Slides Calculate Present or Future Value

Calculate Present or Future Value
of Cash Flows
Principles of Cost Analysis and

Management
© Dale R. Geiger 2011 1

Time Value of Money Concepts
• Is $1 received today worth the same as $1 to
be received one year from today?
• Is $1 received today worth the same as $1 to
be received one hundred years from today?
• Why or why not?

Terminal Learning Objective
• Action: Calculate Present Or Future Value Of A Variety
Of Cash Flow Scenarios
• Condition: You are a cost advisor technician with
access to all regulations/course handouts, and
awareness of Operational Environment
(OE)/Contemporary Operational Environment (COE)
variables and actors
• Standard: with at least 80% accuracy
• Identify and enter relevant report data to solve Present and
Future Value equations using macro enabled cash flow
templates
Time Value of Money Concepts
Money received Today: Money received in the Future:
• Can be invested Today to • Has not yet begun to earn
earn interest interest
• Can be spent Today at • Can be spent in the Future

Today’s prices at inflated prices

Simple Interest
• Interest earned on Principal only
Principal * Annual Interest Rate * Time in Years
• Invest $1 today at 10% interest for 3 years
Interest = $1 * .10 * 3 = $.30
• $1 grows to $1.30 over 3 years

Compound Interest or Future Value
• Invest $1 today at 10% Interest for 3 years
Principal * 10% (1 year) = Interest New Balance
$1.00 * .10 = $.10 $1.10

$1.10 * .10 = $.11 $1.21
$1.21 * .10 = $.12 $1.33
• This relationship can be expressed as:

Principal * (1 + Annual Interest Rate)Time in Years
$1*(1+.10)3 = $1.33
$1.00 * .10 = $.10 $1.10

$1.10 * .10 = $.11 $1.21
$1.21 * .10 = $.12 $1.33

$1*(1+.10)3 = $1.33
$1.00 * .10 = $.10 $1.10

$1.10 * .10 = $.11 $1.21
$1.21 * .10 = $.12 $1.33

$1*(1+.10)3 = $1.33
$1.00 * .10 = $.10 $1.10

$1.10 * .10 = $.11 $1.21
$1.21 * .10 = $.12 $1.33

$1*(1+.10)3 = $1.33
$1.00 * .10 = $.10 $1.10

$1.10 * .10 = $.11 $1.21
$1.21 * .10 = $.12 $1.33

$1*(1+.10)3 = $1.33
Effect of Interest Rate and Time
$4.00
$3.00
$2.14
$2.00 10%
$1.21
$1.00
After 2 years at 10% …..and after 8 years at 10%
$-
0 1 2 3 4 5 6 7 8 9 10
X-Axis = Time in Years
As Time increases, Future Value of $1 Increases 11
© Dale R. Geiger 2011
$4.00
A higher interest rate causes the
future value to increase more in
$3.00 the same 8 years. $3.06
15%
$2.00 $2.14
10%
5%
$1.48
$1.00
$-
0 1 2 3 4 5 6 7 8 9 10
As interest rate increases, Future Value of $1 Increases 12
The Future Value Table
Future Value of $1 (Compound Interest)
Years 2% 4% 6% 8% 10% 12% 14% 16% 18% 20%
1 1.020 1.040 1.060 1.080 1.100 1.120 1.140 1.160 1.180 1.200
2 1.040 1.082 1.124 1.166 1.210 1.254 1.300 1.346 1.392 1.440
3 1.061 1.125 1.191 1.260 1.331 1.405 1.482 1.561 1.643 1.728
4 1.082 1.170 1.262 1.360 1.464 1.574 1.689 1.811 1.939 2.074
5 1.104 1.217 1.338 1.469 1.611 1.762 1.925 2.100 2.288 2.488
6 1.126 1.265 1.419 1.587 1.772 1.974 2.195 2.436 2.700 2.986
7 1.149 1.316 1.504 1.714 1.949 2.211 2.502 2.826 3.185 3.583
8 1.172 1.369 1.594 1.851 2.144 2.476 2.853 3.278 3.759 4.300
9 1.195 1.423 1.689 1.999 2.358 2.773 3.252 3.803 4.435 5.160
10 1.219 1.480 1.791 2.159 2.594 3.106 3.707 4.411 5.234 6.192
11 1.243 1.539 1.898 2.332 2.853 3.479 4.226 5.117 6.176 7.430
12 1.268 1.601 2.012 2.518 3.138 3.896 4.818 5.936 7.288 8.916
13 1.294 1.665 2.133 2.720 3.452 4.363 5.492 6.886 8.599 10.699
14 1.319 1.732 2.261 2.937 3.797 4.887 6.261 7.988 10.147 12.839
15 1.346 1.801 2.397 3.172 4.177 5.474 7.138 9.266 11.974 15.407
16 1.373 1.873 2.540 3.426 4.595 6.130 8.137 10.748 14.129 18.488
17 1.400 1.948 2.693 3.700 5.054 6.866 9.276 12.468 16.672 22.186
18 1.428 2.026 2.854 3.996 5.560 7.690 10.575 14.463 19.673 26.623
19 1.457 2.107 3.026 4.316 6.116 8.613 12.056 16.777 23.214 31.948
20 1.486 2.191 3.207 4.661 6.727 9.646 13.743 19.461 27.393 38.338
25 1.641 2.666 4.292 6.848 10.835 17.000 26.462 40.874 62.669 95.396
30 1.811 3.243 5.743 10.063 17.449 29.960 50.950 85.850 143.371 237.376
35 2.000 3.946 7.686 14.785 28.102 52.800 98.100 180.314 327.997 590.668
40 2.208 4.801 10.286 21.725 45.259 93.051 188.884 378.721 750.378 1,469.772
The Value of $1 at 10% interest after 8 years is $2.14

