TIME VALUE OF MONEY

Prepared and Presented by:

NIÑA GLORIA Z. PENDANG

LEARNING COMPETENCIES/ OBJECTIVES
1. Discuss the different types of time value of
money problems.

2. Calculate Present Value and Future Value of

Money
THE INTEREST RATE
 Which would you prefer - P1,000 today or P1,000
in 5 years?

Obviously, P1,000 today.

You already recognize that there is TIME VALUE TO MONEY

INTEREST
 It is the cost of the use of money over time.
 It is an expense to the borrower and revenue to
the lender.
TYPES OF INTEREST
1. Simple Interest- is the interest on the
original principal (amount originally
received or paid) regardless of the number of
time periods that have passed or the amount of
interest that has been paid or accrued in the
past.

2. Compound Interest- is the interest that accrues

on both the principal and the past unpaid
accrued interest
SIMPLE INTEREST
 SIMPLE INTEREST = Prt

 WHERE
P means Principal
 r means rate
 t means time
Example
A 2-year loan of $500 is made with 4% simple
interest. Find the interest earned.
SOLUTION

Given
P= 500
R= 4% or .04
t= 2

Formula: i= Prt

Substitute: 500 (.04) (2)

Answer:
i= 40
ANOTHER EXAMPLE
A total of $1,200 is invested at a simple interest
rate of 6% for 4 months. How much interest is
earned on this investment?
SOLUTION

Given:
P=1200
r=6%
t=4mos in terms of years or 4mos/12mos. Or 1/3
Formula: i= Prt
Substitute: i= 1200(.06) (4/12)
Answer: i= 24

TYPES OF COMPOUND INTEREST
1. Single Sum or Single Deposit
A. Future Value of a Single Sum (F)
B. Present Value of a Single Sum (P)

2. Annuity
A. Ordinary Annuity
i. Future Value of Ordinary Annuity (F0)
ii. Present Value of Ordinary Annuity (P0)
B. Annuity Due
i. Future Value of Annuity Due (Fd)
ii. Present Value of Annuity Due (Pd)
C. Present Value of a Deferred Ordinary Annuity
1-A. FUTURE VALUE OF A SINGLE SUM AT A
COMPOUND INTEREST
 It is the original sum plus the compound interest,
stated as of a specific future date.

Problem 1-A . Suppose that a single amount of P 1,000.00 is

invested in a savings account on December 31, 2015. What will be
the amount in the savings account on December 31, 2019 if interest
at 14% is compounded annually each year?
STEP 1: DRAW A TIME LINE

Example 1-A: How much will be in

the savings account
P 1000 is invested
on this date
( the future value)
on this date ?

Dec . 31, Dec . 31, Dec . 31, Dec . 31, Dec . 31,
2015 2016 2017 2018 2019

Interest Rate is 14% Compounded Annually

STEP 2: USE LONGHAND ARITHMETIC
APPROACH OR FORMULA METHOD OR TABLE
APPROACH

 Using Longhand Arithmetic Approach

Exhibit 1-A: Calculation of Future Value of Single Sum at Compound

Interest
1 2 3 4
Annual
Value at Compound Future Value at
Year
Beginning of the Interest (Col. 2 x End of the Year
Year 0.14) (Col. 2 + Col. 3)
2016 1,000.00 140.00 1,140.00
2017 1,140.00 159.60 1,299.60
2018 1,299.60 181.94 1,481.54
2019 1,481.54 207.42 1,688.96
USING FORMULA METHOD
 F= P(1+i)n

 Where: F= Future Value of Single Sum

P= Principal Sum (Present Value)
i= interest rate for each of the stated time periods
n= number of time periods multiplied by number of
years

F= ?
P= 1,000
i= 14% compounded annually
n= 4

F= 1,000 (1+0.14)4
F= 1,688.96
Using the Calculator :press 1000(1+.14)^4=
USING TABLE APPROACH
 To develop additional Shortcuts to the solution of
the compound interest, tables for the future
values of 1 have been reconstructed.

