Module 13: Present Value, Bonds, Debt Restructure, Pensions, and Leases

Question 1

Discounts & Premiums on a note

Answer 1

A discount results when the face of the note exceeds its present value, and a premium results when the present value of the note exceeds its face.

Question 2

IFRS Borrowing Costs

Answer 2

IAS 23 requires borrowing costs to be capitalized if they meet certain criteria. Borrowing costs must be capitalized if they are related to the acquisition, construction, or production of a qualifying asset.

(1) A qualifying asset is one that takes a substantial period of time to get ready for its intended use. Qualifying assets include inventory, property, plant, and equipment, intangible assets, or investment property.
(2) Borrowing costs that do not meet the rules for capitalization are expensed in the current period. Note that finance costs (interest expense) must be disclosed separately in the income statement.

Question 3

Extinguishment of Debt

Answer 3

All gains (losses) resulting from the extinguishment of debt should be recognized in the period of extinguishment. The gain (loss) is the difference between the bond’s reacquisition price and its net book value [face value plus (minus) any unamortized premium (discount) and issue costs]. The rule is not affected by the reissuance of debt before or after the refunding. Furthermore the rule applies to convertible bonds when required with cash.

Question 4

Annuity Due

Answer 4

An annuity with the first payment occurring at the beginning of the first period.

Question 5

Ordinary Annuity

Answer 5

An annuity with the first payment occurring at the end of the first period.

Question 6

Debt Issued with Detachable Purchase Warrants

Answer 6

The proceeds of debt issued with detachable stock purchase warrants are allocated between the debt and stock warrants based on relative market values.

FMV of bonds without warrants/FMV of bonds and warrants
x
Purchase Price
= Amount assigned to bonds

Question 7

Present Value of Ordinary Annuity

Answer 7

The present value of ordinary annuity is the value today, given a discount rate, of a series of future payments. A common application is the capitalization of lease payments by either lessors or lessees. Payments “1” through “n” are assumed to be made at the end of the years “1” through “n”, and are discounted back to the present.

(payment x PV of ordinary annuity)

Question 8

Bond Issue Costs

Answer 8

Printing and engraving, accounting and legal fees, commissions, promotion cost, and other similar cost.

SFAC 6 states that bond issue cost can be treated as either an expense or a reduction of related bond liability.

Question 9

Book Value Method of accounting for bond conversions

Answer 9

No gain or loss is ever recognized on conversions. The bonds are simply removed from the books at their book value and the stock is recorded at the book value of the bonds.

Question 10

Market Value Method of accounting for bond conversions

Answer 10

Under the market value method, the stock is recorded at its market value on the date of conversion and bonds are removed at book value. Any differences between these amounts is the gain or loss recognized upon conversion.

Question 11

Bond Sinking Fund

Answer 11

The sinking fund is increased when periodic additions are made to the fund and when revenue is earned on the investments held in the fund. When cash is used to purchase investments, the components of the fund change, but the fund balance is not affected.

Question 12

Pensions: Actual Return on Plan Assets

Answer 12

The difference in the fair value of plan assets at the beginning and the end of the period adjusted for contributions made to the plan and benefit payments made by the plan during the period. The formula for determining the actual return is as follows:

Actual Return = (End. Bal. of plan assets at fair value - Beg. bal. of plan assets at fair value) + Benefits - Contributions

Question 13

Pensions: Pension Expense

Answer 13

The net amount calculated by adding together five factors. These factors are (1) service cost, (2) interest on the projected benefit obligation, (3) return on plan assets, (4) amortization of unrecognized prior service cost or credit, and (5) the effect of gains and losses.

Question 14

Pensions: Pension Asset/ Liability

Answer 14

The cumulative excess of the amount funded over the amount recorded as pension expense. If funding exceeds pension expense, it is an increase to pension asset/ liability.

Question 15

Pensions: IFRS Discount Rate

Answer 15

Under US GAAP, the discount rate used is the “settlement rate” (the rate at which the plan’s obligations could be settled). With IFRS the discount rate is determined by the market yields at the end of the reporting period for high-quality corporate bonds having a similar term of maturity. .

