How to calculate present

values?
Future Value
• Money is invested to earn the interest

• If you invest Rs.100 in a bank account which pays the interest rate of
7%. What is the value of investment 3 years from now?

• Future value = 𝐶 × (1 + 𝑟)𝑡

• Higher the interest rate, faster the savings will grow.

Present Value
• In future value, we saw if 100 invested today how much the money
will grow in 3 years assuming the interest rates

• Present value is how much money should we invest today to get a

required amount in future.

𝐶𝑡
• Present value =
(1+𝑟)𝑡
Valuing Investment Opportunity
• Suppose you own a real estate business. The cost of buying land in Rs.
700,000 and your real estate advisor forecasts a shortage of office
space and predicts that you will able to sell at Rs.800,000.

• Two methods are used

• Rate of Return method
• Net Present value method
Rate of Return method
𝑃𝑟𝑜𝑓𝑖𝑡
𝑅𝑎𝑡𝑒 𝑜𝑓 𝑅𝑒𝑡𝑢𝑟𝑛 =
𝐼𝑛𝑖𝑡𝑖𝑎𝑙 𝐼𝑛𝑣𝑒𝑠𝑡𝑚𝑒𝑛𝑡
Net Present Value method
• Assuming it is a one year project
• What rate we would discount this cash flow?
• There are two choices available with you
• Government securities of one year 7%
• Stock market provide 12%
Present values and Rate of Return rule
• NPV rule : Accept investments that have positive Net present values
• Rate of Return rule : accept investments that offers rates of returns in
excess of their opportunity cost of capital
Discounting multiple cash flows
• Present values are additive

𝐶1 𝐶2 𝐶3 𝐶𝑛
• PV = + + + ……………..
(1+𝑟)1 (1+𝑟)2 (1+𝑟)3 (1+𝑟)𝑛
Looking for shortcuts – Perpetuities and
Annuities
• Sometimes the countries issue bond under no obligation to repay
but offer fixed income they are called console.
• Consols are called perpetuities.

• Present value of Perpetuity

𝐶
• PV =
𝑟
Perpetuity
𝐶1 𝐶2 𝐶3
• PV = + + + ……………..
(1+𝑟)1 (1+𝑟)2 (1+𝑟)3

• For a infinite series

𝐶
• PV =
𝑟
Delayed perpetuity
Annuities
• Annuity
• Asset that pays fixed sum each year for specified number of years

Asset Year of Payment Present Value

1 2…..t t+1
Perpetuity (first (c/r)
payment in year 1)

Perpetuity (first payment (c/r)((1/(1+r)^t)

in year t + 1)

Annuity from  C   C  1 
     
t 
year 1 to year t    
r r (1  r ) 
Growing Perpetuities
𝐶1 𝐶2 (1+𝑔) 𝐶3 (1+𝑔)^2
• PV = + + + ……………..
(1+𝑟)1 (1+𝑟)2 (1+𝑟)3

𝐶1
• PV of growing Perpetuities =
𝑟−𝑔
Growing Annuities
1 (1+𝑔) 𝑡
• PV = 𝐶 × 1−
𝑟−𝑔 (1+𝑟)𝑡