ECE 201 Unit 2 Money Time Relationship and Equivalence - Part1
ECE 201 Unit 2 Money Time Relationship and Equivalence - Part1
ECE 201 Unit 2 Money Time Relationship and Equivalence - Part1
LESSONS COVERED
DURATION
12 hours
INTRODUCTION
In this unit, types of cash flow will be presented and diagramming using
different perspective will be taught step by step.
OBJECTIVES / COMPETENCIES
3. Understand and work problems that account for the time value of money,
cash flows occurring at different times with different amounts, and
equivalence at different interest rates.
Assume that you wanted to buy a mobile phone which unit is iPhone11 Pro with
128GB memory. Between the three shops below, which instalment plan will you
choose? What is or are your basis and considerations in choosing the instalment
plan?
Illustration #1
Draw a cash-flow diagram for the five-year life of the project using the
corporation’s viewpoint.
Cash Inflows:
Annual revenue = P5,310 for five years
Market (recovery) value = P2,000 at the end of year (EOY) five
Cash Outflows:
Investment = P10,000
Annual expenses = P3,000
Illustration #2:
Suppose you have a P 17,000 balance on your credit card. You decide to
repay the P 17,000 debt in four months. An unpaid credit card balance at the
beginning of a month will be charged interest at the rate of 1% by your credit card
company.
For this situation, we have selected three plans to repay the P17,000 principal
plus interest owed.
Analysis:
Whichever plan you chose to pay your credit card balance, it is still equivalent
to the principal value that you owed, in this case, P 17,000.
Interest
Money is invested or borrowed in thousands of transactions every day.
When an investment is cashed in or when borrowed money is repaid, there is
a fee that is collected or charged. This fee is called interest.
For the debtor, interest is the payment for the use of the borrowed capital
while for the investor; it is the income from invested capital.
Simple Interest (I) is defined as the interest on a loan or principal that is based
only on the original amount of the loan or principal.
When the time is given in days, there are two different varieties of simple
interest in use:
Note:
When simple interest (ordinary or exact) is not specified in the problem, it is
assumed to be ordinary.
Example Problem #1
Solution:
Example Problem #2
Solve for the ordinary and exact simple interest on P 25,000 for the period
from April 14 to November 7, 2017. The rate of interest is 11%.
Solution:
Analysis:
Notice that ordinary interest is always greater than the exact interest and thus it
brings increased revenue to the lender.
A loan shark made a loan of P100 to be repaid with P120 at the end of one
month. What was the annual interest rate?
Solution:
Example Problem #4
Solution:
Example Problem #5
Solution:
Example Problem #6
What is the future worth of P 31,000 invested at 13% simple interest for 30
months?
Solution:
If the amount of interest is P17,000 after 3.5 years and the rate of simple
interest is 9%, what is the principal amount?
Solution:
Example Problem #8
A deposit of P1500 is made into a fund on March 18. The fund earns simple
interest at 5%. On August 5, the interest rate changes to 4.5%. How much is in the
fund on October 23?
Solution:
Try This!
ACTIVITY 1
1. A loan of P15 000 is taken out. If the interest rate on the loan is 7%, how much
interest is due and what is the amount repaid if
a) The loan is due in seven months;
b) The loan was taken out on April 7 and is due in seven months?
2. Determine the exact and ordinary simple interest on a 90-day loan of P8000 at
8.5%.
Your Solutions:
On a demand loan, the lender may demand full or partial payment of the loan
at any time and the borrower may repay all of the loan or any part at any time
without notice and without interest penalty.
Interest on demand loans is based on the unpaid balance and is usually
payable monthly.
The interest rate on demand loans is not usually fixed but fluctuates with
market conditions.
Example Problem #9
Calculate the interest payments required and the total interest paid.
