Bonds Payable Related Standards: Pfrs 9 - Financial Instruments

FAR 22_BONDS PAYABLE
FAR22 BONDS PAYABLE

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RELATED STANDARDS: PFRS 9 – FINANCIAL INSTRUMENTS
TOPIC OUTLINE
Definitions
Basic Concepts
Types of Bonds
BONDS PAYABLE Classification &
(PRFS 9) Measurement
Retirement of Bonds
LECTURE NOTES
BASIC CONCEPTS
DEFITION OF TERMS
BONDS - A bond is a contract of debt whereby one party called the
borrower or issuer borrows funds from another party called
the investor or bondholder.
BOND INDENTURE - A bond indenture or deed of trust is the document which
shows in detail the terms of the bond and the rights and
duties of the borrower and other parties to the contract.
BOND CERTIFICATE - A certificate given to bondholders or investors to provide
evidence of ownership.
TYPES OF BONDS
As to Maturity
 Term Bonds - Term bonds are bonds with a single date of maturity.
 Serial Bonds - Serial bonds are bonds with a series of maturity dates or bonds that mature by
installments.
 Extendable Bonds – An extendable bond gives the holder and/or the user, the right to extend the
initial maturity to a longer maturity date.
 Retractable Bonds – A retractable bond gives its holder the right to advance the return of
principal to an earlier date than the original maturity.
As to Transferability and Payment of Interest
 Register Bonds - Registered bonds require the registration of the name of the bondholder on
the books of the corporation. Consequently, when the bondholder sells a bond, the old bond
certificate is surrendered and a new bond certificate is issued to the buyer.
 Coupon or Bearer Bonds - Coupon or bearer bonds - The name of the bondholder is not
registered. Accordingly, interest is paid periodically to the bearer of the bond or the person
submitting a detachable interest coupon.
 Zero-coupon Bonds – A zero-coupon bonds is a bond that does not pay interest but instead trades
at a deep discount, rendering a profit at maturity, when the bond is redeemed for its full face value.
 Income Bonds – An income bond is a bond whereby the issuer agrees to pay the principal but the
coupon (interest) payments are subject to earnings. In other words, the issuer is liable to pay the
coupon payments only when it has income on its financial statements.
 Participating Bonds – Participating bond is a bond that besides being entitled to interest at fixed rate
is further entitled to share in additional distributions.
As to Security and Risk
 Mortgage Bonds - Mortgage bonds are bonds secured by mortgage of real properties.
 Collateral Trust Bonds - Collateral trust bonds are bonds secured by investments in stocks and bonds.
 Debenture bonds - Debenture bonds are bonds without collateral security.
 Junk Bonds - Junk bonds are high risk and high yield bonds issued by entities that are heavily
indebted or otherwise in weak financial position.
As to Redemption
 Callable Bonds - Callable bonds are bonds that can be called in by the issuer for payment before
the date of maturity.
 Convertible Bonds - Convertible bonds are bonds that can be exchanged by the issuer for equity
shares of the issuing entity.
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CLASSIFICATION AND MEASUREMENT

