Simple Interest

Companies compute simple interest on the amount of the principal only. It is the return on (or growth
of) the principal for one time period. The following equation expresses simple interest.

Interest = p × i × n where p = principal i = rate of interest for a single period n = number of periods

To illustrate, Barstow Electric Inc. borrows $10,000 for three years with a simple interest rate of 8% per
year. It computes the total interest it will pay as follows. Interest = p × i × n = $10,000 × .08 × 3 = $2,400
If Barstow borrows $10,000 for three months at 8%, the interest is $200, computed as follows. Interest =
$10,000 × .08 × 3/12 = $200.

Compound Interest

To illustrate the difference between simple and compound interest, assume that Vasquez Company
deposits $10,000 in the Last National Bank, where it will earn simple interest of 9% per year. It deposits
another $10,000 in the First State Bank, where it will earn compound interest of 9% per year
compounded annually. In both cases, Vasquez will not withdraw any interest until three years from the
date of deposit. Illustration 6.1 shows the computation of interest Vasquez will receive, as well as its
accumulated year-end balance.

simple interest uses the initial principal of $10,000 to compute the interest in all three years. Compound
interest uses the accumulated balance (principal plus interest to date) at each year-end to compute
interest in the succeeding year.

The compound tables rely on basic formulas. For example, the formula to determine the future value
factor (FVF) for 1 is:

FVFn,i = (1 + i)n where FVFn,i = future value factor for n periods at i interest n = number of periods i =
rate of interest for a single period.

Future Value of a Single Sum

FV = PV(FVFn,i) where FV = future value PV = present value (principal or single sum) FVFn,i = future value
factor for n periods at i interest.
Present Value of a Single Sum

The following formula is used to determine the present value of 1 (present value factor):

PVFn,i =1/(1 + i)n where PVFn , i = present value factor for n periods at i interest.

The present value of any single sum (future value), then, is as follows. PV = FV(PVFn,i) where PV =
present value FV = future value PVFn,i = present value factor for n periods at i interest.
Annuities (Future Value)

FVF-OAn,i = (1 + i)n – 1/i

where FVF-OAn , i = future value factor of an ordinary annuity i = rate of interest per period n = number
of compounding periods

The following formula computes the future value of an ordinary annuity. Future value of an ordinary
annuity = R(FVF-OAn,i)

where R = periodic rent FVF-OAn , i = future value of an ordinary annuity factor for n periods at i
interest,
Future Value of an Annuity Due

The preceding analysis of an ordinary annuity assumed that the periodic rents occur at the end of each
period. Recall that an annuity due assumes periodic rents occur at the beginning of each period.

If rents occur at the end of a period (ordinary annuity), in determining the future value of an annuity
there will be one less interest period than if the rents occur at the beginning of the period (annuity due).

ცხრილის მეშეობით ვიგებთ fvf-oaს მერე რასაც მივიღებთ მაგას ვამრავლებთ 1+რეითზე
და საბოლოოდ periodic deposit რაც გვაქ იმაზე გავამრავლებთ რომ მივიღოთ future value.

Annuities (Present Value)

PV F-OA (n,i)=(1-1/(1+i)n)/i

Present value of an ordinary annuity = R(PVF-OAn,i) where R = periodic rent (ordinary annuity) PVF-
OAn , i = present value of an ordinary annuity of 1 for n periods at i interest.
Present Value of an Annuity Due

ცხრილის მეშეობით ვიგებთ pvf-oaს მერე რასაც მივიღებთ მაგას ვამრავლებთ 1+რეითზე
და საბოლოოდ periodic deposit რაც გვაქ იმაზე გავამრავლებთ რომ მივიღოთ Present value.
Computation of the Present Value of a Deferred Annuity
Valuation of Long-Term Bonds

bond amortization
Example of Expected Cash Flow