Summary

This chapter will provide the first of the five building blocks that are necessary in order to understand the language of business and play an active part in financial decision taking in a company. It is in four parts. The first part introduces some basic theory concerning the time value of money. In part 2 we will move into the practical realm of calculating value. Part 3 will work through three case studies in order to demonstrate further how the value technique can be applied in practice. Finally, part 4 will set several work assignments. It is anticipated that readers will work through these examples themselves. Specimen answers along with some additional comments on issues raised are given in Appendix I at the back of this book.

Part 1: The basic question

Would you rather receive $100 now or $100 in one year's time? The rational answer to this question is to take the money now. If, however, the offer concerned the choice between $100 now but an anticipated $200 in a year's time, many, but not all, would be prepared to wait. In principle, for a situation such as this there is a sum of money that you anticipate in the future which will just compensate you for giving up the certainty of receiving money now.

This simple question of money now versus money later is at the heart of most financial decisions. Take for example the decision to invest in a new piece of machinery. How should an organisation decide whether or not to invest money in the hope of getting more back later? What about the decision to sell a business?