ACC 210 Exam 3

Compounding of Interest means

We earn interest on the principal amount plus on any previously earned interest

Future Value Formula

FV = PV x (1 +r)^n

Present Value Formula

PV = FV/ (1+r)^n

We would like to purchase a new car for $35,000 when we graduate in five years. If we can earn 12% annually, how much do we need to invest today in order to have $35,000 in five years?

$19,860.05

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Key word TODAY, Use the Present Value of a Lump Sum Table

Your Grandparents have promised to send you $2,500 each year(first payment one year from now) if you remain in school. If you can invest these payments and 8% annually, how much will you have in five years?

$14,666.50

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Use the Future Value of an Ordinary Annuity Table

What is an annuity?

An annuity is a financial product that provides a series of payments over a set period of time

What is a bond?

a financial tool that represents a loan made by an investor a borrow

What is an ordinary annuity?

A type of annuity where payments are made at the end of each period

You recently won the NC Lottery and will receive payments of $50,000 each year for eight years (first payment received in one year). You are told you have won $400,000! If you can earn 9% annually, what is the real value today of this prize?

276,741

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Use Present Value of an Annuity of $1 Table, KEY WORDS __**REAL VALUE TODAY**__

Clemson Corporation will deposit $5,000 into a money market account at the end of each year for the next five years. How much will accumulate by the end of the fifth and final payment if the account earns 9% interest?

29,923.50

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Use Future Value of an Annuity Table

Annuity is spaced out

equally for each time period

What is the value of today receiving five annual payments of $500,000, beginning one year from now, assuming an 11% discount rate?

1,847,950

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Use Present Value of an Annuity Table

If you won the Powerball Lottery and were trying to decide between the choice of receiving a single payout today or the series of payments over the next twenty year( same amount once a year) which TVM table would be most helpful?

Present Value of an Annuity

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You gain the amount TODAY and you want to get the present value of those annuity payments. We could calculate the PV of the annual payments and compare that to the lump sum offered today and choose which has a higher present value.

$5,000 to be received in one year, $5,000 to be received in two years, and $5,000 to be received in four years

This is an example of an

Annuity

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Remember that annuity’s are spaced evenly

How much will $25,000 grow to in seven years, assuming an interest rate of 12%, compounded annually?

$55,267

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Use the Future Value of a Lump Sum Table

Carol wants to invest money in a 6% Certificate of Deposit that compounds semiannually. Carol would like the account to have a balance of $50,000 five years from now. 

How much must Carol deposit to accomplish her goal?

$37,205

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Use the Present Value Table of a Lump Sum, Key Words Semi Annually, so you will be doing half of 6% and 5 years x 2 = 10 years

You plan to retire in exactly 30 years. You will be able to invest $25,000 at the end of each year for the 30 years. If you can earn 9% annually, how much will your retirement account balance be in 30 years?

$3,407,688

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Use the Future Values of an Ordinary Annuity Table

At the end of each quarter, DemonDeacon Industries deposits $500 into an account that pays 12% annual interest, compounded quarterly. How much will DDI have in the account in three years.

$7,096

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Use Future Values of an Annuity Table, Quarter=1/4. so 12% divided by 4 = 3%, and 3 years x 4 = 12

At the end of each month, ODU corp. deposits $1,000 into an account that pays 12% annual interest, compounded monthly.

How much will ODU have in the account in two years?

$26.973.50

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Use the Future Values of an Ordinary Table, Key Word monthly. 2 years x 12 = 24, 12% divided by 12 = 1%

Cavalier Manufacturing is considering a rearrangement of its manufacturing operations. A consultant estimates that the rearrangement should result in after-tax cash savings of $6,000 the first year, $10,000 in year 2 and 3, and $12,000 in both years 4 and 5. Assuming a 12% discount rate, calculate the total present value of the cash flow.

$34,882.26

6,000 x .89286 (n=1, i=12%) = 5357.16

10,000 x .79719 (n=2, i=12%) = 7971.90

10,000 x .7117.80 (n=3, i=12%) = 7117.80

12,000 x .71178 (n=4, i=12%) = 7626.24

12,000 x .56743 (n=5, i=12%) = 6809.16

Add Total

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Use the Present Value of $1

TarHeelCo borrows $300,000 to be paid off in three years. The loan payments are semi-annual with the first payment due in six months, and annual interest is 6%, compounded semi-annually. What is the amount of each payment?

