What is present value and how to calculate PV in Excel


July 17th, 2006 by admin admin

Present value is a financial term used to define the value of a certain amt of money today. The present value of $1 today is $1. It you put $100 in the bank, that $100 will become $105 in one year time at an interest rate of 5%. $105 is the FV of the $100 in the first year, i.e. Year 1. If you continue to put the money ($105) in the bank, it will earn another 5% interest. Your bank account will have $110.25. That is the future value of your $100 today in year 2. If you notice, the future value is dependent on the interest rate offered by the bank. If the interest rate is 10%, the FV of your $100 in year 2 is higher. The amount is $121($100*1.1*1.1). It is equal to your original sum of $100 plus the interest for 2 years. Don’t forget that the interest you earn in the first year will also earn you interest in the second year too.

Assuming that you need to save $121 for some expenses two years from now, and you are interested to find out how much you would need to put into the bank today so that you will have $121 in the bank. As the bank is paying an interest rate of 10%, you know that you need to put in less today to obtain $121 in two years as a result of the interest your bank is paying you. That amount you are going to put in today is known as the present value and Excel is able to help you find out what is that amount with its present value formula.

Find out how with thisĀ link.

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