A business combination involves a contingent consideration. It is considered 70% probable that a payment of $500,000 will become payable three years after the acquisition date. Using a 7% discount rate, how much interest expense should be recorded on the liability for the first year after acquisition?
A) $19,999
B) $24,500
C) $28,570
D) $35,000

Question

Quizplus · Accepted Answer

To calculate the interest expense for the first year after acquisition, we need to determine the present value of the liability using the 7% discount rate.

PV = FV / (1 + r)^n
PV = $500,000 / (1 + 0.07)^3
PV = $386,727.47

The interest expense can then be calculated as the change in the present value of the liability between the beginning and end of the year, multiplied by the discount rate.

Interest Expense = (Ending PV - Beginning PV) x Discount Rate
Interest Expense = ($386,727.47 - $500,000) x 7%
Interest Expense = $19,998.50, which rounds to $19,999. Therefore, the answer is A.

A Business Combination Involves a Contingent Consideration