Time Value of Money

INTRODUCTION To carry on business, corporation needs an almost endless variety of real assets. Many of these assets are tangible such as machinery, factories, offices, others are intangible, such as technical expertise, trademarks, patents. All of them need to be paid for. So, there are always two questions: “what real assets should the firm invest in?” And “how should the cash for the investment be raised?”. The answer to the first question is the firm’s investment, or capital budgeting decision. The answer to the second is the firm’s financing decision. The financial managers have responsibility to do that. And one of significant tools that financial managers use is time value of money. It indicates the value of money figuring in a given amount of interest earned over a given amount of time. From the future or present value of a cash flow, financial managers will decide which investment projects are optimal. To understand more about time value of money, as well as its implications in financing and investment, our group will answer three questions below:
Question 1: What is time value of money? How is it important?
Question 2: Motivation and formula of calculation of future values and present values of a simple (single) cash flow, an annuity, and a perpetuity?
Question 3: Implications in financing and investment?
Alternating theories is illustrations and examples that allow people to image them in practice.
CONTENT
QUESTION 1: WHAT IS TIME VALUE OF MONEY? HOW IS IT IMPORTANT? Any rational person would like defer payment into the future if he/ she have to pay and take the money in the present if he/ she are to receive. We can see that there are three elements here, i.e. present, future and money. Or we can say that the theory lying behind such behavior of paying and receiving money is something relating to TIME. And that theory is called TIME VALUE OF MONEY. As said above, people always want to get money as soon as possible and