Time Value of Money
TIME VALUE OF MONEY
I. DEFINITIONS
* A peso received today is worth more than a peso received in the future * In economics, it is the opportunity cost of passing up the earning potential of a peso today. * The idea that money available at the present time is worth more than the same amount in the future due to its potential earning capacity. * Holds that, provided money can earn interest, any amount of money is worth more the sooner it is received.
II. KEY CONCEPTS
* A single sum of money or a series of equal, evenly spaced payments or receipts promised in the future, can be converted to an equivalent value today. (Present Value of Cash Flows) * Conversely, you can determine the value to which a single sum or a series of future payments will grow to at some future date. (Future Value of Cash Flows)
III. What are the financial applications of time value of money?
* Equipment purchase or new product decision * Present value of a contract providing future payments * Future worth of an investment * Regular payment necessary to provide a future sum * Regular payment necessary to amortize a loan * Determination of return on an investment * Determination of the value of a bond.
IV. TIME LINE
* An important tool used in time value analysis; it is a graphical representation used to show the timing of cash flows.
* The first step in time value analysis is to set up a time line, which will help you visualize what’s happening in a particular problem.
The intervals from 0 to 1, 1 to 2, and 2 to 3 are time periods such as years or months. Time 0 is today, and it is the beginning of Period 1; Time 1 is one period from today, and it is both the end of Period 1 and the beginning of Period 2; and so forth.
V. PRESENT VALUE * is an amount today that is equivalent to a future payment, or series of payments, that has been discounted by an appropriate interest
I. DEFINITIONS
* A peso received today is worth more than a peso received in the future * In economics, it is the opportunity cost of passing up the earning potential of a peso today. * The idea that money available at the present time is worth more than the same amount in the future due to its potential earning capacity. * Holds that, provided money can earn interest, any amount of money is worth more the sooner it is received.
II. KEY CONCEPTS
* A single sum of money or a series of equal, evenly spaced payments or receipts promised in the future, can be converted to an equivalent value today. (Present Value of Cash Flows) * Conversely, you can determine the value to which a single sum or a series of future payments will grow to at some future date. (Future Value of Cash Flows)
III. What are the financial applications of time value of money?
* Equipment purchase or new product decision * Present value of a contract providing future payments * Future worth of an investment * Regular payment necessary to provide a future sum * Regular payment necessary to amortize a loan * Determination of return on an investment * Determination of the value of a bond.
IV. TIME LINE
* An important tool used in time value analysis; it is a graphical representation used to show the timing of cash flows.
* The first step in time value analysis is to set up a time line, which will help you visualize what’s happening in a particular problem.
The intervals from 0 to 1, 1 to 2, and 2 to 3 are time periods such as years or months. Time 0 is today, and it is the beginning of Period 1; Time 1 is one period from today, and it is both the end of Period 1 and the beginning of Period 2; and so forth.
V. PRESENT VALUE * is an amount today that is equivalent to a future payment, or series of payments, that has been discounted by an appropriate interest