Chapter 7- Accounting and the Time Value of Money

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Pension obligation

A company promises to pay employees a certain amount after they retire

What is an effective interest rate?

Actual return that the investors will receive. Also called market rate or yield

Interest rate per compounding period:

Annual interest rate / number of times per year that interest compounds

PV=

FV x Factor

Interest payment=

Face amount x face rate

Time value of money

Means that a dollar received today is worth more than a dollar received at some time in the future

Number of compounding periods:

Number of times per year that interest compounds x total number of years for which a PV or FV is computed

Sales price=

PV (face amount) + PV (interest payments)

FV=

PV x Factor

Simple interest =

Principal x interest rate x time

Simple interest=

Principle (face) x interesst rate x time

What is a deferred annuity

Results from a variety of contracts where payments or receipts are delayed until a future period

Discounting

The difference between the face value of the note and the fair value of the goods and services provided or the present value of the note in a discount, which represents the deferred interest to be earned over the notes life

Notes receivable

a company makes a loan today and receives periodic payments and a principal payment at the note maturity

Annuity due

an annuity where the cash flows occur at the beginning of the interest period

Ordinary annuity

an annuity where the cash flows occur at the end of the interest period

Person who pays for the bond?

bond holder, lender, creditor

You want bond that pays more interest

bond will be worth higher than face amount

Interest expense=

carrying amount x market (effective) rate

Coupon bond- coupons on bond

clip them off to make payments, coupons are interest payments (face amount x face rate= interest payments)

Leases Receivable

company provides the use of a product or property and receives periodic payments from the party to whom it gives the use of the product or property

Bond payable

company receives cash today and promises to make periodic interest payments over time and a principle payment at the bonds maturity

Leases payable

company receives the use of a product or property and promises to make periodic payments to the party from whom it obtained the use of the product or property

Warranty Liability

company sells some products and promises to maintain, repair, or replace the products, which represent estimated future cash outflows

(Face rate may not be market rate)-

determined on credit risk

Zero coupon bond (accrual bonds)

doesn't have payments, but has interest (accrual bond) traded at deep discount, interest is buried in face amount of bond- renders profit at maturity (one cash flow)

Two cash flows on coupon bonds

face amount and interest payments

Simple interest

initial investment by the stated interest rate for a single period and the amount of time the investment is held

Compound interest

interest computed on both the principle and the interest left on deposit

Person who gave the bond?

issuer, debtor ( payable side of the transaction)

Compounding

the process of moving from the PV to the FV

Interest

the return on money over time

Future value

the value at some specified point in the future of a cash flow or a series of cash flows to be paid or received between the current date and the specified point in the future

Present value

the value today of a cash flow or a series of cash flows to be received or paid in the future

Face value

what is the bond worth- what you paid for the bond


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