8/9/16

REVIEW OF BASIC CONCEPTS

PART 1

WHAT WILL YOU LEARN?

„  What is time value of money?

„  What is the future value of a cash flow today?
„  What is compounding?
„  Whatis the present value of a cash flow in
the future?
„  What is discounting?

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ALL TIME WORLDWIDE

BOX-OFFICE
Movie Year Box office revenue*

1. Avatar 2009 $2,787,965,087

2. Titanic 1997 $2,186,772,032
3. Star Wars: The Force 2015 $2,040,854,468
Awakens
9. Frozen 2013 $1,276,480,335
13. Lord of the Rings: 2003 $1,119,929,521
Return of the King
20. Jurassic Park 1993 $1,029,153,882
58. Star Wars 1977 $775,400,000
216. Gone with the wind 1939 $400,200,000
*All amounts are in USA dollars. Figures are not adjusted for inflation.

WHY DO WE CARE ABOUT

TIME VALUE OF MONEY?

„  Suppose I asked you to lend me $100 today

and promised to pay back $100 a year from
now.
„  Is that a good deal?
„  What would make it a good deal?

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WHY TIME VALUE OF MONEY?

„  A dollar today is worth more than a dollar

tomorrow.
„  Why does money have time value?

FUTURE VALUE

„  Future value of a cash flow today is the

value of the funds invested at your
opportunity cost… call it r...
„  Say r = 5%
„  If you invest $100 at an interest rate of 5%,
how much will you have at the end of the
year?

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FUTURE VALUE

„  If you invest $100 at an interest rate of 5%,

how much will you have at the end of three
years?

FUTURE VALUE

In general, the future value of a cash flow

today

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COMPOUNDING
18000
16783

16000

14000

12000

10000
8477
8000

6000
4495
4000
2503
2000 1464
579 899
100 105 116 134 163 208 279 392
0
1 2 3 4 5 6 7 8 9 10 11 12 13 14 15

PRESENT VALUE

„  Present value of a future cash flow is the

amount of cash you would take today instead
of the promised future cash flow.

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PRESENT VALUE

„  Youwill be paid $50,000 in two years. How

much would you accept today if your
opportunity cost is 5%?

PRESENT VALUE

„  Discount rate
„  Interest rate
„  Opportunity cost of capital

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SUMMARY

„  Explain the concept of time value of money

„  Compute the future value of a cash flow today
„  Compute the present value of a future cash
flow