TVMA

( TIME VALUE OF MONEY ANALYSIS )

Time Value of Money Analysis is also called the discounted cash flow
analysis.
Let us review the primary goal of financial management, that is to
maximize the value of the firms share in order for a financial manager to
realize this goal, it is pivotal that he/she must be an expert in doing
TVMA. In the day to day function of a financial manager he/she would
be doing DCFA. Some of the situations that financial managers are
tasked to do, which use skills in TVMA are:
1. Evaluating new project proposals that would entail cash inflow as well
as outflow.
2. Assessing whether or not the company would need to acquire or
merely lease an equipment it may need for operation.
3. Managing and valuing cash funds like sinking funds and bond
redemption funds, pension funds, and employee benefits.
4. Managing and valuing receivables specificaaly for banks having long-
term loan receivables handle and
5. Managing and vauing long term obligations like bond payable where
refunding a bond issued is concerned.
In all this situations, a financial manager may be asked to know the
present or future value of cash inflows and cash outflows.

Making Capital Outlay Decisions

Financial managers may need to evaluate and assess new project

proposals or do “ buy-orlease” decisions. These decisions entails capital
outlays on the part of the entity. It is important that financial manager
use mathematical toos of the TVMA as the primary step in making
decisions involving capital outlay.

An important TVMA concept one must keep in mind is that in making

financial decisions that involves comparing two amounts of different
time periods, both amounts must first be converted into the same time
value. This would mean that if we compare one amount pegged from a
current and one amount pegged from a future value, both amounts
must first be valued at the same time period before they can be
correctly compared. There is no sense in comparing a present valued
amount to a future valued amount.
FUTURE VALUE WITH A SINGLE AMOUNT OR FUTURE VALUE OF P1

The P1 you have today is worth more than P1 that you would receive a
year from now. This is si becayse uf tiy gave P1 now and invest it, you
would receive more than just P1 value of a single amount or the future
value of P1 is computed.

Gapenski said that the process of going from today’s values, or present
values (PV), to future values is called compounding. This is because the
interest is added to the principal to compute the interest of the next
period. In other words, the interest earns interest, thus the term
“compounding”.

Assume that on January 1,2020 JonJon invested P100,000 in a financing

company. Jonjon would like to find out what would be the worth of his
P100,000 after 5 years with an interest rate pegged at 8%.

Itemized method
December 31, 2020 P100,000 X 1.08 P 108,000
December 31, 2021 P 108,000 X 1.08 P 116,640
December 31, 2022 P 116,640 x 1.08 P 125,971
December 31, 2023 P 125,971 X 1.08 P 136,049
December 31, 2024 P 136,049 X 1.08 P 146,933
Based on the computation above, JOnjon’s P100,000 is woerth P
146,933 after 5 years. This may appear simple but in actual practice, the
period covered can be longer. It is for this reason that a mathematical
model method was designed to simplify the computation.

Mathematical Model Method

The basic formula to compute the future value is
FVn = PV ( 1 + I )n

Where: FV = future value of an amoung

n = number of periods
Pv = present value of an amoung
I = interest rate
If we apply the formula for Jonjon query of investment

FV = P 100,000( 1 + .08 )5
= P 100,000 ( 1.08) 5
+ P 146,933

Using Interest Tables ( Tabular Method )

The mathematical formula may be modified by using a present value and
future value table. The future value table can be seen at the appendix of
any book or in the internet. With the table you can determine the
future value interest factor or simply future value factor.

FV = P 100,000 X FV factor of P1
= P100,000 X 1.469 --- taken from the future value table
= P 146,900
The difference in the answers using the different methods is due to the
rounding off of the future value factor.

What are future value factors of P 1 and present value factors of P1?

The future value factor is actually the ratio or the relationship of the
future value of an amount to its present value. This factor is essential in
computing the future value of an amount that is received or paid only
once in the present.

On the other hand, the present value factor is the ratio or relationship of
the present value of an amount to its future value. The pVF of P1 is used
to compute the present value of an amount that is received or paid only
once in the future.

Using a financial calculaor

If you have a financial calculator, the calculator has present value and
future value formula programmed in its system. The following cariable
are merely entered into the calculator to facilitate computations:

N OR n - number of periods
I or I or I.Yr - interest rate per period
PV - present value
FV - future value
 PMT - amount received or paid

The PMT is used if there is a series of equal cash inflows ( receipts) or

outflows (payments) PMT is zero (0) if there is no series of equal cash
flows. Merely enter the amounts on the variables provided by the
calculator and the PV or FV are computed.

Using a regular calculator to Compute the FV factor of P1

Although the future value factor can be seen in the future value table,
you can compute the future value factor by simply using a regular
calculator.

