3305 exam 3

Given a choice between $740 now and $1,000 three years from now at a rate of 10%

740 x FV factor (10%, 3) = 984.94 984.94 is < 1,000 so you would choose the 1,000 in three years

Given a choice between $740 now and $1,000 three years from now at a rate of 11% or higher

740 x FV factor = 1,012 You would choose the 740 now and invest the 740 so it can grow to 1,012 in there years

Issue 2000 shares of common stock for $5

A decrease of 10,000 (2,000 shares x $5) under financing

The Shoe Company manufactures athletic shoes for sale to retailers. The company recently sold a large order of shoes to Sporting Goods Inc. for $50,000. The Shoe Company agreed to accept a note in payment for the shoes requiring payment of $50,000 in one year plus interest at 10%.

FV 55,000 (50k x 10%) x PV factor (10%, 1) = 50,000 PV By calculating the present value of $55,000 to be received in one year, the interest of $5,000 is removed from the future value, resulting in the appropriate note receivable/sales revenue value of $50,000 for The Shoe Company and a $50,000 note payable/inventory value for Sporting Goods Inc.

Suppose a husband wants to take his wife THREE YEARS FROM NOW to celebrate their 40th anniversary. He has just received a $20,000 inheritance from an uncle and intends to invest it for the trip. The husband estimates the trip will cost $26,600. What interest rate , compounded annually, must be earned to accumulate enough to pay for the trip?

FV factor of $1 FV 26,600 = PV 20,000 x FV factor of $1 / PV 20,000 / PV 20,000 1.33 = FV factor (%?, 3) Go to FV of $1 table and find the factor closest to 1.33 in the 3 periods row to find the corresponding interest rate

Suppose a husband wants to take his wife THREE YEARS FROM NOW to celebrate their 40th anniversary. He has just received a $20,000 inheritance from an uncle and intends to invest it for the trip. The husband estimates the trip will cost $23,500 and he believes he can earn 5% interest, compounded annually, on his investment. Will he be able to pay for the trip with the accumulated amount?

FV of $1 table

(Non operating) Long term liabilities, debt or equity, SE accounts, and cash dividends

Financing

Ordinary annuity

First cash flow occurs one period after agreement begins

Bonds will sell..

For the combined PV of single sum (maturity value) and the annuity (interest payment). Both are discontinued at the market rate of interest

First payment of annuity due

Acquires no interest bc it occurs immediately

No cash investing and financing activities

Activities not involving cash - reported on the face of the statement of CF -acquisition of equipment (investing) by simultaneously issuing either a long term note payable or equity securities (financing) to the seller of the equipment

Indirect method to reporting operating activities

Adjustments to cash flows are made based on when we receive revenues and incur expenses (income statement affects)

interest

Amount of money paid or received in excess of the amount of money borrowed or lent

Common stock increasing from 185 to 195 in year 2

An issuance of common stock under financing

Sam purchased a new automobile for $15,000 He made a cash down payment of $5,000 and agreed to pay the remaining balance in 20 monthly installments, beginning one month from the date of purchase. Financing is available at a 12% annual interest rate. Calculate the amount of the required monthly payment.

Annuity = 15k purchase price - 5k cash down payment = 10,000 x PVA factor (12% / 12 months = 1%, 20 monthly payments)

"You decide to make the first payment to the account immediately"

Annuity due

Difference between ordinary annuity and annuity due

Annuity due is at the beginning of the period while ordinary annuity is at the end

Similarities between IFRS and GAAP

Both require a statement of cash flows from op, fin, and inv

Accrual accounting method

Cash flows recognize revenue when earned and expense when incurred ; for operating activities, we are undoing all accruals to get back to cash

Investing activities cash outflow

Cash paid for the following: 1. Purchase of long lived assets used in the business such as machinery, land, or equipment 2. Purchase of investment securities like stock and bonds of OTHER entities 3. Loans to OTHER entities

Financing inflows

Cash received from: 1. owners when shares are sold to them 2. creditors when cash is borrowed through notes, loans, mortgages, and bonds (Increases in long term liabilities and SE)

What do the adjustments to current assets and liabilities for operating activities indicate?

