Module 4: Time Value of Money and Depreciation:

1. What is the concept of the time value of money?

Answer:
The time value of money (TVM) is a financial concept that states that money available today is worth
more than the same amount in the future due to its potential earning ability. This principle highlights
that the value of money changes over time due to interest, inflation, and investment opportunities.

2. Define Present Value (PV).

Answer:
Present Value (PV) is the current value of a future sum of money, discounted at a particular interest
rate. It represents the amount of money you would need to invest today to receive a specified
amount in the future.

3. What is Future Value (FV)?

Answer:
Future Value (FV) is the value of an investment or cash flow at a specific point in the future, based on
a given interest rate. It calculates how much a current investment will be worth at a future date,
considering compound interest.
6. What is the cost of money?

Answer:
The cost of money refers to the interest rate or return that a lender demands for the use of capital. It
reflects the opportunity cost of investing capital in one project versus another and is typically
expressed as an annual percentage rate (APR).

7. What are the factors that affect the cost of money?

Answer:
The cost of money is influenced by factors such as inflation rates, the risk associated with lending,
economic conditions, and central bank policies. Interest rates are also impacted by demand and
supply for money and the length of time for which money is borrowed.

8. Define the Payback Period Method.

Answer:
The Payback Period Method calculates the time required to recover the initial investment from the
cash inflows generated by the project. It is a simple investment appraisal method that does not
consider the time value of money.

9. Explain the Rate of Return Method.

Answer:
The Rate of Return Method involves calculating the return (interest rate) that equates the present
value of future cash inflows with the initial investment. It helps in assessing the profitability of a
project by comparing its rate of return to the required rate of return.

10. What is the Internal Rate of Return (IRR)?

Answer:
The Internal Rate of Return (IRR) is the discount rate that makes the net present value (NPV) of a
project or investment zero. It represents the expected rate of return on a project and is used to
evaluate the profitability of investments.

11. How is Depreciation defined?

Answer:
Depreciation refers to the reduction in the value of an asset over time, due to wear and tear,
obsolescence, or age. It is an expense that businesses account for to allocate the cost of tangible
assets over their useful lives.

12. What are the factors affecting depreciation?

Answer:
Factors affecting depreciation include the initial cost of the asset, the asset’s expected useful life, the
residual value (salvage value), and the method of depreciation used. External factors such as market
demand and technological changes may also influence depreciation.

13. What are the different methods of depreciation?

Answer:
Common methods of depreciation include:

 Straight-Line Method: Depreciation is calculated equally over the asset's useful life.

 Declining Balance Method: Depreciation is higher in the earlier years of the asset's life.

 Sum of the Years’ Digits Method: Accelerated depreciation method that accounts for a
higher depreciation rate in the earlier years.

 Units of Production Method: Depreciation is based on the asset's usage or production level.

15. Define the Declining Balance Method.

Answer:
The Declining Balance Method calculates depreciation by applying a fixed percentage to the book
value of the asset at the beginning of each year. The depreciation amount decreases as the asset
value declines.
16. Explain the concept of the Internal Rate of Return (IRR) with an example.

Answer:
The IRR is the rate at which the present value of future cash inflows equals the initial investment. For
example, if an investment of $100,000 generates cash inflows of $30,000 annually for 5 years, the IRR
is the rate that makes the present value of these inflows equal to $100,000.

17. What is the difference between Present Value and Future Value?

Answer:

 Present Value (PV): The value today of a future sum of money, discounted at a specific rate.

 Future Value (FV): The value of a current sum of money at a specific point in the future, after
applying interest.

18. What are the limitations of the Payback Period Method?

Answer:
The Payback Period Method has several limitations, such as:

 It ignores the time value of money.

 It does not consider cash flows after the payback period.

 It provides no insight into the overall profitability or risk of a project.

20. What is the Salvage Value of an asset?

Answer:
The Salvage Value is the estimated residual value of an asset at the end of its useful life. It is the
amount that the asset can be sold for after it has been fully depreciated.
Part B: 10-Mark Questions and Answers

1. Explain the Payback Period Method with an example.

Answer:
The Payback Period Method calculates how long it will take for an investment to recover its initial
cost from the cash inflows it generates. It does not consider the time value of money.

2. Discuss the Internal Rate of Return (IRR) method and its application.

Answer:
The IRR is the discount rate that makes the net present value (NPV) of an investment equal to zero. It
represents the expected return on an investment. A higher IRR indicates a more profitable
investment.

Example:

3. Explain the concept of the cost of money and its impact on financial decisions.

Answer:
The cost of money is the interest rate or return demanded by lenders for the use of capital. It affects
financial decisions such as borrowing, investment, and project evaluation. A higher cost of money
makes borrowing more expensive and may discourage investment, while a lower cost of money
encourages borrowing and investment.

4. Describe the concept of Depreciation and its importance in financial management.

Answer:
Depreciation is the allocation of an asset's cost over its useful life. It reduces taxable income and
helps businesses allocate costs properly. Depreciation methods such as Straight-Line, Declining
Balance, and Units of Production affect profit and tax liabilities.
8. Discuss the concept of Rate of Return Method in project evaluation.

Answer:
The Rate of Return Method calculates the profitability of an investment by comparing the rate of
return with the required rate of return or cost of capital. If the rate of return exceeds the required
rate, the investment is considered acceptable.
10. Discuss how Depreciation affects financial statements.

Answer:
Depreciation affects financial statements by reducing the value of fixed assets on the balance sheet
and by creating a depreciation expense on the income statement. This lowers taxable income and
affects net profit, helping businesses manage taxes.