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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
Full Transcript
- 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
- 01:42
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
- 02:09
splitting with the government The cost of renting that money
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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
- 02:25
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
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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
- 02:54
interest expense as a normal expense line item and then
- 02:57
also think about the depreciation amounts attributed to the factory
- 03:01
But we've notion that it'll be depreciated to zero over
- 03:04
in ten years from fifty million bucks to start or
- 03:07
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
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when companies can leverage financial capital into intellectual capital or
- 04:13
technology toe then let them do things at scale better
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cheaper and faster Yeah Anyway more to come as we 00:04:20.78 --> [endTime] you know keep on plucking
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