Get to know the concept of time value of money as a financial basis

Have you ever heard the term 'time value of money'? As a businessman, it is very important to be able to continue to improve financial literacy. One of them is by understanding the term time value of money and its effect on a business activity.

Time value of money or TVM refers to a condition when the amount of money you have today has a higher value than the same amount of money in the future. This of course makes a value seem more stable under different conditions.

However, why does that happen? You have the option to make the money you have now to grow through investments. In addition, the world economy is colored by inflation and purchasing power. Therefore, the money you have now can be used to buy more goods than when prices tend to rise due to inflation in the future.

Application of the Time Value of Money (TVM) Concept

Understanding TVM is very important for anyone in the business world. Not only that, those of you who may be currently learning to try to start a business also need to understand this.

TVM will help you to make business decisions, buying and selling, and other important things in banking. That way, you can guard against the effects of inflation including the possible future value of money.

In business and banking practices, TVM will be closely related to the following three things:

1. Savings

As we know, the value of money can change over time and the future is full of uncertainty. For that, understanding TVM will lead you to good financial planning, including preparing your savings in retirement.

2. Investation

TVM can assist you in making judgments in making investments. Such as, estimating risk, income, to evaluating the investments that have been made.

3. Purchasing power

Inflation causes a decrease in purchasing power of goods over time. This is caused by an increase in prices that affect the purchasing power of a certain amount of money for goods. Therefore, for the same price you will get less stuff in the future than today.

Future and Present Value Correlation in TVM

To help you better understand TVM, there are two important terms you should know: Future Values ​​and Present Values. Both are economic concepts that can help in evaluating the value of investments and projects.

You are expected to see the significance of the possible financial consequences. This becomes important because the calculation of future and present value becomes the database for making rational business decisions.

Future values

Is the value of a certain amount of money in the future that will grow over time. This value is influenced by a certain compound interest rate. Like when you save money in savings or make interest-bearing investments.

In addition, future values ​​are also very useful for you when making payment decisions. For example, when you are in two choices of payment schemes for an item through cash and installments.

Present Values

Indicates the ability of an amount of money to buy something in the present as compared to the future. Generally, present values ​​are used by financial analysts in calculating the present value to determine the feasibility of a project.

This is done so that the company does not suffer losses, so that future project income must be able to exceed the value of the initial investment. Based on the previous explanation, it can be concluded that:

- TVM is a condition when the value of an amount of money that you have today is higher than the value of the same amount of money in the future.

- This happens because money can grow through investment activities within a certain period of time. When you are unable to invest from the start, you will also face an opportunity lost condition.

- TVM is affected by the amount of money, its future value, the likelihood that its value will grow, and also the timeframe itself.

In the long term, knowing the time value of money can help companies make predictions of future value. Knowing this concept is also the basis of financial ability. Therefore, it is important for stakeholders to know the concept of TVM well so that it can be implemented in the company.