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Chapter 22

Chapter 22. Long-Term Bonds. LO1. Bond Selling Price. Bond Certificate at Par Value. Learning Objective 1 Compare bond financing with stock financing. Bond Issuing Procedures.

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Chapter 22

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  1. Chapter 22 Long-Term Bonds

  2. LO1 Bond Selling Price Bond Certificate at Par Value Learning Objective 1 Compare bond financing with stock financing.Bond Issuing Procedures Bonds are securities that can be readily bought and sold. A large number of bonds are traded on the New York Exchange and the American Exchange. Since bonds are bought and sold in the market, they have a market value, or price. For convenience, bond market values are expressed as a percent of their par value. Investors Corporation At regularly scheduled dates during the life of the bond, the company pays the bondholders interest. Interest is calculated as Bond Par Value times the Stated Interest Rate on the bond times the length of time the bond has been outstanding during the year. Just like all interest rates, the stated interest rate is expressed on an annual basis.

  3. LO1 Bond Par Value at Maturity Date Bond Issuing Procedures Corporation Investors At the maturity date, the company pays the bondholders the bond’s par value. Bond Issue Date Bond Maturity Date

  4. King Co. issues the following bonds on January 1, 2010 Par Value = $1,000,000 Stated Interest Rate = 10% Interest Dates = 6/30 and 12/31 Bond Date = Jan. 1, 2010 Maturity Date = Dec. 31, 2029 (20 years) LO2 Learning Objective 2Prepare entries to record bond issuance and bond interest expense. Issuing Bonds at Par The entry on June 30, 2010, to record the first semiannual interest payment is . . . $1,000,000 × 10% × ½ year = $50,000This entry is made every six months until the bonds mature.

  5. LO3 Learning Objective 3Compute and record amortization of bond discount. Prepare the entry for Jan. 1, 2010, to record the following bond issue by Rose Co. Par Value = $1,000,000Issue Price = 92.6405% of par valueStated Interest Rate = 10%Market Interest Rate = 12%Interest Dates = 6/30 and 12/31Bond Date = Jan. 1, 2010 Maturity Date = Dec. 31, 2014 (5 years) } Bond will sell at a discount.

  6. LO3 Contra-Liability Account Issuing Bonds at a Discount $1,000,000´92.6405% Amortizing the discount increases Interest Expense over the outstanding life of the bond. On Jan. 1, 2010, Rose Co. records the bond issue as follows.

  7. LO3 Issuing Bonds at a Discount Using the straight-line method, the discount amortization is $7,360 every six months. $73,595 ÷ 10 periods = $7,360* *(rounded) Make the following entry every six months to record the payment of interest and the amortization of the discount. $73,595 ÷ 10 periods = $7,360 (rounded) $1,000,000 × 10% × ½ = $50,000

  8. Prepare the entry for Jan. 1, 2010, to record the following bond issue by Rose Co.Par Value = $1,000,000Issue Price = 108.1145% of par valueStated Interest Rate = 10%Market Interest Rate = 8%Interest Dates = 6/30 and 12/31Bond Date = Jan. 1, 2010 Maturity Date = Dec. 31, 2014 (5 years) LO4 Learning Objective 4Compute and record amortization of bond premium. Bond will sell at a premium. Adjunct-Liability Account

  9. LO4 Issuing Bonds at a Premium Using the straight-line method, the premium amortization is $8,115 every six months. $81,145 ÷ 10 periods = $8,115 (rounded) This entry is made every six months to record the payment of interest and the amortization of the premium. $81,145 ÷ 10 periods = $8,115 (rounded) $1,000,000 × 10% × ½ = $50,000

  10. LO5 Learning Objective 5Record the retirement of bonds. When bonds are paid off at maturity, the carrying value of the bond will equal the par value; the journal entry to record the transaction simply includes a debit to Bonds Payable and a credit to Cash. Assume that Rose Co. permits its bondholders to convert their bond certificates for 100,000 shares of the company’s $5 par value common stock. At the time of conversion, the carrying value of the bonds is $1,024,340. The following entry is required.

  11. LO6 On December 31, 2010, the sinking fund manager reported interest earned. Ross makes this entry . . . Learning Objective 6Prepare entries to account for bond sinking funds. On January 1, 2010, Rose Co. issues $1,000,000 par value bonds due in 5 years. The company is required to make 5 contributions of $180,975 into a sinking fund that will earn 5% interest on all contributions. On January 1, 2010, Ross makes the first contribution to the sinking fund and prepares the following entries.

  12. LO6 Bond Sinking Funds When the bonds mature, Ross will use the money from the Bond Sinking Fund to extinguish the bond issue. Features of Bonds and Notes Secured and Unsecured Convertible and Callable Registered and Bearer Term and Serial

  13. LO7 Learning Objective 7Assess debt features and their implications. Notes are typically between a company and a single lender, such as a bank. When the note payable is issued, the lender provides the cash to the company and the company signs a note payable contract agreeing to repay the principal plus interest. For some notes, the note principal and interest are paid in a single payment at the end of the note term. Other notes require regular payments during the note term. In some cases, the regular payments consist of equal principal payments plus interest. In other cases, the regular payments consist of equal payments that include both principal payments and interest payments. In cases where the payments include equal principal payments, the payment amounts decrease over time as interest expense decreases. In cases where the payments are equal, the amount of the principal payment increases each year as the interest expense decreases.

  14. A legal agreement that helps protect the lender if the borrower fails to make the required payments. Gives the lender the right to be paid out of the cash proceeds from the sale of the borrower’s assets specifically identified in the mortgage contract. LO7 Debt-to-Equity Ratio Total Liabilities Total Equity = Mortgage Notes and Bonds Operating Leases A lease is a contractual agreement between a lessor (asset owner) and a lessee (asset renter or tenant). The lessee has the right to use the asset for a period of time in exchange for cash payments to the lessor. LO8 Learning Objective 8Compute the debt-to-equity ratio and explain its use. This ratio helps investors determine the risk of investing in a company by dividing its total liabilities by its total equity. The lower the number, the safer the investment will be.

  15. LO9 Learning Objective 9Describe the accrual of bond interest when bond payments do not align with accounting periods. On2/1/09, Matrix, Inc. issues 1,000 bonds at face value plus accrued interest to Webster, Inc. The market interest rate is 10%. Face Value = $1,000 Maturity Date = 12/31/11 (5 years) Stated Interest Rate = 10% Interest Dates = 6/30 & 12/31 Bond Date = 1/1/09

  16. End of Chapter 22

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