Time Value of Money: Meaning, Benefits, Concept, Formula, Examples, and When to Use

With IDR 200 thousand in the past you could shop for more goods than now. This situation is an example of the time value of money.

This situation occurs because the value of the money you have now may change or even decrease in the future. One way to overcome these changes is with long-term investment.

Therefore, in this article you must learn in full about the time value of money from various concepts to calculation formulas.

Understanding Time Value of Money

Time value of money is a financial concept where the current value of money may decrease in the future. This reduction in value is caused by time, fluctuations in bank interest, and inflation.

Investopedia illustrates this concept with the following case example. If you are offered IDR 5 million now or in two years, it would be better to accept the money now.

Even though the amount of Rp. 5 million will not change in the next two years, the value and goods it can buy will decrease. This is caused by the factors mentioned above.

Therefore, by receiving IDR 5 million now, you can increase its value by investing. That way, you will receive additional money from the investment.

Benefits of Time Value of Money

Maybe you think that time value of money is a bad thing, but that's not always the case. Here are some ways to take advantage of this:

• Become a guide for determining the investment amount.
• Knowing when you should use money and for what.
• Knowing what investment instruments will be profitable in the future.
• Helping you choose the right savings product, for example deposits.
• Take into account the money you will have in the future with a financial plan.
• Regarding business, you can calculate production and innovation budgets.
• Calculate your profit opportunities in the future.

Time Value of Money concept

Summarized from MasterClass, based on changes in time and ways of looking at the value of money, there are three concepts of time value of money, namely:

Present value

Present value is the amount of money you need to invest now to get a certain profit in the future. Briefly the current value of money. This amount also serves as a benchmark for the amount of interest you will receive after investing.

Future value

Future value is a prediction of the amount of profit you will get based on a certain interest rate and duration. Briefly the future value of money. For example, based on present value, you invest IDR 100 million. By calculating high interest rates, you will get greater profits/future value.

Annuities

An annuity is additional income that you receive consistently over a certain period of time. For example, if you own a boarding house business, every month you will receive an annuity in the form of rent.

Time Value of Money Formula and Examples

To calculate the time value of money, you can calculate it based on each concept. Beforehand, you must understand the following terms:

• FV = future value/future value of money
• PV = present value/current value of money
• r = interest rate
• n = time period

After understanding the terms, here are the formulas and examples of calculations, citing BankRate:

Present value (PV) calculation formula and example

The present value formula is PV = FV / (1 + r)ⁿ.

Example of PV calculation: You have a savings target of IDR 25,000,000 within 3 years. You decide to create a deposit account with an interest rate of 10% annually. Based on the formula above, the calculation is:

PV = 25,000,000 / (1 + 10%)3

PV = 25,000,000 / 1.331

PV or money you have to prepare now = IDR 18,782,870

Formula and examples of future value (FV) calculations

The formula is FV = PV x (1 + r)ⁿ.

Example of calculating future value: if you save a deposit in a bank of IDR 15,000,000 with an interest rate of 10% annually. You have a plan to keep it for 3 years.

First year FV: 15,000,000 x (1+0.10) = 15,000,000 x 1.10 = IDR 16,500,000

Second year FV: 16,500,000 x 1.10 = Rp. 18,150,000

Third year FV: 18,150,000 x 1.10 = IDR 19,965,000

With the calculations above, it can be concluded that the total profit you will get in three years is IDR 4,965,000.

When should Time Value of Money calculations be used?

We recommend that you use time value of money calculations in the following situations:

• When you are considering whether to buy or rent a house, and the amount needed between the two.
• When calculating the amount of insurance premium you want to take and the investment amount.
• When starting an investment, including choosing an instrument, the initial investment amount, and the investment period.
• When considering buying a car, motorbike or other valuable items.
• When considering paying debt/credit or investment first with an annual bonus.
• When your company wants to acquire a smaller company.
• When your company wants to buy new equipment for production.

By understanding the time value of money, you can estimate the benefits of the money you have now if invested correctly.

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Financial reports are an important component in a company. To help you understand the company's financial condition, we have prepared various examples of financial reports.

However, before knowing the various examples, we will also explain in detail how to make the following financial reports.

