TIME VALUE OF MONEY

The time value of money has gained greater importance in studying the viability of the project by comparing the initial investment with the anticipated future benefits. If the anticipated future benefits are more than the initial investment then the investment is found to be viable in generating the economic benefits. Why the time value of money principle is warranted to study under the financial Time Value of Money
management ?
The following are the many reasons involved:
To determine the real rate of return
With reference to Money employment on productive assets
In an inflationary period, a rupee today has greater purchasing power than rupee in
the future
The future is uncertain- Individuals prefer current consumption rather than future
consumption
FOUNDATIONS OF THE TIME VALUE OF MONEY
There are two, one is the time preference of money and another one is reinvestment
opportunity which are identified and inter related with each other. Early receipt of money paves way for the reinvestment opportunity but the later receipt does not carry the things.
Time value of money normally contains three different components viz: Real rate of return: It is the return which consider original return of the investment but it never considers the inflation rate. Expected/Anticipated rate of return: It is the positive rate of return normally expected
by every one on the amount of investment from the future.
Risk premiums: This an allowance is normally given to the investors to compensate the
uncertainty.
CLASSIFICATIONS OF THE TIME VALUE OF
MONEY
The concept of time value of money can be classified into two major classifications:
Future value of money
Present value of money
Future value of money: It is further bifurcated into two different categories viz
Future value of single sum and Future value of an Annuity
Present value of money: It is further classified into two major classes viz
Present value of single sum and Present value of and Annuity
Future value of single sum:
It could be found from the inbound relationship in between the future value of
money and present value of money.
FVn = PV(1+K)n
FVn = Future Value of Cash Inflow
PV = Initial Cash Flow
K = Annual Rate of Return
N = Life of Investment

No comments:

Post a Comment