Tag Archives | loan agreement

Reorganization Definition

See Also:
Debtor in Possession
Financial Distress Costs
Insolvency

Reorganization Definition

Reorganization is when a bankrupt company restructures its debt obligations without going out of business. During reorganization, the debtor retains ownership of its assets and continues business operations. The debtor then renegotiates the terms of its debt obligations to creditors. If a company is having financial trouble and is at risk of defaulting on loan payments, that company may want to consider reorganization to consolidate debts and adjust loan agreements to make payments more manageable.

Reorganization vs Liquidation

Reorganization vs liquidation are two types of bankruptcy processes. In a reorganization, the debtor retains ownership of its assets and continues business operations while renegotiating debt repayments with creditors.

In a liquidation, the creditors seize control of the debtors assets and sell them to pay off the debt. Furthermore, the debtor goes out of business and ceases normal operations. After liquidation, the entity technically no longer exists.

Chapter 11 Reorganization

Chapter 11 bankruptcy is a type of bankruptcy proceeding outlined in the Bankruptcy Code. It is also a reorganization procedure.

When a financially distressed entity files for chapter 11 bankruptcy, the entity continues to operate while it restructures its debt obligations. The entity is given a limited amount of time in which to restructure the debts. During this time the entity is protected from creditors.

Reorganization bankruptcies are usually more complex than liquidation bankruptcies. Companies usually file for Chapter 11 bankruptcy.

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Reorganization Definition, Reorganization vs Liquidation

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Reorganization Definition, Reorganization vs Liquidation

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Loan Agreement

Loan Agreement Definition

A loan is a debt instrument. One party lends assets, property, or money to another party in exchange for interest payments and the eventual return of the borrowed asset, property, or money. A loan agreement is usually drawn up in writing before any assets change hands between parties.

Loan Term Explanation

A loan agreement includes a creditor and a debtor. The creditor is the party that lends assets to the borrower. The debtor is the party that borrows assets from the lender. Often, individuals will borrow money from financial institutions such as banks. And frequently corporations will borrow money from investors by issuing bonds or other debt instruments.


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Loan Term Features

A typical loan will have several standard features, including a principal amount, a maturity date, and an interest rate.

The principal amount is the amount that the borrower receives initially from the lender, and that the borrower must repay to the lender at the end of the loan contract. The maturity date is simply the date the loan contract expires. It is the date by which the borrower must repay all borrowed funds to the lender. The interest rate is essentially the cost of the loan. An interest rate states the amount of interest, as a percentage of the principal, that the borrower must pay the lender periodically over the life of the loan contract.

Loan Term Secured and Unsecured

Secured debt refers to a loan backed by collateral. It is a loan contract with collateral. At initiation of the loan agreement, the borrower agrees to pledge certain assets to back the loan contract. If the borrower defaults on the loan, the creditor then has a claim on the collateral. The creditor, in event of default, can claim the collateral stated in the contract and liquidate it towards repaying the owed principal and interest.

An unsecured debt is a loan agreement that is not backed by collateral. The borrower does not pledge assets to back the loan contract. This type of loan is a more risky investment for the lender, as in the event of default there are no physical assets to claim and liquidate to collect unpaid debts.

Loan Term Default

Loan default occurs when the debtor becomes unable to make required payments to the creditor. Over the life of the loan, the debtor typically makes interest payments and then finally repays the principal amount. If at any time the debtor fails to make the required payments, the loan is considered in default.

Loan Term Example

Cathryn is a loan agent at a local commercial bank. Her job, mainly, is to evaluate and complete loan packages for customers that are suited to be taking a business loan. Cathryn loves her work because she can use her skills of analysis while also helping people create financial independence.

Today, Cathryn speaks with a customer who is needing a loan to start his industrial flooring business. Paul, the customer, believes he can create a successful business with a small amount of start up capital. Cathryn does her proper due diligence and confirms that Paul, a man with a solid standing in all of the 5 C’s of banking, is qualified for the loan.

Cathryn and Paul work out the specifics of the loan. Eventually, they establish the loan term. The two discuss the matter and decide that Paul, due to the small amount of money he needs beyond his savings, is looking for a short term loan. The two set one year as the period in which the loan must be repaid.

Paul appreciates Cathryn’s assistance. Cathryn appreciates the professional attitude Paul has brought to the table. The two appreciate the professional connection and agree to meet for lunch soon. Today has been a successful day for both parties.

