FEDERAL RESERVE NOTE 12 TH IS N L TEN FO LL D BLIC A D TE A L70744629F 12 L70744629F WASHINGTON, D.C.
12 SERIES 1985 12 H 293
Financial Accounting, Alternate 4e by Porter and Norton 1

McDonald's Corporation Listed in order 2002 Consolidated Balance Sheet (partial) (in millions) Liabilities and shareholders' equity Current liabilities: Notes payable Accounts payable Require Income taxes payment Other taxes within Accrued interest one year Accrued restructuring and restaurant closing costs Accrued payroll and other liabilities $ .3
635.8
16.3
191.8
199.4
328.5
774.7
Current maturities of long-term debt Total current liabilities 275.5
$2,422.3
2

Selected 2002 Liquidity Ratios
4 11 5 12 18 25 19 26 6 13 7 14 1 8 15 20 21 27 28 22 29 2 9 16 3 10 17 23 30 24 31
Georgia-Pacific J. C. Penney Johnson Controls McDonald's Pfizer Current Quick Ratio Ratio 1.16
2.00
1.03
0.71
1.34
0.64
0.76
0.82
0.49
1.09
3

Accounts Payable

Purchase of inventory, goods or services on credit

Discount payment terms offered to encourage early payment 2/10, n30
4

Promissory Note
I promise to pay $1,000 plus 12% annual interest on December 31, 2004.
Date: January 1, 2004
Lamanski Co.
S.J.Devona
Total repayment = $1,120 $1,000 + ($1,000 x 12%)
5

Discounted Promissory Note
In exchange for $880 received today, I promise to pay $1,000 on December 31, 2004. Date: January 1, 2004 Signed:_________
.
Effective interest rate on note = 13.6% ($120 interest / $880 proceeds)
6

Balance Sheet Presentation of Discounted Notes Discount transferred to interest expense over life of note Notes Payable Less: Discount on Notes Payable Net Liability 1/1/04 $ 1,000 120 $ 880 12/31/04 $ 1,000 - 0 $ 1,000
7

Current Maturities of Long-Term Debt Principal repayment on borrowings due within one year of balance sheet date
25 26 27 1 28 2 3 4 11 18 25 5 6 7 8 1 9 2 10 3 4 12 5 13 4 12 20 5 6 14 6 7 15 7 8 16 1 8 9 17 2 9 10 17 18 26 11 27 12 20 28 25 18 26 19 27 13 29 20 28 14 30 15 31 21 29 22 30 23 31 3 10 17 24 29 30 31
Due in upcoming year
8 8

Taxes Payable Record expense when incurred; not when paid 12/31/04 3/15/05 Record 2004 tax expense Taxes Paid
9

Current Liabilities on the Statement of Cash Flows Operating Activities Net income Increase in current liability Decrease in current liability Investing Activities Financing Activities Increase in notes payable Decrease in notes payable xxx + – + –
10

Contingent Liability

Obligation involving

existing condition Outcome not known

with certainty Dependent upon some

future event Actual amount is estimated
11 11

Contingent Liability

Accrue estimated amount if:
 
Liability is probable Amount can be reasonably estimated Record in year criteria are met: Balance Sheet Income Statement Assets = Liab. + O/E + Rev. – Exp.
Est. Liab. For Warranty 10,000 Warranty Exp. 10,000
12

Typical Contingent Liabilities

Warranties

Premium or coupon offers

Lawsuits
13 13

Recording Contingent Liabilities Example: Quickkey Computer sells a computer product for $5,000 with a one-year warranty. In 2004, 100 of these products were sold for a total sales revenue of $500,000. Analyzing past records, Quickkey estimates that repairs will average 2% of total sales.
14

Recording Contingent Liabilities Probable liability has been incurred?
YES Amount reasonably estimable?
YES Record in 2004: Estimated Liability for Warranty $100,000 Warranty Expense $100,000
15

