ECE 192 WINTER 2025

CHAPTER 3: COMPOUND INTEREST

FACTORS
1/25/2025

Presented by: Dario Peralta,

ECE Department

University of Waterloo
Outline
 Compound interest factors
 Interest Factors for Single Cash Flows.

 Uniform Series Factors (Annuities).

 Gradient Series Factor.

 Arithmetic Gradient Series.

 Geometric Gradient Series.

 Non-Standard Annuities and Gradients.

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COMPOUND INTEREST FACTORS

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Compound Interest Factors
 Are formulas that define mathematical equivalence for specific common
cash flow patterns.
 The compound interest factors permit cash flow analysis to be done
conveniently.
 Cash flow Patterns:
 Single disbursement (money spent) or receipt (money received)
 A set of equal disbursements or receipts over a sequence of periods,
referred to as an annuity.
 A set of disbursement or receipts that changes by a constant amount from
one period to the next in a sequence of periods, referred to as an arithmetic
gradient series.
 A set of disbursement or receipts that changes by a constant proportion
from one period to the next in a sequence of periods, referred to as
geometric gradient series.

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Compound Amount Factor
 Gives the future amount 𝐹𝐹 that is equivalent to a present amount 𝑃𝑃
when the interest rate is 𝑖𝑖 and the number of compounding periods
is 𝑁𝑁:

𝐹𝐹 ⁄𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 = 1 + 𝑖𝑖 𝑁𝑁

𝑁𝑁
𝐹𝐹 = 𝑃𝑃 𝐹𝐹 ⁄𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 = 𝑃𝑃 1 + 𝑖𝑖

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Present Worth Factor
 Gives the present amount 𝑃𝑃 that is equivalent to a future amount 𝐹𝐹
when the interest rate is 𝑖𝑖 and the number of compounding periods
is 𝑁𝑁:
1
𝑃𝑃⁄𝐹𝐹 , 𝑖𝑖, 𝑁𝑁 =
1 + 𝑖𝑖 𝑁𝑁

1
𝑃𝑃 = 𝐹𝐹 𝑃𝑃⁄𝐹𝐹 , 𝑖𝑖, 𝑁𝑁 = 𝐹𝐹 𝑁𝑁
1 + 𝑖𝑖

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Example
 If $2,00o are invested in a fixed deposit for 20 years, how much would by
repaid at the end of this period if the nominal interest rate is 12%/year
compounded monthly?
Solution (option 1):
𝑖𝑖𝑟𝑟 = 12% 𝑝𝑝𝑝𝑝𝑝𝑝 𝑦𝑦𝑦𝑦𝑦𝑦𝑦𝑦 , 𝑁𝑁 = 20 , 𝑚𝑚 = 12 , P = $2,000 , F = ?
12%
𝑖𝑖𝑠𝑠 = = 1% 𝑝𝑝𝑝𝑝𝑝𝑝 𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚
12
𝐹𝐹 = 𝑃𝑃 𝐹𝐹�𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 ∗ 𝑚𝑚 = 2,000 1 + 0.01 20∗12 = $21,785

Solution (option 2):

12
12%
𝑖𝑖𝑒𝑒 = 1 + = 12.685%
12
𝐹𝐹 = 𝑃𝑃 𝐹𝐹�𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 = 2,000 1 + 0.12685 20
= $21,785

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The Series Present Worth Factor
 Gives the present amount 𝑃𝑃 that is equivalent to an annuity with
disbursements or receipts in the amount of 𝐴𝐴, where the interest
rate is 𝑖𝑖 and the number of periods is 𝑁𝑁.
1 + 𝑖𝑖 𝑁𝑁 − 1
𝑃𝑃� , 𝑖𝑖, 𝑁𝑁 =
𝐴𝐴 𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁

𝑁𝑁 − 1
1 + 𝑖𝑖
𝑃𝑃 = 𝐴𝐴 𝑃𝑃�𝐴𝐴 , 𝑖𝑖, 𝑁𝑁 = 𝐴𝐴
𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁

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The Uniform Series Compound Amount Factor
 Gives the future value 𝐹𝐹 that is equivalent to a series of equal size
receipts or disbursements 𝐴𝐴 when the interest rate is 𝑖𝑖 and the
number of periods is 𝑁𝑁.
1 + 𝑖𝑖 𝑁𝑁 − 1
𝐹𝐹� , 𝑖𝑖, 𝑁𝑁 =
𝐴𝐴 𝑖𝑖

