# MGT 181 Chapter Notes - Chapter 5: Discounted Cash Flow, Discount Window, Compound Interest

by OC2409450

Department

Rady School of ManagementCourse Code

MGT 181Professor

BuchananChapter

5This

**preview**shows half of the first page. to view the full**2 pages of the document.** Introduction to Valuation: The Time Value of Money

β Time value of money

β A dollar you have today is worth more than a dollar promised in the future

β Money you have in hand can be immediately invested to bring you more money

Future Value and Compounding

Investing for a Single Period

β Future value (FV)

β The amount an investment is worth after one or more periods

β If you invest $100 for one year at 10% interest rate, the FV of that $100 is $110

β $100 + (100*.1) = 110

INvesting for More than One Period

β Compounding

β The process of accumulating interest on an investment over time to earn more

interest

β Interest on interest

β Interest earned on the reinvestment of previous interest payments

β Compound interest

β Interest earned on both the initial principal and the interest reinvested from prior

periods

β Simple interest

β Interest earned only on the original principal

β If you invest $100 for two years at 10%, the FV is $121

β After year one you have $110 in the bank, and $110 * .1 = 121

β You collect interest on your interest (the $10)

β Future value = P(1+r)t

β P = principal

β (1+r)t is sometimes called the future value (interest) factor

A Note About Compound Growth

β Doesnβt just have to be used for investments, can be used for anything that grows

exponentially

β Employees, profits, etc.

Present Value and Discounting

The Single-Period Case

β Present value (PV)

β The current value of future cash flows discounted at the appropriate discount rate

β How much we have to invest today to get a desired amount at the end of a certain

period

β PV = P/(1=r)

β For one period

β Discount

β Calculate the present value of some future event

Present Values for Multiple Periods

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