MODULE 1: SIMPLE INTEREST

The learning objectives:

At the end of this lesson, the learner will be able to:
Lesson 1: What is Engineering Economy?

• Define engineering economics and the fundamental principles involved

Lesson 2: Simple Interest

• Define simple interest, and

• Calculate problems involving simple interest
PRETEST
Solve each item carefully, then choose the letter corresponding to the correct answer. If the
correct answer is not in the given choices, write E.

Important Note: Please answer to the best of your current ability. Do not guess the answers;
it will defeat the purpose of this pretest. If you do not know the answer to a question, just skip
it; it is perfectly fine to skip questions at this point.

1. Which of the following is NOT included in the scope of engineering economy?

a. decision making c. formulation of alternatives
b. cost estimation d. actual execution

2. The most important principle in engineering economy is the concept of

a. time value of money c. future value of money
b. present value of money d. annual value of money

3. The following are the essential elements in all engineering economy studies, except for
one. Which is it?
a. cash flow c. measure of economic worth
b. interest rate d. time

4. Interest is
a. the amount to be paid to the lender from borrowing capital.
b. the amount to be paid by the lender from borrowing capital.
c. the amount gained by the lender from borrowing capital.
d. the amount to be paid to the lender from lending capital.

5. If 𝑃 is the amount invested into a bank for a time 𝑡 at interest rate of 𝑟 per annum, what is
the interest gained?
a. 𝑃𝑟𝑡 b. 𝑃(1 + 𝑟𝑡) c. 𝑃𝑟(1 + 𝑡) d. 𝑃𝑟

6. Interest is the difference between which of the following amounts?

a. 𝑃 and 𝐹 b. 𝑃 and 𝐴 c. 𝐹 and 𝐴 d. 𝑃(1 + 𝑟𝑡) and 𝑃𝑟𝑡
7. When do we use simple interest over compound interest?
a. when the dates given are not exact
b. when the time period given is in days
c. when the time period given is less than one year
d. always, unless otherwise stated

8. How long is a banker’s year?

a. 365 days b. 365 ¼ days c. 360 days d. 366 days

9. Which of the following years is a leap year?

a. 1200 b. 1400 c. 1000 d. 1800

10. A bank charges 12% simple interest on a Php300,000 loan. How much will be repaid if
the loan is paid back in one lump sum after 3 years?
a. Php 551,000 b. Php 450,000 c. Php 415,000 d. Php 408,000
 Lesson 1
WHAT IS ENGINEERING ECONOMY?

1.1 Definition
Many resources used in engineering applications are limited in quantity and also have monetary
values attached to them. This is why decision-making by engineers often involve consideration of
money. For example, one cannot just put all of the materials, workers, etc. into constructing a
building, as the amount you poured into it becomes higher than the amount you will gain from,
say selling its units, and in the end you will become bankrupt. Instead, a set of alternatives has to
be made, and from them one is to be selected so as to optimize the resources properly and to
maximize the monetary gain from it, while considering other factors.
This is where engineering economics comes into play.

Definition:
Engineering economy involves formulating, estimating, and evaluating the expected
economic outcomes of alternatives designed to accomplish a defined purpose, as applied to
engineering problems.

As the term says, engineering economy involves application of concepts from economics,
particularly microeconomics. The microeconomic concepts of demand and supply, of expense
and revenue and profit, and so on, are considered in this subject, often in mathematical form to
facilitate ease of evaluation of alternatives.
Engineering economy studies usually include some or all the following four essential elements:
cash flows, time, interest rates, and measure of economic worth. We will tackle each one of these
as the course goes. All these elements are hinged onto the most fundamental concept of time
value of money.

Definition:
Time value of money explains the change in the amount of money over time for funds that are
owned (invested) or owed (borrowed).

In short, money grows over time. If I put a certain amount of money in a bank, then after maybe
5 or 10 years, this amount will become larger than what was before. If I borrowed a certain amount
of money from a bank, then after 5 or 10 years I should return a larger amount of money than
what was before. This concept of time value of money is very important in decision making
because it gives engineers an idea of the benefits and losses that they will obtain in the future.
 Lesson 2
SIMPLE INTEREST

2.1 Definition

Definition:
Interest is the amount gained from lending capital. It is also the amount to be paid for borrowing
capital.

