FINAL Ch. 14 Financing Liabilities Review Flashcards (Notes and Bonds Payable)

A set of 50-ish vocabulary-style flashcards covering the concepts, accounting treatments, and characteristics of financing liabilities like notes and bonds payable.

Notes payable

Formal credit arrangements between a creditor (lender) and a debtor (borrower) that require the payment of a specified face amount, i.e., the principal, at a fixed maturity date.

Maturity date

A future date the debtor or borrower is required to pay the principal amount of a loan and interest back to the creditor or the person who loaned the money

Principal

The face amount of a note payable is the amount of money the debtor is borrowing from the creditor, also referred to as the par, face, or maturity value.

Current liabilities

Short-term notes payable reported on the balance sheet because they are due and payable within $1$ year from the balance sheet date or operating cycle, whichever is longer.

Reasons companies uses short-term notes payable

Include having a lower interest rate and less costly compared to long-term notes payable, small businesses or firms will lower credit scores cannot finance or obtain a long-term note payable to raise their capital, the debt can help temporarily fill in the gaps when cash flows are not sufficient to help meet the business's current liquidity needs, and the term (life) of the note matches well within the firm’s operating cycle

Record the Issuance of a short-term note payable

Dr. Cash

Cr. Short-term Notes Payable

Record the accrued interest on a short-term note payable

Dr. Interest expense

Cr. Interest payable

Recording the payment of a short-term notes payable

Dr. Interest expense (interest accrued in the year of maturity)

Dr. Interest payable (interest accrued from previous year of maturity)

Dr. Short-term notes payable (principal amount of loan)

Cr. Cash (principle + interest)

Accrued

Something Accumulating or increasing over time

How do you find the interest expense amount

Principle of note * Interest rate * Time (to end of operating cycle or maturity date)

Term loans

Long-term notes that typically require the borrower to pay interest each period, with the principal due only at maturity.

Installment loans

Long-term notes that require a fixed payment each period that includes both interest and principal.

Periodic interest (Installment Loan)

Calculated as the beginning balance of note payable multiplied by the periodic interest rate.

Principal payment (Installment Loan)

The portion of a fixed payment remaining after subtracting the interest payment.

Discount (Note Payable)

The difference between the face value and present value of a note when the stated rate is less than the market interest rate.

Effective interest method

The method used to amortize the discount on notes payable to interest expense over the loan term.

Discount on Notes Payable

A contra-liability account that decreases the note value and is amortized to interest expense.

Bond payable

A debt instrument typically issued for a period greater than a year that requires the debtor to repay the principal balance at a specified maturity date.

Bond issuer

The debtor or borrower who issues the bond to lenders.

Bondholder

The creditor or lender who purchases the bond.

Credit rating

An opinion on a company's credit quality given by agencies such as Standard & Poor’s and Moody’s, expressed as a letter grade.

AAA rating

The highest credit rating from Standard & Poor's, indicating an extremely strong capacity to meet financial commitments.

Bond indenture

A contract between the corporation and the bondholders that outlines debt covenants, enforcement, and the type and terms of the bond.

Debt covenants

Compliance agreements that place restrictions on the corporation to protect bondholders' interests and ensure cash is available for repayment.

Compensating balances

Restricted deposits that a debtor is required to maintain to support existing lending arrangements.

Technical default

Occurs when a debtor violates one or more terms of its debt covenants.

Actual default

Occurs when a debtor misses interest and/or principal payments.

Secured bonds

Bonds that use specific assets as collateral.

Debenture bonds

Unsecured bonds that do not have collateral backing.

Serial bonds

Bonds that have multiple maturity dates.

Term bonds

Bonds that have a single maturity date.

Callable bonds

Bonds that can be called at the corporation's option at specified dates.

Stated interest rate

The nominal or coupon rate used to calculate the amount of cash interest the issuer will pay, expressed as an annual rate.

Bond price

The sum of the present value of the par value and the present value of the interest payments based on the market interest rate.

Discount (Bond issuance)

Occurs when the bond price is less than the face value because the stated rate is less than the market rate.

Premium (Bond issuance)

Occurs when the bond price is greater than the face value because the stated rate is greater than the market rate.

Effective interest rate

The actual return that the investors will receive, also known as the market rate or yield.

Par value quote

A bond price quote of $100\%$, meaning the bond price equals the face value.

Discount on Bonds Payable

A contra-liability account that decreases the bond value; carrying value equals bonds payable minus this account.

Premium on Bonds Payable

A liability account that increases the bond value; carrying value equals bonds payable plus this account.

Effective interest expense

Calculated as the periodic historical market interest rate multiplied by the carrying value of the bond at the beginning of the period.

Cash interest payment

Calculated as the par value of the bond multiplied by the periodic stated interest rate.

Zero-coupon bonds

Bonds that do not pay cash interest because the coupon rate is zero; they are typically issued at a significant discount.

Accrued interest (Bond Sale)

The amount a buyer must pay the issuer when bonds are sold between interest dates, representing interest from the prior date to the issue date.

Bond issue costs

Costs deducted from the carrying value of the bond payable by increasing the discount or decreasing the premium.

Debt extinguishment

The early retirement of bonds before maturity, which generally results in a gain or loss.

Gain on early extinguishment

Recognized when the retirement price of the debt is less than the net carrying value.

Loss on early extinguishment

Recognized when the retirement price of the debt is greater than the net carrying value.

Convertible bonds

Financial instruments that enable the holder to convert the bonds into a specified number of preferred or common shares.

Hybrid security

A security, such as a convertible bond, that possesses characteristics of both debt and equity.

Stock warrants

Long-term options to acquire a stated number of shares of common stock for a stated price, often issued with bonds.

Detachable warrants

Warrants that can be removed by the holder and sold separately on the secondary market.

Nondetachable warrants

Warrants that cannot be separated from the bond; proceeds are typically assigned entirely to the debt issue.

Current maturities of long-term debt

The reclassification of a long-term obligation as a short-term obligation when it becomes payable within the next year.

Callable obligations

Liabilities for which the creditors can require immediate payment when specified conditions or violations occur.

Fair value option

An irrevocable election to value financial assets and obligations at fair value to offset volatility in reported earnings.

Sinking fund

Cash or other assets held in a separate account specifically used to repay debt at maturity.