Purchasing and Financing 2024

The future value of an investment is determined by the compounding effect, which means
that the amount of interest earned in each period is added to the amount of the
investment at the end of the preceding period.
EXAMPLE: You have the option of accepting either R1 000 now or R1 500 in three years’
time as payment. If you take the money and invest it at 10% interest, you will have the
following amount in three years:
Year 1: R1 000 + R100 = R1 100
Year 2: R1 100 + R110 = R1 210
Year 3: R1 210 + R121 = R1 331.
At first glance it seems as if it would be better to wait three years and accept the R1 500
as your R1 000 will only compound to R1 331 over the period. However, this does not take
into account the effect of inflation on the buying power of your money. (For the purposes
of these calculations we will ignore the effect of inflation though.)
The compound effect is expressed by the following formula:
FVn = PV (1+ i /100) n
Where PV = Present value (investment), FVn = Future value of the investment after n
periods, i = interest rate and n = number of periods (normally years)
EXAMPLE: If you invest R1 000 at 15% interest for 12 years, then:
FV12 = 1000 x (1 + 15 /100) 12
= 1000 x (1 + 0.15) 12
= 1000 x (1.15) 12
= 1000 x 5.35
= 5350
The formula can also be used to calculate the present value if we know the amount that
will be required after a certain number of years.
EXAMPLE: You sell an asset and know that you are going to need R100 000 in 12 years’
time for university fees for your child and want to know how much you should invest now
at an interest rate of 15%, then:
FVn = PV (1+ i /100) n
So
PV = FVn / (1+ i /100) n
= 100 000 / 5.35
= 18 692
You must invest R18 692 rand now.
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