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    Gradient

    Uploaded by

    Krypsen Dune L. Pilongo
    This document provides examples and explanations of gradient series cash flows, including linear gradients, geometric gradients, and composite cash flows made up of both gradient and annuity due components. Key concepts covered include converting between gradient and annuity due series, calculating present and future values of gradients, and using the appropriate present worth factor formulas for gradients. Several example problems are worked through step-by-step to demonstrate applying these gradient series concepts.

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    © All Rights Reserved
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    Gradient

    Uploaded by

    Krypsen Dune L. Pilongo
    171 views27 pages
    This document provides examples and explanations of gradient series cash flows, including linear gradients, geometric gradients, and composite cash flows made up of both gradient and annuity due components. Key concepts covered include converting between gradient and annuity due series, calculating present and future values of gradients, and using the appropriate present worth factor formulas for gradients. Several example problems are worked through step-by-step to demonstrate applying these gradient series concepts.

    Original Description:

    Uniform Gradient

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    This document provides examples and explanations of gradient series cash flows, including linear gradients, geometric gradients, and composite cash flows made up of both gradient and annuity due components. Key concepts covered include converting between gradient and annuity due series, calculating present and future values of gradients, and using the appropriate present worth factor formulas for gradients. Several example problems are worked through step-by-step to demonstrate applying these gradient series concepts.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Download as pdf or txt
    171 views27 pages

    Gradient

    Uploaded by

    Krypsen Dune L. Pilongo
    This document provides examples and explanations of gradient series cash flows, including linear gradients, geometric gradients, and composite cash flows made up of both gradient and annuity due components. Key concepts covered include converting between gradient and annuity due series, calculating present and future values of gradients, and using the appropriate present worth factor formulas for gradients. Several example problems are worked through step-by-step to demonstrate applying these gradient series concepts.

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    Gradient series

    – Linear gradient
    – Geometric gradient
    Linear gradient series

    (1 + i)N –iN - 1
    P=G
    i2(1 + i)N

    = G(P/G,N.i)

    Gradient series present worth factor


    Gradient series as a composite series
    Example – supper lottery

    $3.44 million

    Cash option

    0 1 2 3 4 5 6 7 25 26

    Annual payment option

    $357,000
    G = $7,000
    $196,000
    $189,000
    $175,000

    0 1 2 3 4 5 6 7 25 26
    Equivalent present value of annual payment
    option at 4.5%

    P = [$175,000 + $189,000(P/A, 4.5%, 25) +


    $7,000(P/G, 4.5%, 25)](P/F, 4.5%, 1) =
    $3,818,363
    Excel
    solution
    Example – present value calculation for a gradient series

    $2,000
    $1,750
    $1,500
    $1,250
    $1,000

    0
    1 2 3 4 5

    How much do you have to deposit


    now in a savings account that
    P =? earns a 12% annual interest, if you
    want to withdraw the annual series
    as shown in the figure?
    Method 1:
    $2,000
    $1,750
    $1,500
    $1,250
    $1,000

    0
    1 2 3 4 5

    $1,000(P/F, 12%, 1) = $892.86


    $1,250(P/F, 12%, 2) = $996.49
    P =? $1,500(P/F, 12%, 3) = $1,067.67
    $1,750(P/F, 12%, 4) = $1,112.16
    $2,000(P/F, 12%, 5) = $1,134.85
    $5,204.03
    Method 2:

    P1 = $1,000(P / A,12%,5)
    = $3,60480
    .

    P2 = $250(P / G,12%,5)
    = $1,599.20

    P = $3,604.08 + $1,59920
    .
    = $5,204
    Example – linear gradient

    You are trying to decide between 2 job offers. Allied Signal


    has offered to pay you $50,000/year, with guaranteed
    pay increases of $2,000/year. Raytheon has offered to
    start you at $54,000/year, with no pay increases over
    the next 5 years. What is the present worth of the each
    cash flow over the next 5 years, using the end of year
    convention and assuming an 8% interest rate is
    available?
    Linear gradient series

    $50k $52k $54k $56k $58k

    Allied Signal

    0 1 2 3 4 5

    $54k $54k $54k $54k $54k

    Raytheon

    0 1 2 3 4 5
    Composite cash flow
    $0 $2k $4k $6k $8k

    0 1 2 3 4 5
    $50k $52k $54k $56k $58k strict linear gradient series

    = +
    equal payment series
    0 1 2 3 4 5 $50k $50k $50k $50k $50k

    0 1 2 3 4 5
    Gradient to equal-payment conversion

    $0 $G $2G $3G $4G $A $A $A $A $A

    ⇔
    0 1 2 3 4 5 0 1 2 3 4 5
    strict linear gradient series equal payment series

    P = G(P/G, i, N) A = P(A/P, i, N)

    A = G(P/G, i, N)(A/P, i, N)

