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Engineering Economics

Chapter 3
Cash Flow Analysis - II

3-1

Example: Uneven Multiple Cash Flows, but we separate

(decompose) these into single cash flows!
How much do you need to deposit today (P) to withdraw \$25,000
at n =1, \$3,000 at n = 2, and \$5,000 at n =4, if your account earns
10% annual interest?
\$25,000

\$5,000

\$3,000
0
1

Notice that in this example, using the factor seems to be

easier than using the equation!

3-3

Example: Future Value of an Uneven Cash

Flows with Varying Interest Rates
Given: Deposit series as given over 5 years
Complicated

Example: Future Value of an Uneven Series

with Varying Interest Rates
Given: Deposit series as given
over 5 years

So far, for single cash flow problems, we can

use one of the following approaches:
1. Use the equations

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

2. Use the Compound Interest Factors (the tables)

Compound Amount Factor : (F/P, i, N)
Present Worth Factor:
(P/F, i, N)
3. In addition, we can use the Excel Spreadsheet
Functions
3-6

(Textbook p.50)

3-7

Single Cash Flow - Finding the Future Value F=?

3-8

In Excel: FV function
Syntax

Rate
Nper
Pmt
Pv
Type

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

Required. The interest rate per period. (e.g. 10%/12, or 0.83%, or 0.0083)
Required. The number of periods.
Optional. The payment made each period (annuity).
Required. The present value (required if Pmt is omitted).
Optional. The number 0 or 1 and indicates when payments are due. If type is
omitted, it is assumed to be 0.

Syntax
Rate
Nper
Pmt
Fv
Type

PV(rate, nper, 0, - fv, [type])

Required. The interest rate per period. (e.g. 10%/12, or 0.83%, or 0.0083)
Required. The total number of periods.
Optional. The payment made each period (annuity).
Required. The future value, (required if Pmt is omitted)
Optional. The number 0 or 1 and indicates when payments are due.

Syntax

Nper
Pmt
Pv
Fv
Type

Required. The total number of periods.

Required. The payment made each period (annuity). If pmt is omitted, you must
include the fv argument.
Required. The present value.
Optional. The future value. If fv is omitted, it is assumed to be 0.
Optional. The number 0 or 1 and indicates when payments are due.

periods N=?

Syntax

Rate
Pmt
Pv
Fv
Type

Required. The interest rate per period.

Required if no Fv value specified. If no annuity, Pmt=0.
Required. The present value.
Optional. The future value. If fv is omitted, it is assumed to be 0.
Optional. The number 0 or 1 and indicates when payments are due.

Annuity: series of N receipts or disbursements that begin

at end of period 1 and continue to end of period N.
Notice that if there is any cash flow occurred at period
0, it can not be considered as part of the series cash
flows, even though the amount is the same as A!
loan payments are classical examples of annuities.

N-1

..
0

..

3 - 15

To find a series of N receipts/disbursements (A) that

should be set aside each period in order to meet a major
financial need in the future (F)

i
( A, F , i, N ) =
N
(1 + i ) 1

3 - 16

(contd)

Is used to compute how much to be set aside each

period to repay a present use of money.
easily derived from the sinking fund factor and the
uniform series compound amount factor:

( A / P, i , N ) = ( A / F , i , N )(F / P, i , N )
=

i (1 + i )N
(1 + i )N 1

3 - 17

How did we get these equations?

Example: Find the Equation for F, given A, i, N
F

A(1+i)N-2
A

A
A(1+i)N-1

0 1 2

0 1 2

(1 + i) 1
N 1
N 2
F = A(1 + i) + A(1 + i) + + A = A

How did we get these equations?

Example: Find the Equation for F, given A, i, N
N

+
1
(1
i
)
N 1
N 2
F = A(1 + i) + A(1 + i) + + A = A

Based on the above equation, we can also derive the

Equation for finding P, given A, i, N as
N

+
1
(1
i
)
N 1
N 2
F = A(1 + i) + A(1 + i) + + A = A

(1 + i ) N 1
P = A
N

+
i
i
(
1
)

Equations
- Find P given F

F
P=
(1 + i ) n

- Find F given P

F = P (1 + i ) n

- Find A given F

i
A = F

n
(1 + i ) 1

- Find A given P

i (1 + i ) n
A = P

n
(
1
+
)

1
i

- Find F given A

(1 + i ) n 1
F = A

(1 + i ) n 1
P = A
n

+
i
(
1
i
)

- Find P given A

Practice Problem 3.5a

A Ford Mustang costs \$17 000. It can be financed at
5.9% for 48 months, with monthly compounding. How
much will the monthly payments be?

i = 0.059/12 = 0.00492 per month
A = P(A/P, i, N) = \$17 000(A/P, 0.00492, 48) =
\$398.50

i (1 + i ) n
A = P

n
(
1
+
)

1
i

3 - 21

3.5 Compound Interest Factors for Annuities (contd)

Uniform Series Compound Amount Factor:
inverse of the sinking fund factor: (A/F, i, N)
used to compute the total amount saved at the end
of a regular savings plan

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

3 - 22

What is the present worth of a series of 15 annual

payments of \$1000 each, when the first payment is
now and the interest rate is 5%, compounded
monthly?