Module 4 - Annuity

ANNUITY
• these are a series of uniform or equal receipts or
payments occurring at the end of each period for n periods
with i% per period.
Conventions
• P is the present equivalent value that occurs one interest
period before the first A (uniform amount)
• F is the future equivalent value that occurs at the same
time as the last A, and n periods after P
• A is the uniform amount that occurs at the end of each
period
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
TYPES OF ANNUITY
Ordinary Annuity
• payment is made at the end of each payment interval

Annuity Due
• payment is made at the beginning of each payment
interval

Deferred Annuity
• a situation where payments do not begin until some later
date.
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
FORMULAS
• Finding F when given A Finding A when given F

 (1  i ) n  1  i 
F  A  A  F 
 (1  i )  1
n
 i 

• Finding P when given A Finding A when given P

 (1  i )  1 n  i (1  i )  n

P  A n 
A  P 
 i (1  i )   (1  i )  1
n

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
FORMULAS
• Finding F when given A Finding A when given F

 (1  i ) n  1  i 
F  A  A  F
Uniform Series
Compound amount 
 (1  i )  1
n
 i  factor

• Finding P when given A Finding A when given P

 (1  i )  1 n  i (1  i )  n

P  A n 
A  P 
 i (1  i )   (1  i )  1
n

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
FORMULAS
• Finding F when given A Finding A when given F

 (1  i ) n  1  i 
F  A  A
Sinking fund  F
factor

 (1  i )  1
n
 i 

• Finding P when given A Finding A when given P

 (1  i )  1 n  i (1  i )  n

P  A n 
A  P 
 i (1  i )   (1  i )  1
n

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
FORMULAS
• Finding F when given A Finding A when given F

 (1  i ) n  1  i 
F  A  A  F 
 (1  i )  1
n
 i 

• Finding P when given A Finding A when given P

 (1  i )  1 n  i (1  i ) 
Uniform series
n

P  A n 
A  P
present worth

 i (1  i )   (1  i )  1
factor n

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
FORMULAS
• Finding F when given A Finding A when given F

 (1  i ) n  1  i 
F  A  A  F 
 (1  i )  1
n
 i 

• Finding P when given A Finding A when given P

 recovery  i (1  i ) 
 (1  i )  1Capital n n

P  A n 
A  P  
 i (1  i ) 
factor
 (1  i ) n
 1 
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.1 (ORDINARY)
• You borrowed $15,000 from your
credit union to purchase a used car.
The interest rate on your loan is 2%
per month and you will make a total
of 36 monthly payments. What is your
monthly payment?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.2 (ORDINARY)
• Ms. Paige has acquired a new printing
press machine. Due to insufficient funds,
she agreed to pay the seller equal $150
every month for 13 months. The company
charges an annual interest rate of 3.4%
compounded monthly. How much does
the machine cost?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.3 (ORDINARY)
• Martin wanted to have Php100,000 on his
bank account at the end of five years. The
bank charges 8% compounding quarterly.
Martin plans on placing the deposits every
end of month. How much should he
deposit?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.4 (DUE)
• Eight annual deposits of $1,500 were
made at the beginning of each year in an
account that pays 10% compound interest.
a. What will be the accumulated amount at
the end of eight years?
b. What is the present worth of the
deposits?
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.5 (DUE)
• Sarah wants to have $10,000 on her
account at the end of 5 years. If she plans
to place it on a bank having an interest
rate of 5% compounded annually and
make deposits at the beginning of each
year for five years, what should be her
annual deposits?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.6 (DEFERRED)
• A man, on the day that his son was born,
wishes to determine what lump amount
would have to be paid into an account
bearing interest of 12% per year to
provide withdrawals of $2,000 on each of
the son’s 18th, 19th, 20th, and 21st
birthdays.