Disclosing Contingent Liabilities IF not probable but reasonably possible OR amount not estimable Disclose in footnotes
16

Contingent Assets

Contingent gains and assets are not recorded but may be disclosed in footnotes

Conservatism principle applies
17 17

Time Value of Money

Prefer payment now vs. in future due to interest factor

Applicable to both personal and business decisions
18 18

Simple Interest I = P x R x T
19

Example of Simple Interest Given following data: principal amount = $ 3,000 annual interest rate = 10% term of note = 2 years Calculate interest on the note.
20 20

Example of Simple Interest Given following data: principal amount = $ 3,000 annual interest rate = 10% term of note = 2 years Calculate interest on the note.
P x R x T $ 3,000 x .10 x 2 = $ 600
21 21

Compound Interest Interest is calculated on principal plus previously accumulated interest Compounding can occur annually, semi-annually, quarterly, etc.
22 22

Example of Compound Interest Given following data: principal amount = $ 3,000 annual interest rate = 10% term of note = 2 years semiannual compounding of interest Calculate interest on note.
23

Compound Interest Periods Year 1 Year 2 5% + 5% semiannually 5% + 5% semiannually 10% annually 10% annually 4 periods @ 5% semi-annual interest
24

Example of Compound Interest Period 1 2 3 4 Beginning Principal $ 3,000 3,150 3,308 3,473 Interest at 5% $ 150 158 165 174 Ending Balance $ 3,150 3,308 3,473 3,647
25

Comparing Interest Methods Simple annual interest: $3,000 x .10 x 2 = $ 600 Semiannual compounding: 1 $ 150 2 3 4 Total 158 165 174 $ 647
26

Compound Interest Computations Present value of a single amount Future value of a single amount Present value of an annuity Future value of an annuity
27

Future Value of Single Amount Known amount of single payment or deposit Future Value + Interest =
28

Future Value of a Single Amount Example If you invest $10,000 today @ 10% compound interest, what will it be worth 3 years from now?
invest $10,000 Future Value?
Yr. 1 Yr. 2 Yr. 3 + Interest @ 10% per year
29

Future Value of a Single Amount Example Using Formulas FV = p (1 + i) n = $10,000 (1.10) 3 = $13,310
30

Future Value of a Single Amount Example Using Tables Yr. 1 Yr. 2 Yr. 3 $10,000 PV FV??
FV = Present Value x FV Factor = $ 10,000 X (3 periods @ 10%)
31

Future Value of $1 (n) 1 2 4
5 6 7 8 2% 4% 6% 8% 10% 1.020 1.040 1.060
1.080 1.10
1.040 1.082 1.124 1.166 1.210
1.061 1.125 1.191
1.082 1.170 1.262
1.260
1.331
1.360 1.464
1.104 1.217 1.338
1.126 1.265 1.419
1.149 1.316 1.504
1.172 1.369 1.594
1.470 1.611
1.587 1.772
1.714 1.949
1.851 2.144
32

Future Value of a Single Amount Example Using Tables Yr. 1 Yr. 2 Yr. 3 $10,000 PV FV = $13,310 FV = Present Value x FV Factor = $ 10,000 X (3 periods @ 10%) = $ 10,000 X 1.331
= $ 13,310
33

Present Value of Single Amount Present Value Known amount of single payment in future Discount
34 34

Present Value of a Single Amount Example If you will receive $10,000 in three years, what is it worth today (assuming you could invest at 10% compound interest)?
Present Value?
$ 10,000 Yr. 1 Yr. 2 Yr. 3 Discount @ 10%
35

Present Value of a Single Amount Example Using Formulas PV = payment x (1 + i) -n = $10,000 x (1.10) -3 = $7,513
36

Present Value of a Single Amount Example Using Tables Yr. 1 Yr. 2 Yr. 3 PV ??
FV=$10,000 PV = Future Value x PV Factor = $ 10,000 X (3 periods @ 10%)
37

