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Lecture Financial accounting (10th edition): Appendix A - Pratt, Peters

Appendix A - The time value of money. In this chapter students will be able to: Describe the concept of the time value of money and be able to compute the future value of a single sum, define an ordinary annuity and an annuity due and be able to compute their future value. | 2 Appendix A: The Time Value of Money 2 3 Learning Objective 1 Describe the concept of the time value of money and be able to compute the future value of a single sum. 4 Time Value of Money Future inflows and outflows associated with an asset or liability are predicted and adjusted in a way that reflects the time value of these inflows and outflows The economic value of an asset or liability is its present value – that is the value of those inflows and outflows adjusted for when they will be received or paid You would rather have a dollar now rather than a dollar a year from now because you can invest it to make it grow 5 Interest: The Price of Money Money, like other scarce resources, has a price. Interest Interest is expressed as a percent over a period of time (usually a year) Interest = Principal X Rate X Time 6 Future Value The future value is the amount that money will grow to at a certain interest rate after a certain amount of time. Simple Interest Compound Interest – . | 2 Appendix A: The Time Value of Money 2 3 Learning Objective 1 Describe the concept of the time value of money and be able to compute the future value of a single sum. 4 Time Value of Money Future inflows and outflows associated with an asset or liability are predicted and adjusted in a way that reflects the time value of these inflows and outflows The economic value of an asset or liability is its present value – that is the value of those inflows and outflows adjusted for when they will be received or paid You would rather have a dollar now rather than a dollar a year from now because you can invest it to make it grow 5 Interest: The Price of Money Money, like other scarce resources, has a price. Interest Interest is expressed as a percent over a period of time (usually a year) Interest = Principal X Rate X Time 6 Future Value The future value is the amount that money will grow to at a certain interest rate after a certain amount of time. Simple Interest Compound Interest – Interest earns interest 7 Future Value (cont.) Tables have been developed to expedite the calculation process as periods become much further out. The tables are the extension of the formulas. 8 Future Value (cont.) Figure A-1 Future Value 9 Learning Objective 2 Define an ordinary annuity and an annuity due and be able to compute their future values. 10 Future Value of Ordinary Annuities It often happens that cash payments of equal amounts are made periodically throughout a period of time. A flow of cash payments of equal amounts paid at periodic intervals is called an annuity. If these payments are made at the end of each period it is called an ordinary annuity or annuity in arrears. 11 Figure A-2 Future Value of ordinary annuities 12 Future Value of an Annuity Due Annuities paid at the beginning of a period rather than the end are referred to as an annuity due The future value follows the same concept as an ordinary annuity, except that one more period of interest is calculated because the .