Chapter 4
NPV and the Time Value of Money
Answers to Chapter 4 Review Questions
1.
A cash flow in the future is worth less than the same cash flow today because of the time value of
money; i.e., you can invest money today and have it grow over time.
2.
Compound interest is the ability to earn interest on previous interest payments. For example, $100
invested at 10% per year will become $110 in one year. If left to earn interest for another year, both
the $100 initial investment and the $10 interest payment will earn 10%, resulting in $121 after the
second year.
3.
Geometric growth in interest is just the result of compound interest. Because this period’s interest
payments can earn interest in the future, each future period will result in more and more interest.
4.
A discount rate is just the interest rate that is used to determine the present value of a future cash
flow. This interest rate represents the opportunity cost of the investment.
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 Spring '09
 LynnPi
 Time Value Of Money, Net Present Value

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