Inflation and Time Value of

Money
By

Sr Dr. Mohd Hasrol Haffiz Bin Aliasak

Assoc. Professor
Centre of Estate Management Study
Department of Built Environment Studies & Technology
Faculty of Architecture, Planning & Surveying
Universiti Teknologi Mara Perak Branch
Seri Iskandar
Introduction to Basic Economics
• Economics is a social science concerned with the production, distribution, and
consumption of goods and services.
• It studies how individuals, businesses, governments, and nations make choices
about how to allocate resources.
• Economics focuses on the actions of human beings, based on assumptions that
humans act with rational behavior, seeking the most optimal level of benefit or
utility.
• The building blocks of economics are the studies of labor and trade.
• Since there are many possible applications of human labor and many different
ways to acquire resources, it is the task of economics to determine which
methods yield the best results.
• Economics can generally be broken down into macroeconomics, which
concentrates on the behavior of the economy as a whole, and microeconomics,
which focuses on individual people and businesses.
Inflation and Growth
• Inflation
• Inflation is the decline of purchasing power of a given currency
over time.
• A quantitative estimate of the rate at which the decline in
purchasing power occurs can be reflected in the increase of an
average price level of a basket of selected goods and services in an
economy over some period of time.
• The rise in the general level of prices, often expressed as a
percentage, means that a unit of currency effectively buys less than
it did in prior periods.
• Growth
• Growth rates refer to the percentage change of a specific variable
within a specific time period.
• For investors, growth rates typically represent the
compounded annualized rate of growth of a company's revenues,
earnings, dividends, or even macro concepts, such as gross
domestic product (GDP) and retail sales.
• Expected forward-looking or trailing growth rates are two common
kinds of growth rates used for analysis.
Factors which causes Inflation
Demand Side
• Increase in Money Supply
• Increase in Disposable Income
• Increase in Public Expenditure
• Increase in Consumer Spending
• Cheap Monetary Policy
• Deficit Financing
• Expansion of the Private Sector
• Black Money
• Repayment of Public Debt
• Increase in Exports
Supply Side
• Shortage of Factors of Production
• Industrial Disputes
• Natural Calamities
• Artificial Scarcities
• Increase in Exports
• Lop-sided Production
• Law of Diminishing Returns
• International Factors
Inflation Rate in Malaysia
Factors Affecting the Growth
• Economic growth is an increase in real GDP; it means an
increase in the value of goods and services produced in an
economy.
• The rate of economic growth is the annual percentage
increase in real GDP.
• There are several factors affecting economic growth, but it is
helpful to split them up into:
• Demand-side factors (e.g. consumer spending)
• Supply-side factors (e.g. productive capacity)
Meaning of Interest Rate
• The interest rate is the amount a lender charges for the use of assets
expressed as a percentage of the principal.
• The interest rate is typically noted on an annual basis known as the
Annual Percentage Rate (APR).
• The assets borrowed could include cash, consumer goods, or large
assets such as a vehicle or building.
Definition of Interest Rate
• It could be define in two ways :
• Interest is the money earned when money is invested : RM1,000.00 deposited in a
bank and at the end of year, the depositor will received RM1,050.00. Capital is
RM1,000.00 and RM50.00 is considered as interest rate.
• Interest is the charge incurred when a loan or credit is obtained : the moneylender
give a loan to the borrower amounted RM1,000.00 and the accumulated amount
paid to the moneylender is RM1,100.00. It mean, the loan repaid is RM1,000.00 and
additional of RM100.00 paid by the borrower is the interest rate charged.
• Types of Interest Rate
• Simple Interest
• Compounding Interest
Simple Interest
• Definition : It is mean the interest calculated on the original principal
for the entire period it is borrowed or invested.
• It is the product of the principal multiplied by the rate and time.

Where;
P = Principal
r = Interest Rate
t = Time
Example 1
• Determine the amount of interest payable by a
borrower if he lend RM10,000.00 with a simple
interest rate at 9% per annum. The loan repayment
period is 10 years.

