Every business will benefit from thinking more about the present monetary value than the money earned in the future. The time value of money is the sum of money available in that exact moment with an individual.
This money can be utilized profitably in investments for business expansions, buying raw material, or salary payments. The time value of money is also called TVM by people working in finance.
- Inflation: Inflation increases the cost of goods. You can buy fewer goods and services at the same price during your future purchases.
- Opportunity Cost: Opportunity Costs are the advantages that an individual or an investor cannot enjoy if he fails to choose between one option or another. The loss in one investment is associated with the profits made by choosing another alternative in a fixed duration.
- Risk: Each investor must be mindful of the likelihood of a certain degree of risk before undertaking investments.
Importance of Time Value of Money
- The money in hand can be invested to gain impetus for your business and analyze your debts.
- The time value of money indicates that the future is not fixed, and hence, you must manage your current finances and make profits with the present value of money.
- It helps you understand your available options based on inflation, risk, return, and interest.
- Investors can make a concrete decision regarding the amount of money to be saved for future purposes with a specific goal in mind.
Concepts – Time, Value and Money
- Time Value of Money for a One-time Payment
Suppose you invest a certain amount of money in the bank at one time. In that case, you need to add the interest rate for every subsequent consecutive interest and calculate the cumulative interest.
E.g., if your principal amount is Rs. 10,000 with 10% annual interest for five years, it will grow cumulatively to Rs. 14641. However, this cumulative interest cannot be affixed since it depends on the risk, inflation, and interest rate.
- Doubling the Period-Time Value of Money
By using the rule of 72, you can determine when the time value of money can double. E.g., if we continue to take into consideration the above example, Rs. 10,000 for five years with An 8% interest rate will take a total of 9 years to double the present value of money. It may differ due to the inflation rate, interest rate, or the risks attached to the investment.
Time is money and ‘time is precious’ are two well-known proverbs. The Time Value of Money indicates that the smallest of the smallest amount of cash in hand is of more use than the promise of a more significant amount of money in the future. Read more and see how TVM works with gst explained. It is a safer bet to invest in the current market at the current market value instead of waiting to do it in the future.