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FAR > Bonds and Debt Restructuring > Flashcards

Bonds and Debt Restructuring Flashcards

1
Q

What is a serial bond?

A

Any bond that matures in installments

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2
Q

What is a term bond?

A

Any bond that matures on a single date

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3
Q

What is a debenture bond?

A

A bond not secured by any collateral

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4
Q

What is a sinking fund bond?

A

Cash is held in a sinking fund for repayment of bond at maturity
5 years of requirements and maturity details should be disclosed

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5
Q

What is the formula to calculate proceeds of a bond sale?

A

Present Value of the principal payment at maturity + Present Value of Interest Payments made = Market Value of Bond Proceeds

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6
Q

How is the present value of a bond calculated?

A

Step 1: PV of $1 @ Yield Rate (not Stated Rate) x Bond Face Value

PLUS

Step 2: PV of an Ordinary Annuity of $1 for Term @ Yield x (Stated Rate x Face)

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7
Q

Which costs are included in bond issuance costs? How are they recorded?

A

Include Engraving; Printing; Legal; Underwriter; Registration
Debited to a deferred charge account and amortized over life of Bond using S/L
Bond Proceeds - Bond Issuance Costs = Net Bond Proceeds
Time of amortization begins when issued

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8
Q

How are bonds amortized under the interest method?

A

Both discount and premium amortization amounts increase each year

(GAAP accepted method of amortizing discounts and premiums)

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9
Q

Describe the book value method when converting from bonds to stocks.

A

No gain or loss recognized

APIC is the plug for the difference between the Bond’s Book Value and the Par Value of the Common Stock

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10
Q

What is the stated rate for a bond?

A

Rate on the face of the bond

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11
Q

What is the market rate on a bond?

A

Rate that bonds are currently selling for

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12
Q

What happens when the bond’s market rate is greater than the stated rate?

A

Bond will need to sell at a discount in order for buyers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for less than par value

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13
Q

What happens when a bond’s market rate is less than the stated rate?

A

Bond will need to sell at a premium in order for buyers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for more than par value

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14
Q

How does accrued interest on a bond affect the purchase price?

A

The total cash that seller receives will be MORE than they normally would (set aside any considerations for premium or discount; they are irrelevant for this point).

Basically; the purchaser of the bonds must give the bond issuer the amount of accrued interest up front.

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15
Q

When does interest expense start accruing on a bond?

A

When the bonds are issued

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16
Q

How is an interest payment on a bond calculated?

A

Cash for payment = Stated rate x Face amount

17
Q

What amount of interest is expensed on a bond interest payment?

A

Interest expense = effective yield x carrying value

Any difference between expense and cash payment is applied as amortization against premium/discount

18
Q

What are convertible bonds? Which recording method is used?

A

Bonds that can be converted to stock
Book value method used if no gain or loss
Market value method used if there is a gain or loss

The interest rate on convertible bonds are typically lower than non-convertible bonds

19
Q

How is the retirement of bonds recorded?

A

Gain or Loss on the Income Statement as part of Continuing Operations, unless both unusual & infrequent, then reported as extraordinary item

20
Q

When is a gain recognized in a debt restructuring?

A

If terms are modified; and future payments are now less than the carrying amount of the debt; then a Gain is recognized

21
Q

What is the gain recognized under a settlement of debt?

A

Gain recognized:

Difference between cash paid and carrying amount of debt

Difference between non-cash asset given and re-valued at FMV and debt carrying amount

22
Q

For a creditor; how is a loan impairment recorded?

A

If future cash flows discounted at loan’s Effective Interest Rate are less than Carrying Value:

Effective Rate calculated using original rate; not modified rate

23
Q

What is the carrying amount of a bond?

A

Net amount at which the bond is being reported on the balance sheet

FV + premium or - discount

AKA “Book Value”

Initially the same as issue price, but gradually approaches the FV as time passes since premium/discount is amortized over life of bond

24
Q

Callable Bond

A

A bond which the issuer has the right to redeem prior to maturity

25
Q

Covenants

A

Restrictions that borrowers must agree to

26
Q

If an entity chooses not to elect the FV method to value its bonds, how is the bond and premium/discounts reported?

A

Bond is recorded at issue price

The effective interest method is used to amortize the discounts/premiums

27
Q

If an entity chooses to elect the FV method to value its bonds, how are the bonds recorded?

A

Bonds are reported at FV at the end of each reporting period, and the resulting gain or loss is reported in earnings.

28
Q

3 ways to restructure debt:

A
  1. Transfer of Property
  2. Equity Interest in the Debtor is Issued
  3. Modification of Terms
29
Q

When restructuring debt with a Transfer of Property, how do the debtor and creditor record this?

A

Debtor:
Difference between the CV of debt and FMV of the asset giving up = Ordinary Gain/Loss or Extraordinary Gain

Creditor:
Records new asset at FMV and recognizes an Ordinary Loss

30
Q

When restructuring debt with Issuing Equity Interest in the Debtor - how is this recorded?

A

Equity is recorded as if issued for FMV

Difference between the CV of the Debt and the FMV of the Equity - Gain

31
Q

How can you restructure debt by modifying the Terms?

A
  • Reduction of the interest rate
  • Extension of the Maturity Date
  • Reduction of the Face amount and Accrued Interst

If future payments < Obligation : Gain to Debtor and Ordinary Loss to Creditor

If future payments > Obligation: No Gain/Loss; Considered an adjustment to the interest rate

32
Q

Under IFRS, how is the debt portion of convertible bonds shown in the financial statements : equity or a liability?

A

Bonds are shown as a liability at the PV of payments to be made

The remaining is shown as equity

33
Q

What is the difference between interest payable and interest expense when using the effective interest method to calculate the amortization of a premium or discount on a bond?

A 
Interest Payable is the actual cash payment.  (Face x Stated Rate)
Interest Expense (CV x Effective Rate)

The difference between the 2 is the amortization of the premium or discount

34
Q

What is the effect of changing an investment classification from Trading Security to HTM?

A

No change is reported in Net Income or OCI

The gain or loss would have already been recorded in Net Income

The investment is recorded at the value it was at when it was a trading security even if there were any previous gains/losses on the investment. It is not recorded at it’s original cost. From that point forward it is held at that value and then any discounts or premiums are then amortized.

35
Q

What is the effect of changing an investment classification from HTM to AFS?

A

When HTM is reclassified as AFS it should be recorded at it’s fair value. Any change in value should be recorded in OCI.

36
Q

What is the effect of changing an investment classification from AFS to Trading?

A

The AFS has already been valued at its FV with changes being recorded in OCI. When it is reclassified as a Trading Security the gain/loss that was recorded in OCI is removed and is recorded in the Income Statement

37
Q

What is the effect of changing an investment classification from Trading Security to AFS?

A

Any gain/loss on the trading security has already been recorded in Net Income.

No other changes are to be made at the time of reclassification. The gain/losses will now start to be recorded in OCI.

38
Q

What is the effect of changing an investment classification from HTM to Trading Security?

A

An Investment that is HTM is held at it’s original cost. So, when it is reclassified as trading, the investment is then valued at it’s FV and any gain/loss from the original cost is recorded in Net Income.

FAR (20 decks)

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