Bonds/ Troubled Debt Restructure Flashcards
What is a serial bond?
Any bond that matures in installments
What is a term bond?
Any bond that matures on a single date
What is a debenture bond?
A bond not secured by any collateral
What is a sinking fund bond?
Cash is held in a sinking fund for repayment of bond at maturity 5 years of requirements and maturity details should be disclosed
What is the formula to calculate proceeds of a bond sale?
Present Value of the principal payment at maturity
+ Present Value of Interest Payments made
= Market Value of Bond Proceeds
How is the present value of a bond calculated?
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)
Which costs are included in bond issuance costs? How are they recorded?
PURE LEGAL Include Engraving; Printing; Legal; Underwriter; Registration
Debited to a deferred charge account BIC
and amortized over life of Bond using S/L
Bond Proceeds - Bond Issuance Costs =Net Bond Proceeds
Time of amortization begins when issued
How are bonds reported when classified as trading securities?
Reported at FMV with unrealized gains and losses being included in earnings
How are bonds amortized under the interest method?
Both discount and premium amortization amounts increase each year
Carrying value x effective interest rate
= interest expense/income
Describe the book value method when converting from bonds to stocks.
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
What is the stated rate for a bond?
Rate on the face of the bond
What is the market rate on a bond?
Rate that bonds are currently selling for
What happens when the bond’s market rate is greater than the stated rate?
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
What happens when a bond’s market rate is less than the stated rate?
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
How does accrued interest on a bond affect the purchase price?
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.
When does interest expense start accruing on a bond?
When the bonds are issued
How is an interest payment on a bond calculated?
Cash for payment : Stated rate x Face amount
What amount of interest is expensed on a bond interest payment?
Interest expense : effective yield x carrying value
Interest expense - cash payment
= discount/premium amortization
What are convertible bonds? Which recording method is used when converted?
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
How is the gain or loss on retirement of bonds recorded?
Gain or Loss is Ordinary Extraordinary if both unusual and infrequent
bonds payable
premium
discount cash
When is a gain recognized in a debt restructuring?
GAIN RECOGNIZED UNDER SETTLEMENT OF DEBT IS DIFFERENT
CV > SUM OF FUTURE PAYMENTS
If terms are modified; and future payments are now less than the carrying amount of the debt; then a Gain is recognized
What is the gain recognized under a settlement of debt?
Gain recognized:
Carrying amount of debt
less: cash paid to settle
= Gain
OR
Carrying amount of debt
Less: FV of asset given (revalued)
= GAIN
For a creditor; how is a loan impairment recorded?
Carrying amount is < than PV of future payments ( using old rate as effective rate)
= Impairment loss
Gain on repurchase of bonds and Loss on sale of bonds - presentation in the FS
Gain - shown separately in Other Revenues and Gains
Loss - shown separately in Other Expenses and Losses
THEY ARE SHOWN SEPARATELY
Bond Redemption:
Example: 8% 1,000,000 face 10% yield rate
carrying value 1/01/04 940,000
redeemed at 6/30/04 for 102
after paying interest Compute gain/loss
- compute carrying value up to redemption date
- compute discount/premium amortization
- carrying value - cash paid to redeem = gain/loss
940,000 x 10% x 1/2 47,000
1000,000 x 8% x 1/2 40,000
Discount amort 7,000
carrying value 940,000
plus discount _ 7,000_
total 947,000
less;cash paid 1,020,000
loss 73,000
Quick computation for bond sale/redemption gain or loss
- Compute effective interest up to sale date
- compute stated interest up to sale date
- difference is the premium/discount amort
- Add/Deduct from carrying value before sale to get the updated carrying value
- compute gain or loss = CV - cash received or paid
Troubled Debt - Modification of terms Assume FV option is not elected
Carrying value > sum of future payments (undiscounted)
Principal
+ Interest payable balance
= Total amount due
Less: Future payments: principal + interest (undiscounted)
=Gain on restructuring
Notes Payable
Interest payable (condoned)
Notes Payable (new principal)
Gain on restructuring
NOTE: FUTURE INTEREST PAYABLE IS NOT PART OF THE JOURNAL ENTRY
Troubled Debt - Settlement by transfer of property
1. write up asset to FV
Asset xx
Gain on transfer xx
2. Compute gain/loss
Notes Payable
Interest Payable
Notes Payable (new)
Asset (at FV) Gain on settlement of debt
Computation of gain/loss: CV > Restructuring gain/loss
FV > Transfer gain/loss
BV
Troubled Debt - Issuance of Stocks
Record stocks at FV
Notes Payable
Interest Payable
CS (at par)
APIC - CS
Gain on settlement of debt
Loan impairment - creditor’s books
Bad debts (impairment loss)
Notes receivable
Interest receivable
Valuation allowance
** set up amortization sched - effective interest method
** valuation allowance is the premium/discount
** interest/cash received = new principal x new rate
**interest revenue = new CV x old rate
Computation of valuation allowance in impairment
Impairment loss
Less: Principal forgiven
Interest forgiven
= Valuation allowance
Journal entry:
Cash (interest received) new principal x new rate
Valuation allowance - plug
Interest revenue/Bad debts expense ( new carrying value x old rate)
Computation of impairment loss practice p. 404 wiley problem #6
Impairment loss: Original principal amount - PV of future payments (see below) = Impairment loss (to bad debts) Present value of future payments: Present value of new principal (NP x PV OR) Interest (NP x NRate) x PV OR = PV of future payments/ new carrying amount PRACTICE SAMPLE PROBLEM IN THICK NOTEBOOK!!!
