Unit 12 questions Flashcards
Serial bonds are attractive to investors because
Investors can choose the maturity that suits their financial needs. Serial bond matures in stated amounts at regular intervals. Serial bonds have staggered maturities; that is, they mature over a period (series) of years. Thus, investors can choose the maturity date that meets their investment needs. For example, an investor who will have a child starting college in 16 years can choose bonds that mature in 16 years.
Debentures are
Unsecured bond. In other words bonds secured by the full faith and credit of the issuing firm only. Debentures are unsecured bonds. Although no assets are mortgaged as security for the bonds, debentures are secured by the full faith and credit of the issuing firm. Debentures are a general obligation of the borrower. Only companies with the best credit ratings can issue debentures because only the company’s credit rating and reputation secure the bonds.
the entire balance in the bond sinking fund account should appear as a:
noncurrent asset.
The following information relates to noncurrent investments that Fall Corp. placed in trust as required by the underwriter of its bonds. All of the income and costs on the investments are charged directly to the fund balance.
- Bond sinking-fund balance, 1/1 $ 450,000
- Additional investment during year 90,000
- Dividends on investments 15,000
- Interest revenue 30,000
- Administration costs 5,000
- Carrying amount of bonds payable 1,025,000
What amount should Fall report in its December 31 balance sheet related to its noncurrent investment for bond sinking-fund requirements?
A. $580,000
B. $585,000
C. $575,000
D. $540,000
Answer (A) is correct. The year-end balance for the bond sinking fund is the sum of its beginning balance plus any additional deposits and earnings (i.e., interest and dividends), net of expenses. Consequently, Fall should report a year-end balance of $580,000 ($450,000 beginning balance + $90,000 investment + $15,000 dividends received + $30,000 interest earned – $5,000 costs) on its December 31 balance sheet.
What characteristic distinguishes income bonds from other bonds?
An income bond is one that pays interest only if the issuing company has earned the interest, although the principal must still be paid on the due date. Such bonds are riskier than normal bonds.t
The best advantage of a zero-coupon bond to the issuer is that the
Interest can be amortized annually on a straight-line basis but is a noncash outlay.
Zero-coupon bonds do not pay periodic interest. The bonds are sold at a discount from their face value, and the investors do not receive interest until the bonds mature. The issuer does not have to make annual cash outlays for interest. However, the discount must be amortized annually and reported as interest expense.
The bond sinking fund is a long-term investment. The objective of making payments into the fund is to segregate and accumulate sufficient assets to pay the bond liability. The amounts transferred to the fund plus the:
revenue earned provide the necessary monies.
An annuity in which the first payment occurs at the beginning of the first period is called:
“annuity due” or an “annuity in advance.”
When purchasing a bond, the present value of the bond’s expected net future cash inflows discounted at the market rate of interest provides what information about the bond?
Price
The issue price of a bond is based on the market interest rate and reflects its fair value. The proceeds received from the sale of a bond equal the sum of the present values of the face amount and the interest payment (if the bond is interest-bearing). When bonds are issued between interest payment dates, the buyer includes accrued interest in the purchase price.
A premium on bonds payable arises when
The amount received from sale of the bonds at issuance exceeds the face value of the bonds.
A premium on bonds payable results when the amount received from sale of the bonds at issuance exceeds the face amount of the bonds. A premium is recognized when, at the time the bonds are sold, their stated rate is greater than the current market rate.
For a bond issue that sells for less than its par value, the market rate of interest is higher or lower than the rate stated on the bond?
Higher than the rate stated on the bond.
When a bond is issued for less than its par (face) value, the rate of interest demanded by the market is higher than the rate stated on the bond.
A bond issued on June 1, Year 4, has interest payment dates of April 1 and October 1. Bond interest expense for the year ended December 31, Year 4, is for a period of
7 months.
The price of a bond issued between payment dates includes the amount of accrued interest. Thus, this bond will include 2 months of accrued interest, which will be recorded either as a payable or a decrease in interest expense. As a result, interest expense for the year will be reported only for the period the bond is outstanding or 7 months (June-December).
When the effective interest method of amortization is used for bonds issued at a premium, the amount of interest payable for an interest period is calculated by multiplying the
Face value of the bonds at the beginning of the period by the contractual interest rate.
Interest payable does not vary with the issue price of bonds. It equals their face amount times the stated (contractual) rate at the beginning of the period.
How is the carrying amount of a bond payable affected by amortization of the Discount and amortization of the Premium?
Discount- increase
Premium- decrease
When debt is issued at a discount, interest expense over the term of debt equals the cash interest paid
Plus discount.
Debt is sold at a discount when it sells for less than its face amount, that is, when the contract (stated) interest rate is less than the market (effective) interest rate. Under the effective interest method required by GAAP, the difference between interest expense and interest paid is the discount amortization. When debt is issued at a discount, interest expense exceeds interest (cash) paid. The entry is to debit interest expense, credit discount, and credit cash. Consequently, interest expense equals the sum of the periodic interest payments and the discount.