(n) 2% 4% 6% 8% 10% 1 2 3 4 5 .9804 .9615 .9434 .9259 .9090
.9612 .9246 .8900 .8573 .8265
.9423 .8890 .8396 .7938
.7513
.9238 .8548 .7921 .7350 .6830
.9057 .8219 .7473 .6806 .6209
38

Present Value of a Single Amount Example Using Tables Yr. 1 Yr. 2 Yr. 3 PV = $7,513 FV=$10,000 PV = Future Value x PV Factor = $ 10,000 X (3 periods @ 10%) = $ 10,000 X .7513
= $ 7,513
39

$0 Future Value of an Annuity 1 2 Periods 3 4 $3,000 $3,000 +Interest $3,000 $3,000 Future Value?
40

Future Value of Annuity Example If we invest $3,000 each year for four years at 10% compound interest, what will it be worth 4 years from now?
$0 Yr. 1 Yr. 2 $3,000 $3,000 Yr. 3 Yr. 4 $3,000 $3,000 FV ??
41

Future Value of Annuity Example Yr. 1 Yr. 2 Yr. 3 Yr. 4 $0 $3,000 $3,000 $3,000 $3,000 FV ??
FV = Payment x FV Factor = $ 3,000 x (4 periods @ 10%)
42

Future Value of Annuity of $1 (n) 2% 4% 6% 8%
12% 1 1.000 1.000 1.000 1.000 1.000
1.000
2 2.020 2.040 2.060 2.080 2.100
2.120
3 3.060 3.122 3.184 3.246 3.310 3.374
4 5 4.122 4.246 4.375 4.506
4.641 4.779
5.204 5.416 5.637 5.867 6.105
6.353
43

Future Value of Annuity Example $0 Yr. 1 Yr. 2 $3,000 $3,000 Yr. 3 Yr. 4 $3,000 $3,000 FV = $13,923 FV = Payment x FV Factor = $ 3,000 x (4 periods @ 10%) = $ 3,000 x 4.641
= $ 13,923
44

Present Value of an Annuity 1 2 Periods 3 4 $0 Present Value ?
$500 $500 Discount $500 $500
12 12 FEDERAL RESERVE NOTE THE UNITED STATES OF AMERICA FEDERAL RESERVE NOTE TH IS N L TEN FO LL D BLIC A D THE UNITED STATES OF AMERICA 12 12 A TH IS N L TEN FO LL D BLIC A D TE FEDERAL RESERVE NOTE TH IS N L TEN FO LL D BLIC A D TE 12 A 12 A TH IS N L TEN FO LL D BLIC A D TE WASHINGTON, D.C.
SERIES 1985 12 WASHINGTON, D.C.
L70744629F SERIES 1985 WASHINGTON, D.C.
12 L70744629F WASHINGTON, D.C.
12 12 ONE DOLLAR L70744629F SERIES 1985 12 12 SERIES 1985 12 H 293 45

Present Value of an Annuity Example What is the value today of receiving $4,000 at the end of the next 4 years, assuming you can invest at 10% compound annual interest?
$0 Yr. 1 $4,000 Yr. 2 $4,000 Yr. 3 Yr. 4 $4,000 $4,000 PV ??
46

Present Value of an Annuity Example $0 PV ??
Yr. 1 Yr. 2 Yr. 3 $4,000 $4,000 Yr. 4 $4,000 $4,000 PV = Payment x PV Factor = $ 500 x (4 periods @ 10%)
47

(n) 2% 4% 6% 8% 10% 1 2 3 4 5 0.980 0.962 0.943 0.926 0.909
1.942 1.886 1.833 1.783 1.735 2.884 2.775 2.673 2.577 2.487
3.808 3.630 3.465 3.312 3.170
4.713 4.452 4.212 3.992 3.791
48