The Factors are pre-calculated on the FV Table. 13
Check on Learning
• How does compound interest differ from
simple interest?
• How does number of years affect the future
value of an investment?

Demonstration Problem
• If I invest $50,000 today at 8%, what will it be
worth in 10 years?
• Steps:
1. Identify the key variables
• Cash flow
• Interest rate
• Time in years
2. Build a timeline
3. Multiply cash flow by FV factor from the Table
Identify Key Variables
• Cash Flows
• $50,000 to be paid now
• Cash Payments are negative numbers
• Some unknown amount to be received ten years
in the future
• Cash Receipts are positive numbers
• Interest Rate = 8%
• Time in Years = 10

Build a Timeline
$ 120K ?
100
$50,000 to be
80
invested now
60
Unknown amount
40 to be received in 10
20 years
0
0 1 2 3 4 5 6 7 8 9 10
-20
-40
$ -60K $50K
Multiply by the FV Factor
Future Value of $1 (Compound Interest)
Years 2% 4% 6% 8% 10% 12% 14% 16% 18% 20%
1 1.020 1.040 1.060 1.080 1.100 1.120 1.140 1.160 1.180 1.200
2 1.040 1.082 1.124 1.166 1.210 1.254 1.300 1.346 1.392 1.440
3 1.061 1.125 1.191 1.260 1.331 1.405 1.482 1.561 1.643 1.728
4 1.082 1.170 1.262 1.360 1.464 1.574 1.689 1.811 1.939 2.074
5 1.104 1.217 1.338 1.469 1.611 1.762 1.925 2.100 2.288 2.488
6 1.126 1.265 1.419 1.587 1.772 1.974 2.195 2.436 2.700 2.986
7 1.149 1.316 1.504 1.714 1.949 2.211 2.502 2.826 3.185 3.583
8 1.172 1.369 1.594 1.851 2.144 2.476 2.853 3.278 3.759 4.300
9 1.195 1.423 1.689 1.999 2.358 2.773 3.252 3.803 4.435 5.160
10 1.219 1.480 1.791 2.159 2.594 3.106 3.707 4.411 5.234 6.192
11 1.243 1.539 1.898 2.332 2.853 3.479 4.226 5.117 6.176 7.430
12 1.268 1.601 2.012 2.518 3.138 3.896 4.818 5.936 7.288 8.916
13 1.294 1.665 2.133 2.720 3.452 4.363 5.492 6.886 8.599 10.699
14 1.319 1.732 2.261 2.937 3.797 4.887 6.261 7.988 10.147 12.839
15 1.346 1.801 2.397 3.172 4.177 5.474 7.138 9.266 11.974 15.407
16 1.373 1.873 2.540 3.426 4.595 6.130 8.137 10.748 14.129 18.488
17 1.400 1.948 2.693 3.700 5.054 6.866 9.276 12.468 16.672 22.186
18 1.428 2.026 2.854 3.996 5.560 7.690 10.575 14.463 19.673 26.623
19 1.457 2.107 3.026 4.316 6.116 8.613 12.056 16.777 23.214 31.948
20 1.486 2.191 3.207 4.661 6.727 9.646 13.743 19.461 27.393 38.338
25 1.641 2.666 4.292 6.848 10.835 17.000 26.462 40.874 62.669 95.396
30 1.811 3.243 5.743 10.063 17.449 29.960 50.950 85.850 143.371 237.376
35 2.000 3.946 7.686 14.785 28.102 52.800 98.100 180.314 327.997 590.668
40 2.208 4.801 10.286 21.725 45.259 93.051 188.884 378.721 750.378 1,469.772
The Factor of $1 at 8% interest for 10 years is 2.159

