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Present value of an ordinary annuity

Business Finance (Murdoch University)

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Financial mathematics Edition 2

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Present value of an ordinary annuity [feedback page]

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- 1 of 3 ID: FMTH.A.OA.PV.02.L

Hadiputra buys a car by paying $5,500 plus payments of $486.15 at the end of each quarter for 4 years. Calculate the price (P) of the car if the interest rate on
the loan is 9.3% pa compounded quarterly. Give your answer in dollars and cents to the nearest cent.

P=$ 3

- Feedback [0 out of 1]

This is not correct.

P = $11,933.99

Calculation

The price can be calculated using the following formula: hide variables

D = deposit = $5,500

R = regular payment = $486.15

n = time periods (years × quarters per annum) = 4 × 4 = 16

j4 = nominal rate per annum compounded quarterly = 9.3%

j 9.3%
i = effective rate per quarter (decimal) = 4 = = 0.02325
4 4

P = price (present value) = unknown

-n
P = D + R[1 - (1 + i) ]
i
-16
= 5,500 + 486.15[1 - (1 + 0.02325) ]
0.02325

= 5,500 + 486.15 × 13.2345721...

= 11,933.98722741...
= $11,933.99 Rounded as last step

- 2 of 3 ID: FMTH.A.OA.PV.12.L

The future value of an annuity payable at the end of each quarter for 7 years is $30,000. Calculate the present value of this annuity (P) at an interest rate of
10% pa convertible quarterly. Give your answer in dollars and cents to the nearest cent.

P=$ 3

- Feedback [0 out of 1]

This is not correct.

P = $15,026.33

Calculation

There are two methods of solving this question.

Method 1

Start by finding the regular payment. The regular payment can be calculated using the following formula: hide variables

S = future value = $30,000

n = number of quarters (years × quarters per annum) = 7 × 4 = 28

j4 = nominal rate per annum compounded quarterly = 10%

j4 10%
i = effective rate per quarter (decimal) = = = 0.025
4 4

R = regular payment = unknown

S
R = n-1
[(1 + i)i ]
30,000
= 28 - 1
[(1 + 0.025)
0.025
]
30,000
=
39.85980075...
= $752.63798201... Intermediate step, not rounded

Once the regular payment has been found, it can be used to calculate present value. The present value can be calculated using the following formula: show
variables

-n
P = R[1 - (1 + i) ]
i
-28
= 752.63798201...[1 - (1 + 0.025) ]
0.025

= 752.63798201... × 19.96488866...
= 15,026.33350855...
= $15,026.33 Rounded as last step

Method 2

The present value can be calculated using the following formula: hide variables

S = future value = $30,000

n = number of quarters = 7 × 4 = 28

j4 = nominal rate per annum compounded quarterly = 10%

j 10%
i = effective rate per quarter (decimal) = 4 = = 0.025
4 4

P = present value = unknown

P = S(1 + i)-n
= 30,000(1 + 0.025)-28
= 30,000 × 0.50087778...
= 15,026.33350855...
= $15,026.33 Rounded as last step

- 3 of 3 ID: FMTH.A.OA.PV.03.L

Calculate the present value today (P) of half-yearly payments of $4,000 for 16 years, with the first payment payable in 6 months time. Money is compounded
half-yearly at a nominal rate of 4% per annum. Give your answer in dollars and cents to the nearest cent.

P=$ 3

- Feedback [0 out of 1]

This is not correct.

P = $93,873.34

Calculation

Plot the cash flows on a time line.

$4,000 $4,000 $4,000

1 32
0 2
half-year ... half-
Today half-years
(6 months) years

The first payment is in 6 months' time. This is equal to 1 half-year. Hence the first payment is at the end of the first period, and the payments form an
ordinary annuity.

The present value can be calculated using the following formula: hide variables

R = regular payment = $4,000

n = half-years (years × periods per annum) = 16 × 2 = 32

j2 = nominal rate per annum compounded half-yearly = 4%

j 4%
i = compound rate per half-year (decimal) = 2 = = 0.02
2 2
P = present value = unknown

-n
P = R[1 - (1 + i) ]
i
-32
= 4,000[1 - (1 + 0.02) ]
0.02

= 4,000 × 23.46833482...
= 93,873.33929644...
= $93,873.34 Rounded as last step

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