Question 1

When bonds are issued at face value, ________.

Accepted Answer

When bonds are issued at face value, the amount of cash received is equal to the face value of the bonds. Therefore, there is no bond discount or premium to affect the amount of cash received. For each interest payment, the amount of Interest Expense equals the amount of cash paid because there is no bond discount or premium to amortize. The journal entry to record the issuance of the bonds includes a debit to the Cash account and a credit to the Bonds Payable account for the face value of the bonds.

Question 2

Financial leverage occurs when a company earns less income on borrowed money than the related interest expense.

Accepted Answer

Financial leverage occurs when a company earns more income on borrowed money than the related interest expense. This is because the company can use the borrowed funds to invest in projects or assets that generate more income than the cost of the interest expense.

Question 3

On July 1, 2018, Jordie Equipment Dealer issued $600,000 of 9% bonds payable that mature in seven years. These bonds were issued at face value and pay interest each June 30 and December 31. Each semiannual interest payment is $27,000.

Accepted Answer

The information provided in the question indicates that the bonds were issued at face value and pay semiannual interest payments of $27,000, which equates to an annual interest payment of $54,000 (27,000 x 2). This corresponds to a 9% coupon rate ($54,000 divided by the $600,000 face value of the bonds). The bonds mature in seven years and pay interest on each June 30 and December 31.

Question 4

List three disadvantages of borrowing.

Accepted Answer

The answer of List three disadvantages of borrowing....

Question 5

Why would a corporation issue bonds payable instead of issuing stock?

Accepted Answer

Issuing bonds payable provides a fixed rate of return to investors, which makes it less expensive than issuing stock, which is subject to fluctuating market prices. Additionally, issuing debt does not dilute the ownership of existing stockholders, unlike issuing stock, which would reduce their percentage of ownership.

Question 6

Which of the following statements is true if a bond is issued at an amount less than its face value?

Accepted Answer

When a bond is issued at a discount (less than its face value), it typically means that the bond's stated interest rate is lower than the prevailing market interest rate at the time of sale. Investors demand a higher yield, so the bond sells for less to increase its effective interest rate to match market rates.

Question 7

Unlike cash dividends, which are optional payments to stockholders, the interest payments on bonds are required.

Accepted Answer

Interest payments on bonds are a requirement of the bond contract and must be made to bondholders. On the other hand, cash dividends are decided by the company's board of directors and are not mandatory payments to stockholders.

Question 8

Earning more income on borrowed money than the related interest expense is called ________.

Accepted Answer

Earning more income on borrowed money than the related interest expense is called financial leverage. This means that a company is using borrowed funds to invest in projects or assets that generate a higher return than the cost of borrowing. This allows the company to increase its profits and shareholder value. Operating leverage refers to the use of fixed costs in a company's operations to increase profitability, while annuity and amortization are methods of calculating loan payments.

Question 9

Which of the following statements is true if a bond is issued for an amount higher than face value?

Accepted Answer

When a bond is issued for more than its face value, it means the bond's stated interest rate is higher than the prevailing market interest rates. This makes the bond more attractive to investors, leading to a premium sale.

Question 10

On July 1, 2018, Shannon Equipment Dealer issued $590,000 of 6% bonds payable that mature in seven years. These bonds were issued at face value and pay interest each June 30 and December 31. Each semiannual interest payment will be higher than the interest expense.

Accepted Answer

The semiannual interest payment will be equal to the interest expense because the bonds were issued at face value, and the interest rate is fixed at 6%. Interest expense is calculated based on the face value of the bond and the stated interest rate.

Question 11

On November 1, 2018, Cleveland Services issued $305,000 of five-year bonds with a stated rate of 12%. The bonds were issued at par, and Cleveland makes semiannual payments on April 30 and October 31. On December 31, 2018, Cleveland made an adjusting entry to accrue interest at year-end. No further entries were made until April 30, 2019, when the first payment was made. What amount of interest expense was recorded for the period of January 1 to April 30, 2019? (Do not round any intermediate calculations, and round your final answer to the nearest dollar.)

Accepted Answer

The interest expense for the period January 1 to April 30, 2019, can be calculated as follows: The annual interest payment is 12% of $305,000, which equals $36,600. Since payments are semiannual, each payment is $36,600 / 2 = $18,300. The interest expense for the four-month period (January 1 to April 30) is for one semiannual period, so it is $18,300.