Solution:

F= P(Table Factor for

Fn,i)

F= P1,000(1.688960)

F= P 1,688.96
TAKE NOTE:
 It is important to observe that the interest rate
(i) is the rate of interest applicable for the
particular time period for which interest is
compounded. For Example, a stated rate of
interest 12% is
 12% per year if interest is compounded annually
 6% per one-half year if interest is compounded semi-
annually
 3% per quarter if interest is compounded quarterly
 1% per month if interest is compounded monthly
TAKE NOTE:
 Computing For n:

n= number of compounding period/s in a year

multiplied by the number of years

Ex. 5 years:
Annually; n= 1 x 5=5
Semi-annually; n= 2 x 5= 10
Quarterly; n= 4 x 5= 20
Monthly; n= 12 x 5= 60
PROBLEM SOLVING
1. Mr. Vasquez deposited P20,000 in a special
savings account that provides for interest at the
annual rate of 12 % compounded semi-annually
if the deposit is maintained for 4 years.

Required: Calculate the balance of the

savings account at the end of the 4-year
period.
2. What is the value on January 1, 2018 of
P10,000 deposited on July 1, 2012 which
accumulates interest at 16% compounded
quarterly
1-B. PRESENT VALUE OF SINGLE SUM
 Is the principal that must be invested at time
period zero to produce the known future value.

Example: How much should be deposited today to

earn P 1,688.96 in 4-year period savings account if
interest accumulates by 14% compounded
annually?
STEP 1: DRAW A TIME LINE
 Present Value of single sum

Example 1-B: P1,688.96 will be

received on this date
How much must
be invested on this
date?

Dec . 31, Dec . 31, Dec . 31, Dec . 31, Dec . 31,
2015 2016 2017 2018 2019

Interest Rate is 14% Compounded Annually

STEP 2: USE LONGHAND ARITHMETIC
APPROACH OR FORMULA METHOD OR TABLE
APPROACH

 Using Longhand Arithmetic Approach

Exhibit 1-A: Calculation of Present Value of Single Sum at Compound Interest

1 2 3 4
Annual Compound Value at Beginning of
Year Future Value at Interest (Col. 2 minus the Year (col. 2
End of the Year col.4) divided by 1.14)
2016 1,688.96 207.42 1,481.54
2017 1,481.54 181.94 1,299.60
2018 1,299.60 159.60 1,140.00
2019 1,140.00 140.00 1,000.00
USING FORMULA METHOD
 P= F 1/ (1+i)n

 Where: F= Future Value of Single Sum

P= Principal Sum (Present Value)
i= interest rate for each of the stated time periods
n= number of time periods multiplied by number of
years

F= 1,688.96
P= ?
i= 14% compounded annually
n= 4
 P= 1,688.96 1/(1+i)4

Using the calculator : press 1688.96 x ((1/(1+.14)^4))=

USING TABLE APPROACH
 Refer to Present Value of 1 table

P= F ( Present Value Factor 4, 14%)

P= 1,688.96 (.592080)
P=1,000.00
PROBLEM SOLVING
1. What is the present value on January 1,2015 of
P30,000 due on January 1,2020 and discounted at
12% compounded annually?

2. What is the compound discount on P8,000.00 due

at the end of 5 years at 10% compounded annually?
MEASUREMENTS INVOLVING AN ANNUITY
 Annuity is a series of EQUAL cash flows
(deposits, receipts, payments, or withdrawals),
often referred to as RENTS, made at regular
intervals with interest compounded at a certain
rate.
 4 conditions MUST BE present (ETCC)

1. Equal periodic cash flows

2. Time period between cash flows are the same

length
3. Constant interest rate for each period

4. Compounded at the end of each time period

2-A: FUTURE VALUE OF ORDINARY
ANNUITY
 Is determined immediately after the last cash
flow (rent) in the series is made.

Example: Assume that Debbi wants to calculate

the future value of 4 rents of P1,000.00, each with
interest compounded annually at 14% where the
first 1,000.00 cash flow occurs on December 31,
2015 and the last P 1,000.00 occurs on December
31, 2018.
STEP 1: DRAW A TIME LINE

Example 2-A: The future value of an ordinary

4 annual rents of annuity is determined immediately
P 1,000.00 each after the last P1,000 rent is made