$50,000 * 2.159 = $107,950 18
Using the Formula
• The formula proves that the answer from the
table is correct:
$50,000 * (1 + .08)10 = $107,946
• The difference of $4 is caused by rounding in
the table

Proof
Year Principal *8% = Interest New Balance
1 $50,000 * .08 = $4,000 $54,000

2 $54.000 * .08 = $4,320 $58,320
3 $58,320 * .08 = $4,666 $62,986
4 $62,986 * .08 = $5,039 $68,024
5 $68,024 * .08 = $5,442 $73,466
6 $73,466 * .08 = $5,877 $79,343
7 $79,343 * .08 = $6,347 $85,690
8 $85,690 * .08 = $6,855 $92,545
9 $92,545 * .08 = $7,404 $99,949
10 $99,949 * .08 = $7,996 $107,945
Check on Learning
• What is the first step in solving a future value
problem?
• How are cash payments represented in the
timeline?

Future Value vs. Present Value
• Future Value answers the question:
• To what value will $1 grow in the Future?
• Present Value answers the question:
• What is the value Today of $1 to be received in the
Future?
-or-
• How much must be invested today to achieve $1
in the Future?

Future Value vs. Present Value
Future Value of $1 at 10% Present Value of $1 at 10%
$8.00 $1.00
$7.00 $0.90
$6.00 $0.80
$0.70
$5.00 $0.60
$4.00 $0.50
$3.00 $0.40
$2.00 $0.30
$0.20
$1.00 $0.10
$0.00 $0.00
1 3 5 7 9 11 13 15 17 19 1 3 5 7 9 11 13 15 17 19
Periods Periods
The value of a dollar received today will A dollar to be received in the future is
increase in the future worth less than a dollar received today

Present Value Concepts
• What is the value Today of $1 to be received
one year in the Future?
• How much must be invested Today to grow to
$1 one year from Today?
• The answer to these two questions is the
same!

• Discount Rate represents interest or inflation
• Assume a rate of 10%
• What is the cost expression for this relationship?
$Investment Today + Interest = $1.00
-or-
$Investment + ($Investment * .10) = $1.00
$Investment * (1+ .10) = $1.00
$Investment = $1/(1.10)
$Investment = $.91
-or-
$Investment * (1+ .10) = $1.00
$Investment = $.91
-or-
$Investment * (1+ .10) = $1.00
$Investment = $.91
-or-
$Investment * (1+ .10) = $1.00
$Investment = $.91
-or-
$Investment * (1+ .10) = $1.00
$Investment = $.91
Proof
• Plug $.91 in to the original equation:
$.91 + ($.91 * .10) = $1.00
$.91 + .09 = $1.00
• This relationship is fairly simple for one
period, but what about multiple periods?

• How much must be invested today to achieve $1.00
three years from today?
$Investment * (1 + Rate) #Years = $Future Value
$Investment = $Future Value / (1 + Rate) #Years
-or-
$Investment * (1+.10) 3 = $1.00
$Investment = $1.00 / (1+.10) 3
$Investment = $.75
-or-
$Investment * (1+.10) 3 = $1.00
$Investment = $1.00 / (1+.10) 3
$Investment = $.75
-or-
$Investment * (1+.10) 3 = $1.00
$Investment = $1.00 / (1+.10) 3
$Investment = $.75
• The Investment amount is known as the
Present Value
• The Present Value relationship is expressed in
the formula:
Future Cash Flow * 1/(1 + Rate) #Years
-or-
$1 * 1/(1.10)3 = $.75

