2) If the maximum debt/equity ratio as specified by a debt covenant is close to being violated, which one of the following actions would increase the likelihood of violating the debt covenant?

A) Issuing capital stock

B) Skip declaring a cash dividend

C) Acquire money by issuing a non-interest-bearing note payable

D) Acquire money by collecting accounts receivable

Diff: Medium

Learning Objective: 11.1

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 2 / None

3) If the maximum debt/equity ratio as specified by a debt covenant is close to being violated, which of the following actions would help avoid a violation of the covenant?

A) Purchase long-term investments

B) Increase current cash dividends declared

C) Exchange bonds payable for common stock

D) Acquire money by selling land at its balance sheet value

Diff: Medium

Learning Objective: 11.1

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 3 / None

4) The capital structure leverage ratio will increase if a company:

A) pays off its long-term debt.

B) decides to pay cash for more of its capital purchases.

C) purchases long-term investments for cash.

D) declares a cash dividend.

Diff: Medium

Learning Objective: 11.1

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 4 / None

5) A non-interest-bearing obligation:

A) requires recognition of interest expense over the life of the obligation.

B) is an example of an installment obligation.

C) requires collateral.

D) is free of interest expense.

Diff: Easy

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 5 / None

6) The difference in computing the effective interest rate for non-interest-bearing obligations as compared to installment obligations is:

A) one has an effective interest rate of zero, while the other is determined using present value factors.

B) one involves a single sum and the other involves an ordinary annuity.

C) one is based on the market rate of interest, while the other is based on a stated rate of interest.

D) determined by the length of the debt maturity period.

Diff: Medium

Learning Objective: 11.2; 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 6 / None

7) Interest expense recognized over the life of an obligation is the difference between cash received at the time of issuance and cash paid over the life of the obligation for:

A) dividends declared.

B) convertible bonds.

C) non-interest-bearing obligations.

D) receivables due from customers.

Diff: Medium

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 7 / None

8) Payments on an installment obligation typically include the payment of:

A) principal only.

B) both principal and interest.

C) interest only.

D) interest, but only if collateral is involved.

Diff: Easy

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 8 / None

9) Which one of the following is needed in order to find the present value of an obligation?

A) The discount rate of the associated cash flows

B) All debt covenants that are a component of the obligation

C) The gross profit rate of the borrower

D) The rate of inflation during the year

Diff: Easy

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 9 / None

10) How is interest expense calculated according to U.S. GAAP?

A) Stated rate of interest × maturity value.

B) Effective interest rate × maturity value.

C) Effective interest rate × book value.

D) Stated rate of interest × book value.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 10 / None

11) Interest expense calculated under U.S. GAAP is equal to the stated rate of interest times the maturity value if the interest-bearing obligation is issued at:

A) a discount.

B) either a discount or a premium.

C) a premium.

D) par or face value.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 11 / None

12) If a company issues a non-interest-bearing note payable, then:

A) no interest expense will be recognized over the life of the note.

B) no principal payments will be made over the life of the note.

C) no interest payments will be made until the maturity of the note.

D) the covenants should be rewritten to conform to GAAP.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 12 / None

13) If a company issues a non-interest-bearing note payable, then:

A) the cash received will exceed the maturity value of the note.

B) the interest is not accrued.

C) the cash received will be less than the maturity value of the note.

D) the cash received will be more than the maturity value of the note.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 13 / None

14) If a company issues a note payable when the market rate of interest is greater than the stated rate, then:

A) the cash received will exceed the maturity value of the note.

B) the note will be issued at a discount.

C) the note will be issued at a premium.

D) the cash received will be equal to the maturity value of the note.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 14 / None

15) If a company issues a note payable when the market rate of interest is less than the stated rate, then:

A) the note will be discounted at maturity.

B) the cash received will be equal to the maturity value of the note.

C) the cash received will exceed the maturity value of the note.

D) the note will be issued at a discount.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 15 / None

16) If a company issues a note payable when the market rate of interest is equal to the stated rate, then:

A) the cash received will exceed the maturity value of the note.

B) the note will be issued at a discount.

C) the note will be issued at a premium.

D) the note will be issued at par.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 16 / None

17) If an interest-bearing note payable is issued at par, then the contractual cash payment for interest is:

A) equal to interest expense.

B) less than interest expense.

C) greater than interest expense.

D) It cannot be determined from the information given.

Diff: Easy

Learning Objective: 11.2; 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 17 / None

18) If an interest-bearing note payable is issued at a discount, then the contractual cash payment for interest is:

A) less than interest expense.

B) greater than interest expense.

C) equal to interest expense.

D) ignored since no interest payment will be made.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 18 / None

19) If an interest-bearing note payable is issued at a premium, then the contractual cash payment for interest is:

A) greater than interest expense.

B) less than interest expense.

C) equal to interest expense.

D) based on the market rate of interest.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 19 / None

20) If interest expense is greater than the contractual interest payment, then:

A) the note was issued at par.

B) a debt covenant violation occurred.

C) the note was issued at a premium.

D) the note was issued at a discount.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 20 / None

21) If interest expense is less than the contractual interest payment, then:

A) the note was issued at a premium.

B) the note was issued at a discount.

C) the note was issued at par.

D) the company should refinance the note to get a better interest rate.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 21 / None

22) If interest expense is equal to the contractual interest payment, then:

A) the note was issued at a premium.

B) the note was issued at a discount.

C) the note was issued at par.

D) It cannot be determined from the information given.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 22 / None

23) A debt covenant:

A) serves to give assurance to a creditor that the debtor will have the ability to pay interest and principal at maturity.

B) serves to give assurance to the debtor that the interest rate is reasonable.

C) allows the creditor to become an owner of the company if the covenant is violated.

D) allows the debtor to forego any interest on the debt.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 23 / None

24) On January 1, a 6-year, $5,000, non-interest-bearing note payable was issued when the market rate of interest was 8%. The present value of the note is:

A) $3,151.

B) $2,080.

C) $865.

D) $5,000.

Explanation: $5,000 × .63017 (present value of single sum, n = 6, i = 8%) = $3,151

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 24 / None

25) On January 1, a 3-year, $8,000, non-interest-bearing note payable was issued when the market rate of interest was 11%. To determine the amount at which the note will be valued on the balance sheet on the issue date, you must consider:

A) the present value of a single sum.

B) the future value of an annuity due.

C) the present value of an ordinary annuity.

D) the future value of an ordinary annuity.

Diff: Medium

Learning Objective: 11.2; 11.3

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 25 / None

26) On January 1, a 7-year, $8,000, non-interest-bearing note payable was issued when the market rate of interest was 7%. What amount should be recorded for the note on the balance sheet at the issue date?

A) $3,570

B) $4,982

C) $11,241

D) $37,725

Explanation: $8,000 × .62275 (present value of single sum, n = 7, i = 7%) = $4,982

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 26 / None

27) Companies generate assets in three different ways. They are:

A) equity contributed by owners, borrowings, and receivables from affiliates.

