2Long-Term Liabilities Bonds BasicsAccounting for Bond IssuesAccounting for Bond RetirementsAccounting for Other Long-Term LiabilitiesStatement Presentation and AnalysisTypes of bondsIssuing proceduresTradingMarket valueIssuing bonds at face valueDiscount or premiumIssuing bonds at a discountIssuing bonds at a premiumRedeeming bonds at maturityRedeeming bonds before maturityConverting bonds into common stockLong-term notes payableLease liabilitiesPresentationAnalysisService Cost - Actuaries compute service cost as the present value of the new benefits earned by employees during the year. Future salary levels considered in calculation.Interest on Liability - Interest accrues each year on the PBO just as it does on any discounted debt.Actual Return on Plan Assets - Increase in pension funds from interest, dividends, and realized and unrealized changes in the fair market value of the plan assets.Amortization of Unrecognized Prior Service Cost - The cost of providing retroactive benefits is allocated to pension expense in the future, specifically to the remaining service-years of the affected employees.Gain or Loss - Volatility in pension expense can be caused by sudden and large changes in the market value of plan assets and by changes in the projected benefit obligation. Two items comprise the gain or loss:difference between the actual return and the expected return on plan assets and,amortization of the unrecognized net gain or loss from previous periods
3Bond Basics Bonds are: interest-bearing notes payable issued by corporations, universities, and governmental agencieslike common stock, can be sold in small denominations (usually a thousand dollars)attract many investorsLO 1 Explain why bonds are issued.
42)Principal (face value) must be repaid at maturity Bond BasicsTo obtain large amounts of long-term capital, management usually must decide whether to issue bonds or to use equity financing (common stock).Three advantages over common stock:Stockholder control is not affected.Tax savings result.Earnings per share may be higher.Two disadvantages over common stock:1)Interest must be paid on a periodic basis2)Principal (face value) must be repaid at maturityLO 1 Explain why bonds are issued.
5Bond Basics Effects on earnings per share—stocks vs. bonds. Illustration 15-2LO 1 Explain why bonds are issued.
6Types of Bonds: Secured and Unsecured Secured Bonds: also called debenture bonds are issued against the general credit of the barrower.Unsecured Bonds: have specific assets of the issuer pledged as collateral for the bondsEx. Mortgage
7Types of Bonds: Term and Serial Bonds 3) Term bonds - bonds that mature at a single specified future date4) Serial bonds - bonds that mature in installments
8Types of Bonds Convertible and Callable convert the bonds into common stock at holder’s optionCallablesubject to call and retirement at a stated dollar amount prior to maturity at the option of the issuer
9Bond Basics Issuing Procedures Bond contract is known as a bond indenture.Represents a promise to pay:sum of money at designated maturity date, plusperiodic interest at a contractual (stated) rate on the maturity amount (face value).Paper certificate, typically has a $1,000 face value.Interest payments areusually made semiannually.Generally issued when the amount of capital needed is too large for one lender to supply.LO 1 Explain why bonds are issued.
10Bond Basics Issuer of Bonds Maturity Date Contractual Interest Rate Illustration 15-3MaturityDateContractualInterestRateFace orPar ValueLO 1 Explain why bonds are issued.
11Bond Basics - Determining the Market Value of Bonds Market value is a function of the three factors that determine present value:the dollar amounts to be received,the length of time until the amounts are received,the market rate of interest.The features of a bond (callable, convertible, etc) affect the market rate of the bond.A corporation only makes journal entries when it issues or buys back bonds, and when bondholders convert bonds into common stock.Transactions between a bondholder and other investors are not journalized by the issuing corporation.LO 1 Explain why bonds are issued.
12Issuing Bonds at Face Value Illustration: On January 1, 2010, San Marcos HS issues $100,000, three-year, 8% bonds at 100 (100% of face value). Interest is paid annually each Dec. 31.Jan. 1 Cash 100,000Bonds payable 100,000Dec. 31 Interest expense 8, Cash 8,000Companies classify bond interest payable as a current liability.LO 2 Prepare the entries for the issuance of bonds and interest expense.
13The Real WorldIssuing bonds at a $ amount different from face value is quite common.(Meaning… a $1,000 bond does not always sell for $1,000.)Why? By the time a company prints the bond certificates and markets the bonds, it will be a coincidence if the market rate and the contractual (face) rate are the same.
14Accounting for Bond Issues Assume Contractual (Face) Rate of 8%$1,000 Face Value Bonds Sold At…Market Interest6%Premium8%Face Value10%DiscountLO 2 Prepare the entries for the issuance of bonds and interest expense.
15Issuing Bonds at a Discount Illustration: On January 1, 2010, San Marcos HS issues $100,000, three-year, 8% bonds for $95,027 (95.027% of face value).Jan. 1 Cash 95,027Discount on bonds payable 4,973Bonds payable 100,000Although discount on bonds payable has a debt balance, it is not an asset.LO 2 Prepare the entries for the issuance of bonds and interest expense.
16Issuing Bonds at a Premium Illustration: On January 1, 2010, San Marcos HS issues $100,000, three-year, 8% bonds for $105,346 ( % of face value).Jan. 1 Cash 105,346Premium on bonds payable 5,346Bonds payable 100,000LO 2 Prepare the entries for the issuance of bonds and interest expense.
17Accounting for Other Long-Term Liabilities Long-Term Notes PayableMay be secured by a mortgage that pledges title to specific assets as security for a loanTypically, the terms require the borrower to make installment payments over the term of the loan. Each payment consists ofinterest on the unpaid balance of the loan anda reduction of loan principal.Companies initially record mortgage notes payable at face value.LO 4 Describe the accounting for long-term notes payable.
18Accounting for Other Long-Term Liabilities Lease Liabilities - A lease is a contract between a lessor (owner of the property) and a lessee (renter of the property).Illustration 15-13