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Bonds Payable and Off-BS Financing, Exams of Business Accounting

Professional Business College Business Accounting

Bonds payable, including types of bonds, issuance, marketing, valuation, and accounting. It also covers off-balance sheet financing, including non-consolidating subsidiaries and special-purpose entities. information on the presentation and analysis of long-term debt, including the debt-to-assets ratio and times interest earned. It also covers troubled-debt restructuring, settlement of debt, and modification of terms. The document concludes with a discussion of business organizations, with a focus on the corporation form and state corporation law.

Typology: Exams

2023/2024

Available from 10/26/2023

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ACCY 304 Test 1

Bonds Payable -

- if doesn't meet def. of CL, must be LTL

- principle based on terms and cond. of contract

- long-term debt (BP) & long-term NP

- long-term debt has various covenants and restrictions protecting both lenders and borrowers;

inc. amt. authorized to be issued, int. rate, due date, call provisions, property pledged as

securities, sinking fund req., WC & Div. restrictions, limitations on consumption of additional

debt

Issuing Bonds -

- bond arises from bond indenture

- represents promise to pay sum of $ @ maturity date and periodic int. @ specified rate on

maturity (face) amt.

- indv. bonds = paper certificate

- int. pmts. usually semi-annually

- main purpose to borrow for long-term when amt. capital needed too large for one lender to

supply

- firm underwriting = guarantee sum to co., take risk of selling

- best-effort underwriting = sell for commission

- private placement = issuing co. sell directly

Types of Bonds -

- Secured

- unsecured

- term

- serial

- callable

- convertible

- commodity-backed

- deep-disc.

- registered

- bearer (coupon)

- income

- revenue

Secured Bonds -

backed by pledge of collateral; mortgage, trust

Unsecured Bonds -

not backed by collateral; debenture/junk; risky, high int.; use to fin. leveraged buyouts

Term Bonds -

mature on single date

Serial Bonds -

Partial preview of the text

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ACCY 304 Test 1

Bonds Payable -

if doesn't meet def. of CL, must be LTL
principle based on terms and cond. of contract
long-term debt (BP) & long-term NP
long-term debt has various covenants and restrictions protecting both lenders and borrowers; inc. amt. authorized to be issued, int. rate, due date, call provisions, property pledged as securities, sinking fund req., WC & Div. restrictions, limitations on consumption of additional debt Issuing Bonds -
bond arises from bond indenture
represents promise to pay sum of $ @ maturity date and periodic int. @ specified rate on maturity (face) amt.
indv. bonds = paper certificate
int. pmts. usually semi-annually
main purpose to borrow for long-term when amt. capital needed too large for one lender to supply
firm underwriting = guarantee sum to co., take risk of selling
best-effort underwriting = sell for commission
private placement = issuing co. sell directly Types of Bonds -
Secured
unsecured
term
serial
callable
convertible
commodity-backed
deep-disc.
registered
bearer (coupon)
income
revenue Secured Bonds - backed by pledge of collateral; mortgage, trust Unsecured Bonds - not backed by collateral; debenture/junk; risky, high int.; use to fin. leveraged buyouts Term Bonds - mature on single date Serial Bonds -

mature in installments Callable Bonds - give issuer right to call and redeem prior to maturity Convertible Bonds - convert. to securities of corp. for specified time after issuance Commodity-Backed (Asset-Linked) Bonds - redeemable in measures of commodity Deep-Discount Bonds (Zero-Int. Debenture) - sold at disc. that prov. buyer's tot. int. payoff at maturity Registered Bonds - issued in name of owner and req. surrender of certificate and issuance of new to complete sale Bearer (Coupon) Bonds - not recorded in name of owner and may be transferred from one owner to another Income Bonds - pay no int. unless issuing co. profitable Revenue Bonds - int. on them paid from specified rev. sources Valuation and Acct. for BP -

selling price set by supply and demand of buyers/sellers, relative risk, mkt. cond., state of economy
investment community values bond @ PV of expected FCF, consisting of int. and principal
if rate employed by buyers differs from stated, PV of bonds differ from face; diff. determines actual price paid
Disc. = bond sells < face, mkt. rate > stated
Prem. = bond sells > face, mkt. rate < stated Issuance and Mktg. of Bonds to Public - weeks/months; arrange underwriters to help mkt. and sell; obtain SEC's approval, undergo audits, issue prospectus; have certificates printed Stated, Coupon, Nominal Rate - written in terms of indenture; issuer sets rate; percentage of face, par, principal, maturity val. Market, Effective-Yield, Discount Rate - int. rate actually earned by bondholders