The future value factor of P1 for an 8% interest can be computed by:

Tyoe in 1.08
Press “x” or multiplication function twice
Press”=” and the result will be 1.1664; this is FV factor for the 2 nd year
Press “=” and the result will be 1.2597; this is FV factor for the 3 rd year.
Press the “=” until the 5th year - 1.4693; this the FV factor for the 5th year.
This factor is the same figure found in the FV factor table.

If the number of years is 8 years then press the “=” 7 times. IF the
number of years is 10 then press”=” 9 times.

Assume that Enzo company is to make an annual investment of

P200,000 for four years. The interest for this inv estment was
pegged at 9%. The investment is made every year-en. What is the future
value of this annuity?

FV = amount periodically received or paid { (1 + I)n -1}

= 200,000 X { (1 + .09 )4 -1}
= P 914,620

Interest rate is 9% for 4 years. Compute the FV annuity factor for 4 years

The future value factor of P1 for a 9% interest can be computed by

* Type in 1.08
*Press “x” or multiplication function twice
* Press”=” and the result will be 1.164; this is FV factor for the 2nd year
* Press”=” and the result will be 1.2597; yhis is FV factor for the 3 rd year
* Press “=” until the 5th year - 1.4693l; this the FV factor for the 5th year.
This factor is the same figyre found in the FV factor table.

If the number of years is 8 years then press the “=” 7 times. IF the
number of years is 10 then press “=” 9 times.

FUTURE VALUE WITH SEVERAL AMOUNTS ( ORDINARY ANNUITIES )

What we have discussed is the future value of a single amount or the

future value of P1. This means that the future value we have computed
is a value of an amount we would receive or pay once in the future.
However, what if we are going to receive or pay something for several
consecutive periods in equal amounts? For instance, if we are to receive
P1 million in 5 years, and we will receive the whole amount on a
staggered basis, that means we will receive P 200,000 each year for the
next 5 years. Thus, we need to compute the future value of several
equal amounts ( P 2oo,ooo) annually for the next 5 years.

Therefore, the future value of several amounts or fututre value annuity

must be computed if the company receives or pays a serieis of equal
amounts.

Example:
Assume that Enzo company is to make an annual investment of
P200,000for four years. The interest for this investment was pegged at
9%. The investment is made every year-end. What is the fututre value
of this anuity?

Long Method

Table 2
Table of Computation
Period Amount FV factor of P1 Future Value
Invested
th
Dec 31 - 4 year P200,000 1.00 P 200,000
Dec 31 - 3rd year P200,000 1.09 218,000
Dec. 31 - 2nd yr P 200,000 1.1881 237,620
st
Dec. 31 - 1 yr. P200,000 1.2950 259,000
FV Annuity 4.5731 P914,620
Factor
Future value
Annuity

In this solution, we computed the FV of each single amount and added

them to get the future calue annuity. The future value factor of P1 is
taken from the FV factor table.

Note: that in computing the FV annuity, the table started from Year End
4. Why is this so? We can view it this way. If Enzo is going to invest or
save P 200,000 at the end of each year for the next 4 years. How much
would Enzo receive after 4 years if the funds grew with 9% interest?

Interpretation

Let us break down the interpretation. You may place a check mark on
your table as you go through each interpretation. Take note that the
end of the 4th year is the end of investment period.

* If Enzo invested P 200,0000 at the end of year 1, he would receive P

259,000 at the end of the investment period.
* If Enzo invested another P 200,000 at the end of year 2 he would
receives P 237,620 at the end of the investment period.
* If Enzo invested another P200,000 at the end of year 3, he would
receive P 218,000 at the end of the investment period .
* Lastly, if Enzo invested another P 200,0000 at the end of year 4, he
would receive P 200,000 at the end of the investment period which is
also the end of year 4.
* Because Enzo invested P 200,000 each year for the past 4 years. Enzo
will receive a griss amount of P914,620 for his investments. This
explains the figures in the table.

SHORT METHOD

This solution above is a long method of computing ordinary annuity. A

shorter solution is presented below:
FV Annuity = Amount periodically received or paid X FV Annuity factor
= P 200,000 X 4.5731
= P 914,620
This FV annuity factor is taken from the FV Annuity factor table usually
at the back of your book or you can find a table in the internet. If you
look at the table of computation and add the FV factor of P1, you will get
the sum of 4,5731. This is the same FV Annuity Factor found in the FV
annuity Factor Table.

USING MATHEMATICAL FORMULA FOR FUTURE VALUE ANNUITY

Both long and short method used in computing future value annuity
utilized the Table of Future Value Annuity. However, a formula may be
used in computing the FV annuity.

