Deck 14: Long-Term Liabilities: Bonds and Notes

Question 1

When a corporation issues bonds, it executes a contract with the bondholders, known as a bond debenture.

Answer 1

False

Question 2

The amount of interest expense reported on the income statement will be more than the interest paid to bondholders if the bonds were originally sold at a discount.

Answer 2

True

Question 3

If the market rate of interest is 8% and a corporation's bonds bear interest at 7%, the bonds will sell at a premium.

Answer 3

False

Question 4

The effective interest rate method of amortizing a bond discount or premium is the preferred method.

Question 5

If the bondholder has the right to exchange a bond for shares of common stock, the bond is called a convertible bond.

Question 6

A bond is usually divided into a number of individual bonds of $500 each.

Question 7

The market rate of interest is affected by a variety of factors, including investors' assessment of current economic conditions.

Question 8

Bondholders' claims on the assets of the corporation rank ahead of stockholders' claims.

Question 9

The price of a bond is equal to the sum of the interest payments and the face amount of the bonds.

Question 10

A bond is simply a form of an interest-bearing note.

Question 11

If the straight-line method of amortization of discount on bonds payable is used, the amount of yearly interest expense will increase as the bonds approach maturity.

Question 12

The total interest expense over the entire life of a bond is equal to the sum of the interest payments plus the total discount or minus the total premium related to the bond.

Question 13

Bonds are sold at face value when the contract rate is equal to the market rate of interest.

Question 14

The prices of bonds are quoted as a percentage of the bonds' market value.

Question 15

The face value of a term bond is payable at a single specific date in the future.

Question 16

Premium on bonds payable may be amortized by the straight-line method if the results obtained by its use do not materially differ from the results obtained by use of the interest method.

Question 17

If the straight-line method of amortization is used, the amount of unamortized premium on bonds payable will decrease as the bonds approach maturity.

Question 18

Bondholders are creditors of the issuing corporation.

Question 19

There are two methods of amortizing a bond discount or premium: the straight-line method and the double-declining-balance method.

Question 20

When the market rate of interest is less than the contract rate for a bond, the bond will sell for a premium.

Question 21

Discount on Bonds Payable is a contra liability account.

Question 22

An installment note is a debt that requires the borrower to make equal periodic payments to the lender for the term of the note.

Question 23

When a portion of a bond issue is redeemed, a related proportion of the unamortized premium or discount must be written off.

Question 24

There is a loss on redemption of bonds when bonds are redeemed above carrying value.

Question 25

If the amount of a bond premium on an issued 11%, four-year, $100,000 bond is $12,928, the annual interest expense is $5,500.

Question 26

The amortization of a premium on bonds payable decreases bond interest expense.

Question 27

Interest payments on 12% bonds with a face value of $20,000 and interest paid semiannually would be $2,400 every six months.

Question 28

Callable bonds are redeemable by the issuing corporation within the period of time and at the price stated in the bond indenture.

Question 29

Amortization is the allocation process of writing off bond premiums and discounts to interest expense over the life of the bond issue.

Question 30

Only callable bonds can be purchased by the issuing corporation before maturity.

Question 31

If the amount of a bond premium on an issued 11%, four-year, $100,000 bond is $12,928, the semiannual straight-line amortization of the premium is $1,416.

Question 32

If bonds of $1,000,000 with unamortized discount of $10,000 are redeemed at 98, the gain on redemption of bonds is $10,000.

Question 33

Both callable and noncallable bonds can be purchased by the issuing corporation in the open market.

Question 34

The carrying amount of the bonds is defined as the face value of the bonds plus any unamortized discount or less any unamortized premium.

Question 35

To determine the six-month interest payment amount on a bond, you would take one-half of the market rate times the face value of the bond.

Question 36

Gains and losses on the redemption of bonds are reported as Other income or Other expense on the income statement.

Question 37

A corporation often issues callable bonds to protect itself against significant declines in future interest rates.

Question 38

Callable bonds can be redeemed by the issuing corporation at the fair market price of the bonds.

Question 39

If bonds are sold for a discount, the carrying value of the bonds is equal to the face value less the unamortized discount.

Question 40

When there are material differences between the results of using the straight-line method and using the effective interest rate method of amortization, the effective interest rate method should be used.

Question 41

The times interest earned ratio is calculated by dividing Bonds Payable by Interest Expense.

