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Chapter 9
Author's Overview
This is one of the most important chapters in the book as far as student comprehension is
concerned. The instructor should first determine how much prior knowledge of time value of
money the students have acquired from accounting or lower mathematics. While most students
are generally familiar with the concepts of future value and present value, they often lack the
ability to identify and categorize the nature of the problem before them.
The material in this chapter will serve as a springboard to the remaining chapters in this section
on valuation, cost of capital and capital budgeting related topics. A good background in time
value of money will ease the transition. The authors suggest a liberal use of homework problems
and a quiz to reinforce the importance of this material.
This chapter has made use of time lines that should be particularly helpful to students in
understanding concepts. These are very good at relating future value to present value, present
value to the present value of annuities, and future value to future value of annuities.
Chapter Objectives
1. Explain the concept of the time value of money. This is the idea that a dollar received
today is worth more than a dollar received in the future.
2. Calculate present values, future values, and annuities based on the number of periods
involved and the going interest rate.
3. Calculate yield based on the time relationships between cash flows.
Foundations of Fin. Mgt. 9/E Cdn. 9-1 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
C. Calculator
1. Study the time value keys on a business calculator.
2. Shown on the time line the calculator keys should be similar to those below:
PMT FV
n
PV = Price
%i
FV = PV(1 + i )
n
Foundations of Fin. Mgt. 9/E Cdn. 9-2 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
D. Calculator
PMT = 0 FV = ?
n=4
PV = $1,000
%i = 6
Compute FV = $1,262.48
E. To get the interest factor with the calculator input 1 for the present value.
III. Effective or Nominal Interest Rate
A. The effective interest rate includes any compounding effects over the relevant
time period. By formula:
(1 + i) n – 1 = effective interest rate (9-2; page 259)
Where i = interest rate per compounding period
Finance in Action: Starting Salaries 50 Years from Now - Will $284,267 Be Enough?
The rate of inflation will determine the acceptable levels of salary in the future. Although
inflation did increase to double digits in recent history, 3-4% is the historical average. This
box demonstrates a real world example of how money compounds. www.bankofcanada.ca
IV. Present Value: Single Amount (Discounted value)
A. The present value of a future sum is the amount invested today, at a given interest
rate that will equal the future sum at a specified point in time. Also referred to as a
discounted value.
B. The relationship may be expressed in the following formula:
1
= FV(1 + i )
−n
PV = FV n
(9-3; page 262)
(1 + i )
Perspective 9-2: The instructor may wish to use Figure 9-1 to demonstrate the
relationship between present and future value.
PPT 7of 37 Relationship of present value and future value (Figure 9-1)
Foundations of Fin. Mgt. 9/E Cdn. 9-3 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
PMT = 0 FV = $2,524.95
n=4
PV = ?
%i = 6
Compute PV = $2,000.
(1 + i )n − 1
FVA = A (9-4a; page 263)
i
E. (Optional) The formula may be restated as: FVA = A × FVIFA
The FVIFA term is found in appendix C.
Foundations of Fin. Mgt. 9/E Cdn. 9-4 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
F. Calculator
PMT = $3,000 . . . FV = ?
PV = 0 n = 10
First PMT
%i = 8
Compute FV = $43,459.69
G. Future Value: Annuity in Advance (Annuity due)
(1 + i )n +1 − (1 + i )
FVA = ABGN (9-4b; page 264)
i
Also: FVA (BGN) = FVA (1 + i)
Calculator
First PMT
PMT = $3,000 . . . FV = ?
No PMT
PV = 0
n = 10
BGN (DUE) key on
%i = 8
Compute FV = $46,936.46
VI. Present Value: Annuity (Cumulative Present value)
A. The present value of an annuity represents the sum of the present value of the
individual flows. Also referred to as a cumulative present value.
B. The formula for the present value of an annuity is:
1
1 −
(1 + i )n 1 - (1 + i )- n
PVA = A = A (9-5a; page 264)
i i
Foundations of Fin. Mgt. 9/E Cdn. 9-5 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
PMT = $6,000 . . FV = 0
PV = ? n=4
First PMT
%i = 6
Compute FV = $20,790.63
1
(1 + i ) − (1 + i )n −1 (1 + i ) − (1 + i )− n −1
PVA = ABGN = A BGN (9-5b; page
i i
265)
Calculator
First PMT
PMT = $6,000 . . FV = 0
PV = ? n=4
Compute PV = $22,038.07
Also: PVA (BGN) = PVA (1 + i)
Foundations of Fin. Mgt. 9/E Cdn. 9-6 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
i
A = FVA (9-6a; page 266)
(1 + i ) − 1
n
FV = $10,000
? ? ? ?
