ACG2021 Chapter 10 Bond Notes

# ACG2021 Chapter 10 Bond Notes - Chapter 10 Bonds Payable...

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Chapter 10 – Bonds Payable Companies issue “bonds payable” to raise capital in order to fund their operations and purchase assets. Unlike the issuance of stock to raise capital, bonds create legal obligations (liabilities) for the company to pay both interest and the principle (face value) of the bond to the investor at specified time intervals. Some general facts about bonds: 1. They are recorded at PRESENT VALUE on the balance sheet – NOT at “historical” cost. 2. The carrying value (face value + or – any discount or premium) CHANGES every time an interest payment is due (for the purposes of this class, this will be either annually or semi-annually). 3. Bonds can either be issued at par value, a discount, or a premium Par Value – Stated (coupon) rate = the market rate of interest, and the price paid for the bond EQUALS the face value of the bond Discount – Stated (coupon) rate < the market rate of interest, and the price paid for the bond is LESS than the face value of the bond Premium – Stated (coupon) rate > the market rate of interest, and the price paid for the bonds is MORE than the face value of the bond 4. Face value = contract value of the bond (the principle to be repaid at maturity) 5. Bond prices are INVERSELY related to the market rate of interest. For this class, the market rate of interest will ALWAYS remain in the same for problems where you need to CALCULATE interest expense, etc.; however, in the real world, the market rate changes daily. The general rule of thumb is as follows: If the market rate INCREASES , the price of the bond DECREASES , and if the market rate DECREASES , the price of the bond INCREASES . You will see why this is when we get to the calculations 6. The stated (or coupon) rate is the contracted rate that the company offers its investors for the bond. The stated (coupon) rate determines the CASH © Scott Friend, 2008

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PAYMENT that the company must make to the investor – ALWAYS. So, for instance, if Company X issued a \$100,000 par value bond that pays interest annually with a stated rate of interest of 10%, then the COMPANY will PAY OUT a cash interest payment EVERY YEAR (until maturity) of \$10,000. 7. Lastly, there are 2 methods of recording bonds payable entries in this course. The first is called the EFFECTIVE INTEREST METHOD . This method is allowable under GAAP, and results in a changing interest expense recognized by the company every interval that interest is paid out. The second method is called STRAIGHT-LINE AMORTIZATION and this is NOT allowable under GAAP; however, it is a more simple calculation and is often used in this course to demonstrate how the bonds payable transactions work. Both will be on your exam. STEPS FOR SOLVING BONDS PAYABLE PROBLEMS
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## This test prep was uploaded on 04/20/2008 for the course ACG 2021C taught by Professor Mcdonald during the Spring '08 term at University of Florida.

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ACG2021 Chapter 10 Bond Notes - Chapter 10 Bonds Payable...

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