BUSINESS

MATHEMATIC
[ BADD 1013 ]
CHAPTER 4
ANNUITY AND SINKING FUND
Present Value and Future Value

Future Value Of Ordinary Annuity

Future Value Annuity Due

Present Value Of Annuity

Sinking Fund
 Future
RM 1,000,000 Value
(after 40 years) (FV)
FV = P(1+
i = 5%
1,000,000 /
(1+0.05)^40 Present
=1,000,00 / Value
(7.04) (PV)
= RM 961,538.46 PV = P / (1

5–
Copyright © 2006 Thomson Business and Economics. All rights reserved.
2
 ANNUITY

KLIA KLCC
 ANNUITY

 Contract between you and a company in which you make a lump-

sum payment or series of payments and, in return, receive regular

disbursements, beginning either immediately or at some point in the

future.
n
[(1+r) - 1]
FV of Annuity = P X
r
Compound Interest (5%) Annuity (5%)

[(1+r) n
FV of Annuity = P X - 1]
r
Copyright © 2006 Thomson Business and Economics. All rights reserved.
5–
5
 BUSINESS
MATHEMATIC
[ BADD 1013 ]
CHAPTER 4
ANNUITY AND SINKING FUND
Present Value and Future Value

Future Value Of Ordinary Annuity

Future Value Annuity Due

Present Value Of Annuity

Sinking Fund
 ANNUITY

KLIA KLCC
 ANNUITY

• Annuity method usually will be used in

i. Long term bonds – Bonds one of long term investment

where the borrower will paid series of payment to the lender.
ii. Insurance – Insurance company will use annuity method to
calculate the customer monthly premium.
iii. Project/machine – Not all financial institutions willing to
wired a loan for expensive project or machine.
 FUTURE VALUE ORDINARY
ANNUITY

[(1+r) n
- 1]
FV of Annuity = PX r

​P = Amount that will paid of received each annuity payment

r = Interest rate (also known as discount payment)

n = number of periods payments will received or paid.

 FUTURE VALUE ORDINARY
ANNUITY
[(1+r) n
- 1]
EXAMPLE 1 FV of Annuity = PX r
Calculate the future value if Jon deposited RM 600 every year for the
next of 5 years with 6% of interest.
P =RM 600, r = 6% @ 0.06 , n = 5
Solution Solution
FV annuity = 600 [((1+0.06)^5-1)/0.06] I = MV - P
= 600 [((1.06)^5-1)/0.06] I = 3382.02 – (600x5)
= 600 [(1.3382-1) /0.06] I = 3382.02 – 3000
= 600 [0.3382/0.06] = RM 382.02
= 600 [5.6367]
= RM 3,382.02
 FUTURE VALUE ORDINARY
ANNUITY
EXAMPLE 1
P =RM 600, r = 6% @ 0.06 , n = 5

FV for annuity
= 600 X [((1+ 0.06)^5 -1) / 0.06]
= 600 X [((1.338 – 1) / 0.06]
= 600 X 0.338 / 0.06
= 600 X 5.6333333
= RM 3,380 / 3,382
Interest = 3,380 – [3000 (600x5)] = RM 380
 FUTURE VALUE ORDINARY
EXAMPLE 2
ANNUITY
Calculate the future value if Lim deposit RM 300 semi-annually
every year for the next of 6 years with 8% of interest.
P= 300, r = 8%/2 = 4%, n = 6 x 2 = 12
Solution Solution
Fva = 300[((1+0.04)^12-1)/0.04] I = MV – P
= 300[((1.04)^12-1)/0.04] I = 4507.50 – (300x12)
= 300[((1.6010 -1)/0.04] I = 4507.5 – 3600
= 300[0.6010/0.04] I = RM 907.50
= 300[15.025]
= RM 4,507.50

[(1+r) n
FV of Annuity = P X - 1]
r
 FUTURE VALUE ORDINARY
ANNUITY
EXAMPLE 2
Calculate the future value if Lim deposit RM 300 semi-annually
every year for the next of 6 years with 8% of interest
P = RM 300, r = 8/2 = 4%@0.04, n = 6x2 = 12

