, APPENDIX E
TIME VALUE OF MONEY
CHAPTER LEARNING OBJECTIVES
1. Distinguish between simple and compound interest. Simple interest is computed on the
principal only, while compound interest is computed on the principal and any interest earned
that has not been withdrawn.
2. Solve for future value of a single amount. Prepare a time diagram of the problem. Identify
the principal amount, the number of compounding periods, and the interest rate. Using the
future value of 1 table, multiply the principal amount by the future value factor specified at the
intersection of the number of periods and the interest rate.
3. Solve for future value of an annuity. Prepare a time diagram of the problem. Identify the
amount of the periodic payments (receipts), the number of payments (receipts), and the
interest rate. Using the future value of an annuity of 1 table, multiply the amount of the
payments by the future value factor specified at the intersection of the number of payments
and the interest rate.
4. Identify the variables fundamental to solving present value problems. The following
three variables are fundamental to solving present value problems: (1) the future amount, (2)
the number of periods, and (3) the interest rate (the discount rate).
5. Solve for present value of a single amount. Prepare a time diagram of the problem.
Identify the future amount, the number of discounting periods, and the discount (interest) rate.
Using the present value of a single amount table, multiply the future amount by the present
value factor specified at the intersection of the number of periods and the discount rate.
6. Solve for present value of an annuity. Prepare a time diagram of the problem. Identify the
amount of future periodic receipts payment (annuities), the number of payments (receipts),
and the discount (interest) rate. Using the present value of an annuity of 1 table, multiply the
amount of the annuity by the present value factor specified at the intersection of the number
of payments and the interest rate.
7. Compute the present value of notes and bonds. Determine the present value of the
principal amount: Multiply the principal amount (a single future amount) by the present value
factor (from the present value of 1 table) intersecting at the number of periods (number of
interest payments) and the discount rate. Determine the present value of the series of interest
payments: Multiply the amount of the interest payment by the present value factor (from the
present value of an annuity of 1 table) intersecting at the number of periods (number of
interest payments) and the discount rate. Add the present value of the principal amount to the
present value of the interest payments to arrive at the present value of the note or bond.
8. Compute the present values in capital budgeting situations. Compute the present values
of all cash inflows and all cash outflows related to the capital budgeting proposal (an
investment-type decision.) If the net present value is positive accept the proposal (make the
investment). If the net present value is negative, reject the proposal (do not make the
investment).
9. Use a financial calculator to solve time value of money problems. Financial calculators
can be used to solve the same and additional problems as those solved with time value of
money tables. Enter into the financial calculator the amounts for all of the known elements of
a time value of money problem (periods, interest rate, payments, future or present value), and
it solves for the unknown element. Particularly useful situations involve interest rates and
compounding periods not presented in the tables.
,E-2 Test Bank for Financial Accounting: IFRS Edition, 2e
TRUE-FALSE STATEMENTS
1. Interest is the difference between the amount borrowed and the principal.
Answer: F, LO: 1, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Decision Modeling,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
2. Compound interest is computed on the principal and any interest earned that has not
been paid or received.
Answer: T, LO: 1, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Decision Modeling,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
3. The future value of a single amount is the value at a future date of a given amount
invested now, assuming compound interest.
Answer: T, LO: 2, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Decision Modeling,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
4. When the periodic payments are not equal in each period, the future value can be
computed by using a future value of an annuity table.
Answer: F, LO: 3, Bloom: C, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
5. The process of determining the present value is referred to as discounting the future
amount.
Answer: T, LO: 4, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
6. A higher discount rate produces a higher present value.
Answer: F, LO: 5, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
7. In computing the present value of an annuity, it is not necessary to know the number of
discount periods.
Answer: F, LO: 6, Bloom: C, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
8. Many companies calculate the future value of the cash flows involved in an investment in
evaluating long-term capital investments.
Answer: F, LO: 7, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Resource Management, AICPA-FN: Measurement, AICPA-
PC: Project Management, IMA: Investment Decision, Sector: General, IFRS: No
9. The decision to make long-term capital investments is best evaluated using discounting
techniques that recognize the time value of money.
Answer: T, LO: 8, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Resource Management, AICPA-FN: Measurement, AICPA-
PC: Project Management, IMA: Decision Analysis, Sector: General, IFRS: No
10. With a financial calculator, one can solve for any interest rate or for any number of periods
in a time value of money problem.
Answer: T, LO: 9, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Resource Management, AICPA-FN: Measurement, AICPA-
PC: Project Management, IMA: Decision Analysis, Sector: General, IFRS: No
Answers to True-False Statements
Item Ans. Item Ans. Item Ans. Item Ans. Item Ans.
1. F 3. T 5. T 7. F 9. T
2. T 4. F 6. F 8. F 10. T
For Instructor Use Only
, Time Value of Money E-3
MULTIPLE CHOICE QUESTIONS
Note: Students will need future value and present value tables for some questions.
11. Compound interest is the return on principal
a. only.
b. for one or more periods.
c. plus interest for two or more periods.
d. for one period.
Answer: c, LO: 1, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
12. The factor 1.0609 is taken from the 3% column and 2 periods row in certain table. From
what table is this factor taken?
a. Future value of 1
b. Future value of an annuity of 1
c. Present value of 1
d. Present value of an annuity of 1
Answer: a, LO: 2, Bloom: C, Difficulty: Medium, Min: 2, AACSB: Analytic, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement, AICPA-PC:
Problem Solving/Decision Making, IMA: Quantitative Methods, Sector: General, IFRS: No
13. If $40,000 is deposited in a savings account paying interest of 4% compounded annually,
what amount will be in the account at the end of 5 years?
a. $32,878
b. $48,000
c. $48,620
d. $48,666
Answer: d, LO: 2, Bloom: AP, Difficulty: Medium, Min: 2, AACSB: Analytic, AICPA-BB: Resource Management, AICPA-FN: Measurement, AICPA-PC:
Problem Solving/Decision Making, IMA: Quantitative Methods, Sector: General, IFRS: No
14. The future value of 1 factor will always be
a. equal to 1.
b. greater than 1.
c. less than 1.
d. equal to the interest rate.
Answer: b, LO: 2, Bloom: K, Difficulty: Easy, Min: 1, AACSB: Reflective Thinking, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Measurement,
AICPA-PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
15. All of the following are necessary to compute the future value of a single amount except
the
a. interest rate.
b. number of periods.
c. principal.
d. maturity value.
Answer: d, LO: 2, Bloom: K, Difficulty: Medium, Min: 1, AACSB: Analytic, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Decision Modeling, AICPA-
PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
16. Which table has a factor of 1.00000 for 1 period at every interest rate?
a. Future value of 1
b. Future value of an annuity of 1
c. Present value of 1
d. Present value of an annuity of 1
Answer: b, LO: 3, Bloom: C, Difficulty: Medium, Min: 1, AACSB: Analytic, AICPA-BB: Strategic/Critical Thinking, AICPA-FN: Decision Modeling, AICPA-
PC: Problem Solving/Decision Making, IMA: Business Economics, Sector: General, IFRS: No
For Instructor Use Only
