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Calculating the present value of an investment lets you answer this question. How much is the proposed investment worth in today's dollars? You can answer that question using the PV or present value function. The PV function has five arguments the first argument is the rate and that is simply the annual percentage rate. Then the second is the number of periods and in this case we're assuming that we have interest that is compounded annually and that we have a three-year investment so the number of periods is 3. Next is the payment and that is $250 per year and in this case we're assuming that the payment is a negative number, because it is an outflow from your account.
So that's why the number appears in parentheses. The next argument is the future value and that is $10,000 and that is the amount you'll receive at the end of the investment term and then finally we have type. Type can be either 1 or 0. If you type in 1 then you are making your payments at the beginning of an investment period such as at the beginning of the year on January 1, or if it's set to 0, which is the default value, then you are making your investment payment at the end of the period, so for example, at the end of a year on December 31.
Now the question in this scenario is trying to answer is whether you would pay $7,800, the asking price for this investment? To answer that question we can create the PV function. So I'll type in equal sign in cell B9 and then pv, left parentheses, then we can type in the cell that contains the rate, which is B3, comma, the number of periods b4, comma, the payment and that is in cell b5, comma, the future value in B6, comma, and then the type and that is in B7. We will be paying at the end of period.
So everything looks good. Type a right parentheses to close out and press Enter. And when we do we see that the present value of this investment is $7,727.94 which is less than the asking price of $7,800. That means that we would be overpaying for this investment by about $73.
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