$55,379.26

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Use the Present Value of an Annuity Table. Trying to solve for each payment. 300,000=PMTx5.41719, = 300,000/5.41719

You want to buy a new car that sells for $45,000. The dealer will finance it for 50 months at 12% annual interest (compounded monthly) if you make a $5,000 down payment today.

$1,020.51

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Use the Present Value of an Annuity Table. Interest = 1%. $40,000/39.19612

Wolfpack, Inc. Borrows $100,000 to be paid back in 12 annual payments with interest (the first payment is due one year from today). If the payment is $11,282.54, what is the annual interest rate?

8\.86325 = 5%

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Use the Present Value of an Ordinary Annuity Table. 100,000/11,282.54

A $500,000 bond issue was sold for $490,000. Therefore, the bonds:

Sold at a discount because the market interest rate was higher than the coupon (stated) rate

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Bonds sell at a discount to their face value when their coupon or stated rate of interest is less than the rate the market demands on the date of issue

The mixture of liabilities and stockholders’ equity a business uses is called its:

Capital structure

Callable bonds benefit who?

The Bond Investor

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The ability to call a bond early (i.e., repurchase it from the bond investor at a known fixed price) is an advantage for the bond issuer not the bond investor.

Seaside issues a bond with a coupon (stated) interest rate of 10%, face value of $500,000, and due in 5 years. Interest payments are made semi-annually. The market rate for this type of bond is 8%. 

540,553

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Use n = 10 and i = 4% for Table 2 and 4 factors

PV of payments = $25,000 x 8.11090 = $202,773

PV of face value = $500,000 x .67556 = $337,780

Price = $202, 773 + 337,780 = $540,553

Serial Bonds

Types of bonds that mature serially (in installments)

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For example, issue 1,000 bonds and 200 mature in 6 years, 200 in 7 years, 200 in 10 years, and so on.

Callable bonds

may be brought back by the issuer before the maturity date

Convertible bonds

May be converted to common stock by the investor (if they want to convert them, they do not have to)

To determine a bond price on the issue date we will need to use

Both present value tables

On January 1, 2022, FSU Corp. issues a bond with a coupon/stated interest rate of 8% and a face value of $100,000. Interest payments are made semi-annually on 6/30 and 12/31. The market rate for this type of bond is 6%. The bond sold for $115,000.

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What amount of interest expense will be recognized on June 30, 2022?

$3,450

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$115,000 CV x 0.06 x 6/12 = $3,450

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The entry is:

Interest Expense                3450

Premium on B/P                    550

             Cash                                        4000

On January 1, 2022, FSU, Inc. issues a bond with a coupon/stated interest rate of 8% and a face value of $100,000. Interest payments are made semi-annually on 6/30 and 12/31. The market rate for this type of bond is 6%. The bond sold for $115.000. 

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What amount of interest expense will be recognized on December 31, 2022?

$3,434

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CV after 6/30 entry is $115,000 - $550 premium amort (from previous question) = $$114,450

$114,450 x .06 x 6/12 = $3,434

The entry:

Interest Expense                                       3434

Premium on B/P                                           566

          Cash                                                                              4,000

On January 1, 2022, FSU, Inc. issues a bond with a coupon/stated interest rate of 8% and a face value of $100,000. Interest payments are made semi-annually on 6/30 and 12/31. The market rate for this type of bond is 6%. The bond sold for $115,000. 

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What will be the carrying value of the bond on December 31, 2022?

$113,884

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$115,000 - $550 amortization on 6/30 - $566 amortization on 12/31 = $113,884

While providing services to Palmer Co., Nicklaus Group caused damages of $125,000. As of the end of the year, both parties agree that it is probable that Nicklaus will pay Palmer the full amount of the damages within the next two months. How would Nicklaus and Palmer report the lawsuit at the end of the year?

Nicklaus reports nothing; Palmer reports nothing.

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Nicklaus must recognize a loss because it is both probable and estimable. Contingent gains may not be recognized in advance of actual collection.