FV annuity
= 300 X [((1+0.04)^12 -1) / 0.04]
= 300 X 15.0258
= RM 4507.74
Dividend = 4507.74 – (300 X 12)
4507.74 – 3600 = RM 907.74
 Principal Compounding Rate Time Maturity Interest
(Years) Value Earned

a. RM 900 Annually
EXERCISE
5% 18 900 (28.1323) 25319.15 – (900x18) =
=RM 25,319.15 RM 9,119.15
b. RM 2,900 Annually 8% 5 2900 (5.8666) = 17,013.14 – (2900x5)
RM 17,013.14 = RM 2,513.14
c. RM 7,500 Semi-annually 6% 10 7500(26.8703) 201527.25 – (7500x20)
r=0.06/ n=20 = RM 201,527.25 =RM 51,527.25
2=0.03
d. RM 9,200 Semi-annually 8% 5 9,200 (12.0061) 110,456.12– (9200x10)
r=0.08/ n=10 = RM 110,456.12 = RM 18,456.12
2 =0.04
e. RM 3,500 Quarterly 10% 7 3500 (39.8598) 139509.3 – (3500x28)
0.1/4= 7x4 = = RM 139,509.30 = RM 41,509.30
0.025 28
f. RM 6,900 Quarterly 4% 4 6900 (17.2579) 119079.51 – (6900x16)
0.04 /4 4x4 = RM 119,079.51 = RM 8,679.51
=0.01 = 16

[(1+r) n
- 1]
FV of Annuity = PX r
Copyright © 2006 Thomson Business and Economics. All rights reserved.
5–
14
 FUTURE VALUE ANNUITY DUE

 Annuity due are differ with ordinary annuity, where, ordinary

annuity pays/received the interest at the end of a each period.

 Whereas, annuity due, the payments/return are made at the

beginning of each period.

FV of Annuity
Due
= [ PX [(1+r) n - 1]
r - ] P
 FUTURE VALUE ANNUITY DUE
EXAMPLE 3
Mr. and Mrs. Thompson set up an trust fund program using an
annuity due with payments of RM 500 at the beginning of each
quarter. Find the amount of the annuity and the interest if
they make payments for 7 years into an investment expected to
pay 8%, compounded quarterly.
P = RM 500, r = 8% / 4 = 2% @ 0.02, n = 7 x 4 = 28
 FUTURE VALUE ANNUITY DUE
EXAMPLE 3
P = RM 500, r = 8/4 = 2%@0.02 , n = (7 X 4) + 1 = 29

FV annuity due
= [500 X [(1+0.02)^29) -1] / 0.02] – 500
= [500 X [(1.7758) -1] / 0.02] – 500
= [500 X [0.7758 / 0.02] – 500
= [500 X [38.79] – 500
= RM 19,395 – 500
= RM 18,895
Interest = 18,895 – (500 X 28) = RM 4,895

FV of Annuity
Due
= [
PX r ]
[(1+r) n - 1]
- P
 EXERCISE
Principal Compounding Rate Time Amount of Interest
Annuity Earned
a. RM 1,200 Annually 8% 5
b. RM 400 Annually 6% 6
c. RM 9,500 Semi-annually 4% 9 207,480
d. RM 1,800 Semi-annually 5% 6
e. RM 3,800 Quarterly 8% 3
f. RM 10,200 Quarterly 10% 5

FV of Annuity
Due
= [ PX [(1+r) n - 1]
r - ] P
5–
Copyright © 2006 Thomson Business and Economics. All rights reserved.
18
 PRESENT VALUE OF ANNUITY.
 Present value of an annuity is the current value of future payments

from an annuity, given a specified rate of return, or discount rate.

 Present value of an annuity refers to how much money would be

needed today, to fund a series of future annuity payments.

PV of Annuity = P X
1- [ 1
(1+r) n ]
r
 PRESENT VALUE OF ANNUITY.
EXAMPLE 5
Find the lump sum that must be set aside today to make end-of-month
payments of $1000 for 2 years, assuming 12% compounded monthly.

PV of Annuity = P X
1- [ 1
(1+r) n ]
r
 PRESENT VALUE OF ANNUITY.
EXAMPLE 5
Find the lump sum that must be set aside today to make end-of-month
payments of RM 1000 for 2 years, assuming 12% compounded monthly.