Components of Net income are not the same as cash flows

Operating activities cash outflow

1. Purchase of inventory 2. Salaries, wages, and other operating expenses 3. Interest on debt 4. Income taxes

Davenport Incorporated offers a new employee a single-sum signing bonus at the date of employment. Alternatively, the employee can receive $30,000 at the date of employment and another $50,000 two years later. Assuming the employee's time value of money is 8% annually, what single sum at the employment date would make her indifferent between the two options?

50,000 x PV factor (8%, 2) = 42867 + 30,000 today =72867

Discount

bonds issued at less than face value are said to be issued at a discount.

cash proceeds from note payable

financing

payment of principal on notes payable

financing

Dividends paid to shareholders

financing outflow How to find if not given: Beg retained earnings + net income - end retained earnings balance

cash received from the collection of a notes receivable

investing

collection of loans and notes

investing

If service revenue is 100,000 and only 90,000 cash was received from customer,

need to make an adjustment to reduce net income by 10,000 (the inc in acc receivable)

More compounding periods equals

Higher effective rate of interest

Installment Notes Payable

If you Purchased a car or house; Each payment includes both an amount that represents interest and an amount that represents a reduction of the outstanding balance (principal reduction). The periodic reduction of the balance is sufficient that, at maturity, the note is completely paid.

MISSING INT RATE: You have an investment opportunity that promises to pay you $16,000 in four years and also requires you to invest $13,200 today. What is the interest rate you would earn on this investment?

PV= FV x PV factor (unknown %, 4 periods) Divide FV by both sides PV 13,200 / FV 16,000 PV = 0.825 Go to PV of $1 and look for the closest number in row 4 and the corresponding interest rate

Difference between IFRS and GAAP

Presentation of interest and dividends

You have two investment opportunities. The interest rate for both investments is 10%. Interest on the first investment will compound annually, while interest on the second will compound quarterly.

Second

Deferred annuity

Series of equal sized cash flows with the first payment taking place MORE than one period after the date of agreement

Present value of a single amount

the amount of money today that is equivalent to a given amount to be received or paid in the future

Lucia Limited reported net income of $135,000 for the year ended December 31, 2024. January 1 balances in accounts receivable and accounts payable were $29,000 and $26,000, respectively. Year-end balances in these accounts were $30,000 and $24,000, respectively. Assuming that all relevant information has been presented, Lucia's cash flows from operating activities would be:

$132,000 135,000 net income - increase of 1,000 in accounts receivable - decrease of 2,000 in accounts payable

Howard Incorporated had prepaid rent of $75,000 and $80,000 at the end of 2023 and 2024, respectively. During 2024, Howard recorded $240,000 in rent expense in its income statement. Cash outflows for rent in 2024 were:

$245,000 240,000 of rent + 5,000 difference between prepaid rent end balances

Pension obligations

- long term liabilities that Use deferred annuity

Operating income definition

-Includes elements of net income reported on a cash basis rather than accrual -accrual based Revenues/expenses from the balance sheet are adjusted for cash basis method

Operating activities example

-Payment of employee salaries -collection of cash from customers -payment of INTEREST on notes payable -depreciation of machinery -amortization of a patent -loss on the sale of equipment -increase in accounts receivable during the year -decrease in accounts payable during the year -inc/decr in accrued liabilities -gain on sale of equipment -purchase of inventory -PAY INTEREST ON A BOND ISSUED -cash received from customers -cash paid for operating expenses

Investing activities examples

-Purchase of equipment for cash -purchase of common stock of ANOTHER corporation for cash -sale of equipment for cash -purchase of land and building -sale of equipment -sale/loss of investments -redemption of bonds (bonds have not been issued) -collection of loans and notes -cash received from the collection of a notes receivable

Financing activities example

-cash proceeds from note payable -issuance of common stock for cash -payment of cash dividends to (our own) shareholders -payment of principal on notes payable -receiving dividends -getting cash from issuing a note payable -purchase of treasury stock -dividends paid

