LEARNER’S MODULE:

Mathematics in the Modern World

Chapter 8: The Mathematics of Finance

I. OBJECTIVES:
At the end of this Chapter, you must be able to:
a. Apply the different concepts of mathematics of finance in making
wise decisions related to personal finance; and
b. Support the use of mathematics in financial aspects and endeavors
in life.

II. OVERVIEW
Your future is dependent on what you are doing now and how you
are preparing for it. A better future is associated with money because
we believe that money affects how we lead our life. If you have money
you can do many things you want in life. But, if you have money and do
not know how to manage it, you will end up nothing. That is why personal
finance is one of the most important accomplishment you can achieve.
You are responsible for your personal finance. The concepts you will
learn in this chapter will be a great help to your personal financial
planning.

III. DISCUSSION
A. INTEREST
Interest is the cost for the use of money. When you deposit
money in a bank, it will earn interest but when you borrow money
from a bank, you will pay interest.
Interest is computed on principal amount at a certain rate for
a certain period. For example, 10% annually, 4% per quarter or 2% per
month, etc.
Principal amount is the sum money that is originally borrowed
from an individual or financial institution. It does not include interest.

B. SIMPLE INTEREST
It is the interest that does not become part of the principal. The
formula I = Prt or A = P(1+rt) where P is the Principal amount of money
to be invested at an Interest Rate (r) per period for t, Number of Time
Periods.

Example: A 2-year loan of $500 is made with 4% simple interest. Find the interest
earned.

Solution: Always take a moment to identify the values given in the problem. Here
are the given:
Time is 2 years: t=2
Initial amount is $500: P = 500
The rate is 4%. Write this as a decimal: r = 0.04

Unknown: Interest (I)

Now apply the formula:

I = Prt = 500(0.04)(2) = $40

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 LEARNER’S MODULE:
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C. COMPOUND INTEREST
It is the interest that the sum becomes the new principal amount. The
formula for annual compound interest, including principal sum, is:
𝑷(𝟏 + 𝒓)(𝒏𝒕)
𝑨=
𝒏
Where:
A =the future value of the investment/loan, including interest.
P = the principal investment amount (the initial deposit or loan
amount).
r = the annual interest rate (decimal).
n = the number of times that interest is compounded per year.
t = the number of years the money is invested or borrowed for.

Example: If an amount of $5,000 is deposited into a savings account at an annual

interest rate of 5%, compounded monthly, the value of the investment after 10
years.

Solution: Given: P = $5,000 r = 5/100 = 0.005 (decimal)

n = 12 t = 10

5000(1 + 0.05)(12)(10)
𝐴= = 𝟖, 𝟐𝟑𝟓. 𝟎𝟓
12
So, the investment balance after 10 years is $8,235.05.

D. CREDIT CARDS
A credit card is a plastic card that lets you access the credit
limit your credit card issuer gives you. A credit limit is like a loan.
However, instead of giving you the full loan in cash, the bank lets you
take a much of the credit as you want in time and allows you to reuse
the loan over and over as long as you pay what you’ve borrowed.

A. How Credit Cards Work?

When you swipe your credit card, your bank loans you the money
to make that purchase. Therefore, there is frequently an added
cost to the consumer who purchases on credit. This may added
be in the form of an annual fee or interest charges on purchases.

B. Finance Charge
A finance charge is an amount paid in excess of the cash
price; it is the cost to the customer for the use of credit. Most credit
card companies issue monthly bills. The due date on the bill is
usually 1 month after the billing date (the date the bill is prepared
and sent to the customer). If the bill is paid in full by the due date,
the customer pays no finance charge. If the bill is not paid in full
by the due date, a finance charge is added to the next bill.
The most common method of determining finance charge is
the average daily balance method.

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 LEARNER’S MODULE:
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C. Average Daily Balance
The average daily balance is determined using the formula
below:
𝒔𝒖𝒎 𝒐𝒇 𝒕𝒉𝒆 𝒕𝒐𝒕𝒂𝒍 𝒂𝒎𝒐𝒖𝒏𝒕 𝒐𝒘𝒆𝒅 𝒅𝒂𝒚 𝒐𝒇 𝒕𝒉𝒆 𝒑𝒆𝒓𝒊𝒐𝒅
𝐴𝒗𝒆𝒓𝒂𝒈𝒆 𝑫𝒂𝒊𝒍𝒚 𝑩𝒂𝒍𝒂𝒏𝒄𝒆 =
𝒏𝒖𝒎𝒃𝒆𝒓 𝒐𝒇 𝒅𝒂𝒚𝒔 𝒊𝒏 𝒕𝒉𝒆 𝒃𝒊𝒍𝒍𝒊𝒏𝒈 𝒑𝒆𝒓𝒊𝒐𝒅

Example:
Suppose an unpaid bill for P15,550 had a due date of August 9. A
purchased of P2,800 was made on August 18, and P1,200 was charged on August
28. A payment of P5,000 was made on April 20. The next billing date September
9. The interest rate of the average daily balance is 3.5% per month. Find the
finance charge on the September 9.