OR
Example 2
Construct an income projection by
using reducing balance approach.
The information given as follows:
• Loan = RM10,000.00
• Annual Loan Repayment =
RM2,000.00
• Tenure = 10 years
• Simple Interest Rate = 10% per
annum
Compound Interest
• Definition : The computation based on the principal that changes from time to time.
• Interest earned is compounded or converted into principal and will earn interest
thereafter.
• Hence, the principal increases from time to time.
Example 3
• Determine the amount of
interest payable by a
borrower if he lend
RM10,000.00 with a
compound interest rate at 9%
per annum. The loan
repayment period is 10 years.
Example 4
Construct an income
projection by using reducing
balance approach. The
information given as follows:
• Loan = RM10,000.00
• Annual Loan Repayment =
RM2,000.00
Calculation by using the
• Tenure = 10 years compound interest rate
• Compound Interest Rate = method as follows :
10% per annum P x (1+i/12)^(12x1)
The differences between Simple and
Compound Interests
• Simple interest is based on the original principal; that is, the total
amount in each period grows by some definite fraction of the original
principal.
• Compound interest is based on the principal which grows from one
interest interval to another, that is, the total amount grows by some
fraction of the sum of the principal and the interest paid on all
previous periods.
Time Value of Money
• The time value of money (TVM) is the concept that a sum of money is
worth more now than the same sum will be at a future date due to
its earnings potential in the interim.
• This is a core principle of finance.
• A sum of money in the hand has greater value than the same sum to be
paid in the future.
• The time value of money is also referred to as present discounted value.
• in general, the most fundamental TVM formula takes into account the
following variables:
• FV = Future value of money
• PV = Present value of money
Future Value
• Future value (FV) is the value of a current asset at a future date based
on an assumed rate of growth.
• The future value is important to investors and financial planners, as
they use it to estimate how much an investment made today will be
worth in the future.
• Knowing the future value enables investors to make sound
investment decisions based on their anticipated needs.
• However, external economic factors, such as inflation, can adversely
affect the future value of the asset by eroding its value.
Types of Future Value
• Future Value Using Simple Annual Interest
• The FV formula assumes a constant rate of growth and a single up-front
payment left untouched for the duration of the investment.
• The FV calculation can be done one of two ways, depending on the type of
interest being earned.
• If an investment earns simple interest, then the FV formula is:
Types of Future Value
• Future Value Using Compound Interest
• With simple interest, it is assumed that the interest rate is earned only on the
initial investment.
• With compounded interest, the rate is applied to each period’s
cumulative account balance.
• The formula for the FV of an investment earning compounding interest is:
Present Value Table
Example 5
• Calculate the value of
machine had bought in year
1999 at a purchasing price of
RM1.0 million if the average
inflation rate is 5% per
annum. By using the following
approaches :
• Simple Interest
• Compound Interest
Example 6 : To determine the estimated
average Inflation Rate
• Determine the estimated an average
of inflation rate if a machine was
purchased in 2000 at a purchasing
price of RM400,000.00. The current
value of a similar machine is
RM750,000.00
Example 7 : To determine the number of
years
• Calculate the number of years if
a machine was bought in 2000 is
RM1.2 million. The estimated an
average inflation rate is 5% per
annum. The expected targeted
market value of similar machine
is RM1.5 million.
Types of Future Value
• Future Value of an Annuity
• The future value of an annuity is the value of a group of recurring payments
at a certain date in the future, assuming a particular rate of return,
or discount rate.
• The higher the discount rate, the greater the annuity's future value.
• The formula as follow:
Present Value of Annuity Table
Example 8
• Calculate the cumulative an annual income projection receivable at
RM100,000.00 for a term of 10 years. Given the interest rate is 5% per
annum.
Present Value
• Present value (PV) is the current value of a future sum of money or stream
of cash flows given a specified rate of return.
• Future cash flows are discounted at the discount rate, and the higher
the discount rate, the lower the present value of the future cash flows.
• Determining the appropriate discount rate is the key to properly valuing
future cash flows, whether they be earnings or debt obligations.
Present Value Table
Example 9
• Calculate a sum of capital that required to purchase a machine in 5
years time. The purchasing price of machine is RM1.0 million. Given
the average inflation rate is 5% per annum.
Present Value of Annuity
• The present value of an annuity is the current value of future payments from an
annuity, given a specified rate of return, or discount rate.
• The higher the discount rate, the lower the present value of the annuity.
• Because of the time value of money, money received today is worth more than the
same amount of money in the future because it can be invested in the meantime. By
the same logic, RM5,000.00 received today is worth more than the same amount
spread over five annual installments of RM1,000.00 each.
Present Value of Annuity Table
Example 10
• Calculate the present value of an annual income will receives by the
investor at RM100,000.00 for 10 years if the interest rate is 7.25% per
annum.
Financial Statements
• Financial statements are written records that convey the business
activities and the financial performance of a company.
• Financial statements are often audited by government agencies,
accountants, firms, etc. to ensure accuracy and for tax, financing, or
investing purposes.
• Financial statements include :
• Balance sheet
• Income statement
• Cash flow statement
Financial Appraisal
• Financial appraisal is a method used to evaluate the viability of a proposed project by
assessing the value of net cash flows that result from its implementation.
• Financial appraisals differ from economic appraisals in the scope of their investigation,
the range of impacts analysed and the methodology used.
• A financial appraisal essentially views investment decisions from the perspective of the
organization undertaking the investment.
• It therefore measures only the direct effects on the cash flow of the organisation of an
investment ,decision.
• Financial appraisals also differ from economic appraisals in that:
• market prices and valuations are used in assessing benefits and costs, instead of measures such as
willingness to pay and opportunity cost;
• the discount rate used represents the weighted average cost of debt and equity capital, rather
than the estimated social opportunity cost of capital; and
• The discount rate and the cash flows to which it is applied are usually specified on a nominal basis
as the cost of debt and cost of equity are observed only in nominal terms.
Method of Financial Appraisal
• By using the Cash Flow Approaches known as :
• Conventional Cash Flow : Payback Method, Net Terminal Value and etc.
• Discounted Cash Flow : Net Present Value (NPV), Discounted Payback Method
and etc.
• Purposes : To determine the profitability and viability.
• This approach also known as the Investment Appraisal.
Definition of Cash Flow
• The term cash flow refers to the net amount of cash and cash
equivalents being transferred in and out of a company.
• Cash received represents inflows, while money spent represents
outflows.
• A company’s ability to create value for shareholders is fundamentally
determined by its ability to generate positive cash flows or, more
specifically, to maximize long-term free cash flow (FCF).
• FCF is the cash generated by a company from its normal business
operations after subtracting any money spent on capital
expenditures (CapEx).
Payback Method
• The term payback period refers to the amount of time it takes to recover
the cost of an investment.
• Simply put, the payback period is the length of time an investment reaches
a breakeven point.
• People and corporations invest their money mainly to get paid back, which
is why the payback period is so important.
• In essence, the shorter payback an investment has, the more attractive it
becomes.
• Determining the payback period is useful for anyone (regardless of whether
they're individual investors or corporations) and can be done by taking
dividing the initial investment by the average net cash flows.
Example 11
• Determine the payback period of an annual income receivable at
RM100,000.00 for a term of 10 years if the investor invests a sum of capital
at RM1.0 million at an initial stage. Given the estimated interest rate is
5.5% per annum and expected disposal price is RM1.25 million.

