Question

Instructions:

You are required to show the following 4 steps for each problem : (i) Develop the timeline (linear representation of the timing of cash flows) (ii) Identify the time value of money variable (PV, FV, PMT, N or Rate) which needs to be calculated in the question. (iii) Identify the values of the remaining four variables (PV, FV, PMT, N or Rate) from the question. Be sure to input positive or negative signs. (iv) Calculate the correct value of the variable identified in step (ii).

Problem:

How much money must be put into a bank account yielding 7.25% (compounded annually) in order to have $2,250 at the end of 7 years? Round to two decimal places.

Answer 1

Step 1: Develop the timeline (linear representation of the timing of cash flows)

Step 2: Identify the time value of money variable

Here we need to find Present Value of $2,250 at the end of 7 years in a bank account yielding 7.25%.

Step 3: Identify the values of the remaining four variables

Present Value = FV / (1+r)^n

Where

FV - Future Value = 2,250

r - rate per period = 7.25%

n - no. of periods = 7

Step 4: Calculation of Present Value

Present Value = 2,250 / (1.0725)^7

= 2250/1.63223

= $1,378.48