As explained in Lesson 1, if you borrow money1, you have to pay an amount larger than it, and if
you lend money, you will gain a larger amount of money once returned2. The added amount,
which is the difference between the current money (gained or paid) and the previous money (lent
or borrowed) is called interest. The money that was originally lent or borrowed is called the
principal.
The ratio of the interest to the principal, expressed in percent, is called the interest rate. Many
financial institutions such as banks give their own interest rates, and these rates are monitored
by higher instructions such as the Bangko Sentral ng Pilipinas (BSP). Interest rates are expressed
in a certain period of time, usually 1 year. For example, the term at 5% per annum means that
the interest rate is 5% for each one year (per annum = per year). When no time period is given to
an interest rate, it is taken as per year.

2.2 Notations
When we take the time that someone borrows or lends money as the present time 𝑡 = 0, then we
will have a certain amount paid or gained at a certain time in the future. We call the amount at
present time as the present value or present worth, denoted by 𝑃. We call the amount at the
future time as the future value or future worth, denoted by 𝐹. The interest, denoted by𝐼, is
therefore defined mathematically as
𝐼 = 𝐹−𝑃
We denote the time of interest by 𝑡, and the rate of interest by 𝑟. We will take the last notations,
𝐴 for annuities in Module 5 and 𝑛 for number of periods in Module 3.

1 Money is one of the capital that can be borrowed or lent. Other capital includes land, property and
equipment, among others.
2 Notice that we mention the term interest from two different entities: one from the point of view of a lender

(such as banks that give loans to people; and people that invest/deposit money in banks), and another from
the point of view of a borrower (such as single proprietorships, partnerships and corporations applying for
loans from banks; and entities that invest money in banks). This is important when we tackle cash flows
and cash flow diagrams in Module 2.
2.3 Simple Interest
Simple interest is interest calculated per period of time directly from the principal. Its use,
however, is limited, but is discussed here because simple interest is the foundation of the other
type of interest, the compound interest, which we will discuss in Module 3.
Applications of simple interest include

• borrowing and lending capital from small entities (e.g., among friends, among sari-sari
stores, 5-6 lending), and
• borrowing and lending capital from large entities (e.g., banks) for a short period of time,
usually less than 6 months.
The calculation of simple interest is simple, as shown below.

Formula: Simple Interest

Given the principal/present value 𝑃 lent/borrowed over time 𝑡 at an interest rate of 𝑟, the interest
to the gained/paid is given by
𝐼 = 𝑃𝑟𝑡
It follows that the future value 𝐹 is given by
𝐹 = 𝑃 + 𝐼 = 𝑃 + 𝑃𝑟𝑡 = 𝑃(1 + 𝑟𝑡)

𝑟 and 𝑡 only need to be consistent to each other in terms of time, but in practice 𝑡 is expressed in
years, and 𝑟 as an interest rate per year. For 𝑡, there are two types of “years” used:

Types of “years”
The banker’s year is a year consisting of 360 days, meaning 12 months of 30 days each.

The exact year is a year consisting of 365 or 366 days, exactly as specified in a regular
calendar.

