Slide 1A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Welcome to ACCT 352!
INTERMEDIATE FINANCIAL ACCOUNTING II
INTERMEDIATE FINANCIAL ACCOUNTING II
Slide 2A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
FINANCINGPART I: OVERVIEWPART I: OVERVIEW
DEBT(Chapter 14)
EQUITY(CHAPTER 18)
Recording/ Retirement Conversion Warrants Reporting/Fair Value
REPORTINGBASIC/DILUTIVE EARNINGS PER SHARES
(CHAPTER 19)
Slide 3A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
KEY POINTS:FINANCIAL REPORTING
Bigger picture Outside the box External impact Global impactExpand your knowledge:Read/listen/watch News
KNOWLEDGEKNOWLEDGE
Slide 4A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
CURRENT ECONOMIC CONDITIONS
DISCUSSION:Current US economic conditions?Is US the most important economy in the world? E.g. crisis?
Why is it important?Impact on Corporations Globally
CURRENT US MARKETCURRENT US MARKET
Slide 5A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
What is :CAPITAL MARKET?‘Who are the key players?‘‘Which market is bigger?
FINANCIAL REPORTING & ECONOMICS
FINANCIAL REPORTING & ECONOMICS
Slide 6A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
New York Stock Exchange (NYSE) is the largest centralized bond market, representing mostly corporate bonds.
Why is it important for us to know the US/Global perspective of BOND/STOCK MARKET?
Source: Securities Industry & Financial Markets Association (SIFMA)
BOND MARKET!BOND MARKET!
Slide 7A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
OPTIONS: ISSUE: PRO/CON
1.BOND MARKET
1.STOCK MARKET
LONG TERM FINANCINGCORPORATION’S PERSPECTIVE
LONG TERM FINANCINGCORPORATION’S PERSPECTIVE
Slide 8A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
MAJOR DIFFERENCES:MAJOR DIFFERENCES:Debt Financing & Equity FinancingDebt Financing & Equity Financing
MAJOR DIFFERENCES:MAJOR DIFFERENCES:Debt Financing & Equity FinancingDebt Financing & Equity Financing
Slide 9A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bond Certificates-
Bond borrowing agreement:Indenture or covenants
NATURE OF BONDSNATURE OF BONDSNATURE OF BONDSNATURE OF BONDS
Professor Vedd
Slide 10A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bonds Bonds
Bond Selling PriceBond Selling Price
Bond CertificateBond Certificate
Interest PaymentsInterest Payments
Face Value Payment Face Value Payment at End of Bond Termat End of Bond Term
At Bond Issuance DateAt Bond Issuance Date
Company Company Issuing BondsIssuing Bonds
Company Company Issuing BondsIssuing Bonds
Subsequent PeriodsSubsequent Periods
Investor Investor Buying BondsBuying Bonds
Investor Investor Buying BondsBuying Bonds
Company Company Issuing BondsIssuing Bonds
Company Company Issuing BondsIssuing Bonds
Investor Investor Buying BondsBuying Bonds
Investor Investor Buying BondsBuying Bonds
Slide 11A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
The Bond IndentureThe Bond Indenture
The specific promises made to bondholders are The specific promises made to bondholders are described in a document called a described in a document called a bond indenturebond indenture..
The specific promises made to bondholders are The specific promises made to bondholders are described in a document called a described in a document called a bond indenturebond indenture..
MortgageMortgage Bond secured Bond secured by lien on specific real by lien on specific real
estate owned by the estate owned by the issuer.issuer.
MortgageMortgage Bond secured Bond secured by lien on specific real by lien on specific real
estate owned by the estate owned by the issuer.issuer.
CallableCallable Bond allows Bond allows company to buy back company to buy back
outstanding bonds prior outstanding bonds prior to maturity.to maturity.
CallableCallable Bond allows Bond allows company to buy back company to buy back
outstanding bonds prior outstanding bonds prior to maturity.to maturity.
CouponCoupon Bond pays Bond pays interest when investor interest when investor
submits attached submits attached coupon.coupon.
