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FIN 221 Lecture 2
CH5: Time Value of Money
CH6: Discounted Cash Flows
and Valuation
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• If you want to attempt extra questions
• FIN221 Midsession exam formula sheet placed on
the elearning site
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• Please use your UOW email account
otherwise I will not answer.
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Background
• Knowing the value of an asset is a crucial step in
making investment and financing decisions.
• Then how do we determine the value of the asset?
• To answer the above question, let me ask you
– What determines profitability of an asset in finance?
1.
The asset’s ability to generate sufficient __________.
• Then what determines the value of the assets?
1. __________________
2. The risk associated with future _________.
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What are we learning today?
• How to value future cash flows?
– In finance, the
value of asset
is determined by
future
cash flows
the firm can generate and the risk involved.
– Then do we know how to value different type of future
cash flows mathematically? Let’s learn today.
– How much is the asset worth
TODAY
? i.e) What is the
maximum price you’re willing to pay today?
________________________________________
Year
0
1
2
3
4
5
6
7
8
$100
$100 $100
$100
$100
$100 $100
$100
P=?
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Relevant Reading Chapters
•5
.1
.2
Single period investment
Twoperiod investment
Future value equation
(Line 1 to Line 5)
‐
Applying FV formula
Calculator tips
.3
.4
Compound growth rates
Concluding Comments
•6
.
1
.
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PV of Annuity
Calculator tip finding PV of annuity
Finding monthly or yearly payments
FV of Annuity
Perpetuities
Annuity due
.
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Growing Perpetuity
.
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 Why the confusion?
 Calculating EAR
 Comparing interest rates
 appropriate interest rate factor
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Time value of money
A dollar today is worth more than a dollar
tomorrow.
Which one of these assets would you rather own?
________________________________________
Asset 1
Year
0
1
2
3
4
5
6
7
8
$100
________________________________________
Asset 2
Y
e
a
r
0 123456 7 8
$100
_____
$1
>
$1
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Future Value
FUTURE VALUE (FV)
• If you were to
invest $100
at
10percent interest
for one
year, your investment would
grow to $110
.
– $10 would be interest ($100 × 0.1)
– $100 is the principal repayment
– $110 is the total due
. It can be calculated as:
$110
=
$100
+
$100X0.10
= $100X(1+0.10)=$10,000X(1.10)
• The total amount due at the end of the investment is
called the
Future Value
(
FV
)
.
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 Spring '10
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