The banker’s year is used by default, because calculations based on 12 months of 30 days each
are easier than calculations based on 12 months of differing number of days. However, larger
firms and financial institutions use the exact year to accurately reflect their financial statements.
Example 1. ABC Studios plans to borrow Php 500,000 from a bank for 1 year at 9% interest for
new recording equipment. Compute the interest and the total amount due after 1 year.
Solution. We have 𝑃 = Php 500,000, 𝑟 = 9% per year, and 𝑡 = 1 year because the borrowed
money is due after 1 year. Therefore, the interest is
𝐼 = 𝑃𝑟𝑡 = (500,000)(0.09)(1) = Php 45,000
and the total amount due after 1 year is
𝐹 = 𝑃(1 + 𝑟𝑡) = (500,000)(1 + 0.09 × 1) = Php 545,000
Alternatively, the total amount due 𝐹 can be determined from
𝐹 = 𝑃 + 𝐼 = 500,000 + 45,000 = Php 545,000
Example 2. Mr. Tiu lent Php 40,000 to his good assistant, payable after 5 years at 16% simple
interest per year. How much must his assistant pay back after 5 years?
Solution. We have 𝑃 = Php 40,000, 𝑡 = 5 years and 𝑟 = 16% per year. We want to find the
amount the assistant must return after 5 years, meaning the principal plus interest, or the future
value 𝐹. Since this is a simple interest, we have
𝐹 = 𝑃(1 + 𝑟𝑡) = (40,000)(1 + 0.16 × 5) = Php 72,000
Example 3. Calculate the amount deposited 3 years ago to have Php 180,000 now at a simple
interest rate of 5% per year. Also, calculate the amount of interest earned during this time period.
Solution. This time, we have a certain amount deposited at a point in the past, which becomes
Php 180,000 today. If we take that point in the past as the present time 𝑃, then Php 180,000 is
the future amount 𝐹 that we will obtain after 3 years.
Hence, we have 𝐹 = Php 180,000, 𝑟 = 5% per year and 𝑡 = 3 years. We have
𝐹 = 𝑃(1 + 𝑟𝑡)
𝐹
𝑃=
1 + 𝑟𝑡
180,000
𝑃=
1 + 0.05 × 3
𝑃 = Php 156,521.74
The amount of interest earned is calculated from
𝐼 = 𝐹 − 𝑃 = 180,000 − 156,521.74 = Php 23,478.26
or, alternatively
𝐼 = 𝑃𝑟𝑡 = (156,521.74)(0.05)(3) = Php 23,478.26
Example 4. I invested Php 300,000 in a bank. After 7 years, it doubled. What is the interest rate?
Solution. We have 𝑃 = Php 300,000 and 𝑡 = 7 years. Since the original amount doubled after 7
years, we have 𝐹 = 2𝑃 = Php 600,000. Here, we need to find the interest rate 𝑟. We have
𝐹 = 𝑃(1 + 𝑟𝑡)
𝐹
= 1 + 𝑟𝑡
𝑃
𝐹
− 1 = 𝑟𝑡
𝑃
𝐹
−1
𝑟=𝑃
𝑡
Substitution gives
600,000
300,000 − 1
𝑟= = 0.1429 = 14.29% per year
7
Alternatively, the given values can be plugged in directly into the formula 𝐹 = 𝑃(1 + 𝑟𝑡) and then
𝑟 calculated using the automatic solving features in calculators.
Example 5. Mrs. Zaragoza, Vice President for Finance of Archimedes Construction Corp.,
invested a total of Php 50 million to two banks, a certain amount to one offering a simple interest
rate of 6% and the remaining amount to another at 4%. After 2 years, the two investments gained
a combined amount of Php 4.5 million. How much did Mrs. Zaragoza invest in the bank offering
6%?
Solution. Let 𝑃 be the amount Mrs. Zaragoza invested at a bank offering 6%. Since the total
amount invested is Php 50 million, then 50𝑀 − 𝑃 is the amount she invested to the other bank at
4%. Here, we used the symbol 50𝑀 for 50 million, 𝑀 denoting millions.
In the bank offering 6%, the interest gained after 2 years is
𝐼6% = 𝑃6% 𝑟6% 𝑡 = 𝑃(0.06)(2) = 0.12𝑃
while in the bank offering 4%, the interest gained after 2 years is

𝐼4% = 𝑃4% 𝑟4% 𝑡 = (50𝑀 − 𝑃)(0.04)(2) = 0.08(50𝑀 − 𝑃)

The total amount gained from the two investments (meaning the total of the two interests) is given
as Php 4.5 million (4.5𝑀 ). Therefore,

𝐼6% + 𝐼4% = 4.5𝑀

0.12𝑃 + 0.08(50𝑀 − 𝑃) = 4.5𝑀
0.12𝑃 + 4𝑀 − 0.08𝑃 = 4.5𝑀
0.04𝑃 = 0.5𝑀
𝑃 = 12.5𝑀
Therefore, Mrs. Zaragoza invested Php12.5 million to the bank offering 6%.

LEARNING ACTIVITY 1
Part 1. Complete the table below.

# 𝑷 𝒓 𝒕 𝑰 𝑭
1. Php 200,000 5% 2 years
2. Php 40,000 8% 10 years
3. 15% 6 months Php 1 million
4. 12% 1 year Php 650,000
5. Php 70,000 1 year Php 10,000
6. Php 150,000 4 months Php 160,000
7. Php 2 million 6.5% 5 years Php 29,000
8. Php 15 million 20% 8 years Php 18 million

Part 2. Solve the following problems.

