Accounting principles 11e kieso kimmel chapter 015

Prepared by Coby Harmon University of California, Santa Barbara Westmont College 15-1 15 Long-Term Liabilities Learning Objectives After studying this chapter, you should be able to: [1] Explain why bonds are issued [2] Prepare the entries for the issuance of bonds and interest expense [3] Describe the entries when bonds are redeemed or converted [4] Describe the accounting for long-term notes payable [5] Contrast the accounting for operating and capital leases [6] Identify the methods for the presentation and analysis of long-term liabilities 15-2 Preview of Chapter 15 Accounting Principles Eleventh Edition Weygandt Kimmel Kieso 15-3 Bond Basics Bonds are a form of interest-bearing notes payable Three advantages over common stock: Stockholder control is not affected Tax savings result Return on common stockholders’ equity may be higher Helpful Helpful Hint Hint Besides Besides corporations, corporations, governmental governmental agencies agencies and and universities universities also also issue issue bonds bonds to to raise raise capital capital 15-4 LO Explain why bonds are issued Bond Basics Effects on earnings per share—stocks vs bonds Illustration 15-2 15-5 LO Explain why bonds are issued Bond Basics Question Major disadvantages resulting from the use of bonds are: a that interest is not tax deductible and the principal must be repaid b that the principal is tax deductible and interest must be paid c that neither interest nor principal is tax deductible d that interest must be paid and principal repaid 15-6 LO Explain why bonds are issued Bond Basics Types of Bonds 15-7  Secured and Unsecured (debenture) bonds  Term and Serial bonds  Registered and Bearer (or coupon) bonds  Convertible and Callable bonds LO Explain why bonds are issued Bond Basics Issuing Procedures 15-8  State laws grant corporations the power to issue bonds  Board of directors and stockholders must approve bond issues  Board of directors must stipulate number of bonds to be authorized, total face value, and contractual interest rate  Bond contract known as a bond indenture  Paper certificate, typically a $1,000 face value LO Explain why bonds are issued Bond Basics Issuing Procedures  15-9 Represents a promise to pay: ► sum of money at designated maturity date, plus ► periodic interest at a contractual (stated) rate on the maturity amount (face value)  Interest payments usually made semiannually  Generally issued when the amount of capital needed is too large for one lender to supply LO Explain why bonds are issued Bond Basics Issuer Issuer of of Bonds Bonds Illustration 15-3 Bond certificate Maturity Maturity Date Date Contractual Contractual Interest Interest Rate Rate 15-10 Face Face or or Par Par Value Value LO Explain why bonds are issued APPENDIX 15B Amortizing Bond Premium Illustration: Candlestick, Inc issues $100,000 of 10%, five-year bonds on January 1, 2014, for $108,111, with interest payable each July and January This results in a premium of $8,111 Illustration 15B-4 15-69 LO Apply the effective-interest method of amortizing bond discount and bond premium APPENDIX 15B Amortizing Bond Premium Illustration: Candlestick, Inc issues $100,000 of 10%, five-year bonds on January 1, 2014, for $108,111, with interest payable each July and January This results in a premium of $8,111 Journal entry on July 1, 2014, to record the interest payment and amortization of premium is as follows: July Interest Expense Premium on Bonds Payable Cash 15-70 4,324 676 5,000 LO Apply the effective-interest method of amortizing bond discount and bond premium APPENDIX 15C Straight-Line Amortization Amortizing Bond Discount Illustration: Candlestick, Inc., sold $100,000, five-year, 10% bonds on January 1, 2014, for $92,639 (discount of $7,361) Interest is payable on July and January Illustration 15C-2 15-71 LO Apply the straight-line method of bond discount and bond premium APPENDIX 15C Straight-Line Amortization Illustration: Candlestick, Inc., sold $100,000, five-year, 10% bonds on January 1, 2014, for $92,639 (discount of $7,361) Interest is payable on July and January The bond discount amortization for each interest period is $736 ($7,361/10) Journal entry on July 1, 2014, to record the interest payment and amortization of discount is as follows: July Interest Expense Discount on Bonds Payable Cash 15-72 5,736 736 5,000 LO Apply the straight-line method of bond discount and bond premium APPENDIX 15C Straight-Line Amortization Amortizing Bond Premium Illustration: Candlestick, Inc., sold $100,000, five-year, 10% bonds on January 1, 2014, for $108,111 (premium of $8,111) Interest is payable on July and January Illustration 15C-4 15-73 LO Apply the straight-line method of bond discount and bond premium APPENDIX 15C Straight-Line Amortization Illustration: Candlestick, Inc., sold $100,000, five-year, 10% bonds on January 1, 2014, for $108,111 (premium of $8,111) Interest is payable on July and January Journal entry on July 1, 2014, to record the interest payment and amortization of discount is as follows: July Interest Expense Premium on Bonds Payable Cash 15-74 4,189 811 5,000 LO Apply the straight-line method of bond discount and bond premium A Look at IFRS Key Points 15-75  As indicated in Chapter 11, in general GAAP and IFRS define liabilities similarly  IFRS requires that companies