FIN 3403 - Chapter 5 (ChatGPT)

Time Value of Money

The idea that a dollar today is worth more than a dollar in the future because today's money can earn interest.

Future Value (FV)

The amount an investment will be worth at a specific point in the future after earning interest.

Present Value (PV)

The value today of money that will be received in the future, or the amount invested today.

Interest Rate (r)

The percentage rate at which money earns interest or grows over time.

Compounding

Earning interest on both the original investment and previously earned interest.

Compound Interest

Interest earned on the original amount invested plus accumulated interest.

Principal

The original amount of money invested or borrowed before interest.

Investment Period (t)

The amount of time money is invested, measured in periods such as years.

Future Value Formula

FV = PV × (1 + r)^t. Calculates how much money invested today will grow to in the future.

Future Value Interest Factor (FVIF)

The factor (1 + r)^t that shows how much an investment grows over a given number of periods at a given interest rate.

Discounting

The process of calculating how much a future amount of money is worth today.

Present Value Formula

PV = FV ÷ (1 + r)^t. Calculates how much money must be invested today to reach a future amount, assuming no additional payments.

Discount Rate

The interest rate used to calculate present value; it reflects the rate at which future cash flows are discounted.

Rate of Return

The percentage earned on an investment over a period of time.

Required Rate of Return

The minimum return an investment must earn to meet an investor's requirements or justify choosing it over alternatives.

Number of Periods (NPER)

The number of time periods required for an investment to grow or reach a financial goal.

Payment (PMT)

A regular payment made into or received from an investment during each period.

Net Present Value (NPV)

A measure used to evaluate an investment by comparing the present value of its cash inflows and outflows.

Discounted Cash Flows

Future cash flows converted into their present value using a discount rate.

Capital Budgeting

The process of evaluating investment opportunities and choosing among possible uses of money.

Opportunity Cost

The benefit or return given up by choosing one investment instead of the next-best alternative.

Excel FV Function

The Excel function used to calculate the future value of an investment.

Excel PV Function

The Excel function used to calculate the present value of a future amount or series of payments.

Excel RATE Function

The Excel function used to calculate the interest rate or rate of return for an investment.

Excel NPER Function

The Excel function used to calculate how many periods are needed to reach a financial goal.

Excel NPV Function

The Excel function used to calculate the net present value of cash flows using a discount rate.

Zero Payment (PMT = 0)

Indicates that no additional periodic payments are made or received during the investment period.

Excel Sign Convention

Excel financial functions generally require cash outflows, such as money invested today, to be entered as negative values and cash inflows as positive values.

Effect of Compounding Over Time

Compounding has a greater effect over longer periods because interest continues to earn interest.

Effect of a Higher Interest Rate

A higher interest rate generally causes an investment's future value to grow faster and its present value to be lower for the same future amount.

Evaluating an Investment

Compare an investment's expected return or future value with the return or future value of alternative investments.

Financial Goal Planning

Using present value, future value, interest rate, and number of periods to determine how to reach a target amount of money.