Big Picture

Week 4-5: Unit Learning Outcomes (ULO): At the end of the unit, you are expected to

a. Discuss the nature and purpose of financial management;

b. Explain the role of finance managers;
c. Discuss the use and implications of the time value of money to financial management and
company as a whole; and
d. Apply the concept present value and future value of money.

Big Picture in Focus:

ULOa. Discuss the nature and purpose of global finance.

ULOb. Explain the role of finance managers.

Metalanguage

In this section, the most essential terms relevant to the study of curriculum and to
demonstrate ULOa and ULOb will be operationally defined to establish a common frame of
refence as to how the texts work in your chosen field or career. You will encounter these terms
as we go through the study of curriculum. Please refer to these definitions in case you will
encounter difficulty in the in understanding the nature and purpose of financial management.

Proprietorship. A form of business organization that is unincorporated and is

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 owned by one individual.
Partnership. A form of business organization that is unincorporated that is
owned by two or more persons.
Corporation. A legal entity by a state, separate and distinct from its owners and
managers, having unlimited life, easy transferability of ownership, and limited
liability.
Finance. Art and science of managing money.
Economics. Provides a structure for decision making in the area of risk analysis;
it also provides a broad picture of the economic environment that affects the
business.
Accounting. It is considered as the language of finance because it provides
financial data through financial statements.
Financial Management. It refers to capital procurement, funds allocation, capital
restructuring, and profit administration which involves financial planning, analysis
of financial condition and supervision of financial operations.
Treasurer. Responsible for the firm’s financial activities including financial
planning, raising funds, making capital budgeting decisions and managing the
firm’s working capital. It is also known as the Chief Financial Manager.
Controller. In-charge of the firm’s accounting activities such as corporate
accounting, tax management, financial accounting, and cost accounting. It is also
known as the Chief Accountant.
Stockholder Wealth Maximization. The primary goal for managerial decisions;
considers the risk and timing associated with expected earnings per share in
order to maximize the price of the firm’s common stock.

Essential Knowledge

To perform the aforesaid big picture (unit learning outcomes) for the first three
(3) weeks of the course, you need to fully understand the following essential knowledge
that will be laid down in the succeeding pages. Please note that you are not limited to
exclusively refer to these resources. Thus, you are expected to utilize other books,
research articles and other resources that are available in the university’s library e.g.
ebrary, search.proquest.com etc.

In business, Financial Management problems are inevitable, no matter what the

size of your business is. For example, if you were to start a small business of your own,
you must develop a plan. This plan covers what assets or other resources will the
business require. The purchase of these resources can require substantial funds. Thus,
Financial Management is essential.

1. Finance. It is the art and science of managing money. The field of finance is

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 closely related to economics and accounting. Thus, a financial manager
must understand both economics and accounting.
1.1 Economics. Provides a structure for decision making in the area of risk
analysis. It also provides a broad picture of the economic environment
that affects the business.
1.2 Accounting. It is considered as the language of finance because it
provides financial data through financial statements.

2. Financial Management. It refers to capital procurement, funds allocation,

capital restructuring, and profit administration which involves financial
planning, analysis of financial condition and supervision of financial
operations. Financial management endeavors to make optimal investment,
financing, and dividend/share repurchase decisions.

2.1 Scope of Financial Management. It covers:

● Working Capital Management
● Investment/Portfolio Analysis
● Capital Investment Analysis
● Capital Structure
●
2.2 Financial Manager. A financial manager actively handles the financial
affairs of the business firm. His/her tasks involves:
● Financial Planning and Forecasting
● Making Investment and Financing Decisions
● Risk Management

2.3 Goal of Financial Management. As stated on the discussion of Week

1-3, the goal of financial management is more than just profit maximization.
It is value maximization or maximizing shareholders’ wealth.

