Question

Please respond to the following questions in your reflective journal:

As a manager proposing a project (e.g. new product, expansion of existing business activity, exit from a current location), how would you address decision makers who do not understand time value of money?

What concepts/requirements have proven to be most difficult? What do you need to do to overcome the challenge? What assistance do you need from the instructor to succeed?

Answer 1

The first point that is to be kept in mind is that the present value of money is different from the future value of money. This is due to various forces such as risk involved and inflationary factors. In a new project the cash outflow would be immediate but the returns from the project would come only later. This means that the present value of the cash inflows arising from a project needs to be calculated to compare the initial investment with the returns. The fundamental point in understanding the time value of money is that a person would always prefer $100 now rather than getting $100 in the future in inflationary times and vice vers in deflationary times.  

The basic requirement is to arrive at a suitable discount factor. This is a challenge because changing the discount factor would change the entire calculations and hence the decision would differ depending upon the discount factor used. To arrive at the correct discount factor we need to estimate the inflationary forces in the near future as well as the risk involved in undertaking the project. I would require the past inflation data and the cost of capital data from the instructor. Assessing the risk of the project is also required to arrive at a ssuitable conclusion. Moreover we need estimates of future cash flows for a definite period.