Question

1. What is a growing perpetuity? Compare/contrast this to a ‘simple’ perpetuity in a few paragraphs.

Answer 1

First of all we need to understand the meaning of perpetuiry

Perpetuity refers to a series of constant cash flow till infinity,

For example if a person has $100 recievable annually in perpetuity he will keep on receiveing that $100 forever

Year	Cash Flow
1	100
2	100
3	100
4	100
5	100
6	100
7	100
8	100
9	100
.	100
.	100
.	100
till infinity	100

Growing Perpetuity

Growing perpetuity refers to a series of cash flows whcih grows at a constant rate in perpeyuity,

ie cash flows will keep on growing at a constant rate forever

For example a will receive a growing perpetuity of $100 where the growth rate is say 5%

following cash flows will occur

Year	Growth rate	Cash Flow
1		100
2	5%	105.00
3	5%	110.25
4	5%	115.76
5	5%	121.55
6	5%	127.63
7	5%	134.01
8	5%	140.71
9	5%	147.75
.	5%	155.13
.	5%	162.89
.	5%	171.03
till infinity

As you can observe in the above table every year there is an increase in 5% in the amount