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Time Value Problem

1) Mr. Vinay needs to save Rs. 100,000 in 10 years for his son's studies abroad. The interest rate is 12%. 2) Mr. Jingo has a choice at retirement of an annual pension of Rs. 10,000 for life or a lump sum of Rs. 50,000. If he expects to live 15 more years at a 15% interest rate, which is better? 3) Mr. X will receive Rs. 3,000 pension annually for 16 years starting in 10 years. What is the present value if the interest rate is 10%?

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Chaitanya
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3K views

Time Value Problem

1) Mr. Vinay needs to save Rs. 100,000 in 10 years for his son's studies abroad. The interest rate is 12%. 2) Mr. Jingo has a choice at retirement of an annual pension of Rs. 10,000 for life or a lump sum of Rs. 50,000. If he expects to live 15 more years at a 15% interest rate, which is better? 3) Mr. X will receive Rs. 3,000 pension annually for 16 years starting in 10 years. What is the present value if the interest rate is 10%?

Uploaded by

Chaitanya
Copyright
© © All Rights Reserved
Available Formats
Download as PPT, PDF, TXT or read online on Scribd
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Problem 1

Mr. Vinay plans to send his son for


higher studies abroad after 10
years.
He expects the cost of
these studies to be Rs. 100,000.
How much should he save
annually to have a sum of Rs.
100,000 at the end of 10 years, if
the interest rate is 12 percent?

Problem 2

At the time of his retirement, Mr. Jingo is


given a choice between two alternatives:
(a) an annual pension of Rs. 10,000 as
long as he lives, and
(b) a lump sum amount of Rs. 50,000.
If Mr. Jingo expects to live for 15 years
and the interest rate is 15 percent, which
option appears more attractive?

Problem 3
Exactly ten years from now Mr. X will start receiving a
pension of Rs.3,000 a year. The payment will continue for
sixteen years. How much is the pension worth now, if Xs
interest rate is 10 per cent?

Solution:
The present value of pension can be found in two steps. First, find
out present value of the 16-year annuity at 10 per cent interest
rate at the end of year 9.
P9 = Rs3,000 7.824 = Rs 23,472
Then find out present value now of the lump sum of Rs23,472:
P0 = Rs 23,472 0.424 = Rs 9,954

Problem 4
Your father has promised to give you Rs.100,000 in
cash on your 25th birthday. Today is your 16th
birthday. He wants to know two things: (a) If he
decides to make annual payments into a fund after
one year, how much will each have to be if the fund
pays 8 percent? (b) If he decides to invest a lump
sum in the account after one year and let it
compound annually, how much will the lump sum
be? (c) If in (a) the payments are made in the
beginning of the year, how much will be the value
of annuity?

Solution:
(a) Rs100,000 = A(FVIFA9,0.08) = Rs100,000 = A(12.488)
Rs100,000
A
Rs8007.69
12.488
(b) Rs100,000 = P(FVIF9,0.08) = Rs100,000 = P(1.999)

Rs100,000
P
Rs50,025
1.999
(c) This is a problem of an annuity due since payment is made at
the beginning of the year.
Rs100,000 =A(FVIFA9,0.08(1.08))
Rs100,000 = A(12.487)

Rs100,000
A
Rs7,414.55
13.478

Problem 5
AB Limited is creating a sinking fund to redeem its
preference capital of Rs 5 lakh issued on 6 April
2004 and maturing on 5 April 2015. The first
annual payment will be made on 6 April 2004. The
company will make equal annual payments and
expects that the fund will earn 12 percent per year.
How much will be the amount of sinking fund
payment?

Solution: AB Co. wants to accumulate a future sum of Rs


500,000. Since the annual payments will be made in the
beginning of the year, we can use the formula for the compound
value of an annuity due to solve the problem:
A(FVIFAn,i)(1+i) = 500,000
A(FVIFA12,0.12) (1.12) = 500,000
A(24.133) (1.12) = 500,000
27.029A = 500,000
A = 500,000 / 27.029
= Rs 18,498.65

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