Financial Concepts in Debt and Equity Capital Costs

Contractual interest rate

the interest rate stated by the lender on the note

Annual Effective Rate

directly accounts for the compounding effects over the number of conversion periods within a year

APR (Annual Percentage Rate)

interest rate per year

Actuarial Rate

interest rate, or discount rate, that equates to zero the sum of the present values of all cash flows associated with the loan transaction

Costs of debt and equity capital

make up the overall costs of financial capital for an agricultural business

Present value procedures

methods used to estimate costs of debt and equity capital by measuring cash flows attributed to two types of capital—debt and equity

Debt costs

can vary considerably based on the methods of charging interest, time specifications, and the use of noninterest money costs along with interest payments as part of the lender's compensation

Actuarial interest rate

the interest or discount rate that equates to zero the sum of the present values of all cash flows associated with the loan transaction, expressed per conversion period

Annual percentage rate (APR)

found by expressing the actuarial rate on an annual basis

Effective interest rate

calculated by compounding the actuarial rate over the number of conversion periods within a year

Remaining-balance method

one of the major methods of computing interest

Add-on method

one of the major methods of computing interest

Discount method

one of the major methods of computing interest

Amortization schedule

shows how much of a periodic loan repayment is composed of principal and interest

Lender's use of fees

increases the annual effective interest rate paid by the borrower

Estimated nominal costs of debt financing

may be converted to real after-tax costs and further adjusted to account for risk premiums as leverage increases

Costs of equity capital

apply to retained earnings and outside corporate or partnership equity capital

Present value models

based on projected dividend payments are used to quantify equity capital costs for common and preferred stock