FV Annuity = Amount periodically received or paid { ( 1 + i ) n - 1}

i
4
= P200,000 X { ( 1 + .09 ) - 1 }
.09
= P 914,620

USING A REGULAR CALCULATOR TO COMPUTE THE FV ANNUITY FACTOR

The future value annuity factor can be seen in the future value annuity
table, you can compute the factor by simply using a regular calculator.

Example1: Interest rate is 9% for 4 years. Compute the FV annuity

factor for 4 years.

The future value factor of P1 for a 9% interest can be computed as:

1. Type 1.09
2. Press “x” or multiplication function twice.
3. Press “=” thr trdi;y eo;; nr 1.1881 - this is FV factor for the end of the
2nd period. ( 4 years - 2 years) always subtract two years. The two
years is for the last two years of investment period. Two is a constant
in this procedure.
4. Press “m+”
5. Press”=” the result will be 1.2950 - this is FV factor for the end of the
1st period. Press “m+”
6. Press “mr”or memory recall the amount will show - 2.4831
7. 7, Add 1.09 ( for the end of the 3rd period ) + 1.00 ( for the end of the
4th period ) the result will be the FV annuity factor of 4.5731. This
factor is the same figure found in the FV Annuity Factor table.
FUTURE VALUE WITH SEVERAL AMOUNTS ( ANNUITY DUE )
The preceding examaple assumes that the receipt or payment of the
amount is at the end of the period. But what if the receipt or payment is
made at the beginning of the period?

EXAMPLE:
Let us use the data of Enzo Company. Assume that Enzo is to make
annual investments of P200,000 for four years. The interest for this
investment was pegged at 9%. The investment is made at the beginning
of each year. What is the future value of this annuity due?

Table 3
LONG METHOD
Period Amount FV Factor of P1 Future Value
Invested
Jan 1 - 4th year P 200,000 1.09 P 218,000
Jan 1 - 3rd yr P 200,000 1.1881 237,620
Jan 1 - 2nd yr P 200,000 1.2950 259,000
Jan 1 - 1st yr P 200,000 1.4116 282,320
FV Annuity 4,9847
Factor
Future Value P 996,940
Annuity Due

Notice the difference between FV ordinary annuity, FV annuity due, and

the period columns for Tables. Under annuity due, the payment or
receipt of cash is at the beginning of the year, so we compute the FV
annuity table at the beginning ( January 1 ), not the end of year 4.

Did you notice that the FV of annuity due (Table 3) is much higher than
the FV of ordinary annuity in Table 2? The reason is that the investment
is done at an earlier date (beginning of the year), naturally more interest
would be earned. Therefore, the FV of annuity due is bigger in
comparison to the FV of ordinary annuity.

We can view it this way: if Enzo is going to invest or save Php 2000,000
at the beginning of each year for the next 4 years, how much would Enzo
receive after 4 years if the funds grew with 9% interest? This can be
answered by interpreting Table 3.
In the solution, we computed the FV of each single amount and added
all the future values of the single amount to get the future value annuity.
The future value factor of Php 1 is taken from the FV Factor Table.

Interpretation and Discussion of Table 3

Let us break down the interpretation. You may place a check on Table 3
(similar to what you did in Table 2) as you go through each
interpretation. Take note that the end of the 4th year is the end of the
investment period.

1. Table 3 purports that is Enzo invested Php 200,000 at the

beginning of the 1st year, he would receive Php 282,320 at the end of the
investment period.

2. If Enzo invested another Php 200,000 at the beginning of the 2 nd

year, he would receive Php 259,000 at the end of the investment period.

3. If Enzo invested Php 200,000 at the beginning of the 3 rd year, he

would receive Php 237,620 at the end of the investment period.

4. Lastly, if Enzo invested another Php 200,000 at the beginning of

th
the 4 year, he would receive Php 218,000 at the end of the investment
period (which is also the end of the year 4).

5. Because Enzo invested another Php 200,000 each year for the past
4 years, he will receive a gross amount of Php 996,940 for his
investments. This explains the figures in the Table 3.

Short Method

Te solution above is a long method of computing annuity due. A shorter

solution is presented below:

FV Annuity = Amount periodically received or paid x FV annuity factor

= Php 200,000 x 4.987
= Php 996,940

The FV annuity factor is taken from the FV annuity Factor Table (see
Appendices). Note that if you look at the table of computation, and add
the FV factor of Php 1 you will get the sum of 4.987. This is the same FV
Annuity Factor found in the FV Annuity Factor Table.