P 1000 P 1000 P 1000 P 1000

Dec . 31, Dec . 31, Dec . 31, Dec . 31,

2015 2016 2017 2018

Interest Rate is 14% Compounded Annually

USE LONGHAND ARITHMETIC APPROACH OR
FORMULA METHOD OR TABLE APPROACH

 Using longhand arithmetic approach

Exhibit 1-A: Calculation of Future Value of Ordinary Annuity

1 2 3 4
Value at Annual
Year Beginning of the Compound Future Value at
Year Interest End of the Year
2015 1,000.00 481.54 1,481.54
2016 1,000.00 299.60 1,299.60
2017 1,000.00 140.00 1,140.00
2018 1,000.00 - 1,000.00
4,000.00 921.14 4,921.14 4921.14
USING FORMULA METHOD
 F0= R (1+i)n-1
i

Where: F0= future value of an ordinary annuity

R= amount of each rent (cash flow)
n= number of rents (not the number of compounding
periods)
i= interest rate for each of the stated time periods.

F0= 1,000 (1.14)4- 1

0.14
F0= 4,921.14
Using the calculator: 1000 (((1.14^4-1)/.14))
USING THE TABLE APPROACH
 Refer to Future Value of Ordinary Annuity of 1

 F0= R(F0 of 1 factor)

1,000(4.921144)
PROBLEM SOLVING
1. What is the future value on December 31,2004
of 7 rents of P 10,000.00, with the first rent
being made on December 31,1998 and interest
at 12% being compounded annually?

2. What is the future value on December 31,2005

of 7 rents of P 10,000.00, with the first rent
being made on December 31,1998 and interest
at 12% being compounded annually?
2-B: PRESENT VALUE OF ORDINARY
ANNUITY

 Is determined 1 period before the first cash flows

(rent)

 Example: Assume that Kyle Vasky wants to

calculate the present value on January 1, 2015 of
withdrawals of P 1,000.00 , with the first
withdrawal being made on December 31, 2015,
interest rate 14% compounded annually.
STEP 1: DRAW A TIME LINE

Example 1-A: 4 withdrawals (rent) of

The present value of an ordinary annuity P 1,000.00
is determined one period before the
withdrawal of the first rent

P 1,000.00 P 1,000.00 P 1,000.00 P 1,000.00

Jan . 1, Dec . 31, Dec . 31, Dec . 31, Dec . 31,

2015 2015 2016 2017 2018

Interest Rate is 14% Compounded Annually

STEP 2: USE LONGHAND ARITHMETIC
APPROACH OR FORMULA METHOD OR TABLE
APPROACH

 Using Longhand Arithmetic Approach

Calculation of Present Value of an Ordinary Annuity

1 2 3 4 5
Annual Value at
Compound beginning of the
Interest year (col
Year Rent Discounted 3(1/(1+.14)^col 1
1 2015 1000 122.81 877.19
2 2016 1000 230.53 769.47
3 2017 1000 325.03 674.97
4 2018 1000 407.92 592.08
4000 1,086.29 2,913.71
USING FORMULA METHOD
 P0= R 1- 1
(1+i)n
i

Where: P0= present value of ordinary annuity

of a series of any amount
R= amount of each rent (cash flows)
n= number of rents (not the number of
time periods)
i= interest rate for each of the stated
time periods
GIVEN:
 P0= ?
 R=1,000
 n= 4
 i= 14%
Substitute:
P0= 1,000 1- 1
(1+.14)4
.14

P0= 2, 913.71
Using the calculator: 1-(1/(1+.14)^4 = /.14 x 1000
1-1/(1+.14)^4 = .14 x 1000
PROBLEM SOLVING
 Samuel David wants to make 5 equal annual
withdrawals of P 8,000.00 from a fund that will
earn interest at 10% compounded annually
 1. January 1,1998 if the first withdrawal is made
on January 1,1999?
 2. January 1, 1998 if the first withdrawal is made
on January 1,1998?
2-A FUTURE VALUE OF ANNUITY DUE
 Is determined 1 period after the last cash flow
(rent) in the series

 Example Assume that Ronald Jacobson deposits

in a fund 4 payments of P1,000 each beginning
December 31, 2015, with the last deposit being
made on December 31,2018. How much will be in
the fund on December 31, 2019, 1 year after the
final payment has been made, if the fund earns
interest at 14% compounded annually?
STEP 1: DRAW A TIME LINE

Example 2-A: How much will be in the fund on

4 annual rents of this, which is 1 period after the last
P 1,000.00 each rent in the series?

