Deck 10: Accounting for Long-Term Liabilities

Question 1

Payments on an installment note include the accrued interest expense plus a portion of the amount borrowed.

Answer 1

True

Question 2

A particular feature of callable bonds is that they reduce the bondholder's risk by requiring the issuer to set assets aside to repay the bonds at maturity.

Answer 2

False

Question 3

The carrying value of a bond is computed as the face value minus any unamortized discount or plus any unamortized premium.

Answer 3

True

Question 4

A disadvantage of bond financing over equity financing is the burden on the cash flows of the company.

Question 5

The relationship between the market rate of a bond and the rate of return on the borrowed funds affects the company's return on equity.

Question 6

The legal contract between the issuing corporation and the bondholders is called the bond indenture.

Question 7

Convertible bonds can be exchange for a fixed number of shares of the issuing corporation's stock.

Question 8

A bond with a par value of $1,000 trading at 101 ½ sells for a premium.

Question 9

Interest on bonds is tax deductible.

Question 10

Term bonds mature on one specified date,whereas serial bonds mature at more than one date.

Question 11

An installment note is a liability of the issuing company that requires a series of payments to the lender.

Question 12

Indenture refers to a bond's legal contract; debenture refers to an unsecured bond.

Question 13

A bond with a par value of $1,000 trading at 97 ½ sells for a premium.

Question 14

Callable bonds give the issuer the option to retire them at a stated dollar amount before maturity.

Question 15

A bond's par value is not necessarily the same as its market value.

Question 16

Callable bonds can be exchanged for a fixed number of shares of the issuing corporation's common stock.

Question 17

Long-term notes are typically transacted with multiple lenders.

Question 18

One of the similarities of bond and equity financing is that both dividends and equity distribution payments are tax deductible.

Question 19

Bond market values are expressed as a percent of their par (face)value.

Question 20

Debentures always have specific assets of the issuing company pledged as collateral.

Question 21

Present values can be found using Excel,a calculator or present value tables.

Question 22

Periodic interest payments on bonds are determined by multiplying the par value of the bond by the bond's contract rate.

Question 23

An annual rate of 4% is applied as a semiannual rate of 1%.

Question 24

The factor for the present value of an annuity at 8% for 10 years is 6.7101.This means that an annuity of ten $15,000 payments at 8% has a present value of $2,235.

Question 25

A bond is an issuer's written promise to pay an amount identified as the par value of the bond along with periodic interest payments.

Question 26

A company borrows $10,000 and issues a 5-year,6% installment note with interest payable annually.The factor for the present value of an annuity at 6% for 5 years is 4.2124.The factor for the present value of a single sum at 6% for 5 years is 0.7473.The present value of the interest payments is $2,527.44.

Question 27

Mortgage contracts give the lender the right to be paid from the cash proceeds of the sale of a borrower's assets identified in the mortgage if the borrower fails to make the required payments.

Question 28

A disadvantage of lease financing is the potential to deduct rental payments from taxable income.

Question 29

A pension plan is a contractual agreement between an employer and its employees to provide benefits to employees after they retire.

Question 30

An advantage of bond financing is that issuing bonds does not affect owner control.

Question 31

A lease is a contractual agreement between a lessor and a lessee that grants the lessee the right to use the asset for a period of time in return for cash payment(s)to the lessor.

Question 32

The bonds' future cash flows include the par value paid at maturity and the interest payments.

Question 33

An annuity is a series of equal payments at equal time intervals.

Question 34

A company borrows $40,000 and issues a 3-year,10% installment note with interest payable annually.The factor for the present value of an annuity at 10% for 3 years is 2.4869.The factor for the present value of a single sum at 10% for 3 years is 0.7513.The amount of the annual interest payment is $16,084.28.

Question 35

The contract rate of interest is the rate that borrowers are willing to pay and lenders are willing to accept for a particular bond and its risk level.

Question 36

Operating leases are long-term or noncancelable leases in which the lessor transfers substantially all the risks and rewards of ownership to the lessee.

Question 37

Mortgage bonds are backed only by the good faith and credit of the issuing company.

Question 38

When calculating the issuance price of a bond,use the market rate to compute the present value of the bond's future cash flows.

Question 39

The factor for the present value of an annuity for 6 years at 10% is 4.3553.This means that an annuity of six $2,000 payments at 10% is the equivalent of $8,710.60 today.

Question 40

An advantage of lease financing is the lack of an immediate large cash payment for the leased asset.

Question 41

The use of debt financing always yields an increase in return on equity.

Question 42

When the contract rate is above the market rate,a bond sells at a discount.

Question 43

A discount on bonds payable occurs when a company issues bonds with an issue price less than par value.

Question 44

A company with a low level of liabilities in relation to stockholders' equity is likely to have a very high debt-to-equity ratio.

Question 45

A company's ability to issue unsecured debt depends on its credit standing.

Question 46

Collateral from unsecured loans may be sold to offset the loan obligation if the loan is in default.

Question 47

The carrying (book)value of a bond payable is the par value of the bonds plus any discount or minus any premium.

