Bonds and Long-Term Notes
Bonds and notes are very similar.
obligate the issuing corporation to repay a
stated amount (e.g., the
) at a specified
In return for the use of the money borrowed, the company also agrees to pay
to the lender between the issue date and maturity.
The periodic interest is a stated
percentage of face amount.
In concept, bonds and notes are accounted for in precisely the same
Normally a company will borrow cash from a bank or other financial institution by signing a
Corporations, especially medium- and large- sized firms, often choose to
borrow cash by issuing bonds and instead of borrowing from a lending institution, it borrows
from the public.
A bond issue, in effect, breaks down a large debt into manageable parts ($1,000
units) which makes it more attractive to individual and corporate investors.
typically have longer maturities than notes.
The most common form of corporate debt is bonds.
In order for Brandon to sell its bonds that pay only 11.5% stated interest in a 12.25% market
the bonds would have to be priced at a discount from face amount.
The discount would be the
amount that causes the bond issue to be
priced to yield the market rate
In other words, an
investor paying that price would earn an effective rate of return on the investment equal to the
12.25% market rate.
Rising interest rates, other factors remaining the same, cause prices of fixed-rate securities to
For the investor in these securities, the price decline represents a loss; but for Cordova
Tools, the debtor, the decline in the value of the liability is a gain. If Cordova has elected the fair
value option for the bonds, it will report the gain on change in the fair value of the bonds in its
For all long-term borrowings, disclosure should include (a) the fair values, (b) the aggregate
amounts maturing, and (c) sinking fund requirements (if any) for
each of the next five years
GAAP requires that the entire issue price of convertible bonds be recorded as debt, precisely
the same way, in fact, as for nonconvertible bonds.
On the other hand, the issue price of bonds
with detachable warrants is allocated between the two different securities on the basis of their
The difference is based on the relative separability of the debt and equity features of the two
In the case of convertible bonds, the two features of the security, the debt and the