In 2020, WP estimates that warranty costs in the following year will be $25,000. Actual warranty costs in 2021 are only $20,000. What is the effect on the accounting equation when recording actual warranty costs in 2021?

Liabilities decrease.

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The journal entry will debit warranty liability (reducing it) and credit cash

When bonds are issued at a discount and the effective interest method is used for amortization of the discount, at each subsequent interest payment date, the cash paid is: 

Less than the interest expense

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Interest Expense                                      XXX

            Discount on B/P                                            XXX

            Cash                                                              XXX

 

In order for this journal entry to balance, the credit to cash plus the discount amortization amount must equal interest expense. Therefore, Cash Payment < Interest Expense for bonds issued at a discount.

On January 1, 2021, Fred, Inc. borrowed cash by issuing a $500,000, 5-year note that specified 6% interest to be paid on December 31 of each year and the $500,000 to be paid at maturity. If the note had instead been an installment note to be paid in five equal payments at the end of each year beginning December 31, 2021, which of the following would be true?

The second year's interest expense would have been less.

On November 1, 2020, NoleCo signed a $100,000, 6%, six-month note payable with the amount borrowed plus accrued interest due six months later on May 1, 2021. NoleCo should report interest payable at December 31, 2020, in the amount of:

$1,000

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$100,000 x .06 x 2/12 = $1,000 owed at 12/31/2020

Which of the following is *not* an **employer** payroll cost?

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a. Federal and state income taxes.

b. FICA taxes.

c. Federal and state unemployment taxes.

d. Employer contributions to a retirement plan.

Federal and state income taxes.

The entry to record a monthly payment on an installment note such as a car loan:

Increases expenses, decreases liabilities, and decreases assets.

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It would look something like this:

Interest Expense

Note Payable

        Cash

The mixture of liabilities and stockholders' equity a business uses is called its:

Capital structure

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Just a definition. Companies choose the mix between debt and equity they employ to purchase assets. We call this decision the capital structure of the company.

Assuming that the current ratio equals 1.0 and the acid-test ratio equals 0.80, how will the borrowing of cash by issuing a six-month note payable affect each ratio?

No change to the current ratio and increase the acid-test ratio.

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The easiest way to solve this is to make up numbers that fit the facts and then experiment. Let’s assume current assets = $100, quick assets = $80, and current liabilities = $100. So the current ratio is $100/$100 = 1.0 and the acid-test ratio is $80/$100 = 0.80. Let’s borrow $100 short-term. After this, current assets = $200, quick assets = $180, and current liabilities = $200. So the current ratio is $200/$200 = 1.0 (no change) and the acid-test ratio is $180/$200 = 0.90 (increased)

The balance sheet of VT reports total liabilities of $3,000,000. The debt to equity ratio is 1.5. What is VT's stockholders' equity?  

$2,000,000

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D/E ratio = Debt/Equity

1\.5 = $3,000,000/Equity

Equity = $3,000,000/1.5 = $2,000,000

Which of the following is *not* true regarding callable bonds?  

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a. This feature allows the borrower to repay the bonds before their scheduled maturity date.

b. This feature helps protect the borrower against future decreases in interest rates.

c. Callable bonds benefit the bond investor.

d. A bond can be both callable and convertible.

Callable bonds benefit the bond investor.

UVA retires a $25 million bond issue when the carrying value of the bonds is $24 million, but the market value of the bonds is $27 million. The entry to record the retirement will include:

 A debit of $3 million to a loss account.

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$24 million liability retired for $27 million = $3 million loss

Shannon Douglas has been offered the opportunity of investing $92,638.70 now. The investment will earn 8% per year and at the end of its life will return $200,000 to Sandy. How many years must Sandy wait to receive the $200,000?

10

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PV = FV x Table 2 Factor (n= ?, I = 8%)

$92,638.70 = $200,000 x Table 2 Factor

Table 2 Factor = $92,638.70/$200,000 = .463194

Look at Table 2 in I = 8% column and find factor

Factor is in in n = 10 row

If Barbara Falcon invests $12,672.32 now and she will receive $30,000 at the end of 10 years, what annual rate of interest will she be earning on her investment?

9%

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PV = FV x Table 2 Factor (n= 10, I = ?)