CouponCoupon Bond pays Bond pays interest when investor interest when investor
submits attached submits attached coupon.coupon.
DebentureDebenture Bond Bondsecured by the secured by the ““full full faith and creditfaith and credit”” of of company.unsecuredcompany.unsecured
DebentureDebenture Bond Bondsecured by the secured by the ““full full faith and creditfaith and credit”” of of company.unsecuredcompany.unsecured
Slide 12A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Callable/Redeemable bonds:
Convertible bonds:
PROVISIONS: BONDSPROVISIONS: BONDSPROVISIONS: BONDSPROVISIONS: BONDS
Professor Vedd
Slide 13A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
BONDS:Recording/Reporting/Issue of bondsInterest payment/accruals (during the termPresentation/disclosuresReporting Changes in Fair Value
RETIREMENT: Prior to Maturity
CONVERSION: Convert Bonds to StockSTOCK WARRANTS
ACCOUNTING FOR BONDSACCOUNTING FOR BONDS
Slide 14A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
LONG TERM DEBTUS GAAP:
APB Opinion 21 (Issue costs) & APB Opinion 14 (convertible debt)SFAS No 159/157: The Fair Value Option FASB ASC Topic 470 / IAS 1
IFRS: IAS 32 & 39
US GAAP & IFRSUS GAAP & IFRSUS GAAP & IFRSUS GAAP & IFRS
Slide 15A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
FACE VALUE:Nominal/principalPar value or maturity value.
MATURITY DATE
INTEREST RATE:Rate Printed on Bond: Stated/face/coupon/nominal rate
Determines cash interest payments
• Market Interest Rate (effective rate) (Yield)Rate in effect when bonds are issued
FEATURES OF BONDSFEATURES OF BONDSFEATURES OF BONDSFEATURES OF BONDS
Slide 16A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
TWO WAYS:
1. NYSE/WSJ etc•Quoted: percentage of face amount
Bonds are quoted as a % of face valuee.g. 98
DETERMINE PRICE OF DETERMINE PRICE OF BONDSBONDS
Slide 17A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
TWO WAYS:
2. PRESENT VALUE (PV)PV of the future cash flows:=
A. PV: interest: annuity PAYMENT (Stated Interest Rate) plusB. PV of the Face/Par Value
•Discounted at the market (yield) rate of interest in effect at issue date.
DETERMINE PRICE OF DETERMINE PRICE OF BONDSBONDS
Slide 18A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bond Interest RatesBond Interest RatesBond Interest RatesBond Interest Rates
Bond Stated Rate = 9%
Market Rate = 9%
Bonds Sell AtPar (Face)
Market Rate = 8%
Bonds Sell ata Premium
Market Rate = 10%
Bonds Sell at a Discount
Slide 19A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Year 1Year 1 Year 2Year 2 Year 3Year 3 Year 4Year 4 Year 5Year 5
$$9,0009,000 $$9,0009,000 $$9,0009,000 $$9,0009,000 $$9,0009,000
Discount at market ratemarket rate, 11%$9,000 * 3.69590
Discount at market ratemarket rate, 11%$9,000 * 3.69590$ 33,263$ 33,263
$100,000$100,000Discount at market ratemarket rate, 11%$100,000 * 0.59345
Discount at market ratemarket rate, 11%$100,000 * 0.59345$ 59,345$ 59,345
plusplus
=$92,608 is the issue price=$92,608 is the issue price
Bond Valuation ILLUSTRATIONBond Valuation ILLUSTRATION
Slide 20A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
In Class Illustration: Example AIn Class Illustration: Example A
On January 1, 2012, JJ Corporation issues $500,000 long-terms bonds with stated interest rate of 10%, due on January 1, 2017. Interest is paid semiannually on January 1 and July 1 each year. At the time of issuance, market interest rate is 12%. December 31 year-end
Step 1: Calculate the price of the bondStep 2: Record the issue of bonds Jan 1, 2012Step 3: Prepare schedule of interest expenseStep 4: Record entries for interest expense/payments for 2012Step 5: Presentation: statement December 31, 2012
Slide 21A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
PV of interest payments PV: ordinary annuity (6%, 10 periods)
= ($500,000 x 5%) x 7.3601 $184,002
Present Value (PV of principal)
= $500,000 (6%, 10 periods)
= $500,000 x 0.5584 $279,200
BOND PRICE = $463,202
Cont. Example A: Cont. Example A: Calculating the Price of the BondCalculating the Price of the Bond
Cont. Example A: Cont. Example A: Calculating the Price of the BondCalculating the Price of the Bond
Slide 22A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Face Value: $500,000Sold: $463,202Issued $36,798 discount.
