Chapter 2: Factors: How Time

and Interest Affect Money

Engineering Economy
ENMG 400

Outline

Single Amount Factors

Uneven Cash Flow Series
Even Cash Flow Series (A)
Arithmetic (Linear) Gradient (G)
Geometric Gradient (g)

Single-Amount Factors

One cash flow at one time

Goal: to determine the cash flow at a different time
P F or F P
Equation needed: F = P(1 + i)N
$1000
i = 4%
1

0
N (years)

Example: Single Amount Factor

You put $5,000 into a bank CD (certificate of deposit) for 3
years at 5% interest rate (interest is credited annually). How
much money will you have at the end of 3 years, assuming
you make no withdrawals?

Factor Notation
We can express the compound interest formula as
F P(1 i ) N
P F (1 i ) N

We can rewrite the formulas as:

Where

F P ( F / P, i , N )
P F ( P / F , i, N )
, , = (1 + )
, , = (1 + )

Look up on chart in
back of book.
Compound
Amount Factor

Present Worth
Factor
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Chart Table

Example using Chart

Excel Formulas: P and F

To find

Formula

Present Value (P)

=PV(rate, nper, pmt, [fv], [type])

Future Value (F)

=FV(rate, nper, pmt, [pv], [type])

Rate: interest rate (i)

Nper: number of periods (time, N)
Pmt: payment (annuity)
Pv: present value
Fv: future value
Type: specifies if payments occur at the beginning (1) or end (0) of the period. Default is 0.
Note: brackets indicate optional variables (the formula will compute without them). [fv]
and [pv] are assumed to be zero.
Note: PV and FV functions change the sense of the sign. Place a minus in front of the
function to retain the same sign.
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Excel (Same Example)

Uneven Cash Flow Series

Basic concept: treat each cash flow as a single cash flow
diagram, and add together
?

F3

F1

F4

N (years)

F5

F2
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Example: Uneven Cash Flow Series

Basic concept: treat each cash flow as a single cash flow
diagram, and add together
$400

$400

?
i = 4%

$350

$400

N (years)

$400

$600
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Excel
Solve the last problem using excel.

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Excel: Net Present Value

NPV function: calculates the net present value of a series of
future cash flows at a stated interest rate.
=NPV(rate,value 1,value 2,value 3, etc.)
NPV does not change the sign on the final answer like the PV,
FV, and PMT functions.
Any year with a 0 cash flow must have a 0 entered to ensure a
correct result.
Work Last Example.

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Summary for P/F and F/P

Net Present Value: for a series of future cash flows at a stated

interest rate.
=NPV(rate,value 1,value 2,value 3, etc.)

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Example

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Equal payment series

Scenario: pay or receive an equal amount every year, month,
etc.
Examples: loan repayment, automatic payroll deductions for
retirement
?

5
17

Equal payment series formulas

Uniform Series Compound Amount

(1 i) N 1
F A

Sinking Fund

i
A F

N
(1

i
)

Uniform-Series Present Worth

(1 i) N 1
P A
N
i
(1

i
)

Capital Recovery

i(1 i) N
A P

N
(1

i
)

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Equal payment series

Example: You receive $400 per year for five years. What is the
equivalent worth of these annual receipts in the present?

A=$400

3
i = 4%

5
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Example
How much money must carol deposit every year starting 1
year from now at 5.5% per year in order to accumulate $6000
seven years from now?

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Example: Equal payment series

IRAs (Individual Retirement Accounts) can be setup by anyone
earning income to save for retirement in a tax-advantaged
account. The current IRS limits are $5000 per year when you
are younger than 55 (pending income restrictions). If you
contribute $5000 to an IRA every year at age 24 until you
expected retire age (67), how much will you have if the
account earns 8% annually?
Draw a cash flow diagram
Calculate the amount you will have in the future

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Equal payment series charts

Uniform Series Compound Amount

= ( , , )

Sinking Fund

= ( , , )

Uniform-Series Present Worth

= ( , , )

Capital Recovery

= ( , , )

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Chart Table

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Example
How much money should you be willing to pay now for a
guaranteed $600 per year for 9 years, starting next year, at a
rate of return of 16% per year?

