Question 1

Which of the following accurately describes a debenture?

Accepted Answer

A debenture is a type of bond that is not collateralized but backed only by the issuer's general credit standing. This means that the bond does not have specific assets pledged as collateral, is not issued in the names and addresses of bondholders, does not require a sinking fund, and cannot be exchanged for shares of the issuing corporation's common stock.

Question 2

Morgan Company issues 9%,20-year bonds with a par value of $750,000 that pay interest semiannually.The current market rate is 8%.The amount paid to the bondholders for each semiannual interest payment is:

Accepted Answer

The semiannual coupon rate is calculated as (9% / 2) = 4.5%
The semiannual market rate is (8% / 2) = 4%
Using the present value of an annuity formula, the amount paid to bondholders for each semiannual interest payment is:
Coupon payment = (Coupon rate * Par value) / Number of payments per year
= (4.5% * $750,000) / 2
= $33,750. Therefore, the correct answer is B.

Question 3

The debt-to-equity ratio:

Accepted Answer

The debt-to-equity ratio is a financial ratio that compares a company's total debt to its total equity. This ratio is used to assess the risk of a company's financing structure, with a high debt-to-equity ratio indicating that the company is highly leveraged and therefore more risky, while a low debt-to-equity ratio indicates that the company is less risky. Choice A is incorrect because the debt-to-equity ratio is calculated by dividing total debt by total equity, not by book value of secured liabilities by book value of pledged assets. Choice C is incorrect because the debt-to-equity ratio is relevant to all creditors, not just secured creditors. Choice D is incorrect because the debt-to-equity ratio cannot always be calculated from information provided in a company's income statement, as it requires information from both the income statement and the balance sheet. Choice E is incorrect because the debt-to-equity ratio is calculated using book values, not market values.

Question 4

An advantage of bonds is:

Accepted Answer

Bonds do not provide ownership in the company, so bondholders do not have any control over the management of the company. Therefore, current owners retain full control of the company even after issuing bonds.

Question 5

A disadvantage of bond financing is:

Accepted Answer

A disadvantage of bond financing is that bonds pay periodic interest and the repayment of par value at maturity, which can be a burden on the company's cash flow. Additionally, bonds typically have a fixed maturity date, which means the company must repay the par value of the bond regardless of its financial situation at that time.

Question 6

A bondholder that owns a $1,000,10%,10-year bond has:

Accepted Answer

Bondholders have the right to receive the face value of the bond at maturity, which in this case is $1,000. Ownership rights, dividends, and the other mentioned benefits do not apply to bondholders.

Question 7

All of the following statements regarding leases are true except:

Accepted Answer

Finance leases often transfer ownership of the asset to the lessee at the end of the lease term, whereas operating leases do not typically transfer ownership.

Question 8

Which of the following statements is true?

Accepted Answer

Interest on bonds is tax deductible for the issuing entity, which can reduce the entity's taxable income.

Question 9

A company issued 8%,15-year bonds with a par value of $550,000 that pay interest semiannually.The market rate on the date of issuance was 8%.The journal entry to record each semiannual interest payment is:

Accepted Answer

Since the bond pays interest semiannually at an 8% annual rate on a $550,000 par value, the semiannual interest payment is calculated as $550,000 * 8% / 2 = $22,000. The correct journal entry to record this semiannual interest payment debits Bond Interest Expense and credits Cash for $22,000.

Question 10

A bond is issued at par value when:

Accepted Answer

A bond is issued at par value when the market rate of interest is the same as the contract rate of interest. This means that the bond is not sold at a premium (above par value) or discount (below par value) and the interest payments and face value of the bond are equal.

Question 11

On January 1,Parson Freight Company issues 7%,10-year bonds with a par value of $2,000,000.The bonds pay interest semiannually.The market rate of interest is 8% and the bond selling price was $1,864,097.The bond issuance should be recorded as:

Accepted Answer

The correct entry records the cash received ($1,864,097), the discount on bonds payable as the difference between the par value and the cash received ($135,903), and the bonds payable at their par value ($2,000,000). This reflects that the bonds were sold at a discount because the market interest rate was higher than the coupon rate.

Question 12

A company's total liabilities divided by its total stockholders' equity is called the:

Accepted Answer

The ratio of total liabilities to total stockholders' equity is known as the debt to equity ratio or D/E ratio. This ratio shows the amount lent or borrowed by the company concerning the shareholders' investment in the company.

Question 13

Seedly Corporation's most recent balance sheet reports total assets of $35,000,000 and total liabilities of $17,500,000.Management is considering issuing $5,000,000 of par value bonds (at par)with a maturity date of ten years and a contract rate of 7%.What effect,if any,would issuing the bonds have on the company's debt-to-equity ratio?

Accepted Answer

Adding $5,000,000 of debt to the liabilities side of the balance sheet would increase total liabilities to $22,500,000. Thus, the debt-to-equity ratio would become 1.29 ($22,500,000 / $17,500,000). This represents a worsening of the ratio from its original level of 1.0 ($17,500,000 / $17,500,000).

Question 14

Saffron Industries most recent balance sheet reports total assets of $42,000,000,total liabilities of $16,000,000 and stockholders' equity of $26,000,000.Management is considering using $3,000,000 of excess cash to prepay $3,000,000 of outstanding bonds.What effect,if any,would prepaying the bonds have on the company's debt-to-equity ratio?

Accepted Answer

Prepaying the debt reduces total liabilities from $16,000,000 to $13,000,000 and reduces assets (due to the use of cash) to $39,000,000. The new debt-to-equity ratio is $13,000,000 / $26,000,000 = 0.5, which is an improvement from the initial ratio of $16,000,000 / $26,000,000 = 0.615 (approximated to .62 in the question).

Question 15

When a bond sells at a premium:

Accepted Answer

When a bond sells at a premium, it means that the contract rate (or coupon rate) is above the current market interest rate, which makes the bond more attractive to investors. As a result, investors are willing to pay more than the face value of the bond to purchase it.

Question 16

Collateral agreements for a note or bond can:

Accepted Answer

Collateral agreements provide security for lenders by ensuring that they have a specific asset to seize in the event of default. This reduces the risk of loss for lenders, making the loan or bond less risky compared to unsecured debt.

Question 17

Charger Company's most recent balance sheet reports total assets of $27,000,000,total liabilities of $15,000,000 and total equity of $12,000,000.The debt to equity ratio for the period is (rounded to two decimals):

Accepted Answer

The answer of Charger Company's most recent balance sheet reports...

Question 18

A bond sells at a discount when the:

Accepted Answer

A bond sells at a discount when the contract rate is below the market rate. This means that the bond's coupon rate (which is based on the contract rate) is lower than the current market interest rates, making the bond less attractive to investors. As a result, the bond's price will decrease until its yield is equal to the market interest rate, which will cause the bond to sell at a discount.

Question 19

A pension plan:

Accepted Answer

The answer of A pension plan:
...

Question 20

The party that has the right to exercise a call option on callable bonds is:

Accepted Answer

The bond issuer has the right to exercise a call option on callable bonds, giving them the option to repay the principal before the maturity date. This allows the issuer to potentially issue new bonds at a lower interest rate if market conditions have changed since the initial issuance of the callable bonds.

Quiz 10: Reporting and Analyzing Long-Term Liabilities