Lecture Intermediate accounting (IFRS 2nd edition): Chapter 6 - Kieso, Weygandt, Warfield

6-1


PREVIEW OF CHAPTER

6-2

6

Intermediate Accounting
IFRS 2nd Edition
Kieso, Weygandt, and Warfield 


6

Accounting and the 
Time Value of Money 

LEARNING OBJECTIVES
After studying this chapter, you should be able to:

1. Identify accounting topics where the
time value of money is relevant.
2. Distinguish between simple and compound
interest.

7.

3. Use appropriate compound interest tables.

8.

4. Identify variables fundamental to solving
interest problems.
5. Solve future and present value of 1 problems.

6-3

6.

9.

Solve future value of ordinary and annuity 
due problems.
Solve present value of ordinary and annuity 
due problems.
Solve present value problems related to 
deferred annuities and bonds.
Apply expected cash flows to present value 
measurement.


BASIC TIME VALUE CONCEPTS
Time Value of Money
uA relationship between time and money.
uA dollar received today is worth more than a dollar 

promised at some time in the future. 
When deciding among investment or 
borrowing alternatives, it is essential to be 

able to compare today’s dollar and 
tomorrow’s dollar on the same footing—to 
“compare apples to apples.”

6-4

LO 1


BASIC TIME VALUE CONCEPTS
Applications of Time Value Concepts:

1.Notes 

5.Shared­Based Compensation

2.Leases 

6.Business Combinations

3.Pensions and Other 
Postretirement 
Benefits 

7.Disclosures
8.Environmental Liabilities

4.Long­Term Assets

6-5

LO 1


BASIC TIME VALUE CONCEPTS
The Nature of Interest
uPayment for the use of money. 
uExcess cash received or repaid over the amount lent or 

 borrowed (principal).

6-6

LO 1


6

Accounting and the 
Time Value of Money 

LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Identify accounting topics where the time
value of money is relevant.

2. Distinguish between simple and
compound interest.
3. Use appropriate compound interest tables.
4. Identify variables fundamental to solving

interest problems.
5. Solve future and present value of 1 problems.

6-7

6.

7.

8.

9.

Solve future value of ordinary and annuity 
due problems.
Solve present value of ordinary and annuity 
due problems.
Solve present value problems related to 
deferred annuities and bonds.
Apply expected cash flows to present value 
measurement.


BASIC TIME VALUE CONCEPTS
Simple Interest
uInterest computed on the principal only. 

Illustration:  Barstow Electric Inc. borrows $10,000 for 3 years 
at a simple interest rate of 8% per year.  Compute the total 
interest to be paid for 1 year.

Annual 
Interest

Interest = p x i x n
= $10,000  x  .08  x  1
= $800

6-8

LO 2


BASIC TIME VALUE CONCEPTS
Simple Interest
uInterest computed on the principal only. 

Illustration:  Barstow Electric Inc. borrows $10,000 for 3 years 
at a simple interest rate of 8% per year.  Compute the total 
interest to be paid for 3 years.

Total 
Interest

Interest = p x i x n
= $10,000  x  .08  x  3
= $2,400

6-9

LO 2


BASIC TIME VALUE CONCEPTS
Simple Interest
uInterest computed on the principal only. 

Illustration:  If Barstow borrows $10,000 for 3 months at a 8% 
per year, the interest is computed as follows.

Partial 
Year

Interest = p x i x n
= $10,000  x  .08  x  3/12
= $200

6-10

LO 2


6

Accounting and the 
Time Value of Money 

LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Identify accounting topics where the time

value of money is relevant.
2. Distinguish between simple and compound
interest.

3. Use appropriate compound interest
tables.
4. Identify variables fundamental to solving
interest problems.
5. Solve future and present value of 1 problems.
6-11

6.

7.

8.

9.

Solve future value of ordinary and annuity 
due problems.
Solve present value of ordinary and annuity 
due problems.
Solve present value problems related to 
deferred annuities and bonds.
Apply expected cash flows to present value 
measurement.


BASIC TIME VALUE CONCEPTS

Compound Interest
uComputes interest on
►principal and
►interest earned that has not been paid or withdrawn.

uTypical interest computation applied in business 

situations.

