You are the CFO (Chief Financial Officer) of ABC Golf Equipment Corporation, a s

Question

You are the CFO (Chief Financial Officer) of ABC Golf Equipment Corporation, a small company that sells golf equipment. Mr. Hillbrandt, the new CEO (Chief Executive Officer) has a marketing background and is trying to learn more about the financial side of running a business. He wants your help and asks for an introduction to the concept of time value of money.

The value of a typical corporate bond is the present value of an annuity plus the present value of a lump sum. Thus, if an individual does not understand how to calculate the present value of a lump sum or the present value of an annuity, it is difficult to determine the value of a typical corporate bond. Thus, in this case assignment, you will work through a variety of time value of money problems to illustrate the idea to the CEO. Interpret the results from the computations and explain how the information is useful.

Write a four or five paragraph memo to the CEO. Start with an introduction and end with a conclusion or recommendation. Each of the four or five paragraphs should have a heading. LOOKING for a brief overview if my calculations:

1. PV of 100,000 to be received after 5 years and having rate of 5% PV = FV/(1+r)^n = 100,000/(1.05)^5 = 78,352.62 2. PV of 200,000 to be received after 10 years and having rate of 10% PV = FV/(1+r)^n = 200,000/(1.10)^10 = 77,108.66 3. FV = PV*(1+r)^n PV = 100,000 r = 5% n= 5 years FV = 100,000*(1+0.05)^5 = 127,628.2 4. PV = 200,000 r = 10% n= 10 years FV = 200,000*(1.10)^10 = 518,748.50 5. Ordinary annuities are payments made at the end of the year. Annuity is stream of constant cash flows. Formula and calculations shown in the table below: Year Amount Formula PV 1 100,000.00 annuity/(1+r) 95,238.10 2 100,000.00 annuity/(1+r)^2 90,702.95 3 100,000.00 annuity/(1+r)^3 86,383.76 4 100,000.00 annuity/(1+r)^4 82,270.25 5 100,000.00 annuity/(1+r)^5 78,352.62 Total PV 432,947.68 6. Ordinary annuities. Formula and calculations are shown in the table below: Year Amount Formula PV r 1 200,000.00 annuity/(1+r) 181,818.18 0.1 2 200,000.00 annuity/(1+r)^2 165,289.26 0.1 3 200,000.00 annuity/(1+r)^3 150,262.96 0.1 4 200,000.00 annuity/(1+r)^4 136,602.69 0.1 5 200,000.00 annuity/(1+r)^5 124,184.26 0.1 6 200,000.00 annuity/(1+r)^6 112,894.79 0.1 7 200,000.00 annuity/(1+r)^7 102,631.62 0.1 8 200,000.00 annuity/(1+r)^8 93,301.48 0.1 9 200,000.00 annuity/(1+r)^9 84,819.52 0.1 10 200,000.00 annuity/(1+r)^10 77,108.66 0.1 Total PV 1,228,913.42 7. Future value of an annuity = A(1+r)n-1+A(1+r)n-2.......... +A = A*[(1+r)^n-1]/r A = 100,000 n = 5 r = 0.05 Future value = 100,000*[(1.05)^5-1]/0.05 = 100,000*5.525631 = 552,563.1 8. A = 200,000 n = 10 r = 0.10 FV = 200,000*[(1.10)^10-1]/0.10 = 200,000*15.937425 = 3,187,484.92 9. Perpetuities are annuities of infinite duration. PV = Amount/r = 100,000/0.05 = 2,000,000 10. PV = Amount/r = 200,000/0.10 = 2,000,000

Explanation / Answer

Answer:

Introduction

Time of Value of money is one of the most important concept in the area of financial management. Time value of money formulas provide information of cash flow after considering inflation effect, which allows comparison of any cash flow with present and future situation. Time of value money plays a crucial role in capital budgeting and capital structure related decision.

Why Time value of money is an important concept in financial management?

The concept of time value of money is very important in financial management due to following reasons,

Use of given computation

From the given computation, we can find out present value/future value of money for annuities and other cash flows. We can also find out present value of perpetual cash flow with the help of given formula.

Conclusion

We have discussed importance and use of time value of money concept above, from above noted discussion we can clearly conclude that time value of money is very important tool for financial decision making process & it should be used in decision related to capital budgeting and capital structure (i.e bond issue & repayment) related decisions.

Related Questions

Navigate

• Browse (All)
• Browse Y
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.