Business Finance
business and finance question

Question Description

Why do companies issue bonds? What is the determining factor of whether a bond is sold at a discount, face, or premium?  How are discounts and premiums recorded and shown on the balance sheet?

Final Answer

Why do companies issue bonds?

A bondis abondissued by acorporation. It is a bond that a corporation issues to raise money effectively in order to expand its business. The term is usually applied to longer-term debt instruments, generally with a maturity date falling at least a year after their issue date. (The term "commercial paper" is sometimes used for instruments with a shorter maturity.)

Sometimes, the term "corporate bonds" is used to include all bonds except those issued bygovernmentsin their own currencies. Strictly speaking, however, it only applies to those issued by corporations.

What is the determining factor of whether a bond is sold at a discount, face, or premium?

·  If the market rate is greater than the bond'scontract rate, the bond will be sold at a discount. If the market rate is less than the bond's contract rate, the bond will be sold at a premium.

·  Regardless of whether the bond is sold at a premium or discount, a company must list a "bond payable" liability equal to theface valueof the bond.

·  When calculating the present value of a bond, use themarket rateas the discount rate.

How are discounts and premiums recorded and shown on the balance sheet?

The unamortized premium on bonds payable and the unamortized discount on bonds payable will be presented with the related bonds as liabilities on thebalance sheet. For example, if there is a premium on the bonds that will come due in 13 years, both thebonds payableand the premium on bonds payable will be reported together as a long-term liability. If the premium on bonds is associated with bonds that will be due in 11 months (and the corporation will be using its working capital to pay the bondholders), the premium and the bonds will be reported together as acurrent liability.

The discount on bonds payable will also cling to the bonds. If the bonds mature more than one year from the date of the balance sheet, both the bonds and the unamortized discount will be reported as a long-term liability. If the bonds are due in less than one year (and will require the use of the corporation's working capital), the discount and the bonds are reported as a current liability.

The premium and discount accounts are viewed as
valuation accounts. The unamortized premium on bonds payable will have a credit balance that increases thecarrying amount(or the book value) of the bonds payable. The unamortized discount on bonds payable will have a debit balance and that decreases the carrying amount (or book value) of the bonds payable.


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