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Loan Agreement

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Loan Agreement

See Also:
Line of Credit
Can Factoring Be Better Than A Bank Loan?
How important is personal credit in negotiating a commercial loan?
Collateralized Debt Obligations
Commercial Paper
Loan Origination Fee
Sinking Fund

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Interest Expense

See Also:
Interest Expense Formula
What is Compound Interest
Effective Rate of Interest Calculation
Nominal Interest Rate
When is Interest Rate Not as Important in Selecting a Loan?
Capitalized Interest

Interest Expense Definition

Interest expense, defined as a non-operating expense on the income statement, occurs anywhere money is borrowed. Consider this part of a company’s financing activities. Interest expense represents the company’s cost of borrowing money. It is calculated as the interest rate multiplied by the principal amount of the loan or debt. This type of expense can be interest payments on loans, bonds, or other debt instruments.

Interest Expense Explanation

Interest expenses may be recorded on the balance sheet as current liabilities before they are expensed. Record it in a liabilities account, if it was accrued prior to being paid. This liabilities account is also interest payable. This represents borrowing costs that the company has incurred but not yet paid.

Also, this expense can be recorded on the balance sheet as current assets if they are prepaid. This means that you have paid for them before they are due. Until they are due, you cannot recognize them as expenses according to the loan agreement. Record these payments as an asset on the balance sheet before they are expensed. Use the term prepaid interest interchangeably here.

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Interest expense

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Interest expense

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Control Annual Audit Fees

See Also:
How to Choose An Independent CPA or Auditor
How to Hire a CFO Controller
American Institute of Certified Public Accountants – AICPA
How to create dynamic cash flow projections

Control Annual Audit Fees

Annual audits of a company’s financial statements may be required by partnership, loan or other agreements. The cost of an annual audit can constitute a significant administrative expense, if not properly managed by the company’s financial staff. Although the independent accountant has the responsibility of establishing the scope of the audit required in order for him to issue an opinion on the financial statements, the company can limit the involvement of the independent accountant’s staff, in order to keep the audit fee at appropriate levels. Read below to learn how to control annual audit fees.


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Procedures to Control Annual Audit Fees

Adopt the following procedures to minimize annual fees and to assure appropriate cooperation between the company’s financial staff and the independent accountant:

1. Meet with the independent accountant at least 90 days prior to the commencement of the audit to discuss changes, if any, in the company’s business since the previous audit. Include in the meeting the audit coordinators (company representative and auditor’s representative), as well as other key participants in the audit.

2. Review problems encountered during the previous audit in order to outline procedures to facilitate a more efficient audit.

3. Review auditor’s audit plan, including a detailed time budget by audit category, in order to establish responsibilities of the auditor’s staff and the company’s staff.

4. Request auditor to provide a schedule of schedules to be prepared by company’s staff (PBCs), including schedule skeletons, which the company should use to provide the data requested by the auditor. If the company routinely prepares similar schedules during the year, or can be system generated, then the auditor should not demand that his format be used – nor should his staff redo the schedule into their format.

5. Agree upon tasks that the company’s staff will perform for the auditor, such as copying documents, typing confirmations, pulling invoices and other required documents, reconciling differences reported on confirmations, etc.

6. Provide copies of any new significant agreements (debt, organizational, etc.) to the auditor.

7. If your company requires physical inventory counts, then mutually develop the scope of the physical inventory. This includes what assistance financial staff provides. Document the process in clear and complete count instructions.

8. Reasonably challenge the auditor’s time budget to perform the required scope.

9. Agree upon the timing of the engagement, including completion dates of each specific schedule; then provide them to the auditor.

Recommendations

The company ought to consider the use of a contract employee to supplement company staff with daily routine, or to prepare the PBCs during the audit, if the company staff is not available. Generally, such fees will be considerably lower than the auditor’s hourly fees.

When the auditor’s staff arrives on site to commence the audit hold a meeting with the key participants in the audit to review the agreed upon procedures, discussed above, and to establish any ground rules, such as no additional audit schedules are to be prepared by the auditors unless the company staff has had an opportunity to provide such data.

Regular progress meetings, involving the audit coordinators, to determine that the audit is on schedule, PBCs are being provided on scheduled due dates, and to discuss any problems being encountered. The auditor should discuss any anticipated time overruns. This is critical before time overruns occur to allow for possible corrective action by the company’s staff.

The auditor should discuss each proposed audit adjustment with the company before they are recorded. Record all adjustments recorded by the auditor in the company’s financial records prior to the completion of the audit. The company records should agree to the financial statements to be reported upon by the auditor before their report is finalized.

The company should retain a copy of any schedule provided to the auditor to facilitate preparation of the following year’s audit as many of the schedules may be maintained on a running basis during the year, and may be an important source of data for management.

