Professional Documents
Culture Documents
(
= = +
+
,
PVF
n n i
PV F =
Example
Suppose that an investor wants to find out the present
value of Rs 50,000 to be received after 15 years. Her
interest rate is 9 per cent. First, we will find out the
present value factor, which is 0.275. Multiplying 0.275
by Rs 50,000, we obtain Rs 13,750 as the present
value:
15, 0.09
PV = 50,000 PVF = 50,000 0.275 = Rs 13,750
Present value of series of cash flows
Q Given the time value of money as 10%. You are required to find out the present
Value of future cash inflows that will be received over the next four years:
Year Cash Flow
1 1,000
2 2,000
3 3,000
4 4,000
Year Cash Flow PVIF at 10% PV
1 1,000 .909 909
2 2,000 .826 1,652
3 3,000 .751 2,253
4 4,000 .683 2,732
7546
Present Value of an Annuity
The computation of the present value of an annuity
can be written in the following general form:
The term within parentheses is the present value
factor of an annuity of Re 1, which we would call
PVFA, and it is a sum of single-payment present
value factors.
( )
1 1
1
n
P A
i
i i
(
= (
+
(
= PVAF
n, i
P A
Q. Mr. Bhat wishes to determine the PV of the annuity consisting
of cash flows of Rs 4000 per annum for 6 years. The rate of
interest he can earn from this Investment is 10%
Rs 40,00 * PVIPA
Rs 4,000 * 4.355 = Rs17,420
Year Cash Flow PVIF at 10% PV
1 4000 .91 3636
2 4000 .826 3304
3 4000 .751 3004
4 4000 .683 2732
5 4000 .621 2484
6 4000 .564 2256
PV at annuity 17416
Capital recovery or Loan Amortization:
If you make an invest today for a given period of time at a specified rate of interest
You may like to know annual income.
Capital Recovery is the annuity of an investment for a specified time at a given
Rate of interest.
The reciprocal of Present value annuity factor (PVAF) is called Capital recovery
Factor.
Amount = P [ i (1+i)
n
/ (1+ i)
n
-1 ]
PV = A (PVAF)
A = P ( 1/PVFA
n, i
)
A = PV * CRF
n, i
Q. Suppose you have borrowed a 3 year loan of Rs 10,000 at 9%
From your employer to buy a motorcycle. IF your employer
requires three equal end of the year repayment, then annual
installment will be
P = A (PVAF 3,.09)
10000 = A (2.531)
A = 10000/ 2.531
A = 3951
By paying Rs 3951 each year for three years
Completely pay off loan with 9% interest.
End of
year
Payment Interest Principal
Repayme
nt
Outstanding
Balance
1 3951 900 3051 6959
2 3951 625 3326 3623
3 3951 326 3625 0
Loan Amortizations Schedule
Present value of a perpetuity
Perpetuity is annuity that occurs Indefinitely. For eg
irredeemable preference shares.
P = A/i (1+i)
n
is equal to zero
An investor expect a perpetual sum of Rs 500 annually from
His investment
P = 500/.10
Present value of Growing Annuity
Assume that to finance your post graduate studies in an evening college, you
undertake a part time job for 5 years. Your employer fixes an annual salary of
Rs 1000 with the provision that you will get annual increment at the rate of 10%.
End of year Amount of salary (Rs)
1 1,000 = 1000*1.10
0
1000
2 1000 *1.10 = 1000*1.10
1
1100
3 1100 *1.10 = 1000*1.10
2
1210
4 1210 *1.10 = 1000*1.10
3
1331
5 1331 *1.10 = 1000*1.10
4
1464
Year Amount of salary PVF@12% PV of salary
1 1000 .893 893
2 1100 .797 877
3 1210 .712 862
4 1331 .636 847
5 1464 .567 830
6105 4306
P = A/(1+i) + A(1+g)1/(1+i)
2
+ A(1+g)
2
/(1+i)
3
+ .+ A(1+g)
n
-1/(1+i)
n
P = A[1/(1+I ) + (1+g)
1
/(1+i)
2
+ (1+g)
2
/(1+i)
3
+ .+ (1+g)n-1/(1+i)
n
]
P = A/i g [1 (1+g/1+i)
n
]
P = (1000/.12-.10) [1- (1.10/1.12)
5
]
P = 50000 * (1 -.9138) = Rs4309
Q A company paid dividend of Rs 60 last year. The Dividend stream commencing
One year is expected to grow at10% annum for 15 years and then ends. If the
Discount is 21%, what is the present value of the expected series?
P = A/I g [1 (1+g/1+i)
n
]
P = 66/(.21 - .10) [ 1 (1.10/ 1.21)
15
]
P = Rs 456.36
Present Value of an
Uneven Periodic Sum
Investments made by of a firm do not frequently yield
constant periodic cash flows (annuity). In most
instances the firm receives a stream of uneven cash
flows. Thus the present value factors for an annuity
cannot be used. The procedure is to calculate the
present value of each cash flow and aggregate all
present values.
Value of an Annuity Due
Annuity due is a series of fixed receipts or payments
starting at the beginning of each period for a
specified number of periods.
Future Value of an Annuity Due
Present Value of an Annuity Due
,
= CVFA (1 )
n n i
F A i +
= PVFA (1 + )
n, i
P A i
Future Value of an Annuity Due
Concept of Compound value and present value are based on concept of
cash flow at the end of the period.
In Practice cash flow can be at the beginning of the period.
Q . Suppose you deposit Re 1 in a saving account at the
beginning of each year for 4 years to earn 6% interest rate.
How much will be the compound value at the end 4 years?