Date: January 1, 2012Dr. Cash 463,202Dr. Discount on Bonds Payable 36,798 Cr. Bonds payable 500,000
Record the issue of bondsRecord the issue of bonds
Slide 23A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Effective interest methodEffective interest methodAmortize premium/discountAmortize premium/discount
Slide 24A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Discount on bonds Payable 36,798 – (2,792+2,960) = 31,046
Reporting: Statement PresentationReporting: Statement Presentation
JJ CorporationJJ CorporationPartial Balance SheetPartial Balance SheetDecember 31, 2012December 31, 2012
Current LiabilitiesCurrent Liabilities::Interest PayableInterest Payable $25,000$25,000
LT LiabilitiesLT LiabilitiesBonds PayableBonds Payable $500,000$500,000Less: Discount on Bonds Payable Less: Discount on Bonds Payable (31,046) (31,046) $468,954$468,954
Slide 25A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Determining the Price:Determining the Price:
On January 1, 2011, Masterwear Industries issued $700,000 of 12% bonds, dated January 1.
Interest is payable semiannually on June 30 and December 31. The bonds mature in three years.
The market yield for bonds of similar risk and maturity is 14%. The entire bond issue was
purchased by United Intergroup.
Slide 26A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Determining the Price:Determining the Price:On January 1, 2011, Masterwear Industries issued $700,000 of 12%
bonds, dated January 1. Interest is payable semiannually on June 30 and December 31. The bonds mature in three years. The market yield for bonds of similar risk and maturity is 14%. The entire bond issue was
purchased by United Intergroup.
Present ValuesInterest $ 42,000 × 4.76654 = 200,195$ Principal $700000 × 0.66634 = 466,438
Present value (price) of bonds 666,633$
Calculation of the Price of the BondsPresent Values
Interest $ 42,000 × 4.76654 = 200,195$ Principal $700000 × 0.66634 = 466,438
Present value (price) of bonds 666,633$
Calculation of the Price of the Bonds
Because interest is paid semiannually, the present value calculations use: (a) the semiannual stated rate (6%), (b) the semiannual market rate (7%), and (c) 6 (3 x 2) semi-annual
periods.
Present value of an ordinary annuity of $1: n=6, i=7%
present value of $1: n=6, i=7%
Slide 27A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bond Amortization ScheduleBond Amortization Schedule
Effective Increase in OutstandingDate Cash Interest Balance Balance
1/1/11 666,633$ 6/30/11 42,000$ 46,664$ 4,664$ 671,297
12/31/11 42,000 46,991 4,991 676,288 6/30/12 42,000 47,340 5,340 681,628
12/31/12 42,000 47,714 5,714 687,342 6/30/13 42,000 48,114 6,114 693,456
12/31/13 42,000 48,544 * 6,544 700,000 252,000$ 285,367$ 33,367$
*Rounded.
Here is a bond amortization schedule showing the cash interest, effective interest, discount amortization, and the carrying value of the bonds.
$666,633 + $4,664 = $671,297$666,633 + $4,664 = $671,297
Slide 28A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
LESSON 1: CHAPTER 14 PART IILESSON 1: CHAPTER 14 PART II
BONDS ISSUE COSTBONDS ISSUED INBETWEEN DATESRETIREMENT OF BONDSCONVERSION OF BONDS
Slide 29A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
What is Bond issue Costs?