Determine the Nature of the Report

Determine the nature of the report issued. For example, financial statements prepared in accordance with GAAP include comparative (1) balance sheets, (2) statement of income, (3) statement of owners’ equity, (4) statement of cash flows, and (5) notes to audited financial statements.

Detailed schedules of operating expenses are not required. However, if the company requests it, then include them in the report. Although this report requires certain footnote disclosures, but limit them only to required disclosures.

The independent public accountant’s report upon a company’s financial statements includes the following statements:

“These financial statements are the responsibility of Company X’s management. Our responsibility is to express an opinion on these financial statements based on our audit.” And “ …….as well as evaluating the overall financial statement presentation.”

Accordingly, the company may dictate the language to be used in the footnotes, so long as the language complies with GAAP.

Hold an audit wrap up meeting to review the final report. Discuss the problems and success encountered during the audit. Also, use this opportunity to lay the basis for the following year’s audit.


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control annual audit fees

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control annual audit fees

See related article: How to Choose an Independent CPA or Auditor

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Fixed Interest Rate vs Floating Interest Rate

See Also:
Effective Rate of Interest Calculation
What is Compound Interest
When is Interest Rate Not as Important in Selecting a Loan?
Nominal Interest Rate
Interest Rate Swaps

Fixed Interest Rate vs Floating Interest Rate

A loan can have a fixed interest rate or a floating interest rate. If the loan has a fixed interest rate, the interest rate remains constant for the duration of the loan. If the loan has a floating interest rate, also called a variable interest rate, then the interest rate fluctuates over the duration of the loan. Floating rates typically fluctuate with the overall market, with an underlying index, or with the prime rate.

Fixed interest rates and floating interest rates can apply to any type of debt or loan agreement. This includes monetary loans, credit card bills, mortgages, auto loans, and corporate bonds. Fixed rates and floating rates can also apply to financial derivative instruments.

Advantages and Disadvantages

Fixed Rate Loan

The primary advantage of a fixed interest rate loan is the elimination of uncertainty. Once the loan agreement is finalized, the value of the future interest payments is known.

A fixed interest rate can also be advantageous to the borrower (disadvantageous to the lender) if the market rates rise above the fixed rate, giving the borrower implicit gains (and the lender implicit losses). A fixed rate can be advantageous to the lender (disadvantageous to the borrower) if the market rates fall below the fixed rate, giving the lender implicit gains (and the borrower implicit losses).

Variable Rate Loan

The primary advantage of a floating interest rate is that it moves with the market rates. Of course, this can also be a disadvantage, depending on which way the market rates move and which side of the transaction the party is on.

A rise in market rates can increase the cost of the loan for the borrower and increase the interest income for the lender. Conversely, a fall in market rates can decrease the cost of the loan for the borrower and decrease the interest income for the lender.

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fixed interest rate vs floating interest rate

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Due Diligence

See Also:
Due Diligence on Lenders
Auditor
Mergers and Acquisitions (M&A)
Audit Committee
Loan Agreement

Due Diligence Definition

The Due Diligence definition is an extensive qualitative and quantitative look at a company. It helps company leaders make the best informed business decision about a company. Furthermore, Due Diligence is often associated with audits, where it is required before a public offering. In addition, it is associated with mergers and acquisitions to reduce the risk in the market for these activities.

Due Diligence Meaning

Due Diligence often becomes necessary when a large transaction is about to take place like a merger or loan agreement, or when the company’s financials are going to be presented to the public. Oftentimes, due diligence requires the assessment to be both qualitatively as well as quantitatively.

Qualitative Due Diligence

A qualitative act of due diligence may be to assess the mental state and capability of the management. This can be done through the following:

Quantitative Due Diligence

In comparison, quantitative due diligence includes thorough investigations of the books and records. This can range from asset appraisals to day to day transactions. A thorough understanding of internal controls and its effectiveness also become necessary to ensure the risk for the business is as low as possible.

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due diligence definition

due diligence definition

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Libor vs Prime Rate

Interesting article in the April 23rd Wall Street Journal on page C1 highlighting the divergence of Libor from U.S. Prime Rate. Let’s dive into what the difference between Libor vs Prime Rate is.

What’s the Difference Between Libor vs Prime Rate?

Libor has been increasing while the Prime Rate has been dropping.

You need to check your loan agreement to see what is the index for setting your loan rate. Now is also a good time to see if there is a floor on your interest rate. I have had clients in the past who woke up to find that the prime rate had fallen significantly but their interest rate had a floor on it. You can often negotiate that floor away.

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Libor vs Prime Rate

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Libor vs Prime Rate

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LEARN THE ART OF THE CFO