Question

Time is of essence to everyone. Explain what the time value of money means and how it applies to the decisions that you make in your daily lives as well as in your business life.

Answer 1

Time value of money plays a very dominant role in life of everyone. Time value of money suggests that money available at present is worth more than the amount available at future date due to application of interest factor.

The concept of time value of money affects daily lives as well as business life. Suppose in business, we are going to purchase a equipment and we have the two option to make the make for equipment. First option is to make payment of $10000 immediately and second option is to make payment of $10500 after 1 year. Say interest rate is 10%. Without applying the concept of time value of money, any one will feel to pay $10000 immediately because it is cheaper than $10500 but if we apply the concept of time value of money then we need to calculate the present value of $10500 and we need to compare it with $10000. Present value of $10500 at the rate of 10% = 10500*Present value interest factor (10%,1) = 10500*0.909 = 9544.50. It means that if we pay $10500 after one year than its current worth will be 9544 only which is lower than $10000. So, after taking into consideration the time value of money, we should pay $10500 after one year.

Same principle of time value of money will be applied in our daily life. Whenever we purchase any home appliances or electronics item at equated monthly installment (EMI) then we should compare the current payment after cash discount and future payments taking appropriate rate of interest prevailing at that point of time.