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par value
Bond is a written promise to pay an amount identified as the _____ (or face value) of the bond along with Interest (usually semiannually) at a stated annual rate
Advantages of Bonds:
stock holder
Bonds do not affect _________ control as they have no ownership control
Advantages of Bonds:
Tax deductable
Interest on bonds is __________ unlike dividends to stockholders
Disadvantages of Bonds:
Increase
Bonds can _______ return on equity by earning a higher rate than they are paying out
Disadvantages of Bonds:
Interest, maturity
Bonds require periodic _____ payments and payment of the par value at _______
Bond Trading
1. Are usually in denominations of 1,000 or 5,000
2. Have a market value expressed as a of their par (face) value (103 ½ or 95)
3. Bond Indenture – legal document between bondholders and issuer
Issuing bonds at par
1. Record the sale
2. Interest expense = Face x Interest Rate x Interest Period
3. Maturity date
Interest expense =
Face x Interest Rate x Interest Period
Contract rate
annual interest rate paid by the issuer; sets the amount of interest the issuer pays in cash
Market rate
annual rate borrowers are willing to pay and lenders are willing to accept
= , par
Contract rate ___ market rate, then bond sells at ___
>, premium
Contract rate _____ market rate, then bond sells at a _____
< , discount
Contract rate____ market rate, then bond sells at a _____
present value
Bond price equals the _________ of the bond’s future cash flows discounted at the market rate
Computation is twofold
a. Present value of the maturity payment (a single sum) table B.1
b. Present value of the periodic interest payment (an annuity) Table B.3
contra – Liability
Discount on Bonds Payable is a _________ account (= par value minus issue price)
Amortization of Bond Discount
a. Total bond interest expense is the sum of the interest payments and bond discount
b. Must be amortized over the life of the bond
c. At maturity, the book value will equal the face value
Straight line
(simpler) allocates an equal portion of the total discount to bond interest expense in each of the six-month interest periods
Effective Interest Method
(Appendix 14B) (GAAP preferred method) allocates bond interest expense over the life of the bond in a way that yields a constant rate of interest
Issuing Bonds at a Premium (sells for more than the face amount)
Premium on Bonds Payable is an adjunct liability account (= issue price minus par value)
Amortization of Bond Premium
a. Total bond interest expense is the interest payment minus the bond premium
b. Must be amortized over the life of the bond
c. At maturity, the book value will equal the face value
Straight Line
(simpler) allocates an equal portion of the total premium to bond interest expense in each of the six-month interest periods
Effective Interest Method
(Appendix 14B) (GAAP preferred method) allocates bond interest expense over the life of the bond in a way that yields a constant rate of interest
Bond Retirements
A. At maturity, carrying value will equal the par value
B. Before maturity, the difference between the purchase price and the bonds carrying value is a gain or loss on retirement
C. Converted to stock, the carrying value is transferred to contributed capital with no gain or loss
Debt-to-Equity Ratio
Used to determine the risk of a company’s financing structure
Total Liabilities / Total Equity
Secured Bonds
have specific assets pledged as collateral
Unsecured Bonds
backed by the issuer’s general credit standing
Term Bonds
scheduled for payment at a single specified date
Serial Bonds
mature at more than one date
Sinking Fund Bonds
amounts set aside for repayment of the bonds
Registered Bonds
issued in the names and addresses of the holders
Bearer Bonds
not registered, payable to whoever holds them
Coupon Bonds
interest coupon is detached & presented for payment
Convertible Bonds
can be exchanged for common stock
Callable Bonds
issuer can retire them early at a stated dollar amount
Municipal Bonds
issued by state or local governments – tax-exempt
Installment Notes
1. Record initially as a single payment note
2. Payments include interest expense accruing to date of payment plus principal
Mortgage Notes
1. Pledge title to specific assets as security for the note
2. Lender has the right to foreclose if the borrower fails to pay