Operating activities cash inflow

1. Sale of goods or services 2. Interest and dividends from investments

Investing activities cash inflow

1. The sale of long lived assets used in the business 2. The sale of investment securities (even at a loss) 3. The collection of a non-trade receivable (excluding the collection of interest, which is an operating activity)

Financing outflows

1. To owners in the form of dividends or other distributions - cash dividends 2. To owners for the reacquisition of shares previously sold - buying back shares of our own stock/treasury 3. To creditors as repayment of the principal amounts of debt (excluding trade payables that relate to operating activities) - paying off long term debt

premium

Bonds issued at more than face value are said to be issued at a premium,

Depreciation

Does not reduce cash but is subtracted from income statement so we need to add back

Effective annual interest / annual yield rate

Effective rate is the rate money will actually grow during a full year. More rapid compounding increases the actual rate at which money grows per year

Investing activities

In/outflows of cash related to the acquisition and disposition of: 1. Long lived assets used in the operations of business aka PPE, long term investments/receivables 2. investment assets except cash equivalents & trading securities (purchase and sale of inventory are NOT investing activities)

Monetary assets

Include money and claims to receive money in the future, the amount of which is fixed or determinable ex) cash and most receivables

Compound interest

Includes interest not only on the initial investment but also on the accumulated interest in previous periods ; when money remains invested for multiple periods

Financing activities

Inflows and outflows of cash related to the external financing of the company with owners/investors and creditors

Operating activities definition

Inflows and outflows of cash that result from activities reported in the income statement

Simple interest

Initial investment x annual interest rate x period of time

Long term assets

Investing

Ending and beginning balance of cash on statement of cash flows..

Is same as beg and end balances of cash on the balance sheet

Valuation of long term lease

Leases require the recording of an asset and corresponding liability at the present value of (future) lease payments.

Present value

Lower the investment today, the higher the rate of interest

MISSING COMPOUNDING PERIOD FOR PVA: Assume you borrow $700 from a friend and intend to repay the amount in equal installments of $100 per year over a period of years. The payments will be made at the end of each year beginning one year from now. Your friend wishes to be reimbursed for the time value of money at a 7% annual rate. How many years would it take before you repaid the loan?

PV of an annuity = annuity amount x PVA factor PV 700 = 100 x (n?, 7%) Divide both sides by 100 Present value 700 / 100 annuity amount = 7.0 Go to the 7% interest column for PVA and look for the value closest to 7.0 which ends up corresponding to 10 compounding periods

Time value of money

Money can be invested today to earn interest and grow to a larger dollar amount in the future

Roseland company purchased merchandise from Roval corp. on September 30. vear 1. Pavment was made in the form of a noninterest-bearing note requiring Roseland to make six annual payments of $4,400 on each September 30, beginning on September 30, year

N = 6

Net cash flows from operating activities is equal to..

Net income under the cash method

Retained earnings is 40,000. How much are cash dividends under financing?

Net income would have to be 45,000 to minus 5,000 of dividends which would equal 40,000

Current assets and liabilities

Operating

Arrow Printers paid $2,000 interest on short- term notes payable, $10,000 interest on long-term bonds, and $6,000 in dividends on its common stock. Arrow would report cash outflows from activities, as follows:

Operating, $12,000; Financing $6,000.

Payments are made at the beginning of each month starting one period free the agreement

Ordinary annuity

You have an investment opportunity that promises to pay you $16,000 in four years. You could earn a 6% annual return investing elsewhere. The company wants you to invest $13,200 today. What is the interest rate you would earn on this investment?

PV of $1 table PV 13,200 = FV 16,000 x PV factor /FV 16,000 / FV 16,000 0.825 = PV factor Go to PV of $1 table and search for 0.825 in the four year row to find correlating interest rate

You have entered into an agreement for the purchase of land. The agreement specifies that you will take ownership of the land immediately. You have agreed to pay $50,000 today and another 50,000 in three years. Calculate the TOTAL COST of the land today assuming a discount rate of 5%

PV of $1 table PV 50,000 x FV factor + 50,000 in three years

MISSING INTEREST RATE FOR PVA: Suppose a friend asked to borrow $331 today (present value) and promised to repay you $100 (the annuity amount) at the end of each of the next four years. What is the annual interest rate implicit in this agreement?