Solution:
To find the finance charge, first prepare a table showing the unpaid
balance for each purchase, the number of days the balance is owed, and the
product of these numbers. A negative sign in the Payments or Purchases column
of the table indicates that a payment was made on that date.
Number of Unpaid
Payments or Balance days until balance
Date
Purchases each day balance times number
charges of days
August 9 – 17 P15,550 9 P139,950
August 18 – 19 P2,800 P18,350 2 P36,700
August 20 – 27 -P5,000 P13,350 8 P106,800
August 28 – P1,200 P14,550 12 P174,600
September 8
P458,050

The sum of the total amounts owed each day of the month is P458,050.

Find the average daily balance.

𝑠𝑢𝑚 𝑜𝑓 𝑡ℎ𝑒 𝑡𝑜𝑡𝑎𝑙 𝑎𝑚𝑜𝑢𝑛𝑡 𝑜𝑤𝑒𝑑 𝑑𝑎𝑦 𝑜𝑓 𝑡ℎ𝑒 𝑝𝑒𝑟𝑖𝑜𝑑
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐷𝑎𝑖𝑙𝑦 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 =
𝑛𝑢𝑚𝑏𝑒𝑟 𝑜𝑓 𝑑𝑎𝑦𝑠 𝑖𝑛 𝑡ℎ𝑒 𝑏𝑖𝑙𝑙𝑖𝑛𝑔 𝑝𝑒𝑟𝑖𝑜𝑑
458,050
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐷𝑎𝑖𝑙𝑦 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 = ≈ 15,268.33
30

Find the finance charge

I = Prt
I = 15,268.33(0.035)(1)
I = 534.39
Hence, the finance charge on September 9 bill is P543.33.

D. Consumer Loans
A consumer loan has a fixed date for monthly repayments,
where many people know-how to control their finances.
Loan agreements have many forms and with varied terms,
ranging from simple promissory notes between friends and family
members to more complex loans like mortgage, auto, payday
and student loans.
Banks, credit unions and other people lend money for other
necessary items like car, home, home improvement or tuition fees.

BRYAN S. AMBRE | Sir Amber

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 LEARNER’S MODULE:
Mathematics in the Modern World
E. Types of Loans
Loan classifications differ because each loan has a specific
intended use. They differ by due dates, interest rates, basis of
computation and other variables.

a. Student Loans
Student loans are for college students and their families
to help cover the cost of tuition fees and other expenditures
relative to finishing a degree.
b. Mortgages
Mortgages are loans offered by banks to consumer
intending to buy homes they can’t pay in cash. A mortgage
is tied to the house purchased, meaning, the house is
subject for foreclosure if one neglects to pay.
c. Auto Loans
This is also called as car loan. Like mortgages, auto loans
are tied to the purchased car. You can get your dream car,
but you can lose it if you miss payments. This type of loan is
offered by bank or car dealership. Loans from car
dealership is more convenient, however, has a higher
interest rate which results to a bigger amount to pay.
d. Personal Loans
Personal loans are used for personal expenses and don’t
have a designated purpose. This is attractive choice for
people with existing debts like credit debt, who want to
reduce their interest rates by transferring balances. Personal
loan terms depend on credit history.
e. Payday Loans
Payday loans are short-term, high-interest loans
intended to solve budget problems from one payday to the
next. This is typically used by borrowers living payday to
payday. Because of the high interest rates, consumers are
discouraged from availing payday loans.
f. Borrowing from Retirement and Life Insurance
Clients with retirement fund or life insurance plans are
legible to borrow from their accounts. Repayment is much
easier and less stressful since the amount actually borrowed
is owned by the said person. However, in some cases, failing
to repay the loan leads to severe tax consequences.
g. Consolidated Loans
A consolidated loan is intended to simply finances. Avail
of consolidated loan to pay several outstanding debts like
credit card debt. It has fewer monthly payments and lower
interest rates.
h. Borrowing from Friends and Family
Borrowing amount or cash from friends and relatives is
an informal type of loan. Sometimes, this is not a good
choice, as it may damage relationships. Nevertheless, it’s
an excellent idea to sign a basic contract or promissory
note to protect both parties.
i. Cash Advances
A cash advance is a short-term loan in the credit card.
Cash can be received by whatever intended purpose

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 LEARNER’S MODULE:
Mathematics in the Modern World
instead using the credit card to purchase or pay other
services. Cash advances are also done by writing a check
to leaders who collects during paydays.

