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Intermediate Accounting: Reporting...

3rd Edition
James M. Wahlen + 2 others
ISBN: 9781337788281

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BuyFindarrow_forward

Intermediate Accounting: Reporting...

3rd Edition
James M. Wahlen + 2 others
ISBN: 9781337788281
Textbook Problem
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On July 1, 2019, James Rago signed an agreement to operate as a franchisee of Fast Foods Inc. for an initial franchise fee of $60,000. Of this amount, $20,000 was paid when the agreement was signed, and the balance is payable in 4 equal annual payments of $10,000 beginning July 1, 2020. The agreement provides that the down payment is not refundable and no future services are required of the franchisor. Rago’s credit rating indicates that he can borrow money at 14% for a loan of this type. Information on present and future value factors is as follows:

Chapter M, Problem 9MC, On July 1, 2019, James Rago signed an agreement to operate as a franchisee of Fast Foods Inc. for an

Rago should record the acquisition cost of the franchise on July 1, 2019, at:

  1. a. $43,600
  2. b. $49,100
  3. c. $60,000
  4. d. $67,600

To determine

Identify the amount at which the acquisition should be recorded on July 1, 2016.

Explanation

In this case, Person JR has paid $20,000 on July 1, 2016 as initial franchisee fee out of $60,000. Balance $40,000 will be payable in 4 equal annual installment of $10,000 beginning July 1, 2017. Here, the cash flow occurs during the last day of each time period, hence it is an ordinary annuity. As per credit rating of Person JR’s position he can borrow fund at the rate of 14%.

Determine the amount of acquisition cost that should be reported by Person JR as on July 1, 2016.

n – 4 equal annual installments

C – Future cash flow $10,000 each

i – 14% compounded annually

First, determine the present value of ordinary annuity of 4 cash flows of $10,000 each.

PVO=× (pon,i)PVO=× (pon=4,i=14%)PVO=$10,000 × 2

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