B) equity issuances, borrowings, and interest rates.

C) borrowings, profitable operations, and equity issuances.

D) equity issuances, debt issuances, and financial instruments.

Diff: Medium

Learning Objective: 11.1

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 27 / None

28) Which one of the following is not one of the three contractual kinds of notes?

A) Non-interest-bearing note

B) Interest-bearing notes

C) Installment notes

D) Bank notes

Diff: Easy

Learning Objective: 11.2

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 28 / None

29) Which type of note consists of periodic payments covering both interest and principal?

A) Interest-bearing bond

B) Receivable note

C) Non-interest-bearing note

D) Installment note

Diff: Easy

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 29 / None

30) A provision of a contractual obligation that is designed to protect the interest of lenders is called:

A) a lenders' security provision.

B) a restrictive covenant.

C) a non-interest-bearing obligation.

D) collateral.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 30 / None

31) The interest rate used to calculate the interest payments by the issuer of the obligation is:

A) the market rate of interest.

B) the effective interest rate.

C) the stated interest rate.

D) equal to the actual interest expense rate.

Diff: Easy

Learning Objective: 11.2

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 31 / None

32) A non-interest-bearing note was recorded in the accounting records. The book value of the note:

A) remains the same during the maturity period.

B) decreases during the maturity period.

C) increases throughout the maturity period.

D) is reported on income statement.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 32 / None

33) A five-year, non-interest-bearing, $5,000 note has a present value of $3,917. The market rate of interest is 5%. Interest expense for the period is:

A) $392.

B) $196.

C) $250.

D) $217.

Explanation: $3,917 × 5% = $196

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 33 / None

34) A coupon payment is:

A) the payment of principal that is the 'coupon' of the total payments.

B) the amount of interest expense reported on the income statement.

C) calculated by multiplying the book value of the bonds times the effective rate of interest.

D) the amount paid to bondholders on each interest payment date.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 34 / None

35) A call provision in a bond contract may specify that the issuing company:

A) can issue the bonds at any interest rate it can entice the investors to accept.

B) must make periodic interest payments.

C) must deposit cash in the bank to be available when the bonds mature.

D) may buy back bonds from the investors.

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 35 / None

36) Which one of the following bonds is considered unsecured?

A) $50,000, 8%, debenture bonds

B) $100,000, 12%, restricted bonds

C) $20,000, 10%, five-year callable bonds

D) $40,000, 6%, collateralized bonds

Diff: Medium

Learning Objective: 11.3

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 36 / None

37) RJC Company issued $8,000 of 10% bonds on January 1, 2020. The bonds were issued at a premium. The cash payment for annual interest on the bonds:

A) is equal to annual interest expense.

B) is greater than annual interest expense.

C) is less than annual interest expense.

D) equals the balance in Premium on Bonds Payable on the day the bonds were issued.

Diff: Medium

Learning Objective: 11.3

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 37 / None

38) Darren Company purchased 8, $1,000 of 8% bonds on January 1, 2020 for $7,060, a discount of $940. The market rate of interest on the issue date was 10%. The carrying value of the bonds on December 31, 2020 is:

A) $6,994.

B) $7,060.

C) $8,940.

D) $7,126.

Explanation: $7,060 + [($7,060 × .10) − ($8,000 × .08)] = $7,126

Diff: Hard

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 38 / None

39) The amount of amortized bond premium:

A) reduces interest expense on the income statement below the cash interest payment.

B) is reported as a deduction from bonds payable on the balance sheet.

C) is reported as an addition to bonds payable on the balance sheet.

D) is added to the present value of bonds.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 39 / None

40) Bonds payable that are redeemed by the issuer:

A) typically pay far less interest than the market rate of interest.

B) are considered unsecured.

C) have no market value.

D) are repurchased or retired.

Diff: Easy

Learning Objective: 11.4

Bloom's: Knowledge; Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 40 / None

41) Financial instruments that are not listed on the balance sheet of a company:

A) may involve significant risks that must be disclosed in the notes to the financial statements.

B) are reported as assets if the company can determine the fair value.

C) must be reported as a liability on the balance sheet at the end of the accounting period.

D) must be reported on the income statement.

Diff: Medium

Learning Objective: 11.4

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 41 / None

42) Which one of the following is not a financial instrument?

A) Commitments to pay dividends

B) Commitments to guarantee indebtedness of third parties

C) Commitments to provide financing to customers

D) Financial arrangements designed to reduce risks

Diff: Easy

Learning Objective: 11.4

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 42 / None

43) Capital leases are rental agreements for which:

A) periodic rental payments are recorded as rental revenue on the asset owner's income statement.

B) the contractual arrangements are similar to purchasing the leased asset.

C) the period of the lease is generally a very small portion of the leased asset's useful life.

D) the lessee has legal ownership of the asset.

Diff: Easy

Learning Objective: 11.5

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 43 / None

44) Woodsman Company issued $400,000 of 6-year, 6% bonds with interest payments occurring annually at the end of each year. What additional information is needed in order to determine the selling price of these bonds?

A) The face amount of the bonds

B) The bond covenants

C) The market rate of interest

D) The stated rate of interest

Diff: Easy

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 44 / None

45) Gibson Corporation amortizes its bonds using the effective interest method. Which statement is correct?

A) [Interest expense] = [Stated rate] × [Carrying value of the bonds]

B) [Interest expense] - [Cash interest paid] = [Increase in carrying value if sold at a discount]

C) [Cash interest payment] = [Bond face amount] × [Market interest rate]

D) [Interest expense] - [Cash interest paid] = [Increase in carrying value if sold at a premium]

Diff: Medium

Learning Objective: 11.3

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 45 / None

46) In a capital lease, GAAP requires the lessee:

A) to record the lease on its balance sheet at the present value of future lease payments.

B) to record rental revenue as each lease payment is received.

C) to not depreciate the leased asset.

D) to transfer ownership to the lessee.

Diff: Easy

Learning Objective: 11.5

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 46 / None

47) Operating leases are treated as:

A) increases in liabilities for both the lessor and the lessee.

B) a sale if the leased asset has been transferred from the lessor to the lessee.

C) capital leases by the lessee.

D) rental expense by the lessee.

Diff: Easy

Learning Objective: 11.5

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 47 / None

48) Countries throughout the world typically:

A) pay extremely large dividends to shareholders.

B) rely heavily on local stock and bond markets.

C) have less comprehensive accounting disclosure requirements than the U.S.

D) carry a normal debt/equity ratio that is less than 25%.

Diff: Medium

Learning Objective: 11.4

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 48 / None

49) Investments in bonds are accounted for using:

A) historical cost.

B) capital leases.

C) the effective interest method.

D) net realizable value.

Diff: Medium

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 49 / None

50) McCourt Investment Advisors purchased newly issued bonds on October 1, 2020, paying $108,983. The bonds had a face value of $100,000, maturing on September 30, 2025, and pay interest semiannually on March 31 and September 30. The stated interest rate is 6%. What is the effective interest rate?

A) 4%.

B) 5%.