3. Forms of Business Organization. The key aspects of financial management

are the same for all businesses, large or small, regardless of how they are organized.
Still, its legal structure does affect some aspects of a firm’s operations and thus must
be recognized. There are three main forms of business organization:

3.1 Sole Proprietorship. It is an unincorporated business owned by an individual.

Going into business as sole proprietor is easy – merely begin business operations.
This form is primarily used for small businesses

SOLE PROPRIETORSHIP
ADVANTAGES DISADVANTAGES
Easy and inexpensive to Proprietors have unlimited

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 form personal liability for the
business debts, which can
result in losses that exceed
the money they have
invested in the company.
Difficulty for
Subject to few
proprietorships to obtain
government regulations
large sums of capital
The life of a business
Subject to lower income organized is limited to the
taxes than corporations life of the individual who
created it.

3.2 Partnership. It is a legal arrangement between two or more people who decide to do
business together. They can be established easily and inexpensively. They are also not
subject to corporate income tax.

PARTNERSHIP
ADVANTAGES DISADVANTAGES
Easy and inexpensive to form Unlimited personal liabilitya
Not subject to corporate income tax Difficulty in raising capital
Limited lives
a
Unlimited Personal Liability – Under Partnership Law, each partner is liable for the business’s debts. Therefore,
if any partner is unable to meet his/her pro rata liability and the partnership goes bankrupt, then the remaining
partners are personally responsible for making good on the unsatisfied claims.

3.3 Corporation. It is a legal entity created by a state, and it is separate and distinct from
its owners and managers .

CORPORATION
ADVANTAGES DISADVANTAGES
High cost of setup and
Unlimited life
report filing
Limited liabilityb Subject to double taxationc
It is easier to transfer one’s
ownership interest (stock) in a
corporation than one’s interest in a
nonincorporated business.
It is much easier for corporations to
raise the capital necessary to
operate large businesses.
bLimited Liability - their owners are not subject to losses beyond the amount they have invested in the business
c
Double Taxation - the earnings of the corporation are taxed at the corporate level, and then, when after-tax earnings

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 are paid out as dividends, those earnings are taxed again as personal income to the stockholders.

4. Deciding on a form of organization. Firms must trade off the advantages of

incorporation against a possibly higher tax burden. However, the value of any business
other than a very small one will probably be maximized if it is organized as a corporation
for the following three reasons:

4.1 Limited liability reduces the risks borne by investors, and, other things held
constant, the lower the firm’s risk, the higher its value.

4.2 A firm’s value is dependent on its growth opportunities, which, in turn, are
dependent on its ability to attract capital. Because corporations can attract
capital more easily than can unincorporated businesses, they are better able
to take advantage of growth opportunities.

4.3 The value of an asset also depends on its liquidity, which means the ease of
selling the asset and converting it to cash at a “fair market value.” Because an
investment in the stock of a corporation is much easier to transfer to another
investor than are proprietorship or partnership interests, a corporate
investment is more liquid than a similar investment in a proprietorship or
partnership, and this too enhances the value of a corporation.

5. The finance functions. The size and importance of the finance function depends on the
size of the firm.

5.1 The finance function and the size of the firm.

SIZE OF THE FIRM FINANCE FUNCTION

Small Firms Accounting Unit
Bigger Firms Separate Finance Unit
Chief Financial Officer, Treasurer
Large Corporations
and Controller

5.2 Treasurer. He/she is responsible for the firm’s financial activities including
financial planning, raising funds, making capital budgeting decisions, and
managing the firm’s working capital. It is also known as the Chief Financial
Manager.
5.3 Controller. He/she is in-charge of the firm’s accounting activities such as
corporate accounting, tax management, financial accounting, and cost
accounting. It is also called as Chief Accountant.

5.4 Finance within the organization.

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 5.5 Major decisions in the finance function.

● Investing Decision. It involves provision of capital to proposals whose

benefits are to be realized in the future. Investments in capital projects
should provide expected returns in excess of what financial markets require.

● Financing Decision. It involves determination of the best capital structure.

Capital structure involves determining the best mix of debt, equity, and
hybrid securities to employ.

● Dividend Decision. It involves allocation of cash to be distributed to

shareholders. Excess cash can be distributed to stockholders directly
through dividend.

● Risk Management. It involves determining which risks to accept, which to

neutralize, and which to transfer. The four key processes in risk
management are: Identification, Assessment, Mitigation and Transference.