Proof
$.75 * .10 = $.075 $.83

$.83 * .10 = $.083 $.91
$.91 * .10 = $.091 $1.00
• There is also a table shortcut for Present Value

The Present Value Table
Present Value of $1
Years 2% 4% 6% 8% 10% 12% 14% 16% 18%
1 0.980 0.962 0.943 0.926 0.909 0.893 0.877 0.862 0.847
2 0.961 0.925 0.890 0.857 0.826 0.797 0.769 0.743 0.718
3 0.942 0.889 0.840 0.794 0.751 0.712 0.675 0.641 0.609
4 0.924 0.855 0.792 0.735 0.683 0.636 0.592 0.552 0.516
5 0.906 0.822 0.747 0.681 0.621 0.567 0.519 0.476 0.437
6 0.888 0.790 0.705 0.630 0.564 0.507 0.456 0.410 0.370
7 0.871 0.760 0.665 0.583 0.513 0.452 0.400 0.354 0.314
8 0.853 0.731 0.627 0.540 0.467 0.404 0.351 0.305 0.266
9 0.837 0.703 0.592 0.500 0.424 0.361 0.308 0.263 0.225
10 0.820 0.676 0.558 0.463 0.386 0.322 0.270 0.227 0.191
11 0.804 0.650 0.527 0.429 0.350 0.287 0.237 0.195 0.162
12 0.788 0.625 0.497 0.397 0.319 0.257 0.208 0.168 0.137
13 0.773 0.601 0.469 0.368 0.290 0.229 0.182 0.145 0.116
14 0.758 0.577 0.442 0.340 0.263 0.205 0.160 0.125 0.099
15 0.743 0.555 0.417 0.315 0.239 0.183 0.140 0.108 0.084
16 0.728 0.534 0.394 0.292 0.218 0.163 0.123 0.093 0.071
17 0.714 0.513 0.371 0.270 0.198 0.146 0.108 0.080 0.060
18 0.700 0.494 0.350 0.250 0.180 0.130 0.095 0.069 0.051
The Present Value of $1 at 10% to be received in 3 years is $.75

$1.20
$1.00
$0.83
$0.80
$0.60 10%
$0.47
$0.40
$0.20
$1 to be received in 2 years at 10% …..and in 8 years at 10%
$-
0 1 2 3 4 5 6 7 8 9 10
As Time increases, Present Value of $1 Decreases 37
$1.20 A higher discount rate causes the
present value to decrease more
$1.00 in the same 8 years.
$0.80
$0.68
5%
$0.60 10%
$0.47
15%
$0.40
$0.33
$0.20
$-
0 1 2 3 4 5 6 7 8 9 10
As Time increases, Present Value of $1 Decreases 38
Check on Learning
• What does Present Value represent?
• How does the Present Value table differ from
the Future Value table?

Demonstration Problem
• What is the Present Value of a $60,000 cash flow
to be received 6 years from today assuming 12%
discount rate?
• Steps:
1. Identify the key variables
• Cash flow
• Discount rate
• Time in years
2. Build a timeline
3. Multiply cash flow by the Factor from the PV Table
Identify Key Variables
• Cash Flow
• $60,000 to be received in the Future
• Is equal to some unknown amount Today
• Discount Rate = 12%
• Time in Years = 6

