Far 3-Bonds

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  1. What is a bond?
    a bond is a borrowing agreement in which the issuer promises to repay a certain amount of money to the purchaser, after a certain period of time, at a certain interest rate. This is covered by APB #21(ASC 470/835)
  2. What are the types of bonds and important terms to understand for bonds?
    1. Term Bond-a bond that will pay the entire principal upon maturity at the end of the term.

    2. Serial Bond- a bond in which the principal payments are made in installments.

    3. Debenture Bonds- a bond that is unsecured by no collateral super risky

    4. Stated, Face, Coupon, Nominal rate- the rate that is printed on the bond itself.

    5. Carrying Amount- this is the net amount at which the bond is being reported on the B/S, and equals the face value on the bond +/- bond premiums/discounts.

    6. Effective rate, Yield, Market interest rate- this is the actual interest the company is paying the bond based on the issuer price. The effective rate is often term used.

    7. Convertible Bond- a bond that is convertible into common stock of the debtor at the bondholders option.

    8. Callable Bonds- a bond which the issuer has the right to redeem prior to its maturity date.

    9. Covenants- Restrictions that borrowers must often agree to in order to get bond.
  3. whats a basic bond issuing and what are some of the journal entries needed?
    to illustrate lets take a look at a example:

    • Issuance of bonds 1,000,000
    • Term 5 years
    • Stated Rate 8%
    • Effective Rate a)8% b)10% c)6%

    • a)Bond issuance:
    • Cash 1,000,000
    •     B/P 1,000,000

    • a)Each year interest will simply be:
    • Interest Exp. 80,000
    •     Cash 80,000(1,000,000 x 8%)

    • b)Bond issuance
    • Cash 900,000
    • Discount 100,000
    •     B/P 1,000,000
    • *issued at discount because market could give better price.

    • b)Every year interest payment using the effective interest method.
    • Interest exp. 90,000(CV x Market rate)
    •     Discount 10,000(plug)
    •     Cash 80,000(1,000,000 x state rate)

    • c) Bond issuance
    • Cash 1,100,000
    •     Premium 100,000
    •     B/P 1,000,000

    • c)Interest paid every year
    • Interest exp. 66,000(1,100,000 x market)
    • Premium 14,000(plug)
    •     Cash 80,000
  4. How are Accrued Interest Costs and Bond Issue Costs?
    Accrued interest costs are simply the costs of interest that has already accrued when you sell the bonds. These interest costs are paid right when the bonds are issued so they are included in cash received however they do not affect the CV of the Bonds and Accrued interest payable is opened. Example

    • Cash 950
    • Discount 70
    •     B/P 1,000
    •     Accrued interest payable 20
    • *notice that the CV will be 1,000-70 = 930.

    • Bond issue costs are directly associated with the issuance of the bonds and are a amortized over the period of the bonds outstanding. These include printing and engraving of bond certificates, legal and accounting fees, underwriter commissions, promotions, ect. Usually use straight line method for amortization.
    • *not included in cash and should be amortized over bond.
    • Journal Entry
    • BIC x
    •     Payable x

    • amortization
    • Payable x
    •     Cash x
  5. what happens when bonds are retired and how are they accounted for?
    bonds may be called or retired prior to maturity. When this happens, it is reported as a g/l on the I/S. It should be reported in the continuing operations section as well. Considerations to consider are the unamortized discount/premium and unamortized BIC and will B/P removed at Face and Cash being the amount to retire plug becomes g/l. sample entry below:

    • B/P(FACE) X
    • Premium unamortized X
    • Loss X
    •     BIC X
    •     Cash X
  6. what is a bond sinking fund?
    a fund that is set up for the retirement of bonds. The balance is treated as a noncurrent asset until the bonds mature. Any interest or dividends earned are added to the sinking fund balance and reported as income.
  7. how are convertable bonds accounted for?
    convertible bonds give the bondholder the option of converting the bond into common stock and are normally issued at more than par value because of this option. Since the bondholder cannot retain the bond and buy the stock, convertible bonds are treated as issuing a single security. Therefore no value is given to the convertibility feature. There are two ways to convert the bonds 

    1. Book value method(GAAP)- which recognizes no gain/loss all just goes to APIC. So when the bonds are converted this is the entry:

    • B/P x(Face)
    • Premium unamortized x
    •     BIC unamortized x
    •     CS x(at par)
    •     APIC x(plug)

    2. Market Value Method(Non GAAP)- this doesnt plug all to APIC and does recognize g/l's. Journal entry is the following:

    • B/P x 
    • Loss x
    •     Unamortized Discount x
    •     BIC unamortized x
    •     CS x(par)
    •     APIC x(up to FMV)
  8. What are bonds with detachable warrants and how do we account for them?
    a warrant is a security that can be sold or exercised by the bondholder, while still keeping the bond. Since it is separate, it is as if two securities were issued, therefore a value must be given to both securities. The value for the warrant is included in APIC. To value both we use the FMV relative approach. lets look at an example:

    Ex. so FMV of bonds are $80 and the FMV of warrants are $20. So bonds get 80% x 900(B/P) = $720 and warrants 20% x 900(Warrants) = 180. The entry is this:

    • Cash 900
    • Discount 80
    •     B/P 800
    •     APIC 180
  9. How are bonds accounted for differently under IFRS?
    bonds are accounted for under IFRS very similarily, the big difference is that there is an option to value the liabilities at fair value through Profit or Loss(FVTPL). Under this method simply measure the liability at the end of the period at FV and report a gain or loss in Profit or Loss for that period.
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Far 3-Bonds
2013-04-17 00:25:35

Financial Accounting
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