Illustration:

1. Sachin deposited Rs.1,00,000 in his bank for 2 years at simple interest rate of 6%.How much
interest would he earn? How much would be the final value of deposit?
Ans: 1,00,000 + (1,00,000*6%*2) = =1,12,000

2. What sum of money will produce Rs.28,600 as an interest in 3 years and 3 months at 2.5%
p.a. simple interest?
Ans:
28,600=X*3.25*2.5%
X =3,52,000

3. In what time will Rs. 8,000 amount to Rs. 8,820 at 10% per annum interest compounded half-
yearly?
Ans:
8820 = 8000 (1.05)2
2 = 2n
N=1 year

4. Find the rate percent per annum if Rs. 2,00,000 amount to Rs. 2,31,525 in 1½ year interest
being compounded half-yearly.
Ans: Compound Interest (Half yearly compounding)
A = P (1+r/2)2n
2,31,525 = 2,00,000 (1+r/2)2(1.5)
2,31,525/2,00,000 = (1+r/2)3
2,31,525/2,00,000 = (1+r/2)3
1.157625 = (1+r/2)3
(1.157625)1/3 = (1+r/2)
1.05 = 1+r/2
0.05 = r/2
r = 0.10
r = 10%
5. Rs. 2,000 is invested at annual rate of interest of 10%. What is the amount after two years if
compounding is done (a) Annually (b) Semi-annually (c) Quarterly (d) monthly
Ans:
a) Annual
A = P (1+r) n= 2,000 (1.1)2= 2,420
b) Semi- annual
A = P (1+r/2)2n= 2,000 (1+10%/2)2*2= 2,000 (1.05)4= 2,431.01
c) Quarterly
A = P (1+r/4)4n= 2,000 (1+10%/4)4*2= 2,000 (1.025)8= 2,436.80
d) Monthly
A = P (1+r/12)12n= 2,000 (1+10%/12)12*2= 2,000 (1.00833333)24= 2,440.78

6. If Rs. 8,00,000 is invested @ 8% simple interest for 3 years and @ 7.5% compound interest
(Half yearly compounding) which investment will give more returns? 5,742.84
Ans:
I = Pnr
= 8,00,000 * 3 years * 8% = 1,92,000
A (Maturity Value) = P + Pnr = 8,00,000 + 192,000 = 9,92,000

Compound Interest (Half yearly compounding)

A = P (1+r/2)2n
 = 8,00,000 (1+7.5%/2)3*2
= 1,00,000 (1+0.0375)6
= 1,00,000 (1.0375)6
= 9,97,742.83

Difference = 9,97,742.83 - 9,92,000 = 5,742.83

Since the maturity value of investment @7.5% to be compounded half yearly is more, it
is advisable to invest in the same to earn additional interest of Rs. 5,742.83

7. A person opened an account on 1st April, 2009 with a deposit of ` 800. The account paid 6%
interest compounded quarterly. On October 1 2011 he closed the account and added enough
additional money to invest in a 6 month time-deposit for ` 1,000, earning 6%compounded
monthly.
1. How much additional amount did the person invest on October 1?
2. What was the maturity value of his time deposit on April 1 2012?
3. How much total interest was earned?
Ans:
1) Maturity value of original investment
FV = PV (1+r/4)4n
FV = 800 (1+6%/4)4(2.5)
FV = 800 (1.015)10
FV = 928.43
The amount needs to deposit = 1,000 – 928.43
= Rs. 71.57
2) Maturity value of investment as on 1.4.2012
FV = PV (1+r/12)12n
FV = 1,000 (1+6%/12)12(0.5)
FV = 1,000 (1+0.005)6
FV = 1,030.38

3) Total Interest earned = (928.43-800) + (1,030.38-1,000)

