Chapter+14+Long-term+Liabilities - Chapter 14 Long-term...

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Chapter 14: Long-term Liabilities In Chapter 13, we discussed current liabilities. These are obligations that will come due within the current operating period, requiring the use of current assets, or the creation of new current liabilities. Obligations which will not come due within the current period are classified as noncurrent . They are the subject of the current chapter. Examples include bonds payable, long-term notes payable and certain lease and pension obligations. Typically, long-term debt carries certain covenants (restrictions) that are meant to protect the interests of the lender. Bonds and notes payable arise when the company borrows money from investors. The company incurs two obligations: - the obligation to make periodic (usually semi-annual) interest payments (exception : deep- discount bonds and noninterest bearing notes), and - the obligation to repay the face amount borrowed at the maturity of the agreement. Bonds: are often issued when large amounts need to be borrowed. are usually sold through a third party, called an underwriter . are often traded in organized securities markets. have a per unit face value of (usually) $1,000 each. Term bonds or notes mature on the same day as all other debt in the same issue. Example : Firm A issues 100 $1,000 term bonds with a maturity value of $100,000, all of which mature 10 years from the date of issue. Serial bonds or notes mature in installments. Example : Firm B issues 100 $1,000 term bonds with a maturity value of $100,000. The bonds mature at the rate of $10,000 per year over a 10-year period. Determining the price of bonds (and notes) payable . Bonds usually bear a fixed rate of interest. This rate is alternatively referred to as the stated rate, the nominal rate, or the coupon rate of interest . The actual interest payment is calculated using the formula: Principal x Stated Interest Rate x Time = Periodic Interest Payment Chapter 14: Long-term Liabilities: p. 1
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The principal is the par, face or maturity value of the bond. The stated interest rate is in annual terms . The time period is in fractions of a year (i.e. 6/12 for semi-annual payments). However, the stated rate of interest is not necessarily equal to the market rate of interest . The market rate is determined by current supply and demand conditions in the financial markets, and represents the effective yield required by investors for bonds of that degree of risk . The selling price of a bond equals the present value of cash flows promised by the bond agreement . Cash flows: - periodic interest payments (an annuity stream) - principal at maturity. The discount rate is the current market rate of interest, which takes into account the riskiness of the cash flows. The higher the market rate of interest, the lower the price of the bonds.
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Chapter+14+Long-term+Liabilities - Chapter 14 Long-term...

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