SHS

Business Finance

Q2 – Week 1

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 BUSINESS FINANCE
WORKSHEET #10

Lesson 10: The Time Value of Money

At the end of the lesson, you should be able to calculate the present and future value of money.

What’s New?

One of the primary roles of financial analysis is to determine the monetary value of an asset. In part, this
value is determined by the income generated over the lifetime of the asset. This can make it difficult to
compare the values of different assets since the monies might be paid at different times. Let’s start with a
simple case. Would you rather have an asset that paid you ₱1,000 today, or one that paid you ₱1,000 a
year from now? Of course you will choose to receive the ₱1,000 today, right? This idea is called the time
value of money.

Time value of money refers to the fact that a peso in hand today is worth more than a peso promised at
some time in the future.

Key Takeaways:

 Time value of money is based on the idea that people would rather have money today than in the
future.
 Given that money can earn compound interest, it is more valuable in the present rather than the
future.
 The formula for computing time value of money considers the payment now, the future value, the
interest rate, and the time frame.
 The number of compounding periods during each time frame is an important determinant in the
time value of money formula as well.

The time value of money has two important concepts: the future value of money and the present value of
money.

A. FUTURE VALUE OF MONEY

Future value of money refers to the amount an investment is worth after one or more periods. It is the
value that a sum of money today will be worth at some point in the future if invested for a certain rate of
return.

The formula for the future value of money is given by:

𝐹𝑉 = 𝑃𝑉 𝑥 (1 + 𝑖)𝑛
PV = Present Value (the amount of money today)
FV = Future Value
i = interest rate paid by the investment
n = number of periods the investment will be held

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Example 1: Suppose you have ₱2,000 on hand. You can invest it in a venture that pays 6% annual
interest. How much would you have if you leave your money in the venture for 4 years?

PV = ₱2,000 i = 6% n = 4 years

𝐹𝑉 = ₱2,000 𝑥 (1.06)4
𝐹𝑉 = ₱2,525

Example 2: How much you will receive if ₱150,000 is invested at 6% per annum compounded semi-
annually for 3 years.

PV = ₱150,000 i = 3%* n = 6 periods**

*i = 3% since the investment is compounded semi-annually or every 6 months. The 6% rate is on an
annual basis so we divide it by 2 since there are 2 semi-annual periods in 1 year.

**n = 6 periods. Since there are 2 semi-annual periods in 1 year, there will b3 6 semi-annual periods in 3
years.

𝐹𝑉 = ₱150,000 𝑥 (1.03)6
𝐹𝑉 = ₱179,107.8

Take note that the interest rate (i) and number of periods (n) must be comparable to each other and the
basis is the frequency of compounding. Meaning, if the investment compounds annually, the i must be for
1 year and the n must be in years. If it is compounded quarterly, the i must be for one quarter and the n
must be in quarters. If it is compounded on a monthly basis, the i must be for one month and the n must
be in months.

B. PRESENT VALUE OF MONEY

Present value of money is today’s value of a future cash flow. Technically, it is defined as the current
value of future cash flows discounted at the appropriate discount rate.

The formula for the present value of money is

𝐹𝑉
𝑃𝑉 =
(1 + 𝑖)𝑛
PV = Present Value (the amount of money today)
FV = Future Value
i = discount rate
n = number of periods the cash flow will be received

Example 1: Let’s suppose that you have won the lottery jackpot of ₱1,000,000. You are offered with two
choices: receive the ₱1,000,000 today which you can invest at a 10% return or receive ₱1,050,000 after 1
year. Which option will you choose?

To help you decide, let us compute for the present value of the ₱1,050,000.

FV = 1,050,000 i = 10% n = 1 year

1,050,000
𝑃𝑉 =
(1.10)1

𝑃𝑉 = ₱954,545

Since the ₱954,545 < ₱1,000,000, it is best to receive the ₱1M today than wait for next year.

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Example 2: You need ₱25,000.00 to buy a laptop when you enter into college 2 years from now. How
much must you invest now if the interest rate is at 6% per annum?

FV = 25,000 i = 6% n = 2 years

25,000
𝑃𝑉 =
(1.06)2

𝑃𝑉 = ₱22,249.91

You need to invest ₱22,249.91 today to have ₱25,000 at the end of 2 years.

