 Financial Terms Interest Factor

# Definition of Interest Factor ## Interest Factor

Numbers found in compound interest and annuity tables. Usually called the FVIF or PVIF.

# Related Terms:

## Future Value

The amount to which a payment or series of payments will grow by a given future date when compounded by a given interest rate. FVIF future value interest factor.

the present value of a finite stream of cash flows for every beginning \$1 of cash flow.

## fractional interest discount

the combined discounts for lack of control and marketability. g the constant growth rate in cash flows or net income used in the ADF, Gordon model, or present value factor.

## PPF (periodic perpetuity factor)

a generalization formula invented by Abrams that is the present value of regular but noncontiguous cash flows that have constant growth to perpetuity.

## Accrued interest

The accumulated coupon interest earned but not yet paid to the seller of a bond by the
buyer (unless the bond is in default).

## Amortization factor

The pool factor implied by the scheduled amortization assuming no prepayemts.

## Amortizing interest rate swap

Swap in which the principal or national amount rises (falls) as interest rates
rise (decline). ## Annuity factor

Present value of \$1 paid for each of t periods.

## Base interest rate

Related: Benchmark interest rate.

## Benchmark interest rate

Also called the base interest rate, it is the minimum interest rate investors will
demand for investing in a non-Treasury security. It is also tied to the yield to maturity offered on a
comparable-maturity Treasury security that was most recently issued ("on-the-run").

## Best-interests-of-creditors test

The requirement that a claim holder voting against a plan of reorganization
must receive at least as much as he would have if the debtor were liquidated.

## Capitalized interest

interest that is not immediately expensed, but rather is considered as an asset and is then
amortized through the income statement over time.

## Cash flow after interest and taxes

Net income plus depreciation.

## Compound interest

interest paid on previously earned interest as well as on the principal.

## Conversion factors

Rules set by the Chicago Board of Trade for determining the invoice price of each
acceptable deliverable Treasury issue against the Treasury Bond futures contract.

## Covered interest arbitrage

A portfolio manager invests dollars in an instrument denominated in a foreign
currency and hedges his resulting foreign exchange risk by selling the proceeds of the investment forward for
dollars. ## Discount factor

Present value of \$1 received at a stated future date.

## Earnings before interest and taxes (EBIT)

A financial measure defined as revenues less cost of goods sold
and selling, general, and administrative expenses. In other words, operating and non-operating profit before
the deduction of interest and income taxes.

## Effective annual interest rate

An annual measure of the time value of money that fully reflects the effects of
compounding.

## Equilibrium rate of interest

The interest rate that clears the market. Also called the market-clearing interest
rate.

## Factor

A financial institution that buys a firm's accounts receivables and collects the debt.

## Factor analysis

A statistical procedure that seeks to explain a certain phenomenon, such as the return on a
common stock, in terms of the behavior of a set of predictive factors.

## Factor model

A way of decomposing the factors that influence a security's rate of return into common and
firm-specific influences.

## Factor portfolio

A well-diversified portfolio constructed to have a beta of 1.0 on one factor and a beta of
zero on any other factors.

## Factoring

Sale of a firm's accounts receivable to a financial institution known as a factor.

## Forward interest rate

interest rate fixed today on a loan to be made at some future date.

## Gross interest

interest earned before taxes are deducted. ## Interest

The price paid for borrowing money. It is expressed as a percentage rate over a period of time and
reflects the rate of exchange of present consumption for future consumption. Also, a share or title in property.

## Interest coverage ratio

The ratio of the earnings before interest and taxes to the annual interest expense. This
ratio measures a firm's ability to pay interest.

## Interest coverage test

A debt limitation that prohibits the issuance of additional long-term debt if the issuer's
interest coverage would, as a result of the issue, fall below some specified minimum.

## Interest equalization tax

Tax on foreign investment by residents of the U.S. which was abolished in 1974.

## Interest payments

Contractual debt payments based on the coupon rate of interest and the principal amount.