P 1000 P 1000 P 1000 P 1000

Dec . 31, Dec . 31, Dec . 31, Dec . 31,

2015 2016 2017 2018

Interest Rate is 14% Compounded Annually

STEP 2: SOLUTION METHOD
1. In the ordinary annuity table( Table 2) look up
the value of n+1 rents at 14% or the value of
rents at 145
2. Then subtract 1 without interest from the value
obtained in Step 1
3. Multiply the amount of each rent, here P
1,000.00 by the converted table factor for
determined in Step 2

Fd= 1000 (3.610104)= 5, 610.00

PRESENT VALUE OF AN ANNUITY DUE
 Pd is determined on the date of the first cash flow
(rent) in the series

 Example Barbara Livingston wants to calculate

the present value of an annuity on December 31,
2015, while will permit 4 annual future receipts
(rents) of P 1,000 each, the first to be received on
December 31, 2015, interest rate is 14%
compounded annually
STEP 1: DRAW A TIME LINE

The present value of an annuity due

is determined on this date, which is
Example 2-A:
the date of the first receipt of a rent 4 annual rents of
P 1,000.00 each

P 1000 P 1000 P 1000 P 1000

Dec . 31, Dec . 31, Dec . 31, Dec . 31,

2015 2016 2017 2018

Interest Rate is 14% Compounded Annually

STEP 2: FORMULA METHOD

 Pd= 1- 1
(1+i) n-1
R +1

i
Where; Pd= present value of an annuity due
of a series of rents of any amount
R= amount of each rent (cash flow)
n= number of rents (not the number of
time periods
Substitute; Pd= ?
R= 1,000.00
n=4
i= 14% compounded annually
SOLUTION
 Pd= 1000.00 1- 1
(1+0.14)4-1 +1

0.14

= 1,000(3.321632)
= P 3, 321.63
ALTERNATIVE TABLE APPROACH
 Step 1 In the ordinary
annuity table, ;look up the 2.321632
present value of n-1 rents at
14% or the value of 3 rents at
14%
 Step 2 Then add 1 without 1.00000
3.321632
interest to the value obtained in
step 1
 Step 3 Multiply the amount Multiplied by
of each rent here 1,000 by the P 1,000.00
converted table factor
P 3,321,63
determined in step 2
PRESENT VALUE OF A DEFERRED
ORDINARY ANNUITY
 Pdeferred is determined on a date 2 or more periods
before the first cash flow (rent) in the series.

 Suppose that Helen Swain buys an annuity on

January 1, 2015 that yields her 4 annual rents of
P1,000 each, with the first rent to be received on
January 1, 2019. The interest rate is 14%
compounded annually. What is the cost of the
annuity or the present value on January 1, 2015
of the 4 rents of P 1,000.00 each received on
January 1, 2019, 2020, 2021, 2022?
STEP 1: DRAW A TIME LINE

Example 2-A:
4 annual rents of
The present value of the deferred
P 1,000.00 each
annuity is determined on this date, Deferred 3 periods
which is 2 or more periods before
the receipt of the first rent.
P 1000 P 1000 P 1000 P 1000

Jan. 1, Jan. 1, Jan. 1, Jan. 1,

2019 2020 2021 2022

Jan . 1, Jan . 1, Jan . 1, Jan. 1,

2015 2016 2017 2018

Interest Rate is 14% Compounded Annually

STEP 2:FORMULA METHOD
 Pdeferred= R (P0n,i)(Pk,i)

 Where; P0n,i= Present value of the ordinary

annuity of the n rents of 1 at
the given interest rate i.
Pk,I = Present value of the single sum of 1
for k periods of deferment.

Substituting:
Pdeferred= R (P0n=4, i=14%)(Pk=3, i=14%) )
P 1,000.00 (2.913712)(0.674972)
= P1,966.67
PROBLEM SOLVING
 Potter wishes to deposit a sum that at 12%
interest, compounded semi-annually, will permit
two withdrawals: P 40,000 at the end of 4 years
and P 50,000 at the end of 10 years. Analyze the
problem to determine the required deposit,
stating the procedure to be followed and the
tables to be used in developing the solution.
1. What is the value on January 1, 2005 of P
40,000 deposited on January 1,1998 which
accumulates interest at 12% compounded
annually?

2. What is the value on January 1,2004 of P 10,000

deposited on July 1, 1998, which accumulates
interest at 16% compounded quarterly?