F = 1*1.064 + 1*1.063 + 1*1.062 + 1*1.061
= Rs 4.63
Future value of Annuity due = Future value of annuity *
(1+i)
= A * CVFA n,i * (1+i)
= 1* 4.375 * 1.06 = 4.637
Present Value of an Annuity Due
Annuity due would be higher than the present value of an Annuity.
Present Value of an Annuity Due
Q . Suppose you deposit Re 1 in a saving account at the beginning of
each year for 4 years to earn 6% interest rate. How much will be the
present value at the annuity if each payment is made at the beginning
of the year?
P = 1/(1.10)
0
+ 1/(1.10)
1
+ 1/ (1.10)
2
+ 1/(1.10)
P = 3.487
P = 1 *3.170 *1.10 Rs 3.487
= PVFA (1 + )
n, i
P A i
Net Present Value
Net present value (NPV) of a financial decision is
the difference between the present value of cash
inflows and the present value of cash outflows.
0
1
NPV =
(1 + )
n
t
t
t
C
C
k
=
(
= = +
+
( )
1 1
1
n
P A
i
i i
(
= (
+
(
n
n
i P F ) 1 ( + =
= CVF
n n,i
F P
= CVFA
n n, i
F A
,
PVF
n n i
PV F =
= PVAF
n, i
P A
5. Capital recovery: Amount = P [ I (1+i)n/ (1+ i)n -1 ]
6. Present Value of Perpetuity: P = A/i
7. Present value of a constantly growing perpetuity: P = A/ i - g
8. Compounded value of an annuity due:
9. Present value of Annuity due:
,
= CVFA (1 )
n n i
F A i +
,
= CVFA (1 )
n n i
F A i +
Q1. Assume as annual rate of interest of 15%. The sum of
Rs 100 received immediately is equivalent to what
quantity received in ten equal annual payments, the first
payment to be received one year from now. What could be
the annual amount if the first payment were received
immediately? (at the beginning of the year)
Capital recovery factor of annuity and annuity due
A. Rate of interest 15%
B. Sum received now (Rs) 100
C. Period (years) 10
D. Present value factor (annuity) at 15% 5.0188
E. Capital recovery factor (annuity) at 15%
: [1/D]: 1/5.0188 0.1993
F. Annual instalment (end of period) [B x E] 19.93
G. Present value factor (annuity due) at 15%:
: 5.0188 x 1.15 5.7716
H. Capital recovery factor (annuity due) at 15% [1/G] 0.1733
I. Annual instalment (beginning of period) [B x H] 17.33
( )
93 . 19 Rs 0188 . 5 / 100 A
A 0188 . 5 100
15 . 1
1
A 100
10
1 t
t
= =
=
(
(
=
=
Q Assume that you are given a choice between incurring an
immediate outlay of Rs 10,000 and having to pay Rs 2310 a year for
5 years (first payment due one Year from now); the discount rate is
11%.
What would be your choice?
Will your answer change if Rs 2310 is paid at the beginning of each
year for 5 years?
A. Discount rate 11%
B. Outlay now 10,000
C. Period of installments (years) 5
D. Present value factor (annuity) at 11% 3.6959
E. Capital recovery factor (annuity) at 11% [1/D] 0.27057
F. Annual installment (end of period) [B x E or B/D] 2705.70
G. Present value factor (annuity due) at 11% 4.1024
H. Capital recovery factor (annuity due) at 11% [1/G] 0.24376
I. Annual installment (beginning of period) [B x H] 2437.57
Q. Exactly 20 years from now Mr. Ahmed will start
receiving a pension of Rs 10,000 a year. The payment
will continue for twenty years . How much is pension
worth now, assuming money is worth 15% per year.
A. Discount rate 15%
B. Annual pension 10,000
C. Periods of pension 20
D. Present value factor, 20 years, 15% 6.25933
E. Present value of pension at the end of 20 years 62593.3
1
F. Present value factor, end of 20 years 0.06110
G. Present value of pension now [E x F] 3824.47
Q1. Mr. Srinavas is going to retire after 6 months. He has a
choice between (a) an annual pension of Rs 8000 as long as
he lives, and (b) a lump sum amount of Rs 50,000. If he
expects to live for 20 years and the interest rate is 10%,
which option would you suggest him to go for?
Present value annuity
Present value of annual pension
= Rs 8,000 * PVFA (10,20)
= Rs 8000 * 8.514
= Rs 68,112
The second choice is Rs 50,000 lump sum now
Hence he should opt for the first choice.
Q. Jai Chand is planning for his retirement. He is 45
years old today, and would like to have Rs 3,00,000
when he attains the age of 60. He intends to deposit a
constant amount of money at 12% at each year in the
PPF in the state bank of India to achieve his objective.
How much money should Jai chand invest at the end of
each year for the next 15 years to obtain Rs 3,00,000 at
the end of that period?
Sinking Fund
( )
8,047.27 Rs = .28 30,0000/37 = A
30,000 = A 28 . 37
000 , 30
12 . 0
1 12 . 1
15
=
(
A
A. Needed future sum after 15 years 300,000
B. Period (years) 15
C. Interest rate 12%
D. Future value factor of an annuity, 15 years, 12% 37.2797
E. Annuity value [A/D]: 8047.27
Q. Which Alternative you will Choose:
1. An annuity of Rs 5000 at the end of each year for 30 years.
2. An annuity of Rs 6600 at the end of each year for 20 years.
3. Rs 50000, in cash right now.
4. In each case time value of money is 10%
Present Value annuity
A. Time value of money 10%
B. 30-year annuity 5,000
C. PVAF, 10%, 30 year
9.4269
D. Present value of 30-year annuity 47,134.57
E. 20-year annuity 6,600
F. PVAF, 10%, 20 year
8.5136
G. Present value of 20-year annuity
56,189.52
H. Cash right now 50,000.00
You should choose 20-year annuity of Rs 6,600 as it has highest PV.