Payback Period
Example 12
• Determine the terminal value of an annual income receivable at
RM100,000.00 for a term of 10 years if the investor invests a sum of capital
at RM1.0 million at an initial stage. Given the estimated interest rate is
5.5% per annum and expected disposal price is RM1.25 million.
Terminal Value Method
• Terminal value (TV) is the value of an asset, business, or project
beyond the forecasted period when future cash flows can be
estimated.
• Terminal value assumes a business will grow at a set growth
rate forever after the forecast period.
• Terminal value often comprises a large percentage of the total
assessed value.
Net Present Value Method
• Net present value (NPV) is the difference between the present value of
cash inflows and the present value of cash outflows over a period of time.
• NPV is used in capital budgeting and investment planning to analyze the
profitability of a projected investment or project.
• NPV is the result of calculations used to find today’s value of a future
stream of payments.
Example 13
• Determine the Net Present Value (NPV) of an annual income receivable at
RM100,000.00 for a term of 10 years if the investor invests a sum of capital
at RM1.0 million at an initial stage. Given the estimated interest rate is
5.5% per annum and expected disposal price is RM1.25 million.
Discounted Payback Method
• The discounted payback period is a capital budgeting procedure used to
determine the profitability of a project.
• A discounted payback period gives the number of years it takes to break
even from undertaking the initial expenditure, by discounting future cash
flows and recognizing the time value of money.
• The metric is used to evaluate the feasibility and profitability of a given pro
• The more simplified payback period formula, which simply divides the total
cash outlay for the project by the average annual cash flows, doesn't
provide as accurate of an answer to the question of whether or not to take
on a project because it assumes only one, upfront investment, and does
not factor in the time value of money.ject.
Example 14
• Determine the payback period of an annual income receivable at
RM100,000.00 for a term of 10 years if the investor invests a sum of capital
at RM1.0 million at an initial stage. Given the estimated interest rate is
5.5% per annum and expected disposal price is RM1.25 million. Calculate
by using the Discounted Payback Method.

