MF1S1 - GSB 531 Managerial Finance Chapter 5 Introduction...

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1 GSB 531 Managerial Finance Chapter 5 Introduction to Valuation: The Time Value of Money Valuation of Future Cash Flows After a year: $100 * 10% + $100 = $110 After two years: $110 * 10% + $110 = $121 After three years: $121 * 10% + $121 = $133.1 Compounding • Interest earned in the second year: $110 * 10% = $100 * 10% + $10 * 10% • Compounding: reinvesting the interest, thus earning interest on interest. • Compound interest: interest earned on both the initial principal and the interest reinvested from prior periods. • Simple interest: interest earned only on the original principal.
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2 Future Value • If interest rate is r each period, what is the future value of $1 after investing it for t periods ??? Future Value • Future value = $1 * ( 1 + r ) t The Power of Compounding • $5 investment, at 6% per year, for 200 years. • Simple interest: $5 * 6% * 200 = $60 plus principal $60 + $5 = $65 .
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3 Present Value and Discounting Single Period • Future value a year from now: $400. Present Value and Discounting
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MF1S1 - GSB 531 Managerial Finance Chapter 5 Introduction...

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