LESSON 3 – SUMMARY – TIME VALUE of MONEY

Lease

Factoring

Overdraft Account

Effective rate when interest is paid at the

beginning of term

Different Debt Service:

Grace and Deferment

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LEASE

- Type of Funding but distinct from the traditional loan because

it is agreed a Residual Value for the end of the Lease

- The LESSOR (Leasing company) owns the asset, personal or

real property, and grants the use of the object to the Lessee

- The LESSEE uses the object and pays a rent

- The rent can be monthly, quarterly, every six months or even

annual

- At the end of the contract there is a call option, that is, two

possibilities:

The Lessee intends to keep the asset and for that pays

the residual value to the lessor

The Lessee does not intend to keep the object and

returns it to the lessor

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LEASE

Being: B – value of the asset

Vr – agreed residual value (% of B, depending on the type of

asset)

R – rent

r – effective rate for the rent term

Basic Timeline and Cash Flows for the Lease:

Equation for the calculation of the Rent ( R ):15

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FACTORING

- Short-term type of funding that allows the anticipation of

receivables

- The Factoring Company (FACTOR) acquires the invoices

issued by a Company to its customers (Invoiced Party)

- In this process the FACTOR manages the receivables and the

creditworthiness of the invoiced party, advances most of the

invoiced amount to the Company immediately, charging a

percentage of that value for the services provided

- The FACTOR can provide a service of Credit Risk

management, leading the Company to always receive the

total invoiced amount even if the invoiced party ends up not

paying

- The great advantage of Factoring is the Receivables Term

reduction (quicker transformation in cash) and decrease in

administrative overheads. But it is not exactly a cheap form

of financing.....

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OVERDRAFT ACCOUNT

- Flexible type of funding of continued support to the company's cash balance

with interest calculation on a daily basis in Simple Interest

- The overdraft account is characterized by the grant of a

maximum amount of credit for a specified period, and the

customer may, within the defined limits, use the respective

account in a flexible way (without subjection to a

predetermined plan)

- The opening of a current account with the overdraft is made

by a contract which establishes, inter alia, the maximum

credit limit, the term, the interest rate, the guarantees, the

obligations of the debtor, the conditions for cancelling the

facility

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EFFECTIVE RATE WHEN INTERST IS PAID AT THE BEGINNING OF TERM

- There is some offer of short-term loans or

applications in which it is established the

payment of the totality of the interest at the

beginning of the term of the contract

- This results in a calculated effective rate

higher than the stated rate offered

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EFFECTIVE RATE WHEN INTERST IS PAID AT THE BEGINNING OF TERM

Example:

Deposit of 20000 euros for 1 year at a stated

annual rate of 2% with interest paid at the

beginning

The timeline of Cash Flows is:

The equation for the calculation of AER is:

AER = 2.0408% > SAR of 2%

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DIFFERENT DEBT SERVICE: GRACE and DEFERMENT

- In a financing with Grace the borrower only pays interest during the grace

period, that is, the debt service does not include any payment of the principal

during this period

- At the end of the Grace period, the amount of debt corresponds to the total

principal

- In a financing with Deferment the debtor does not make any debt service,

neither interest nor capital, during the deferment period

- At the end of the Deferment period, the amount of debt corresponds to the

total principal plus the accumulated interest

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DIFFERENT DEBT SERVICE: GRACE

GRACE PERIOD

Being,

E – principal

J – interest

n – number of periods of Grace

m – total number of periods of the loan

r – effective interest rate for the installment period

R – installment for principal and interest payment

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DIFFERENT DEBT SERVICE: GRACE

Timeline of Cash Flows:

Interest calculation:

J = E x r

Equation for the calculation of the Installment after de Grace Period:

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DIFFERENT DEBT SERVICE: DEFERMENT

DEFERMENT

Being,

E – principal

n – number of Deferment periods

m – total number of periods of the loan

r – effective interest rate for the Installment period

R – installment of principal and interest payment

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DIFFERENT DEBT SERVICE: DEFERMENT

Timeline of Cash Flows:

Equation for the calculation of the Installment after the Deferment period:

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