# Jim Nance has been offered an investment that will pay him $500 three years from today. If his... ## Question: Jim Nance has been offered an investment that will pay him$500 three years from today.

If his opportunity cost is 7% compounded annually, what value should he place on this opportunity today?

## Present Value:

Present value is a concept that allows investors to compare cash flows received at different points in time. The present value calculation indicates the equivalent value of a future cash flow measured in today's dollars.

The value today is the present value of the payment received in three years. We can use the following formula to compute the present value of a payment {eq}F {/eq} received in {eq}T{/eq} periods from today, given periodic discount rate {eq}r{/eq}:

• {eq}\displaystyle \frac{F}{(1 + r)^T} {/eq}

Applying the formula, the present value is:

• {eq}\displaystyle \frac{500}{(1 + 7\%)^3} = 408.15 {/eq}

That is, he should pay no more than \$408.15 for the opportunity today.