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Chapter 14: Q11Q (page 753)

Question: What is the “call” feature of a bond issue? How does the call feature affect the amortization of bond premium or discount?

Short Answer

Expert verified

Answer

A call feature is a characteristic in the contract of bond that permits the issuer to repay bonds at a stated price within specified future time interval. The call feature has no effect on the amortization of bond premium or discount.

Step by step solution

01

Meaning of bond issue

Bond issue is a method adopted by the firms for raising money. Herein, the investor agrees to give the corporation a specified amount of money for a particular time period. In return, the investor obtains regular payment of interest.

02

“Call” feature of a bond issue

The call feature of a bond issue permits the issuer the advantage of buying, after a specified date at a aforesaid price, outstanding bonds with the motive of diminishing indebtedness or taking benefit of lesser rates of interest.

03

The way by which the call feature affects the amortization of bond premium or discount

The call feature remains unaffected by the amortization of bond discount or premium as untimely redemption is uncertain, the term of bonds is to be used for the cause of amortization.

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Most popular questions from this chapter

What are the types of situations that result in troubled debt?

Pierre Company has a 12% note payable with a carrying value of \(20,000. Pierre applies the fair value option to this note. Given an increase in market interest rates, the fair value of the note is \)22,600. Prepare the entry to record the fair value option for this note, assuming

(a) no change in credit risk, and

(b) the change is due to a change in credit risk.

Fallen Company commonly issues long-term notes payable to its various lenders. Fallen has had a pretty good credit rating such that its effective borrowing rate is quite low (less than 8% on an annual basis). Fallen has elected to use the fair value option for the long-term notes issued to Barclay’s Bank and has the following data related to the carrying and fair value for these notes. Any changes in fair value are due to changes in market rates, not credit risk.

Carrying Value

Fair Value

December 31, 2017

\(54,000

\)54,000

December 31, 2018

44,000

42,500

December 31, 2019

36,000

38,000

Instructions

(a) Prepare the journal entry at December 31 (Fallen’s year-end) for 2017, 2018, and 2019, to record the fair value option for these notes.

(b) At what amount will the note be reported on Fallen’s 2018 balance sheet?

(c) What is the effect of recording the fair value option on these notes on Fallen’s 2019 income?

(d) Assuming that general market interest rates have been stable over the period, does the fair value data for the notes indicate that Fallen’s creditworthiness has improved or declined in 2019? Explain.

Briggs and Stratton recently issued debt with issue costs of $5.1 million. How should the costs of issuing these bonds be accounted for and classified in the financial statements?

On June 30, 2009, County Company issued 12% bonds with a par value of \(800,000 due in 20 years. They were issued at 98 and were callable at 104 at any date after June 30, 2017. Because of lower interest rates and a significant change in the company’s credit rating, it was decided to call the entire issue on June 30, 2018, and to issue new bonds. New 10% bonds were sold in the amount of \)1,000,000 at 102; they mature in 20 years. County Company uses straight-line amortization. Interest payment dates are December 31 and June 30.

Instructions

  1. Prepare journal entries to record the redemption of the old issue and the sale of the new issue on June 30, 2018.
  2. Prepare the entry required on December 31, 2018, to record the payment of the first 6 months’ interest and the amortization of premium on the bonds.
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