Present value and future value

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PART 1

These resources will help you to complete this discussion:

  • Ross, S. A., Westerfield, R. W., Jaffe, J. F., & Jordan, B. D. (2018). Corporate finance: Core principles and applications (5th ed.). New York, NY: McGraw-Hill.
    • This presentation discusses the components that make up time value of money. The presenter also provides examples to compute and read the computations.

You may not know it, but you are surrounded by the concepts of present value and future value in many areas of your life, such as education, marriage/family, retirement, and other such life goals. These time value of money concepts are important not only in corporate finance but in personal finance as well.

One tactic for learning new concepts is to apply them in situations in which you are familiar. Understanding present and future value will give you insight in the areas of retirement/financial planning via the use of future value, otherwise known as compounding. That is, will you have enough assets accumulated by retirement age so you will not outlive your nest egg? This is personal finance. In corporate finance, selection of investment projects incorporates present value concepts, also known as discounting. These concepts will be employed in most of the remaining assignments in this course.

For this post, suppose that your brother has landed his dream job. He now has substantive disposable income. Some of his friends are buying houses and cars, investing in bitcoin, and flipping apartments, and they have advised him to do likewise.

With your knowledge of the present and future value of money, what advice will you give to your brother on how he can utilize his disposable income to give him the most net worth by retirement? Use specific concepts from Chapter 4 of the Ross et al. text and the Time Value of Money video to give weight to your advice.

 

PART 2

 

The following readings deal with the important concepts of time value of money, which are integral to the creation of valuing company worth and the analysis of investment selection:

  • Seeking Alpha. (2016, March 28). Does Warren Buffett use discounted cash flow? Retrieved from https://seekingalpha.com/instablog/5969741-the-value-pendulum/4868716-warren-buffett-use-discounted-cash-flow
  • Ross, S. A., Westerfield, R. W., Jaffe, J. F., & Jordan, B. D. (2018). Corporate finance: Core principles and applications (5th ed.). New York, NY: McGraw-Hill.
    • Chapter 4, “Discounted Cash Flow Valuation,” pages 83–129.

In the financial world, investment selection is done in many ways. However, most world-class investors like Warren Buffett employ present value concepts to determine investment valuation. Thus, in personal finance as well as corporate finance, proper investment selection and corporate valuation must use time value of money concepts, especially present value.

How are present value concepts, namely discounted cash flow, used by Warren Buffett and other investors to determine a firm’s value? How would this information apply to you personally even if you are not involved in the financial function of a firm? Why is this concept a primary crux of financial markets?

 

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