Chapter 2

Notes Payable

PROBLEM 1: TRUE OR FALSE

1. FALSE 6. FALSE
2. TRUE 7. TRUE
3. FALSE 8. TRUE
4. FALSE 9. FALSE
5. TRUE 10. TRUE

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PROBLEM 3: EXERCISES
1. Solution:

Cash flows 2,000,000

PV of 1 @16%, n=3 0.64066
Present value - 1/1/x1 1,281,320

Date Interest expense Discount Present value

1/1/x1 718,680 1,281,320
12/31/x1 205,011 513,669 1,486,331
12/31/x2 237,813 275,856 1,724,144
12/31/x3 275,863 (7) 2,000,007

1/1/x1
Equipment 1,281,320
Discount on note payable 718,680
Note payable 2,000,000

12/31/x1
Interest expense 205,011
Discount on note payable 205,011

12/31/x2
Interest expense 237,813
Discount on note payable 237,813

12/31/x3
Interest expense 275,863
Discount on note payable 275,863

Note payable 2,000,000

Cash 2,000,000

2. Solution:
Cash flows 3,000,000
PV of 1 @17%, n=3 0.53365
Present value - 1/1/x1 1,600,950

Date Interest expense Discount Present value

1/1/x1 1,399,050 1,600,950
12/31/x1 272,162 1,126,889 1,873,112
12/31/x2 318,429 808,460 2,191,540
12/31/x3 372,562 435,898 2,564,102
12/31/x4 435,897 0 3,000,000

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1/1/x1
Equipment 1,600,950
Discount on note payable 1,399,050
Note payable 3,000,000

12/31/x1
Interest expense 272,162
Discount on note payable 272,162

12/31/x2
Interest expense 318,429
Discount on note payable 318,429

12/31/x3
Interest expense 372,562
Discount on note payable 372,562

12/31/x4
Interest expense 435,897
Discount on note payable 435,897

Note payable 3,000,000

Cash 3,000,000

3. Solutions:

Requirement (a):

Cash flows 1,000,000

PV ord. annuity @18%, n=3 2.17427
Present value - 1/1/x1 2,174,270

Date Payments Interest expense Amortization Present value

1/1/x1 2,174,270
12/31/x1 1,000,000 391,369 608,631 1,565,639
12/31/x2 1,000,000 281,815 718,185 847,454
12/31/x3 1,000,000 152,542 847,458 (5)

Current portion, 12/31/x1: 923,362

Noncurrent portion, 12/31/x1: 1,052,627

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Requirement (b):

1/1/x1
Equipment 2,174,270
Discount on note payable 825,730
Note payable 3,000,000

12/31/x1
Note payable 1,000,000
Interest expense 391,369
Discount on note payable 391,369
Cash 1,000,000

12/31/x2
Note payable 1,000,000
Interest expense 281,815
Discount on note payable 281,815
Cash 1,000,000

12/31/x3
Note payable 1,000,000
Interest expense 152,542
Discount on note payable 152,542
Cash 1,000,000

4. Solution:

Requirement (a):

Cash flows 1,200,000

PV ord. annuity @14%, n=4 2.91371
Present value - 1/1/x1 3,496,452

Date Payments Interest expense Amortization Present value

1/1/x1 3,496,452
12/31/x1 1,200,000 489,503 710,497 2,785,955
12/31/x2 1,200,000 390,034 809,966 1,975,989
12/31/x3 1,200,000 276,638 923,362 1,052,627
12/31/x4 1,200,000 147,368 1,052,632 (5)

Current portion, 12/31/x2: 923,362

Noncurrent portion, 12/31/x2: 1,052,627

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Requirement (b):

1/1/x1
Equipment 3,496,452
Discount on note payable 1,303,548
Note payable 4,800,000

12/31/x1
Note payable 1,200,000
Interest expense 489,503
Discount on note payable 489,503
Cash 1,200,000

12/31/x2
Note payable 1,200,000
Interest expense 390,034
Discount on note payable 390,034
Cash 1,200,000

12/31/x3
Note payable 1,200,000
Interest expense 276,638
Discount on note payable 276,638
Cash 1,200,000

12/31/x4
Note payable 1,200,000
Interest expense 147,368
Discount on note payable 147,368
Cash 1,200,000

5. Solutions:

Note payable (a):

Date Interest expense Discount Present value
1/1/x1 2,141,234 2,858,766
12/31/x1 428,815 1,712,419 3,287,581
12/31/x2 493,137 1,219,282 3,780,718
12/31/x3 567,108 652,174 4,347,826
12/31/x4 652,174 (0) 5,000,000

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Note payable (b):
Date Payments Interest expense Amortization Present value
1/1/x1 2,854,978
12/31/x1 1,000,000 428,247 571,753 2,283,225
12/31/x2 1,000,000 342,484 657,516 1,625,709
12/31/x3 1,000,000 243,856 756,144 869,565
12/31/x4 1,000,000 130,435 869,565 (0)

Note payable (c):

Date Payments Interest expense Amortization Present value
1/1/x1 6,167,965
1/1/x1 1,600,000 - 1,600,000 4,567,965
1/1/x2 1,600,000 685,195 914,805 3,653,160
1/1/x3 1,600,000 547,974 1,052,026 2,601,134
1/1/x4 1,600,000 390,170 1,209,830 1,391,304
1/1/x5 1,600,000 208,696 1,391,304 (0)

6. Solutions:

Requirement (a):
Loan payable 5,000,000
Transaction costs (5M x 8.75%) (437,000)
Carrying amount - 1/1/x1 4,563,000

Requirement (b):
Trial and error:

Working formula:
 (Principal: 5,000,000 x PV of 1 @ x%, n=4) + (Interest: 550,000 x PV
ordinary annuity @ x%, n=4) = 4,563,000

First trial: @14%

 (Principal: 5,000,000 x PV of 1 @ 16%, n=4) + (Interest: 550,000 x PV

ordinary annuity @ 16%, n=4) = 4,563,000
 (5,000,000 x 0.59208) + (550,000 x 2.91371) = 4,563,000
 (2,960,400 + 1,602,541) = 4,563,000
 4,562,941 = 4,563,000

If the difference of ₱60is deemed immaterial then 14% is regarded as the

effectiveinterest rate.

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Requirement (c):
Date Payments Interest expense Amortization Present value
1/1/x1 4,563,000
12/31/x1 550,000 638,820 88,820 4,651,820
12/31/x2 550,000 651,255 101,255 4,753,075
12/31/x3 550,000 665,430 115,430 4,868,505
12/31/x4 550,000 681,591 131,591 5,000,096

7. Solutions:

Requirement (a):
The total cash price of the machinery is ₱85,933.75. The company paid
₱10,000 down, leaving a balance of ₱75,933.75 to finance. This amount
represents the present value of four payments of unknown amounts
discounted at 12%. The problem can be solved by dividing the amount to be
financed, ₱75,933.75, by thefactor for the present value of an ordinary
annuity for 4 years at 12%:

₱75,933.75 ÷ 3.03735 = ₱25,000

Requirement (b):
The journal entry to record the acquisition of the machinery at December 31,
2001, would be:

Machinery ................................. 85,933.75

Discount on Notes Payable ................. 24,066.25
Cash .................................... 10,000
Notes Payable ........................... 100,000

Requirement (c):
The journal entry at December 31, 2002, would be:

Notes Payable ............................. 25,000.00

Interest Expense .......................... 9,112.05
Cash .................................... 25,000.00
Discount on Notes Payable ............... 9,112.05