C) 6%.

D) 7%.

Explanation: Because the bonds were issued at a premium, we know that the effective interest rate is lower than the stated rate. This eliminates answers C and D. The following computation of the present value of the future cash flows at 4% arrives at our purchase price, proving that 4% is the effective rate.

PV of interest payments

$3,000* × 8.98259 (table 5, n =10, i = 2%) = $ 26,948

PV of principal

$100,000 × .82035 (table 4, n =10, i = 2%) = $ 82,035

Total principal and interest $108,983

* ($100,000 × 6% × ½) = $3,000; n = 5 years × 2 = 10 periods;

and i = 4%/ 2 = 2%

Diff: Hard

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 50 / None

51) The following information was extracted from the financial records of Lewis Company.

2020 2019

Balance Sheet

Notes payable $400,000 $400,000

Less: Discount on notes payable 24,000 28,800

Income Statement

Interest expense $32,800 $32,400

Based on this information, what is the effective interest rate on the notes payable?

A) 8.2%

B) 8.8%

C) 6.0%

D) 2.2%

Explanation:

Interest Expense = Effective Rate × Book Value of Debt at Beginning of the Period

$32,800 = Effective Rate × ($400,000 - $28,800)

Effective Interest Rate = 8.8% (rounded)

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 51 / None

52) The following information was extracted from the financial records of Lewis Company.

2020 2019

Balance Sheet

Notes payable $400,000 $400,000

Less: Discount on notes payable 24,000 28,800

Income Statement

Interest expense $32,800 $32,400

Based on this information, the journal entry Lewis Company should prepare to record interest expense during 2020 would include:

A) a credit to Interest Payable for $32,800.

B) a credit to Discount on Notes Payable for $24,000.

C) a credit to Cash for $28,000.

D) a credit to Notes Payable for $4,800.

Explanation:

Interest Expense (per 2020 Inc. Smt.) 32,800

Discount on Notes Payable 4,800*

Cash ($32,800 - $4,800) 28,000

*$4,800 = ($28,800 - $24,000) = Change in the balance of Discount on Notes Payable

Diff: Medium

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 52 / None

53) On September 10, 2019, Humbert Company issued bonds with a face value of $600,000 for a price of 96 (percent of the face value). During 2020, Humbert exercised a call provision and redeemed the bonds for 101 (percent of face value). At the time of the redemption, the bonds had a book value of $590,000. The journal entry to record the redemption includes:

A) a credit to Bonds Payable for $576,000.

B) a debit to Loss on Bond Redemption for $16,000.

C) a credit to Discount on Bonds for $24,000.

D) a debit to Discount on Bonds Payable for $10,000.

Explanation:

Cash paid to redeem the bonds = Face value × 101%

= $600,000 × 101%

= $606,000

Bonds Payable 600,000

Loss on Bond Redemption 16,000**

Discount on Bonds Payable 10,000*

Cash 606,000

* $10,000 Discount on Bonds Payable = Face Value - Book Value = $600,000 - $590,000

** $606,000 Cash Proceeds - $590,000 Book Value = $16,000 Loss on Bond Redemption

Diff: Medium

Learning Objective: 11.4

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 53 / None

54) On September 10, 2019, Humbert Company issued bonds with a face value of $600,000 for a price of 102 (percent of face value). During 2020, Humbert exercised a call provision and redeemed the bonds for 101 (percent of face value). At the time of the redemption, the bonds had a book value of $607,000. The journal entry to record the redemption includes:

A) a credit to Gain on Bond Redemption for $13,000.

B) a debit to Premium on Bonds for $7,000.

C) a credit to Discount on Bonds for $7,000.

D) a credit to Bonds Payable for $600,000.

Explanation:

Bonds Payable 600,000

Premium on Bonds Payable 7,000*

Cash 606,000^

Gain on Bond Redemption 1,000

^ $606,000 = $600,000 × 1.10%

* $7,000 Premium on Bonds Payable = Face Value - Book Value = $607,000 - $600,000

** $606,000 Cash Proceeds - $607,000 Book Value = $1,000 Gain on Bond Redemption

Diff: Medium

Learning Objective: 11.4

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 54 / None

55) Brown Company is about to issue $300,000 of 8-year bonds paying a 12% interest rate with interest payable semiannually. The effective interest rate for such securities is 10%. Below are available time value of money factors.

8 periods, 16 periods, 8 periods, 16 periods,

10% 5% 12% 6%

Present Value of 1 0.46651 0.45811 0.40388 0.39365

Future Value of 1 2.14359 2.18287 2.47596 2.54035

Present Value of an Annuity of 1 5.33493 10.83777 4.96764 10.10590

Future Value of an Annuity of 1 11.43589 23.65749 12.29969 25.67253

To the closest dollar, how much can Brown expect to receive for the sale of these bonds?

A) $319,339

B) $229,371

C) $332,513

D) $540,000

Explanation: ($300,000 × .45811) + [($300,000 × 12% × ½ = $18,000) × 10.83777]

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 55 / None

56) Stevens Company is about to issue $400,000 of 10-year bonds paying an 8% interest rate with interest payable semiannually. The effective interest rate for such securities is 10%. Below are available time value of money factors that Stevens chooses from to calculate compounded interest.

10 periods, 20 periods, 10 periods, 20 periods,

8% 4% 10% 5%

Present Value of 1 0.46319 0.45639 0.38554 0.37689

Future Value of 1 2.15892 2.19112 2.59374 2.65330

Present Value of an Annuity of 1 6.71008 13.59033 6.14457 12.46221

Future Value of an Annuity of 1 14.48656 29.77808 15.93743 33.06595

To the closest dollar, how much can Stevens expect to receive for the sale of these bonds?

A) $350,151

B) $292,637

C) $800,000

D) $1,405,503

Explanation: ($400,000 × .37689) + [($400,000 × 8% × ½ = $16,000) × 12.46221]

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 56 / None

57) Torrey Corporation purchased $1,000,000 of ten-year, 10 percent bonds payable dated January 1, 2019. The market rate of interest at that time was 11 percent. The journal entry to record this transaction will include a:

A) debit to Discount on Bond Investment.

B) credit to Premium on Bonds Investment.

C) credit to Discount on Bonds Investment.

D) credit to Cash.

Diff: Easy

Learning Objective: 11B

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 1 min.

Title/Media Ref.: Multiple Choice Question 57 / None

58) Duncan Industries purchased $100,000 of 12 percent bonds on January 1, 2020, when the market interest rate was 10 percent and paid $107,732 for them. The bonds mature on January 1, 2025 and pay interest on June 30 and December 31. Duncan uses the effective interest method of amortization. The total annual cash receipt for interest on the bonds is:

A) $10,000.

B) $12,000.

C) $5,000.

D) $6,000.

Explanation: $100,000 × 12% = $12,000

Diff: Medium

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 58 / None

59) Duncan Industries sold $100,000 of 12 percent bonds on January 1, 2020, when the market interest rate was 10 percent and received $107,732 for them. The bonds mature on January 1, 2025 and pay interest on June 30 and December 31. Duncan uses the effective interest method of amortization. The June 30, 2020 entry will include:

A) a $5,000.00 debit to Interest Expense.

