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THE BUSINESS OF INTEREST

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INTRODUCTORY ACTIVITY: SETTING THE STAGE

  1. Open the discussion by asking if any of the students have ever borrowed money, or contemplated borrowing money, and if they know what "interest" is.

  2. Discuss how loans work. (A loan is a type of debt. A bank or other financial organization loans money to a borrower, who must pay it back over time.) The bank generally charges a cost for the loan, which is called "interest." Interest has to be paid back along with the loan.

  3. Next, using the "Loan Components" Teacher Organizer, write on the board the components of the loan: principal, interest, term, and monthly installment. Discuss with the class what each of the terms means.

  4. Explain that interest is generally calculated as a percentage of a loan. For example, $100 is borrowed with a 5% interest rate over a year, $105 must be repaid (the principal: $100, + 5% of the $100 = $5).

  5. To ensure that students understand the mathematical concept of interest rates, pass out the "Loan Calculation" Student Organizer. Using the top grid on the Organizer, have students fill in the "interest amount" and "total repayment amount" columns to calculate the different amounts of interest generated on a loan with $1,000 in principal, at a variety of interest rates. This will allow the students to see how an interest rate impacts the total repayment amount. You may want to copy the chart on the board. Use the Teacher Answer Key to check the answers.

  6. Next, have students break up the $1,000 principal of the loan into 12 installments to represent a year (don't include interest calculations at this point). Ask the students how much the monthly payment would be for the $1,000? ($1,000 12 = $83.33 per month).

  7. Then, ask students to take the total value of the loan plus the interest fee at the six different rates, and divide each total repayment amount by 12 to see a year's worth of twelve monthly payments. These values should be entered in the last column of the "Loan Calculation" Student Organizer, titled "monthly installment for one year," and the answers can be found in the Teacher Answer Key. Discuss how the interest rate impacts the monthly payments.

  8. Explain that all the examples and calculations students have been doing thus far have related to simple interest, which is calculated on the amount of the principal only. In reality, most interest that is paid -- either to a savings account or toward a loan -- is compound interest, which is interest calculated not only on the principal but also on all the interest that has accumulated already.

  9. Provide the following example to the class: We previously discussed borrowing $100 for one year at 5% interest. Using a simple interest calculation, $5 in interest will be added to the loan at the end of the year, for a total of $105 due to the bank. But most loans do not calculate interest only once per year. The interest may be spread out over the course of the year, with calculations made each month, each week, or even each day. The length of time between each addition of interest is called the "period" of compounding. The more frequent the period, the more effective interest will be added to the cost of the loan.

  10. The formula: Effective Rate = (1 + (i / n))n - 1 can be used to assess the effect of compounding. In this formula, "i" is the stated rate of interest, and "n" is the number of compounding periods per year.

  11. Ask the students to calculate the effective rate of interest for a 5% (0.05) stated rate of interest. (For a 5% stated rate of interest, the Effective Rate = (1 + (0.05 / 12))12 - 1. The effective rate is 0.0512 or 5.12%). For the $100 loan, this will mean that $105.12 will be owed to the bank at the end of the year. This may not sound like a big difference, but for larger amounts of money, longer periods of time, and/or higher rates of interest, the compounding of interest really adds up.

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LEARNING ACTIVITIES

Learning Activity 1

  1. Discuss with the students why a business might want to take out a loan, even though it means having to pay back interest. For example, businesses might take out loans to expand their offices, open new shops, or to introduce new products. The idea is that the company may not have the cash on hand to expand the business or introduce a new product line, but with the loan's help they can achieve their goals. They also expect to generate more profit through the expansion or upgrade, and this profit will enable them to pay back the loan.

  2. Explain the need for a business to repay the principal of the loan plus interest. Reiterate to students that most loans are repaid on a monthly basis, and that payment is an additional cost to the company.

  3. Explain to the class that they will be watching a short video on a fashion designer who applies for a loan.

  4. Provide students with a FOCUS FOR MEDIA INTERACTION. Ask them their thoughts on what Anna, the business owner, expects to achieve with her loan. Play the "Green Chic" segment for the class.

