You are on page 1of 25

L5: Interest Formulas – Equal

Payment Series

ECON 320 Engineering Economics


Mahmut Ali GOKCE
Industrial Systems Engineering
Computer Sciences

www.izmirekonomi.edu.tr
Equal Payment Series
F

0 1 2 N
A A A

P
0 1 2 N

0 N

www.izmirekonomi.edu.tr
Equal Payment Series – Compound Amount
Factor
F

0 1 2 N
A A A

0 1 2 N

0 1 2
N

A A A

www.izmirekonomi.edu.tr
Compound Amount Factor
F

A(1+i)N-2
A A A

A(1+i)N-1

0 1 2 N 0 1 2 N

N 1 N 2
F  A(1  i)  A(1  i)  A
www.izmirekonomi.edu.tr
Equal Payment Series Compound Amount Factor (Future Value of
an annuity)

F
(1  i )  1N
0 1 2 3 FA
N
i
A
 A( F / A, i , N )
Example 2.9:
 Given: A = $5,000, N = 5 years, and i = 6%
 Find: F
 Solution: F = $5,000(F/A,6%,5) = $28,185.46

www.izmirekonomi.edu.tr
Validation

$5,000(1  0.06)  $6,312.38


4 F =?

$5,000(1  0.06)3  $5,955.08 i = 6%

$5,000(1  0.06)  $5,618.00


2
0 1 2 3 4 5

$5,000(1  0.06)1  $5,300.00


$5,000(1  0.06)  $5,000.00
$5,000 $5,000 $5,000 $5,000 $5,000
0

$28.185.46

www.izmirekonomi.edu.tr
Finding an Annuity Value

F
i
A F
0 1 2 3 (1  i )  1
N
N

A=?  F ( A / F ,i, N )

Example:
 Given: F = $5,000, N = 5 years, and i = 7%
 Find: A
 Solution: A = $5,000(A/F,7%,5) = $869.50

www.izmirekonomi.edu.tr
Example 2.10 Handling Time Shifts in a Uniform Series

F=?
First deposit occurs at n = 0

i = 6%

0 1 2 3 4 5

$5,000 $5,000 $5,000 $5,000 $5,000

www.izmirekonomi.edu.tr
 Annuity Due
F5  $5,000( F / A,6%,5)(1.06)
 $29,876.59
 Excel Solution
Beginning period
=FV(6%,5,5000,0,1)

www.izmirekonomi.edu.tr
Sinking Fund Factor

F
L
A  FM
i O
P
0 1 2 3
N
N Q
(1  i ) N
1
A  F( A / F, i, N )
Example 2.11 – College Savings Plan:
 Given: F = $100,000, N = 8 years, and i = 7%
 Find: A
 Solution:
A = $100,000(A/F,7%,8) = $9,746.78

www.izmirekonomi.edu.tr
Excel Solution

 Given:
 F = $100,000
$100,000
 i = 7%
 N = 8 years
Current age: 10 years old

• Find:
0
1 2 3 4 5 6 7 8

=PMT(i,N,pv,fv,type)
=PMT(7%,8,0,100000,0) A=?

i = 8%
=$9,746.78

www.izmirekonomi.edu.tr
Capital Recovery Factor

P
i (1  i ) N
A P
1 2 3 (1  i )  1
N

0 N
 P( A / P, i , N )
A=?

Example 2.12: Paying Off Education Loan


 Given: P = $21,061.82, N = 5 years, and i = 6%
 Find: A
 Solution: A = $21,061.82(A/P,6%,5) = $5,000

www.izmirekonomi.edu.tr
Example 2.14 Deferred Loan Repayment Plan
P =$21,061.82

i = 6%

0 1 2 3 4 5 6

Grace period
A A A A A

P’ = $21,061.82(F/P, 6%, 1)

i = 6%

0 1 2 3 4 5 6

A’ A’ A’ A’ A’
www.izmirekonomi.edu.tr
Two-Step Procedure

P '  $21, 061.82( F / P, 6%,1)


 $22,325.53
A  $22,325.53( A / P, 6%,5)
 $5,300
www.izmirekonomi.edu.tr
Present Worth of Annuity Series

P=?
(1  i ) N  1
P A
1 2 3 i (1  i ) N
0 N

A  A( P / A , i , N )

Example 2.14:Powerball Lottery


 Given: A = $7.92M, N = 25 years, and i = 8%
 Find: P
 Solution: P = $7.92M(P/A,8%,25) = $84.54M

www.izmirekonomi.edu.tr
Excel Solution

 Given:
 A = $7.92M
 i = 8%
 N = 25 A = $7.92 million

 Find: P
0
=PV(8%,25,7.92,0) 1 2 25

= $84.54M i = 8%

P=?

www.izmirekonomi.edu.tr
Example 2.15 Early Savings Plan – 8% interest
?

Option 1: Early Savings Plan

0 1 2 3 4 5 6 7 8 9 10

44

$2,000 ?

Option 2: Deferred Savings Plan

0 1 2 3 4 5 6 7 8 9 10 11 12
44

$2,000

www.izmirekonomi.edu.tr
Option 1 – Early Savings Plan

?
F10  $2,000( F / A,8%,10)
 $28,973 Option 1: Early Savings Plan

0 1 2 3 4 5 6 7 8 9 10

F44  $28,973( F / P,8%,34) 44

 $396,645 $2,000

Age 31 65

www.izmirekonomi.edu.tr
Option 2: Deferred Savings Plan

F44  $2,000( F / A,8%,34)


?

 $317,233 Option 2: Deferred Savings Plan

0 11 12
44

$2,000

www.izmirekonomi.edu.tr
At What Interest Rate These Two Options
Would be Equivalent?

Option 1:
F44  $2, 000( F / A, i,10)( F / P, i,34)
Option 2:
F44  $2, 000( F / A.i,34)
Option 1 = Option 2
$2, 000( F / A, i,10)( F / P, i,34)  $2, 000( F / A.i,34)
Solve for i

www.izmirekonomi.edu.tr
A B C D E F
1
2 Year Option 1 Option 2
3 0
4 1 $ (2,000)
5 2 $ (2,000) Interest rate 0.08
6 3 $ (2,000)
7 4 $ (2,000) FV of Option 1 $ 396,645.95
8 5 $ (2,000)
9 6 $ (2,000) FV of Option 2 $ 317,253.34
10 7 $ (2,000)
11 8 $ (2,000) Target cell $ 79,392.61
12 9 $ (2,000)
13 10 $ (2,000)
14 11 $ (2,000)
15 12 $ (2,000)
16 13 $ (2,000)
17 14 $ (2,000)
18 15 $ (2,000)
19 16 $ (2,000)
20 17 $ (2,000)
21 18 $ (2,000)
22 19 $ (2,000)
40 37 $ (2,000)
41 38 $ (2,000)
42 39 $ (2,000)
43 40 $ (2,000)
44 41 $ (2,000)
45 42 $ (2,000)
46 43 $ (2,000)
47 44 $ (2,000)

www.izmirekonomi.edu.tr
Using Excel’s Goal Seek Function

www.izmirekonomi.edu.tr
Result

www.izmirekonomi.edu.tr
www.izmirekonomi.edu.tr
$396,644

Option 1: Early Savings Plan

0 1 2 3 4 5 6 7 8 9 10

44

$2,000
$317,253

Option 2: Deferred Savings Plan

0 1 2 3 4 5 6 7 8 9 10 11 12
44

$2,000

www.izmirekonomi.edu.tr