    ⎡ (1 + i ) N − iN − 1 ⎤ ⎡ i (1 + i ) N ⎤ ⎡ (1 + i ) N − iN − 1 ⎤
    A=G⎢ ⎥ ⎢ ⎥ =G⎢ ⎥ = G ( A / G , i, N )
    ⎣ i (1 + i ) ⎦ ⎣ (1 + i ) − 1 ⎦ ⎢⎣ i ⎡⎣(1 + i ) − 1⎤⎦ ⎥⎦
    2 N N N
    Future worth of a gradient series

    $0 $G $2G $3G $4G $A $A $A $A $A

    ⇔
    0 1 2 3 4 5 0 1 2 3 4 5
    strict linear gradient series equal payment series

    A = G(A/G,i,N)
    F = A(F/A,i,N)
    F = G(A/G,i,N)(F/A,i,N) = G(F/G,i,N)

    ⎡ (1 + i ) N − iN − 1 ⎤ ⎡ (1 + i ) N − 1 ⎤ G ⎡ (1 + i ) N − 1 ⎤
    F =G⎢ ⎥⎢ ⎥ = ⎢ − N ⎥ = G ( F / G , i, N )
    ⎢⎣ i ⎡⎣(1 + i ) − 1⎤⎦ ⎥⎦ ⎣
    N
    i ⎦ i ⎣ i ⎦
    Linear vs. geometric gradient

    A8
    A
    Cash flows on a linear gradient A5 A 6
    7

    increase by a constant amount A A 4


    3
    each interest period. A1 A2
    An = A1 + (n − 1)G, n = 1, 2,..., n

    Cash flows on a geometric gradient A8


    increase by a constant percentage A7
    each interest period. The A6
    A5
    percentage is call the growth rate, A
    A1 A2 A3 4
    g.
    An = A1 (1 + g ) n −1 , n = 1, 2,..., n
    Geometric gradient application

    Suppose you bought $P worth of an


    income stock, which pays a steady
    dividend of g% each year, and you
    reinvest the dividends (to buy more
    stock). Draw the dividend income
    cash flow for 8 years. ($Pg = $A1)

    A8
    An = A1 (1 + g ) n −1 , n = 1, 2,..., n A7
    A6
    A5
    A
    A1 A2 A3 4
    Present worth factor

    1 – (1 – g)N (1 + i)-N
    P = A1 i≠g
    i-g

    N
    P = A1 i=g
    1+i A8
    A7
    A6
    A5
    A
    A1 A2 A3 4
    Example – problem 2.43

    What is the amount of 10 equal annual deposits that can


    provide five annual withdrawals, when a first withdrawal
    of $1000 is made at the end of year 11, and subsequent
    withdrawals increase at the rate of 6% per year over the
    previous year’s, if…
    (a) … the interest rate is 8%, compounded annually.
    (b) … the interest rate is 6%, compounded annually.
    Example 2.17: find P, given A1,g,i,N

    – given:
    g = 5%
    i = 7%
    N = 25 years
    A1 = $50,000
    – find: P

    ⎡1 − (1 + 0.05) 25 (1 + 0.07) −25 ⎤


    P = $50, 000 ⎢ ⎥
    ⎣ 0.07 − 0.05 ⎦
    = $940, 696
    Required additional savings

    P= $50, 000( P / A , 7% , 25)


    = $582, 679
    ∆P = $940, 696 − $582, 679
    = $358, 017
    Problem 2.32 Cash Flow

    – Equal payment series, A = $?, i = (a) 8% or (b) 6%, N = 10.


    – Geometric gradient series, A1 = $1000, paid at end of interest period
    11, g = 6%, N = 5, i = (a) 8% or (b) 6%

    g = 6%
    $1000

    0 1…
    11 … 15
    $A
    Composite $200

    cash flows $150 $150 $150 $150

    $100 $100 $100


    $50

    0
    1 2 3 4 5 6 7 8 9

    PGroup 1 = $50( P / F ,15%,1)


    = $43.48

    PGroup 2 = $100( P / A,15%, 3)( P / F ,15%,1)


    = $198.54
    PGroup 3 = $150( P / A,15%, 4)( P / F ,15%, 4)
    = $244.85
    PGroup 4 = $200( P / F ,15%, 9)
    = $56.85
    P = $43.48 + $198.54 + $244.85 + $56.85
    = $543.72

    Figure 2-32
    Unconventional equivalence calculations

    Situation 1: If you make 4


    annual deposits of $100
    in your savings account
    which earns 10% annual
    interest, what equal
    annual amount can be
    withdrawn over 4
    subsequent years?
    Unconventional equivalence calculations

    Situation 2: What value


    of A would make the
    two cash flow
    transactions
    equivalent if i = 10%?
    Example – problem 2.53

    Find the value of X so that the following 2 cash


    flows are equivalent for an interest rate of 10%
    compounded annually: (i) $400 withdrawn in
    each of years 1-3 and $200 withdrawn in each
    of years 4-5, and (ii) $X withdrawn in each of
    years 1-2, 5 and $300 deposited in each of
    years 3-4. See 2.53 in text for figure.

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