Practice Makes Perfect

Note: Please answer all the activities on a separate answer sheet.

Problem 1: If you have ₱10,000 today, in which alternative would you place your money? Why?

a. An investment which will pay you ₱14,000 in 3 years

b. An investment which pays 13% interest compounded annually for 3 years

Problem 2: If you want to have ₱10,000 after 5 years, how much will you invest today if the discount rate is
15% annually?

Live It Out!

Performance Task 1: On a piece of a paper, answer the following problems. Show your solutions.

1. If you invest your ₱1,000 today and the interest rate is 6%, how much will you earn after 15 years?
2. You bought a piece of land for ₱60,000 pesos four (4) years ago. How much will the land be worth 3
years from now if its value increases at 8% each year?
3. Suppose you want to have ₱100,000 after 10 years. How much will you put up today if the prevailing
discount rate is 10%?
4. You would like to buy a new automobile. You have ₱150,000 or so, but the car costs ₱680,000. If you
can earn 9 percent, and you invest your money for 5 years, will you have enough money to buy the
car? If not, how much do you have to invest in order to buy the car? Assume the price will stay the
same.

Learning Check!

1. What is the balance in an account at the end of 10 years if ₱2,500 is deposited today at 4%
a. compounding annually
b. compounding quarterly
2. if you deposit ₱100 in an account that pays 5% compounded annually, how much will you
have in
a. 10 years
b. 50 years
c. 100 years
3. Suppose that you want to have ₱500,000 in your account by the time you reach 40 and that
you are 20 years old today. How much will you have to invest today to be able to reach your
goal if a decent investment pays 10% per annum?

***END OF WORKSHEET 10***

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 BUSINESS FINANCE
WORKSHEET #11

Lesson 11: Bond Amortization

At the end of the lesson, you should be able to apply mathematical concepts and tools in preparing a loan
amortization table.

What’s New?

The concept of present value and future value may be used in computing for loan amortization and
preparing the loan amortization table. In this worksheet, you will be introduced to discount and premium
amortization of bonds.

A bond is a debt security, similar to an IOU. Borrowers issue bonds to raise money from investors willing
to lend them money for a certain amount of time.

When you buy a bond, you are lending to the issuer, which may be a government, municipality, or
corporation. In return, the issuer promises to pay you a specified rate of interest during the life of the bond
and to repay the principal, also known as face value or par value of the bond, when it "matures," or comes
due after a set period of time.

Key Takeaways:

 Bonds are issued or sold face amount or par, at a discount if they pay less than the current
market rate of interest or a premium if they pay more than the current market interest rate.
 The price of a bond is stated as a percent of face value, although the percent sign is not used.
 If a ₱1,000 bond is selling at 101, it is selling at 101% of face value or ₱1,010. The
“extra” ₱10 received when the bond is issued or sold represents the premium.
 If a ₱1,000 bond is selling at 99, it is selling at 99% of face value or ₱990. The
₱10 not received when the bond is issued or sold represents the discount.

BOND AMORTIZATION

As mentioned earlier, bonds may be sold at par, above par (premium) or below par (discount). Par value,
in finance and accounting, means the stated value or face value. Commonly, the par value of a bond is at
₱1,000.

In amortizing bond discount or premium, we have to consider two sets of interest rate – the stated rate,
also known as the nominal rate or the coupon rate and the effective rate, which is also the same as the
market rate or the required rate of return.

There are 3 scenarios in which a bond may be issued:

1. At par value – nominal rate is the same as the effective rate

2. At a discount – nominal rate is less than the effective rate
3. At a premium – nominal rate is higher than the effective rate.

If the current market interest rate is the same as the contract interest rate:

1. Bond sells at face value or par

2. Cash proceeds from issuance will be the same as the face value
3. Price of the bonds will be 100
4. Carrying value of the bonds will be the same as face value throughout term of the bonds
5. Cash paid for interest will be equal to interest expense

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If the current market interest rate is greater than the contract interest rate:

1. Bond sells at a discount

2. Cash proceeds from issuance will be less than the face value
3. Price of the bonds will be less than 100
4. Carrying value of the bonds will be less than face value throughout the term of the bonds
5. Cash paid for interest will be less than interest expense because of the amortization of the discount

If the current market interest rate is less than the contract interest rate:
1. Bond sells at a premium
2. Cash proceeds from issuance will be greater than the face value
3. Price of the bonds will be greater than 100
4. Carrying value of the bonds will be greater than face value throughout the term of the bonds
5. Cash paid for interest will be greater than interest expense because of amortization of the premium

If the bond is issued at par, there is no need to amortize.

