Bonds

Question 1

Convertible Debt Securities

Answer 1

those debt securities which are convertible into common stock of the issuer or an affiliated company at a specified price at the option of the holder and which are sold at a price or have a value at issuance not significantly in excess of the face amount.

Question 2

Refinancing of Short Term Obligations

Answer 2

when repaid after the balance sheet date and subsequently refinanced before the issuance of the balance sheet must be classified as current liabilities as of the balance sheet date, because current assets were used for the repayment.

Question 3

Portion of Long Term Debt

Answer 3

due within the next fiscal period is not classified as current if the maturing portion will be paid from the proceeds of a new bond issue or noncurrent assets.

Question 4

Amortization of Bond Premium

Answer 4

decreases interest expense and the carrying amount of the bond for the issuer

Question 5

Amortization of Bond Discount

Answer 5

increases the issuer’s interest expense and the carrying amount of the bond.

Question 6

HTM Securities

Answer 6

Subsequent to purchase, carried in the investment account at cost, net of premium or discount amortization to date, with a separate valuation account for any difference between unamortized cost and fair value. If there is a decline in market value which is deemed permanent, then the security should be written down to fair value by a credit to the investment account, and a realized loss is recognized.

Question 7

Detachable Stock Purchase Warrants

Answer 7

The proceeds from the issuance is to be allocated to paid-in capital (the warrants) and to debt (the bonds) based on the relative fair values of the two securities at the time of issuance. When only the market value of the warrant is known, it is used to record the paid-in capital attributable to the issuance of the warrants. The remainder of the proceeds is recorded in debt accounts.

Question 8

Troubled Debt Restructuring

Answer 8

the total fair value of the consideration given to discharge the obligation will always be less than the recorded amount of the debt.

Question 9

Market Value Method

Answer 9

may result in a gain or loss because the stock is to be recorded at the market value of the stock (or bonds) and the carrying amount of the debt is to be removed from liability accounts. A difference between the market value of the stock and the carrying amount of the debt is to be recorded as a gain or loss

Question 10

Bond Purchased Between Interest Payment Dates

Answer 10

the purchaser/borrower will also include the accrued interest through the purchase date in the total cash paid for the bonds. When a bond is purchased at a discount, the carrying value of the bond will be lower than the face value of the bond. Therefore, a bond purchased between interest dates at a discount has a carrying amount that is lower than both the cash paid to the seller and the face value of the bond.

Question 11

Bond Market Value

Answer 11

• The present value of cash flows from interest (calculated at the stated rate) and discounted at market rate, and
• The present value of the principal discounted at the market rate of interest.
These two amounts are added together to get the market price or selling price of the bond.

Question 12

Serial Bonds

Answer 12

issued at the same time but having different maturity dates. These are also called installment bonds because they provide a series of installments for repayment of principal.

Question 13

Debenture Bonds

Answer 13

unsecured bonds; they are not supported by a lien or mortgage on specific assets, but they mature at the same time

Question 14

Term Bonds

Answer 14

mature on a specified date. Variable rate bonds have a fluctuating interest rate, but mature at the same time.

Question 15

Non - Interest Bearing Notes

Answer 15

must be recorded at the fair value of the property, goods, or services exchanged, or at an amount which approximates the market value of the note, whichever is the more clearly determinable. If neither of these amounts can be determined, the note should be recorded at its present value, computed by discounting all future payments of the note at the prevailing rate of interest for similar notes.

Question 16

Sinking Fund

Answer 16

When cash is transferred to a sinking fund account, the sinking fund balance increases for the amount of cash transferred. When this cash is used to purchase investments, there is no effect in the balance of sinking fund, only the composition changes - cash becomes investments or a current asset becomes a non-current asset. Revenue earned on the investments is reported as income in the income statement and is added to the sinking fund account. Therefore, the sinking fund increases with the revenue earned on investments and is not affected when investments are purchased.

Question 17

Discounts and Premiums

Answer 17

Discounts and premiums directly determine the carrying amount of the bond; they are not handled as deferred charges or credits.

Question 18

Cash Flows from Bond Purchase

Answer 18

The purchaser of a bond acquires the right to receive two cash flows: a lump sum paid at maturity for the face amount of the bond, and an annuity consisting of periodic interest payments over the life of the bond. The price the market is willing to pay for the bond is equal to the present value of these two cash flows, discounted at the prevailing market interest rate for bonds having the same maturity and perceived degree of risk.

Question 19

Proceeds from Sale of Debt with Stock Purchase Warrants

Answer 19

allocated between the two instruments based on the relative fair values of the debt security without the warrants and the warrants themselves.

Question 20

Investor: Bond Initial Recording

Answer 20

at an amount equal to the purchase price of the bond plus other direct costs of acquisition, such as broker’s fees

Question 21

Purchase of Bonds Between Interest Dates

Answer 21

(1) if it buys bonds between interest dates, it will have to pay an additional amount for the interest accrued on the bond since the last interest date (or the bond date, if before the first interest date); and (2) it must record the additional amount paid due to purchasing the bonds between interest dates as purchased interest, such as interest receiv¬able, rather than adding it to the cost of the bond investment.

Question 22

Bond Issue Costs

Answer 22

cost directly associated with bond issuance e.g., printing & engraving costs, legal & accounting fees, underwriter commissions, promotion costs, etc. deducted from the carrying value of bonds and amortized using effective interest method

Question 23

Convertible Debt Securities

Answer 23

convertible into common stock of the issuer or an affiliated company at a specified price at the option of the holder.

Question 24

Bond Issued at a Discount

Answer 24

A bond that is issued with a stated rate of interest that is less than the effective rate on the issuance date; will have an increasing carrying value and an increasing amount of interest expense.

Question 25

Amortization of Bond Premium

Answer 25

decreases interest expense and the carrying amount of the bond for the issuer

Question 26

Amortization of Bond Discount

Answer 26

increases the issuer’s interest expense and the carrying amount of the bond.

Question 27

Book Value Method

Answer 27

the paid-in capital accounts are credited for the carrying amount of the debt; no gain or loss is recognized on the conversion.
The market price per common share is irrelevant under this method.

Question 28

Market Value Method

Answer 28

recognizes a gain or loss on retirement equal to the difference between the carrying amount of the debt at the date of the conversion and the fair value of the shares issued upon conversion.

Question 29

Stock Dividends: Recording

Answer 29

a charge is made to retained earnings (thereby making a portion of retained earnings no longer available for distribution) and credits are made to paid-in capital accounts; total stockholders’ equity is not affected. The amount of retained earnings capitalized depends on the size of the stock dividend and the effect the dividend has on the market value of the shares.

Question 30

Stock Rights

Answer 30

have no impact on net income. No entry is required when stock rights are issued to existing stockholders (other than a memorandum entry).

Question 31

Retained Earnings does not include

Answer 31

• Gains from treasury stock transactions
• Gifts of property
• Additions to owners’ equity attributable to reappraisals of property
• Accumulated balance of other comprehensive income

Question 32

Stock Dividend: Cost Method

Answer 32

the cost of the common stock investment would be divided by the number of common shares owned after the stock dividend to compute a new cost basis per share.

Question 33

Stock Dividend: Equity Method

Answer 33

the carrying amount of the investment would be divided by the increased number of common shares owned as a result of the stock dividend to compute a new carrying amount per share.

Question 34

Transfer of Nonmonetary Asset: Nonreciprocal Transfer

Answer 34

recorded at the fair value of the asset transferred, and a gain or loss should be recognized on the disposition of the asset equal to the difference between the fair value and carrying amount of the asset.