This website uses cookies to ensure you have the best experience. Learn more

Time Value Of Money Essay

1634 words - 7 pages

Time Value of Money

Table of Contents
Time Value of Money………………………………………………………………..4
Future Value and Present Value…………………………………………………......5

Time value of money operations are the backbone of financial decisions in business. The basics of their operation lie in interest calculations that can be used to determine the value of money five years ago, today and even well into the future. These calculations can be tricky and are weighed with outside challenges that can affect them positively and negatively ...view middle of the document...

Simple interest is essentially the rent paid on borrowed money and is paid out at the end of each term on only the initial principal. If a business gave a bank $100.00 to hold at a 5% simple interest per year, the money would grow as follows:
Year 1:  5% of $100 = $5 + $100 = $105
Year 2:  5% of $100 = $5 + $105 = $110
Year 3:  5% of $100 = $5 + $110 = $115
Year 4:  5% of $100 = $5 + $115 = $120
Year 5:  5% of $100 = $5 + $120 = $125
With compound interest, interest payments are calculated on not only the initial principal, but also the accrued interest over time. The same $100.00 investment at 5% compounded annual interest would grow as follows:
Year 1:  5% of $100.00 = $5.00 + $100.00 = $105.00
Year 2:  5% of $105.00 = $5.25 + $105.00 = $110.25
Year 3:  5% of $110.25 = $5.51 + $110.25 = $115.76
Year 4:  5% of $115.76 = $5.79 + $115.76 = $121.55
Year 5:  5% of $121.55 = $6.08 + $121.55 = $127.63
As you can see in the examples, compound interest results in a geometric growth of funds rather than a simple linear growth seen in simple interest and if funds can held in a compound interest matrix for longer periods of time, the growth becomes even more dramatic as illustrated below.
Simple Interest Compound Interest

(“Study Finance: The Time Value of Money”, 2013).

Simple and complex interest are the building blocks for Future Value (Fv) and something many people use every day in their personal lives as the use checking, savings, and investment accounts. Future Value (Fv) is represented mathematically as Fv = Pv(1+nt) for simple interest and Fv = Pv(1+i)^n for compound interest where I is the rate of return and n is the number of periods. Using the above illustrated returns, the formula for Fv using compound interest would be as such:
Fv = 100(1+.05)^5 = $127.63
Present Value (Pv) is the reciprocal function of compound interest future value (Fv). This simply means that if a business needs $100.00 in 5 years from investments today at 5% compounded annually, present value will show the initial amount of that money that needs to be invested at a given return rate. The formula for that calculation is Pv = Fv/(1+i)^n where i is the rate of return, and n is the number of periods. Inserting the numbers from the example above, we get the following:
Pv = 100/(1+.05)^5 = $78.35
(“Study Finance: The Time Value of Money”, 2013).
With an understanding of how the calculations work and how Pv and Fv play a role in money decisions, it is easier to see how managers use these calculations in business situations to make educated choices regarding capital, but it is important to also understand the challenges associated with time value of money situations.
The challenges associated with time value of money situations are normally out of the direct control of decisions makers, but must be considered in any decision that might be made. The three main challenges are inflation, risk, and opportunity...

Other assignments on Time Value Of Money

Opanku Essay

543 words - 3 pages economy - where one good is directly trader for another. And expand time - we can save money for future use, wait for a better opportunity 4. What is Money? Medium of Exchange - a commodity that is valued and demanded for its own use, before becoming used as money. • Store of Value - a benefit of money - being able to store the products of our labor. • Unit of Account - another benefit - being able to make business calculation. 5. How money

Acst Notees Essay

610 words - 3 pages Simple Interest * Suppoe that an investor lends you money and at the agreed date you must repay the money together with the fee charged for the use of the money, known as the interest * Interest is income from the money (capital) invested. * The capital originally invested is called the princible while the sum of the princible and the interest is called the future value. * Most interest transactions are described by the rate

Northern Aero Data (Clv) Case Analysis

928 words - 4 pages Question 1 1) The lifetime value of a typical customer in each segment when the discount rate is 15%. * Exhibit 1 shows that the customer lifetime value for each segment with a 15% discount rate. * The lifetime value of a typical customer in the platinum( top 20%) segment is worth $3496. * The lifetime value of a typical customer in the platinum( low 80%) segment is worth $2394. * The lifetime value of a typical

Lump Sum Value

1669 words - 7 pages -01 Sep 17, 2014 Mastering the Time Value of Money ------------------------------------------------- ------------------------------------------------- ------------------------------------------------- ------------------------------------------------- ------------------------------------------------- SUBJECT: Lump Sum Values