– According to FASB: (APB21)
•Debt issue costs are recorded separately as an asset.
•Amortized over the term to maturity using straight line method.
Bond Issue CostsBond Issue Costs
Slide 30A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
U. S. GAAP vs. IFRSU. S. GAAP vs. IFRS
Debt issue costs (called transaction costs under IFRS) are accounted for differently by U.S. GAAP and IFRS.
• Debt issue costs are recorded separately as an asset.
• Amortized over the term to maturity.
• “Transaction costs” reduce the recorded amount of the debt.
• The cost of these services reduces the net cash the issuing company receives and the amount recorded for the debt.
Slide 31A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bonds issued between interest days
Interest accrues from the date of the bonds
Buyer is required to pay accrued interest
Accrued interest is reported as interest payable (current liability)
Year-end Between interest dates
Bonds issued between interest days
Interest accrues from the date of the bonds
Buyer is required to pay accrued interest
Accrued interest is reported as interest payable (current liability)
Year-end Between interest dates
BONDS ISSUEDBONDS ISSUEDBETWEEN INTEREST DATESBETWEEN INTEREST DATES
BONDS ISSUEDBONDS ISSUEDBETWEEN INTEREST DATESBETWEEN INTEREST DATES
Slide 32A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Issued between interest date:Issued between interest date:April 30April 30thth issued $100,000 6% bonds on May 31 issued $100,000 6% bonds on May 31
April 30Bond Date
May 31Issue Date
Oct 31Interest PaymentDate
Investor pays face value + Accrued interest$100,000 + $500($100,000 x 6% x 1/12)
Corp. pays full 6 months’of interest of $3,000
Slide 33A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bonds retired at Maturity or Early
Bonds may be “Called” (Reacquisition)
or “Redeemed” retired prior to maturity May be for all outstanding bonds, or a portion
*Refinancing or refunding: issuing new bonds and applying the proceeds to the retirement of outstanding bonds/debts before maturity
Retirement of Bonds: Extinguishment of DebtRetirement of Bonds: Extinguishment of Debt(Bonds Refinancing)*(Bonds Refinancing)*
Slide 34A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Early Extinguishment of DebtEarly Extinguishment of Debt(FASB 145)(FASB 145)
- Update the relevant accounts:- Update the relevant accounts: (premium/discount and any issue costs) (premium/discount and any issue costs)
- Carrying Value (book value)- Carrying Value (book value)
Debt retired before maturity may result in an Debt retired before maturity may result in an gain or loss on extinguishment.gain or loss on extinguishment.
Cash Proceeds – Book Value = Gain or LossCash Proceeds – Book Value = Gain or Loss
Debt retired before maturity may result in an Debt retired before maturity may result in an gain or loss on extinguishment.gain or loss on extinguishment.
Cash Proceeds – Book Value = Gain or LossCash Proceeds – Book Value = Gain or LossThe FASB requires that the gain or loss be classified in the Income
Statement as(OTHER gains/losses) unusual/infrequent
Debt retired at maturity results in NO gain/losses
Slide 35A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Sell the bonds at higher price (lower interest rate)
In-Direct way of selling stock Medium of exchange in business
combination ….
Convertible BondsConvertible BondsConvertible BondsConvertible Bonds
Slide 36A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
exchanging bond -> common stock
Convertible BondsConvertible BondsConvertible BondsConvertible Bonds
(1)(1) updates interest expense andupdates interest expense and
(2)(2) amortization of discount or premium to amortization of discount or premium to the date of conversion. the date of conversion.
(3)(3) The bonds are reduced and shares of The bonds are reduced and shares of common stock are increasedcommon stock are increased..
Slide 37A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
The conversion may be recorded under eitherBook value method (more common) or Market value method
Convertible bonds: Convertible bonds: Option of converting the bonds into common stock. Option of converting the bonds into common stock.
