________.”

Solutions

Expert Solution

Initial cost = 280m

Annual benefit = 8m

Annual cost = 1m

Net annual benefit = 8m - 1m = 7m

i = 5%

Present value of net benefits = 7m / 0.05 = 140m

NPV = -280m +140m = -140m

9. For bridge to be worth building 280m = 7m/i

i = 7m / 280m = 0.025 = 2.5%

The bridge is worth building if interest rate is NO MORE THAN 2.5%.”

Rahul Sunny answered 1 year ago

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