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Accounting: Well, Isn’t This Interesting 1 Views


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00:00

Accounting Allah shmoop well isn't this interesting Interest costs the

00:07

cost of renting money or renting capital Will Interest costs

00:10

are a thing And when companies borrow huge amounts of

00:13

capital well they are a huge thing You thought you

00:16

were just batting a balloon around the room until it

00:18

flies over a candle And well it turns out there

00:21

was hydrogen inside of that thing You knew well tracking

00:24

interest costs in a dual pronged activity as most payments

00:27

on dead are really two things there are payment of

00:30

rent on the money but they usually also include a

00:33

provision for paying down a part of the principal borrowed

00:36

in that period as well So a company might have

00:39

a payment of twelve hundred bucks and a given quarter

00:41

on a hundred grand loan It's probable that something like

00:44

two hundred bucks of that payment is interest and a

00:46

grand is a principal pay down such that after making

00:49

that payment while the next court of the total principal

00:52

is ninety nine grand And on that next twelve hundred

00:54

dollars payment well a bit more than a grand goes

00:57

toward principal pay down as a bit less interest is

01:00

charged because now instead of going one hundred thousand dollars

01:03

while the company just those ninety nine thousand dollars okay

01:07

back to our pillow talk company with an eye on

01:09

their income statement notice an annual expense line item called

01:12

interest for two million dollars Well where the hell did

01:16

that come from The company needed to borrow money to

01:18

build this chicken plucking factory to the tune of fifty

01:21

million dollars was a whole bunch of robots beyond the

01:24

initial ten million dollarsworth they thought they'd buy in Yet

01:27

robots ain't cheap Because the company had good credit it

01:30

was able to pay just four percent interest or two

01:33

million dollars a year to rent that fifty million dollars

01:36

Will the true cost of renting that capital gets even

01:39

better from an after tax perspective Note that the two

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million dollars in annual money rental costs is treated as

01:45

just a basic vanilla expense like feathers or cotton or

01:49

hours of scummy lawyer time interest payments on loans or

01:53

Justin expense just like any other expense And those cost

01:56

come out ahead of calculating profits particularly Tak doble profits

02:00

Well As a result the company gets to deduct two

02:03

million dollars a year ahead of its thirty two percent

02:05

tax rate on whatever operating profits it as essentially partly

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splitting with the government The cost of renting that money

02:12

Why would the government allow such financial quote Chickie Nery

02:15

unquote Well because it's in the best interest of the

02:18

broader population of the country Tohave infrastructure factories generally mean

02:23

jobs for humans or at least that used to be

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the case in America And it's how our laws and

02:28

financial policies evolved And the government wants to make borrowing

02:31

for expansion a relatively cheap and painless endeavor for companies

02:35

that hire people and put him to work Note that

02:37

the expense line for renting this money is a completely

02:40

different animal fromthe calculations depreciating the value of the asset

02:45

They are held separately for good reason The numbers relate

02:48

to different items or elements in the company's expense and

02:52

asset structure So think about the two million bucks of

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interest expense as a normal expense line item and then

02:57

also think about the depreciation amounts attributed to the factory

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But we've notion that it'll be depreciated to zero over

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in ten years from fifty million bucks to start or

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rather at a rate of depreciation of five million dollars

03:10

a year So the whole exercise in taking out the

03:12

debt tio by that fifty million dollars worth of robot

03:16

factory to take away seven million bucks in taxable profits

03:20

each year the two million venturers five million appreciation Or

03:23

at least in the beginning those were the numbers until

03:25

the principal start get paid down and interest got to

03:27

be the last Yeah yeah set another way The interest

03:29

costs grew to be less as the debt was paid

03:32

off Overtime got it But the tax shelters were large

03:36

and the company benefited hugely and being able to take

03:39

as tax deductions the cost of renting all that capital

03:43

toe automate and grow large and you know globally competitive

03:46

And it's probably noteworthy here that other countries didn't have

03:49

such easy access to capital In fact having to borrow

03:53

money was greeted with the great shame at least culturally

03:57

in Asia and Europe for a very long time And

03:59

it hurt those countries massively when they try to compete

04:02

with us So for centuries those countries lagged and being

04:05

able to produce globally competitive product very different competitive dynamics

04:09

when companies can leverage financial capital into intellectual capital or

04:13

technology toe then let them do things at scale better

04:17

cheaper and faster Yeah Anyway more to come as we 00:04:20.78 --> [endTime] you know keep on plucking

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