Question

Last year, a barber shop generated $100,000 in profit. Assume that the shop's profits grow at 5% per year and that cash flows are discounted at 10% per year. If profits are received at the end of each year, what is the present value of all the shop's future profits?

Answer 1

Answer:

$2,100,000

Explanation:

Given:

Profit generated = $100,000

Profit growth rate = 5% per year

Discount rate = 10% per year

Now,

The present value of the future profit can be calculated using the formula as:

Present value = $\frac{\textup{Current cash flow}\times\textup{(1+profit growth rate)}}{\textup{Discount rate - Growth rate}}$

or

Present value = $\frac100,000\times\textup{(1+0.05)}}{\textup{0.10 - 0.05}}$

or

Present value = $2,100,000

The present value of all the shop's future profits will be $2,100,000