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.7 (DEFERRED)
• During your first job, you opened an
account having an interest rate of 8% per
year wherein you made annual deposits of
$5,000. Five years later, you moved into a
new job and opened another bank
account. How much can you withdraw
from the first account 35 years later?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
PERPETUITY
Perpetuity
• It is a term for unlimited amounts of cash
flow.
Where:
A
P P = present worth of perpetuity
A = amount of cash flow
i i = interest rate for a given period

Source: http://www.moneyinstructor.com/doc/financeannuities.asp
Example 4.8
• You won a prize that entitles you to
receive Php 10,000 every month for the
rest of your life. If the interest rate is 12%
compounded monthly, what is the present
worth of perpetuity? If the interest is
compounding every three months?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Example 4.9
• You want to avail a life insurance that will
entitle your beneficiaries Php 100,000
every end of three months. The company
gives 15% interest compounded semi-
annually. How much should you pay for
the insurance now?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p104-130
Uniform (Arithmetic) Gradient
Cash Flow
A gradient is a series or sequence of cash flows
increasing by a constant amount.
(N-1)G
(N-2)G

(N-3)G
3G
2G
G

0 1 2 3 4 N-2 N-1 N

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Uniform (Arithmetic) Gradient
Cash Flow
Finding P when given G

1  (1  i) N  1 N 
P  G   N 
 i  i (1  i ) N
(1  i ) 
Finding A when given G
1 N 
A  G  
 i (1  i )  1
N

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Uniform (Arithmetic) Gradient
Cash Flow
Finding F when given G

1  (1  i)  1  N
F  G   N 
 i  i 

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
INCREASING GRADIENT CASH
FLOW – Example 4.10
An EOY cash flows are expected to be $1,000 for
the second year, $2,000 for the third year, and
$3,000 for the fourth year. If the interest is 15%
per year, it is desired to find
a. Present equivalent value at the beginning of
the first year
b. Uniform annual equivalent value at the end of
each of the four years.
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
INCREASING GRADIENT CASH
FLOW – Example 4.11
A series of end-of-year cash flows are given on the table
below.
At an interest rate of 15% year, determine the present
and future worth of the cash flow.
End of year Cash Flow
1 $5,000
2 $6,000
3 $7,000
4 $8,000
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
DECREASING GRADIENT CASH
FLOW – Example 4.12
A series of end-of-year cash flows are given on the table
below.
At an interest rate of 15% year, determine the present
and future worth of the cash flow.
End of year Cash Flow
1 $8,000
2 $7,000
3 $6,000
4 $5,000
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Example 4.13
A student expects that her savings will
increase by P500 each month. She deposits
her savings in a bank having an interest rate
of 3% per month. She made her deposits for
10 months straight, having an initial deposit
of P1,000. How much can she withdraw 5
months after her last deposit?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Geometric Sequence of Cash
Flows
• cash flow patterns are changing at an average rate ,
each period.
for f  i
Increasing f :

P
A1
i f
N
1  (1  i ) (1  f ) N
 

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Geometric Sequence of Cash
Flows
for f  i
Decreasing f :

P
A1
i f
N
1  (1  i ) (1  f ) N
 
For f  i

N
P  A1 N [(1  i ) ]
Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Example 4.14
• A series of cash flows starting at year 1
with $1,000 having a rate of increase of
20% per year after the first year, and
interest per year is 25%. Determine P, A,
and F in 5 years.

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Example 4.15

Jenny started her account with an initial

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Homework #3
Problem 1: Tess wanted to have P100,000 on her
bank account at the end of 8 years. She plans to
deposit an amount at the beginning of each
month at an interest rate of 3.5% compounded
quarterly.
a. What is her monthly deposits?
b. What is the present worth of these deposits?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Homework #3
Problem 2: You were entitled to receive $5,000 at
the end of six months for the rest of your life. If
the interest rate is 10% compounded monthly,
what is the present value of perpetuity?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Homework #3
Problem 3: Kate deposits P5,000 to her bank account every
year when she was in high school for four years to prepare
for her college degree. She took an engineering course and
since then, she stopped depositing to her bank account. Right
after graduation (she graduated on time), she got a job that
pays P250,000 a year. If she continues to deposit to the same
bank account P50,000 every year for 10 years, calculate the
future worth after 30 years if the deposits are made at the
end of each year and the bank pays 2% interest per year

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143
Homework #3
Problem 4: What end-of-month deposits for the
first six months should Joshua have if he is
planning to withdraw equal amounts of P4,000
for the tenth, eleventh, and twelfth month if the
bank is paying an interest rate of 2.2% monthly?

Source: Sullivan, William G., Elin M. Wicks and James T. Luxhoj. (2006). ENGINEERING ECONOMY, 13TH ED. Pearson-Prentice
Hall. p139-143