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Sample of Finance Assignment Illustrations and Solutions:
Illustration: 1 Assume that a deposit is to be made at year zero into an account that
will earn 8% compounded annually. It is desired to withdraw $ 5,000 three years from
now and $ 7,000 six years from now. What is the size of the year zero deposit that will
produce these future payments.
Solution:
Let the initial deposit be sum of the present values of the two later withdrawals by using
the present value table.
PV = FV

PVF(r,n)

PV = $ 5,000

PVF(8%,3) + $ 7,000 PVF(8%,6)

PV = $ 5,000 (.794) + $7,000 (.630)

PV = $ 3,970 + $ 4,410
PV = $ 8,380
The amount of $ 8,380 grows to a value of $ 10,559 in three years ; $ 5,000 is
withdrawn then, leaving $ 7,000. Therefore, an amount of $ 8,380 deposited today will
result in the desired withdrawals.

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Illustration: 2 Assume that a $ 20,00,000 plant expansion is to be financed as follows

: The firm makes a 15% down payment and borrows the remainder at 9% interest rate.
The loan is to be repaid in 8 equal annual installments beginning 4 years from now.
What is the size of the required annual loan payments.
Solution:
The firm borrows $ 17,00,000 (85%). Compound interest occurs over the entire 11
years of the life of the loan. In order obtain the required annual loan payment., two
additional points have to be remembered : (1) the loan repayment will be computed by
using a present value annuity table; and (2) the present value of an annuity located
one year before the first payment.
To compute the size of the annual payment, first compute the amount owed at the end
of year 3 (one year before the first payment). By compounding $ 17,00,000 for three
years at 9%,
FV = PV (1 + )
FV = $ 17,00,000 (1 + .)
FV = $ 22,01,550
Now the FV becomes the present value of the 8-payment annuity discounted at 9%. So,
compute the equal yearly payment by using Equation 2.2B
PV

= Annuity Amount

(,)

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PV
$ 22,01,500

= Annuity Amount (% )
= Annuity Amount (5.535)(% )

Annuity Amount = $ 3,97,750.

The plant expansion financing plan can be summarized as follows :- Down payment at
year zero of $ 3,00,000; the balance borrowed at 9% interest. Eight yearly loan
repayments of $ 3,97,750 are to be made beginning at the end of year 4.

Illustration: 3 A 10-year savings annuity of $ 2,000 per year is beginning at the end
of current year. The payment of retirement annuity is to begin 16 years from now (the
first payment is to be received at the end of year 16) and will continue to provide a 20year payment annuity. If this plan is arranged through a savings bank that pays interest
@ 7% per year on the deposited funds, what is the size of the yearly retirement annuity
that will result.
Solution :
Obtain the compounded amount of the 10-payment savings annuity of $ 2,000
corresponding to 10 payments and 7%
FV = Annuity Amount

(,)

FV = $ 2,000 CVA(7%10)

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FV = 2,000 (13.816)
FV = $ 27,632
The amount of $ 27,632 is available immediately after the last payment. Now, compound
the amount of $ 27,632 for 5 years as a single payment at 7%. This will give the total
cumulative value in the beginning of year 16.
FV = PV CV(,)
FV = PV CV(7% 5)
FV = 27,632 (1,403)
FV = $ 38.768
Finally, obtain the size of the equal retirement annuity payment by using the amount of
$ 38,768 as the present value of the retirement annuity, Substitute the values
corresponding to 20 payments and 7% as follows :
PV

= Annuity Amount

(,)

PV

= Annuity Amount

(7%,5)

$ 38.768

= Annuity Amount (10.594)

Annuity Amount = $ 3,659

Thus, the savings annuity of $ 2,000 for 10 years will produce a 20 years retirement
annuity of $ 3,659 per year starting at the end of 16 years from now.

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