B) a $5,386.60 debit to Interest Expense.

C) a $5,000.00 credit to Cash.

D) a $5,386.60 debit to Premium on Bonds Payable.

Explanation:

Interest Expense ($107,732 × 10% × 6/12) 5,386.60

Premium on Bonds Payable ($6,000.00 - $5,386.60) 613.40

Cash ($100,000 × 12% × 6/12) 6,000.00

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 59 / None

60) Duncan Industries purchased $100,000 of 12 percent bonds on January 1, 2020, when the market interest rate was 10 percent and paid $107,732. The bonds mature on January 1, 2025 and pay interest on June 30 and December 31. Duncan uses the effective interest method of amortization. The interest revenue for 2020 is:

A) $12,000.

B) $10,000.

C) $10,743.

D) $ 9,246.

Explanation: June 30: ($107,732 × 10% × 6/12 = $5,387*) +

December 31: {$107,732 - ($6,000 - $5,387*) × 10% × 6/12}

Diff: Hard

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 60 / None

61) Bowlin Company issued $1,000,000 of 9 percent, ten-year bonds for $937,790 on July 1, 2020, when the market rate of interest was 10 percent. The bonds mature in ten years and pay interest on June 30 and December 31. Bowlin's fiscal year ends on December 31 and the company uses the effective interest method of amortization. The interest expense for the six months ending December 31, 2020 is:

A) $50,000.00.

B) $45,000.00.

C) $46,889.50.

D) $93,779.00.

Explanation: $937,790 × 10% × 6/12

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 61 / None

62) Bowlin Company purchased $1,000,000 of 9 percent, ten-year bonds for $937,790 on July 1, 2020, when the market rate of interest was 10 percent. The bonds mature in ten years and pay interest on June 30 and December 31. Bowlin's fiscal year ends on December 31 and the company uses the effective interest method of amortization. The book value of the bonds on December 31, 2020 is:

A) $1,000,000.00.

B) $944,011.00.

C) $941,452.90.

D) $939,679.50.

Explanation: $937,790 + [$937,790 × 10% × 6/12 = $46,889.50) - ($45,000 = $100,000 × 9% × 6/12)]

Diff: Hard

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 62 / None

63) Burns Company issued $1,000,000 of 9 percent, ten-year bonds for $937,790 on July 1, 2020, when the market rate of interest was 10 percent. The bonds mature in ten years and pay interest on June 30 and December 31. Burn's fiscal year ends on December 31 and the company uses the effective interest method of amortization. The journal entry on December 31, 2020 will include:

A) a debit to Interest Expense for $45,000.00.

B) a credit to Discount on Bonds Payable for $1,889.50.

C) a credit to Interest Payable for $45,000.00.

D) a credit to Cash for $46,973.95.

Explanation:

Interest Expense ($939,790 × 10% × 6/12) 46,889.50

Cash ($100,000 × 9% × 6/12) 45,000.00

Discount on Bonds Payable ($46,889.50 - $45,000) 1,889.50

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 63 / None

64) Barkley Brothers Inc. shows the following information on its balance sheet for December 31, 2020.

Bonds payable	$100,000
Less Unamortized discount	5,350	$94,650

The bonds have a stated annual interest rate of 5 percent and will mature on December 31, 2022. The market value of the bonds as of December 31, 2020, is $98,167. Assume that Barkley retired the bonds by purchasing them on the open market. The journal entry to record this purchase would include:

A) a credit to Bonds Payable for $100,000.

B) a debit to Discount on Bonds Payable for $5,350.

C) a credit to Discount on Bonds Payable for $5,350.

D) a debit to Cash for $98,167.

Explanation:

Loss on Bond Redemption ($98,167 - $94,650) 3,517

Bonds Payable 100,000

Discount on Bonds Payable 5,350

Cash 98,167

Diff: Medium

Learning Objective: 11.4

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Multiple Choice Question 64 / None

Matching Questions

65) Identify the balance sheet classification (a through e) in which each account description numbered 1 through 7 would be reported. You may use each letter more than once or not at all. You may assign more than one category to an account if it can be classified in more than one category.

Balance Sheet Classifications

a. Current assets

b. Long-term assets

c. Current liabilities

d. Long-term liabilities

e. Not reported on the balance sheet

_______ 1. Loss on bond redemption

_______ 2. 1-year non-interest-bearing note receivable

_______ 3. Discount on bonds that mature in 3 years

_______ 4. 6-month note payable

_______ 5. Premium on bonds issued that mature in 8 months

_______ 6. Discount on notes payable due in 12 months

_______ 7. Lease liability on a 5-year capital lease paid annually

1. e

2. a

3. d

4. c

5. c

6. c

7. c and d

Diff: Medium

Learning Objective: 11.1; 11.2; 11.3; 11.4; 11.5

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 5 min.

Title/Media Ref.: Matching Question 1 / None

66) Identify the effects on total liabilities and net income of each transaction listed as 1 through 4 below by placing the letter of the effect in the two columns provided. Assume there are currently no accrued expenses recorded on the balance sheet as liabilities.

Effects

I. Increase

D. Decrease

X. Does not change

Liabilities Net Income

		1. Acquired the use of equipment under a capital lease
		2. A capital lease payment is paid (principal and interest)
		3. Periodic interest and amortization of bond discount is recognized
		4. Paid interest on bonds issued at par

1. I, X

2. D, D

3. I, D

4. X, D

Diff: Medium

Learning Objective: 11.3; 11.5

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Matching Question 2 / None

67) Identify which effect on the accounting equation (a through e) occurs as a result of each transaction numbered 1 through 6. You may use each letter more than once or not at all.

Accounting Effects

a. + A and + SE

b. No net effect on A, L, SE

c. - A and - L and - SE

d. - A and - SE

e. - A and + L and - SE

_______ 1. Purchased a bond investment at a premium

_______ 2. Purchased a bond investment at a discount

_______ 3. Purchased a non-interest-bearing note at a discount

_______ 4. Received periodic interest and amortized discount

_______ 5. Received periodic interest and amortized premium

_______ 6. Received interest on bond investment purchased at par

1. b

2. b

3. b

4. a

5. a

6. a

Diff: Medium

Learning Objective: 11B

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Matching Question 3 / None

68) Identify the effect(s) on the debt/equity and capital structure leverage ratios (a through c) as a result of each transaction numbered 1 through 5 below. You may use each letter more than once or not at all.

Effects

a. Increase ratios

b. Decrease ratios

c. Does not change ratios

_______ 1. Acquired the use of equipment under a capital lease

_______ 2. Paid the interest portion of the payment on a capital lease

_______ 3. Paid the principal portion of the payment on a capital lease

_______ 4. Acquired the use of equipment under an operating lease

_______ 5. Payment required on an operating lease

1. a

2. a

3. b

4. c

5. a

Diff: Medium

Learning Objective: 11.5

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 5 min.

