Question

In this problem, you will apply the concept of present value to find at what amount a bond payable should be recorded. I encourage you to use Excel to find the answer.

Company ABC needs $1,000,000 for an investment but does not have enough cash to finance the opportunity. After considering its options, ABC decides to finance the investment using debt. Unfortunately, ABC is unable to find a single creditor willing to lend it the entire $1,000,000. Instead, it finds four creditors each willing to lend it $250,000. All four lenders agree that they ought to earn 8% annual interest on their investment. However, each lender wants its $250,000 returned at a different point in time. One lender demands repayment after five years, the next ten years, the third fifteen years, and the final twenty years. ABC agrees to make annual payments totaling $12,000 to each lender while the principal balance of $250,000 is outstanding (for example, through years one through five for the first lender).

What is the value of the liability that Company ABC must record for the above financing plan? Round your answer to the nearest dollar.

Answer 1

Total Liability to be booked: P.V of Principal Amount repayment + P.V of Interest repayments
$ 4,18,392 + $ 5,81,608 = $10,00,000

Workings as below:

Principal Repayment	Repayment after years	Discounting factor @ 8%	P.V.
2,50,000	5 years	0.680583197	1,70,146
2,50,000	10 years	0.463193488	1,15,798
2,50,000	15 years	0.315241705	78,810
2,50,000	20 years	0.214548207	53,637
P.V. of Principal amount repayable			4,18,392

Year	Loan Amount	Interest rate	Interest Amount	Discounting Factor	Lender 1	Lender 2	Lender 3	Lender 4
1	2,50,000	8%	20,000	0.925926	18,519	18,519	18,519	18,519
2	2,50,000	8%	20,000	0.857339	17,147	17,147	17,147	17,147
3	2,50,000	8%	20,000	0.793832	15,877	15,877	15,877	15,877
4	2,50,000	8%	20,000	0.73503	14,701	14,701	14,701	14,701
5	2,50,000	8%	20,000	0.680583	13,612	13,612	13,612	13,612
6	2,50,000	8%	20,000	0.63017	-	12,603	12,603	12,603
7	2,50,000	8%	20,000	0.58349	-	11,670	11,670	11,670
8	2,50,000	8%	20,000	0.540269	-	10,805	10,805	10,805
9	2,50,000	8%	20,000	0.500249	-	10,005	10,005	10,005
10	2,50,000	8%	20,000	0.463193	-	9,264	9,264	9,264
11	2,50,000	8%	20,000	0.428883	-	-	8,578	8,578
12	2,50,000	8%	20,000	0.397114	-	-	7,942	7,942
13	2,50,000	8%	20,000	0.367698	-	-	7,354	7,354
14	2,50,000	8%	20,000	0.340461	-	-	6,809	6,809
15	2,50,000	8%	20,000	0.315242	-	-	6,305	6,305
16	2,50,000	8%	20,000	0.29189	-	-	-	5,838
17	2,50,000	8%	20,000	0.270269	-	-	-	5,405
18	2,50,000	8%	20,000	0.250249	-	-	-	5,005
19	2,50,000	8%	20,000	0.231712	-	-	-	4,634
20	2,50,000	8%	20,000	0.214548	-	-	-	4,291
P.V Of Interest Amounts Repayable					79,854	1,34,202	1,71,190	1,96,363	5,81,608