PV of annuity = annuity x PVA factor PV 331 = 100 annuity x PVA factor Divide both sides by 100 331 PV / 100 annuity = 3.31 Look for row 4 in PVA table and see which Val is closest and there corresponding int rate is the answer

On June 30, 2024, Fumatsu Electric issued 10% stated rate bonds with a face amount of $200 million. The bonds mature on June 30, 2044 (20 years). The market rate of interest for similar issues was 12%. Interest is paid semiannually (5%) on June 30 and December 31, beginning December 31, 2024. The interest payment is $10 million (5% × $200 million). What was the price of the bond issue? What amount of interest expense will Fumatsu record for the bonds in 2024?

PVA = $10 million interest pmt/annuity x PVA factor (40, 12/2 = 6%) = $150,463,000 PV = $200 million lump sum/face amount x PV factor (40, 6%) = $19,444,000 Price of bond = $150,463,000 + $19,444,000 = $169,907,000 $169,907,000 represents a discount of $30,093,000 ($200,000,000 face amount - $169,907,000 price of bond). Fumatsu records a $169,907,000 increase in cash and a corresponding liability for bonds payable. Interest expense for the first six months is determined by multiplying the carrying value (book value) of the bonds ($169,907,000) by the semiannual effective rate (6%) The difference between interest expense ($ 10,194,420) and interest paid ($10,000,000) increases the carrying value of the bond liability. Interest for the second six months of the bonds' life is determined by multiplying the new carrying value by the 6% semiannual effective rate.

Pension obligations: On January 1, 2024, The Shoe Company hired a new manager. The manager is expected to work for 25 years before retirement on December 31, 2048. Annual retirement payments will be paid at the end of each year during his retirement period, expected to be 20 years. The first payment will be on December 31, 2049. During 2024 the manager earned an annual retirement benefit estimated to be $2,000 per year. The company plans to contribute cash to a pension fund that will accumulate

PVA = 2,000 deferred annuity x PVA factor (20, 6%) = 22,940 This is the present value as of December 31, 2048. This single amount is then reduced to present value as of December 31, 2024, by a second calculation. PV = $22,940 (future amount) X PV factor (24, 6%) = $5,666. The Shoe Company would have to contribute $5,666 at the end of 2024 to fund the estimated pension benefits earned by its employee in 2024. Viewed in reverse, $5,666 invested now at 6% will accumulate a fund balance of $22,940 at December 31, 2048. If the fund balance remains invested at 6%, $2,000 can be withdrawn each year for 20 years before the fund is depleted.

UNKNOWN PMT: a company borrowed $100,000 from a local bank. The loan requires 10 equal annual payments beginning one year from today. Assuming an interest rate of 8% what is the amount of each annul payment?

PVA = annuity x PVA factor 100,000 = annuity x (8%, 10 periods) 6.71008 Divide both sides by 6.71008 100,000 / 6,71008 = 14,903 annuity

MISSING INT: On March 31. year 1. Fastwood Gas leased equinment from a sunnier and agreed to pay $218,000 annually for 21 years beginning March 3 year 2. Generally accepted accounting principles require that a liability be recorded for this lease agreement for the present value of scheduled payments. Accordingly, at inception of the lease, Eastwood recorded a 2,362,146 lease liability.

PVA = annuity x PVA factor 2,362,146 = 218,000 x PVA factor Divide both sides by 218,000 annuity 2,362,146 / 218,000 = 10.83553 Look at row n = 21 for 10.83553 and corresponding interest rate

A company borrowed money from a local bank. The note the company signed requires five annual installment payments of $10,000 beginning one year from today. The interest rate on the note is 7%. What amount did the company borrow, assuming that the first of the five annual $10,000 payments was not due for three years?