Build a Timeline
$ 70K
$60,000 to be $60K
60 received in 6 years
50
Unknown
40 Present Value
30
?
20
10
0
0 1 2 3 4 5 6
Multiply by the PV Factor
Present Value of $1
Years 2% 4% 6% 8% 10% 12% 14% 16% 18%
1 0.980 0.962 0.943 0.926 0.909 0.893 0.877 0.862 0.847
2 0.961 0.925 0.890 0.857 0.826 0.797 0.769 0.743 0.718
3 0.942 0.889 0.840 0.794 0.751 0.712 0.675 0.641 0.609
4 0.924 0.855 0.792 0.735 0.683 0.636 0.592 0.552 0.516
5 0.906 0.822 0.747 0.681 0.621 0.567 0.519 0.476 0.437
6 0.888 0.790 0.705 0.630 0.564 0.507 0.456 0.410 0.370
7 0.871 0.760 0.665 0.583 0.513 0.452 0.400 0.354 0.314
8 0.853 0.731 0.627 0.540 0.467 0.404 0.351 0.305 0.266
9 0.837 0.703 0.592 0.500 0.424 0.361 0.308 0.263 0.225
10 0.820 0.676 0.558 0.463 0.386 0.322 0.270 0.227 0.191
11 0.804 0.650 0.527 0.429 0.350 0.287 0.237 0.195 0.162
12 0.788 0.625 0.497 0.397 0.319 0.257 0.208 0.168 0.137
13 0.773 0.601 0.469 0.368 0.290 0.229 0.182 0.145 0.116
14 0.758 0.577 0.442 0.340 0.263 0.205 0.160 0.125 0.099
15 0.743 0.555 0.417 0.315 0.239 0.183 0.140 0.108 0.084
16 0.728 0.534 0.394 0.292 0.218 0.163 0.123 0.093 0.071
17 0.714 0.513 0.371 0.270 0.198 0.146 0.108 0.080 0.060
The Factor of $1 at 12% discount for 6 years is 0.507

$60,000 * 0.507 = $30,420

Using the Formula
• The formula proves that the answer from the
table is correct:
$60,000 * 1/(1 + .12)6 = $30,398
• The difference of $22 is caused by rounding in
the table

Proof
Year Principal *8% = Interest New Balance
1 30,420 * .12 = $3,650 $34,070

2 34,070 * .12 = $4,088 $38,159
3 38,159 * .12 = $4,579 $42,738
4 42,738 * .12 = $5,129 $47,866
5 47,866 * .12 = $5,744 $53,610
6 53,610 * .12 = $6,433 $60,044

Check on Learning
• How does time affect the present value of a
cash flow?
• How does the discount rate affect the present
value of a cash flow?

Practical Exercise

Time Value of Money Worksheet
Enter key variables in the
blank white cells to generate
the graph shown below

Time Value of Money Worksheet
The spreadsheet tool
also calculates
Present Value

Practical Exercise

Slides Calculate Present or Future Value

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Calculate Present or Future Value

Principles of Cost Analysis and

© Dale R. Geiger 2011 1

© Dale R. Geiger 2011 2

• Can be spent Today at • Can be spent in the Future

© Dale R. Geiger 2011 4

© Dale R. Geiger 2011 5

Principal * 10% (1 year) = Interest New Balance

$1.00 * .10 = $.10 $1.10

• This relationship can be expressed as:

Principal * 10% (1 year) = Interest New Balance

$1.00 * .10 = $.10 $1.10

• This relationship can be expressed as:

Principal * 10% (1 year) = Interest New Balance

$1.00 * .10 = $.10 $1.10

• This relationship can be expressed as:

Principal * 10% (1 year) = Interest New Balance

$1.00 * .10 = $.10 $1.10

• This relationship can be expressed as:

Principal * 10% (1 year) = Interest New Balance

$1.00 * .10 = $.10 $1.10

• This relationship can be expressed as:

The Value of $1 at 10% interest after 8 years is $2.14

© Dale R. Geiger 2011 14

© Dale R. Geiger 2011 16

The Factor of $1 at 8% interest for 10 years is 2.159

© Dale R. Geiger 2011 19

1 $50,000 * .08 = $4,000 $54,000

© Dale R. Geiger 2011 21

© Dale R. Geiger 2011 22

© Dale R. Geiger 2011 23

© Dale R. Geiger 2011 24

© Dale R. Geiger 2011 30

© Dale R. Geiger 2011 34

$.75 * .10 = $.075 $.83

• There is also a table shortcut for Present Value

© Dale R. Geiger 2011 35

The Present Value of $1 at 10% to be received in 3 years is $.75

© Dale R. Geiger 2011 36

© Dale R. Geiger 2011 39

© Dale R. Geiger 2011 41

The Factor of $1 at 12% discount for 6 years is 0.507

© Dale R. Geiger 2011 43

© Dale R. Geiger 2011 44

1 30,420 * .12 = $3,650 $34,070

© Dale R. Geiger 2011 45

© Dale R. Geiger 2011 46

© Dale R. Geiger 2011 47

© Dale R. Geiger 2011 48

© Dale R. Geiger 2011 49

© Dale R. Geiger 2011 50

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