Chapter 11 - Sol. of assigned problems

Chapter 11 - Sol. of assigned problems - Chapter 11...

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Chapter 11 Reporting and Interpreting Bonds E11–2 Req. 1 Cash is increased on the balance sheet. Bonds payable and premium on bonds payable are increased on the balance sheet. The financial leverage ratio will increase but the times-interest-earned ratio will not be affected until interest expense is recognized and recorded. January 1, 2005: Cash (A). ................................................................................. 600,656 Premium on bonds payable (L). .......................................... 100,656 Bonds payable (L). .............................................................. 500,000 Principal: $500,000 x p n=10;i=8% (Table A.2; .4632). ....................................... $231,600 Interest: ($500,000 x 11%) x P n=10;i=8% (Table A.4; 6.7101). ......................... 369,056 Issue (sale) price. ..................................................................................... $600,656 Req. 2 The interest expense will increase on the income statement causing a decrease in net income, in retained earnings, and in shareholders’ equity. Cash will decrease on the balance sheet. The premium on bonds payable will decrease on the balance sheet by a smaller amount than the decrease in shareholders’ equity. Hence, the financial leverage ratio will increase. The times-interest-earned ratio will decrease because of the increase in interest expense. Req. 3 December 31, 2005: Income Statement: Bond interest expense $44,934 The amount of interest paid should be reported either at the bottom of the cash Flow Statement or in a supplemental note. Balance Sheet: Long-term Liabilities Bonds Payable $500,000 Add: Unamortized premium ($100,656 - $10,066) 90,590 $590,590
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Cash Flow Statement: The amount of interest paid is disclosed at the bottom of the statement or in a note related to this statement. E11–3 The effective interest rate for a bond is determined by market forces and not by the company. Apple was able to specify the coupon rate for the bonds which determines the periodic interest payments. It appears that Apple intended to sell the bonds close to par value, which would be achieved by having a coupon rate that was the same as the market rate. The market rate of interest continually changes as a result of such factors as inflation expectations and the level of business activity. It is virtually impossible to issue a bond at a point when the coupon rate and the market rate are exactly the same. Apple came very close because the bonds sold for 99.925% of par. This small difference in interest rate may result in a large discount in dollars if the bond issue is relatively large. In this particular case, the bond discount is $225,000 ($300 million x 0.075%). E11–6
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This note was uploaded on 08/19/2008 for the course COMM 217 taught by Professor Smroz during the Summer '07 term at Concordia Canada.

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Chapter 11 - Sol. of assigned problems - Chapter 11...

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