F5.3: Long Term Liabilities and Bonds Payable Flashcards
Types of Long-Term Liabilities
Long-term liabilities include: – long-term promissory notes payable – bonds payable – Long-term leases – Long-term contingent liabilities – Purchase commitments – Equipment purchase obligations – Amounts due under deferred compensation agreements – Post-retirement pension and other benefits payable – Other financial instruments – Short-term debt expected to be refinanced – Deferred income taxes payable
Long Term Liabilities Defined
Long-term liabilities are probable future expenditures associated with current obligations that are not payable within the current operating cycle or reporting year, whichever is greater.
Bonds – Important Terms
Bond Indenture = document describing contract between issuer (borrower) and bondholders (lenders)
Face (par) value = total dollar amour of the bond and the basis on which periodic interest is paid
– bonds issued at face value when stated rate equals market rate
Stated (nominal or coupon) interest rate = interest to be paid to investors
– stated in bond contract
Market (effective) rate = interest actually earned by bondholder
Discount = amount by which bonds price is less than face value
– Bonds sold at discount when market rate > stated rate (investor pays lower price due to lower return offered)
Premium = amour be which bond price is higher that face value
– Bonds sold at a premium when market rate < stated rate (investor pays higher due to higher return offered)
Types of Bonds
Debentures = unsecured bonds
Mortgage bonds = bonds secured by real property
Collateral trust bonds = secured bonds
Convertible bonds = convertible to common stock of debtor at option of bondholder
– Nondetachable warrants = bond itself must be converted to capital stock
– Detachable Warrants = bond is not surrendered upon conversion, only warrants plus cash representing the exercise price of the warrants. The warrants can be bought and sold separately for the bonds
Participating bonds = bonds that have stated rate of interest and also allow bondholder to participate on income if certain earning levels are obtained,
Term bonds = have single fixed maturity date
– Entire principal paid at end of the term
Serial bonds = pre-numbered bonds that the issuer may call and redeem a portion by serial number
Income bonds = bonds that pay interest of certain income objectives are met
Zero coupon bonds (deep discount bonds) = bonds sold with no stated interest
– sold at discount
– redeemed at face value
– no periodic interest payments
Commodity-backed bonds (asset-linked bonds) = bonds redeemable in cash or a stated volume of a commodity! whichever is greater.
Bonds Payable vs Notes Payable
Implementing instrument = Bond (Bonds) vs. Note (Notes)
Definitive agreement = Indenture (Bonds) vs. Loan agreement (Notes)
Face amount increments = $1,000 (Bonds) vs. Negotiated (Notes)
Term = 10 - 30 years (Bonds) vs. Negotiated (Notes)
Payments prior to maturity = interest only (Bonds) vs. Negotiated (Notes)
Payment at maturity = Principal (Bonds) vs. Negotiated (Notes)
Number of creditors = Many (Bonds) vs. Few (Notes)
Publicly traded = Yes (Bonds) vs. No (Notes)
Easily re-negotiable = No (Bonds) vs. Yes (Notes)
Secured = Yes and no (Bonds) vs. Yes (Notes)
Registered (order) form = Yes (Bonds) vs. Yes (Notes)
Bearer (coupon) form = Yes (Bonds) vs. No (Notes)
Right of debtor to call/pre-pay = Yes (Bonds) vs. Yes (Notes)
Right of creditor to put w/o default = Yes (Bonds) vs. No (Notes)
Recording Bonds Payable
Bonds payable are recorded at face value adjusted to present value of their future cash flows by subtracting unamortized discounts or adding unamortized premiums.
– market (effective) interest rate on date of issuance used
Features of Bonds
Usually in denominations of $1,000
Price quoted in 100’s (% of par value)
Indenture is a contract for purchase of bond
Coupon rate = stated interest rate on the bond
Bond interest (check amount) = coupon rate x face value – Bonds generally pay interest semiannually in the US and annually in other countries
Principal payoff is the face amount
Premium discount is the result of buyer and seller “adjusting” the coupon rate to the prevailing market rate of interest,
Bonds Selling Price
Bond selling price = present value of future principal payment and future periodic interest payments
– cash flows discounted at prevailing market rate
Bonds Issued at Par
Stated rate on bond = market (effective) rate on date bonds issued
Journal entries for Borrower
Cash
Bond payable
Journal entries for Investor
Investment in bonds
Cash