Using a Regular Calculator to Compute the FV Annuity Due Factor

Although the future value annuity due factor canbe seen in the future
value annuity table, you can compute the future value annuity due
factor by simply using regular calculator.

Example 1: Interest rate of 9% for 4 years. Compute the FV annuity

factor for 4 years.

The future value factor of Php 1 for a 9% interest can be

computed by (use Table 3 as reference):
1. Type 1.09.
2. Press “x” or multiplication function twice.
3. Press “=” the result will be 1.1881; this is the FV factor for the
beginning of the 3rd period. (4 years - 1 year) Always subtract one year.
We use one, not two years, because we have invested the money a year
earlier or the the beginning of the year as compared to ordinary annuity.
One is a constant in this procedure.
4. Press “m+”.
5. Press “=” the result will be 1.2950; this is FV factor for the
beginning of the 2nd period.
6. Press “m+”.
7. Press “=” the result will be 1.4116; this is FV factor for the
beginning of the 1st period.
8. Press “m+”.
9. Press “mr” or memory recall and the amount will show - 3.8947.
10. Add 1.09 (for the beginning of the 4th period) and the result will be
the FV Annuity factor of 4.987. This factor is the same figure found in
the FV Annuity Factor Table.

PRESENT VALUE WITH A SINGLE AMOUNT OR PRESENT VALUE OF Php 1

The present value is the opposite of the future value we have just
discussed. Reviewing the Donjon’s example in the future value with a
single amount topic, we can see that if the company invests Php 100,000
he would get Php 146,933 given an interest rate of 8% five years in the
future. We may now reverse our perspective, that is if Donjon would
like to receive Php 146,933 five years in the future with 8% interest, he
would have to invest Php 100,000 today. Stated differently, Php
146,933’s present value with 8% interest rate or discount rate is Php
100,000.

Notice that interest rate is also termed as discount rate. This is related
to the fact that finding the present value of a future value is called
discounting. Relating this to our previous knowledge-finding the future
value of a present value is called compounding. Remember?

It is worth reiterating that the present value factor of Php 1 is actually

the ratio or relationship of the present value of an amount to its future
value. The present value of a single amount pertains to the present
value of an amount to be received once in the future.

The Mathematical formula used to compute the present value of an

amount is taken from the formula for future value:

Future Value - FV = PV ( 1 + I ) n

Present Value - PVn = FV { 1 }

n
(1+i)

Example:
Assume that Tria Corporation would like to know the amount of
invesetment it will make in order to yield an amount of P 100,000 which
it will receive three years from now. Assume that the discount rate for
this type of investment is 25%.

Period Computation Future Value of P1

After First Year P 1 X 1.25 P 1.25
After 2nd year P 1.25 X 1.25 P 1.5625
After Third year P 1.5625 X 1.25 Pn1.9531

Based on the computations, we can see that the future value of P 1 in

three years with an interest rate of 25% would be P 1.9531. Now if we
are to apply the concept that PVF is the ratio or relationship of the
present value (P1.0) to its future value (P1.9531) then:
PVF = Present Value/ Future Value
= P1.0 / P1.9531 =0.512
To compute for the present value of a single amount or P1:

PV of an amount = Amount to be received or paid X PVF

PV of P 100,000 = P 100,000 X 0.512
= P 51,200 or

PV of an amount = FV { 1 }
n
(1+I)

PV of an amount = P100,000 { 1 }
3
( 1 + .24 )

= P 51,200

INTERPRETATION OF P 51,200:

The computed amount of P 51,200 is the present value of P100,000 ( the

amount to be received in the future); or you can say that P100,000 is the
future value of P51,200.

Implication to Tria Corporataion:

This would mean that Tria needs to invest P51,200 today in order to
yield P 100,000 return three years from now.

Computing the Present Value of P1 Factor

A. Throught the Formula

PVF = { 1 }
n
(1+i)
Notice that this formula is thee one found in computing the PV of an
amount.

B. Through the Present Value Factor Table

The present value factor of P1 can be seen the in Present Value
Factor in the back of the book or in the internet. The “n” is the number
of periods and the interest rate is 25%.
C. Through the use of Regular Calculator
In the absence of a scientific calculator or financial calculator or the
table of PV Factors, you can still compute the PVF using a regular non-
scientific calculator. Do the following steps using our Tria Corporation
example:

1. Type in 1.25
2. Press “/” or division symbol twice.
3. Press”=” the result will be 0.8 - this is the PVF of P1 for the 1 st year
4. Press “=” the result will be 064 - this is the PVF of P1 for the 2 nd year
5. Press”=” the result will be 0.512 - this is PVF of P1 for the the 3 rd year.