Question 1

Which of the following is always equal to the face rate of interest?

Accepted Answer

The face rate of interest, also known as the stated rate or coupon rate, is the rate that is printed on the face of a bond or other debt instrument. The nominal rate is another term for the face rate, so the answer is D. The effective rate, yield rate, and market rate can all be different from the face rate depending on various factors such as compounding, fluctuations in the market, and creditworthiness of the borrower.

Question 2

When stock warrants are attached to bonds, they generally result in greater proceeds from the bond issue

Accepted Answer

Stock warrants attached to bonds make the bonds more attractive to investors because they offer the potential for additional profit through the purchase of the company's stock at a predetermined price, leading to greater proceeds from the bond issue.

Question 3

Companies report cash flows associated with long term liability transactions in the investing section of the statement of cash flows, because the money was an investment in the future of the company.

Accepted Answer

Companies report cash flows associated with long-term liability transactions in the financing section of the statement of cash flows, not the investing section. The investing section is used for cash flows related to acquiring or disposing of investments and long-term assets.

Question 4

When bonds have a conversion feature, GAAP requires the difference between proceeds with and without the conversion feature should be allocated to additional paid-in-capital at the time of issuance.

Accepted Answer

Under GAAP, the proceeds from issuing convertible bonds are recorded as debt in its entirety; there is no allocation to additional paid-in capital for the conversion feature at the time of issuance. The conversion feature is accounted for separately if it meets the criteria for bifurcation as a derivative, but typically it's embedded in the debt instrument.

Question 5

Which of the following statements is false?

Accepted Answer

Debt financing typically has a lower cost than equity financing because interest payments on debt are tax-deductible, reducing the effective cost of debt. Additionally, debt does not involve giving up any ownership stake, unlike equity financing, which can make it a cheaper option for companies.

Question 6

In the event of a debt restructuring, the required disclosures are only for the related income tax effects associated with the debt.

Accepted Answer

In the event of a debt restructuring, the required disclosures include not only the related income tax effects but also details about the nature of the restructuring, the financial impact on the debtor, and any changes in the terms of the debt.

Question 7

On the maturity date after the last interest payment is recorded, any premium or discount on bonds payable is always fully amortized.

Accepted Answer

On the maturity date after the last interest payment, any premium or discount on bonds payable is fully amortized, meaning the bond's book value equals its face value, as the amortization process adjusts the bond's carrying amount to match its redemption value over its term.

Question 8

At the time of the issuance of a note payable the incremental interest rate is what one would pay for similar financing.

Accepted Answer

The incremental borrowing rate is the interest rate a lessee would have to pay to borrow, under similar terms and conditions, the funds necessary to obtain an asset of a similar value to the right-of-use asset in a similar economic environment.

Question 9

A company may want to increase its equity capital at a later date in time, in order to accomplish this goal the company decides to issue convertible debt.

Accepted Answer

Issuing convertible debt allows a company to raise capital initially through debt, which later can be converted into equity at predetermined conditions, effectively increasing its equity capital at a later date.

Question 10

Leverage occurs when a company's

Accepted Answer

Leverage occurs when a company's rate of return exceeds its interest payments, allowing the company to generate more earnings on borrowed funds than the cost of these funds.

Question 11

A call provision gives the issuing company the option to recall the debt issue at an effective interest rate less than the contract rate.

Accepted Answer

A call provision allows the issuing company to repurchase or "call" the debt issue before its maturity at a specified price, not necessarily at an effective interest rate less than the contract rate.

Question 12

GAAP requires that cash paid for interest on a note payable is always recorded in the operating activities of the cash flow statement.

Accepted Answer

Under GAAP (Generally Accepted Accounting Principles), cash paid for interest on a note payable is classified as an operating activity, reflecting the cost of borrowing as part of the company's ongoing operational expenses.

Question 13

If a company is having trouble paying its obligations, a modification of terms can be granted in the form of interest rate reduction, maturity date extension, and/or a reduction in the amount owed.

Accepted Answer

A modification of terms is a common approach for companies facing financial difficulties, allowing them to renegotiate the conditions of their obligations to make them more manageable. This can include reducing the interest rate, extending the maturity date, or reducing the total amount owed.

Question 14

The market value method for recording bond conversion to common stock results in no gain or loss at the time of conversion.

Accepted Answer

The answer of The market value method for recording bond...

Question 15

Which of the following is not a reason for the issuance of long-term liabilities?

Accepted Answer

Debt financing does not dilute ownership interest; this is a characteristic of equity financing, where issuing new shares can dilute the ownership percentage of existing shareholders. Debt financing involves borrowing money that must be repaid, but it does not affect the ownership structure of the company.

Question 16

A company could decide to call its bonds because it will eliminate any restrictions on operations from certain debt covenants.

Accepted Answer

Calling bonds can allow a company to refinance its debt under more favorable terms or remove restrictive covenants that limit operational flexibility, thus potentially eliminating restrictions on operations from certain debt covenants.

Question 17

Stock warrants allow bond holders to exchange bonds for common equity shares.

Accepted Answer

Stock warrants give the holder the right to purchase a company's stock at a specific price within a certain time frame, but they do not involve exchanging bonds for equity shares.

Question 18

When a debtor satisfies a liability by exchanging an asset of lesser value, it records the transfer based on the fair value of the asset and recognizes a loss on the debt restructuring.

Accepted Answer

The answer of When a debtor satisfies a liability by...

Question 19

______is a contractual obligation that requires a company to deliver cash or other financial asset to another party.

Accepted Answer

A financial liability is a contractual obligation to deliver cash or another financial asset to another party. This includes debts and obligations to pay money or deliver financial assets to others.

Question 20

GAAP requires the borrowers to record the note payable at its present value and use straight line method to record the interest expense.

Accepted Answer

GAAP allows for both the straight-line method and the effective interest rate method for recording interest expense, but it does not mandate the use of the straight-line method exclusively.

Quiz 14: Financing Liabilities: Bonds and Long-Term Notes Payable