Title/Media Ref.: Matching Question 4 / None

69) Identify which effect on the accounting equation (a through e) occurs as a result of each transaction numbered 1 through 6. You may use each letter more than once or not at all.

Accounting Effects

a. + A and + L

b. + A and + SE [foil]

c. - A and - L

d. - A and - SE

e. No change in total A, L, SE

_______ 1. Acquired the use of equipment under a capital lease

_______ 2. Paid the interest portion of the payment on a capital lease

_______ 3. Paid the principal portion of the payment on a capital lease

_______ 4. Depreciation of equipment leased under a capital lease

_______ 5. Acquired the use of equipment under an operating lease

_______ 6. Payment required on an operating lease

1. a

2. d

3. c

4. d

5. e

6. d

Diff: Medium

Learning Objective: 11.5

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 5 min.

Title/Media Ref.: Matching Question 5 / None

70) Identify the effect(s) on the debt/equity and capital structure leverage ratios (a through c) as a result of each transaction numbered 1 through 7 below. You may use each letter more than once or not at all.

Effects

a. Increase in ratios

b. Decrease in ratios

c. Does not change ratios

_______ 1. Issued a bond payable at a discount

_______ 2. Issued a non-interest-bearing note at a discount

_______ 3. Issued an interest-bearing note at a premium

_______ 4. Amortized discount to interest expense

_______ 5. Paid interest on bonds payable that was issued at par

_______ 6. Market value of bonds payable increased after issue date

_______ 7. Retired a bond issue by paying cash

1. a

2. a

3. a

4. a

5. a

6. c

7. b

Diff: Medium

Learning Objective: 11.3; 11.4

Bloom's: Application

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 5 min.

Title/Media Ref.: Matching Question 6 / None

Short Problems

71) On January 1, 2020, Lukens Corporation issued 5-year bonds with a $50,000 face amount and a 6% annual coupon rate paid annually on January 1. The bonds were issued at $44,166 when the market rate of interest was 9%.

A. Prepare the journal entry to record the issuance of the bonds on January 1, 2020. Round to the nearest dollar.

B. Were the bonds issued at a premium or discount? How do you know?

A. Cash 44,166

Discount on Bonds Payable

($50,000 - $44,166) 5,834

Bonds Payable 50,000

B. The bonds were issued at a discount. Two items reflect this–the issue price is less than the face amount of the bonds, and the market rate of interest is greater than the stated rate of interest.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 1 / None

72) On January 1, a 3-year, $1,090 non-interest-bearing note payable was issued for $942 when the market rate of interest was 5%. How much interest expense will Hamlen recognize in each of the first two years using the effective interest method? Round to the nearest dollar.

Second year interest expense: ($942 + $47) × .05 = $49

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 2 / None

73) On January 1, 2020, Hooper Corporation issued 3-year bonds with a $40,000 face amount and a 6% annual coupon rate paid annually on December 31. The bonds were issued at $36,021 when the market rate of interest was 10%. Complete the amortization table for the bonds using the effective interest method. Round all amounts to the nearest dollar.

Date	Cash	Interest Expense	Amortization	Carrying Value
1/1/20
12/31/20
12/31/21
12/31/21

	Cash ($40,000 × 6%)	Interest Expense (10% × Carrying Value)	Amortization (Int. Exp. - Cash)	Carrying Value
1/1/20				$36,021
12/31/20	2,400	3,602	1,202	37,223
12/31/21	2,400	3,722	1,322	38,545
12/31/21	2,400	3,855	1,455	40,000

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 7 min.

Title/Media Ref.: Short Problem 3 / None

74) On January 1, a 5-year, $5,000 non-interest-bearing note payable was issued when the market rate of interest was 9%. What are the proceeds from this issue? Round your final answer to the nearest dollar.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Short Problem 4 / None

75) On January 1, a 5-year, $4,000 non-interest-bearing note payable was issued for $2,600 when the market rate of interest was 9%. What is the total interest expense that will be recognized over the life of the note? Round your final answer to the nearest dollar.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 2 min.

Title/Media Ref.: Short Problem 5 / None

76) On January 1, a 3-year, $10,000 non-interest-bearing note payable was issued for $7,938 when the market rate of interest was 8%. Interest expense is recognized using the effective interest method. Calculate the book value of the note a year after its issuance. Round your final answer to the nearest dollar.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 6 / None

77) Samuels Corporation issued a $40,000, 3-year, non-interest-bearing note payable on January 1, 2019. Reflecting a market rate of interest of 10%, Garrison received $30,053. Calculate interest expense (to the nearest dollar) for 2019 and 2020.

2019: $30,053 × .10 = $3,005

2020: ($30,053 + $3,005) × .10 = $3,306

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 7 / None

78) On January 1, 2019, Pacific Corporation issued a 3-year, 8%, $5,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 10%. The bond was issued at $4,750. Calculate the total interest expense over the 3-year life of the bond.

($5,000 - $4,750) + [3 × (8% × $5,000)] = $1,450

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 8 / None

79) On January 1, 2019, Mango Corporation issued a 3-year, 4%, $3,000 bond payable. Beginning in 2020, interest is payable every year on January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 6%. What are the proceeds received by Mercer from the issue of this bond on January 1, 2019?

Present value of interest at n = 3, i = 6% (Table 5): ($3,000 × 4% × 2.67301) = $ 321

Present value of principal at n = 3, I = 6% (Table 4): $3,000 × .83942 = 2,519

Total proceeds $2,840

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Problem 9 / None

80) On January 1, 2019 Sheena Corporation issued a 3-year, 7%, $4,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The bonds were issued at 104¼. Calculate the issue price.

Diff: Medium

Learning Objective: 11.3; 11.6

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Short Problem 10 / None

81) On January 1, 2019, Enron Corporation issued a 4-year, 7%, $9,000 bond payable. Beginning in 2020, interest is payable annually every January 1. The market rate of interest on January 1, 2019 is 9%. How much are the interest payments by Enron? Why is the amount of interest expense different than the cash payments?

Interest expense is different since it is based on the market rate of interest of 9% while the payment is based on the rate stated on the bond. The investor will earn, and the issuer must incur, the market rate for both parties to be in agreement on the bond transactions, i.e., the investor demands to earn 9% on this bond since in the market 9% can be earned on other investments with similar risk. Also, the issuer will not attract investors unless it provides at least a return of 9% to the investors, given the risk associated with the bonds.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 11 / None

82) On January 1, 2019, Precision Corporation issued a 3-year, 7%, $2,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 10%. If Precision uses the effective interest method, what is the book value of the bond payable on January 1, 2019?

PV of interest of $140 for n = 3, i = 10% (Table 5): [($2,000 × 7%) × 2.48685] = $348

Total: $1,503 + $348 = $1,851

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 12 / None

83) On January 1, 2019, Edison Corporation issued a 4-year, 8%, $5,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 10%.