Question 42

Which of the following is not an advantage of issuing bonds instead of common stock?

A) Tax savings result.
B) Income to common shareholders may increase.
C) Earnings per share on common stock may be lower.
D) Stockholder control is not affected.

Question 43

An equal stream of periodic payments is called an annuity.

Question 44

If $500,000 of 10-year bonds with interest payable semiannually are sold for $494,040 based on
(1) the present value of $500,000 due in 20 periods at 5% plus
(2) the present value of twenty $25,000 payments at 5%, the nominal or contract rate and the market rate of interest for the bonds are both 10%.

Question 45

The present value of the periodic bond interest payments is the value today of the amount of interest to be received at the end of each interest period.

Question 46

A bond indenture is

A) a contract between the corporation issuing the bonds and the underwriters selling the bonds
B) the amount due at the maturity date of the bonds
C) a contract between the corporation issuing the bonds and the bondholders
D) the amount for which the corporation can buy back the bonds prior to the maturity date

Question 47

One reason a dollar today is worth more than a dollar one year from today is the time value of money.

Question 48

When the corporation issuing the bonds has the right to redeem the bonds prior to maturity, the bonds are

A) convertible bonds
B) unsecured bonds
C) debenture bonds
D) callable bonds

Question 49

One potential advantage of financing corporations through the use of bonds rather than common stock is

A) the interest on bonds must be paid when due
B) the corporation must pay the bonds at maturity
C) the interest expense is deductible for tax purposes by the corporation
D) a higher earnings per share is guaranteed for existing common shareholders

Question 50

The higher the times interest earned ratio, the better the creditors' protection.

Question 51

The concept of present value is that an amount of cash to be received at some date in the future is the equivalent of the same amount of cash held at an earlier date.

Question 52

The present value of $5,000 to be received in four years at a market rate of interest of 6% compounded annually is $3,636.30.

Question 53

The buyer determines how much to pay for bonds by computing the present value of future cash receipts using the contract rate of interest.

Question 54

The interest portion of an installment note payment is computed by multiplying the interest rate by the carrying amount of the note at the end of the period.

Question 55

The balance in a bond discount account should be reported on the balance sheet as a deduction from the related bonds payable.

Question 56

The balance in Premium on Bonds Payable should be reported as a deduction from Bonds Payable on the balance sheet.

Question 57

The effective interest rate method produces a constant dollar amount of interest expense to be reported each interest period.

Question 58

Bonds payable should be reported on the balance sheet at face value plus or minus any unamortized premium or discount.

Question 59

When the effective interest rate method of amortization is used, the amount of interest expense for a given period is calculated by multiplying the face rate of interest by the bond's carrying value at the beginning of the given period.

Question 60

The present value of an annuity is the sum of the present values of each cash flow.

Question 61

Levi Company issued $200,000 of 12% bonds on January 1 at face value. The bonds pay interest semiannually on January 1 and July 1. The bonds are dated January 1 and mature in five years on January 1. The total interest expense related to these bonds for the current year ending on December 31 is

A) $2,000
B) $6,000
C) $18,000
D) $24,000

Question 62

The journal entry a company records for the issuance of bonds when the contract rate and the market rate are the same is to

A) debit Bonds Payable, credit Cash
B) debit Cash and Discount on Bonds Payable, credit Bonds Payable
C) debit Cash, credit Premium on Bonds Payable and Bonds Payable
D) debit Cash, credit Bonds Payable

Question 63

Bonds that are subject to retirement prior to maturity at the option of the issuer are called

A) debentures
B) callable bonds
C) early retirement bonds
D) options

Question 64

If the market rate of interest is 7%, the price of 6% bonds paying interest semiannually with a face value of $500,000 will be

A) equal to $500,000
B) greater than $500,000
C) less than $500,000
D) greater than or less than $500,000, depending on the maturity date of the bonds

Question 65

Selling the bonds at a premium has the effect of

A) raising the effective interest rate above the stated interest rate
B) attracting investors that are willing to pay a lower rate of interest than on similar bonds
C) causing the interest expense to be higher than the bond interest paid
D) causing the interest expense to be lower than the bond interest paid

Question 66

The entry to record the amortization of a premium on bonds payable on an interest payment date would be