𝑁𝑁 − 1
1 + 𝑖𝑖
𝐹𝐹 = 𝐴𝐴 𝐹𝐹�𝐴𝐴 , 𝑖𝑖, 𝑁𝑁 = 𝐴𝐴
𝑖𝑖
F
A

0 5 10 15 20 25 30
YEARS

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The Capital Recovery Factor
 Gives the value of 𝐴𝐴 of the equal periodic payments or receipts that
are equivalent to a present amount 𝑃𝑃 when the interest rate is 𝑖𝑖 and
the number of periods is 𝑁𝑁.
𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁
𝐴𝐴⁄𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 =
1 + 𝑖𝑖 𝑁𝑁 − 1

𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁
𝐴𝐴 = 𝑃𝑃 𝐴𝐴⁄𝑃𝑃 , 𝑖𝑖, 𝑁𝑁 = 𝑃𝑃
1 + 𝑖𝑖 𝑁𝑁 − 1

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The Sinking Fund Factor
 Is an account into which regular deposits are made in order to
accumulate some amount of money. Gives the size 𝐴𝐴 of a repeated
receipt or disbursement that is equivalent to a future amount 𝐹𝐹 if
the interest rate is 𝑖𝑖 and the number of periods is 𝑁𝑁
𝑖𝑖
⁄
𝐴𝐴 𝐹𝐹 , 𝑖𝑖, 𝑁𝑁 =
1 + 𝑖𝑖 𝑁𝑁 − 1

𝑖𝑖
𝐴𝐴 = 𝐹𝐹 𝐴𝐴⁄𝐹𝐹 , 𝑖𝑖, 𝑁𝑁 = 𝐹𝐹
1 + 𝑖𝑖 𝑁𝑁 − 1

F
A

0 5 10 15 20 25 30
YEARS
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Example 2:
 Suppose that a recent college graduate has $3,000 available as a
down payment on a new car. The graduate can afford a uniform car
loan payment of no more than $500 per month for 48 months,
beginning 1 month from now. Interest is 6%, compounded
monthly. What is the most that the graduate can spend today on a
new car?
Solution:
𝑖𝑖𝑟𝑟 = 6% 𝑝𝑝𝑝𝑝𝑝𝑝 𝑦𝑦𝑦𝑦𝑦𝑦𝑦𝑦 , 𝑁𝑁 = 4 , 𝑚𝑚 = 12 , X = $3,000 , A = $500

0 1 2 3 4 45 46 47 48
......
P

$500
$3,000
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Example 2 (cont.)
6%
𝑖𝑖𝑠𝑠 = = 0.5% 𝑝𝑝𝑝𝑝𝑝𝑝 𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚
12

𝑃𝑃 = $3,000 + 𝐴𝐴(𝑃𝑃⁄𝐴𝐴 , 𝑖𝑖, 𝑁𝑁, 𝑚𝑚)

1 + 𝑖𝑖𝑠𝑠 𝑁𝑁∗𝑚𝑚 − 1
𝑃𝑃 = 3,000 + 500
𝑖𝑖 1 + 𝑖𝑖𝑠𝑠 𝑁𝑁∗𝑚𝑚

𝑃𝑃 = $24,290

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Arithmetic Gradient Series
 Series of receipts/disbursements that starts at zero at the end of
the first period and then increases by a constant amount 𝐺𝐺 from
period to period.
 Example: increment in maintenance costs due to aging.

 As in annuities, it is assumed that the compounding period and the

payment period are the same.
(N-1)G
(N-2)G
3G
2G
G
0 …

0 1 2 3 4 N-1 N

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Arithmetic Gradient Series
A+4G
A+3G
P A+2G
A+G
A

0 1 2 3 4 5

 This cash flow can be resolved into two components 4G

3G
2G
A A A A A 0 G

+
0 1 2 3 4 5 0 1 2 3 4 5
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Arithmetic Gradient Series
 Suppose that there is an arithmetic gradient series that has a "𝐺𝐺"
change or "gradient" from one period to the next. Let 𝑖𝑖 is the
interest rate and 𝑁𝑁 is the number of periods, then:
 The single payment present worth:
1 + 𝑖𝑖 𝑁𝑁 − 𝑖𝑖𝑖𝑖 − 1
𝑃𝑃 = 𝐺𝐺 𝑃𝑃⁄𝐺𝐺 , 𝑖𝑖, 𝑁𝑁 = 𝐺𝐺
𝑖𝑖 2 1 + 𝑖𝑖 𝑁𝑁
 The sinking fund payment:
1 𝑁𝑁
𝐴𝐴 = 𝐺𝐺 𝐴𝐴⁄𝐺𝐺 , 𝑖𝑖, 𝑁𝑁 = 𝐺𝐺 −
𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁 − 1
 The single payment Future worth
𝐺𝐺 1 + 𝑖𝑖 𝑁𝑁 − 1
𝐹𝐹 = 𝐺𝐺 𝐹𝐹 ⁄𝐺𝐺 , 𝑖𝑖, 𝑁𝑁 = − 𝑁𝑁
𝑖𝑖 𝑖𝑖