classify liabilities as current or non-current on the face of the statement of financial position (balance sheet), except in industries where a presentation based on liquidity would be considered to provide more useful information (such as financial institutions) When current liabilities (also called short-term liabilities) are presented, they are generally presented in order of liquidity  Under IFRS, liabilities are classified as current if they are expected to be paid within 12 months LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS Key Points 15-76  Similar to GAAP, items are normally reported in order of liquidity Companies sometimes show liabilities before assets Also, they will sometimes show non-current (long-term) liabilities before current liabilities  Under both GAAP and IFRS, preferred stock that is required to be redeemed at a specific point in time in the future must be reported as debt, rather than being presented as either equity or in a “mezzanine” area between debt and equity  The basic calculation for bond valuation is the same under GAAP and IFRS In addition, the accounting for bond liability transactions is essentially the same between GAAP and IFRS LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS Key Points  IFRS requires use of the effective-interest method for amortization of bond discounts and premiums GAAP allows use of the straight-line method where the difference is not material Under IFRS, companies not use a premium or discount account but instead show the bond at its net amount For example, if a $100,000 bond was issued at 97, under IFRS a company would record: Cash 97,000 Bonds Payable 15-77 97,000 LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS Key Points 15-78  The accounting for convertible bonds differs across IFRS and GAAP, Unlike GAAP, IFRS splits the proceeds from the convertible bond between an equity component and a debt component The equity conversion rights are reported in equity  Both Boards share the same objective of recording leases by lessess and lessors according to their economic substance—that is, according to the definitions of assets and liabilities However, GAAP for leases is much more “rules-based” with specific bright-line criteria (such as the “90% of fair value” test) to determine if a lease arrangement transfers the risks and rewards of ownership; IFRS is more conceptual in its provisions Rather than a 90% cut-off, it asks whether the agreement transfers substantially all of the risks and rewards associated with ownership LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS Looking to the Future The FASB and IASB are currently involved in two projects, each of which has implications for the accounting for liabilities One project is investigating approaches to differentiate between debt and equity instruments The other project, the elements phase of the conceptual framework project, will evaluate the definitions of the fundamental building blocks of accounting The results of these projects could change the classification of many debt and equity securities In addition to these projects, the FASB and IASB have also identified leasing as one of the most problematic areas of accounting A joint project will initially focus primarily on lessee accounting 15-79 LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS IFRS Self-Test Questions The accounting for bonds payable is: 15-80 a) essentially the same under IFRS and GAAP b) differs in that GAAP requires use of the straight-line method for amortization of bond premium and discount c) the same except that market prices may be different because the present value calculations are different between IFRS and GAAP d) not covered by IFRS LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS IFRS Self-Test Questions Under IFRS, if preference shares (preferred stock) have a requirement to be redeemed at a specific point in time in the future, they are treated: 15-81 a) as a type of asset account b) as ordinary shares (common stock) c) in the same fashion as other types of preference shares d) as a liability LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS A Look at IFRS IFRS Self-Test Questions The leasing standards employed by IFRS: 15-82 a) rely more heavily on interpretation of the conceptual meaning of assets and liabilities than GAAP b) are more “rules based” than those of GAAP c) employ the same “bright-line test” as GAAP d) are identical to those of GAAP LO 10 Compare the accounting for long-term liabilities under GAAP and IFRS Copyright “Copyright © 2013 John Wiley & Sons, Inc All rights reserved Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc The purchaser may make back-up copies for his/her own use only and not for distribution or resale The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.” 15-83 ... presentation and analysis of long-term liabilities 15-2 Preview of Chapter 15 Accounting Principles Eleventh Edition Weygandt Kimmel Kieso 15-3 Bond Basics Bonds are a form of interest-bearing notes... Describe the entries when bonds are redeemed or converted [4] Describe the accounting for long-term notes payable [5] Contrast the accounting for operating and capital leases [6] Identify the methods...15 Long-Term Liabilities Learning Objectives After studying this chapter, you should be able to: [1] Explain why bonds are issued [2] Prepare the entries for the