The concept of present value is quite logical and based on the theory that current money in hand is more valuable than a future payout.

### Think of it like this:

You are selling a TV for $100 and the buyer says they will pay 8% interest if they can pay you in a year. The present value formula is cash flow divided by (1+ interest rate).

In the case of the TV, that would be 100 divided by 1+8% = 108.

If you sold the TV and got $100 on the spot, the present value is $100. If you took the deal of $108 in a year, it's not valued at $108 today because you don't have it.

To find the present value of the $108 you'll receive in the future, you need to figure out how much you have to invest today to get the $108 in a year.

The present value of $108 in a year with 8% interest is $108 divided by 1.08 (1+8%) = $100.00.

**The Risks**

Of course, that could be a risky deal. The buyer may take the TV and run. Now, you're out a TV and the money.

In business, most deals aren't that cut and dry when it comes to risk. But, future payoffs aren't certain either. There's always the chance you won't get the return you expect.

If you took the $100 from a buyer and deposited it into your savings account (let's say it earns has 2% interest), you're guaranteed to have $102 in a year. There was no risk to you since you got your money either way.

It's always riskier to invest with a third party or non-bank. The U.S. federal government backs banks whereas they don't in all cases involving third-party institutions.