AMORTIZATION OF BOND DISCOUNT

Let’s say we have a ₱100,000 bond with a stated rate of 10% and effective rate (required rate of
return) of 12% that pays interest semi-annually and has a maturity of 3 years. Prepare the bond
amortization table.

Step 1: Determine the price of the bond. To find the issue price of the bond, first, we find the present
value of the face value of the bond. Next we compute for the present value of interest payments. In
computing both present values, we will make use of the effective interest rate.

The formula to be used for computing the present value of the face value of the bond is

𝐹𝑉
𝑃𝑉 =
(1 + 𝑖)𝑛

While the formula for computing the present value of interest payments is

1
1− ( )
(1 + 𝑖)𝑛
𝑃𝑉 = 𝑃𝑀𝑇 𝑥
𝑖

100,000
PV of Face Value = = 70,496
(1.06)6

1
1− ( )
(1.06)6
PV of Interest Payments = 5000 𝑥 = 24,587
.06

Issue Price of the Bond 95, 083

Step 2: Determine the discount by comparing the issue price and the face value of the bond.

Face Value of the Bond: 100,000

Issue Price of the Bond: 95,083
Discount 4,917

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Step 3. Prepare the amortization table of the discount.

AMORTIZATION OF BOND PREMIUM

We follow the same procedures for amortization of the bond premium.

Let’s say we have a ₱100,000 bond with a stated rate of 10% and effective rate (required rate of
return) of 8% that pays interest semi-annually and has a maturity of 3 years. Prepare the bond
amortization table.

Step 1: Determine the price of the bond. To find the issue price of the bond, first, we find the present
value of the face value of the bond. Next we compute for the present value of interest payments. In
computing both present values, we will make use of the effective interest rate.

100,000
PV of Face Value = = 79,031
(1.04)6

1
1− ( )
(1.04)6
PV of Interest Payments = 5000 𝑥 = 26,211
.04

Issue Price of the Bond 105, 242

Step 2: Determine the discount by comparing the issue price and the face value of the bond.

Face Value of the Bond: 100,000

Issue Price of the Bond: 105,242
Premium 5,242

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Step 3. Prepare the amortization table of the premium.

There you have it. You have now learned how to amortize bond discount and premium. You can now do it
on your own.

Practice Makes Perfect

Note: Please answer all the activities on a separate answer sheet.

1. If the issuer's interest expense is greater than the interest payments, the bond is selling at

A. Discount b. Premium C. Par value

2. The amortization of the bond __________ will result in less interest expense than the amount of
the interest payments.
A. Discount b. Premium C. Par value

3. The book value or carrying value of a bond issued at a discount will __________ as the discount
is amortized.
A. increase b. decrease C. not change

4. If a 9% bond is selling at 104 plus accrued interest, the bond's effective interest rate will be
__________ 9%.
A. less than b. more than C. same as

5. Which of the following interest rates is different?

A. Effective b. Stated C. Nominal

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 Live It Out!

Performance Task 2: On a piece of a paper, answer the following problem. Show your solutions.

1. XYZ Corporation manufactures high quality optics. The company's board of directors authorized a
bond issue on January 1, 2012, with the following terms: (25 points)

Maturity (par) value: Php 500,000

Interest: 10% per annum payable each June 30 and December 31.
Maturity date: December 31, 2016.
Market rate when sold: 9%

Learning Check!

Answer the following problems on a separate answer sheet.

2. ABM Company issued 3,000, ₱1,000-par value bonds. The bond is payable for 10 years at 12%
interest. The effective interest is at 9%. Prepare an amortization table for the bond.
3. On January 1, 2015, Mac Inc. issued 2,000,000 bonds with a coupon rate of 8% maturing in 4
years. The interest is paid annually, and the market interest rate at the date of issue was 11%.
Prepare the 4 year amortization schedule for the bond.

***END OF WORKSHEET 11***

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