Solution
P = RM 1000, r = 0.12/12 = 0.01, n = 2 x 12 =
24
Solution
PV = 1000 x [(1-1/(1+0.01)^24)/0.01]
Fva = 1000[((1+0.01)^24-1)/0.01
PV = 1000 x [(1-1/1.270)/0.01]
FV = RM 26,973.46
PV = 1000 x [(1-0.7874)/0.01]
PV = 1000 x [0.2126/0.01]
PV = 1000 x 21.26
PV = RM 21,260

PV of Annuity = P X
1- [ 1
(1+r) n ]
r
 PRESENT VALUE OF ANNUITY.

PV of Annuity = P X
1- [ 1
(1+r) n ]
EXAMPLE 6 r
Utusan Group plans to accumulate funds ahead of time to purchase a computer
network. It deposits RM 4325 into an account at the end of each quarter for 5
years. The account pays 6% compounded quarterly.
(a) Find the future value of the annuity.
(b) Find the lump sum that must be deposited today to accumulate the funds needed
(the present value).
Principal Compounding Rate Time Maturity Present Value
(Years Value
EXERCISE
)
a. RM 900 Annually 5% 18 900 (28.1323)
=RM 25,319.15
b. RM Annually 8% 5 2900 (5.8666) =
2,900 RM 17,013.14
c. RM Semi-annually 6% 10 7500(26.8703)
7,500 = RM 201,527.25

d. RM Semi-annually 8% 5 9,200 (12.0061)

9,200 = RM 110,456.12

e. RM Quarterly 10% 7 3500 (39.8598)

3,500 = RM 139,509.30

f. RM Quarterly 4% 4 6900 (17.2579)

6,900 = RM 119,079.51

PV of Annuity = P X
1- [ 1
(1+r) n ]
 PRESENT VALUE OF ANNUITY.
[(1+r) n
FV of Annuity = P X - 1]
r
EXAMPLE 6
Utusan Group plans to accumulate funds ahead of time to purchase a computer
network. It deposits RM 4325 into an account at the end of each quarter for 5
years. The account pays 6% compounded quarterly.
(a) Find the future value of the annuity.
(b) Find the lump sum that must be deposited today to accumulate the funds needed
(the present value). Solution
Solution a.) Find FV
a.) Find FV FV = 4325 x [((1+0.015)^20 – 1)/0.015]
FV = P [((1+r)^n) – 1)/r] FV = 4325 x [((1.3469 – 1)/0.015]
P = 4325 FV = 4325 x [0.3469/0.015]
r= 6% / 4 = 0.015 @1.5% FV = 4325 x [23.1267]
n= 5 x 4 = 20 FV = RM 100,022.97
 PRESENT VALUE OF ANNUITY.

PV of Annuity = P X
1- [ 1
(1+r) n ]
EXAMPLE 6 r
Utusan Group plans to accumulate funds ahead of time to purchase a computer
network. It deposits RM 4325 into an account at the end of each quarter for 5
years. The account pays 6% compounded quarterly.
(a) Find the future value of the annuity.
(b) Find the lump sum that must be deposited today to accumulate the funds needed
(the present value). Solution
b.) Find PV
P=4325,r= 0.06/4 = 0.015, n = 5 x 4 = 20
PV = 4325 x [(1-1/(1+0.015)^20)/0.015]
PV = 4325 x [(1-(1/1.3469)/0.015]
PV = 4325 x [(1-0.7425)/0.015]
PV = 4325 x [17.169]
PV = RM 74,255.93
PRESENT VALUE OF ANNUITY.

Present
25 years old
60 – 25 = 35 year
Periodically saving =
Future value annuity Retirement Saving
RM 2,000,000
60 years old

Present
25 years old
2022
Lump sum amount =
Present value annuity
Principal Compounding Rate Time Maturity Present Value
(Years Value
EXERCISE
)
a. RM 900 Annually 5% 18 25,319 10,520.63

b. RM Annually 8% 5 17013.14 11578.86

2,900
c. RM Semi-annually 6% 10
7,500

d. RM Semi-annually 8% 5
9,200

e. RM Quarterly 10% 7
3,500

f. RM Quarterly 4% 4
6,900

FVA= P X [(1+r) n - 1]
PV = P X 1- [ 1
(1+r) n ]
r
 SINKING FUND
 A sinking fund is a type of fund that is created and set up purposely

for repaying debt. The owner of the account sets aside a certain

amount of money regularly and uses it only for a specific purpose

 Sinking fund occurs when the future value of an annuity is known

but the payment required each period to amount to that future value

is unknown
 SINKING FUND

Amount need to put aside Project

before maturity period RM 2,000,000
After 5 years
 SINKING FUND

 Businesses use sinking fund to accumulate money for such things

as buy a new equipment, facility expansion, insurance and other

expensive items.