1. Find the interest on Php6,800.00 for 3 years at 11% simple interest.
2. What is the principal amount if the amount of interest at the end of 2 ½ years is Php4,500
for a simple interest of 6% per annum?
3. If Php16,000 earns Php480 in 9 months, what is the annual rate of interest?
 4. Agoncillo Consultancy invested a certain amount of money into a financial institution that
offers 14% simple interest. How long in years will it take for the investment to triple in
amount?
5. Suppose Amethyst Builders wanted to invest an amount Php500,000.00 for 2 years at a
financial institution that gives a simple interest of 3% per year. The interest rate was given
to Amethyst Builders by the financial institution on the assumption that he cannot withdraw
the investment within the 2-year period. How much is Amethyst Builders’s earning on the
investment after the 2-year period?
6. RKI Instruments borrowed Php3.5 billion from a private equity firm for expansion of its
manufacturing facility for making carbon monoxide monitors/controllers. The company
repaid the loan after 1 year with a single payment of Php3.885 billion. What was the
interest rate on the loan?
7. Millennium Properties invested Php120 million, separated into two accounts. Part of the
amount is placed into a bank that offers 7% simple interest, while the remaining amount
is placed into another bank at 9%. After 4 years, the combined interest in the two accounts
amount to Php40 million. How much was invested to a bank that offers 9%?
8. DEF Company has to pay Php2 million today to GHI Lenders. If the simple interest rate is
7.5% per annum, how much did DEF Company borrow from GHI Lenders 5 years ago?

Example 6. Leander Lenders lent Php 70,000 to Quickbuild Contractors on April 16, 2021, at 9%
interest. How much should Quickbuild Contractors return on September 31, 2021?
Solution. When solving problems involving interest, we need to answer first two questions.

First, what type of interest is this? Simple or compound?

By default, we use compound interest, which we will discuss in Module 3. However, if any of the
three conditions is satisfied:

• The problem explicitly states that we use simple interest

• The time period given is in days
• Exact dates are given (like April 16, 2021, or September 31)
then we must use simple interest. Since exact dates are given in the problem, we must use simple
interest.

Second, what type of “year” is this? Exact year or banker’s year?

As mentioned previously, we use banker’s year by default. However, if exact dates are given,
such as in this problem, then we have to use exact year.
So, in summary, this is a simple interest problem using exact year.
We have 𝑃 = Php 70,000 and 𝑟 = 9% per year (when no period for interest rate is given, it is taken
to be per year). The time 𝑡 in days can be determined by counting the number of days from start
to end in a calendar. When determining the number of days of each month, it might help to
remember the first two lines of a famous children poem:
 30 days has September,
April, June and November.

The counting is illustrated below.

Duration Count Remarks

START
April 16, 2021 to April 30, 2021 30 – 16 + 1 = 15 April has 30 days.
May 31 May has 31 days.
June 30 June has 30 days.
July 31 July has 31 days.
August 31 August has 31 days.
September 1, 2021 to September 30, 2021 30 – 1 + 1 = 30 September has 30 days.
END
Total 168 days

So, we have 𝑡 = 168 days. Finally, let’s determine if the year has 365 or 366 days. The rule for
leap years states that

A leap year has 366 days, and a non-leap year has 365 days.

If the year number is not divisible by 4, then it is a non-leap year.

If the year number is divisible by 4, then it is a leap year, except for years that are divisible by
100 but not by 400.

For this problem, the year 2021 is not divisible by 4. Therefore, this is a non-leap year, and hence
has only 365 days. Therefore,
168
𝑡 = 168 days = year
365
Finally, we need to find how much the contractor must return, meaning the future value 𝐹. We
have
168
𝐹 = 𝑃(1 + 𝑟𝑡) = (70,000) (1 + 0.09 × ) = Php 72,899.73
365

Example 7. Dimagiba Associates borrowed a certain amount on January 1, 2020 to buy new
software for the structural engineers. He paid Php 4 million on March 31, 2020. If the interest rate
is 12%, how much did he borrow initially?
Solution. Since exact dates are given, this problem is a simple interest problem using exact
dates. The year 2020 is divisible by 4. Therefore, the year is a leap year. So, one year is equal to
366 days and February has 29 days. The calculation of 𝑡 is given below.
 Duration Count Remarks
START
January 1, 2020 to January 31, 2020 31 – 1 + 1 = 31 January has 31 days.
February has 29 days
February 29
(leap year)
March 1 to March 31, 2020 31 – 1 + 1 = 31 March has 31 days.
END
Total 91 days