Interest
Initial Subsequent Fair Value
CLASSIFICATION Amortized? Expense is
Measurement Measurement Changes
based on
Financial
Yes
Liabilities at
(Presented
Fair Value Fair Value Fair Value No Nominal Rate
in Profit or
through
FINANCIAL Loss)
Profit or Loss
LIABILITIES
Financial
Fair Value minus
Liabilities at
Transaction Amortized Cost Yes No Effective Rate
Amortized
Costs
Cost
NOTES:
(1) Transaction costs or bond issue costs are expensed if the bonds are classified as Financial Liabilities at
Fair Value through Profit or Loss. On the other hand, these costs are deducted from fair value to
arrive at the initial measurement for bonds measured at amortized cost which in effect INCREASES
the effective interest rate.
(2) Fair value excludes accrued interest if the bonds are issued between interest dates.
(3) Issue price (net cash received) of bonds is computed as: (FAIR VALUE – TRANSACTION COSTS +
ACCRUED INTEREST).
(4) For bonds measured at amortized cost, if the initial measurement ≠ face value, the difference is
accounted for as premium or discount.
Effect of
Scenario Interest Rate Notes
Amortization
As a result of amortization,
Nominal Amortization is
If Initial the interest expense
Interest > DEDUCTED
Measurement > PREMIUM recorded is LOWER than
Effective from interest
Face Value the interest accrued or
Interest expense
paid
As a result of amortization,
Nominal Amortization is
If Initial the interest expense
Interest < ADDED to
Measurement < DISCOUNT recorded is HIGHER than
Effective interest
Face Value the interest accrued or
Interest expense
paid
If the initial measurement of the bonds ≠ face value, the interest paid is also not equal to interest
expensed in the income statement. For INTEREST PAID, the basis is NOMINAL INTEREST, for
INTEREST EXPENSED, the basis is EFFECTIVE INTEREST.
RETIREMENT OF BONDS
Retirement is the process of extinguishing the bond liability.
If the bonds are retired AT MATURITY, there is no accounting problem since there is no gain or loss on
retirement. The entry involves debiting the carrying amount of bonds payable and crediting cash.
Accounting problem arises when bonds are retired BEFORE MATURITY. Gain or loss on retirement can be
computed as:
Retirement Price xx
Carrying amount xx
Gain or (loss) on retirement xx(xx)
NOTE: Retirement price excludes accrued interest if the bonds are retired between interest dates.
Bond refunding is the floating of new bonds payable the proceeds from which are used in paying the
original bonds payable. Simply stated, bond refunding is the premature retirement of the old bonds
payable through the issuance of new bonds payable.
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DISCUSSION EXERCISES
STRAIGHT PROBLEMS
NET ISSUE PRICE & CARRYING AMOUNT OF BONDS
1. On June 1, 2019, GINEBRA INC. issued P1,500,000, 5 years, 10% bonds at 110 including accrued
interest. These bonds are dated March 1, 2019. Interest is payable semi-annually on March 1 and
September 1. Transaction costs of P17,500 were incurred by GINEBRA.
REQUIREMENTS: (a) The net amount that GINEBRA receive from the bond issuance is (b) What is the
initial measurement of the bonds? (c) Assuming the bonds were issued at 98 plus accrued interest,
What is the net cash receipt from the bond issuance? What is its initial measurement?
2. On January 1, 2019, MERALCO CORP. is contemplating on issuing a 8% 3 year, P5,000,000 bonds.
Principal is due at maturity but interest is payable semi-annually every July 1 and December 31. The
company determines that the market rate of interest on that date is 10%.
REQUIREMENTS:
(a) What is the issue price of the above bonds?
(b) If the transaction took effect, what is the carrying amount of the bonds on December 31, 2019?
(c) What is the balance of unamortized discount or premium on December 31, 2019?
3. On January 1, 2019, GLOBALPORT CORP. issued a 5% P6,000,000. Principal on the bonds matures in
three equal annual installments. Interest is also due annually at each year-end. The market rate of
interest on the bonds on January 1 is 6%.
REQUIREMENTS:
(a) What is the issue price of the above bonds?
(b) If the transaction took effect, what is the carrying amount of the bonds on December 31, 2019?
4. On January 1, 2019, ALASKA INC. received P1,077,200 for P1,000,000 face amount 12% bonds. The
bonds were sold to yield 10%. Interest is payable semiannually every January 1 and July 1. On
December 31, 2019, the fair value of the bonds is P1,064,600. The change in fair value of the bonds
is attributable to market factors.
REQUIREMENTS: Assuming the entity has elected the fair value option for valuing financial liabilities
and assuming the entity measures bond at amortized cost.
(a) What is the carrying amount of the bonds on December 31, 2019?
(b) What is the amount of interest expense to be reported on the income statement of 2019?
RETIREMENT OF BONDS
5. On January 1, 2019, AIR 21 INC. issued a 10% 4 year, P4,000,000 bonds. Principal is due at maturity
but interest is payable semi-annually every July 1 and December 31. The company determines that
the market rate of interest on the date of issue is 12%. The bonds are quoted at 95 and 101 on
December 31, 2020 and 2021, respectively.
The bonds are measured at amortized cost.
REQUIREMENTS:
(a) Assuming the whole amount of bonds were retired on December 31, 2020 at a retirement price
of P3,800,000, what is the gain or loss on early retirement?
(b) Assuming the whole amount of bonds were retired on March 31, 2021 at a retirement price of
P3,775,000, what is the gain or loss on early retirement?
(c) Assuming that only half of the bonds were retired on December 31, 2020 at a retirement price
of P2,020,000, what is the balance of unamortized discount or premium on December 31, 2021?
(d) Assuming that only half of the bonds were retired on March 31, 2021 at a retirement price of
P1,875,000, what is the net amount presented in profit or loss on the income statement of
2021?
(e) If the entity elected the fair value option and half of the bonds were retired on July 1, 2021 for a
retirement price of P1,750,000, what is the net amount presented in profit or loss on the income
statement of 2021?
MULTIPLE CHOICE (THEORIES)

