Accounting - Notes

1. If the stated rate of a note is less than the prevailing market rate, the note is recorded at a discount.

True

2. The book value of a long-term liability years after acquisition equals the present value of remaining
cash flows using the original market rate at issuance date.

True

3. The only difference between the valuation of long-term debt at issuance and years after acquisition is
the number of cash flows for which to compute the present value.

True

4. On August 21, 20x3, Vann Corp.'s $500,000, one-year, noninterest-bearing note due July 31, 20x4 was
discounted at Homestead Bank at 10.8%. Vann uses the straight-line method of amortizing bond
discounts.
What amount should Vann report for notes payable in its December 31, 20x3 balance sheet?

A. $500,000
B. $477,500
C. $468,500
D. $446,000

C. $468,500

5. A company issued a short-term note payable to a bank with a stated 12 percent rate of interest . The
bank charged a .5% loan origination fee and remitted the balance to the company.
The effective interest rate paid by the company in this transaction would be

A. Equal to 12.5%.
B. More than 12.5%
C. Less than 12.5%.
D. Independent of 12.5%

B. More than 12.5%

6. On September 1, 20x3, Brak Co. borrowed on a $1,350,000 note payable from the Federal Bank.
The note bears interest at 12% and is payable in three equal annual principal payments of $450,000. On
this date, the bank's prime rate was 11%. The first annual payment for interest and principal was made
on September 1, 20x4.

At December 31, 20x4, what amount should Brak report as accrued interest payable?

A. $54,000
B. $49,500
C. $36,000
D. $33,000

C. $36,000
$36,000 ($900,000 x .12 x 1/3 year)

7. On December 30, year 1, Bart, Inc. purchased a machine from Fell Corp. in exchange for a non-interest
bearing note requiring eight payments of $20,000. The first payment was made on December 30, year 1,
and the others are due annually on December 30. At date of issuance, the prevailing rate of interest for
this type of note was 11%. Present value factors are as follows:
Period
The present value of an ordinary annuity of 1 at 11%
The present value of an annuity in advance of 1 at 11%
7 PVo 4.712 PVaa 5.231
8 PVo 5.146 PVaa 5.712

On Bart's December 31, year 1 balance sheet, the note payable to Fell was
A. $94,240
B. $102,920
C. $104,620
D. $114,240

A. $94,240
20000*5.712-20000

8. Seco Corp. was forced into bankruptcy and is in the process of liquidating assets and paying claims.
Unsecured claims will be paid at the rate of FORTY CENTS on the dollar.
Hale holds a $30,000 noninterest-bearing note receivable from Seco collateralized by an asset with a
book value of $35,000, and a liquidation value of $5,000.
The amount to be realized by Hale on this note is

A. $5,000
B. $12,000
C. $15,000
D. $17,000

30000-5000=25000
25000*40%=15000

9. On October 1, 20x5, Fleur Retailers signed a 4-month, 16% note payable to finance the purchase of
holiday merchandise. At that date, there was no direct method of pricing the merchandise, and the
note's market rate of interest was 11%.
Fleur recorded the purchase at the note's face amount. All of the merchandise was sold by December 1,
20x5. Fleur's 20x5 financial statements reported interest payable and interest expense on the note for
three months at 16%. All amounts due on the note were paid February 1, 20x6.

Fleur's 20x5 cost of goods sold for the holiday merchandise was

A. Overstated by the difference between the note's face amount and the note's October 1, 20x5 present
value.
B. This is overstated by the difference between the note's face amount and the note's present value at
October 1, 20x5 plus 11% interest for two months.
C. Understated by the difference between the note's face amount and the note's October 1, 20x5
present value.
D. Understated by the difference between the note's face amount and the note's October 1, 20x5
present value plus 16% interest for two months.

C. Understated by the difference between the note's face amount and the note's October 1, 20x5
present value.
The note (and merchandise) should have been recorded at its present value using the market interest
rate of 11%. This rate is lower than the stated rate of 16% implying that the present value of the note
(face value and interest payments at 16%) using 11% exceeds the face value of the note.
Thus, the merchandise was recorded at an amount which understated its market value. All the
merchandise was sold before the end of the year causing cost of goods sold to be similarly understated.