  5. Review the "Green Chic" segment that was viewed with students, and analyze why Anna needed a loan for her fashion business (she wanted to produce her spring line).

  6. Then, discuss how Anna will need to make enough money from her expanded business to repay the loan plus interest.

Learning Activity 2

  1. Hand out the "Company Card" Student Organizers. Ask students to read about each of the three companies on the cards.

  2. Discuss how each business has different financial needs, and a different repayment ability once the firm has borrowed money. Next, students will match each business with a loan type that fits its needs.

  3. To begin with, ask students to take out their "Loan Calculation" Student Organizer. The students need to review the six different loans and payback schedules in the "Possible Business Loans" grid. Students then need to calculate the six different repayment amounts, and the monthly installments that would be required for a one-year loan term (they will use simple interest calculations). See the Teacher Answer Key for the correct responses.

  4. Then, ask the students to review the three businesses and their loan needs. First, the students will match the loans with the loan needs of the company, and fill those in the in the "Potential Loans" space in each of the three "Company Card" organizers. Each company will have two loans that fit its needs.

  5. Next, ask the students to determine the loan that each company can actually afford, given the extra revenue they expect to generate using the loan. Students should then fill in that loan in the "Final Choice" space at the bottom of each "Company Card" organizer. See the Teacher Answer Key for the correct responses.

  6. Discuss why certain loans were not affordable for the companies (the monthly repayment amounts were higher than the additional income the company would earn).

Learning Activity 3

  1. Ask the students how they would make decisions about borrowing money if they ran their own business. What risks would they be taking by borrowing money? (For example, they might not be able to pay it back.) Students will then play the online interactivity "Rags to Riches" to apply the knowledge that they have learned.

  2. Introduce the online interactivity by telling students that they will be role-playing a young entrepreneur who has decided to start a business selling T-shirts on the Internet. The entrepreneur has successfully received a loan from a bank to open the business, and now will have to try and run their business successfully while making a profit. Provide students with a FOCUS FOR MEDIA INTERACTION: tell them to play the interactivity (students may do this individually or in groups) and to list some strategies for keeping a business afloat.

  3. Once students have finished the interactivity, ask them to report back what they learned. Did they pick up any business strategies? (For example, they may have learned that they need to make loan repayments on time to the bank, that more advertising can increase revenue, and that they need to keep some savings on hand for emergencies.) For some students, the game may have ended before the 12 weeks of the business quarter were up. If so, discuss why their business failed and what they could do to make the enterprise more successful in the future.

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CULMINATING ACTIVITY

  1. Explain to students that a "sustainable business" is one that operates in a socially and environmentally responsible manner. This means that the business might try to cut down its energy usage, try to use renewable resources, and adopt practices that protect the environment and human rights.

  2. Ask students to talk about what it meant for Anna's business to be "sustainable." Specifically, lead the discussion by talking about Anna's use of fabrics and dyes that don't harm the environment.

  3. Emphasize to the students that sustainable business practices are not necessarily more expensive than others, and in fact can come at a cost savings for businesses.

  4. Next, ask students to review the "Sustainable Business" Student Organizer to view an example of a company and its practices.

  5. Break up the class into groups to research on the Web and instruct them to brainstorm different ways the company could combine or replace some of their current practices with more sustainable ones. Web sites with information on various sustainable practices can be found in the Materials section of this lesson plan, and on the "Sustainable Business" Student Organizer. After conducting their research, the student groups should list specific ways the company could implement environmentally friendly practices.

  6. Then, ask the groups to determine which of the sustainable practices could save the company money as well as help the environment.

  7. Come back together as a group, and ask students to list the different sustainable practices their group found. Ask the students to identify which practices can also help the company financially. Some sustainable strategies could include: choosing alternative energy sources for heating and cooling; switching to energy-efficient compact-fluorescent lightbulbs; decreasing fuel mileage and/or switch to alternative-fuel vehicles; decreasing solid waste by reducing and recycling.

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Lesson plan written by Melissa Donohue