Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Appendix C
Time Value of Money

REVIEW QUESTIONS
Question C-1 (LO C-1)
Interest is the cost of borrowing money. Simple interest is interest we earn on the initial investment
only. Compound interest is the interest we earn on the initial investment plus previous interest. We
use compound interest in calculating the time value of money.

Question C-2 (LO C-2)

To compute a future value, you need to know three amounts: (1) initial investment, (2) the interest
rate per period and (3) the number of periods.

Question C-3 (LO C-2)

Present value tells us the value today of receiving some larger amount in the future. The discount
rate is the rate at which we would be willing to give up current dollars for future dollars.

Question C-4 (LO C-3)

An annuity represents cash payments of equal amounts over equal time intervals.

Question C-5 (LO C-3)

The present value of an annuity is the sum of the present values of a series of cash payments.

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Solutions Manual, Appendix C C-1
BRIEF EXERCISES
Brief Exercise C-1 (LO C-1)
Oprah should choose the second option, the investment on which interest is
compounded semiannually. The more frequent the rate of compounding, the more
interest we earn on previous interest, resulting in a higher future value.

Brief Exercise C-2 (LO C-2)

Initial Annual Interest Period Future
investment rate compounded invested Value
$15,000 9% Annually 6 years $25,156.50a
a
$15,000 × Future value of $1; n = 6; i = 9%
Dusty will have enough to buy a car with the Turbo engine.

Brief Exercise C-3 (LO C-2)

Initial Annual Interest Period Future
investment rate compounded invested Value
$27,000 7% Annually 2 years $30,912.30a
a
$27,000 × Future value of $1; n = 2; i = 7%
Arnold and Helene will not be able to pay for their trip.

Brief Exercise C-4 (LO C-2)

Initial Annual Interest Period Future
investment rate compounded invested Value
1. $8,000 10% Annually 7 years $15,589.74a
2. 6,000 12 Semiannually 4 years 9,563.09b
3. 9,000 8 Quarterly 3 years 11,414.18c
a
$8,000 × Future value of $1; n = 7; i = 10%
b
$6,000 × Future value of $1; n = 8; i = 6%
c
$9,000 × Future value of $1; n = 12; i = 2%

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C-2 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Brief Exercise C-5 (LO C-2)

Future Annual Interest Period Present
value Rate compounded invested Value
$6,000 8% Annually 5 years $4,083.50a
a
$6,000 × Present value of $1; n = 5; i = 8%

Brief Exercise C-6 (LO C-2)

Future Annual Interest Period Present
value Rate compounded invested Value
$55,000 6% Annually 3 years $46,179.06a
a
$55,000 × Present value of $1; n = 3; i = 6%

Brief Exercise C-7 (LO C-2)

Future Annual Interest Period Present
value Rate compounded invested value
1. $10,000 6% Annually 5 years $7,472.58a
2. 7,000 8 Semiannually 8 years 3,737.36b
3. 6,000 12 Quarterly 4 years 3,739.00c
a
$10,000 × Present value of $1; n = 5; i = 6%
b
$7,000 × Present value of $1; n = 16; i = 4%
c
$6,000 × Present value of $1; n = 16; i = 3%

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Solutions Manual, Appendix C C-3
Brief Exercise C-8 (LO C-3)
Annuity Annual Interest Period Future value
payment Rate compounded invested of annuity
$4,000 8% Annually 7 years $35,691.21a
a
$4,000 × Future value of annuity; n = 7; i = 8%

Tom and Suri will reach their goal.

