Difference Between Present Value and Future Value

Present Value

The concept of present value holds great significance in the realm of finance. In modern words, it refers to the present or today's value of an asset or investment.

To provide an example, suppose you invested Rs 1000 today and earned 10% interest for a year. At the end of the year, your investment would have grown to Rs 1100. The initial investment of Rs. 1000, in this case, is called the present value of Rs. 1100.

The worth an investment will have in the future, on the other hand, is represented by its future value. The future value of Rs 1000 at a 10% interest rate, in our case, is Rs 1100. When making investment decisions, the idea of present value is essential because it enables us to determine the current value of future cash flows while accounting for a discounted rate.

Future Value

Future value is the term used to describe the monetary value of cash or an asset at a future period. This amount in future in terms of value is equivalent to a certain sum in the present. The future value formula holds significant importance in the realm of finance as it serves as the foundation for various valuation techniques used to assess the worth of a company.

By discounting projected cash flows expected to be generated in the future, the Discounted Cash Flow (DCF) technique is employed to determine the value of a company or any other asset class that generates cash and is anticipated to do so for a defined future period.

Difference between Present Value and Future Value

Below is a summary of the primary differences between Present Value and Future Value.

The importance of present value lies in its reliability, providing analysts with a more certain value to work with. Conversely, future value is based on projections and cannot be fully relied upon due to unforeseen events that may impact the outcome.

Present value represents the current value of future cash flows, while future value represents the value of those cash flows at a specified time in the future. Inflation is factored into present value calculations but not into future value calculations.

When calculating present value, both discount rate and interest are considered, whereas future value calculations only involve interest. Present value aids investors in determining whether to proceed with an investment, while future value focuses on potential gains without significantly influencing investment decisions.

The present value method utilizes discounting to determine the current value of an investment, while the future value method uses compounding to determine the investment's future worth.

Difference between Present Value and Future Value

Conclusion

Both the present value and future value hold great significance for investors when it comes to making critical investment decisions. The present value assesses the value of future cash flows at present, whereas the future value computes the investment returns for a set duration. The importance of present value lies in its reliability, as analysts can have a high level of certainty regarding this value. Consequently, decisions based on the present value are relatively easier to make.

Conversely, future value plays a crucial role in estimations, whether budget projections or asset valuations. Projecting future values makes it easier to make accurate assessments. However, since the future value is based on projections, it cannot be fully relied upon, as unforeseen events in the future may impact these projections. In the world of finance, present value and future value are closely related and have substantial weight.