## Interest on interest

interest earned on reinvestment of each interest payment on money invested.
See: compound interest.

## Interest-only strip (IO)

A security based solely on the interest payments form a pool of mortgages, Treasury
bonds, or other bonds. Once the principal on the mortgages or bonds has been repaid, interest payments stop
and the value of the IO falls to zero.

## Interest rate agreement

An agreement whereby one party, for an upfront premium, agrees to compensate the
other at specific time periods if a designated interest rate (the reference rate) is different from a predetermined
level (the strike rate).

## Interest rate cap

Also called an interest rate ceiling, an interest rate agreement in which payments are made
when the reference rate exceeds the strike rate.

## Interest rate ceiling

Related: interest rate cap.

## Interest rate floor

An interest rate agreement in which payments are made when the reference rate falls
below the strike rate.

## Interest rate on debt

The firm's cost of debt capital.

## Interest rate parity theorem

interest rate differential between two countries is equal to the difference
between the forward foreign exchange rate and the spot rate.

## Interest rate risk

The risk that a security's value changes due to a change in interest rates. For example, a
bond's price drops as interest rates rise. For a depository institution, also called funding risk, the risk that
spread income will suffer because of a change in interest rates.

## Interest rate swap

A binding agreement between counterparties to exchange periodic interest payments on
some predetermined dollar principal, which is called the notional principal amount. For example, one party
will pay fixed and receive variable.

## Interest subsidy

A firm's deduction of the interest payments on its debt from its earnings before it calculates
its tax bill under current tax law.

## Interest tax shield

The reduction in income taxes that results from the tax-deductibility of interest payments.

## Maturity factoring

factoring arrangement that provides collection and insurance of accounts receivable.

## Multifactor CAPM

A version of the capital asset pricing model derived by Merton that includes extramarket
sources of risk referred to as factor.

## Net benefit to leverage factor

A linear approximation of a factor, T*, that enables one to operationalize the
total impact of leverage on firm value in the capital market imperfections view of capital structure.

## Nominal interest rate

The interest rate unadjusted for inflation.

## Old-line factoring

factoring arrangement that provides collection, insurance, and finance for accounts receivable.

## One-factor APT

A special case of the arbitrage pricing theory that is derived from the one-factor model by
using diversification and arbitrage. It shows the expected return on any risky asset is a linear function of a
single factor.

## Open interest

The total number of derivative contracts traded that not yet been liquidated either by an
offsetting derivative transaction or by delivery. Related: liquidation

## Pool factor

The outstanding principal balance divided by the original principal balance with the result
expressed as a decimal. Pool factors are published monthly by the Bond Buyer newspaper for Ginnie Mae,
Fannie Mae, and Freddie Mac(Federal Home Loan Mortgage Corporation) MBSs.

## Pooling of interests

An accounting method for reporting acquisitions accomplished through the use of equity.
The combined assets of the merged entity are consolidated using book value, as opposed to the purchase
method, which uses market value. The merging entities' financial results are combined as though the two
entities have always been a single entity.

## Present value factor

factor used to calculate an estimate of the present value of an amount to be received in
a future period.

## Rate of interest

The rate, as a proportion of the principal, at which interest is computed.

## Real interest rate

The rate of interest excluding the effect of inflation; that is, the rate that is earned in terms
of constant-purchasing-power dollars. interest rate expressed in terms of real goods, i.e. nominal interest rate

## Reported factor

The pool factor as reported by the bond buyer for a given amortization period.

## Short interest

This is the total number of shares of a security that investors have borrowed, then sold in the
hope that the security will fall in value. An investor then buys back the shares and pockets the difference as profit.

## Single factor model

A model of security returns that acknowledges only one common factor.
See: factor model.

## Simple interest

interest calculated only on the initial investment. Related:compound interest.

## Spot interest rate

interest rate fixed today on a loan that is made today. Related: forward interest rates.

## Stated annual interest rate

The interest rate expressed as a per annum percentage, by which interest
payment is determined.