F. THE NATURE OF STOCKS AND BONDS

Many products, supplies and services like dresses, gadgets,
foods and entertainments are products generated by business
firms. A Business firm is an enterprise or a unit of economic
organization which makes, buys, or sells products and or provides
services in exchange of money. It may differ from the other
companies depending on the firm’s profit, rights, management
strategies, sources of investments and operating funds. Some firms
may be directed by a sole proprietorship, managed with a
business partner and others may be considered as large
corporations. Corporations are most likely started out of a small
business. So, if an owner of a small business wishes to expand his
company, he has to raise enough money to concretize the plan.
How will these small businesses grow and turn-out into a large
corporation? How business-persons do raise capital?

G. STOCKS
A stock is a piece of paper (called a stock certificate) that
represents a fractional ownership share of a company or in a
corporation. To further understand the concept of how stocks
work, let us consider the following example:

Example:
After graduation, a young entrepreneur named Danny opted to borrow
money from a bank and established a business. Danny named his business
Danny’s Bikes. For the first few years, the business of selling bikes makes little profit
because the earnings were used for the store’s maintenance and improvement
and adding bike accessories of updated designs. After ten years, the business
grew and Danny was able to pay all his credits from the bank. From time on,
Danny earns 800,000 pesos profit every year. The business has a book value of 2
million pesos and the average product stock is 10 times the earning. Therefore,
the Danny’s Bikes is worth 10 million pesos. The earnings will be multiplied by 10 so
it is 8 million pesos plus the book value of 2 million pesos.
Danny decided to have his own family, hence desires to open a branch.
Danny discovered that to expand his business, he will need 3 million pesos. Danny
decided not to borrow from the bank, but instead he contemplated to sell stock
in his business. It only means that Danny owned 100% of the business before selling
stock. If he will sell a stock then he will earn money but will lose a portion of his
ownership. So, Danny decided to sell 40% of the business as a stock. Danny still
owns a larger part of the business which is 60%. Selling 40% to other interested
entrepreneur would mean 4 million pesos worth of the business. Utilizing this money
from other investors, Danny’s Bike successfully opens a new branch and has 1
million pesos. Eventually, the business is earning an annual profit of 1.7 million
pesos.

A stock is a measure of ownership in a company. Based on the example

above, a stock is sold in portions called shares which represent fractions of the
company. Most major companies have literally millions of shares divided up

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 LEARNER’S MODULE:
Mathematics in the Modern World
among businessmen and financial institutions who are collectively called
shareholders.

E. BONDS
Aside from selling stock to earn cash, another source is bond
borrowed from an individual. Bonds are loans from individual
investors and institutions to a company with expectation that the
company will be paid back at specific date in the future with a
certain interest rate. For example, let’s go back to Danny’s Bike case.
Example:
Now, Danny’s Bike has two stores – the main store and a branch located in
another town. To further expand the business, Danny and the other shareholders
decided to open two new bigger stores which will be located at the southern and
northern part of nearby cities. The company should earn 8 million pesos in putting
up these branches and 1 million pesos for venturing new products.
A Chinese businessman Mr. Sy came and wanted to be part of the
company. So, for the plan of expanding the business, Danny’s Bike sells a bond
worth of 10 million pesos to Mr. Sy. Hence, Mr. Sy as the lender now holds a bond
or a contract. The company commits itself to repay the bondholder on a monthly
basis until the maturity date of 10 years. On the face of the bond, there is an
agreement that an annual interest of 100,000 pesos be paid.
Since the bonds have assured the investor a fixed interest rate and
repayment at a certain date, the bonds are considered a relatively safe
investment. With this, the contract enables the Danny’s Bike to obtain the capital
that they need at a lower interest rate. As a result, two new bigger stores were
opened after a year.

Based on the fictional story of Danny’s Bike, it is clear that a bond is a

financial device through which the borrower, the company, is duty-bounded to
pay the principal and interest on a specific date in the future to the lender or the
bondholder.

BRYAN S. AMBRE | Sir Amber

bryanamber029@gmail.com
0955-417-3898