How to Make Financial Reports

According to Databox, a financial report must be accurate and complete. You can use these financial reports to show the company's performance to old investors and attract new investors.

Here are the right ways and steps to make financial reports:

Start with these three main data

If your company or business has been running for more than three years, add sales information for the last three years.

Meanwhile, if your company or business has just started or is less than three years old, include all sales information while the business is running.

The sales information in question is the selling price, number of products sold, and operational cost calculations. This information can help you understand how much profit you will make based on the number of sales.

You can also use this variety of information to create sales targets or predictions (sales forecast) for the next few months or 1 year.

Write expenses in detail

Sales forecasts are useful for helping you calculate the expenses you have incurred and will incur. Detailed expenses contain fixed costs (certain expenses such as rent, employee salaries, etc.) and variable costs (proportional expenses, for example marketing and promotion costs).

You can also add tax charges in detailed expense information, such as VAT and PBB.

Create a clear cash flow

By using sales information, sales forecasts, and expense calculations, you can create company cash flow.

If your company is still a startup or new, make a cash flow calculation for the next 6-12 months.

Make profit/profit predictions

Profit predictions are quite easy to make. You just have to calculate it using the following formula:

Income - expenses - tax burden

For example:

Company expenses in 1 year: IDR 125 million

Company income in 1 year: IDR 175 million

Tax burden in 1 year: IDR 17.5 million

So, the calculation is: IDR 175 million - IDR 125 million - IDR 17.5 million = IDR 32.5 million.

However, keep in mind that these numbers are predictions. Depending on market conditions, sales figures, and the size of your operational costs, the numbers can show profits or losses.

Ensure inventory data is complete

Include what is in your inventory and the costs incurred to purchase and store it.

Make sure all data is accurate and complete, because this data will also be part of your company's operational calculations. If your business or company operates in the field of multifunctional products, investors will ask for this information.

They want to know even your processes for managing assets and inventory for continued production.

Add the break even point

According to the BBC, the break-even point is the point where total income is equal to total expenditure. In simple terms, the break even point indicates that the company has not made a profit, but has not experienced a loss either.

Break-even analysis can help you identify expenses that will potentially be needed later. This can help you set more reasonable targets, price products more accurately, and avoid making careless decisions.

Examples of Financial Reports

If you need a clearer example of a financial report, here we explain the five types, quoted from Investopedia:

Example of a simple financial report

Source: merdekakeuangan.net

For small businesses and startups, you can follow this simple financial report example. This report must contain important elements related to your business finances. Make sure you include all types of expenses and no matter how small.

Example of financial report: Comprehensive income/profit

Source: Pintu.co.id

Financial reports related to comprehensive income and profit will show changes in the net finances of your business or company in a certain period.

This financial report will also be shorter and focus on your company's net profit or finances.

Example of a financial report: Cash flow

Source: OCBC.id

Cash flow is important to ensure whether your company or business is running according to plan. In this example of a financial report, you must list in full and in detail all operational costs, investments, assets and funding for your company.

Example of a financial report: Profit and loss

Source: Detik.com

This example of a financial report is most often used because it can show the income and expenses of your company or business as a whole.

This report will provide a factual overview of your company's financial condition. Typically, this report will contain:

• Business expenses (employee salaries, rent, depreciation, etc.)
• Operating revenues
• Outside business expenses (loan interest, late fees, etc.)
• Corporate/business income tax

From all these figures, you can find out your company's net profit.

Example of a financial report: Changes in equity

Source: bigalpha.id

Financial reports related to changes in investor equity must include in detail the total equity from one period to another. In this report, investors will be able to find out data about:

• Initial equity
• The company's final income
• Dividend

These are various examples of financial reports and how to prepare them which can definitely help you find out more about the performance of a company or business.

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For entrepreneurs who want to develop their business, of course they have to understand how to find the right investors. With investors, capital for business development will be safer so that various business plans can proceed in the future.

Looking for investors is not something that can be done easily for every business person. Before looking for investors, of course you need to know the business goals and what the current position of the business is.

After knowing this, look for investors who you can get in various ways. Read this article to find out various things that can help you find suitable investors for your business!