FINANCING WITH INTERNATIONAL BONDS

International bonds are debt securities issued by foreign companies or governments and
sold domestically.

*HOW IT WORKS/EXAMPLE*

Foreign companies or governments may issue bonds that are securitized and sold to

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 domestic investors in the form of international bonds. These bonds are typically denominated
and pay interest in the currency of the issuing country. Therefore, the value of the bonds in
the domestic currency will fluctuate depending on the economic conditions and exchange
rates between the domestic country and foreign country.

*WHY IT MATTERS*

International bonds can be used to hedge against currency and country-specific risks. For
example, Americans invested in international bonds have reaped the gains from falling US
dollar in recent years as it has made interest payments from foreign bonds worth more in
dollar terms.

Self-Help: You can also refer to the sources below to help you further
understand the lesson:

*Brigham, E. and Houston, J. (2007). Fundamentals of Financial Management (11th Edition). USA:
Thomson South-Western

*Broyles, J. (2003). Financial Management and Real Options. England: John Wiley & Sons, Ltd.

*Hill, A. (2008). Strategic Financial Management. Ventus Publishing.

*Drake, P.P. and Fabozzi, F. (2010). The Basics of Finance: An Introduction to Financial Markets,
Business Finance, and Portfolio Management. USA: John Wiley & Sons, Ltd.

*Mcmenamin, J. (2005). Financial Management: An Introduction. USA: Routledge

Let’s Check
Activity 1 (Adapted. Brigham & Houston. (2015). Fundamentals of Financial
Management). Now that you know the most essential knowledge in the nature and
purpose of financial management, let us try to check your understanding. In the space
provided, write the letter of the correct answer.

1. Which of the following statements is FALSE?

a. In most corporations, the CFO ranks under the CEO.

b. The board of directors is the highest-ranking body in a corporation, and the chairman
of the board is the highest ranking individual. The CEO generally works under the board
and its chairman, and the board generally has the authority to remove the CEO under
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 certain conditions.
c. Partnerships and proprietorships generally have a tax advantage over corporations.
d. A disadvantage of the corporate form of organization is that corporate stockholders are
more exposed to personal liabilities in the event of bankruptcy than are investors in a
typical partnership.

2. Choose the INCORRECT statement/s.

I. An advantage of the corporate form of organization is that corporations are

generally less highly regulated than proprietorships and partnerships.
II. One advantage of the corporate form of organization is that it avoids double
taxation.
III. It is generally harder to transfer one's ownership interest in a partnership than
in a corporation.

a. Statement I only
b. Statement I and II
c. All statements are correct.
d. None of the statements are correct.

3. Choose the CORRECT statement/s.

I. It is generally less expensive to form a corporation than a proprietorship

because, with a proprietorship, extensive legal documents are required.
II. The more capital a firm is likely to require, the greater the probability that it will
be organized as a corporation.
III. One disadvantage of forming a corporation rather than a partnership is that this
makes it more difficult for the firm's investors to transfer their ownership
interests.

a. Statement I only
b. Statement II only
c. Statement I, II and III
d. All of the statements are incorrect.

4. Choose the INCORRECT statement/s.

I. Organizing as a corporation makes it easier for the firm to raise capital. This is
because corporations' stockholders are not subject to personal liabilities if the
firm goes bankrupt and because it is easier to transfer shares of stock than
partnership interests.
II. Maximizing firm’s profit is not equivalent to maximizing shareholders’ wealth.

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 a. Statement I only
b. Statement II only
c. Neither statements are incorrect.
d. Both statements are incorrect.

5. Which of the following statements is CORRECT?

a. One of the disadvantages of incorporating your business is that you could become
subject to the firm’s liabilities in the event of bankruptcy.
b. Having sole proprietorship or partnership as a form of business is advantageous in
terms of taxes in comparison with corporations.
c. Corporations are subject to lesser regulations than sole proprietorship.
d. Partners have equal rights, privileges, and liabilities in all types of partnership.

