Time value of money calculations use compound interest

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If we grow $100 over a period of time, TVM calculations will show the future amount with compound interest, which is not the same as simple interest.

> If we use TVM concepts to discount $1,000 to be received at a future date back to today, using a specific compound interest rate we select, we can see that the $1,000 is worth less than $1,000 to us today.

The term "discount rate" has more than one meaning, but in this lesson it is the same as "cost of capital", which is the annual % rate that your business owner will pay to creditors or investors for for funds borrowed by the company or invested in the company.

So, the discount rate is the % rate used in PV calculations to discount a future cash flow to today. You can think of the discount rate as the same as an interest rate.

QUESTION

1. Time value of money calculations use compound interest. What is the difference between compound interest and simple interest or how are they calculated differently?

Reference no: EM131338179

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