6-12

LO 3


Compound Interest
Illustration:  Tomalczyk Company deposits $10,000 in the Last National 
Bank, where it will earn simple interest of 9% per year.  It deposits another 
$10,000 in the First State Bank, where it will earn compound interest of 9% 
per year compounded annually. In both cases, Tomalczyk will not 
withdraw any interest until 3 years from the date of deposit.
ILLUSTRATION 6­1                     
 Simple vs. Compound Interest

Year 1 $10,000.00 x 9%

$ 900.00

$ 10,900.00

Year 2 $10,900.00 x 9%

$ 981.00

$ 11,881.00

Year 3 $11,881.00 x 9%

6-13

$1,069.29 $ 12,950.29

LO 3


A PRETTY GOOD START
WHAT’S YOUR PRINCIPLE

The continuing debate by 
governments as to how to provide
retirement benefits to their citizens 
serves as a great context to illustrate 
the power of compounding. One 
proposed idea is for the government to 
give $1,000 to every citizen at birth. 
This gift would be deposited in an 
account that would earn interest tax­
free until the citizen retires. Assuming 
the account earns a 5% annual return 
until retirement at age 65, the $1,000 
would grow to $23,839. With monthly 

compounding, the $1,000 deposited at 
birth would grow to $25,617.

6-14

Why start so early? If the government 
waited until age 18 to deposit the 
money, it would grow to only $9,906 
with annual compounding. That is, 
reducing the time invested by a third 
results in more than a 50% reduction 
in retirement money. This example 
illustrates the importance of starting
early when the power of compounding 
is involved.

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables
Table 6­1 ­ Future Value of 1
Table 6­2 ­ Present Value of 1
Table 6­3 ­ Future Value of an Ordinary Annuity of 1
Table 6­4 ­ Present Value of an Ordinary Annuity of 1
Table 6­5 ­ Present Value of an Annuity Due of 1
Number of Periods = number of years x the number of compounding 
periods per year.
Compounding Period Interest Rate = annual rate divided by the 
number of compounding periods per year.

6-15

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables
ILLUSTRATION 6­2
Excerpt from Table 6­1

FUTURE VALUE OF 1 AT COMPOUND INTEREST
(Excerpt From Table 6­1)

How much principal plus interest a dollar accumulates to at the end of 
each of five periods, at three different rates of compound interest.
6-16

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables

Formula to determine the future value factor (FVF) for 1: 

Where:
FVFn,i  = future value factor for n periods at i interest
n 
i 

6-17

= number of periods
= rate of interest for a single period

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables

To illustrate the use of interest tables to calculate compound 
amounts, Illustration 6­3 shows the future value to which 1 
accumulates assuming an interest rate of 9%.

ILLUSTRATION 6­3
Accumulation of 
Compound Amounts

6-18

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables

Number of years X number of compounding periods per year =
Number of periods
ILLUSTRATION 6­4

Frequency of 
Compounding

6-19

LO 3


BASIC TIME VALUE CONCEPTS
Compound Interest Tables

A 9% annual interest compounded daily provides a 9.42% yield.
Effective Yield for a $10,000 investment.

6-20

ILLUSTRATION 6­5
Comparison of Different 
Compounding Periods

LO 3


6

Accounting and the 
Time Value of Money 

LEARNING OBJECTIVES
After studying this chapter, you should be able to:

1. Identify accounting topics where the time
value of money is relevant.
2. Distinguish between simple and compound
interest.
3. Use appropriate compound interest tables.

4. Identify variables fundamental to
solving interest problems.
5. Solve future and present value of 1 problems.

6-21

6.

7.

8.

9.

Solve future value of ordinary and annuity 
due problems.
Solve present value of ordinary and annuity 
due problems.
Solve present value problems related to 
deferred annuities and bonds.
Apply expected cash flows to present value 
measurement.

BASIC TIME VALUE CONCEPTS
Fundamental Variables
uRate of Interest

uFuture Value

uNumber of Time Periods

uPresent Value
ILLUSTRATION 6­6
Basic Time Diagram

6-22

LO 4


6

Accounting and the 
Time Value of Money 

LEARNING OBJECTIVES
After studying this chapter, you should be able to:
1. Identify accounting topics where the time
value of money is relevant.
2. Distinguish between simple and compound
interest.

7.

3. Use appropriate compound interest tables.

8.

4. Identify variables fundamental to solving
interest problems.

9.

5. Solve future and present value of 1
problems.
6-23

6.

Solve future value of ordinary and annuity 
due problems.
Solve present value of ordinary and annuity 
due problems.
Solve present value problems related to 
deferred annuities and bonds.
Apply expected cash flows to present value 
measurement.


SINGLE­SUM PROBLEMS
Two Categories
Unknown Present Value

Unknown Future Value

ILLUSTRATION 6­6
Basic Time Diagram

6-24

LO 5


SINGLE­SUM PROBLEMS
Future Value of a Single Sum
Value at a future date of a given amount invested, assuming 
compound interest.

Where:
FV  = future value
PV  = present value (principal or single sum)
FVF  n,i  = future value factor for n periods at i interest

6-25

LO 5