Question 12

Complete the following table:
 $$\begin{array} { | l | l | l | } 
\hline \begin{array} { l } 
\text { Bond's Stated } \
\text { Interest Rate }
\end{array} & \begin{array} { l } 
\text { Market } \
\text { Interest Rate }
\end{array} & \begin{array} { l } 
\text { Will the issue price of Bonds Payable be at } \
\text { discount, premium, or face value? }
\end{array} \
\hline 6 \% & 3 \% & \
\hline 10 \% & 9 \% & \
\hline 6 \% & 6 \% & \
\hline
\end{array}$$

Accepted Answer

The answer of Complete the following table:
 \[\begin{array} { |...

Question 13

Define financial leverage and discuss how it is used to increase earnings per share.

Accepted Answer

The answer of Define financial leverage and discuss how it...

Question 14

Debt is a less expensive source of capital than stock.

Accepted Answer

Debt typically has a lower cost of capital than stock because lenders have a claim to assets in the event of bankruptcy, while stockholders do not. This lower cost of capital makes debt a more attractive option for companies looking to raise funds.

Question 15

The interest rate that investors demand to earn for loaning their money is known as the ________.

Accepted Answer

The market interest rate is the rate that investors demand to earn for loaning their money. Stated interest rate refers to the interest rate specified in a loan agreement or bond prospectus; coupon rate refers to the annual interest rate on a bond; and differential rate refers to the difference in interest rates between two financial instruments or investment opportunities.

Question 16

Bonds affect the percentage of ownership of a corporation.

Accepted Answer

Bonds represent a form of debt that a corporation takes on, and do not affect the percentage of ownership. The percentage of ownership is determined by the number and type of shares of stock issued by the corporation.

Question 17

On July 1, 2018, Mason & Beech Services issued $33,000 of 10% bonds that mature in five years. They were issued at par. The bonds pay semiannual interest payments on June 30 and December 31 of each year. On December 31, 2018, what is the total amount paid to bondholders?

Accepted Answer

The total amount paid to bondholders on December 31, 2018, would be for two interest periods (June 30 and December 31) because the bonds pay semiannual interest. The annual interest is 10% of $33,000, which is $3,300. Since interest is paid semiannually, each payment is half of the annual interest, so $3,300 / 2 = $1,650. Therefore, over two payment periods within the year, the total amount paid is $1,650 * 2 = $3,300.

Question 18

On November 1, 2018, Arch Services issued $313,000 of eight-year bonds with a stated rate of 12% at par. Interest payments occur each April 30 and October 31. On December 31, 2018, Arch made an adjusting entry to accrue interest at year-end. What is the amount of Interest Expense that will be recorded on December 31, 2018? (Do not round any intermediate calculations, and round your final answer to the nearest dollar.)

Accepted Answer

The interest expense for two months (November and December) is calculated as follows: $313,000 (bond principal) * 12% (annual interest rate) = $37,560 annual interest. For two months, this is $37,560 / 6 = $6,260.

Question 19

Campbell, Inc. has net income of $500,000 and 200,000 shares of common stock. The company is considering a project that requires $800,000 and is considering two options:
• Option 1 is to borrow $800,000 at 12%.
• Option 2 is to issue 100,000 shares of common stock for $800,000.
Considering all relevant facts and figures, Campbell's management is of the opinion that the funds raised can be used to increase income before interest and taxes by $300,000 each year. The company estimates income tax expense to be 40%. Analyze the Campbell situation to determine which plan will result in higher earnings per share. (Round your answers to two decimal points.)

Accepted Answer

The answer of Campbell, Inc. has net income of $500,000...

Question 20

Which of the following statements is true if a bond is issued for an amount equal to its face value?

Accepted Answer

If a bond is issued for an amount equal to its face value, it means investors are willing to pay the face value, which indicates that the bond's stated interest rate and the prevailing market interest rate are the same. If the stated interest rate was less than the prevailing market interest rate, investors would have demanded a discount on the face value, and if the stated interest rate was more than the prevailing market interest rate, investors would have paid a premium to the face value. The bond being secured by specific assets of the issuer has no relevance to the issued amount of the bond.

Quiz 12: Long-Term Liabilities