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Time Value of Money Presentation

The document discusses the time value of money, which states that money today is worth more than money in the future due to its potential to grow through investment. It also discusses different types of interest rates including simple, compounding, and nominal interest. Key financial concepts covered include present value, future value, annuities, and formulas for calculating the present and future value of annuity payments. Understanding these time value of money and interest rate concepts is important for making informed long-term financial decisions.

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Areej Riaz u
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71 views38 pages

Time Value of Money Presentation

The document discusses the time value of money, which states that money today is worth more than money in the future due to its potential to grow through investment. It also discusses different types of interest rates including simple, compounding, and nominal interest. Key financial concepts covered include present value, future value, annuities, and formulas for calculating the present and future value of annuity payments. Understanding these time value of money and interest rate concepts is important for making informed long-term financial decisions.

Uploaded by

Areej Riaz u
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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Time Value of

Money
Time value of money
Definition:
The time value of money is a financial principle that
states the value of a dollar today is worth more than the
value of a dollar in the future.
This philosophy holds true because money today can be
invested and potentially grow into a larger amount in
the future.
The time value of money is used to make strategic, long-
term financial decisions such as whether to invest in a
project or which cash flow sequence is most favorable.
Importance of time in finance

The time value of money is important because


it allows investors to make a more informed
decision about what to do with their money.
The TVM can help you understand which
option may be best based on interest, inflation,
risk and return.
Interest Rates
.

.
Interest
An interest rate refers to the amount charged
by a lender to a borrower for any form of
debt given, generally expressed as a
percentage of the principal. The asset
borrowed can be in the form of cash, large
assets such as vehicle or building, or just
consumer goods.
.
Interest Rate TYPES
Column
Style
Generally, in finance we use the three types of
interest. These can be categorized as :

1. Simple(regular) interest
2. Compounding interest
3. Nominal Interest

When money is borrowed, usually through the


means of a loan, the borrower is required to pay the interest agreed upon by the two parties.
Interest Rate TYPES
Column
Style
Generally, in finance we use the three types of
interest. These can be categorized as :

1. Simple(regular) interest
2. Compounding interest
3. Nominal Interest

When money is borrowed, usually through the


means of a loan, the borrower is required to pay the interest agreed upon by the two parties.
Simple Interest Rate
Simple (Regular) Interest
Simple or regular interest rate is the amount of
interest due on the loan, based on the principal
loan outstanding.
 Simple interest is determined by multiplying the
daily interest rate by the principal by the number
of days that elapse between payments.
Compounding Interest rate

• Compounding interest rate  essentially means


“interest on interest.” The interest payments
change each period instead of staying fixed.
Simple interest is based solely on the principal
outstanding, whereas compound interest uses the
principal and the previously earned interest.
PRESENT VALUE
Net present value (NPV) is the difference
between the present value of cash inflows and
the present value of cash outflows over a
.
period of time

PV= FV/ (1+r)^n


FUTURE VALUE

Future value is the value of an asset at a


specific date. It measures the nominal
future sum of money that a given sum of
money is "worth" at a specified time in the
future..

FV= PV(1+r)^n
ANNUITY
An annuity is a financial product that pays out a
fixed stream of payments to an individual,
primarily used as an income stream for retirees.
There are two types of annuity annuity due and
ordinary annuity. Present annuity due and
present ordinary annuity and future annuity due
and future ordinary annuity.
Present value of annuity due
Calculating the PVAD
For this formula, the following values
are used:
P = periodic payment
r = rate per period
n = number of periods
The formula used is:
PVAD = P + P [ (1 - (1 + r) - (n - 1) ) ÷ r ]
Example
Annuity due's interest rate is 5%, you are promised the
money at the end of 3 years and the payment is $100 per
year.
Using the present value of an annuity due formula:
PVAD = P + P [ (1 - (1 + r) - (n - 1) ) ÷ r ]
(100 + 100 [ (1 - (1 + .05) - (3 - 1) ) ÷ .05 ]
(100 + 100 [1 - (1.05) - 2 ÷ .05 ] = $285.94
The value of $285.94 is the current value of three
payments of $100 with 5% interest.
Present value of ordinary annuity
The formula for calculating the present value of an
ordinary annuity is:
P = PMT [(1 - (1 / (1 + r)n)) / r]
Where:
P = The present value of the annuity stream to be paid in
the future
PMT = The amount of each annuity payment
r = The interest rate
n = The number of periods over which payments are to be
made
Example
ABC International has committed to a legal
settlement that requires it to pay $50,000 per year
at the end of each of the next ten years. What
would it cost ABC if it were to instead settle the
claim immediately with a single payment,
assuming an interest rate of 5%? The calculation
is:
P = PMT [(1 - (1 / (1 + r)n)) / r]
P = $50,000 [(1 - (1/(1+.05)10))/.05]
P = $386,087
Future value of annuity due
The future value of an annuity due uses the same basic future value
concept for annuities with a slight tweak, as in the present value
formula above.
To calculate the future value of an ordinary annuity:

•PMT – Periodic cashflows


•r – Periodic interest rate, which is equal to the annual
rate divided by the total number of payments per year
•n – The total number of payments for the annuity due
Example
A company wants to invest $3,500 every six months for four years to purchase a
delivery truck. The investment will be compounded at an annual interest rate of
12% per annum. The initial investment will be made now, and thereafter, at the
beginning of every six months. What is the future value of the cash flow
payments?
Using the formula above:

FV of the Investment = $3,500 x 10.49


FV of the Investment = $36,719.61
Future value of ordinary annuity
Future value od Ordinary Annuity have a formula:
FVOA = A× (1 + r)n /i

If at the end of each month, a saver deposited $100 into a


savings account that paid 6% compounded monthly, how much
would he have at the end of 10 years?
A = $100
r = 6% per year compounded monthly, which = .5% interest
per month = .005
n = the number of compounding time periods = 120 in 10 years.
Substituting these values into the equation for the future value
of an ordinary annuity:
100 * ((1+.005)120 -1)/.005 = $16,387.93
THANK YOU
ANY QUESTIONS ???

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