6. He/she is in-charge of the firm’s accounting activities such as corporate accounting, tax
management, financial accounting, and cost accounting.

a. Controller
b. Treasurer
c. Chief Financial Officer
d. Chairman of the Board

7. He/she is responsible for the firm’s financial activities including financial planning, raising
funds, making capital budgeting decisions, and managing the firm’s working capital.

a. Controller
b. Treasurer
c. Chief Financial Officer
d. Chairman of the Board

8. It involves determination of the best capital structure.

a. Investing Decision
b. Financing Decision
c. Dividend Decision
d. Safekeeping Decision

9. It involves allocation of cash to be distributed to shareholders.

a. Investing Decision
b. Financing Decision
c. Dividend Decision
d. Safekeeping Decision
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10. It involves provision of capital to proposals whose benefits are to be realized in the future.

a. Investing Decision
b. Financing Decision
c. Dividend Decision
d. Safekeeping Decision

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Let’s Analyze

Activity 1. Please explain your answers thoroughly. Kindly observe a minimum of five (5)
sentences per paragraph

1. There are three (3) forms of business organization: Sole Proprietorship, Partnership
and Corporation. If you are to start your own business, which form of business
organization would you choose? Why did you choose this form or business
organization? How did you come up with your answer?

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2. Among the major decisions involved in finance function (investing, financing, dividend
and risk management), which is the most essential? Please expound your answer.

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 3. In 1776 Adam Smith described how an “invisible hand” guides companies striving
to maximize profits so that they make decisions that also benefit society. Smith’s
insights led economists to reach two key conclusions: (1) Profit maximization is the
proper goal for a business, and (2) the free enterprise system is best for society. In
the current age, given the various evolvement in business enterprises, do you still
regard the “invisible hand” as a reliable guide? Please expound your answer.

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In a Nutshell

Based from the discussion of the nature and purpose of financial

management and the learning exercises that you have done, please feel free
to write what have you learned below.

1. _______________________________________________________________

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2. _______________________________________________________________

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3. _______________________________________________________________

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4. _______________________________________________________________

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5. _______________________________________________________________

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 _______________________________________________________________

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Q&A List

Do you have any question for clarification?

Questions/Issues Answers

Keywords Index

Finance Corporation Chief Finance Officer

Stockholder Wealth
Economics Unlimited Personal Liability
Maximization
Accounting Limited Liability Investing Decision

Financial Management Double Taxation Financing Decision

Proprietorship Treasurer Dividend Decision

Partnership Controller Risk Management

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 Big Picture in Focus:
ULOc. Discuss the use and implications of the time value of money.
ULOd. Apply the concept present value and future value of money.

Metalanguage
For you to demonstrate ULOc and ULOd, you will need to have an
operational understanding of the following terms below. Please note that you will
also be required to refer to the previous definitions found in ULOa and ULOb section.

1. Time Value of Money. It is the math of finance whereby a financial return is

earned over time by saving or investing money.
2. Time Line. It is an important tool used in time value analysis. This is a graphical
representation used to show the timing of cash flows.
3. Time Horizon. It is a horizontal timeline that can be used to illustrate the cash
flows of a given investment or savings.
4. Present Value. It is the value today of a savings amount or investment.
5. Future Value. It is the value of savings amount or an investment at a specified
time or date in the future.
6. Compounding. It is the arithmetic process of determining the final value of a
cash flow or series of cash flows when compounded interest is applied.
7. Discounting. The process of finding the present value of a cash flow or a
series of cash flows. It is the reverse of compounding.
8. Annuity. It is a series of equal payments at fixed intervals for a specified
number of periods.
9. Ordinary Annuity. The annuity whose payments occur at the end of each
period.
10. Annuity Due. An annuity whose payments occur at the beginning of each
period.
11. Uneven (Nonconstant) Cash Flows. A series of cash flows where the amount
varies from one period to the next.

Essential Knowledge

Before we proceed further with the study of financial management, it

is highly important that we understand the time value of money. We all agree
that the one peso today will not be one peso in the future. Since most of us
experienced saving money in some point, I believe most of us get the gist of
the saying. Thus, upon the end of this section, students should have a better

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understanding on the time value of money.