Question 48

A 10-year bond issue with a $100,000 par value,8% annual contract rate,with interest payable semiannually means that the issuer must repay $100,000 at the end of 10 years and make 20 semiannual interest payments of $4,000 each.

Question 49

On January 1,a company issued a $500,000,10%,8-year bond payable,and received proceeds of $473,845.Interest is payable each June 30 and December 31.The total interest expense on the bond over its eight-year life is $400,000.

Question 50

A company's debt-to-equity ratio was 1.0 at the end of Year 1.By the end of Year 2,it had increased to 1.7.Since the ratio increased from Year 1 to Year 2,the degree of risk in the firm's financing structure decreased during Year 2.

Question 51

The carrying (book)value of a bond at the time it is issued is always equal to its par value.

Question 52

The market rate for bonds is generally higher when the time period to maturity is longer due to the risk of adverse events occurring over the time period.

Question 53

A lessee has substantially all of the benefits and risks of ownership in an operating lease.

Question 54

When the contract rate on a bond issue is less than the market rate,the bonds sell at a discount.

Question 55

The contract rate on previously issued bonds changes as the market rate of interest changes.

Question 56

The debt-to-equity ratio enables financial statement users to assess the risk of a company's financing structure.

Question 57

The debt-to-equity ratio is calculated by dividing stockholders' equity attributable to common shareholders by total liabilities.

Question 58

Bond interest paid by a corporation is an expense,whereas dividends paid are not an expense of the corporation.

Question 59

A company has total assets of $350,000 and total liabilities of $200,000.Its debt-to-equity ratio is 0.6.

Question 60

Return on equity increases when the expected rate of return from the acquired assets is higher than the interest rate on the debt issued to finance the acquired assets.

Question 61

Secured bonds:

A)Are called debentures.
B)Have specific assets of the issuing company pledged as collateral.
C)Are backed by the issuer's bank.
D)Are subordinated to those of other unsecured liabilities.
E)Are the same as sinking fund bonds.

Question 62

Two common ways of retiring bonds before maturity are to (1)exercise a call option or (2)purchase them on the open market.

Question 63

When convertible bonds are converted to a company's stock,the carrying value of the bonds is transferred to equity accounts and no gain or loss is recorded.

Question 64

Sinking fund bonds:

A)Require the issuer to set aside assets to pay the bonds at maturity.
B)Require equal payments of both principal and interest over the life of the bond issue.
C)Decline in value over time.
D)Are registered bonds.
E)Are bearer bonds.

Question 65

Bonds that have an option giving the issuer the right to retire them at a stated dollar amount before maturity are known as:

A)Convertible bonds.
B)Sinking fund bonds.
C)Callable bonds.
D)Serial bonds.
E)Junk bonds.

Question 66

Premium on Bonds Payable is an adjunct liability account,as it increases the carrying value of the bond.

Question 67

Bonds owned by investors whose names and addresses are recorded by the issuing company,and for which interest payments are made with checks or cash transfers to the bondholders,are called:

A)Callable bonds.
B)Serial bonds.
C)Registered bonds.
D)Coupon bonds.
E)Bearer bonds.

Question 68

A premium reduces the interest expense of a bond over its life.

Question 69

A discount reduces the interest expense of a bond over its life.

Question 70

On January 1,a company issued a $500,000,10%,8-year bond payable,and received proceeds of $473,845.Interest is payable each June 30 and December 31.The company uses the straight-line method to amortize the discount.The amount of discount amortized each period is $1,634.69.

Question 71

When the contract rate of a bond is greater than the market rate on the date of issuance,the bond sells at a discount.

Question 72

The issue price of a bond is equal to the present value of all future cash payments discounted at the bond's market rate.

Question 73

A premium on bonds occurs when bonds carry a contract rate greater than the market rate at issuance.

Question 74

Bonds that have interest coupons attached to their certificates,which the bondholders present to a bank or broker for collection,are called:

A)Coupon bonds.
B)Callable bonds.
C)Serial bonds.
D)Convertible bonds.
E)Registered bonds.

Question 75

A bond traded at 102½ means that:

A)The bond pays 2.5% interest.
B)The bond traded at 102.5% of its par value.
C)The market rate of interest is 2.5%.
D)The bonds were retired at $1,025 each.
E)The market rate of interest is 2½% above the contract rate.

Question 76

Payments on installment notes include accrued interest plus a portion of the amount borrowed (principal).

Question 77

The issue price of bonds is found by computing the future value of the bond's cash payments,discounted at the contract rate of interest.

Question 78

The equal total payments pattern for installment notes consists of changing amounts of interest but constant amounts of principal over the life of the note.

Question 79

On January 1,a company issued a $500,000,10%,8-year bond payable,and received proceeds of $473,845.Interest is payable each June 30 and December 31.The company uses the straight-line method to amortize the discount.The amount of interest expense to be recorded on June 30 is $25,000.

Question 80

The effective interest method assigns a bond interest expense amount that increases over the life of a premium bond.