1. S1: Bond certificate is known as the contract between the issuer of bonds and the bondholders?
S2: A bond are similar to term loans and notes except that the former is usually offered to the
public and sold to investors.
A. True, false C. False, false
B. False, true D. True, true
2. Which of the following types of bonds is properly defined or characterized?
(1) Debenture bonds are bonds with collateral security in the form of real properties.
(2) Convertible bonds are bonds that can be exchanged by the issuer for equity shares of the
issuing entity.
(3) Junk bonds are high risk and high yield bonds issued by entities that are heavily indebted or
otherwise in weak financial position.
Page 3 of 4
(4) Serial bonds are bonds with a single date of maturity.

A. 1 and 4 C. 1 and 2
B. 2 and 3 D. 2 and 4
3. In relation to the proper measurement of bonds payable, which of the following statement is correct?
A. Bonds payable at fair value through profit or loss is initially measured at fair value minus
transaction costs.
B. Fair value of bonds payable shall include accrued interest if bonds are issued between interest
payment dates.
C. For bonds measured at amortized cost, if the initial measurement of bonds is higher than its
face value, the difference is treated as a premium and amortized using the effective interest
method. As a result of amortization, the interest expense recorded is LOWER than the interest
accrued or paid.
D. For bonds measured at amortized cost, if the initial measurement of bonds is lower than its face
value, the difference is treated as a discount and amortized using the effective interest method.
As a result of amortization, the interest expense recorded is LOWER than the interest accrued or
paid.
4. Which of the following is true of a premium on bonds payable?
A. The premium or bonds payable is a contra shareholders' equity account.
B. The premium on bonds payable is an account that appears only on the books of the investor.
C. The premium on bonds payable increases when amortization entries are made until maturity
date.
D. The premium on bonds payable decreases when amortization entries are made until the balance
reaches zero at maturity date.
5. If bonds are initially sold at a discount and the straight-line method of amortization is used, interest
expense in the earlier years
A. Will be less than the coupon rate of interest.
B. Will exceed what it would have been had the effective interest method of amortization been
used.
C. Will be less than what it would have been had the effective interest method of amortization
been used.
D. Will be the same as what it would have been had the effective interest method of amortization
been used.
6. How would the amortization of discount on bonds payable affect each of the following?
Carrying amount of bonds Net income
A. Increase Decrease
B. Decrease Increase
C. Decrease Decrease
D. Increase Increase
7. An entity neglected to amortize the premium on outstanding bonds payable. What is the effect of the
failure to record premium amortization on interest expense and bond carrying amount, respectively?
A. B. C. D.
Interest expense Overstated Overstated Understated Understated
Bond carrying amount Overstated Understated Overstated Understated
8. Which of the following is true of accrued interest on bonds that are sold between interest dates?
A. The accrued interest is extra income to the buyer.
B. The accrued interest is computed at the effective rate.
C. The accrued interest will be paid to the seller when the bonds mature.
D. None of the above
9. S1: If the bonds are retired AT MATURITY, there is no accounting problem since there is no gain or
loss on retirement.
S2: In relation to bond refunding, the difference between the carrying amount of the financial
liability extinguished and the consideration paid shall be included in profit or loss.
A. True, false C. False, false
B. False true D. True, true
Page 4 of 4

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FAR 22_BONDS PAYABLE

FAR22 BONDS PAYABLE

CLASSIFICATION AND MEASUREMENT

MULTIPLE CHOICE (THEORIES)

(4) Serial bonds are bonds with a single date of maturity.

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