The Time Value of

Money
Interest: The Cost of Money
 Interest
is defined as the amount of money paid for
the use of borrowed capital for a certain
period of time.

 Capital
refers to wealth in the form of money or
property that can be used to produce more
wealth
Concept of Interest:
 Lender
= income derived for letting other use his
capital or resources

 Borrower
= expenses for using someone’s capital or
resources
Elements of Transactions involving
Interest
 Principal (P)
amount of money in transactions involving
debts or investments

 Interest Rate (i)

measure the cost or price of money
expressed as percentage per period of time
continuation…
 Interest period
specified length of time that marks the
duration of the transactions

 No. of interest period

determines how frequently interest is
calculated
continuation..
 Plan for Receipts/ Disbursements (A)
cash flow pattern over a specified length
of time to pay off debts or investments

 Future Amount of Money (F)

cumulative effect of interest rate over the
number of interest period
equal to the sum of principal and the total
interest earned.
Simple Interest
 directly
proportional to the length of time
the amount or principal is borrowed
I = total interest earned
I = Pin by the Principal
P = amount of principal
F = P +I i = interest rate
n = no. of interest
periods
= P +Pin F = total amount to be
paid after the interest
= P(1 + in) period
Types of Simple Interest
 OrdinarySimple Interest
computed based on one banker’s year (360
days; 12months each consist of 30 days)

 Exact Simple Interest

computed based on the exact numbers of
days in a year (365 days for regular year
and 366 days for leap year)
 d
Ordinary simple = Pi
360
d
Exact Simple = Pi (regular year)
365
d
= Pi (leap year)
366
Sample Problem 3.1

 Determine the ordinary simple interest on

Php10,000 for 9 months and 10 days if the
rate of interest is 12%.
Problem Details

P = Php10,000
i = 12% ordinary
simple
n = 9 mos. & 10days

Ans. I = Php933.33
Sample Problem 3.2

A bank charges 12% simple interest on a

Php300,000 loan. How much will be repaid
if the loan is paid back in one lump-sum
amount after three years?
Sample Problem 3.2

A bank charges 12% simple interest on a

Php300,000 loan. How much will be repaid
if the loan is paid back in one lump-sum
amount after three years?

Ans. F3= Php408,000

Sample Problem 3.3

 Ifyou borrowed money from your friend

with simple interest of 12%, find the
present worth of Php50,000 which is due at
the end of 7 months
Sample Problem 3.3

 Ifyou borrowed money from your friend

with simple interest of 12%, find the
present worth of Php50,000 which is due at
the end of 7 months

Ans. P0 = Php46,728.971….
Sample Problem 3.4

A man borrows Php10,000 from a loan firm.

The rate of simple interest is 15%, but the
interest is to be deducted from the loan at
the time the money is borrowed. At the
end of one year, he has to pay back
Php10,000. What is the actual rate of
interest?
Sample Problem 3.4

A man borrows Php10,000 from a loan firm.

The rate of simple interest is 15%, but the
interest is to be deducted from the loan at
the time the money is borrowed. At the
end of one year, he has to pay back
Php10,000. What is the actual rate of
interest?

Ans. i = 17.6470…..%
Compound Interest
 the interest earned by the principal is not
paid at the end of each interest period, but
is considered as added to the principal, and
therefore will also earn interest for the
succeeding periods

F = P(1 + i ) n

where: (1+i)n = Single Payment Compound Amount Factor

(SPCAF)
Sample Problem 3.5
 Theamount of Php50,000 was deposited in
the bank earning an interest of 7.5% per
annum. Determine the total amount at the
end of 5 years, if the principal and interest
were not withdrawn during the period
Sample Problem 3.5
 Theamount of Php50,000 was deposited in
the bank earning an interest of 7.5% per
annum. Determine the total amount at the
end of 5 years, if the principal and interest
were not withdrawn during the period

Ans. F5 = Php71,781.47
Sample Problem 3.6

 Findthe present worth of a payment of

Php30,000 to be made in five years with an
interest rate of 8% per annum
Sample Problem 3.6

 Findthe present worth of a payment of

Php30,000 to be made in five years with an
interest rate of 8% per annum

Ans. P0 = Php20,417.495…..
Sample Problem 3.7
A sum of Php1,000 is invested now and left
for eight years, at which time the principal
is withdrawn. The interest that has
accrued is left for another eight years. If
the effective annual interest rate is 5%,
what will be the withdrawal amount at the
end of the 16th year?
Sample Problem 3.7
A sum of Php1,000 is invested now and left
for eight years, at which time the principal
is withdrawn. The interest that has
accrued is left for another eight years. If
the effective annual interest rate is 5%,
what will be the withdrawal amount at the
end of the 16th year?