Definition of Investor

Investors are the term for individuals or institutions who invest capital in a business. There are many different purposes for investors to invest money in a business.

In general, investors in a business play a role in providing the funding needed so that the business can continue to run and develop.

The investor system in a business usually applies in the long term. If investments are made in the short term, they are called traders.

So basically the difference between investors and traders generally lies in the duration of providing capital to a business.

Types of Investors

Looking for investors is one of the wise steps taken by business people if they want to develop a business beyond what they have. But before looking for one, it is better to first know the various types of investors that exist.

The following are several types of investors that you can meet in the field:

Bootstrapping

Bootstrap is the term for founders who become investors in their own business. Usually bootstrapping occurs when the business you want to run is still in the idea stage and has just been built.

Being an investor in your own business provides quite a big responsibility, but the founder can manage the business himself.

If you are currently still in the bootstrapping stage of your business and intend to look for investors, separate your personal and business accounts. This is to keep your business's cash flow well monitored.

Angel Investors

Angel investors are the term for investors who provide funding in a business in return for share ownership in the business. Finding investors like this is actually quite easy with the right connections.

Usually the angel investors of a business are among the founder's relatives. Its characteristics also provide a one-time capital injection. After that, it is the business person's job to develop the business and gain profits that can be given to investors.

Incubator

Want to find institutional investors? This type is called an incubator system. In this incubator system process, institutions will help business development.

This incubator system funding is open to businesses that are still in the idea stage and are also looking for investors to develop these ideas.

Accelerator

This accelerator type business funding system only has a term of three months. Apart from that, businesses that participate in the accelerator system funding are usually businesses that are already running.

In the process, business owners will also receive training and guidance in managing the business so that in the future they no longer need to look for investors.

Venture Capital

Looking for investors in the form of financial institutions can also be done, but usually this applies to businesses that are already running. Venture capital is the term for financial institutions that have the potential to fund a business but source funds from many places.

Generally, venture capital provides funds to businesses or startups that have the potential to grow their business. This is because the potential for returns above the average will be obtained by venture capital if the business grows from the results of the funding.

How to Find Investors

For those of you who are business people, looking for investors can be done in various ways. The thing you need to know before looking for investors is that you have to really understand the business. After that, there are various ways, here is an example of how to find the right investor:

Using LinkedIn

Activating a LinkedIn account can be the first step in finding investors. It all starts with connection and conversation.

Looking at it from an investor's perspective, of course they will be more open to starting a conversation with someone whose business goals are visible to the public. As a businessman, make sure you look for investors who understand your business and have the same enthusiasm about the future of the business.

Expanding Connections

The next way to find investors is to expand connections. The method can be started by looking for suitable people, it could be someone who does the same business or people who are in venture capital.

Before asking to be introduced to these people, make sure that you are being met by the right person. For example, meeting people who do similar businesses or institutions that have a track record of funding the same and growing businesses.

Get involved in the Business Community

When looking for investors, don't forget where you studied at college. For those of you who are studying business, there is potential for alumni of your department to know someone who could become an investor.

It is necessary to seek information from schools because we never know, maybe there are investors who suit your business.

Exploring Crowdfunding and Brand Building Opportunities

Crowdfunding and building a brand are also important steps to take before looking for investors. Increase promotions to create public knowledge about the brand or business you are involved in. This can be done through the media, creating brand campaigns and many other ways.

This is one of the popular methods used by many startups today when they aim to find investors for future business development.

Before looking for investors, it is important for a business person to maintain an orderly financial system. Neatly organized bookkeeping in a business will make it easier to get investors for development purposes.

After running a business for some time, financial analysis can also be a step in reflecting on the success of your business.

Do you need financial analysis to assess business success and take the right financial steps? Take the financial analysis program at Prasmul Eli. In this two-day program, you will receive reviews of various topics that will complement your business analysis skills. Here are the topics:

• A brief review of the types of financial reports
• Practice and simulation of preparing financial reports
• Analysis of financial statements
• Performance indicators with ratios: liquidity, solvency, profitability, efficiency
• The relationship between each financial performance
• Other things outside financial reports that affect company performance

To find out more program details and register, you can click this link.