TIME VALUE OF MONEY

ECON 11- ENGINEERING ECONOMY

Time Value of Money Fundamentals
The concept of the time value of money
asserts that the value of a peso today is
worth more than the value of a peso in the
future.
– This is typically because a peso today
can be used now to earn more money in
the future.
– There is also, typically, the possibility of
future inflation, which decreases the
value of a peso over time and could lead
to a reduction in economic buying
power.
 Time Value of Money Fundamentals
Demonstration of Inflation:
Ford Mustang. The first Ford Mustang sold
in 1964 for PhP114,776.96. Today’s
cheapest Mustang starts at a list price of
PhP1,244,709.60.
– While a significant portion of this increase is
due to additional features on newer models,
much of the increase is due to the inflation that
occurred between 1964 and 2019.
 Time Value of Money Fundamentals
Demonstration of Inflation:
Housing. A typical small home often sold in the US
for between $16,000 and $30,000. Many of these
same homes today are selling for hundreds of
thousands of dollars.
– Much of the increase is due to the location of the
property, but a significant part is also attributed to
inflation.
– The annual inflation rate for the Mustang between 1964
and 2019 was approximately 4.5%. If we assume that the
home sold for $16,500 in 1948 and the price of the home
in 2019 was about $500,000, that’s an annual
appreciation rate of almost 5%.
 Time Value of Money Fundamentals
➢ Today’s peso/dollar is also more valuable
because there is less risk than if the
peso/dollar was in a long-term investment,
which may or may not yield the expected
results.
➢ On the other hand, delaying payment from
an investment may be beneficial if there is
an opportunity to earn interest. The longer
payment is delayed, the more available
earning potential there is.
 Time Value of Money Fundamentals
Capital
➢ The term capital refers to wealth in the form of
money or property that can be used to produce
more wealth. The majority of engineering economy
studies involve commitment of capital for extended
periods of time, so effect of time must be
considered.
➢ It is recognized that a unit of principal today is
worth more than a unit of principal one or more
years from now because of interest (or profits) it
can earn. Therefore, money has a time value.
 Time Value of Money Fundamentals
Types of Capital
1. Equity Capital is that owned by individuals
who have invested their money or
property in a business project or venture
in the hope of receiving a profit.
2. Borrowed Capital is obtained from lenders
for investment, with a promise to repay
the principal and interest on a specific
date, whether or not the operations of the
business have been profitable or not. In
return, the lenders receive interest from
the borrowers.
 Time Value of Money Fundamentals
Interest- the amount of money paid for the
use of money called capital for a certain
period of time
Simple Interest- the interest to be paid which
is proportional to the length of time the
principal is used.
Principal- the amount of money used on
which interest is charge
Rate of interest- the amount earned by one
unit of principal during a unit of time.
Find the Principal, Rate or Time Using
the Simple Interest Formula
 Time Value of Money Fundamentals
Ordinary Interest- an interest based on
the exact number of one bankers year
which is equal to 12 months.
one month= 30 days
one year= 360 days
Exact interest- an interest based on
the exact number of days, 365 days for
ordinary year and 366 days for leap
year.
Formula for Simple Interest
I = P*r*t
I = interest
P = principal or present worth
i= rate of interest in decimal
n = number of interest periods

F= total amount
F= P + I
F= P+Prt
F= P(1+ rt)
When t = 1 (after 1 year)
F= P(1+r)
Formula for Simple Interest
Discount- difference between the
future worth and its present worth
Rate of discount- discount on one
unit of principal per unit of time

d=F-P
Rate of discount, d= i/(1+i)
Formula for Simple Interest
Sample Problems
1. A man borrowed P2000 from a bank
and promise to pay the amount for one
year. He received only the amount of
1,920 after the bank collected an
advance interest of P80.00. What was
the rate of discount and the rate of
interest that the bank collected in
advance?
Sample Problems
2. If you borrowed money from your friend
with simple interest of 12%, find present
worth of P50,000; which due at the end
of 7months.
Sample Problems
3. A price tag of P1200 is payable in 60
days but paid within 30 days it will have
a 3% discount. Find the rate of interest.
Sample Problems
4. Judy paid 108 interest on a loan that
she had for 6 months. The interest rate
was 12%. How much was the principal?
Sample Problems
5. Sam wants to borrow 1,500 for 15
months and will have to pay 225 in
interest. What is the rate he is being
charged?
Sample Problems
6. Shelby borrowed 10,000 at 8% and
paid 1,600 in interest. What was the
length of the loan?
Sample Problems
7. P5,000 is borrowed for 75 days at 16%
per annum simple interest. How much
will be due at the end of 75 days?
Sample Problems
8. A man borrowed from a bank under a
promissory note that he signed in the
amount of P25,000 for a period of one
year. He received only the amount of
P21,915 after the bank collected the
advance interest and an additional
amount of P85 for notarial and
inspection fees. What was the rate of
interest that the bank collected in
advance?
Sample Problems
8. A man borrowed from a bank under a
promissory note that he signed in the
amount of P25,000 for a period of one
year. He received only the amount of
P21,915 after the bank collected the
advance interest and an additional
amount of P85 for notarial and
inspection fees. What was the rate of
interest that the bank collected in
advance?
Quiz no.1
1. Mr. J. dela Cruz borrowed money from
a bank. He received from the bnak
P1,340 and promised to pay P1,500 at
the end of 9 months. Determine the (a)
simple interest rate and (b) the
corresponding discount rate.
Quiz no.1
2. Kathy buys a television set from a
merchant who asks P1,250 at the end
of the 60 days (cash in 60 days). Kathy
wishes to pay immediately and the
merchant offers to compute the cash
price on the assumption that the money
is worth 8% simple interest. What is the
cash price today?