Ans. F16 = Php705.42

Sample Problem 3.8
A student plan to deposit Php1,500 in the
bank now and another Php3,000 for the
next two years. If he plans to withdraw
Php5,000 three years after his last deposit
for the purpose of buying shoes, what will
be the amount of money left in the bank
after one year of his withdrawal? Effective
annual interest rate is 10%.
Sample Problem 3.8
A student plan to deposit Php1,500 in the
bank now and another Php3,000 for the
next two years. If he plans to withdraw
Php5,000 three years after his last deposit
for the purpose of buying shoes, what will
be the amount of money left in the bank
after one year of his withdrawal? Effective
annual interest rate is 10%.
Ans. F6 = Php1,549.6415…
Sample Problem 3.9

 How long will it take money to triple itself

if invested at 8% compounded annually?
Sample Problem 3.9

 How long will it take money to triple itself

if invested at 8% compounded annually?

Ans. n = 14.27 years

Nominal Rate of Interest vs. Effective Rate
of Interest

 nominal rate of interest

statement of rate of interest and the number
of interest periods per year.

 effective rate of interest

actual rate of interest on the principal for one
year
Relationship between Nominal & Effective
Rate of Interest

M
 r 
i = 1 +  − 1
 M

where: M = is the number of compounding periods per

year
Sample Problem 3.10

 Calculatethe effective rate corresponding

to each of the following rates:
a. 10% compounded semi-annually
b. 10% compounded quarterly
c. 10% compounded bi-monthly
d. 10% compounded monthly
Sample Problem 3.10

 Calculatethe effective rate corresponding

to each of the following rates:
a. 10% compounded semi-annually
b. 10% compounded quarterly
c. 10% compounded bi-monthly
d. 10% compounded monthly
Ans. a.) i = 10.25%
b) i = 10.38%
c.) i = 10.43%
d.) i = 10.47%
Sample Problem 3.11

 Findthe future worth of an investment

worth Php30,500 after 10 years with an
interest rate of 12% compounded quarterly
Sample Problem 3.11

 Findthe future worth of an investment

worth Php30,500 after 10 years with an
interest rate of 12% compounded quarterly

Ans. F10 = Php99,492.15266

Sample Problem 3.12

 How many years is required for Php2,000 to

increase by Php3,000 if the interest rate is
12% compounded semi-annually?
Sample Problem 3.12

 How many years is required for Php2,000 to

increase by Php3,000 if the interest rate is
12% compounded semi-annually?

Ans. n = 7.862…..years
Sample Problem

 Findthe simple interest on a boat loan

of P 5000.00 at 16% for 8 months.
Sample Problem

 Findthe total amount due on a loan of

$ 600.00 at 16% simple interest at the
end of 15 months.
Sample Problem

 Kathy buys a television set from a

merchant who asks Php12,500 at the end
of 60 days (cash). Kathy wishes to pay
immediately and the merchant offers to
compute the cash price on the assumption
that money is worth 8% simple interest.
What is the cash price today?
Sample Problem

 Findthe amount to which $ 1500 will

grow compounded quarterly at 6.75%
interest for 10 years.
Sample Problem

 Suppose you deposit $1,000 in a bank savings

account that pays interest at a rate of 8% per
year. Assume that you don't withdraw the
interest earned at the end of each period
(year), but instead let it accumulate.
(a) How much would you have at the end of
year three with simple interest?
(b) How much would you have at the end of
year three with compound interest?
Sample Problem

 Wilson Technology, a growing machine shop, wishes to set aside money

now to invest over the next four years in automating its customer
service department. The company can earn 10% on a lump sum
deposited now, and it wishes to withdraw the money in the following
increments:
 Year 1: $25,000 to purchase a computer and database software
designed for customer service use;
 Year 2: $3,000 to purchase additional hardware to accommodate
anticipated growth in use of the system;
 Year 3: No expenses: and
 Year 4: $5,000 to purchase software upgrades.
 How much money must be deposited now in order to cover the
anticipated payments over the next four years?
Exercises
 1. What lump-sum amount of interest will be repaid on a
Php10,000 loan that was made on August 1, 2008 and repaid on
November 1, 2012, with ordinary simple interest at 10% per
year?
 2. A person has made an arrangement to borrow Php10,000
now and another Php10,000 two years hence. The entire
obligation is to be repaid at the end of four years. If the
projected interest rates in years one, two, three, and four are
10%, 12%, 12%, and 14%, respectively, how much will be repaid
as a lump-sum amount at the end of four years?
 4. Mr. W borrowed Php200,000 from Mr. Y on June 1, 2004 and
Php50,000 on June 1, 2006. Mr. W paid Php50,000 on June 1,
2007 and Php40,000 on June 1, 2008, and Php70,000 on June 1,
2009. If money is worth 5% compounded annually, what
additional payment should Mr. W pay on June 1, 2012 to
discharge all remaining liability?
 5. Php500,000 was deposited at an interest rate of 6%
compounded quarterly. Compute the compound interest after 4
years and 9 months.
 6. A businessman invested Php10,000 and after 4 years, it
becomes Php16,084.40 when he invested at a certain rate of
interest compounded bi-monthly. Determine the nominal rate
and the corresponding effective rate.