chapter 10 concepts Flashcards
Current liability
A debt that a company reasonably expects to pay (1) from existing current assets or through the creation of other current liabilities, and (2) within one year or the operating cycle, whichever is longer.
The different types of current liabilities include:
notes payable, accounts payable, unearned revenues, and accrued liabilities such as taxes, salaries and wages, and interest.
Bonds
A form of interest-bearing notes payable issued by corporations, universities, and governmental entities.
Secured bonds
Bonds that have specific assets of the issuer pledged as collateral.
Unsecured bonds
Bonds issued against the general credit of the borrower.
Convertible bonds
Bonds that can be converted into common stock at the bondholder’s option.
Callable bonds
Bonds that the issuing company can redeem (buy back) at a stated dollar amount prior to maturity.
Bond certificate
A legal document that indicates the name of the issuer, the face value of the bonds, and other data such as the contractual interest rate and the maturity date of the bonds.
Face value (par value)
Amount of principal due at the maturity date of the bond.
Maturity date
The date on which the final payment on a bond is due from the bond issuer to the investor.
Contractual (stated) interest rate
Rate used to determine the amount of interest the borrower pays and the investor receives. Usually an annual rate.
Time value of money
The relationship between time and money. A dollar received today is worth more than a dollar promised at some time in the future.
Present value
The value today of an amount to be received at some date in the future after taking into account current interest rates.
The current market price (present value) of a bond is therefore a function of three factors:
(1) the dollar amounts to be received, (2) the length of time until the amounts are received, and (3) the market interest rate.
Market interest rate
The rate investors demand for loaning funds to the corporation.
when does a company record bond transactions?
when it issues (sells) or redeems (buys back) bonds and when bondholders convert bonds into common stock.
Discount (on a bond)
The difference between the face value of a bond and its selling price when a bond is sold for less than its face value. As a result of the decline in the bonds’ selling price, the actual interest rate incurred by the company increases to the level of the current market interest rate.
Premium (on a bond)
The difference between the selling price and the face value of a bond when a bond is sold for more than its face value.
True or False Bond prices vary inversely with changes in the market interest rate. As market interest rates decline, bond prices increase. When a bond is issued, if the market interest rate is below the contractual rate, the bond price is higher than the face value.
True
what kind of bonds are sold at a discount by design?
“Zero-coupon” bonds, which pay no interest, sell at a deep discount to face value.
What is an additional cost of borrowing?
Therefore, the difference between the issuance price and the face value of the bonds—the discount. The company records this cost as interest expense over the life of the bonds.
What is amortizing the discount.
To follow the expense recognition principle, companies allocate bond discount to expense in each period in which the bonds are outstanding. Amortization of the discount increases the amount of interest expense reported each period.
What is amortizing the premium?
companies allocate bond premium to expense in each period in which the bonds are outstanding. Amortization of the premium decreases the amount of interest expense reported each period.
what is a valuation account?
one that is needed to value properly the item to which it relates. Both a discount and a premium account are valuation accounts.
True or false. Regardless of the issue price of bonds, the book value of the bonds at maturity will equal their face value.
true
The carrying value of the bonds is
the face value of the bonds less unamortized bond discount or plus unamortized bond premium at the redemption date.
Liquidity ratios measure
the short-term ability of a company to pay its maturing obligations and to meet unexpected needs for cash.
Solvency ratios measure
the ability of a company to survive over a long period of time.
Times interest earned
A measure of a company’s solvency, calculated by dividing the sum of net income, interest expense, and income tax expense by interest expense.
Contingencies
Events with uncertain outcomes that may represent potential liabilities.
Off-balance-sheet financing
The intentional effort by a company to structure its financing arrangements so as to avoid showing liabilities on its balance sheet.
Operating lease
A contractual agreement allowing one party (the lessee) to use the asset of another party (the lessor); accounted for as a rental.
Capital lease
A contractual agreement allowing one party (the lessee) to use the assets of another party (the lessor); accounted for like a debt-financed purchase by the lessee.
debt covenants.
These covenants typically are specific financial measures, such as minimum levels of retained earnings, cash flows, times interest earned, or other measures that a company must maintain during the life of the loan.
*Straight-line method of amortization
A method of amortizing bond discount or bond premium that allocates the same amount to interest expense in each interest period.
Mortgage note payable
A long-term note secured by a mortgage that pledges title to specific assets as security for the loan.