A. Calculate the contracted cash interest payments by Edison as specified by this bond.

B. Will the total interest expense over the life of the bond be less than or greater than the total cash payments for interest? Explain.

A. .08 × $5,000 = $400 per year for 4 years

B. Interest expense will be greater than the total of the cash interest payments because the cost to the bond issuer is based on the market rate, which is greater than the stated rate of interest.

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 13 / None

84) On January 1, 2019, Lundell Corporation issued a 5-year, 4%, $2,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The bonds were issued at 105 ¾ (percent of face value). How much cash did Lundell receive from issuing the bonds on January 1, 2019?

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Problem 14 / None

85) On January 1, 2019 Frank Corporation issued a 3-year, 9%, $5,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 6% when the bonds were issued at 108 (percent of face). Calculate the total interest expense over the 3-year life of the bond.

Cash received at issuance: 108% × $5,000 = $5,400

Interest expense: $6,350 - $5,400 = $950

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 15 / None

86) On January 1, 2019, Field Corporation issued a 3-year, 9%, $5,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 6%. What is the impact of the debt/equity ratio as a result of the issuance?

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Short Problem 16 / None

87) On December 31, 2019, Creative Corporation purchased a 3-year, 9%, $1,000 bond payable. Beginning in 2020, interest is received every January 1 over the life of the bond. The market rate of interest on December 31, 2019 is 5%. Show how the bond investment will appear on Creative's balance sheet at December 31, 2019.

Payment (Present value): $1,109 = (ordinary annuity; n = 3, i = 5%, Table 5) [2.72325 × 9% × $1,000] + [$1,000 × .86384] (single sum; n = 3, i = 5%, Table 4) = ($245.09 + $863.84)

Long-term Investment

Bonds investment $1,109

Diff: Medium

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 5 min.

Title/Media Ref.: Short Problem 17 / None

88) On January 1, 2019, Luna Corporation issued a 5-year, 7%, $5,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 7%. Luna uses the effective interest method. Calculate the balance sheet value of the bond payable on January 1, 2020.

Diff: Easy

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 18 / None

89) On January 1, 2019, Richardson Company leased equipment under a 3-year capital lease with payments of $8,000 on January 1, 2020, 2021, and 2022. The present value of the lease payments at a discount rate of 7% is $20,992. Richardson uses straight-line depreciation with no salvage value. Calculate depreciation expense and interest expense for 2019.

Interest expense: $20,992 × 7% = $1,469

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 19 / None

90) On January 1, 2020, Foster Corporation issued a 2-year, non-interest-bearing, $4,000 note payable. Interest is payable each December 31 during the life of the note. When the note was issued, the market rate of interest was 6%. Complete the following amortization schedule:

Date	Interest Expense	Cash Payment	Balance Sheet Value
1/1/20
12/31/20
12/31/21

Date	Interest Expense (B.S Value × 6%)	Cash Payment	Balance Sheet Value
1/1/20			$3,560
12/31/20	$214	$ 0	3,774
12/31/21	226	0	4,000

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 5 min.

Title/Media Ref.: Short Problem 20 / None

91) On January 1, 2019, Parker Company leased equipment under a 3-year lease with payments of $5,000 on each December 31 of the lease term. The present value of the lease payments at a discount rate of 12% is $12,010. If the lease is considered a capital lease, depreciation expense (straight-line) and interest expense are recognized. If the lease is considered an operating lease, then rent expense is recognized. What is the difference in the total combined net incomes of 2019, 2020, and 2021, if the lease is considered a capital lease instead of an operating lease?

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Problem 21 / None

92) On January 1, 2019, Action Corporation issued a two-year, 5%, $1,000 bond payable. Beginning in 2020, interest is payable every January 1 over the life of the bond. The market rate of interest on January 1, 2019 is 3%. Calculate the present value of the bond issued by Action on January 1, 2019.

$1,000 × .943 (present value of a single sum, n = 2, i = 3% {Table 4}) = $943

Principal and interest = $96 + $943 = $1,039

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Problem 22 / None

93) On January 1, 2019, Alcon Corporation purchased a 5-year, 10%, $10,000 bond investment. Beginning in 2020, interest is received every January 1 over the life of the bond. The market rate of interest on the issue date is 10%. Calculate the interest revenue for 2020.

Diff: Medium

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 23 / None

94) On January 1, 2019, Mega Company leased equipment under a 5-year lease with payments of $7,000 on each December 31 of the lease term. The present value of the lease payments at a discount rate of 9% is $27,230.

A. Determine the amount of the leased asset and lease obligation on January 1, 2019.

B. Why are some leases accounted for as if they were purchases by the lessee financed with a note payable?

A. Leased asset: $27,230

Lease obligation: $27,230

B. The lessee treats a capital lease as a purchase financed with debt because the lessee essentially has the rights, risks, and benefits of owning the leased property.

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 24 / None

95) On January 1, 2019, Seaside Company leased equipment under a 5-year lease with payments of $3,000 on each December 31 of the lease term. The present value of the lease payments at a discount rate of 7% is $12,300. Calculate depreciation expense (straight-line with no salvage) and interest expense for 2019.

Interest expense: $12,300 × 7% = $861

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 25 / None

96) On January 1, 2020, Jackson Corporation issued a 4-year, 12%, $20,000 installment note payable. The payment on this note is $6,585 and is paid annually at year-end beginning December 31, 2020. Complete the following amortization schedule.

Date	Cash	Interest Expense	Amortization	Carrying Value
Jan. 1, 2020
Dec. 31, 2020
Dec. 31, 2021
Dec. 31, 2022
Dec. 31, 2023

Date	Cash Payment	Interest Expense (Carrying Value × 12%)	Amortization (Cash Payt. - Int. Exp.)	Carrying Value
Jan. 1, 2020				$20,000
Dec. 31, 2020	$6,585	$2,400	$4,185	15,815
Dec. 31, 2021	6,585	1,898	4,687	11,128
Dec. 31, 2022	6,585	1,335	5,250	5,878
Dec. 31, 2023	6,585	707*	5,878*	0

*rounded/plug

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 6 min.

Title/Media Ref.: Short Problem 26 / None

97) On January 1, 2019, Standard Incorporated plans to issue long-term debt to obtain money required to finance the purchase of equipment. It will have to pay a market rate of interest of 10% on this borrowed money. Standard is considering two different financial instruments to obtain the $10,494. The first instrument is a 3-year, 12%, $10,000 note with interest payable every December 31 over the life of the note. Alternatively, a 3-year, non-interest-bearing note with maturity value of $13,657 could be issued. Show how Standard's January 1, 2019 balance sheet and 2019 income statement will differ if Standard chooses to issue the non-interest-bearing note instead of the 10% note.

Non-Interest-Bearing Note 12% Note

Maturity value $13,657 $10,000

Premium (discount) (3,163) 494

Net book value $10,494 $10,494

Because interest expense is the market rate of interest times the carrying value at the beginning of the year, during 2019 interest expense would also be the same. Under either financial instrument, interest expense would be .10 × $10,494 = $1,049. Net income for 2019 would be unaffected by the choice of notes.