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Excel Formulas (Appendix A)

To find

Formula

Present Value (P)

=PV(rate, nper, pmt, [fv], [type])

Future Value (F)

=FV(rate, nper, pmt, [pv], [type])

Annuity (A)

=PMT(rate, nper, pv, [fv], [type])

Rate: interest rate (i)

Nper: number of periods (time, N)
Pmt: payment (annuity)
Pv: present value
Fv: future value
Type: specifies if payments occur at the beginning (1) or end (0) of the period. Default is 0.

Note: brackets indicate optional variables (the formula will compute without them). [fv]
and [pv] are assumed to be zero.
Note: PV, FV, and PMT functions change the sense of the sign. Place a minus in front of the
function to retain the same sign.
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Example using Excel

Work last problem in Excel

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Summary for P/A and A/P

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Summary for F/A and A/F

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Linear or (Arithmetic) Gradient Series

In some cases cash flows increase by a fixed amount in each
time period
G: gradient; amount of increase each period
Note: starts at n=2 for formulas
(N-1)G

P=?

4G
3G
2G
G

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Linear Gradient Series

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Linear Gradient (G) Present Worth (P)

Where Pg is the equivalent at time 0 of the linear cash flow series with
gradient G (i.e. the series having G, 2G, 3G,, [n-1]G).
(N-1)G

P=?

4G
i=5%

3G
2G

G=$100

N=6
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Linear Gradient (G) Future Worth (F)

Where Fg is the future equivalent at time n of the linear cash flow series
with gradient G.
F=?

4G
i=5%

(N-1)G

3G
2G

G=$100

N=6

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Linear Gradient (G) Equal Payment (A)

i=5%

i=5%

0 1 2 3 4 5 6 7

0 1 2 3 4 5 6 7

G=$100

A=?

Note: To use the formulas as is

-Gradient series starts with n=2
-Equal payment series starts with n=1
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Linear Gradient Series

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Increasing Gradient Series

P=?
i=5%

i=5%

A1=$100

i=5%

G=$50

Note: P (n=0) MUST match for both series

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Decreasing Gradient Series

P=?

i=5%

A1=$600

G=$100

What is the present worth?

What if we were looking for future worth?
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Example: Linear Gradient

this

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Geometric Gradient (g) to Present Worth (P)

Percentage increasing/decreasing cash flow

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Geometric Gradient (g) to Annuity (A) or Future (F)

It is possible to derive factors for the equivalent A and F
values; however, it is easier to determine the Pg amount and
then multiply by the A/P or F/P factor.
Ag = Pg (A/P, i, n)
Fg = Pg (F/P, i, n)

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Example: Geometric Gradient

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Excel for Linear and Geometric Gradient

There are no direct spreadsheet functions for linear and
geometric gradient series. Once the cash flows are entered, P
and A are determine using the NPV and PMT functions,
respectively.

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Factor Values for Untabulated i or n Values

How to determine a factor value (e.g. P/F, F/A, A/P, etc.) with
an i or n that is not listed in the charts in the back of the book.
Given i and n, there are several ways to obtain any factor
value:
Use the Factor Formula (in previous slide)
Use an Excel Function (next slide)
Use Linear Interpolation (second next slide)

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Excel: Determining Factor Values

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Interpolation: Determining Factor Values

1
1
=
2 1
2 1

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Example
Determine the P/A factor value for i = 7.75% and n = 10 years,
using the three methods described previously.

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Finding i or n
Determining i or n for known cash flow values
Using Excel (below)
Using the tables (find the factor value and interpolate in the tables)
Using the factor formulas

Using Excel to find:

Interest (i)
=IRR(first_cell:last_cell)
=RATE(n,A,P,F)
Number of periods (n)
=NPER(i%,A,P,F)
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Example
If Laurel made a $30,000 investment in a friends business and
received $50,000 5 years later, determine the rate of return
using:
Excel
Tables in the back of the book (round up)
Factor Formulas

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Example
A cement factory makes an investment of $200 million and
expects an annual revenue of $50 million for future years.
Determine the number of years required to generate 10%,
15%, and 20% per year returns on the investment.

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