= 158.81

8. Mr. Dinesh wants to invest Rs. 80 lacs in a scheme in Bank of England where he deposits the
amount for one year @ 12.5% simple interest. All the other banks offer an interest rate of
12% p.a. He has enquired deposit application forms of 4 banks, particulars of which are as
follows —
Bank A: Interest will be credited on half-yearly basis.
Bank B: Interest will be credited on quarterly basis.
Bank C: Interest will be credited on monthly basis.
Bank D: Interest will be credited on weekly basis.
If Mr. Dinesh cares for every extra rupee, which Bank will be preferred?
What should be the minimum rate Bank B should offer to attract Dinesh’s deposit?
If Bank A agrees to credit interest at continuous compounding basis, what will be return for
Mr. Dinesh?
Ans:
1) Bank of England = P + Pnr = 80,00,000+ (80,00,000*1*12.5%) = 90,00,000
Bank A = P(1+r/2)2n= 80,00,000(1+12%/2)2=80,00,000(1.06)2= 89,88,800
Bank B = P(1+r/4)4n= 80,00,000(1+12%/4)4= 80,00,000(1.03)4= 90,04,070.48
Bank C = P(1+r/12)12n=80,00,000(1+12%/12)12= 80,00,000(1.01)12= 90,14,600.24
Bank D = P(1+r/52)52n=80,00,000(1+12%/52)52= 80,00,000(1.0023076)52= 90,18,727.89
Since the maturity value in case of Bank D is highest, it is good to invest in Bank D.

2) Maturity value of Bank B = Maturity value of Bank D

 P(1+r/4)4n = 90,18,727.89
80,00,000(1+r/4)4 = 90,18,727.89
(1+r/4)4 = 90,18,727.89 / 80,00,000
(1+r/4)4 = 1.127340
(1+r/4) = (1.127340)1/4
(1+r/4) = 1.030418
r/4 = 0.030418
r = 0.030418 * 4
r = 12.17%
Minimum rate Bank B should offer to attract Dinesh’s deposit is 12.17%

3) A agrees to credit interest at continuous compounding basis

FV = PV * ert
FV = 80,00,000 * e0.12 * 1
FV = 80,00,000 * e0.12
FV = 90,19,974.81

9. Calculate the present value of future cash flows (Discounting factor 10%)
Particulars Zeta Meta
Investment 15,00,000 11,00,000
Cash Inflows    
Year 1 6,00,000 6,00,000
Year 2 6,00,000 4,00,000
Year 3 6,00,000 5,00,000
Year 4 6,00,000 2,00,000
Total 24,00,000
Ans:
FV FV FV FV FV
PV = 1 + 2 + 3
+ 4 +……. +
( 1+ r ) ( 1+ r ) ( 1+ r ) ( 1+ r ) ( 1+ r )n
PV of cashflows for ZETA
6,00,000 6,00,000 6,00,000 6,00,000
PV = + + +
( 1.1 )1 ( 1.1 )2 ( 1.1 )3 ( 1.1 )4
1 1 1
PV = 6,00,000 ¿ + 2 +
+ ]
( 1.1 ) ( 1.1 ) (1.1 )4
3

PV = 6,00,000 ¿ + 0.8264 + 0.7513+0.6830 ]

PV = 6,00,000 ¿]
PV = 19,01,880
Alternatively,
PV = FV(c.d.f. @10% for 4 years)
PV = 6,00,000[3.1698 ¿
PV = 19,01,880
Net Present Value = PV of inflows – PV of outflows = 19,01,880-15,00,000=4,01,880
Profitability Index = PV of Inflows / PV of outflows
= 19,01,880/15,00,000
= 1.2679
Alternatively,
Calculation of PV of cashflow - Zeta
Particulars Zeta Discounting Factor @ 10% Discounted Cash Flows
Investment 15,00,000
Cash Inflows  
Year 1 6,00,000 1/1.1 = 0.9091 5,45,460
Year 2 6,00,000 = 0.8264 4,95,840
Year 3 6,00,000 = 0.7513 4,50,780
 Year 4 6,00,000 = 0.6830 4,09,800
Total 24,00,000 Total PV of inflow 19,01,880
Total PV of outflow 15,00,000
Net Present Value 4,01,880
Profitability Index (PI) = Total PV of Inflows/
Total PV of outflows
= 19,01,880 / 15,00,000
= 1.26792

Calculation of PV of Inflows
Particulars Meta
Investment 11,00,000
Cash Inflows  Cash Discounting Factor Discounted Cash Flows
Inflows @10%
Year 1 6,00,000 1/1.1 = 0.9091 5,45,460
Year 2 4,00,000 = 0.8264 3,30,560
Year 3 5,00,000 = 0.7513 3,75,650
Year 4 2,00,000 = 0.6830 1,36,600
Total 17,00,000 Total PV of Inflows 13,88,270
Total PV Of outflows 11,00,000
Net Present Value 2,88,270
PI = PV of Inflows / PV = 13,88,270/11,00,000
of outflows =1.2621