Notes Issued for Property, Goods, Services -

stated int. fair unless: (1) no int. rate stated, (2) stated rate unreasonable, (3) stated face amt. of debt instrument materially diff. from curr. cash sales price for same/similar items or from curr. fair val. of debt instrument
co. measures PV of debt instrument by fair val. of property, goods, services or by amt. that reasonably approx.
if no stated rate, amt. of int. = diff. btwn. face amt. of note and fair val. of property Choice of Int. Rate -
if co. can't determine fair val. of prop., goods, services, other rights, and if note has no ready mkt., co. must approx. applicable int. rate that may differ from stated
imputation = imputed int. rate
prevailing rates for similar instruments, restrictive covenants, collateral, pmt. schedule, existing prime int. rate affect Mortgage NP -
most common form of LTNP; promissory note secured by doc. called mortgage that pledges title to property as security for loan
point = 1% of face of note
payable in full at maturity or installments
fixed-rate replaced w/ variable-rate (floating-/adj.-rate) w/ int. tied to changes in fluctuating mkt. rate Fair Val. Option -
co. have option to record fair val. in their accts. for most fin. assets and liab., including bonds and NP
FASB believes FV measurement more relevant and understandable info. than amort. cost bc. reflects curr. cash equivalent val. Fair Val. Measurement -
report unrealized holding gains/losses as NI or OCI
net change in fair val. of liab. from period to period, exclusive of int. exp.
credit-risk portion of gains/losses on fin. liab. report in OCI FV Option w/ Investments -
FV of invest. up = record gain
FV of invest down = record loss FV Option w/ Liab. -
FV of liab. up = record loss
FV of liab. down = record gain Off-Bal.-Sheet Financing - attempt to borrow monies in such a way to prevent recording the obligation

Off-BS Fin. -- Diff. Forms -

Non-Consolidating Subsidiary = not req. to consolidate if < 50% owned
Special-Purpose Entity (SPE) = created to perform special project; project financing arrangement; SPE fin. and build, co. guarantees it or other co. purch. all products produced; take- or-pay contract Off-BS Fin. -- Rationale -
removing debt enhances qual. of BS and permits credit to be obtained more readily at less cost
loan covenants often limit amt. of debt co. can have; these types of commitments might not be considered in computing debt limitations
some argue asset side of BS severely understated
increased note disclosure
SEC req. (1) all contractual obl. in tabular format, (2) contingent liab. and commitments in either textual/tabular format Presentation of LTD -
1 amt. with comments and schedule in notes
note disclosures gen. indicate nature of liab., maturity dates, int. rates, call provisions, conversion privileges, restrictions imposed by creditors, assets designated/pledged as security
fair val. of LTD disclosed
must disclose fut. pmts. for sinking fund req. and maturity amts. of LTD during each of next 5 yrs. Analysis of LTD - interest in co. long-term solvency, ability to pay int. and repay face val. at maturity Debt-to-Assets Ratio -
measures % of TA prov. by creditors
D-A = TL/TA
greater = greater risk co. can't meet obl. Times Interest Earned -
indicates co.'s ability to meet int. pmts. as they come due
TIE = (NI + Int. Exp. + Income Tax Exp.) / Int. Exp. Troubled-Debt Restructuring -
occurs when a creditor "for economic or legal reasons related to the debtor's financial difficulties grants a concession to the debtor that it would not otherwise consider"
2 transactions: (1) settlement of debt at less than carry. amt., (2) continuation of debt with modification of terms Settlement of Debt -
can involve either transfer of noncash assets or issuance of debtor's stock
creditor should acct. for noncash assets or eq. interest rec. at their fair val.
debtor determine excess of carry amt. of payable over fair val. of assets or eq. transferred (gain)

