Chapter 10

Liabilities
Section 2 (of 4)
Use Table of Contents to go to different slides

Slide
10-1
 Study
Study Objectives
Objectives
1. Explain a current liability, and identify the major types of current liabilities.
2. Describe the accounting for notes payable.
3. Explain the accounting for other current liabilities.
4. Explain why bonds are issued, and identify the types of bonds.
5. Prepare the entries for the issuance of bonds and interest expense.
6. Describe the entries when bonds are redeemed or converted.
7. Describe the accounting for long-term notes payable (theory only)

Slide
10-2
 Section 22 Long-Term
Section Long-Term Liabilities
Liabilities Bond
Bond Basics
Basics
WHAT IS A BOND?
Bonds are long-term debt agreements, a form of LONG TERM
interest bearing Notes Payable.

The Company borrows money and issues the lender a bond (or
bonds). The Company pays the bond holder interest.

The contractual agreement specifies:

 A series of either annual or semi-annual interest payments

(INTEREST EXPENSE)
 A lump sum payment (face value) (PAYING BACK THE

PRINCIPAL)

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10-3
 No, not this Bond. . . .

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 Bond
Bond Basics
Basics

Principal = $1,000 (face value on bond)

Interest rate = 3.5% annually = $35, or semi-annually $17.50.
Period: 20 years (interest is paid for 20 years and on the 20th
payment, the bond is redeemed).
Slide
10-5
 Why
Why issue
issue Bonds
Bonds and
and not
not Common
Common Stock?
Stock?

Three advantages of Bond Financing (debt)

over selling additional shares of stock, Stock
Financing (equity):
1. Stockholder control is not affected
2. Tax savings result
3. Earnings per share may be higher

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10-6
 Advantages of Bond
Financing over Common Stock
 Stockholder control
Issuing Bonds brings money into the company (via
debt) but does NOT bring more owners into the
company. More voters mean more votes.
More votes mean loss of Control….so Bond
Financing is better than Stock Financing which
increases the # of voters.

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10-7
 Advantages of Bond
Financing over Common Stock
 Tax expense (hence a deduction!!)
Interest Expense is deductible. By the way,
dividends (currently) are NOT deductible. )….so
Bond Financing is better than Stock Financing
because it gives the company a deduction, which
effectively reduces the cost of the debt.

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10-8
 Advantages of Bond
Financing over Common Stock
 Earnings per Earnings Per Share =
Net Income
share # Shares outstanding

Having debtors does NOT The more Shares

increase the number of outstanding, the LOWER
shareholders. Hence, does the EPS
not affect the EPS….so Bond
Financing is better than Stock
Financing which DOES
increase # shareholders and
can reduce EPS

Slide
10-9
 Bond
Bond Basics
Basics

Types of Bonds
Secured and Unsecured (debenture) bonds.
Term and Serial bonds.
Registered and Bearer (or coupon) bonds.
Convertible and Callable bonds.

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 Secured Bonds...
Have specific assets of
the issuer pledged as
collateral for bonds,
e.g., real estate, or
sinking fund

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 Unsecured or Debenture Bonds...
Are issued against
the general credit
of the borrower.

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 Term Bonds...

Are due for payment (mature) at

a single specified future date.

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 Serial Bonds...

Mature in
installments.

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 Registered & Bearer Bonds...

Registered Bonds are issued in

the name of the owner.

Bearer Bonds are

unregistered. Also
called Coupon Bonds

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 Convertible or Callable Bonds...
Convertible into Stock at
Bondholders option.

Callable – retired early at

Issuing Company’s
option

Read the bond indenture!

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10-16
 Bond
Bond Basics
Basics

The Bond Contract… Known as a the Bond Indenture.

The Board of Directors approves new Bond Issuances --

(If the Company is trying to raise $5,000,000 in bonds,
they would authorize issuing 5,000 bonds (at $1,000 par
value).
The Bond Indenture includes the terms of the Bond
Terms include:
(1) Face Value of total issuance e.g., $5,000,000
(2) Interest rate, also called the “contractual (stated)
rate on the maturity amount (face value).
(3) Life of bond (3,5,7 years, etc.)
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10-17
 Bond
Bond Basics
Basics

Interest is calculated on the Face Value of

the Bond… If the Face Value of total issuance e.g.,
$5,000,000 and annual interest is 8%
The Interest PAID TO THE BONDHOLDERS (in total) would be:

$5,000,000 x 8% = $400,000 annually (usually paid semiannually at

$200,000, every six months.

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10-18
 Bond
Bond Basics-
Basics- terms
terms are
are shown
shown on
on bond
bond

2013

Issuer
Issuer of
of
Bonds
Bonds
DUE 2013

Maturity
Maturity
Date
Date DUE 1976

Face
Face or
or
Par
Par Value
Value
== $1,000 Contractual
Contractual
$1,000
Interest
Interest
Rate
Rate == 3.5%
3.5%
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10-19
 How do you keep them straight?
 Indenture? – Bond Contract
 Debenture? – Type of bond (issued on
general credit of company)

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