 AMORTIZATION - Financial arrangement between two parties

where lump-sum amount plus with interest charges where paid off

by series of equal periodic payments for specified amount of time.

 SINKING FUND

 Formula for sinking fund is

r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
Example 7
Tropicana Corporation needs RM 100,000 in 5 years to pay off a bond
issue. Find the sinking fund payment is required at the end of each
month at 12% interest compounded monthly to meet financial obligation.
FV = RM 100,000, r= 12% /12 = 1%@0.01 , n = 5x12 = 60

SF = 100,000 x [(0.01 / ((1+0.01)^60 -1)]

r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
Example 7
Tropicana Corporation needs RM 100,000 in 5 years to pay off a bond
issue. Find the sinking fund payment is required at the end of each month
at 12% interest compounded monthly to meet financial obligation.
FV = RM 100,000, r = 12% / 12 = 1% @0.01, n = 5 X12 = 60
SF = 100,000 x [0.01 / ((1+0.01)^60 – 1)]
SF = 100,000 x [0.01 / (1.8167– 1)]
SF = 100,000 x [0.01 / 0.8167]
SF = 100,000 x [0.0122]
SF = RM 1,224.43
1,224.43 x 60 = RM 73,465.80
Interest = 100,000 – 73,465.80 = RM 26,534.20
r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
Example 7
Tropicana Corporation needs RM 100,000 in 5 years to pay off a bond
issue. Find the sinking fund payment is required at the end of each month
at 12% interest compounded monthly to meet financial obligation.
FV = RM 100,000, r = 12% / 12 = 1% @0.01, n = 5 X12 = 60

SF = 100,000 x [0.01 / ((1+0.01)^60 – 1)]

SF = 100,000 x [0.01 / (1.8167– 1)]
SF = 100,000 x [0.01 / (0.8167-1)]
SF = 100,000 x [0.01 / 0.8167]
SF = 100,000 x [0.0122]
SF = RM 1,224.43
r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
r
SINKING FUND = FV X (1+r) n - 1

Solution
P = RM 100,000, i = 12% / 12 = 1%, n = 5 x 12 = 60.
SF = 100,000 x [0.01 / ((1+0.01)^60 – 1)]
SF = 100,000 x [ 0.01 / (1.8669 – 1)]
SF = 100,000 x [0.01 / 0.816169]
SF = 100,000 x 0.0122445
SF = RM 1,224.45
 SINKING FUND
Example 8
Tenaga Nasional Berhad (TNB) needs RM 30,000,000 in 6 years to build
natural gas power plant. Find the amount needs to deposit at the end of
each quarter into a sinking fund, if funds earn 8% compounded quarterly.
FV = RM 30,000,000, r = 8%/4 = 2% @ 0.02, n = 6 x 4 = 24

SF = 30 mill x [0.02 / ((1+0.02)^24) – 1)]

SF = 30 mill x [0.02 / (1.6084 – 1)]
SF = 30 mill x [0.02 / 0.6084]
SF = 30 mill x [0.03287]

r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
Example 8
Tenaga Nasional Berhad (TNB) needs RM 30,000,000 in 6 years to build natural gas
power plant. Find the amount needs to deposit at the end of each quarter into a sinking
fund, if funds earn 8% compounded quarterly.
P= 30 mill, I = 8% / 4 = 2% @ 0.02, n = 6 x 4 = 24

SF = 30 mill x [0.02 / ((1+0.02)^24 – 1)]

SF =30 mill x [0.02 / 1.6084– 1)]
SF = 30 mill x [0.02 / 0.6084)]
SF = 30 mill x 0.03287
SF = RM 986,100
SF = 986,100 x 24 = RM 23,666,400
Interest earned = 30,000,000 – 23,666,400 = RM 6,333,600
r
SINKING FUND = FV X (1+r) n - 1
 SINKING FUND
Example 9

A public universities have decided to build a new sports complex with indoor
50-metres swimming pool with gymnasium. The cost is RM 16,500,000. The
universities decided to make end-of-quarter deposits into sinking fund
expected to earn 6% compounded quarterly. Find
a.) the sinking fund amount of each quarter.
b.) the interest earned.