1. Time Line. To begin the time value analysis, it is essential to set up a

time line that can help you visualize the situation. To illustrate, consider
the following graph, where PV represents P100 that is on hand today and
FV is the value that will be in the account on a future date and periods
represents the number of years:

The question in the illustration may be how much will the P100 today
worth after 1, 2 or 3 years considering a 5% interest.
1.1. Time Horizons. It is a horizontal time line that can be used to
illustrate the cash flows of a given investment or savings.

2. Annuities. It is a stream of equal periodic cash flows over a specified

time period.
2.1. Ordinary Annuity. An annuity whose payments occur at the end of
each period.
2.2. Annuity Due. An annuity whose payments occur at the beginning of
each period.
2.3. Illustration

3. Future Value. A peso in hand today is worth more than a peso to be

received in the future since if you will invest or save it, it earns interest.
3.1. Compounding. When we are talking about compounding, we are
looking for the future values.
3.1.1. Illustration – Single Cash Flow
Assume that on January 1, 2020, Celeste invested P100.00 in
a financing company. Celeste would like to find out what would

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 be the worth of her P100 after 3 years with an interest rate
pegged at 5%.
● Step-by-Step Approach. Multiply the initial amount, and
each succeeding amount, by (1 + i) or (1.05).

● Formula Approach. The same problem can also be

computed using a formula.

● Using Interest Tables. The mathematical formula may be

modified by using a present value and future value table. The
tables can be downloaded in a separate PDF document in
LMS.

3.1.2. Illustration – Annuities

● Ordinary Annuity.
Assume that Kawaii Company is to make annual
investment of P300,000 for four years. The interest for this
investment was pegged at 9%. The investment is made at
year end. What is the future value of this annuity?
● Step-by-Step Method.

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 ● Formula Method.

● Annuity Due.
Let us use the data of Kawaii Company in the previous
illustration. Assume that Kawaii is to make annual
investments of P300,000 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?
● Formula Method.
Since the payment occurs one period earlier with an
annuity due, the payments will earn interest for on
additional year. Therefore, the FV of annuity due is
greater that the FV of ordinary annuity.

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4. Present Value. This is the value today of a future cash flow or series of
cash flows. It is the opposite of the future value. If you have a targeted
amount in for a certain time period, how much would you invest or save
today?
4.1. Discounting. It is the process if finding the present value of a cash
flow or a series of cash flows. It is the reverse of compounding.
4.1.1. Illustration – Single Cash Flow
Assume that Quentin Corporation would like to know the
amount of investment it will make in order to yield an amount
of P200,000 which it will receive three years from now. Assume
that the rate for this type of investment is 25%.

Please note that the PV Factor can be also found in the

Interest Table. This will be uploaded in the LMS.

4.1.2. Illustration – Annuities

● Ordinary Annuity.
Assume that on January 1 of the current year, Kei
Corporation sold its property costing P600,000 for P900,000
to Doom Corporation. Doom paid P300,000 as down
payment and the balance was paid with a non-interest
bearing note for P600,000. The note shall be paid in equal
annual installments (this is the series of amounts that Kei
will receive in the future) every year end amounting
P200,000/year. The prevailing interest rate for this type of
note is 10%. You have been tasked by Kei Corporation on

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 the present value of the note receivable to be recognized by
the company.

OR

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● Annuity Due.
Assume that on January 1 of the current year, Kei
Corporation sold its property costing P600,000 for P900,000
to Doom Corporation. Doom paid P300,000 as down
payment and the balance was paid with a non-interest
bearing note for P600,000. The note shall be paid in equal
annual installments (this is the series of amounts that Kei
will receive in the future) at the beginning of each year
amounting P200,000/year. The prevailing interest rate for
this type of note is 10%. You have been tasked by Kei
Corporation on the present value of the note receivable to
be recognized by the company.

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 Or

5. Uneven Cash Flows. This is the stream of unequal periodic cash flows. It is
also called mixed stream. Since the cash flows are unequal, the computation is
a little bit more complex.
5.1. Future Values of Complex Streams.
Assume that Lily Company is to make an investment of uneven cash
payments for four years. The interest for this investment was pegged
at 9%. The investment is made every year end. What is the future
value of this annuity? Please see data below:

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5.2 Present Value of Complex Streams.
Assume the following annual payments of notes payable of Domo
Company with 8% discount rate. What is the present value of the
annual payments? Consider the data below:

5.2.1 Method 1.

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5.2.2 Method 2.

