Financing Part I: Debt

Chapter 14 in Spiceland
See example excel files examples
File names: Bonds and Leases
Topics:
 Liabilities
 Notes
 Bonds
 Leases
 Current portion of non-current liabilities
 Non-current liabilities expected to be
refinanced

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 Non Current Liabilities:

 Notes ( longer than one year)

 Mortgage notes
 Car loan
 Bonds

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 Bonds:

 Types
 Terms
 Issuance
 Calculation of price
 Rules
 Interest determination
 Retirement
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 Bonds (Types):
 Bearer Bonds - Registered bonds
 Callable bonds
 Convertible bonds
 Coupon bonds - Zero coupon bonds
 Debenture bonds
 Mortgage bonds
 Serial bonds
 Junk bonds – Deep discount bonds

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 Bonds (Terms):
 Indenture document – bond covenant
 Underwriters
 Face value - Maturity value
 Coupon rate
 Discount rate - yield rate – effective rate
 Issue price
 Premium - discount

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 Bonds: Issue Price:

1. Maturity value * Coupon rate = interest payment

I.e., (100,000 * .1 = $10,000
2. Bond interest paid semi-annually --- interest
payment/2 I.e., ($10,000/2 = $ 5,000
3. Discount Maturity value using discount rate:
$100,000 * PV (r, i)
4. Discount interest payments: $5,000*PVA(r.i)
5. PV of maturity value + PV of interest payments =
Issue price
6. Difference between maturity value and issue price
= Premium or (discount)
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Issue Price Example (1):
Maturity value = $100,000; coupon rate =
10%; term: 10 years; discount rate: 8%
100,000 *PV(4%, 20) = .45639 = $ 45,639
100,000 * .1/2 =
$5,000 *PVA(20,4%) = 13.59033 = 67,952
Issue Price $113,591
Dr. Cash $113,591
cr. Bonds payable $100,000
Cr. Premium $ 13,591

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Issue Price Example (2):
Maturity value = $100,000; coupon rate =
10%; term: 10 years; discount rate: 12%
100,000 *PV(6%, 20) = . .31180 = $ 31,180
100,000 * .1/2 =
$5,000 *PVA(20,6%) = 11.46992 = 57,350
Issue Price $ 88,530
Dr. Cash $ 88,530
Dr. discount $ 11,470
cr. Bonds payable $100,000

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 Amortization of Premium
Carrying Interest Interest Interest Reduction in
value rate expense paid CV
(CV)
113,591 .04 4.544 5000 (456)
113,134 .04 4.525 5000 (475)
112,660 .04 4.506 5000 (513)

100,962 .04 4,038 5000 (962)

100,000
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 Amortization of Discount
Carrying Interest Interest Interest Reduction in
value rate expense paid CV
(CV)
88,530 .06 5,312 5000 312
88,841 .06 5,330 5000 330
89,172 .06 5,350 5000 350

99,057 .06 5,943 5000 943

100,000
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Retirement at Maturity
Final interest payment:
 Dr. Interest expense $5,943
 Cr. Discount $ 943
 Cr. Cash $ 5,000
 Payment of Maturity Value:

 Dr. Bond payable $100,000

 Cr. Cash $100,000
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Repurchase After 5 Years
Bond market value: $ 97,000, carrying value: $92,112 )
(cash includes $5,000 for interest payment)
 Dr. Interest expense $ 5,527
 Dr. Bond payable $ 100,000
 Dr. loss on early retirement $ 3,834
 Cr. Discount $ 7,361
 Cr. Cash $ 102,000

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Called After 5 Years
Bond market value: $ 106,000, carrying value: $92,112;
Called at: 101 (% of maturity value)(cash includes
$5,000 for interest payment)
 Dr. Interest expense $ 5,527
 Dr. Bond payable $ 100,000
 Dr. loss on early retirement $ 7,834
 Cr. Discount $ 7,361
 Cr. Cash $ 106,000

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Converted After 5 Years
Bond market value: $ 97,000, carrying value:
$92,112; converted into common stock.
 Dr. Interest expense $ 5,527
 Dr. Bond payable $ 100,000
 Cr. Discount $ 7,361
 Cr. Cash $ 5,000
 Cr. Common Stock $ 93,166

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Early Retirement:
 Gain or loss used to be treated as an
extraordinary event (FAS 4)
 No longer the case ----- FAS 145:
now early retirement leads to ordinary
gain or loss

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Current Portion of Long Term
Debt
 Needs to be reclassified from non-
current to current – However:
 If company has both the intent and the
ability to refinance then
separate category between current and
non-current

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