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 8 min.

Title/Media Ref.: Short Problem 27 / None

98) On January 1, 2020, Gee Company issued a 2-year, 8%, $20,000 installment note payable. The payment on this note is $11,215 and is paid annually at year-end beginning December 31, 2020. When the note was issued, the market rate of interest was 8%. Complete the following amortization schedule.

Date	Cash	Interest Expense	Principal	Carrying Value
1/1/20
12/31/20
12/31/21

Date	Cash	Interest Expense (Carrying Value × 8%)	Principal (Cash - Int. Exp)	Carrying Value
1/1/20				$20,000
12/31/20	$11,215	$1,600	$9,615	10,385
12/31/21	11,215	830*	10,385*	-

*rounded/plug

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 7 min.

Title/Media Ref.: Short Problem 28 / None

99) On January 1, 2019, Grant Company leased telephone equipment from Xu, Inc. Grant uses straight-line depreciation. The contract requires Grant to pay $5,000 each December 31 for the next three years, at which time the equipment is to be returned to Xu. Using an interest rate of 8%, the present value of the lease payments is $12,885. The following is Grant's January 1, 2019, balance sheet before the lease agreement.

Current assets		$20,000
Equipment	$25,000
Accumulated depreciation	(3,000)	22,000
Total assets		$42,000

Liabilities		$20,000
Shareholders' equity		22,000
Total liabilities and shareholders' equity		$42,000

How will entering into this lease agreement affect Grant's capital structure leverage ratio as of January 1, 2019.

Current Lease

Liabilities $20,000 $32,885 ($20,000 + $12,885)

Shareholders' equity 22,000 22,000

Total liabilities and

shareholders' equity $42,000 $54,885

Capital structure leverage 1.91 2.49

By entering into the lease Grant has increased its capital structure leverage ratios, which increases the company's risk level. Essentially, it has agreed to make contractual cash payments in the future.

Diff: Hard

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 8 min.

Title/Media Ref.: Short Problem 29 / None

Use the table below to answer the problems that follow.

Jan. 1, 2019 $36,021

Dec. 31, 2019 $2,400 3,602 1,202 37,223

Dec. 31, 2020 2,400 3,722 1,322 38,545

Dec. 31, 2021 2,400 3,855 1,455 40,000

100) What is the nature of the table presented? What is being amortized?

Diff: Easy

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Short Problem 30 / None

101) Were the bonds issued at a discount or premium? How do you know?

Diff: Easy

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 2 min.

Title/Media Ref.: Short Problem 31 / None

102) Determine the coupon rate of interest on the bonds. What does this amount represent?

$40,000 (x) = $2,400

Solving for x, these bonds have an annual coupon interest rate of 6%.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Short Problem 32 / None

103) Calculate the effective interest rate on these bonds. Why is this amount different than the coupon rate?

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Short Problem 33 / None

104) On January 1, 2019, Foresite Corporation issued a 10-year, 9%, $100,000 installment note payable. The payment on this note is $15,582 and is paid annually at year-end beginning December 31, 2019. How much total interest is paid over the loan period?

Diff: Medium

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Short Problem 34 / None

105) On January 1, 2019, Justin Corp. leased equipment under a five-year lease with payments of $20,000 on each December 31 of the lease period. The present value of the lease payments is $77,800, using a market interest rate of 9%. Justin depreciates its equipment straight-line over 5 years with zero salvage value. Calculate depreciation expense for 2019.

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 3 min.

Title/Media Ref.: Short Problem 35 / None

106) On January 1, 2019, Denver Company leased equipment under a 5-year lease with payments of $5,000 on each December 31 of the lease term. The present value of the lease payments at a discount rate of 12% is $18,024. What is the book value of the lease obligation on January 1, 2020?

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 36 / None

107) Crawford Company conducts a lottery system for Mississippi. The agreement specifies that the lottery must be conducted on a not-for-profit basis. Crawford's monthly sales of lottery tickets amounts to $1,400,000. Monthly operating expenses are $400,000, including a management charge of $30,000. The payment schedule for the guaranteed $1 million dollar payout for a winning lottery ticket is $100,000 immediately and $100,000 each year for the next 9 years. Crawford produced the following income statement as evidence of its not-for-profit status:

Ticket sales $1,400,000

Expenses:

Payout expense $1,000,000

Operating expenses 400,000 1,400,000

Net income $ 0

A. If the market rate of interest is 4%, determine the present value of the liability arising from the monthly winning lottery ticket.

B. Recalculate the income statement to reflect GAAP measurement of payout expense.

C. Is Crawford Company really a not-for-profit?

A. The present value of the liability is the present value of an annuity for n = 9,

i = 4% (Table 5) 7.43533 × $100,000 = $743,533 of a long-term liability.

Ticket sales $1,400,000

Expenses:

Payout expense ($743,533 + $100,000) $843,533

Operating expenses 400,000 1,243,533

Net income $ 156,467

C. Crawford is not acting like a not-for-profit because paying $100,000 and then $100,000 per year over 9 years has a much lower value than paying $1,000,000 now. The value of the lottery is only $843,533, not $1,000,000.

Diff: Medium

Learning Objective: 11.4

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 5 min.

Title/Media Ref.: Short Problem 37 / None

108) On January 1, 2020, Holly Company leased telephone equipment from ICON, Inc. Straight-line depreciation is used on all equipment with no salvage value. The contract required Holly to pay $5,000 each December 31 for the next three years, at which time the equipment is to be returned to ICON. Using an effective rate of interest of 8%, the present value of the lease payments is $12,885. Numerically derive the difference in Holly's 2020 income if the lease is treated as an operating lease instead of a capital lease.

* Interest = $12,885 × 8% = $1,031 (rounded)

**Depreciation = $12,885 / 3 years = $4,295 per year

Diff: Medium

Learning Objective: 11.5

Bloom's: Analysis

AACSB/AICPA: Analytic / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Problem 38 / None

Short Essay Questions

109) Distinguish between an installment obligation and a non-interest-bearing obligation.

Diff: Medium

Learning Objective: 11.2

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 1 / None

110) How do debt covenants impact a company's financial position?

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 2 / None

111) What is the risk premium of a bond issue and what role does it play in the determination of bond prices?

The risk premium is associated specifically with the company issuing the bonds. It is determined by a number of factors, including the credit rating of the company and the bond issuance, the solvency and earning power of the company, future movements in the economy and how these movements may affect the operations of the company, and the terms of the bond issuance. Analyzing financial statements is an important part of assessing the risk premium associated with investing in a particular company.

Diff: Easy

Learning Objective: 11A

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 3 / None

112) When the effective interest method is used to account for notes, the dollar amount of interest will increase or decrease throughout the maturity period. Explain why.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 4 / None

113) What are 'off-balance sheet risks'? What disclosures are required?

Diff: Medium

Learning Objective: 11.1

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Essay Question 5 / None

114) Various contractual forms specify additional terms such as collateral. Describe collateral as it pertains to a company's debt.

