21 Jul 2009

Sample Essay: Intermediate Accountin

The bond’s price can be determined by discounting the contractual cash flows of the bond coupon at the stated interest rate, (Revsine, Collins, “Financial Reporting and Analysis 3rd Edition”, 2004). The selling price of the bond can be calculated from the interest rate and the principal amount that it is offering to the investors. If it wants to offer a premium for its bond then it will increase the selling price slightly higher than its face value since the investors are willing to accept the bonds interest rate at a lower value than what was written in its contract. If the investors on the other hand are not satisfied with the interest rate of the bond’s contract and the company is desperate to sell its bonds, then it can choose to sell its bonds at a discount in order to increase the effective interest rate of the bond that the investors are receiving.

On the debit side of the balance statement, the bond’s discounted value should show up in the Cash item. The bonds discount would also show up in the debit side and finally the total value of the bond which is the value printed in the coupon will show up in the credit side of the balance statement under the name of Bonds payable.

The item related to the issuance of the bond that would show up as part of the income statement for year 2008 is the interest that the bond is paying semi annually. This will show up as an interest earned in the income statement. There is also the Accrued interest payable that would show up on the credit side of the balance sheet statement. There is also the bond discount that would show up in the credit side of the balance statement.

The bond discount amortization using the effective interest amortization is going to be increasing as time progresses because the formula for computing it is dependent on the ever increasing bond net carrying amount at the start of each succeeding years. First of all, the bond net carrying amount at the start of the year is already computed as the basis for the rest of the computation, (Revsine, Collins, “Financial Reporting and Analysis 3rd Edition”, 2004). This value is multiplied by the interest rate and then subtracted by the face value of the bond printed on the coupons when it was first sold to the public. Then the bond discount balance is determined at the end of the year by subtracting the value at the end of the year with the previously determined bond discount amortized. You can check the accuracy of the figures when you try to add the values for the bond net carrying amount at the start of the year in its discounted value and then you add that to the bond discount amortized that was pre-calculated already as described here. The resulting amount should total the bond value that is printed in its coupon. So, basically, the resulting figure will be increasing since the bond net carrying amount is also ever increasing at the start of each year.

If the company is to retire the bonds later at 2009, then the company should simply put in the amount in cash and also the gain on the debt extinguishment. However, since the debt has been called in before its maturity, there might be instances where the extinguishment has created an accounting gain or loss depending on the current market interest rates. If the interest rates rise then the market price of the debt falls and if the interest rates fall, the market price of the debt rises and this is what creates the gains and losses for the company, (Revsine, Collins, “Financial Reporting and Analysis 3rd Edition”, 2004). Previously, the gains and losses are recorded in the extraordinary items but because of recent developments, the gains and losses are now subject to the rules of why they should be treated as extraordinary items to be listed in the income statement.

Bibliography:

Principles of Accounting, (2007)

http://www.principles-of-accounting.com/g.php?C=4801969&D=898970&domain=principles-of-accounting.com&K=principles+of+accounting&V=5168&K=principles+of+accounting

Revsine, Collins, “Financial Reporting and Analysis 3rd Edition”, (2004)

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