Payback Period
Profitability Ratio
• Profitability ratios are a class of financial metrics that are used to
assess a business's ability to generate earnings relative to its
revenue, operating costs, balance sheet assets, or shareholders'
equity over time, using data from a specific point in time.
• Profitability ratios can be compared with efficiency ratios, which
consider how well a company uses its assets internally to generate
income.
• Examples of profitability ratios are the various measures of profit
margin, return on assets (ROA), and return on equity (ROE).
• Others include return on invested capital (ROIC) and return on capital
employed (ROCE).
Formulas
Example 15
• Determine the profitability ratio of an annual income receivable at
RM100,000.00 for a term of 10 years if the investor invests a sum of
capital at RM1.0 million at an initial stage. Given the estimated
interest rate is 5.5% per annum and expected disposal price is
RM1.25 million. Calculate by using the following methods :
• Payback Period Method
• Terminal Value Method
• Net Present Value Method, and
• The Discounted Payback Method.
Payback Period Method
Terminal Value Method
Net Present Value Method
Discounted Payback Method
Internal Rate of Return (IRR)
• The internal rate of return (IRR) is a metric used in financial analysis to estimate
the profitability of potential investments.
• IRR is a discount rate that makes the net present value (NPV) of all cash flows
equal to zero in a discounted cash flow analysis.
• IRR calculations rely on the same formula as NPV does.
• Keep in mind that IRR is not the actual dollar value of the project.
• It is the annual return that makes the NPV equal to zero.
• the higher an internal rate of return, the more desirable an investment is to
undertake. IRR is uniform for investments of varying types and, as such, can be
used to rank multiple prospective investments or projects on a relatively even
basis.
• In general, when comparing investment options with other similar characteristics,
the investment with the highest IRR probably would be considered the best.
Formula

By using the Linear Interpolation :

Example 16
• Determine the viability ratio of an annual income receivable at RM100,000.00 for a term
of 10 years if the investor invests a sum of capital at RM1.0 million at an initial stage.
Given the estimated interest rate is 5.5% per annum and expected disposal price is
RM1.25 million. Calculate by using the Internal Rate of Return (IRR) Method.
Profitability and Viability Ratios Analysis
• Profitability Ratio > Viability Ratio = Normal Profit
• Profitability Ratio = Viability Ratio = Abnormal Profit
• Profitability Ratio < Viability Ratio = Loss
Thank You & Terima Kasih

Any questions, comments or suggestions, please contact me through hasrol170777@gmail.com or

whatsapp to +6012-5556534/+6019-5523445