Long-term Liabilities Flashcards
What is time value of money (TVM)?
it is the use of money over a period of time
the present value concepts are divisible into 6 separate types:
present value of $1
future value of $1
present value of an ordinary annuity
future value of an ordinary annuity
present value of an annuity due
future value of an annuity due
What are annuities?
they are transactions that result in identical periodic payments or receipts at regular intervals; ordinary annuity payments are made at the end of each period while annuity due payments occur at the beginning of each period; the timing of payments is the only difference between an ordinary annuity and an annuity due (applies to both present value and future value annuities)
if interest compounds on an other-than-accrual basis, the number of periods and the interest rate must be adjusted; for example, if the annual interest rate is 12% and interest compounds quarterly over 10 years, then the periodic interest rate is 3% and the total number of compounding periods is 40
the present value of $1 is the amount that must be invested now at a specific interest rate so that $1 can be paid or received in the future
present value = future value * present value of $1 for appropriate n and r
OR
present value = future value / (1 + r)^n
the future value of $1 is the amount that would accumulate at a future point in time if $1 were invested now
future value = present value * future value of $1 for appropriate n and r
OR
future value = present value * (1 + r)^n
the present value of an ordinary annuity is the current worth of a series of identical periodic payments to be made in the future
present value of ordinary annuity = annuity payment * present value of ordinary annuity for $1 for appropriate n and r
the present value of an annuity due is the current worth of a series of identical periodic payments to be made in the future (only difference is that they are made at the beginning of the period)
present value of an annuity due = present value of an ordinary annuity * (1 + r)
the future value of an ordinary annuity is the value at a future date of a series of periodic payments
future value of an ordinary annuity = periodic payment * future value of an ordinary annuity of $1 for appropriate n and r
the future value of an annuity due is the value at a future date of a series of periodic payments (only difference is that they are made at the beginning of the period)
future value of an annuity due = future value of an ordinary annuity * (1 + r)
What are long-term liabilities?
they are probable sacrifices of economic benefits associated with present obligations that are not payable within the current operating cycle or reporting year, whichever is greater
certain financial instruments have characteristics of both liabilities and equity; the following financial instruments must be classified as liabilities:
financial instruments in the form of shares that are mandatorily redeemable (like mandatorily redeemable preferred stock) and represent an unconditional obligation to the issuer to redeem the instrument by transferring assets at a specified date or upon a future event, unless the redemption is required upon the liquidation or termination of the issuer
financial instruments, other than outstanding shares, that represent an obligation to repurchase the issuer’s equity shares by transferring assets
financial instruments that represent an obligation to issue a variable number of shares
What are notes payables?
they are contractual rights to pay money at a fixed or determinable rate that must be recorded at present value at the date of issuance; if a note is non-interest bearing or the interest rate is unreasonable (usually below market), the value of the note must be determined by imputing the market rate of the note and by using the effective interest method
many of these rules apply when notes are exchanged for goods and services and the interest rate varies from the prevailing interest rates; notes must be recorded at present value so that expense for the period is not distorted
any discount resulting from imputing interest on a note payable must be amortized over the life of the note payable using the effective interest method; the effective interest method is a method under which each payment on a note (or other loan) is allocated to interest and principal as though the note had a constant effective stated rate (or adequate rate) of interest
the discount is inseparable from the related note payable and is added to the note payable to determine the carrying value to be reported on the balance sheet; a full description of the payable, the effective interest rate, and the face amount of the note should be disclosed in the financial statements or notes thereto
What are debt covenants?
creditors use debt covenants in lending agreements to protect their interest by limiting or prohibiting the actions of debtors that might negatively affect the positions of the creditors
when debt covenants are violated, the debtor is in technical default and the creditor can demand repayment; most of the time concessions are negotiated and real default, as opposed to technical default, is avoided; concessions can result in the violated covenant(s) being waived temporarily or permanently; concessions can also result in a change in the interest rate or other terms of the debt