10.2.3 Method 3.
For the first three years, kindly follow the same procedure as
method 1 and 2.

For the 4th year, use the procedure below:

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 10.2.4 Method 4.
Steps:

Self-Help: You can also refer to the sources below to help you
further understand the lesson:

Brigham, E. & Houston, J. (2007). Fundamentals of Financial Management, 11th Edition. Thomson
Corporation. United States of America.

Let’s Check

Instructions: Please choose the letter of the best answer.

(Adapted: Brigham & Houston. (2015). Fundamentals of Financial Management)

1. Which of the following statements is correct?

a. A time line is not meaningful unless all cash flows occur annually.
b. Time lines are useful for visualizing complex problems prior to doing
actual calculations.
c. Time lines cannot be constructed in situations where some of the cash
flows occur annually but others occur quarterly.
d. Time lines cannot be constructed for annuities where the payments occur

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 at the beginning of the periods.

2. Which of the following statements is correct?

a. Time lines are not useful for visualizing complex problems prior to doing
actual calculations.
b. Time lines cannot be constructed to deal with situations where some of
the cash flows occur annually but others occur quarterly.
c. Time lines can only be constructed for annuities where the payments
occur at the end of the periods, i.e., for ordinary annuities.
d. Time lines can be constructed where some of the payments constitute an
annuity but others are unequal and thus are not part of the annuity.

3. You plan to analyze the value of a potential investment by calculating the sum
of the present values of its expected cash flows. Which of the following would
lower the calculated value of the investment?

a. The cash flows are in the form of a deferred annuity, and they total to
P100,000. You learn that the annuity lasts for only 5 rather than 10 years,
hence that each payment is for P20,000 rather than for P10,000.
b. The discount rate increases.
c. The riskiness of the investment's cash flows decreases.
d. The total amount of cash flows remains the same, but more of the cash
flows are received in the earlier years and less are received in the later
years.

4. You plan to analyze the value of a potential investment by calculating the sum
of the present values of its expected cash flows. Which of the following would
increase the calculated value of the investment?

a. The cash flows are in the form of a deferred annuity, and they total to
$100,000. You learn that the annuity lasts for 10 years rather than 5
years, hence that each payment is for $10,000 rather than for $20,000.
b. The discount rate decreases.
c. The riskiness of the investment's cash flows increases.
d. The total amount of cash flows remains the same, but more of the cash
flows are received in the later years and less are received in the earlier

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 years.

5. Which of the following statements is correct?

a. The cash flows for an ordinary (or deferred) annuity all occur at the
beginning of the periods.
b. If a series of unequal cash flows occurs at regular intervals, such as once
a year, then the series is by definition an annuity.
c. The cash flows for an annuity due must all occur at the ends of the
periods.
d. The cash flows for an annuity must all be equal, and they must occur at
regular intervals, such as once a year or once a month.

6. Which of the following statements is correct?

a. The cash flows for an ordinary (or deferred) annuity all occur at the
beginning of the periods.
b. If a series of unequal cash flows occurs at regular intervals, such as once
a year, then the series is by definition an annuity.
c. The cash flows for an annuity due must all occur at the beginning of the
periods.
d. The cash flows for an annuity may vary from period to period, but they
must occur at regular intervals, such as once a year or once a month.

7. A P50,000 loan is to be amortized over 7 years, with annual end-of-year

payments. Which of these statements is CORRECT?

a. The annual payments would be larger if the interest rate were lower.
b. If the loan were amortized over 10 years rather than 7 years, and if the
interest rate were the same in either case, the first payment would include
more dollars of interest under the 7-year amortization plan.
c. The proportion of each payment that represents interest as opposed to
repayment of principal would be lower if the interest rate were lower.
d. The last payment would have a higher proportion of interest than the first
payment.