ACTIVITY 2
Solution:
RATE OF # OF
BALANCE INTEREST
INTEREST DAYS
AUG 17 - SEPT 1
SEPT 2 - SEPT 17
SEPT 18 - SEPT 25
SEPT 26 - OCT 1
OCT 2 - OCT 7
OCT 8 - NOV 1
NOV 2 - NOV 12
NOV 13 - NOV 20
NOV 21 - DEC 1
DEC 2 - DEC 15
Simple Interest
1. Your friend made an investment of P 45,000 for 2 months at 15% simple interest.
If withholding tax is 20%, what is the net interest that he will receive at the end of
2 months? ANS. P900
2. Determine the exact simple interest on P5, 000 for the period from Jan.15 to
Nov.28, 2020, if the rate of interest is 22%. ANS. 955.74
6. An investment was made two years and three months ago at 7% simple interest.
The investor has just received the principal amount of the investment along with
the P 30,000 interest. What is the principal amount of the investment?
ANS. P190.476.19
Continuous Compounding
Example:
A principal amount of 100 gains an interest at a nominal rate of 10%
compounding quarterly for 1 year. What is the future amount?
Note:
NR = ER (if the interest is compounded annually)
ER > NR (if the number of interest periods per year exceeds one)
Example Problem #1
Which is better, the interest earned by 46,800 for 10 years at 11% simple
interest or that earned by the same amount for 10 years at 11% compounded
annually?
Solution:
Solution:
Example Problem #3
If 10,000 will amount 70,000 in 8 years, what is the amount after 16 years if
money is compounded annually?
Solution:
Example Problem #4
You are planning to sell a 1 hectare (10,000 m2) lot which costs 200 per
square meter at present. If you wish to sell it after 5 years, what will be the price of
your lot if it is expected to appreciate at the rate of 20% per annum?
Solution:
A debt of 13,000 will amount to 27,000 after 3.5 years. What nominal rate is
applied if the interest is compounded bi-monthly? Quarterly?
Solution:
Example Problem #6
Solutions:
Compound Interest
1. In order to make CDs look more attractive as an investment than they really are,
some banks advertise that their rates are higher than their competitors’ rates;
however, the fine print says that the rate is based on simple interest. If you were
to deposit P10,000 at 10% per year simple interest in a CD, what compound
interest rate would yield the same amount of money in 3 years?
ANS. 9.14%
3. A man wishes his son to receive P200, 000 ten years from now. What amount
should he invest if it will earn interest of 10% compounded annually during the
first 5 years and 12% compounded quarterly during the next 5 years?
ANS. P68, 757.82
4. Jones Corporation borrowed P9, 000 from Brown Corporation on Jan. 1, 2014
and P12, 000 on Jan. 1, 2016. Jones Corporation made a partial payment of P7,
000 on Jan. 1, 2017. It was agreed that the balance of the loan would be
amortizes by two payments one of Jan. 1, 2018 and the other on Jan. 1, 2019,
the second being 50%larger than the first. If the interest rate is 12%. What is the
amount of each payment?
5. A man won 300,000 in a lottery decided to place 50% of his winning in a trust
fund for the college education of his son. If the money will earn 14% per year
compounded quarterly, how much will be the money at the end of ten years when
his son will be starting his college education?
ANS. P593,888.96
http://engineeringandeconomicanalysis.blogspot.com/2013/12/economic-
equivalence.html
https://www.extension.iastate.edu/agdm/wholefarm/html/c3-14.html
https://mathalino.com/reviewer/engineering-economy/interest
https://www.mathsisfun.com/money/interest.html
https://www.mathsisfun.com/money/compound-interest.html
https://www.mathsisfun.com/money/annuities.html
ANSWER KEY
ACTIVITY 1
ACTIVITY 2
REFERENCES
Blank, L., & Tarquin, A., (2018). Engineering Economy (8th edition). New York, NY:
McGraw-Hill Education
Khan, Z., Siddiquee, A., Kumar, B., & Abidi, M., (2018). Principles of Engineering
Economics with Applications (2nd edition). New York, NY: Cambridge
University Press
Sullivan, W., Wicks, E. & Koelling, C. (2015). Engineering Economy (16th edition).
Upper Saddle River, NJ: Pearson Higher Education, Inc.