## Times-interest-earned ratio

Earnings before interest and tax, divided by interest payments.

## True interest cost

For a security such as commercial paper that is sold on a discount basis, the coupon rate
required to provide an identical return assuming a coupon-bearing instrument of like maturity that pays
interest in arrears.

## Two-factor model

Black's zero-beta version of the capital asset pricing model.

## Earnings before interest and taxes (EBIT)

The operating profit before deducting interest and tax.

## Earnings before interest, taxes, depreciation and amortization (EBITDA)

The operating profit before deducting interest, tax, depreciation and amortization.

## Interest

The cost of money, received on investments or paid on borrowings.

## Limiting factor

The production resource that, as a result of scarce resources, limits the production of goods
or services, i.e. a bottleneck.

See EBIT.

## Interest income

Income that a company receives in the form of interest, usually as the result of keeping money in interest-bearing accounts at financial institutions and the lending of money to other companies.

## Interest payable

The amount of interest that is owed but has not been paid at the end of a period.

## earnings before interest and income tax (EBIT)

A measure of profit that
equals sales revenue for the period minus cost-of-goods-sold expense
and all operating expenses—but before deducting interest and income
tax expenses. It is a measure of the operating profit of a business before
considering the cost of its debt capital and income tax.

## times interest earned

A ratio that tests the ability of a business to make
interest payments on its debt, which is calculated by dividing annual
earnings before interest and income tax by the interest expense for the
year. There is no particular rule for this ratio, such as 3 or 4 times, but
obviously the ratio should be higher than 1.

## Accrued Interest

The amount of interest accumulated on a debt security between
interest paying dates

## Compound Interest

interest paid on principal and on interest earned in previous
periods

## Effective Interest Rate

The rate of interest actually earned on an investment. It is
calculated as the ratio of the total amount of interest actually
earned for one year divided by the amount of the principal.

## Nominal Interest Rate

The rate of interest quoted, or stated, to be paid on a security

## Real Interest Rate

The rate of interest paid on an investment adjusted for inflation

## Simple Interest

interest paid only on the principal; calculated by multiplying the
interest rate by the principal

## Times Interest Earned Ratio

A measure of how well a company is able to meet its interest
payments based on the cash generated by its operations. It is
calculated by dividing the earnings before interest and taxes by the
total interest charges incurred by the firm.

## compound interest

a method of determining interest in which interest that was earned in prior periods is added to the original investment so that, in each successive period, interest is earned on both principal and interest

## critical success factors (CSF)

any item (such as quality, customer
service, efficiency, cost control, or responsiveness
to change) so important that, without it, the organization
would cease to exist

## simple interest

a method of determining interest in which interest is earned only on the original investment (or principal) amount

## Factoring

The sale of accounts receivable to a third party, with the third party bearing
the risk of loss if the accounts receivable cannot be collected.

All the costs incurred during the manufacturing process, minus the
costs of direct labor and materials.

## Interest

The cost of funds loaned to an entity. It can also refer to the equity ownership
of an investor in a business entity.

## Pooling of interests

An method for accounting for a business combination. When used, the expenses of the combination are charged against income at once, and the net
income of the acquired company is added to the full-year reported results of the acquiring company.

## annuity factor

Present value of an annuity of \$1 per period.

## compound interest

interest earned on interest.

## discount factor

Present value of a \$1 future payment.

## effective annual interest rate

interest rate that is annualized using compound interest.

## interest rate parity

Theory that forward premium equals interest rate differential.

## interest tax shield

Tax savings resulting from deductibility of interest payments.

## nominal interest rate

Rate at which money invested grows.

## real interest rate

Rate at which the purchasing power of an investment increases.

## simple interest

interest earned only on the original investment; no interest is earned on interest.

## Factor of Production

A resource used to produce a good or service. The main macroeconomic factors of production are capital and labor.

## Interest Rate Differential

The interest rate on our financial assets minus the interest rate on a foreign country's financial assets.