Therefore
31
𝑡 = 91 days = years
366
91
So, we have 𝐹 = Php 4𝑀 , 𝑟 = 12% per year and 𝑡 = 366 years. So, the amount borrowed initially,
𝑃, is
𝐹 4,000,000
𝑃= = = 3.8841𝑀 = Php 3.8841 𝑚𝑖𝑙𝑙𝑖𝑜𝑛
1 + 𝑟𝑡 1 + 0.12 × 91
366
Example 8 [CE Board May 2003]. A man is required to pay Php 57,500 in 15 days or Php60,000
in 60 days. Find the annual rate of simple interest.
Solution. The problem explicitly states to find the annual rate of simple interest, so we use simple
interest. Exact dates are not given (only in terms of days), so we use the banker’s year (360
days). There are two separate problems to consider here.
First, the statement
A man is required to pay Php57,500 in 15 days
15
means that 𝐹 = Php 57,500 and 𝑡 = 15 days = 360 years. If 𝑃1 is the amount borrowed in this
statement and 𝑟 is the rate of interest, then
𝐹 = 𝑃(1 + 𝑟𝑡)
𝐹
𝑃1 =
1 + 𝑟𝑡
57,500
𝑃1 =
15
1 + 𝑟 (360)

Meanwhile, the second statement

… or Php60,000 in 60 days
60
means that 𝐹 = Php 60,000 and 𝑡 = 60 days = 360 years. If 𝑃2 is the amount borrowed in this
statement, then
 60,000
𝑃2 =
60
1+𝑟( )
360
In both statements, 𝑟 are the same because he borrowed the money from a single bank. 𝑃1 and
𝑃2 are also the same because he just borrowed a single amount from the bank, only that he can
pay it in either 15 or 60 days. Therefore,
57,500 60,000
𝑃1 = 𝑃2 = =
15 60
1+𝑟( ) 1 + 𝑟 (360)
360
Solving for 𝑟, we get 𝑟 = 0.3478 = 34.78% per year.

LEARNING ACTIVITY 2
Part 1. How many days are there between the following two dates?
1. July 12, 2005 to November 27, 2005
2. March 8, 2012 to October 6, 2012
3. February 24, 2019 to May 13, 2019 2000
4. December 1, 2023 to June 30, 2024
5. January 2, 2100 to September 19, 2100
6. April 15, 2000 to August 31, 2000

Part 2. Determine whether the given year is a leap year or a non-leap year.
1. 1960
2. 2002
3. 1900
4. 2000
5. 1984
6. 1998

Part 3. Complete the table below.

# 𝑷 𝒓 𝒕 𝑰 𝑭
1. Php 200,000 5% 120 days
2. Php 40,000 8% 200 days
3. 15% 75 days Php 1 million
4. 12% 100 days Php 650,000
5. Php 70,000 150 days Php 10,000
6. Php 150,000 90 days Php 160,000
7. Php 2 million 6.5% Php 29,000
8. Php 15 million 20% Php 18 million
Part 4. Solve the following problems.
1. A time deposit of Php110,000 for 31 days earns Php890.39 on maturity date. Find the rate
of interest per year.
2. A man borrowed Php10,000 from his friend and agrees to pay at the end of 90 days under
8% simple interest rate. What is the required amount?
3. How long in days must a Php40,000 note bearing 4% simple interest run to amount to
Php41,350?
4. Andromeda Associates invested P100,000 to a bank on April 14, 2004 to help in giving
salaries in their employees. The bank offers 11% simple interest rate. If he withdraws
everything on November 18 of the same year, how much will he get?
5. Mr. Sagun, president of Nishikino Enterprises, borrowed a certain amount on November
2, 2015 from the mother company Nishikino Inc., which is to be repaid on May 21, 2016
at 6.2% simple interest per year. If the amount to be repaid is Php243.4 million, how much
did Mr. Sagun borrow?
 References
Leland Blank and Anthony Tarquin. Engineering Economy, 7th Edition. New York: McGraw-Hill
Companies, Inc., 2012