8. A P150,000 loan is to be amortized over 7 years, with annual end-of-year

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 payments. Which of these statements is CORRECT?

a. The annual payments would be larger if the interest rate were lower.
b. If the loan were amortized over 10 years rather than 7 years, and if the
interest rate were the same in either case, the first payment would include
more dollars of interest under the 7-year amortization plan.
c. The proportion of each payment that represents interest as opposed to
repayment of principal would be higher if the interest rate were lower.
d. The proportion of each payment that represents interest versus
repayment of principal would be higher if the interest rate were higher.

9. Which of the following investments would have the highest future value at the
end of 10 years? Assume that the effective annual rate for all investments is the
same and is greater than zero.
a. Investment A pays $250 at the beginning of every year for the next 10
years (a total of 10 payments).
b. Investment B pays $125 at the end of every 6-month period for the next
10 years (a total of 20 payments).
c. Investment C pays $125 at the beginning of every 6-month period for the
next 10 years (a total of 20 payments).
d. Investment D pays $2,500 at the end of 10 years (just one payment).

10. Which of the following investments would have the lowest present value?
Assume that the effective annual rate for all investments is the same and is
greater than zero.

a. Investment A pays $250 at the end of every year for the next 10 years (a
total of 10 payments).
b. Investment B pays $125 at the end of every 6-month period for the next
10 years (a total of 20 payments).
c. Investment C pays $125 at the beginning of every 6-month period for the
next 10 years (a total of 20 payments).
d. Investment D pays $2,500 at the end of 10 years (just one payment).

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Let’s Analyze

At this juncture, you will be required to answer the following problems. Kindly show
your computations. Please double rule and bolden your final answer.

1. You deposit P1,000 today in savings account that pays 3.5% interest, compounded
annually. How much will your account be worth at the end of 25 years?

2. Suppose a Bangko Sentral ng Pilipinas bond will pay P1,000,000 ten years from
now. If the going interest rate on these 10-year bonds is 5.5%, how much is the
bond worth today?

3. Suppose an Exxon Corporation bond will pay P450,000 ten years from now. If the
going interest rate on safe 5-year bonds is 4.25%, how much is the bond worth
today?

4. You want to by a new house 3 years from now, and you plan to save P420,000 per
year, beginning one year from today. You will deposit your savings in an account
that pays 5.2% interest. How much will you have just after you make the 3 rd
deposit, 3 years from now?

5. You want to quit your job and go back to school for a law degree 4 years from now,
and you plan to save P50,000 per year, beginning immediately. You will make 4
deposits in an account that pays 5.7% interest. Under these assumptions, how
much will you have 4 years from today?

6. You have a chance to buy an annuity that pays P25,000 at the end of each year
for 3 years. You could earn 5.5% on your money in other investments with equal
risk. What is the most you should pay for the annuity?

7. You inherited an oil well that will pay you P250,000 per year for 25 years, with the
first payment being made today. If you think a fair return on the well is 7.5%, how
much should you ask for it if you decide to sell it?

8. What is the present value of the following cash flow stream at a rate of 12%?

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9. You sold a car and accepted a note with the following cash flow stream as your
payment. What was the effective price you received for the car assuming an
interest rate of 6%?

10. Your father paid $10,000 (CF at t=0) for an investment that promises to pay $750
at the end of each of the next 5 years, then an additional lump sum payment of
$10,000 at the end of the 5 th year. What is the expected rate of return on this
investment?

In a Nutshell

To be a good finance manager, you must understand the time value of

money. In this portion of the unit, you will be required to state your arguments
or synthesis relevant to the topics presented. I will supply the first two items
and you will continue the rest.

1. Money will change its value over time. The one peso today will not be one
peso in the future.

2. Creating a time line helps analysts to visualize the timing of cash flows.

YOUR TURN

3. __________________________________________________________

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4. __________________________________________________________

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5. __________________________________________________________

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Q&A List

Do you have any question for clarification?

Questions/Issues Answers

Keywords Index

Time Value of Money Present Value Discounting Annuity Due

Time Line Future Value Annuity Uneven Cash Flows

Compounding
Time Horizon Compounding Ordinary Annuity
Interest

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