T i m e Va l u e

of Money
C h a p t e r 4
T i m e Va l u e o f M o n e y
• One of the most important concept in financial management.

• Basic concept of financial management and used in most of the financial

management chapters.

• Value of same quantity of money differs over time or same quantity of money is
not the same in value over time.
• Value differs due to reasons like interest rate, inflation, opportunity cost, risk and
uncertainty, etc.
• Basically, purchasing power of the same quantity of money will be different over
time.
T i m e Va l u e o f M o n e y
• Suppose a person has set aside NPR 5,000 to buy sugar for this year and coming 4
years i.e., 1,000 each year for sugar.

Year 0 (Today) 1 2 3 4
Amount Available 1000 1000 1000 1000 1000

Price of Sugar Per Kg 100 125 150 200 225

Sugar Purchased in KG 10 8 6.67 5 4.44

• So, value of money changes with time and this phenomenon should be considered
or adjusted while making financial decisions.
• This adjustment is done by calculating Time Value of Money i.e. Present Value of
future money or Future Value of present money.
F u t u r e Va l u e s
Money today worth more than the same money in future. If you have money now
you can use it, invest it and end up with more money in future.
The process of going forward, from present values (PVs) to future values (FVs), is
called compounding.

Future Value (FVn) = PV (1 + i) n

Or, FVn = PV x FVIF n,i

I = Interest Rate or Opportunity Cost

FVIF n,i = (1 + i) n Or we can use FVIF table
P r e s e n t Va l u e s
Money received in future has less value than money in hand today.
Finding present value from future money value is called discounting.

Present Value (PV) =

PV = FVn x PVIF n,i
PVIF n,i = Or we can use PVIF table
Perpetuities
Perpetuity is simply an equal amount or annuity whose promised payments extend
out forever.

PV of Perpetuity =
Annuities
Equal series of payments made at a fixed interval is called an annuity.
If payments occur at the end of each period, then we have an ordinary (or
deferred) annuity.
If the payments are made at the beginning of each period, then we have an annuity
due.
Annuities
Future Value of Ordinary Annuity = PMT x FVIFA n, i

Future Value of Annuity Due

= PMT x PVIFA n, i
Present Value of Ordinary Annuity

Present Value of Annuity Due

PVIFA n, i = FVIFA n, I =

Alternatively, We can use Annuity Table

FV and PV of Uneven Cashflows
If Cashflows are uneven, we must calculate FV or PV of all the cash flows
separately.
Semi-annual or other Compounding Period
If compounding (or discounting) frequency is more than a year, we have to
convert interest rate (i) into Periodic Interest Rate and number years into
Number of Periods.

Periodic Interest Rate = Nominal Interest Rate / Number of compounding in

a year
=i/m
Number of Periods = Number of Years x Number of compounding in a year
=nxm