Present Value of an Annuity Example Yr. 1 $0 $4,000 P.V. = $12,680 Yr. 2 Yr. 3 Yr. 4 $4,000 $4,000 $4,000 PV = Payment x PV Factor = $ 4,000 x (4 periods @ 10%) = $ 4,000 x 3.170 = $ 12,680
49

Solving for Unknowns Assume that you have just purchased a new car for $14,420. Your bank has offered you a 5-year loan, with annual payments of $4,000 due at the end of each year. What is the interest rate being charged on the loan?
50

Solving for Unknowns Yr. 1 Yr. 2 Yr. 3 Yr. 4 Yr. 5 discount discount discount discount discount PV = $14,420 PV = Payment x PV factor rearrange equation to solve for unknown PV factor = PV / Payment
51

Solving for Unknowns Yr. 1 Yr. 2 Yr. 3 Yr. 4 Yr. 5 discount discount discount discount discount PV = $14,420 PV factor = PV / Payment = $14,420 / $4,000 = 3.605
52

Present Value of an Annuity Table (n) 1 2 3 4 5 10% 0.909
1.736
2.487
3.170
3.791
11% 12% 0.901
0.893
1.713 1.690
2.444
3.102
3.696
2.402
3.037
3.605
15% 0.870
1.626 2.283
2.855
3.352
PV factor of 3.605 equates to an interest rate of 12%.
53 53

Appendix A Accounting Tools: Payroll Accounting
54

Calculation of Gross Wages

Hourly

Multiply the number of hours worked times employee’s hourly rate

Salaried

Paid at a flat rate per week, month, or year, regardless of hours
55

Calculation of Net Pay Gross wages - Income tax (federal, state, local) - FICA - Voluntary deductions (includes health insurance, retirement contributions, savings plans, charitable contributions, union dues) = Net pay
56

Employer Payroll Taxes

Not deducted from paycheck – employer pays taxes per employee, in addition to salary

FICA – employer’s share

Unemployment tax
57

Payroll Accounting Example: Gross wages for Kori Company for July are $100,000. The following amounts have been withheld from employees’ paychecks: Income Tax FICA United Way contributions Union dues $20,000 7,650 5,000 3,000 Kori Company’s unemployment tax rate is 6%. Show the effects of these transactions on the accounting equation.
58

Payroll Accounting Record July salary and deductions: Assets = Liab. + O/E + Rev. – Exp.
Salary Pay. 64,350 Inc. Tax Pay. 20,000 FICA Pay. 7,650 United Way Pay. 5,000 Union Dues Pay. 3,000 Salary Exp. (100,000)
59

Payroll Accounting Record payment of employee salaries: Assets = Liab. + O/E + Rev. – Exp.
Cash (64,350) Salary Pay. (64,350) Record employer’s payroll taxes: Assets = Liab. + O/E + Rev. – Exp.
FICA Pay. 7,650 Unemploy.
Tax Pay. 6,000 Payroll Tax Exp. (13,650)
60

Compensated Absences

Employee absences for which the employee will be paid

Vacation, illness, holidays

Accrued as a liability if

The services have been rendered

The rights (days) accumulate

Payment is probable and can be reasonably estimated
61

Appendix B Accounting Tools: Using Excel for Problems Involving Interest Calculations
62

Using Excel Functions

Many functions built into Excel, including PV and FV calculations

Click on Paste or Insert button for list
63

FV Function in Excel Example: Find the FV of a 10% note payable for $2,000, due in 2 years and compounded annually Answer: $2,420
64

PV Function in Excel Example: How much should you invest now at 10% (compounded annually) in order to have $2,000 in 2 years? Answer: $1,653 (rounded)
65

End of Chapter 9
FEDERAL RESERVE NOTE THIS NOTE IS LEGAL TENDER FOR ALL DEB TS, PUB LIC AND PR IVATE 12 A L70744629F 12 L70744629F WASHINGTON, D.C.
12 SER IES 1985 12 H 293 66