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Chapter 5

MGT338H5 Chapter 5: ch 5.docx

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Adam Kadar

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Chapter 5
5.1 – opportunity cost
Time value of money: idea that dollar today is worth more than dollar in the future
Medium of Exchange: something that can be used to facilitate transactions and has no value in and of
Opportunity cost of money: interest rate that would be earned by investing it
Required rate of return or discount rate: market interest rate or investor’s opportunity cost
Simple Interest: interest paid or received on only initial investment (principle)
Value (time n) = P + ( n x P x k)  find value of investment at any point
P = principle, n = # of periods, p x k = interest
e.g. person offer choice between 20,000 TODAY and $31,000 in 5 YEARS can calculate 2 annual interest
Solution: With same 10% interest rate, annual interest is 20,000 x 0.1 = 2000 / year
In 5 years, would generate 10,000 interest , meaning that 20,000 today = 30000 in 5 years
Therefore, correct choice = 31000 in 5 years because is worth more
Compound Interest: interest that is earned on principle amount invested and on future interest payments 
can result in dramatic growth in value of investment over time
FV = PV ( 1+ k)n
Compound Value Interest Factor : (1+k)n
Basis Point: 1/100 of 1 percent
Discounting: finding present value of future value by accounting for time value of money
Annuity: regular payments
on an investment that are
for the same amount and are paid
at the same interval
Cash Flows: actual cash
generated from an investment
Lessee: person who leases
an item
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