Convertible bonds: Convertible bonds: Option of converting the bonds into common stock. Option of converting the bonds into common stock.
Professor Vedd
Slide 38A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
NO gain or loss is recognizedSTEPS:1. Update the accrued interest up to the conversion date,2. Amortize the bond discount or premium up to the
conversion date,3. Amortize the bond issue costs up to the conversion date,
and4. Record any difference as additional paid-in capital.(stocks are with par value)
CONVERSION OF BONDS:CONVERSION OF BONDS:BOOK VALUE METHODBOOK VALUE METHOD
Slide 39A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
recognized gain or loss.: using Market Value Method
At conversion: –The difference between the market value of the stock –& the book value of the bonds
=gain or loss on CONVERSION.
CONVERSION OF BONDSCONVERSION OF BONDSMARKET VALUE METHODMARKET VALUE METHOD
Slide 40A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Attraction for Investor
Bonds are issued with an instrument -added value i.e. warrant
Stock warrants: Stock warrants: – option to purchase:option to purchase:– a specified number of COMMON shares a specified number of COMMON shares – specified option price per share specified option price per share – within a stated period.within a stated period.
Bonds with Detachable WarrantsBonds with Detachable WarrantsBonds with Detachable WarrantsBonds with Detachable Warrants
Slide 41A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Bonds issued in conjunction with stock warrants.
Bonds/warrants issued as elements of a single security
Investors can trade the stock warrants separately
Issuer is required to allocate the joint issuance price between the two instruments
STOCK WARRANTSSTOCK WARRANTS
Slide 42A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Not Required: but option to value (some or all) liabilities at Fair Value
If option is elected:– Increase/decrease in fair value is reported as a
unrealized loss/gain in the income statement
Reporting Debt at Fair ValueReporting Debt at Fair ValueSFAS No 159SFAS No 159
Slide 43A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
To determine FV : present value of the remaining cash flows discounted at the current interest rate.
At December 31, 18 of the original 20 payments remain.
FAIR VALUE REPORTINGFAIR VALUE REPORTING(SFAS No 157(SFAS No 157))
Professor Vedd
Slide 44A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
To determine FV : present value of the remaining cash flows discounted at the current interest rate.
REMAINING 18 PERIODSIf the current interest rate is 9% (4.5% semi-annually),
Present ValuesInterest $ 32,000¥ x 12.15999*=$389,120Principal $800,000 x 0.45280† = 362,240
Present value of the bonds $751,360¥ (8% / 2) x $800,000* Present value of an ordinary annuity of $1: n = 18, i = 4.5%. (Table 4)† Present value of $1: n = 18, i = 4.5%.
Calculating FVCalculating FVCalculating FVCalculating FV
Slide 45A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
To increase the book value of $706,483 to Fair Value $751,360
entry:Unrealized holding loss 44,877
Fair value adjustment ($751,360 – $706,483) 44,877
Reporting FVReporting FVReporting FVReporting FV
Slide 46A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
DECEMBER 31LONG TERM LIABILITIES:
BONDS PAYABLE $800,000LESS DISCOUNTS ON BONDS (93,517)CARRYING VALUE AT DEC. $706,483Fair value adjustment
($751,360 – $706,483) 44,877ADJUSTED CARRYING VALUE AT FV $751,360
BALANCE SHEET PRESENTATIONBALANCE SHEET PRESENTATIONBALANCE SHEET PRESENTATIONBALANCE SHEET PRESENTATION
Slide 47A Free sample background from www.awesomebackgrounds.com
© 2006 By Default!
Debt financing Introduction Various financing Introduction: Bonds & various types of bonds
Accounting/recording: BONDS Bonds payable issued at discount/premium… Bonds Issued between interest dates Retirement/Redemption of bonds Convertible bonds Bonds refinancing Stock Warrants Fair Value Reporting
Debt Financing: Debt Financing: Chapter 14:SummaryChapter 14:Summary
Debt Financing: Debt Financing: Chapter 14:SummaryChapter 14:Summary
Professor Vedd
Top Related