A) a debit to Premium on Bonds Payable and a credit to Interest Revenue
B) a debit to Interest Expense and a credit to Premium on Bond Payable
C) a debit to Interest Expense and Premium on Bonds Payable and a credit to Cash
D) a debit to Bonds Payable and a credit to Interest Expense

Question 67

A legal document that indicates the name of the issuer, the face value of the bond and such other data is called

A) trading on the equity
B) a convertible bond
C) a bond debenture
D) a bond indenture

Question 68

On January 1 of the current year, Barton Corporation issued 10% bonds with a face value of $200,000. The bonds are sold for $191,000. The bonds pay interest semiannually on June 30 and December 31, and the maturity date is December 31, five years from now. Barton records straight-line amortization of the bond discount. The bond interest expense for the year ended December 31 is

A) $10,900
B) $18,200
C) $21,800
D) $29,000

Question 69

If $2,000,000 of 10% bonds are issued at 97, the amount of cash received from the sale is

A) $2,060,000
B) $2,000,000
C) $2,100,000
D) $1,940,000

Question 70

A corporation issues for cash $1,000,000 of 10%, 20-year bonds, interest payable annually, at a time when the market rate of interest is 12%. The straight-line method is adopted for the amortization of bond discount or premium. Which of the following statements is true?

A) The amount of annual interest expense is computed at 10% of the bond carrying amount at the beginning of the year.
B) The amount of annual interest expense gradually decreases over the life of the bonds.
C) The amount of unamortized discount decreases from its balance at issuance date to a zero balance at maturity.
D) The bonds will be issued at a premium.

Question 71

When the maturities of a bond issue are spread over several dates, the bonds are called

A) serial bonds
B) bearer bonds
C) debenture bonds
D) term bonds

Question 72

Basil Corporation issues for cash $1,000,000 of 8%, 10-year bonds, interest payable annually, at a time when the market rate of interest is 7%. The straight-line method is adopted for the amortization of bond discount or premium. Which of the following statements is true?

A) The carrying amount increases from its amount at issuance date to $1,000,000 at maturity.
B) The carrying amount decreases from its amount at issuance date to $1,000,000 at maturity.
C) The amount of annual interest paid to bondholders increases over the 10-year life of the bonds.
D) The amount of annual interest expense decreases as the bonds approach maturity.

Question 73

If the straight-line method of amortization of bond premium or discount is used, which of the following statements is true?

A) Annual interest expense will increase over the life of the bonds with the amortization of bond premium.
B) Annual interest expense will remain the same over the life of the bonds with the amortization of bond discount.
C) Annual interest expense will decrease over the life of the bonds with the amortization of bond discount.
D) Annual interest expense will increase over the life of the bonds with the amortization of bond discount.

Question 74

If $1,000,000 of 8% bonds are issued at 102 3/4, the amount of cash received from the sale is

A) $1,080,000
B) $972,500
C) $1,000,000
D) $1,027,500

Question 75

The interest rate specified in the bond indenture is called the

A) discount rate
B) contract rate
C) market rate
D) effective rate

Question 76

The market interest rate related to a bond is also called the

A) stated interest rate
B) effective interest rate
C) contract interest rate
D) straight-line rate

Question 77

When the market rate of interest on bonds is higher than the contract rate, the bonds will sell at

A) a premium
B) their face value
C) their maturity value
D) a discount

Question 78

If bonds are issued at a discount, it means that the

A) bondholder will receive effectively less interest than the contractual rate of interest
B) market interest rate is lower than the contractual interest rate
C) market interest rate is higher than the contractual interest rate
D) financial strength of the issuer is suspect

Question 79

The adjusting entry to record the amortization of a discount on bonds payable is

A) debit Discount on Bonds Payable, credit Interest Expense
B) debit Interest Expense, credit Discount on Bonds Payable
C) debit Interest Expense, credit Cash
D) debit Bonds Payable, credit Interest Expense

Question 80

Dylan Corporation issues for cash $2,000,000 of 8%, 15-year bonds, interest payable annually, at a time when the market rate of interest is 9%. The straight-line method is adopted for the amortization of bond discount or premium. Which of the following statements is true?

A) The amount of annual interest paid to bondholders remains the same over the life of the bonds.
B) The amount of annual interest expense decreases as the bonds approach maturity.
C) The amount of annual interest paid to bondholders increases over the 15-year life of the bonds.
D) The carrying amount decreases from its amount at issuance date to $2,000,000 at maturity.