Capital Budgeting Scenarios Paper

573 words - 3 pages amount of time required to recover the initial investment. A lack of consideration for the time value of money makes it more desirable to use alternative techniques. The most common technique for capital budgeting are net present value and internal rate of return, this is due to the methods using the cost of capital as the required rate of return. The importance of these techniques are critical for successfully recommending investment proposals

California Clinics

808 words - 4 pages capital, and hence, interest rates, (namely productive opportunities, time preferences for consumption, risk, and inflation) affects the cost of money. Investment opportunities state that if the business is highly profitable, then the business would be able to pay creditors a higher interest rate than if it is barely profitable. With time preferences for consumption, a potential lender may be saving money from retirement or pension and it able

Federal Reserve Paper

829 words - 4 pages defined as assets that people are generally willing to accept in exchange for goods and services or for payment of debts” (text). Therefore, the main purpose of money is to be a medium of exchange. This also falls in line with the four functions of money, which are medium of exchange, unit of account, store of value, and standard of deferred payment. Medium of exchange refers to the ability to purchase goods or services with money and also to

Sally Version Alternativa

960 words - 4 pages Sally Jameson: Valuing Stock Options in a Compensation Package (Abridged) Group Satie: Ai Nakajima, Chen-Wei Tang, Mithun Sridharan, Sarah Wright, Daniel de la Cuesta 23th May 2012 If we ignore tax considerations and assume that Sally Jameson is free to sell her options at any time after she joins Telstar, which compensation package is worth more? We can calculate the value of the stock options today using the Black-Scholes Model. If

Bonds And Features

541 words - 3 pages Mashell Chapeyama Personal Finance Bonds and their features Keywords: stock, dividends, coupons Bonds A bond is an obligation to pay back a sum of money obtained from the buyer, with interest as agreed. With a bond there is an agreement to pay an agreed sum of money as interest, spread over a period of time. At the end of the period as agreed the issuer of the bond repays the buyer the principal amount. Features of bonds Nominal amount

Warren Buffet - Study Case (Word+Excel)

580 words - 3 pages financial theories such as: time value of money, cost of lost opportunity, investments based on information and not emotions and alignment of agents and owners. Question 5: BH shareholders should endorse the acquisition of GEICO simply because during the day of the announcement of the acquisition, the BH share experienced a $609 growth. In addition, the expected internal rate of return is 19%: it means that the future of GEICO is expected to be good. For example, if a shareholder of BH detains 10 shares he will get $6,090 profit in a day!

Islamic Money

4604 words - 19 pages up the fiat money and prevent inflation can be argued further. The reason that they respondent as so was that fiat money without back up can be at any time needed be printed without any restriction and distributed to the market which as it comes to the market in so much amount inflation occurs which is a reduction of value in every amount of paper money. Fourthly, there are several factors that cause inflation and instability in the market to

Similar Documents

Time Value Of Money Essay

384 words - 2 pages Time value of money is the concept that shows the value of money which decreases day by day. There are so many factors which contribute to the time value of money such as inflation and increasing interest rates. The time value of money is sued to solve the problems which are related to the loans, mortgage, leases, saving and annuities. In the investment, time value of money is used to compare the alternatives of investment (Weil, 1990). The time

Time Value Of Money Essay

4966 words - 20 pages caused to the apparent failure of the Mining project and repercussions persuaded by Vedanta Alumina Ltd. Lessons to be learnt report will be prepared so that in future these sort of project failures can be avoided to save Time and Money of Corporate Houses.   1.1 Methodology The data collected will be seconadary in nature and no primary research will be done i.e. Researches, Documentation, Reports available, Journals, Company website, Online

Time Value Of Money Terminology Essay

2103 words - 9 pages Time Value of Money Terminology Terminology (AKA jargon) can be a major impediment to understanding the concepts of finance. Fortunately, the vocabulary of time value of money concepts is pretty straightforward. Here are the basic definitions that you will need to understand to get started (calculator key abbreviations are in parentheses where appropriate): Banker's Year A banker's year is 12 months, each of which contains 30 days. Therefore

Buns 5200 Week 6 Homework Essay

389 words - 2 pages BUSN 5200 Homework Assignment for Week 6: For Week 6, please turn in the answers to the following questions: 1. Why do we say money has time value? Money to be received or paid at one time is not the same value of money to be received in the future. 2. Why is it important for business managers to be familiar with time value of money concepts? Managers need to consider the concepts when making decision. 3