## Present Value Interest Factor

### Time Periods to Reach a Target Sum (Single Amount)

Given a need to determine how many years it would take for a $10,000 investment at 7 per cent to grow to$16,000 we could treat n as the number of years and i as the interest rate.

The first step is to divide the first payment (Present Value) by the amount received at the end (Future Value):

$10,000 /$16,000 = 0.6250

The second step is to place that value into the Present Value Interest Factor:

Present Value Interest Factor0.07,n = 0.6250

The final step is to look in the Present Value Interest Factor (for a single amount) Time Value of Money Chart in the column for 7 per cent. Our number (0.6250) falls just short of 7 years with 0.623. Therefore, an initial deposit of $10,000 at 7 per cent will take nearly 7 years to mature into$16,000.

### Time Periods to Reach a Target Sum (Annuities)

In a similar fashion it is possible to calculate the unknown term of an annuity. In this case we might want to work out how long it would take to repay a $16,000 loan at 7 per cent with equal end of year payments of$3,000.

The first step is to divide the size of the loan by the size of the payments:

$16,000 /$3,000 = 5.3333

The second step is to place that value into the Present Value Interest Factor of an Ordinary Annuity:

Present Value Interest Factor of an Ordinary Annuity0.07,n = 5.3333

The final step is to look in the Present Value Interest Factor for an Ordinary Annuity Time Value of Money Chart in the column for 7 per cent. Our number (5.3333) is just short of the number corresponding in that chart for 7 years (0.5.389). Therefore, our loan of $16,000 at 7 per cent with payments of$3,000 will take just under 7 years to complete.

### Growth Rate (Single Amount)

A similar problem is working out the growth rate, or the compound annual interest rate, across a number of cash flows. The example we will use is:

• 2011 – $18,935 • 2010 –$18,154
• 2009 – $17,406 • 2008 –$16,688

### Conclusion: The Idea of Time Value of Money

One of the most important things to understand about administering your business is that money has a time value. The longer money pools in your account and the more effectively it is utilised in that process the better it will always be for your business. General rules like pay your bills at the end of the invoice period and collect as early as possible are healthy ways to operate.

But, even more important, I hope this short series on Time Value of Money 101 has given you some basic formulas that can improve your business decision making. None of this is rocket science, but if you expect to compete in the hyper-competitive modern business environment over the long-term it's exactly the sort of skill you need to be bringing on board.

While money isn't the reason you should be in business… it should be to serve a public need not met by government and a by-product of doing that well means people will give you money… the simple fact is that money is the blood of any business. If you can't meet your current liabilities (short-term debt) as they fall due then profitability means squat, you're done. It's over.

If you really want to do well in business you'll try to learn everything about money that you can get your hands on… and then some. Enjoy.

Source: Steven Clark, http://www.stevenclark.com.au/