Preemptive Right -

protects existing SH from invol. dilution of ownership interest; protect proportionality
many co. have elim. bc. hard to issue large amts. of add. stock (in acquiring other co.) Variety of Ownership Interests - common and preferred stock Common Stock -
represents basic ownership interest
residual corp. interest that bears ultimate risk of loss and receives benefits of success
CSHs not guaranteed div. or assets upon dissolution
gen. control mgmt. of corp. and tend to profit most if co. successful Preferred Stock -
special classes of stock; special class of shares that possesses certain pref./feat. not possessed by CS
SHs sacrifice certain rights in return for other special rights/privileges by contract
common preference is div. priority/priority on earnings
issue pref. stk. w/ par val., expressing div. pref. as % of par; no-par pref. stk., express div. pref. as $ amt. per share
pref. to div. assures corp. must pay stated div. rate or amt. applicable to pref. stk. before any on CS Components of SHs' Eq. -
4 categories: (1) capital stock, (2) additional paid-in capital, (3) RE, (4) other comprehensive income
SHs' eq. diff. btwn. A & L of co., residual interest
SHs' eq. = cumulative net contributions by SHs + RE; no existence apart from A & L; equals net assets; claim against potion of tot. A; amt. not specified or fixed Contributed (Paid-In) Capital -
tot. amt. paid in on cap. stock
amt. prov. by SHs to corp. for bus. use
cap. stk. and add. PIC
includes par val. of outstanding stk. and prem. less disc. on issuance Earned Capital -
capital that develops from profitable operations
consists of all undist. income remaining invested in co. RE - earned capital of co. Accumulated Other Comprehensive Income -
aggregate amt. of OCI items
unreal. gains/losses on avail.-for-sale debt investments/certain derivative transactions

Issuance of Stock -

Procedure: state authorize stock, corp. offer shares for sale, issue shares
Acct. Problems involved: acct. for par val. stk., acct. for no-par stk., acct. for stk. issued in combo. w/ other securities (lump-sum), acct. for stk. issued in noncash transactions, acct. for costs of issuing stk. Par Value Stock -
no relation to fair val.; low par help avoid contingent liab. associated with sale below par
maintain accts. for : (1) Pref. or Comm. Stk = together rep. par of corp. issued shares (CR. on issue and no additional unless issue more/retire); (2) PIC in Excess of Par = any excess over par pd. in by SHs in return for shares issued to them No-Par Stock -
cap. stk w/ no par
2 reasons: (1) avoid contingent liab. if issued at disc., (2) confusion exists over relationship (absence) btwn. par and fair val. (no questionable treatment of using par val. as basis for fair val.)
advantage when issuing stk. for property items
disadvantage = some states buy high tax on these issues; tot. issue price for no-par stk. may be considered legal cap. (could reduce flexibility of paying div.)
issue at whatever price, no prem./disc., exact amt. is Cr. to C/PS
true no-par stk. should be carried in accts. at issue price w/o any additional PIC or disc. reported
stated val. = min. value below which co. can't issue stk. Stock Issued w/ Other Securities (Lump-Sum) -
lump-sum sales = corp. issues 2 or more classes of securities for single pmt.; acct. pblm. how to allocate proceeds
2 methods : proportional, incremental
if co. can't determine fair val. for any classes, may need other approaches; expert, best est. if fair val. in fut. Proportional Method - Stk. w/ Other Securities - allocate lump sum received among classes on proportional basis; based on FV of each security Incremental Method - Stk. w/ Other Securities - uses the fair value of the securities as a basis for known classes (typically CS), allocates the remainder of the lump sum to the class for which it does not know the fair value (pref.) Stock Issued in Noncash Transactions -
General Rule = co. should record stock issued for services or property other than cash at either fair val. of stk. issued or fair val. of noncash consideration received, whichever more clearly determinable
readily determine both = either

pref. stk. and add. PIC - pref.; SHs' eq. bc. no legal obl. to pay
convertible = SHs' eq.; no gain/loss; employ BV method (Dr. Pref. Stk., Add. PIC - Pref.; Cr. CS, PIC in Excess - CS)
pref. at par as 1st item; disclose rights Corporations Purchase Outstanding Stock to: -
provide tax-efficient dist. of excess cash to SHs = cap. gain rates on sale of stk. to co. approx. 1/2 ordinary tax rate
increase earnings per share and return on eq.
provide stock for emp. stk. compensation contracts or to meet potential merger needs
thwart takeover attempts or reduce number of SHs
make mkt. in stock Leveraged Buyout (LBO) - eliminate public ownership entirely by purchasing all outstanding stock, borrows money to fin. stk. repurchase Treasury Stock -
corp. own stock, reacquired after having been issued and fully paid
not asset; reduces net assets
no right to vote, exercise preemptive rights, rec. cash div., rec. assets upon liquidation
essentially same as unissued cap. stock
contra eq. acct. Purchase of Treasury Stock - 2 methods -
Cost
Par (stated) Val. Cost Method - Debiting the Treasury Stock account for the reacquisition cost and in reporting this account as a deduction from the total paid-in capital and retained earnings on the balance sheet; more widespread Par (Stated) Value Method - records all transactions in treasury shares at their par value and reports the treasury stock as a deduction from capital stock only Outstanding Stock - the number of shares of issued stock that stockholders own Sale of Treasury Stock -
sale price = cost
Dr. Cash, Cr. TS
after elim. Cr. bal. in PIC-TS, corp. Dr. additional excess of cost over SP to RE Sale of Treasury Stock Below Cost -