$12,672.32 = $30,000 x Table 2 Factor

Table 2 Factor = $12,672.32/$30,000 = .422411

Look at Table 2 in n = 10 row and find factor

Factor is in in 9% column

UNC, Inc. issued a five-year corporate bond with a face value of $300,000 and a 5% coupon  rate for $310,000. What effect would the bond issuance have on UNC’s fundamental accounting equation?  

Increase assets and liabilities.

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Both assets and liabilities increase by the amount borrowed--$310,000.

Carol wants to invest money in a 6% Certificate of Deposit (CD) that compounds semiannually. Carol would like the account to have a balance of $50,000 five years from now. How much must Carol deposit to accomplish her goal?

$37,205

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PV = $50,000 x Table 2 Factor (n= 10, I = 3%)

PV = $50,000 x .74409 = $37,205

At the end of each of the next four years, a new machine is expected to generate net cash flows of $8,000, $12,000, $10,000, and $15,000, respectively. What are the cash flows worth today if a 3% discount rate is appropriate?

$41,557

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Must calculate PV’s separately and then sum them up:

$8,000 x .97087 =              $7,767

$12,000 x .94260 =            11,311

$10,000 x .91514 =              9,151

$15,000 x .88849 =            __13,327__

                                         $41,557           

Marco deposited today $100,000 in a three-year, 12% Certificate of Deposit (CD) that compounds quarterly. What is the maturity value of the CD?

$142,576

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FV = $100,000 x Table 1 factor (n = 12, I = 3%)

FV = $100,000 x 1.42576 = $142,576

When a company collects sales tax from a customer, the event results in a(n) ________ in Cash and a(n) ________ in Sales Tax Payable:

 increase; increase

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The company receives cash and will have a liability for the sales tax payable

Fraction Travel has 10 employees each working 40 hours per week and earning $20 an hour. Federal income taxes are withheld at 15% and state income taxes at 6%. FICA taxes are 7.65% and unemployment taxes are 3.8% of the first $7,000 earned per employee. 

What is the actual payroll payment (or Salaries Payable) for the first week of January?

$5,708

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Gross pay is 10 x 40 x $20 = $8,000. Deductions will be for federal and state income taxes plus FICA taxes. Those add up to 15% + 6% + 7.65% = 28.65%. Net pay will be 71.35% of $8,000 = $5,708. Employees do not pay unemployment taxes

When bonds are issued at a premium**,** what happens to the carrying value and interest expense over the life of the bonds?  

Carrying value and interest expense decrease.

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Carrying value decreases to face value over time for bonds sold at a premium. As CV decreases, interest expense will decrease since it is calculated as CV x market rate x 6/12.

Stanley borrows $300,000 to be paid off in three years. The loan payments are semiannual with the first payment due in six months, and interest is at 6%. What is the amount of each payment?

$55,379

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PV = PMT x Table 4 Factor (n = 6, I = 3%)

$300,000 = PMT x 5.41719

PMT = $300,000/5.41719 = $55,379

NCSU, Inc. issues a bond with a stated (coupon) interest rate of 6%, face value of $100,000, and due in 15 years. Interest payments are made semi-annually. The market rate for this type of bond is 8%. What is the issue price of the bond?

 $82,708

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Coupon interest payment = $100,000 x .06 x 6/12 = $3,000

PV of annuity = $3,000 PMT x Table 4 factor (n = 30, I = 4%)(since compounded 2x/year)

PV of annuity = $3,000 x 17.29203 = $51,876

PV of face value = $100,000 FV x Table 2 factor (n = 30, I = 4%)

PV of face value = $100,000 x .30832 = $30,832

$51,876 + $30,832 = $82,708

Which of the following is *not* a characteristic of a liability?

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Select one:

a. It arises from present obligations to other entities.

b. It must be payable in cash.

c. It results from past transactions or events.

d. It represents a probable, future sacrifice of economic benefits.

It must be payable in cash

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Liabilities like deferred revenues are settled by performing the paid-for service or delivering a product that the customer already paid for.

Camp CB obtains a $100,000, 10%, six-year loan for a new camp bus on January 1, 2023. 

If the monthly payment is $1,852.58, by how much will the carrying value of the note payable decrease when the first payment is made on January 31, 2023?  

