TIME VALUE OF MONEY

Financial Management
Prof. Deepa Iyer

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 COMPOUNDING & DISCOUNTING

• Compounding is the process of calculating future

values of cash flows whereas discounting means
finding present value of cash flows.

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 PRESENT VALUE OF A SINGLE AMOUNT

• Present value of a future single sum of money

is the value that is obtained when the future
value is discounted at a specific given rate of
interest. The formula to calculate present
value of a future single sum of money is:
Present Value (PV) = FVn [1/(1+r)n]

1/(1+r)n is called the discounting factor or the

present value interest factor (PVIFr,n)

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PRESENT VALUE OF A SINGLE AMOUNT

What is the present value of Rs.1,000

receivable 20 years hence if the discount rate
is 8%?

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 PRESENT VALUE OF A SINGLE AMOUNT

• Rs. 1,000 (1/1.08)20

= Rs. 1,000 (1/1.08)10 (1/1.08)10
= Rs. 1,000 (PVIF8%,10%) (PVIF8%,10%)
= Rs. 1,000 (0.463) (0.463)
= Rs. 214

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PRESENT VALUE OF AN UNEVEN SERIES

In financial analysis we often come across

uneven cash flow streams from capital
investment project or dividend stream
associated with equity shares etc.
The PV of a cash flow stream uneven or even
may be calculated as follows:

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PRESENT VALUE OF AN UNEVEN SERIES

PVn: present value of a cash flow stream

At: cash flow at the end of the year t
r: discount rate
n: duration of the cash flow stream

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 PRESENT VALUE OF AN UNEVEN SERIES

• Calculate the present value of an uneven cash flow

using discount rate of 12%.
Year Cash Flow (Rs.)
1 1,000
2 2,000
3 2,000
4 3,000
5 3,000
6 4,000
7 4,000
8 5,000
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 PRESENT VALUE OF AN UNEVEN SERIES

Present Value of Cash

Year Cash Flow (Rs.) PVIF (12%,n) flow (Rs.)
1 1,000 0.893 893
2 2,000 0.797 1,594
3 2,000 0.712 1,424
4 3,000 0.636 1,908
5 3,000 0.567 1,701
6 4,000 0.507 2,028
7 4,000 0.452 1,808
8 5,000 0.404 2,020

Present value of cash flow stream 13,376

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 PRESENT VALUE OF AN UNEVEN SERIES
SPREADSHEET ANALYSIS
A B C D E F G H I
1 YEAR 1 2 3 4 5 6 7 8
2 CASH FLOW 1000 2000 2000 3000 3000 4000 4000 5000
3 DISCT RATE 12% ₹ 13,374.98

Type cash flows for years 1 through 8 in the cells B2 to I2 and

the discount rate in B3.
Select I3 and type = NPV (B3, B2:I2) and press enter you get the
Net present Value (NPV)

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 PRESENT VALUE OF AN UNEVEN SERIES

• SPREADSHEET ANALYSIS
In Excel, the term NPV is used to denote the
net result of adding the present values of a
stream of future cash flows unlike our usual
practice of using the term NPV, to denote
excess of the total present value of the future
receipts /payments over the initial investment
(cash inflow).

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Let’s solve:

1. If you invest Rs. 5,000 today at a compound

interest of 9%, what will be its future value
after 75 years?
2. If the interest rate is 12%, what are the
doubling periods as per the rule of 72 and
the rule of 69 respectively?
3. What is the present value of Rs. 1,000,000
receivable 60 years from now, if the discount
rate is 10%?
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