Dr. excess of cost over SP to PIC from TS Sale of Treasury Stock Above Cost -

Cr. difference to PIC from TS
not gain bc. (1) gains on sales occur when selling assets, (2) gain/loss not recog. from stk. transactions w/ own SHs Retiring Treasury Stock -
cancellation of treasury stock and reduction in number of shares of issued stk.
status of authorized and unissued
corp. Dr. PIC accts. applicable to retired shares Reasons Very Few Companies Pay Div. in Amt. Equal to Legally Avail. RE -
maintain agreements w/ creditors, retain all/portion of earnings, in form of assets, to build up additional protection against possible loss
meet state corp. req., that earnings equivalent to cost of TS purch. be restricted against div. declaration
retain assets that would otherwise be paid out as div., to finance growth/expansion; internal fin., RE, "plowing" profits back into bus.
smooth out div. pmt. from yr. to yr. by accum. earnings in good yrs. and using such as basis for div. in bad yrs.
build up cushion/buffer against possible losses/errors in calc. of profits *co. should not pay div. unless both present and fut. fin. position warrant dist. Financial Condition and Dividend Distribution -
consider liquidity, curr. liab., avail. of funds to pay div.
disclose div. policy especially if (1) have earnings but fail to pay div., (2) don't expect to pay div. in foreseeable fut. Types of Dividends -
cash, property (div. in kind), liquidating div.
all div. except stk. div. reduce tot. SHs' equity
stk. div. = no asset payout, incurs no liab., add. shares Cash Dividends -
BoD votes on declaration; declares; prepare current list of SHs
3 dates: date of declaration, record, pmt.
declared cash div. is a liab. bc. pmt. gen. req. very soon (CL)
div. declared (closed to RE at yr. end) or RE
do not declare or pay div. on TS Property Dividends -
div. pay. in assets of corp. other than cash
div. in kind; may be merch., real estate, investments
usually in form of securities of other corp. that distributing co. holds

dist.: Dr. CS Div. Dist.; Cr. CS Statement of SHs' Equity -
- Basic Format: bal. at beg. of period, additions, deductions, bal. at end of period]
columnar format for changes in items gaining popularity Return on CSHs' Eq. (ROE) -
- measures profitability from CSHs' viewpoint
shows how many dollars of Ni co. earned for each dollar invested by owners
helps judge worthiness of stk. when overall mkt. not doing well
(NI - Pref. Div.) / Avg. CSHs' Eq.
amt. of CSHs' Eq. = tot. SHs' Eq. - par. of pref. stk. Trading on the Equity - The practice of using borrowed money or issuing preferred stock in hope of obtaining a higher rate of return on the money used Payout Ratio -
- ratio of cash div. to NI
if pref. stk. outstanding, equals cash div. pd. to CSHs divided by NI avail. to CSHs
Cash Div. / NI BV per Share -
- amt. each share would rec. if co. liquidated on basis of amts. reported on BS
CSHs' Eq. / Outstanding Shares Debt and Equity -
- liab. creates obligation to pay
securities with characteristics of debt and eq.
dilutive securities = convertible securities, options, warrants, other; upon exercise may reduce (dilute) EPS Convertible Bonds - Acct. for Convertible Debt -
- can be changed into other corp. securities during some specified period of time after issuance
combines benefits of bond with privilege of exchanging for stk. at holder's option
investors desire security of bond holding (guaranteed prin. and int.) plus added option of conversion if stk. val. appreciates significantly Corp. Issue Convertible Debt for 2 Reasons -
- raise eq. capital w/o giving up more ownership control than necessary
obtain debt financing at cheaper rates Reporting Issues for Convertible Debt at Time of... -
- issuance
conversion

