Professional Documents
Culture Documents
Learning Objectives:
Bonds Payable
Issuing bonds
Types and ratings
Valuation
Effective-interest
method
Costs of issuing
Extinguishment
Long-Term Notes
Payable
Notes issued at face
value
Notes not issued at
face value
Special situations
Mortgage notes
payable
Reporting and
Analyzing
Long-Term Debt
Presentation and
analysis
Learning Objective :
Bonds Payable
Issuing bonds
Types and ratings
Valuation
Effective-interest method
Costs of issuing
Extinguishment
+
(2) periodic interest at a specified rate on the maturity
amount (face value). Interest payments usually made
semiannually.
Bond Ratings
Investments, Ltd)
Moody's S & P
(Source: BestVest
Meaning
Aaa
Aa
Baa
BBB
BB
Caa
Ca
CC
--
In default.
Valuation of Bonds
Discount and
Premium
relative risk,
Valuation of Bonds
Discount and
Premium
Interest Rates
Stated, coupon, or nominal rate =
The interest rate written in the terms of the bond indenture.
Market rate, discount rate, effective rate or yield rate =
rate that provides an acceptable return on an investment
commensurate with the issuers risk characteristics.
Rate of interest actually earned by the bondholders.
Valuation of Bonds
Discount and
Premium
Valuation of Bonds
Discount and
Premium
Assume Stated Rate of 8%
Market Interest
Bonds Sold At
6%
Premium
8%
Face Value
10%
Discount
Valuation of Bonds
Discount and
Premium
Classification of Discount and Premium
Discount on bonds payable is a liability valuation account,
that reduces the face amount of the related liability (contraaccount).
Balance Sheet (in thousands)
Assets
account).
Cash
Inventories
Plant assets, net
Total assets
40,000
95,000
280,000
$ 415,000
80,000
140,000
(15,000)
150,000
60,000
415,000
Valuation of Bonds
Discount and
Premium
How do you calculate the amount of interest that is actually
paid to the bondholder each period?
Valuation of Bonds
Discount and
Premium
Calculating the Selling Price of a Bond
1- Use Market Rate of interest ( Discount rate)
2- Computation of selling price:
- PV of maturity value, plus
- PV of interest payments
3- Semi-annual interest paying bonds:
- Require doubling the periods
- Halving the interest rate
Amortization methods:
1. Straight-Line: the Discount or premium would be
amortized equally over the life of the bond.
2. Effective Interest Method
16
Valuation of Bonds
Effective-Interest Method
Produces a periodic interest expense
equal to a constant percentage of
the carrying value of the bonds.
Illustration 14-3
Solution on notes
page
Solution on notes
page
Discount
(4,973)
*
* rounding
Cash
Discount on bonds payable
95,027
4,973
Bonds payable
12/31/11
Interest expense
100,000
9,503
1,503
Cash
8,000
Straight-line method
Illustration: Stated rate = 8%. Market rate = 10%.
Total discount:
100,000-95,027= 4,973
4,973 / 3= 1,658 per period
12/31/11
Interest expense
9,658
1,658
Cash
8,000
Premium
Solution on notes
page
5,346
Unamortized bond issue costs are treated as a deferred charge and amortized
over the life of the debt.
Cash
105,346
5,346
Bonds payable
12/31/11
100,000
Interest expense
6,321
1,679
Cash
8,000
Interest expense
6,218
1,782
Cash
8,000
Cash
Bonds Payable
Bond Interest Expense
= $8,000
808,000
800,000
8,000
24,000
Cash
($800,000 x .06 x 6/12)
24,000
= $24,000
Credit / Cr.
$24,000
$8,000
$16,000
a Discount
Present value of the bond at 1/1/2015 based on yield of 10%
for a term of 2 years. The stated interest rate is 8%.
The interest is paid semiannually. The Face value of the bond
is $200,000. The bond was issued on March 1, 2015.
How much should be the issue price?
P.V. of the principal
P.V. of Interest
P.V. on 1/1/2015
$192,908
of 1/1 - 3/1/2015
= 200,000 x 4% x 2/6=2,667
196,123
Dis. On B/P
B/P
6,544**
200,000
Interest Expense
2,667
1,097
8,000
* 1,645-548=1,097
12/31/2015 Interest Expense
Cash
Discount on B/P
9,728
8,000
1,728
Extinguishment of Debt
Extinguishment before Maturity Date
Reacquisition price > Net carrying amount = Loss
Net carrying amount > Reacquisition price = Gain
At time of reacquisition, unamortized premium or discount,
and any costs of issue applicable to the bonds, must be
amortized up to the reacquisition date.
Extinguishment of Debt
Illustration: Three year 8% bonds of $100,000 issued on Jan. 1, 2011,
are recalled at 105 on Dec. 31, 2012. Expenses of recall are $2,000.
Market interest on issue date was 10%.