Payment is deferred two years. Step 1: calculate PVA ordinary annuity 10,000 x (7%, 5 periods) = 41,002 Step 2: calculate PV of step 1 41,0002 x (7%, 2 PERIODS) = 31,813

You have an investment opportunity that promises to pay you $16,000 in four years. You could earn a 6% annual return investing elsewhere. What is the maximum amount you would be willing to invest in this opportunity?

Present value of $1 table

Suppose you want to determine the cost today of a three year graduate program. The programs cost of $10,000 each year, with payments made at the end of each year. You use a 10% interest rate. What is the cost today of the program?

Present value of an ordinary annuity

You have been issued a patent that will produce sales of $200,000 each year as long as the software remains in demand. Assume a discount rate of 7%. What is the value today of having the patent, assuming sales last for three years ?

Present value of an ordinary annuity

The calculation of future value requires..

The addition of interest, while the calculation of present value requires the removal of interest

Statement of cash flows assesses

Profitability, liquidity, and long term solvency

Cash in statement of cash flows

Refers to cash, cash equivalents, and restricted cash

Pension plans

Require the payment of deferred annuities to retirees

On December 31st 2024, a company issued 6% stated rate bonds with a face amount of $100 million. The bonds mature on December 31, 2054. Interest is payable annually on each December 31, beginning in 2025. Determine the price of the bonds on December 31, 2024 assuming that the market rate for interest for similar bonds was 7%

Step 1: determine amount of interest payment 100,000,000 x 6% stated rate = 6,000,000 annuity/ int pmt Step 2: determine the PVA of the interest payment using the market rate 6,000,000 x PVA factor (7%, 30 periods) = 74,454,240 Step 3: determine the PV of the single sum (maturity value) using the market rate 1000,000,000 x (7%, 30 periods) = 13,137,000 Price of bond = 74,454,240 + 13,137,000

Why does the PV single sum columns get smaller in number with more compounding periods

That demonstrates that the longer you have to wait for your money, the more you give up in terms of the return you could be getting if you could put the money to work now, and the lower is the present value of the future amount.

Installment note payable missing payment: On January 1, 2024, The Shoe Company purchased a $35,000 machine, with a $5,000 down payment and a 5-year installment note for the remaining $30,000. Terms of the note call for annual installment payments at the beginning, with the first payment due on January 1, 2024, and at each December 31 thereafter. Assuming an interest rate of 4%, what is the amount of the annual installment payments?

The annual installment payment amount that would pay a $30,000 loan over five years at a 4% interest rate is: PVAD 30,000 = installment note annuity x PVAD factor (4%, 5) 4.62990 Divide both sides by 4.62990 30,000 / 4.62990 = 6480 The company initially will record the machine at its $35,000 cost with credits to cash and notes payable. The company will record the first installment payment of 6,480 at the date of purchase. No interest is needed for the first installment payment because no time had yet passed, so no interest had accrued. With the second payment, though, the payment represents part interest and part reduction of the loan. Interest expense = 4% × ($30,000 installment note - $6,480 first installment payment ) Interest expense is 4% times the amount owed initially reduced by the first payment a year earlier

The more you invest

The less interest

Higher interest rate earned

The less u will have to invest

How are monetary assets and liabilities are valued at...

The present value of future cash flows

Effective rate or yield

The rate at which money will actually grow during a year

Cash dividends were $30,000

Under financing: Payment of cash dividends (30,000)

Sold Equipment with a BV of $20,000 for $21,000

Under operating: Gain on sale of equipment (1,000) Under investing: Sale of equipment $21,000

Investments were sold at a loss of $10,000

Under operating: Loss on sale of investments +10,000 Under investments: Sale of investments +10,000 (year 1 - year 2 - 10,000)

Long term bonds

Use both an ordinary annuity and the present value of a single amount -usually require the issuing/borrowing company to repay a specified amount at maturity and make periodic stated interest payments over the life of the bond -At the date the bonds are issued (sold), the marketplace will determine the price of the bonds based on the market rate of interest The initial valuation of long-term bonds is determined by calculating the present value of the periodic stated interest payments and the present value of the lump-sum payment made at maturity.

Long term leases and installment notes

Uses annuity due