Time Value of Money

Question: What is the present value of a future amount?

1. The present value of a future amount means the value of an amount of cash today that is equivalent in value to a payment, or to a stream of payments, to be received in the future.

Question: What is the difference between future value and present value?

2. Present value is what money is worth today. If for example you won the lottery and you will be paid $25, 000 per year, the present value of that sum is what that money is worth to you today.

Future value is simply the opposite of this. If you won the lottery and will receive $25,000 for 10 years, it is the amount to which that $25,000 will grow over the designated period of time at a specified rate of interest.

Question: Which between present value and future value techniques is preferred by financial managers and why?

3. Financial managers tend to prefer using the present value technique, because it's much easier to make decisions at time zero with present values rather than future values.

Question: What is discounting of interest and why do we need to know about this?

4. Discounting of interest occurs where an interest rate is determined.

Then that percentage is removed from a loan amount, and the borrower is given the remainder of the loan. All of the interest is paid at once, at the beginning. For example, in a discount interest scenario, if a borrower is borrowing $1000 with 5% interest rate, $50 in interest is removed at the very beginning, and the borrower is able to borrow $950.

We need to know about discounting of interest to understand how compounding of interest works which is the opposite of discounting.

With compounding, interest is added to the principal of a deposit or loan,

so that, from that moment on, the interest that has been added also earns interest.

Question: What is the general equation used to calculate the present

value when interest is discounted annually?

5. PV= FV n

(1+r ) n

Question: What are the various equations used to calculate present value when interest is NOT DISCOUNTED ANNUALLY?

6. PV n= FV n

(1+r ) nxm

m

Question: What are the equations used to calculate present value