Brief Exercise C-9 (LO C-3)

Annuity Annual Interest Period Future value
payment Rate compounded invested of annuity
$3,000 10% Semiannually 5 years $37,733.68a
a
$3,000 × Future value of annuity; n = 10; i = 5%

Brief Exercise C-10 (LO C-3)

Annuity Annual Interest Period Future value
payment Rate compounded invested of annuity
1. $3,000 7% Annually Six years $ 21,459.87a
2. 6,000 8 Semiannually Nine years 153,872.48b
3. 5,000 12 Quarterly Five years 134,351.87c
a
$3,000 × Future value of annuity; n = 6; i = 7%
b
$6,000 × Future value of annuity; n = 18; i = 4%
c
$5,000 × Future value of annuity; n = 20; i = 3%

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C-4 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Brief Exercise C-11 (LO C-3)

Annuity Annual Interest Period Present value
Payment Rate compounded invested of annuity
$8,000 6% Annually Four years $27,720.88a
a
$8,000 × Present value of annuity; n = 4; i = 6%

The four $8,000 payments (a total of $32,000 received) are worth $27,720.88 today.

Brief Exercise C-12 (LO C-3)

Annuity Annual Interest Period Present value
Payment Rate compounded invested of annuity
$5,000 10% Annually Ten years $30,722.84a
a
$5,000 × Present value of annuity; n = 10; i = 10%

Since the present value of revenue expected to be received ($30,722.84) is less than
the cost today ($35,000), Monroe should not make the purchase.

Brief Exercise C-13 (LO C-3)

Annuity Annual Interest Period Present value
Payment rate compounded invested of annuity
1. $4,000 7% Annually Five years $16,400.79a
2. 9,000 8 Semiannually Three years 47,179.23b
3. 3,000 8 Quarterly Two years 21,976.44c
a
$4,000 × Present value of annuity; n = 5; i = 7%
b
$9,000 × Present value of annuity; n = 6; i = 4%
c
$3,000 × Present value of annuity; n = 8; i = 2%

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Solutions Manual, Appendix C C-5
EXERCISES
Exercise C-1 (LO C-2)
Investment Interest Period Future
amount rate Compounding invested Value
Jerry $13,000 12% Quarterly 6 years $26,426.32a
Elaine 16,000 6 Semiannually 6 years 22,812.17b
George 23,000 8 Annually 6 years 36,498.11c
Kramer 19,000 10 Annually 6 years 33,659.66d
a
$13,000 × Future value of $1; n = 24; i = 3%
b
$16,000 × Future value of $1; n = 12; i = 3%
c
$23,000 × Future value of $1; n = 6; i = 8%
d
$19,000 × Future value of $1; n = 6; i = 10%

George will have the greatest investment accumulation.

Exercise C-2 (LO C-2)

Initial Annual Interest Period Future
investment rate compounded invested Value
$2,000 13% Annually 30 years $78,231.80a
a
$2,000 × Future value of $1; n = 30; i = 13%

Exercise C-3 (LO C-2)

Contract Discount Period Present
amount rate Compounding invested Value
Derek $600,000 9% Annually 2 years $505,008.00a
Isabel 640,000 9 Annually 3 years 494,197.43b
Meredith 500,000 9 Annually Today 500,000.00c
George 500,000 9 Annually 1 year 458,715.60d
a
$600,000 × Present value of $1; n = 2; i = 9%
b
$640,000 × Present value of $1; n = 3; i = 9%
c
$500,000 × Present value of $1; n = 0; i = 9%
d
$500,000 × Present value of $1; n = 1; i = 9%
Derek is being paid the most in present value terms.

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C-6 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Exercise C-4 (LO C-2)

Purchase Discount Period Present
amount rate Compounding due Value
Store 1 $3,500 9% Annually Today $3,500.00a
Store 2 3,700 9 Annually One year 3,394.50b
a
$3,500 × Present value of $1; n = 0; i = 9%
b
$3,700 × present value of $1; n = 1; i = 9%
Ray and Rachel should buy their ovens from Store 2.

