Time Value of Money
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1. In two to three paragraphs, explain why the concept of present value is so important for corporate finance and is often the very first topic taught in any finance class. Do not focus your answer on explaining what present is, instead focus on some specific reasons why you think it is important and why it is taught first in corporate finance classes before other topics are introduced.
2. Calculate the future value of the following (show all work):
a. $200 if invested for five years at a 4% interest rate
b. $500 if invested for three years at a 7% interest rate
c. $7500 if invested for seven years at an 3% interest rate
d. $2000 if invested for ten years with a 0.6% interest rate
3. Calculate the present value of the following (show all work):
a. $6500 to be received three years from now with a 2% Interest rate
b. $4500 to be received five years from now with a 5% interest rate
c. $8000 to received two years from now with a 11% interest rate
d. $480,000 to be received eight years from now with a 9% interest rate.
4. Suppose you are to receive a stream of annual payments (also called an "annuity") of $5000 every year for three years starting this year. The interest rate is 5%. What is the present value of these three payments? (show all work)
5. Suppose you are to receive a payment of $7000 every year for three years. You are depositing these payments in a bank account that pays 2% interest. Given these three payments and this interest rate, how much will be in your bank account in three years? (show all work)
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The solution explains some questions relating to time value of money
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1. In two to three paragraphs, explain why the concept of present value is so important for corporate finance and is often the very first topic taught in any finance class. Do not focus your answer on explaining what present is, instead focus on some specific reasons why you think it is important and why it is taught first in corporate finance classes before other topics are introduced.
The concept is important as it impacts the decision making in corporate finance. Time value of money (which includes concept of present value) states that a dollar today is worth more than a dollar tomorrow. Thus cash flows occurring at different points in time have different values and so we cannot simply add cash flows that occur at different points in time. In financial management most of the decisions involve cash flows which occur at different points in time ...
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