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Financial Analysis for Managers II - Essay Example

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The "time value of money" is the terminology used to cater to the instinct value of the (fiat) money of any individual, group or an organization (Bodie & Kane, 2006). It is actually the obvious rule of sensibility that no one would be willing to pay out or invest in his/her good money any where until and unless he or she is getting an equivalent of the current value of his money in the future…
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Financial Analysis for Managers II
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Download file to see previous pages It is a fixed amount paid on annual basis (Myers & Allen, 2005). This amount might be constant for a certain period of time or may have a steady trend for some time and may fluctuate otherwise. The annuities and the time value of money are related and affected by certain factors. These are as follows;
Interest rates are the prevailing charges of availing the facility of the capital that might have been invested in an interest generating instrument or a bank account. The interest rates of advancing loans and paying on the deposits are different and that the difference is actually the monetary reward of utilizing that capital. However, the actual value of money, even when the principal amount is added up with the total interest amount received as an annuity, is normally different from what it was at the time of blocking that money into the respective reserve under question. This may have a different affect on the compounded interest approach. Since the interest is compound, therefore it yields a higher amount at each step and thus even the actual value of the total of that amount might be more than the amount actually invested depending on the terms, policies and interest rates.
This introduces the concept of the present value of future payments and/or income(s) that are expected to be received (Myers Allen, 2005). This means that the present value always differs from the future value. The idea is also related to the fact about the future value of any of the long term and/or even short term investments that were made. They will seldom be equal in real terms, even when they seem to be equal as an annuity.
The most commonly applied model of the time value of money is our same old compounded interest model. An amount of money 'C' for 't' years at a rate of interest of 'I'% (where interest of 15 percent" is expressed also as 0.15) compounded on annual basis, the present value of the receipt of C, t years in the future, is:
Ct = C(1+i)-t = C/(1+i)t
The expression (1 + i)t is a generic form of calculating almost al sorts of present value. Where the interest rate is deemed to be something which is not constant figure over the period of the investment(s), different values for 'I' may respectively be used; an investment over a two year period would then have PV (Present Value) of:
PV = C(1+i1)-1.(1+i2)-1
Present value is additive. This means that the present value of a bundle of cash flows is the sum of each individual's present value.
If there are no risks involved in the project i.e. the project is deemed to be risk free, the expected/forecasted rate of return from the project must equal or exceed this rate of return or else it would be better to rather invest the capital investment in these (potentially) risk free assets. If there are risks involved in any such investments or a project ventures this can be reflected through the use of a 'risk premium'. The risk premium that is required can easily be found by comparing the investment with the rate of return required from other similar projects with similar risks (Ross & Westerfield, 2007). Thus it is possible for almost all investors to take account of any uncertainty or risk factor ...Download file to see next pagesRead More
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