Page 146 - DMGT521_PROJECT_MANAGEMENT

Unit 9: Financial Estimates and Projections

3. In an inflationary period a rupee today represents a greater real purchasing power than a Notes
rupee a year hence.

9.4.1 Future Value of Single Amount

The process of investing money as well as reinvesting the interest earned thereon is called
compounding. The future value or compounded value of an investment after n years when the
interest rate is r percent is:
FV = PV(l + r) n
n
In this equation (1 + r) is called the future value interest factor or simply the future value factor.
n
To solve future value problems you have to find the future value factors. You can do it in
different ways.

Example: Suppose you invest 5,000 for three years in a savings account that pays 10
percent interest per year. If you let your interest income be reinvested, your investment will
grow as follows:

First year Principal at the beginning 5,000
Interest for the year 500
( 5,000 × 0.10)
Principal at the end 5,500

Second year Principal at the beginning 5,500
Interest for the year 550
( 5,500 × 0.10)
Principal at the end 6,050

Third year Principal at the beginning 6,050
Interest for the year 605
( 6,050 × 0.10)
Principal at the end 6,655

Compound and Simple Interest

So far we have assumed that the money is invested at compound interest which means that each
interest payment is reinvested to earn further interest in future periods. By contrast, if no
interest is earned on interest, the investment earns only simple interest. In such a case the
investment grows as follows:
Future value = Present value [1 + Number of years × Interest rate]

Doubling Period

Investors commonly ask the question: How long would it take to double the amount at a given
rate of interest? To answer this question we have to calculate the future value interest and we
find that when the interest rate is 12 percent it takes about 6 years to double the amount, when
the interest is 6 percent it takes about 12 years to double the amount, so on and so forth. Is there
a rule of thumb which dispenses with the use of the future value interest factor table? Yes, there

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