Financial Markets

In: Business and Management

Submitted By shireen
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SAIS 380.760, 2009

380.760: Corporate Finance
Lecture 2: Time Value of Money and Net Present Value
Professor Gordon Bodnar 2009
© Gordon Bodnar, 2009

Financial Decision Making
Finance decision making is about evaluating costs and benefits some complications: measuring cash value of costs and benefits costs and benefits spread out over time uncertainty about the cash value of future costs and benefits

financial decision makers depends on other skills to help measuring costs and benefits marketing – revenues based upon market size and advertising economic – price and quantity tradeoffs organizational behavior – impact of structure on productivity strategy – behavior and response of competitors operations – production costs

in all cases we try to use market prices to determine cash values of these amounts
» market value in monetary terms
SAIS 380.760 Lecture 2 Slide # 2

1

SAIS 380.760, 2009

Adjusting for Values at Different Times
Time value of money to move values of money across time, we adjust for time value use an interest rate factor to move values across time interest rate factor = (1 + rf)
» rf is the risk-free interest rate for the period (used for “certain” values) » the period for a standard interest rate quote is one year

this interest rate factor is like an exchange rate across time periods as it has units of (value in future period / value today)

the interest rate factor is used to compute values in the future Example You are offered $1,000 today and the interest rate for one year is 5%; what is the value of this offer in one year? interest rate factor = 1 + 5% = 1.05 $1,000 today · (1.05 value in 1 year / value today ) = $1,050 in 1 year we call $1,050 the Future Value of $1,000 today

Future value = value today · interest rate factor
SAIS 380.760 Lecture 2 Slide # 3

Adjusting for Values at Different Times
We…...

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