Chapter 14

Question 1

14-2 1. How interest expense is calculated?

2. Calculating the bond
   - PMT = ?
   - solve for unknown
   - interest expense
3. Don’t forget (!)

Answer 1

1. Is calculated with the market rate. If it’s not given we take the rate the borrower would have in other circumstances

2.

• PMT = stated rate x face value (always)
• 4 known, you can solve for the 5th. For PMT and FV
• I might have to put a minus in front = cash outflow!
• market rate x note carrying value
  3. Accruals at Dec 31.

Question 2

14-2 (2) 1. What you accrue at Dec. 31?

• for Notes Payable/Mortgage payable
• for instalment notes

Answer 2

1. • Interest expense and Note Payable (discount or premium)
     - only interest expense. The ‘discount’ part of the instalment is recognized in full (for that period only) on the B/S as a current liability

Question 3

14-2 Reporting on the B/S at Dec 31

• Mortgage payable
• Instalment note

Answer 3

• Current Liabilities : Interest PAYABLE (=pmt ACCRUED!)
• Non-current liabilities*:

Mortgage note payable, due xxx (carrying amount + (!) what was added as the discount accrual)

Instalment note:

• Current liabilities:

Interest payable (Interest expense accrued because you don’t accrue the discount or the premium for the difference)

Instalment note payable, current portion (the CURRENT portion = the whole discount/premium for that period)

• Non-current liabilities:

Instalment note payable (carrying amount - the current portion)

Question 4

14-5

1. careful when you calculate the number of payments
2. when they ask to calculate through a certain date…
3. How is carrying amount of a bond calculated (in a schedule)

Answer 4

1. don’t take into account the date of sale (ex: Mar 1, 2014 sold to Sept 1, 2017 - semiannually) = 7 (!) payments
2. it means to calculate up and included that date

3.

-Add up the discount as you have to increase the value to maturity date

OR

-Subtract the premium as you have to decrease the original price paid to maturity date

Question 5

A7-18

1. Calculate blended payment
2. Create a schedule
3. JE - issuing, interest expense

Answer 5

1. if you have 3 knowns, you can calculate the fourth (if you know: N, I, and PV you can solve for PMT). If it doens’t look right, enter FV = 0
2. -don’t forget that the PMT (cash paid) is always the same (the blended payment calculated- same for instalments)
   - interest is calculated on the carrying amount of the note payable (market rate)
   - Principal = PMT - interest. ONLY the principal is subtracted from the Note Payable
3. PV is given:
   dr. Cash 125
   cr. Note payable 125
   dr. Interest expense (carrying amount x interest rate)
   dr. Note Payable (the amount of the principal is subtracted from the Note Payable)

cr. Cash (the blended payment)

Question 6

Calculation of PV - check figures:

FV = 1000

N = 8

PMT = 60 (6% coupon/stated rate)

Y/I = 7% (market rate = yield)

Answer 6

940.29

Question 7

A12-12 How are gross method and net method different?

Answer 7

Net method:

• NO discount nor premium => you record the B/P at present value - when you record interest expense, because you don’t have a discount/premium, the difference between Interest expense (carrying amount x market rate) and Cash PMT (FV x stated rate) goes directly into the Bond account.

Question 8

14-3

1. Difference on the schedule between effective interest rate and straight line
2. How you calculate the STATED rate and the MARKET rate if they are not given (if they give you only the schedule)
3. If the ask for year end entries when the payment date is January 1st…
4. DISCOUNT/PREMIUM or the entries directly to the Bonds payable account are always:

Answer 8

1. The amortization (= discount or premium) and the Interest expense are the same for straight line ?!?
2. CASH PMT/present value = stated rate

Interest expense/Carrying amount = market rate

3. you still record the accrual on Dec31
4. The difference between the CASH PMT and the INTEREST EXPENSE. This is the amount that is added/subtracted on/from the Carrying amount! (not the interest expense!)

Question 9

14-6 -bond repurchases between interest dates:

1. What goes into CASH ?
2. B/P?
3. What do we debit, what do we credit?

Answer 9

1. CASH = whatever the selling price is (PV) + ACCRUED INTEREST (because the issuer will pay the full amount at the payment date) (cr)
2. PV value of the Bond or sale price (dr.)
   cr. Interest expense (this way it goes against the our interest expense when we have to pay the full amount)
   dr. /cr Loss/Gain on Redemption

Question 10

Calculating carrying amount when you repurchase/extinguish a bond

Answer 10

AMORTIZE THE BONDS PAYABLE - up to the point of sale

DR. Bonds Payable

CR. Interest expense (use that when it comes to a repurchase- is going to net with your expense)

1. decide how much cash you will have to pay = PV of the bond + accrued interest
2. Calculate the carrying amount of the bond so you can determine the gain or the loss: *par value of the bond + unamortized premium or (-) unamortized discount

How I calculate the unamortized premium or the unamortized discount:

* determine how much % you repurchase

* determine how many months are unamortized (it is easier to calculate in months: 105/116) 35,000 x (420,000/700,000)x 105/116

*add up the accrued interest (if it’s not inluded in the price)

The difference between the reacquisition price and the carrying amount is the GAIN or the LOSS

Question 11

P14-10 - October 1, 2014: payment of the semi-annual interest

Answer 11

• that means that you also amortize the Bond - (as opposed to only recording the Interest expense)

* same at the end of the year for the accrued interest!

Question 12

Instalment note - calculating PMT

Answer 12

1. Use a PV (hopefully given):

PV = 231,766

I = 10

N = 5

FV = 0 (there is no FV - with the instalment notes, the payment are high and you subtract them from the carrying amount so by the end of the term the liability is extinguished)

PMT = ?

Question 13

On October 1, 2015, Ouelette buys back $1.2 million
worth of bonds for S1.4 million (includes accrued interest).

Answer 13

1. Calculate how much the accrued interest is so you subtract it from the carrying amount (be careful at the months and at the PERCENTAGE you accumulate that Interest expense - use the percentage you buy back)
2. Update the carrying amount of the bond in this entry as well (in the same journal entry)
3. Calculate the updated carrying amount of the bond:
   - par value (=the value you sell, in this case 1,2 mil and add up unamortized premium (or subtract discount)
   - calculate the unamourtized premium:

the percentage you buy back x (the full amount of the premium - what was already amortized)

4. make the journal entry and record the LOSS/GAIN on redemption
   dr. Bonds Payable - the amount you buy back
   dr. Bonds Payable (for the anamortized premium)
   dr. Loss on Redemption (the amount already calculated)
   cr. CASH - plug figure (to cover all the debits)