Study Unit 9 Flashcards
Cost of Not taking a discount
(Discount % / 100%-Discount %) * (days in year / Total pmt pd- discount pd)
Term loan vs line of credit
term- definite time to repay
line of credit- revolving, no time
Effective interest rate
ratio of amnt company must pay to amnt company can use
Effective interest rate = Interest expense/usable funds
usable funds are the net proceeds (i.e. principle-charges)
Discount loan
interest and finance charges are paid at the beginning of loan term
Total borrowings= amnt needed/ (1.0-stated rate)
effective rate rate is higher than nominal rate
ER=net interest expense (annualized) / usable funds
net interest expense = total borrowings
ER=stated rate/ (1-stated rate)
loans with compensating balance
reduce risk as banks require borrowers to maintain compensating balance
Total borrowing= amnt needed/(1-compensating bal %)
ER=stated rate/(1-comp bal %)
Capital budgeting
planning and controlling investments for LT projects
LT aspect causes most challenges for accountants
affect multiple accounting pds and constrain org’s financial planning for LT; decisions tend to be relatively inflexible
Capital budgeting applications include
buying eqt building facilities acq a business developing a product or product line expansion into new mkts replacing of eqt
Relevant cash flows
cost of new eqt
annual after tax cash savings or inflows
proceeds from eqt disposal (salvage value)
depreciation tax shield (reduces TI and outflow for tax expense)
Accounting RoR
assessing potential capital projects, ignores time value of $
RoR= Annual increase in GAAP NI/Req investment
= (Annual cash inflow-depreciation)/initial investment
s/h and analyst like Ror b/c Gaap #s available
Affects Accounting RoR
choosing the expenditures to capitalize vs expense
NPV
diff bet the PV of the net cash savings/inflows expected over the life of project and required dollar investment
- diff > 0; do the project
- diff
Adjust for inflation
compensate for loss of purchasing power, hurdle rates adjust upward
Adjust for risk
risky project assigned higher hurdle rates to ensure those whose potential returns are commensurate w/ risk are acceptable
Single company wide hurdle isn’t good when
large, complex firms have risk wrt capital costs,
-mgrs of high risk division to over invest in new projects and those of low risk divisions will be underinvested
IRR
d/c rate when investment’s NPV = 0
rate = PV of expected cash inflows w/ PV of expected cash outflows
IRR>Hurdle rate: accept project = positive NPV
IRR