Question 16

Pensions: Accumulated Benefit Obligation

Answer 16

Per ASC Topic 715, the present value of future retirement payments attributed by the pension benefit formula to employee services rendered prior to that date based on current salaries.

Question 17

Pensions: IFRS Discount Rate

Answer 17

IFRS has specific rules for netting the balances of pension plan assets and pension liabilities. Netting of plan assets and liability balances is only permissible when there is legally enforceable right to use the assets of one plan to settle the obligations of another plan.

Question 18

Leases: Capital Lease - Lessee

OWNS

Answer 18

Must meet just one condition to capitalize:
O - Ownership transfers at end of lease
W - Written option for Bargain Purchase
N - Ninety(90%) percent of leased property FMV < PV of Future Lease Payments
S - Seventy-Five (75%) percent PF Asset economic life is being committed in lease term

Question 19

Leases: How should the Lessee capitalize a lease?

Answer 19

Per ASC Topic 840, the lessee records the asset at the lower of (1) the present value of the minimum lease payments or (2) the fair market value of the leased asset.

Question 20

Fair Value Option

Answer 20

A company may elect the fair value option for reporting financial assets and financial liabilities. The financial liability is reported at fair value at the end of each reporting period, and the resulting gain or loss is reported in earnings of the period. A company may calculate interest expense in various ways, but must disclose in the notes to the financial statements the method used to determine interest expense.

Question 21

Term Bonds

Answer 21

Bond issues that mature on a single date.

Question 22

Pensions: Defined Contribution Plan

Answer 22

Under a defined contribution plan the employer agrees to make a defined contribution to a pension plan as determined by the provisions of the plan. Consequently, plan participants will receive at retirement whatever benefits (i.e payments) the contributions can provide.

Question 23

Pensions: Defined Benefit Plan

Answer 23

Under a defined benefit plan the employer agrees to provide a benefit at retirement that is defined or fixed by a formula. Because the benefits are defined, the employer accepts the risk associated with changes in the variables that determine the amounts needed to meet the obligation to plan participants.

Question 24

Pensions: Change in PBO (projected benefit obligation) formula

Answer 24

Beginning of year PBO
+ Service Cost
+ Interest Cost
+/- Prior Service Cost or credit (from changes to plan in current year)
+/- Actuarial gain or loss (from changes in actuarial or underlying assumptions)
- Benefits paid
= End of year PBO

Question 25

Pensions: Accumulated benefit obligation

Answer 25

The actuarial present value of benefits (whether vested or non vested) attributed to employee service rendered before a specified date and based on employee service and compensation before that date.

Question 26

Settlement of Debt: Debtors

Answer 26

If the debt is settled by exchange of assets, a gain is recognized for the difference between the carrying amount of the debt and the consideration given to extinguish the debt. Such gains are no longer extraordinary.

Question 27

Settlement of Debt: Creditors

Answer 27

Assets received as full settlement are recorded at fair value.

(1) The excess of receivable over asset FV is an ordinary loss.
(2) Subsequently account for the assets as if purchased for cash.

Question 28

Restructuring of debt

Answer 28

Under ASC Topic 470, the terms of the debt are modified in order to reduce or defer cash payments that the debtor is obligated to make to the creditor, but the debt itself is continued. The debtor accounts for the modification of terms as a reduction in interest expense from the date of restructuring until maturity. Gains and losses will generally not be recognized unless the total future cash payments specified by the new terms are less than the recorded amount of the debt.

Question 29

Weighted Average Rates

Answer 29

Weighted Average rates disclosed for defined benefit pension plans include (1) the discount rate used to determine the benefit obligation, (2) the expected rate of return on plan assets, and (3) the expected rate of compensation increase

Question 30

Modification of Terms: Debtor

Answer 30

ASC Topic 470 states that the debtor records a gain at the date of a restructure involving only a modification of terms when the pre-restructure carrying amount exceeds the total future cash flows per the modification. The gain recognized is the difference between pre-structure carrying amount and future cash flows.