FAR 11.02 - PV TABLES: TIME VALUE OF MONEY Flashcards
FAR 11.02 - PV TABLES: TIME VALUE OF MONEY
On January 2, 20X4, Nast Co. issued 8% bonds with a face amount of $1,000,000 that mature on January 2, 20X10. The bonds were issued to yield 12%, resulting in a discount of $150,000. Nast incorrectly used the straight-line method instead of the effective interest method to amortize the discount.
How is the carrying amount of the
bonds affected by the error?
At December 31, 20X4: Overstated
At January 2, 20X10: No effect
At December 31, 20X4: Understated
At January 2, 20X10: No effect
At December 31, 20X4: Overstated
At January 2, 20X10: Understated
At December 31, 20X4: Understated
At January 2, 20X10: Overstated
At December 31, 20X4: Overstated
At January 2, 20X10: No effect
The effective interest method of amortization, when applied to a bond discount, will result in smaller charges to
interest expense in the early periods and larger charges in the later periods, indicating lower amounts of amortization in the early periods and higher amounts later.
The straight-line method involves equal charges to interest expense each period, indicating equal amounts of amortization.
Amortization of bond discount under the straight-line method would result in higher amortization in the early periods and the bonds would be overstated.
Upon maturity at January 2, 2000, bond discount will have been fully amortized and the carrying value of the bonds under either the effective interest method or the straight-line method would be equal to the face value.
FAR 11.02 - PV TABLES: TIME VALUE OF MONEY
On January 1, 20X0, Celt Corp. issued 9% bonds in the face amount of $1,000,000, which mature on January 1, 20X10. The bonds were issued for $939,000 to yield 10%, resulting in a bond discount of $61,000. Celt uses the interest method of amortizing bond discount. Interest is payable annually on December 31. At December 31,
20X0, Celt’s unamortized bond discount should be…
$52,000
$51,000
$57,100
$51,610
$57,100
EXPLANATION:
Interest expense in 20X0 will be equal to 10% of $939,000 or $93,900.
The amount of interest paid, however, would be 9% of $1,000,000 or $90,000.
As a result, the discount would be amortized by $3,900 decreasing it to $57,100.
FAR 11.02 - PV TABLES: TIME VALUE OF MONEY
When purchasing a bond, the present value of the bond’s expected net future cash inflows discounted at the market rate of interest provides what information about the bond?
Par.
Price.
Interest.
Yield.
Price.
EXPLANATION
The market value of a bond consists of two parts, the present value of cash flows from interest, calculated at the effective rate, and the present value of the lump sum principal, calculated at the effective rate.
These two amounts are added together to get the market price or selling price of the bond.
FAR 11.02 - PV TABLES: TIME VALUE OF MONEY
On January 31, 20X2, Beau Corp. issued $300,000 maturity value, 12% bonds for $300,000 cash. The bonds are dated December 31, 20X1, and mature on December 31, 20X11. Interest will be paid semiannually on June 30 and December 31.
What amount of accrued interest payable should Beau report in its September 30, 20X2, balance sheet?
$18,000
$9,000
$27,000
$24,000
$9,000
EXPLANATION:
Interest payable is the amount that the company will have to pay in cash as a result of the time elapsed since the previous interest payment.
The amount will be equal to the face of the bond multiplied by the stated rate times the portion of a year since the most recent interest payment.
Since interest was paid on 6/30/X2, interest payable will be for the 3-month period
from 6/30 to 9/30. Interest payable = $300,000 x 12% x 3/12 = $9,000
FAR 11.02 - PV TABLES: TIME VALUE OF MONEY
On January 1 of the current year, Lean Co. made an investment of $10,000. The following is the present value of $1.00 discounted at a 10% interest rate:
Periods PV of $1.00discounted at 10%
1 .909
2 .826
3 .751
What amount of cash will Lean accumulate in two years?
12,000
$27,002
$12,107
$16,250
$12,107
The present value of an amount to be received in the future is equal to the future amount times the appropriate present
value factor or Present Value = Future Amount x Factor.
In this case, the present amount is given as $10,000 and the factor for two years is .826 resulting in $10,000 = Future Amount x .826 or Future Amount = $10,000/.826 = $12,107.