$1,019.25

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Interest due on first payment = $100,000 x .10 x 1/12 = $833.33

So principal reduction = $1,852.58 - $833.33 = $1,019.25

On November 1, 2020, NoleCo signed a $100,000, 6%, six-month note payable with the amount borrowed plus accrued interest due six months later on May 1, 2021. NoleCo records the appropriate adjusting entry for the note on December 31, 2020. In recording the payment of the note plus accrued interest at maturity on May 1, 2021, NoleCo would:

Debit Interest Expense, $2,000.

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Interest expense in 2021 will be $100,000 x .06 x 4/12 = $2,000

Volt Electronics sells equipment that includes a three-year warranty. Repairs under the warranty are performed by an independent service company under a contract with Volt. Based on prior experience, warranty costs are estimated to be $25 per item sold. Volt should recognize warranty expense:  

When the equipment is sold.

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We match the expense to the revenue recognized when the product is sold

At December 31, 20X1, Chen Corp. has a note payable balance of $100,000. This note was originally issued on December 31, 20X1, and will be paid back in installments over a five-year period.

$15,500 of the outstanding amount of $100,000 on December 31, 20X1, will be paid back in 20X2.

$15,500 should be classified in the current liability section, and $84,500 should be classified in the long-term liability section.

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Only the portion of the note's principal which will be paid back within one year of the balance sheet date should be classified as current.

Surry Inc., a calendar year-end company, pays its employees on the last day of the month for work performed during the month. Gross salaries for the month of April are $20,000. Surry withholds the following amounts from its employees’ paychecks for this pay period:

 

* federal income tax of $4,000
* state income tax of $2,500
* FICA tax of $1,600

\n Tax withholding are not remitted to the proper tax agencies until the 10th of the *following* month.

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**Question #1**: The entry to record the payment of salaries on April 30 should include a debit to the "Salaries Expense" account for how much?

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**Question #2**: The entry to record the payment of salaries on April 30 should include a credit to the "Cash" account for how much?

Answer #1: 20000

Answer #2: 11900

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The difference between the debit to the "Salaries Expense" account and the credit to the "Cash" account should be various credits to the tax withholdings payable accounts.

Which of the following is an example of a "quick asset" for purposes of applying the *acid-test* or *quick ratio*?

a. Land

b. Cash

c. Prepaid Rent

d. Accounts Receivable

e. Current Investments

f. Inventory

Cash, Current Investments, Accounts Receivable

**True or False:** Different types of current assets are equally liquid.

False

Some current assets aren't liquid at all (ex. supplies)

**Working capital** is measured as follows:

current assets minus current liabilities

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect.**

The company purchases supplies on account.

decrease

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect.**

The company receives cash from the issuance of common stock.

increase

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect**

The company receives cash from a customer on account.

no effect

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect.**

The company receives cash in advance of it being earned.

decrease

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect.**

The company declares and pays a cash dividend.

decrease

Evaluate how each of the following independent transactions will affect a company’s **current ratio** by matching the transaction description with either the word **increase**, **decrease**, or **no effect.**

The company makes a cash purchase of inventory.

no effect

An agreement that permits a company to borrow up to a prearranged limit is called:

a line of credit.

A company which has sufficient cash, or other current assets convertible into cash in a relatively short period of time,  in order to pay currently maturing debts is said to be ______

liquid.

Jordan Corp. and Miller Corp. have current ratios of 1.75 and 1.3, respectively.

All else being equal, which of the following statements is more likely to be **true**?

Jordan Corp. is more liquid than Miller Corp.

**True or False:** \n A liability should be classified on the balance sheet as a *"current liability"* when the company expects to decrease or satisfy the liability within one year or the operating cycle, whichever is longer.

True

What does a current ratio of 3.2 indicate?

It indicates that for every $1 of current liabilities, the company has $3.20 of current assets.

Which of the following are included as part of a company's "Payroll Tax Expense" account balance? (Check all that apply)

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a. Federal Income Tax

b. Health Insurance Premiums

c. State Unemployment Tax (SUTA)

d. Federal Unemployment Tax (FUTA)

e. Salaries Expense

f. FICA Tax (employer's share)

FICA Tax (employer's share)

Federal Unemployment Tax (FUTA) 

State Unemployment Tax (SUTA)

In 20X1, Stevens Corp. began a new product line of wearable technology that carries a 24-month warranty against manufacturer defects. Based on industry experience, Stevens expects warranty costs to be an amount equal to approximately 9% of total sales dollars.