PV = 0 n=4
%i = 8
i
ABGN = FVA (9-6b; page 267)
(1 + i ) − (1 + i )
n +1
i i
A = PVA = PVA −n
(9-7a; page 267)
1 − 1 1 − (1 − i )
(1 + i )n
Foundations of Fin. Mgt. 9/E Cdn. 9-7 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
C. The annuity value equal to a present value is often associated with withdrawal of
funds from an initial deposit or the repayment of a loan.
D. The formula for an annuity in advance equalling a present value is as follows:
i i
ABGN = PVA = PVA − n −1
(9-7b; page
(1 + i ) − 1 (1 + i ) − (1 + i )
n −1
(1 + i )
268)
Perspective 9-3: This can be a good point to demonstrate how annuities work in
everyday situations. The withdrawal example and payoff table are shown in Tables 9-1
and 9-2, respectively.
Perspective 9-4: Ten different formulas have been presented so far. This is a
good point in the discussion to review them. After this has been accomplished, the
instructor can feel more comfortable in presenting additional material.
Foundations of Fin. Mgt. 9/E Cdn. 9-8 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
PMT = 0 FV = $1,404.49
PV = -$1,000 n=3
%i = ?
Compute %i = 11.99%
Foundations of Fin. Mgt. 9/E Cdn. 9-9 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
FV = 0
? ? ? ?
n = 240
PV = $95,000
(20 yrs. X 12
%i = .655819692
Foundations of Fin. Mgt. 9/E Cdn. 9 - 10 Block, Hirt, Danielsen, Short, Perretta
Chapter 9
PowerPoint Presentation
The Chapter 9 PowerPoint Presentation, which covers the same essential points as the
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Foundations of Fin. Mgt. 9/E Cdn. 9 - 11 Block, Hirt, Danielsen, Short, Perretta
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M. Clemenceau.—“Just now I heard the witness say that there is
nothing more serious than to communicate documents accusing
officers of treason, especially when these documents were secretly
filed in the office of the minister of war. I ask him, then, for his
opinion concerning the following facts: a secret document was taken
from the office of the minister of war, carried about Paris by a veiled
lady, and handed by this veiled lady to Major Esterhazy, who brought
it back to the office of the minister of war, and, strange to say, the
minister of war gave him a receipt for it. I would like to know the
opinion of General de Pellieux on the withdrawal of this first
document.”
General de Pellieux.—“I have no opinion to express.”
M. Clemenceau.—“Ah! very well.”
General de Pellieux.—“What opinion do you expect me to express?”
The Judge.—“Were you familiar, in the Esterhazy case, with the
communication of secret documents by Colonel Picquart to M.
Leblois?”
M. Clemenceau.—“That is not what we are talking about. It is agreed
that, when General de Pellieux learns that a document accusing
Major Esterhazy is communicated to a third party, he is indignant. It
is established, on the other hand, that, when a document accusing
another officer is carried about Paris, he has no opinion. General de
Pellieux has said that he caused a search to be made of M.
Picquart’s premises. May I point out to him that M. Picquart was a
witness, and ask him also why he did not cause a search to be made
of the premises of M. Esterhazy, who was the party accused?”
General de Pellieux.—“It was absolutely useless to search the
premises of Major Esterhazy, as that had been done during eight
months by Colonel Picquart.”
M. Clemenceau.—“Eighteen months had elapsed between what
General de Pellieux calls the searches of Major Esterhazy’s
premises by M. Picquart and the Esterhazy investigation. I repeat:
How did it happen to occur to General de Pellieux to search the
premises of a witness, and not the premises of the accused?”
General de Pellieux.—“I did not cause a search to be made of Major
Esterhazy’s premises, because I was a judicia officer of police and
did not deem it necessary.”
General de Pellieux then stepped down, and the defence offered the
testimony of MM. Dupuy, Guérin, and Poincaré concerning the
secret document, which testimony the court declined to hear for the
usual reasons, and the hearing of which M. Labori insisted on by the
usual motions. Then the stand was taken by M. Thévenet, former
minister of justice.
Testimony of M. Thévenet.
Testimony of M. Salle.