These terms are often used in Finance. There is time value associated with money. The Rs.100 you invest today would not be of the same value 10 years later. As we often hear from our parents, in our times we got Re.1 as pocket money and today if you give your child Re.1 he might not be sure whether he can even get a chocolate with that.
When we deposit our money in bank we get interest compounded annually. If I invest Rs.1000 today with 8% interest compounded annually for 5 years, then we get Rs. 1469 five years later. How I got it? It’s the compound interest formula. You can use a financial calculator or excel sheet.
FV= Future Value PV= Present Value
r= Rate of Interest n= Number of years
FV= 1000(1+r/100)5
FV= 1000(1+8/100)5 = 1000(1.08)5 = 1469.33
So, 1469.33 = 1000(1.08)5
The Rs.1469.33 is the Future Valueof Rs.1000 invested today
The Rs.1000 is the Present Value of Rs. 1469.33 we receive in the future
FV = PV(1+r)n
But in business we also calculate backwards. You estimate the how much you will earn in future so how much you need to invest today.
Or to make it simpler assume that you got Rs. 1469.33 from bank. So how much did you invest 5 years back? The bank interest is 8%
So we use the same formula as above
FV = PV (1+r)n
It becomes: FV/ (1+r)n = PV
1469.33/(1+8/100)5= PV
1469.33/(1.08)5= PV
1000= PV
Thus it showed that you invested Rs.1000 5 years back
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