Exercise C-5 (LO C-2)

Present Total
Payment value of present
in one Discount payment in Payment value (or
year rate Compounding one year today total cost)d
Option 1 $ 0 11% Annually $ 0a $150,000 $150,000.00
Option 2 82,500 11 Annually 74,324.32b 75,000 149,324.32
c
Option 3 172,500 11 Annually 155,405.41 0 155,405.41
a
$0 × Present value of $1; n = 1; i = 11%
b
$82,500 × present value of $1; n = 1; i = 11%
c
$172,500 × present value of $1; n = 1; i = 11%
d
Total present value (or total cost) = present value of payment in one year + payment
today

Option 2 has the lowest total cost in present value terms.

Exercise C-6 (LO C-3)

Annuity Annual Interest Period Future value
payment Rate compounded invested of annuity
$60,000 7% Annually 3 years $192,894.00a
60,000 9 Annually 3 years 196,686.00b
60,000 11 Annually 3 years 200,526.00c
a
$60,000 × Future value of annuity; n = 3; i = 7%
b
$60,000 × Future value of annuity; n = 3; i = 9%
c
$60,000 × Future value of annuity; n = 3; i = 11%

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Solutions Manual, Appendix C C-7
Exercise C-7 (LO C-3)
Annuity Annual Interest Period Future value
payment Rate compounded invested of annuity
$2,000 13% Annually 30 years $586,398.43a
a
$2,000 × Future value of annuity; n = 30; i = 13%

Exercise C-8 (LO C-3)

Annuity Annual Interest Period Present value
payment Rate compounded invested of annuity
Option 1 $35,000 12% Annually Today $35,000.00a
Option 2 4,000 12% Quarterly 3 years 39,816.02b
a
$35,000 × Present value of annuity; n = 0; i = 12%
b
$4,000 × Present value of annuity; n = 12; i = 3%

Since the present value of payments ($39,816.02) is more than the cost today
($35,000), Denzel should choose option 1.

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C-8 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

PROBLEMS: SET A
Problem C-1A (LO C-2)
Accumulated
investment by
Initial retirement
Person Age investment (age 65)
Alec 55 $11,000 $28,531.17a
Daniel 45 $11,000 $74,002.50b
William 35 $11,000 $191,943.42c
Stephen 25 $11,000 $497,851.81d
a
$11,000 × Future value of $1; n = 10; i = 10%
b
$11,000 × Future value of $1; n = 20; i = 10%
c
$11,000 × Future value of $1; n = 30; i = 10%
d
$11,000 × Future value of $1; n = 40; i = 10%

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Solutions Manual, Appendix C C-9
Problem C-2A (LO C-2, C-3)
Annuity Discount Interest Period Present value
payment Rate compounded invested of annuity
Years 1-6 $100,000 11% Annually 6 years $423,053.79a
a
$100,000 × Present value of annuity; n = 6; i = 11%

Future Discount Interest Period Present

value rate compounded invested Value
Year 7 $110,000 11% Annually 7 years $ 52,982.43a
Year 8 120,000 11% Annually 8 years 52,071.18d
Year 9 130,000 11% Annually 9 years 50,820.22c
Year 10 140,000 11% Annually 10 years 49,305.83d
Year 10 1,300,000 11% Annually 10 years 457,839.82e
$663,019.48
a
$110,000 × Present value of $1; n = 7; i = 11%
b
$120,000 × Present value of $1; n = 8; i = 11%
c
$130,000 × Present value of $1; n = 9; i = 11%
d
$140,000 × Present value of $1; n = 10; i = 11%
a
$1,300,000 × Present value of $1; n = 10; i = 11%

Total present value = $423,053.79 + $663,019.48 = $1,086,073.27

Bruce should purchase the restaurant. With a discount rate of 11%, the current cost
of the restaurant ($1,000,000) is less than the present value of future cash flows
($1,086,073.27).

