Unformatted text preview: ion. No spec if ic asset s are pledged as sec urit y f or debent ure bonds, sec ured
bonds on t he ot her hand is bac ked by a lien on spec if ied asset , e.g., mort gage bonds are
sec ured by a c laim on real est at e. Ot her t ypes of bonds inc lude c onvert ible, regist ered, c oupon,
c allable, and various ot her t ypes are list ed on pages 910–911. Dif f erent t ypes of bonds are
issued t o at t rac t c apit al f rom various invest ors and risk t akers.
Measurement and Valuat ion of Bonds Payable
https://blackboar d.tr u.ca/webct/ur w/lc5122001.tp0/cobaltM ainFr ame.dowebct 3/9 9/10/13 Blackboar d Lear ning System Long- t erm debt is measured at f air value on init ial rec ognit ion, inc luding t ransac t ion c ost s.
Subsequent ly, t he inst rument s are measured at amort ized c ost or in c ert ain limit ed sit uat ions,
f air value, under f air value opt ion.
Bonds c ont ain t wo set s of c ash f lows:
A series of int erest payment s t hat are based on t he int erest rat e st at ed in t he bond
indent ure (t he c oupon rat e). Sinc e t he payment s are of equal value and are rec eived at
regular int ervals, t hese c ash f lows represent an ordinary annuit y.
A single lump- sum payment payable when t he bond mat ures. T his downst ream payment
represent s a f ut ure value.
T o det ermine t he value of t he bonds on t he issue dat e, we need t o c alc ulat e t he present value
of bot h t he annuit y and t he lump- sum payment . T hese c ash f lows are disc ount ed at t he market
rat e of int erest (also known as t he ef f ec t ive rat e of int erest or t he disc ount rat e). As an aside,
t he market rat e of int erest is t he ret urn demanded by lenders t hat f ac t ors in t he risk of def ault ,
t he sec urit y pledged, and t he lengt h of t ime t o mat urit y.
If t he c oupon rat e is t he same as t he market rat e of int erest , bonds will be issued (sold) at
“par.” Anot her way of looking at it is t hat t he c redit or will lend $1,000 f or every $1,000 bond
when t he bond is paying t he same rat e as t he c redit or want s t o earn.
If t he c oupon rat e is higher (e.g., 8% per annum) t han t he market rat e of int erest (e.g.,
6% per annum), t he bonds will sell f or more t han t heir f ac e value; t hat is, t he bonds will
sell at a premium. T he reason f or t his should be f airly obvious—people are willing t o pay
more f or a bond t hat pays int erest of $40 every 6 mont hs t han t hey are f or a similar
bond t hat only pays $30 every 6 mont hs.
If t he c oupon rat e (e.g., 4%) is lower t han t he market rat e of int erest (e.g., say 6%),
t he bonds will sell f or less t han t heir f ac e value; t hat is, t he bonds will sell at a disc ount .
Again, t he reason f or t his is int uit ive—people are not willing t o pay as muc h f or a bond
t hat is only paying $20 every 6 mont hs as t hey are f or a similar bond t hat pays $30
every 6 mont hs.
Bond pric es are quot ed as perc ent age of f ac e value. F or example, let ’s look at a $1,000 bond:
Bonds selling at 100 are t rading at par and c an be purc hased f or 100% of f ac...
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This note was uploaded on 02/05/2014 for the course BUS 370 taught by Professor Andreathomas during the Spring '13 term at Capital University.
- Spring '13