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Understanding Time Value of Money

The document discusses different types of capital including equity capital from investments and debt capital from borrowing, and defines interest as the fee paid to a lender for the use of their money. It also explains the differences between simple interest, which is directly proportional to time, and compound interest where interest earned is added to the principal to earn further interest over time. Formulas are provided for calculating simple and compound interest over different periods.

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Emmanuel Bondad
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76 views2 pages

Understanding Time Value of Money

The document discusses different types of capital including equity capital from investments and debt capital from borrowing, and defines interest as the fee paid to a lender for the use of their money. It also explains the differences between simple interest, which is directly proportional to time, and compound interest where interest earned is added to the principal to earn further interest over time. Formulas are provided for calculating simple and compound interest over different periods.

Uploaded by

Emmanuel Bondad
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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9/6/2021

Bicol University College of Engineering


Civil Engineering Department

CAPITAL- wealth in the form of money or property


that can be used to produce more wealth.
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.
BY: DEBT CAPITAL often called borrowed capital, is
ENGR. JEFFERSON M. CIPRIANO, MET obtained from lenders (e.g., through the sale of
Assistant Professor II
bonds) for investment.

Definition: – We use an interest rate, so that the effect


– the time-dependent value of money of time is proportional to the total amount
stemming both from changes in the of money involved and positively related
purchasing power of money (inflation or with the length of time.
deflation) and from the real earning
potential of alternative investments over – Since money has the ability to earn
time. interest, its value increases with time. For
– the expected interest rate that capital instance, $100 today is equivalent to
- should or will earn. $140.26 five years later.

– The owner of the money must defer its INTEREST – the fee that a borrower pays
use. Thus, the person using the money to a lender for the use of his or her
must pay for deferring the benefits. money.
– An alternative use of the money could
have generated other benefits, e.g. INTEREST RATE – the percentage of
interests. money being borrowed that is paid to the
lender on some time basis.

1
9/6/2021

SIMPLE INTEREST – if the interest to be FORMULA


paid is directly proportional to the length If d is the number of days in the interest
of time the amount or principal is period, then
borrowed.
Ordinary Simple Interest = Pi(d/360)
Principal – amount of money borrowed Exact Simple Interest = Pi(d/365) – for ord.
Rate of Interest – amount earned by one yr.
unit of principal during a unit of time. = Pi(d/366) – for leap
yr

FORMULA COMPOUND INTEREST – the interest


I = Pin earned by the principal is not paid at the
Where: end of each interest period, but is
considered as added to the principal, and
I = total interest earned by the principal therefore will earn interest for the
P = amount of the principal succeeding periods.
i = rate of interest expressed in decimal
form
n = number of interest periods

ORDINARY SIMPLE INTEREST – computed FORMULA


on the basis of one bankers’s year which is F = P(1 + i)n
equal to 360 days.
Where:
P = amount of the principal
EXACT SIMPLE INTEREST – based on the
exact number of days, 365 for ordinary year i = rate of interest expressed in decimal
& 366 for a leap year. Leap years are form
exactly divisible by 4, but excluding the n = number of interest periods
century years i.e. 1900, 2000
(1 + i)n = “single payment compound amt
factor” designated as (F/P, i%, n)

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