Publish On: May 15, 2010
By HelpWithAssignment

Present Value

Present Value 

is the value of today’s money of an amount of money in the future.
The background for this concept is that if you are given a choice of $500 today and $500 after 5 years, naturally, any rational man would choose to take the money today. It is because of the fact that $500 taken today will be worth more than $500 after 5 years.

The reason is, if you take the money today and invest it in bank which gives 10% of interest pa. So, after five years the original $500 will become $500*10/100*5= $250. So, after 5 years the amount of $500 today will be worth $750 (Principal $500 + Interest $250).

The Theory is that when the interest rate is higher the Present Value will be less. Here, in the above example we can see that the interest is 10% p.a. and half of the principal gets added up to the principal.

If in the above case if the interest is say 15%, then, the amount received finally will increase more given the time is constant In both cases. $500*15/100*5 = $375. If the interest rate is 20% then the amount will double after 5 years as $500*20/100*5 = 500.

The formula for calculating Present Value is P = F / (1+r)n, where P is the Present value, F is the Future value and r is the rate of return and n is the number of years.

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