During 20X1, new sales of this technology totaled $3,000,000. The costs incurred to satisfy warranty claims in 20X1 was $95,000. 

\n Required: Answer the following two questions.

 

**Question #1:** What should Stevens report as the "Warranty Expense" balance on its 20X1 income statement? \n \n **Question #2:** What should Stevens report as the "Warranty Liability" balance on its balance sheet at 12/31/X1?

Answer1. $270,000

Answer2. $175,000

Besides salaries or wages, additional employee benefits paid for by the employer are called:

Fringe Benefits

**True or False:**

Companies prefer that their working capital be a positive amount rather than a negative amount.

True

An agreement between a borrower and a lender that requires certain minimum financial measures to be met in order to prevent the lender from recalling the debt is called:

debt covenant

**recorded and disclosed**, **disclosed only**, and **neither recorded nor disclosed**.

The loss is possible and reasonably estimable.

disclosed only

**recorded and disclosed**, **disclosed only**, and **neither recorded nor disclosed**.

The loss is probable and not reasonably estimable.

disclosed only

**recorded and disclosed**, **disclosed only**, and **neither recorded nor disclosed**.

The loss is remote and reasonably estimable.

neither recorded nor disclosed

**recorded and disclosed**, **disclosed only**, and **neither recorded nor disclosed**.

The loss is probable and reasonably estimable.

 recorded and disclosed

**True or False:**

Time value of money concepts are essential to understand and apply when making many business decisions.

True 

On November 1, Simran plans to make a single (lump-sum) deposit into an investment account that earns 10% compounded annually.

She wants this investment to be worth $25,000 six (6) years later.

14112

**True or False:** \n At a given interest rate, if $2,000 is invested today for five years, the future value will be higher if interest is compounded quarterly rather than compounded annually.

True

Assume today is April 1, and you plan to invest $12,000 today in an account earning interest of 6% compounded semi-annually.

You would like to calculate the amount your investment will grow to three years from now. \n \n **Question:** What should be the correct "n" and "i" to use for factor table purposes to answer your question?

n=6, i=3

On December 1, Ryan made a single deposit of $30,000 into an investment account that earns interest of 6% compounded annually. \n \n **Question:**  Rounded to the nearest whole dollar, what will be the balance in their account at the end of ten (10) years?

53726

**True or False:**

Interest is the cost of borrowing money.

True 

**True or False:** \n Assume you wish to have a certain amount saved ten years from now, and you plan to make a one-time deposit today in an interest-bearing account earning interest of 10%.

As the compounding frequency of interest decreases, the amount you need to invest today in order to achieve your goal will increase.

True

Jenkins Corp. plans to make an investment today that promises to return $15,000 each year for ten (10) years beginning one year from today.

The investment account will earn 8% compounded annually.

At the end of ten years, the investment account balance will be zero.

**Question:**  Rounding to the nearest whole dollar, what should be the amount of Jenkins Corp.'s original investment?

100651

Beginning one year from today, Kaitlyn will begin investing $4,000 at the end of *each year* for ten (10) years at 9% interest compounded annually. \n \n **Question #1:** Rounded to the nearest whole dollar, how much will Kaitlyn have in her account at the end of year ten, immediately after her last payment?

Answer 1. 60772

Answer 2. 20772

**True or False:**

Compound interest is a method of calculating interest for which interest is computed on the initial investment amount as well as on any previous interest.

True 

When deciding on whether to finance its operations through the issuance of stock or through the issuance of bonds, companies often consider tax effects.

**True or False:** Both interest expense related to bonds as well as dividends paid are tax deductible.

False

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Assuming a term bond is issued at either a premium or a discount, the **carrying value** on the issuance date should be equal to the bond's

issue price

Assuming a term bond is issued at a discount, the **carrying value** over time should be 

increasing

Assuming a term bond is issued at a premium, the **interest expense** amount calculated every period using the effective interest method should be 

decreasing