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Example
 Susan wants to find the present worth of repair bills of his eight-year-old Prius
over the four years that she expects to keep the car. Susan has the car in for
repairs every six months. Repair costs are expected to increase by $50 every six
months, over the next four years, starting with $500 six months from now, $550
six months later, and so on. What is the present worth of the repair cost over the
next four years if the interest rate is 12% compounded monthly?
Solution:

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Example
 First, for 𝑖𝑖𝑟𝑟 = 12%/𝑦𝑦𝑦𝑦𝑦𝑦𝑦𝑦 compounded monthly, the compounding
period 𝑚𝑚 is 12, hence, the monthly compounded interest rate is:
12%
𝑖𝑖𝑟𝑟 = = 1%/𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚𝑚
12

 Then, the effective interest rate every 6 months is:

𝑖𝑖6𝑚𝑚 = 1 + 0.01 6 − 1 = 6.152%

 𝐴𝐴′ = 500 ; 𝐺𝐺 = 50 ; N = 4 ; m = 2 ; and we obtain the total Annuity

1 𝑁𝑁 ∗ 𝑚𝑚
𝐴𝐴 = 𝐴𝐴′ + 𝐺𝐺 −
𝑖𝑖 1 + 𝑖𝑖 𝑁𝑁∗𝑚𝑚 − 1

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Example (contd)
1 8
𝐴𝐴 = 500 + 50 − 8
0.06152 1 + 0.06152 −1
𝐴𝐴 = $659.39
0 1 2 3 4

$659.39

 Finally, we find the present value:

1 + 0.06152 8 − 1
𝑃𝑃 = 𝐴𝐴 𝑃𝑃⁄𝐴𝐴 , 𝑖𝑖, 𝑁𝑁 = 659.39 8
0.06152 1 + 0.06152
𝑃𝑃 = $4,070.10

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Geometric Gradient Series
 Series of cash flows that increase
or decrease by a constant
percentage each period.
 Example: inflation, deflation,
productivity improvement,
increment in maintenance
costs due to aging.
 The base value of the series is 𝐴𝐴,
and the rate of growth is 𝑔𝑔.
 As in annuities and arithmetic
series, it is assumed that the
compounding period and the
payment period are the same.

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Geometric gradient to present worth conversion factor
 Gives the present value 𝑃𝑃 equivalent to
a geometric gradient series where the
base cash flow is 𝐴𝐴, the rate of growth is
𝑔𝑔, the interest rate is 𝑖𝑖, and the number
of compounding periods is 𝑁𝑁:
1 + 𝑖𝑖 0 𝑁𝑁 − 1 1
𝑃𝑃⁄𝐴𝐴 , 𝑔𝑔, 𝑖𝑖, 𝑁𝑁 =
𝑖𝑖 0 1 + 𝑖𝑖 0 𝑁𝑁 1 + 𝑔𝑔

 Where the growth-adjusted interest

rate, 𝑖𝑖 0 , is obtained as follows:
0
1 + 𝑖𝑖
𝑖𝑖 = −1
1 + 𝑔𝑔

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Example
 The first-year maintenance cost for a new car is estimated to be
$100, and it increases at a uniform rate of 10% per year. Using an
8% interest rate, calculate the present worth of cost of the first five
years of maintenance.

Solution:
𝐴𝐴 = $100 ; 𝑔𝑔 = 10% ; 𝑖𝑖 = 8% ; 𝑁𝑁 = 5

1 + 𝑖𝑖 1 + 0.08
𝑖𝑖 0 = −1= − 1 = −0.0182 𝑜𝑜𝑜𝑜 − 1.82%
1 + 𝑔𝑔 1 + 0.1

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Example (contd.)

1 + 𝑖𝑖 0 𝑁𝑁 − 1 1
𝑃𝑃⁄𝐴𝐴 , 𝑔𝑔, 𝑖𝑖, 𝑁𝑁 =
𝑖𝑖 0 1 + 𝑖𝑖 0 𝑁𝑁 1 + 𝑔𝑔
1 − 0.0182 5 − 1 1
= 5
= 4.8042
−0.0182 1 − 0.0182 1 + 0.1

𝑃𝑃 = 𝐴𝐴 𝑃𝑃⁄𝐴𝐴 , 𝑔𝑔, 𝑖𝑖, 𝑁𝑁 = 100 4.8042

𝑃𝑃 = $480.42

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Summary of equations

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Summary of Equations

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