2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16
Such a concept as present value exists not only for solving student economic problems, but also for conducting real business activities. It helps to evaluate the return on investment, the payback period of investments or projects. Each head of the company needs to clearly understand the movement of funds, their cost and the impact of inflation, default and other economic metamorphoses.
Definition
Discounted value is the funds that are needed today to receive the specified amount in the future under given conditions. In order to better understand this, we can give an example. Let's assume that in five years the company wants to receive the sum of $100000 from the investments. The terms of the deposit imply capitalization of funds at 10% profit. Thus, the discounted value of the required amount today will be about $18,200. This means that it is necessary to invest $18,200 in this project now in order to receive $100,000 in 5 years.
Formula
Currentthe discounted value is determined by the following formula:
PV=FV/(1+i)t, where PV is the present value;
FV is the amount that depositors expect to receive;
i – investment interest rate;
t is the duration of the attachment.
The formula is very simple, and if necessary, you can find out the amount that the company will receive in the future with the available funds:
FV=PV(1+i)t
Application
Use this knowledge not only to determine the required amounts, but also to calculate the expected profits. For this, net present value is used, which shows the amount of income minus invested funds. Using this indicator, you can find out the payback period of the project. This is especially true for large amounts, because it is always important to know how quickly this amount will begin to generate income. The present value helps to analyze the return on investment, as well as to select projects where investments will pay off faster in the allotted period of time.
The present value can also help recalculate receivables and payables. It is known that inflation leads to the depreciation of money, and thus, with a delay in payment, the purchasing power of the amount of debt decreases. This should be taken into account when calculating with suppliers and banks. It is for this reason that many companies prefer to enter into long-term contracts.on terms of deferred payment. This approach allows them to buy raw materials and products "at the old prices." If these transactions are carried out for large amounts, then the savings are simply enormous.
This should also be taken into account when operating as a supplier or distributor. When concluding contracts, it is necessary to provide for inflation and impose additional interest on the amount in case of delay in payment. A balanced economic approach will help any company to anticipate possible complications in the calculations, as well as invest their funds in the most profitable way.
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