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## Time Comparison Principle (Time Value of Money)

- Farmer cultivates crops of 3 - 4 months duration or one year or perennial crops. Most allied enterprises could also be maintained for a longer period of years. So while initiating a project on perennial crops or enterprises, the farmer anticipates an expected cost and returns from the crop or enterprises in the future. A farmer could also buy a tractor and apart from own use he could earn money by hiring the tractor. In such long term projects the cost and returns are spread over years. In order to compare and decide which of these projects is best, one has to take into account the time value of money, i.e., what is the present value of future expected income and what is the future expected value of present income.
- In long term projects it is possible that costs would increase annually by some per cent or instead of investing in some activity, the farmer could deposit the money in the bank. In both cases the farmer would be interested to know the cost or return in the future. Compounding refers to process of accumulation of money over a period of time, i.e., future expected value of the present income. It is estimated using the formula;
- ‘S’ represents the sum at the end of ‘n’ periods; ‘s’ the amount which is invested for ‘n’ periods; ‘i' the interest rate.
- Discounting income is the procedure whereby the present value of the future income is determined.
S = s (1 + i) n
q
Formula: PV =--------------
(1 + r)n
Where, PV = present value of the future amount, q = future amount r = rate of interest n = no. of years in the future |

Last modified: Thursday, 14 June 2012, 10:06 AM