State Lottery
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P3-14. Assume that you just won the state lottery. Your prize can be taken either in the form of $40,000 at the end of each of the next 25 years (i.e., $1 million over 25 years) or as a lump sum of $500,000 paid immediately.
a. If you expect to be able to earn 5 percent annually on your investments over the next 25 years, ignoring taxes and other considerations, which alternative should you take? Why?
b. Would your decision in part (a) be altered if you could earn 7 percent rather than 5 percent on your investments over the next 25 years? Why?
c. On a strict economic basis, at approximately what earnings rate would you be indifferent when choosing between the two plans?
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Please see the attached file.
PVAn = PMT × [1 - _ 1__]
r (1 + r) n
a. PVA25 = ($40,000 / 0.05) × [1 - (1 + .05)-25 ]
PVA25 = $800,000 × .704697
PVA25 = $563,758
At 5%, taking the award ...
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