retirement Convertible Debt at Issuance -
- follows method to record straight debt issue
no proceeds recorded as eq.
amortize disc./prem. over life
bc. difficult to predict conversion Convertible Debt at Conversion -
- BV method
record securities exchanged for bond at BV of bond
agreement at issue to pay stated amt. cash at maturity or issue stated number of shares of eq. securities
no gain/loss Induced Conversion -
- issuer wishes to encourage prompt conversion of convertible debt to eq. securities to reduce int. costs or improve D:E ratio
issuer offer add. consideration ("sweetener")
report sweetener as exp. (Debt Conv. Exp.) in current period
usually cash Retirement of Convertible Debt -
- recog. gain/loss on retiring convertible debt in same way recog. gain/loss on retiring nonconvertible
report difference btwn. cash acquisition price of debt and carry. amt. in current income as gain/loss Convertible Preferred Stock -
- includes option for holder to convert preferred shares into fixed number of common shares
diff. btwn. conv. bonds and conv. pref. stk. @ issuance is classification; bonds = liab., pref. stk. (unless mandatory redemption exists) = SHs' eq.
when exercised, no justification of recog. gain/loss
use BV method for exercise
Dr. Pref. Stk., PIC (if needed); Cr. CS, PIC (if needed)
par CS > pref. BV, Dr. RE for diff.; rationale: host offered add. return to facilitate conv. Warrants -
- certificates entitling holder to acquire shares of stk. @ certain price within stated period
if exercised, become CS and usually have dilutive effect
difference = upon exercise holder has to pay certain amt. to obtain shares Issuance or Option to Buy Additional Shares Arises bc... -
- include warrants to make securities more attractive by providing "eq. kicker"
existing SHs have preemptive right to purch. CS first; warrants to evidence
give warrants (stk. options) to executives and emp. as form of comp.

typically salary plus bonus
short-run Stk.-Based Compensation Plans -
long-term compensation plans attempting to develop co. loyalty among key employees by giving "piece of action" (eq. interest)
largest single component for exec. officers' pay for co.'s in S&P 500 Stock Option -
gives key employees option to purchase CS at given price over extended period of time
provides emp. w/ opportunity to receive stk. if performance of co. satisfactory
typical performance measures focus on long-term improvements that are readily measurable and benefit co. as whole (inc. EPS, rev., stk. $, mkt. share) Intrinsic Value Method for Measuring Stk. Comp. -
measure comp. cost by excess of mkt. price of stk. over exercise price at grant date
measures what holder receive today if option immediately exercised Fair Value Method for Measuring Stk. Comp. -
bases cost of emp. stk. options on fair val. of stk. options granted
co. use acceptable option-pricing models to val. options @ grant date (take into acct. many factors that determine option's underlying val.)
GAAP requires; co. should base acct. for cost of emp. services on fair val. of comp. paid; amt. presumed to be measure of val. of services received Grant Date - the date you receive the options Recognition - Stk. Comp. - 2 main acct. issues -
how determine comp. exp.
over what periods to allocate comp. exp. Recognition - Stk. Comp. - Determining Exp. -
compute tot. comp. exp. based on fair val. of options expected to vest on date they grant options to emp.
no adjustments after grant date in response to subsequent changes in stk. price (up or down) Recognition - Stk. Comp. - Allocating Comp. Exp. -
Service Period = co. recog. comp. exp. in periods in which emp. perform service; vesting period unless otherwise specified
co. determine tot. cost at grant date and allocates to periods benefited by emp. services Stk. Comp. Example - Basic Entries -
date of grant : no entry
record comp. exp. : Dr. Comp. Exp.; Cr. PIC - Stk. Options

Stk. Comp. Example - Exercise -

Dr. Cash (# exercised * option $)
Dr. PIC - Stk. Options (% exercised * tot.)
Cr. CS (shares * par)
Cr. PIC - Excess Par - CS (remainder) Stk. Comp. Example - Expiration -
Dr. PIC - Stk. Options
Cr. PIC - Expired Stk. Options Stk. Comp. Example - Adjustment -
unexercised doesn't nullify need to record cost of serv. received and attributable to plan; co. therefore doesn't adj. comp. exp. upon expiration of options
if emp. forfeits option bc. fails to satisfy serv. req., co. adj. est. of comp. exp. recorded in curr. period (Dr. PIC - Stk. Options; Cr. Comp. Exp.) Restricted-Stock Plans -
transfer shares of stock to emp., subject to agreement that shares can't be sold, transferred, pledged until vesting occurs
subject to forfeiture if cond. for vesting not met Major Advantages of Restricted Stock -
never becomes completely worthless
generally results in less dilution to existing SHs; usually one-half to one-third size of options bc. will have end val.
better aligns emp. incentives w/ co. incentives; essentially SH and should have interest in long- term objectives Restricted Stock Ex. - Grant Date -
Dr. Unearned Comp.
Cr. CS, PIC - Excess Par Unearned Compensation Account -
Deferred Comp. Exp.
cost of services yet to be performed
not asset
contra eq. acct. Restricted Stock Ex. - Comp. Exp. -
Dr. Comp. Exp.
Cr. Unearned Comp. Restricted Stock Ex. - Forfeit -
Dr. CS, PIC - Excess Par
Cr. Comp. Exp., Unearned Comp.

Bonds Payable and Off-BS Financing, Exams of Business Accounting

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ACCY 304 Test 1