2-TimeValueofMoney.pptx
1
Time Value of Money
2
Time Value of Money
Future value
Amount to which investment will grow after earning interest
Present value
Value today of future cash flow
Key principle
$1 today > $1 tomorrow
3
FV of an initial $100 after3 years (I = 10%)
FV = ?
0
1
2
3
10%
Finding FVs (moving to the right
on a time line) is called
100
compounding
4
After 1 year
FV1= PV + INT1
= PV + PV (I)
= PV(1 + I)
= $100(1.10)
= $110.00
5
After 2 years
FV2= FV1(1+I)
= PV(1 + I)(1+I)
= PV(1+I)2
= $100(1.10)2
= $121.00
In general,
FVN= PV(1 + I)N
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Future values with annual compounding
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What’s the PV of $100 due in 3 years if I/YR = 10%?
10%
Finding PVs is the reverse of compounding; it is called
100
0
1
2
3
PV = ?
discounting
8
1.10
Solve FVN = PV(1 + I )N for PV
PV =
FVN
(1+I)N
= FVN
1
1 + I
N
PV
=
$100
1
= $100(0.7513) = $75.13
3
9
What is the PV of this uneven cash flow stream?
0
100
1
300
2
300
3
10%
-50
4
?
?
?
-?
?= PV
10
What is the PV of this uneven cash flow stream?
0
100
1
300
2
300
3
10%
-50
4
