The Time Value of Money (TVM) means that money today is worth more than the same amount in the future because it can grow if invested. For example, Rs 100 today can become Rs 110 after one year with interest, and Rs 121 after two years. This shows that money can increase over time when it earns interest.
- “The Time Value of Money is the concept that money available today is worth more than the same amount in the future because of its earning potential.”
— Dr. Aswath Damodaran, a professor of finance at New York University. - “The Time Value of Money means that a dollar today is worth more than a dollar in the future due to the ability to earn a return on that money.”
— Eugene F. Brigham and Michael C. Ehrhardt, from their book Financial Management: Theory & Practice.
Key Ideas of Time Value of Money:
- Present Value (PV): This is how much future money is worth in today’s terms. For example, if you expect to get ₹10,000 in the future, you can calculate how much that amount is worth today.
- Future Value (FV): This is how much your money today will grow into in the future if you invest it. For example, if you invest ₹5,000 today, the future value tells you how much that money will become after some time, with interest.
- Interest Rate (r): This is the rate at which your money grows. It can be simple or compound:
- Simple Interest: You earn interest only on the original money you invested.
- Compound Interest: You earn interest on both the original money and the interest that has been added over time. This helps money grow faster.
- Time Periods (n): The length of time (years, months, etc.) for which the money is invested or borrowed.
Simple Formulas:
Future Value Formula:
FV = PV × (1 + r)n
This formula shows how much your money today (PV) will be worth in the future (FV) after growing at a certain interest rate (r) over a certain number of years (n).
Present Value Formula:
PV = FV / (1 + r)n
This formula tells you how much future money (FV) is worth today (PV) when adjusted for the interest rate (r) over time (n).