$98,183
1,817
Extinguishment of Debt
Illustration: Three year 8% bonds of $100,000 issued on Jan. 1,
2011, are recalled at 105 on Dec. 31, 2012. Expenses of recall
are $2,000. Market interest on issue date was 8%.
Journal entry at Dec. 31, 2012:
Bonds payable
Loss on extinguishment
100,000
8,817
Cash
Discount on bonds payable
Reacquisition price = $105,000 + 2,000 = $107,000
107,000
1,817
Valuation of Bonds
Cost of Issuing Bonds
Unamortized bond issue costs are treated as a deferred
charge and amortized over the life of the debt.
Illustration: Microchip Corporation sold $20,000,000 of 10-year
debenture bonds for $20,795,000 on January 1, 2014 (also the
date of the bonds). Costs of issuing the bonds were $245,000.
Microchip records the issuance of the bonds and amortization of
the bond issue costs as follows.
Cash
20,550,000
245,000
795,000
Bonds Payable
Dec. 1,
2014
20,000,000
24,500
24,500
Extinguishment of Debt
Illustration: On January 1, 2007, General Bell Corp. issued at 97
bonds with a par value of $800,000, due in 20 years. It incurred
bond issue costs totaling $16,000. Eight years after the issue date,
General Bell calls the entire issue at 101 and cancels it. General
Bell computes the loss on redemption (extinguishment).
Illustration 14-10
Extinguishment of Debt
General Bell records the reacquisition and cancellation of the
bonds as follows:
Bonds Payable
Loss on Redemption of Bonds
Discount on Bonds Payable
Unamortized Bond Issue Costs
Cash
800,000
32,000
14,400
9,600
808,000
Learning Objective :
Long-Term Notes Payable
Notes issued at face value
Notes not issued at face value
Special situations
Mortgage notes payable
1.
2.
Zero-interest-bearing notes:
It measures the notes present value by the cash
received. The implicit interest rate is the rate that
equals the cash received with the amounts to be
paid in the future.
Interest bearing notes
Zero-Interest-Bearing Notes
BE14-13: Samson Corporation issued a 4-year, $75,000, zero-interestbearing note to Brown Company on January 1, 2011, and received
cash of $47,663. The implicit interest rate is 12%. Prepare Samsons
journal entries for (a) the Jan. 1 issuance and (b) the Dec. 31
recognition of interest.
Zero-Interest-Bearing Notes
BE14-13: Samson Corporation issued a 4-year, $75,000, zero-interestbearing note to Brown Company on January 1, 2011, and received
cash of $47,663. The implicit interest rate is 12%. Prepare Samsons
journal entries for (a) the Jan. 1 issuance and (b) the Dec. 31
recognition of interest.
(a)
(b)
Cash
Discount on notes payable
Notes payable
Interest expense
Discount on notes payable
($47,663 x 12%)
47,663
27,337
75,000
5,720
5,720
Interest-Bearing Notes
BE14-14: McCormick Corporation issued a 4-year, $40,000, 5% note to
Greenbush Company on Jan. 1, 2011, and received a computer that
normally sells for $31,495. The note requires annual interest payments
each Dec. 31. The market rate of interest is 12%. Prepare McCormicks
journal entries for (a) the Jan. 1 issuance and (b) the Dec. 31 interest.
Interest-Bearing Notes
(a) Computer
Discount on notes payable
Notes payable
(b) Interest expense
Cash
Discount on notes payable
31,495
8,505
40,000
3,779
2,000
1,779
price for the same or similar items or from the market value
of the debt instrument.
Illustration 14-16
418,239
131,761
Notes Payable
550,000
33,459
22,459
Cash
11,000
LO 6
Debt to total
assets
Total debt
=
Total assets
Interest expense
59
60
61
20,000
20,000
1. Settlement of Debt
Can involve either a
transfer of noncash assets (real estate, receivables, or other
assets) or
the issuance of the debtors stock.
Creditor should account for the noncash assets or equity interest
received at their fair value.
14-65
16,000,000
4,000,000
20,000,000
14-66
20,000,000
5,000,000
21,000,000
4,000,000
Investment
Allowance for Doubtful Accounts
Note Receivable from Union Mortgage
14-67
16,000,000
4,000,000
20,000,000
14-68
20,000,000
3,200,000
12,800,000
4,000,000
2. Modification of Terms
A debtors serious short-run cash flow problems will lead it to
request one or a combination of the following modifications:
1.
2.
3.
4.
2.
Extending the maturity date from December 31, 2013, to December 31,
2017 ( 4 more years) ; and
3.
11,880,000-10,500,000=1,380,000
356,056
363,944
720,000
Maturity
date:
Dec. 31,
2017
Notes Payable
9,000,000
Cash
9,000,000
Market
Interest rate:
12%
2,593,428
2,593,428
Illustration 14A-4
720,000
228,789
Interest Revenue
948,789
9,000,000
1,500,000
Notes receivable
10,500,000
Creditor Accounting
7,000,000*8%