JE - issuance of convertible bonds
No value is apportioned to conversion feature JE like a regular bond Cash Discount Bonds Payable Premium
JE - issuance of bonds with detachable stock purchase warrants
Cash
Discount Bonds payable (always at face)
APIC - warrants
CASH PROCEEDS allocated between the debt and warrants using relative fair values ratio
AT ISSUE DATE
- If both fv’s at issuedate are given, calculate amounts based on both fv’s
- value of warrants - to APIC - warrants
- NON DETACHABLE warrants - NO ALLOCATION IS PREMITTED
- if only the FV of the stocks is given: Market price per bond Less: Option price per bond = FV per share of warrants X # of shares = FV of warrants
- If only the FV of warrants is given, that value is multiplied by the # of option shares;
deduct this amount from the cash proceeds to get the value of the bonds
If only one fv is known, the other is a plug
- Credit value of warrants to APIC -warrants
JE - exercise of stock detachable stock warrants PRACTICE TBS#6 P. 391 WILEY
Cash (option price) Paid in capital (reverse balance) or per share amt Common stock - AT PAR Paid in excess - plug Record cash received at option price Upon expiration: Close the APIC account
Extinguishment of Debt
is considered extinguished whenever the debtor pays the creditor and is relieved of all obligations relating to the debt
- calling a bond
- refunding - replace with new debt
- legal relief judicially or by the creditor WHEREAS IN IFRS, Modification of debt, exchange of original liability with a new financial liability with substantially different terms are considered extinguishment
Then a new financial liability is recognized
Is troubled debt restructuring a form of extinguishment of debt?
NO
Is debt conversion initiated by a debt holder a form of extinguishment of debt?
NO
Is extinguishment of debt extraordinary?
NO
JE on debt extinguishment
Loss
Bonds payable
Premium
Discount Unamortized BIC Cash
Criteria to classify as troubled debt restructuring
- the restructuring constitutes a concession
- debtor is experiencing financial difficulties
If fair value option is elected in modification of terms, how to account?
Revalue the debt at fair value and the resulting gain or loss is recognized in current earnings.
PRACTICE P. 404 WILEY for troubled debt
PRACTICE PROBLEMS
Disclosures for Bonds
Combined aggregate amount of maturities and sinking fund requirements for all long term borrowings for EACH OF THE NEXT 5 YEARS AND IN THE AGGREGATE
STRAIGHT LINE METHOD OF AMORTIZATION THIS IS NOT GAAP !
Interest income/expense is the sum of the straight line premium/discount amortization plus cash received or paid cash paid/received
= face x stated rate + SL discount/premium = interest expense/income
REMEMBER, DO NOT COMPUTE INTEREST EXPENSE/REVENUE FROM THE CARRYING AMOUNT. THIS IS THE EFFECTIVE INTEREST METHOD! IN STRAIGHT LINE, YOU DO NOT USE THE EFFECTIVE INTEREST RATE IN THE COMPUTATION!
Impairment Loss
Pr Im Present ImpPresentIk[pai