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C-10 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Problem C-3A (LO C-2, C-3)

Camera 1:
Annuity Discount Interest Period Present value
payment Rate compounded invested of annuity
Years 1-8 $300 9% Annually 8 years $1,660.45a
a
$300 × Present value of annuity; n = 8; i = 9%

Future Discount Interest Period Present

value rate compounded invested Value
Year 8 $300 9% Annually 8 years $150.56a
a
$300 × Present value of $1; n = 8; i = 9%

Total cost of camera 1 = $6,000.00 (purchase price)

+ 1,660.45 (maintenance)
− 150.56 (sale price)
$7,509.89

Camera 2:
Future Discount Interest Period Present
payment rate compounded invested Value
Year 3 $ 900 9% Annually 3 years $ 694.97a
Year 5 900 9% Annually 5 years 584.94b
Year 7 1,000 9% Annually 7 years 547.03c
$1,826.94
a
$900 × Present value of $1; n = 3; i = 9%
b
$900 × Present value of $1; n = 5; i = 9%
c
$1,000 × Present value of $1; n = 7; i = 9%

Total cost of camera 2 = $5,500.00 (purchase price)

+ 1,826.94 (maintenance)
− 0.00 (sale price)
$7,326.94

By comparing the total cost of camera 1 ($7,509.89) to the total cost of camera 2
($7,326.94), Hollywood Tabloid should purchase camera 2.

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Solutions Manual, Appendix C C-11
PROBLEMS: SET B
Problem C-1B (LO C-3)
Requirements 1 and 2
Expected Four-year Maximum
Annuity Type of Annual accumulated home
Person Payment account Return investment purchasee
Mary Kate $4,000 Savings 2% $16,486.43a $65,945.72
Ashley $5,000 CDs 4% $21,232.32b $84,929.28
Dakota $6,000 Bonds 7% $26,639.66c $106,558.64
Elle $6,000 Stocks 11% $28,258.39d $113,033.56
a
$4,000 × Future value of annuity; n = 4; i = 2%
b
$5,000 × Future value of annuity; n = 4; i = 4%
c
$6,000 × Future value of annuity; n = 4; i = 7%
d
$6,000 × Future value of annuity; n = 4; i = 11%
e
Maximum home purchase = Four-year accumulated investment / 25%

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C-12 Financial Accounting, 4e
Alaa Aliasrei ‫فيس‬ @Aliasrei ‫تلكرام‬ ‫عالء هحسن شحن‬

Problem C-2B (LO C-2, C-3)

Annuity Discount Interest Period Present value
payment Rate compounded invested of annuity
Years 1-20 $60,000 9% Annually 20 years $547,712.74a
a
$60,000 × Present value of annuity; n = 20; i = 9%

Future Discount Interest Period Present

value rate compounded invested Value
Year 20 $600,000 9% Annually 20 years $107,058.53a
a
$600,000 × Present value of $1; n = 20; i = 9%

Present value of future cash flows = $547,712.74 + $107,058.53 = $654,771.27

If Woody wants to make at least 9% on his investment, the most he would pay for
the toy store is $654,771.27, the total present value of future cash flows.

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Solutions Manual, Appendix C C-13
Problem C-3B (LO C-2, C-3)
Option 1:
Present value = $1,600,000

Option 2:
Annuity Discount Interest Period Present value
payment Rate compounded invested of annuity
Years 1-10 $150,000 8% Annually 10 years $1,006,512.21a
a
$150,000 × Present value of annuity; n = 10; i = 8%

Present value = $600,000 + $1,006,512.21 = $1,606,512.21

Option 3:
Annuity Discount Interest Period Present value
payment Rate compounded invested of annuity
Years 1-10 $250,000 8% Annually 10 years $1,677,520.35a
a
$250,000 × Present value of annuity; n = 10; i = 8%

Present value = $1,677,520.35

Option 4:
Future Discount Interest Period Present
payment rate compounded invested Value
Year 5 $2,300,000 8% Annually 5 years $1,565,341.35a
a
$2,300,000 × Present value of $1; n = 5; i = 8%

Present value = $1,565,341.35

The lowest cost alternative for Star Studios is option 4.

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C-14 Financial Accounting, 4e