Diff: Medium

Learning Objective: 11.1

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 6 / None

115) Describe the two cash flows associated with bonds.

Diff: Medium

Learning Objective: 11.2; 11.3; App11A

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 7 / None

116) Why might a company redeem bonds before they mature?

Diff: Easy

Learning Objective: 11.4

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 8 / None

117) How does the balance between debt and equity in non-U.S. companies compare to the balance of debt and equity in U.S. companies?

Diff: Medium

Learning Objective: 11.5

Bloom's: Application

AACSB/AICPA: Analytic; Communication; Diversity / BB: Critical Thinking; FC: Measurement

TOT: 5 min.

Title/Media Ref.: Short Essay Question 9 / None

118) Describe the relationship between the stated rate of interest and the effective rate of interest as it relates to bonds.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 10 / None

119) Why are long-term leases recorded as purchases?

Diff: Easy

Learning Objective: 11.5

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Essay Question 11 / None

120) How does an investor's required rate of return affect investing decisions?

Diff: Easy

Learning Objective: 11A

Bloom's: Application

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Measurement

TOT: 4 min.

Title/Media Ref.: Short Essay Question 12 / None

121) How do changes in market interest rates lead to misstated balance sheet values for long-term debt?

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Analytic; Communication / BB: Critical Thinking; FC: Reporting

TOT: 4 min.

Title/Media Ref.: Short Essay Question 13 / None

Data Analytic Questions

Important Note to Instructor: All of the real world data included in the data analytic test bank questions was taken from the company information data base used for the data analytic concept practice exercises in the text located at www.wiley.com/go/pratt/financialaccounting11e. These questions can be used in at least two different ways to test two levels of data analytic skills. To test only the basic analysis required simply provide the student with the financial information followed by the questions just as they are illustrated in the test bank. Alternatively, to test both their ability to access and navigate the data base as well as their analysis skills, you can provide for the students only the questions and require them to access and navigate the data base, organize the data, and perform the analysis.

Key ratios for paper product manufacturer, International Paper Company, for 2017, 2018 and 2019, organized into the ROE framework, are provided below. Review the ratios and answer the questions that follow.

Key: ROE = Return on equity; ROA = Return on assets; CSL = Capital structure leverage; PM = Profit margin; AT = Asset turnover; LTD/TA = Long-term debt/total assets; COGS/S = COGS/sales; A/R Turn = Accounts receivable turnover; CR = Current ratio; OpEx/S = Operating expenses/sales; Inv Turn = Inventory turnover; QR = Quick ratio; Int/S = Interest expense/sales; LTA Turn = Long-term asset turnover; Int Cov = Interest coverage; Tax/S = Federal income tax expense/sales; A/P Turn= Accounts payable turnover; UG/NI = Unusual gains/net income; UL/NI = Unusual losses/net income

122) One of the drivers of the change in International Paper's ROE from 2018 to 2019 was:

A) the change in inventory turnover.

B) the change in interest expense as a percent of sales.

C) the change in long-term debt as a percent of total assets.

D) the change in International Paper's reliance on debt financing.

Diff: Hard

Learning Objective: 11.6

Bloom's: Application

AACSB/AICPA: Analytic / BB: None; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Data Analytic Question 1 / None

123) Which of International Paper's solvency ratios signals higher levels of solvency in 2019 than in 2018:

A) Current ratio.

B) Accounts payable turnover.

C) Interest coverage.

D) None of the solvency ratios show higher levels of solvency.

Diff: Hard

Learning Objective: 11.6

Bloom's: Application

AACSB/AICPA: Analytic / BB: None; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Data Analytic Question 2 / None

124) Choose the best answer.

A) International Paper showed more reliance on both total debt and long-term debt across the 3-year period.

B) International Paper showed less reliance on both total debt and long-term debt across the 3-year period.

C) International Paper showed less reliance on total debt but more reliance on long-term debt over the 3-year period.

D) International Paper showed more reliance on total debt but less reliance on long-term debt over the 3-year period.

Diff: Hard

Learning Objective: 11.6

Bloom's: Application

AACSB/AICPA: Analytic / BB: None; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Data Analytic Question 3 / None

125) Which of the following statements is false?

A) International Paper's ability to cover its debt payments with operating funds deteriorated over the 3-year period.

B) The change in International Paper's reliance on debt financing was key in explaining the change International Paper's ROE.

C) International Paper's ability to control its total expenses dropped off over the 3-year period.

D) International Paper paid its suppliers more slowly in 2019 than in 2018.

Diff: Hard

Learning Objective: 11.6

Bloom's: Application

AACSB/AICPA: Analytic / BB: None; FC: Measurement

TOT: 3 min.

Title/Media Ref.: Data Analytic Question 4 / None

Video Questions

126) Which of the following statements is not true about bond issuances?

A) They are a less popular form of financing than equity issuances.

B) They are attractive because they spread risk across many lenders.

C) Bond issuances increase the issuers' reliance on leverage.

D) They are normally placed (sold) by intermediary companies like investment banks.

Diff: Easy

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 1 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

127) Which of the following bond terms identifies the payment made to the bondholders on the maturity date?

A) Coupon rate

B) Call provision

C) Yield

D) Face value

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 2 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

128) Which of the following bond terms determines the periodic cash payment made to the bondholders?

A) Price

B) Face value

C) Yield

D) Stated interest rate

Diff: Easy

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 3 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

129) The risk-free rate is important to the decision of whether to buy bonds because:

A) it can help the investor determine the ceiling of the reasonable prices for the bond.

B) it is part of the risk premium.

C) it is determined by factors directly under the control of management.

D) it is always less or equal to the risk premium.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 4 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

130) What are the two primary factors that determine bond prices?

A) The size of the bond issuance and the risk-free rate.

B) The inflation rate and monetary exchange rates.

C) The risk-free rate and the risk premium.

D) The bond credit rating and the issuer's financial statements.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 5 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

131) The spread is:

A) the difference between the bond price and the bond's market value.

B) the difference between the book value of the bond liability and the bond's market value.

C) the differences between the credit ratings provided by different credit-rating agencies.

D) the difference between the risk-free rate of interest and the yield on the bond.

Diff: Medium

Learning Objective: 11.3

Bloom's: Knowledge

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 6 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

132) The key element of the effective interest method is:

A) interest expense for a year is determined by multiplying the stated interest rate times the face value of the bond.

B) interest expense for a year is determined by multiplying the effective interest rate times the face value of the bond.

C) interest expense for a year is determined by multiplying the yield times the balance sheet value of the liability at the beginning of the year.

D) interest expense for a year is determined by multiplying the yield times the balance sheet value at the end of the year.

Diff: Medium

Learning Objective: 11.3

Bloom's: Comprehension

AACSB/AICPA: None / FC: Measurement

Title/Media Ref.: Bond liabilities - General Motors Video: Question 7 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

133) If the bond's yield is greater than the stated interest rate, the bonds will be issued:

A) at a price less than the face value.

B) at a price greater than the face value.

C) at a price equal to the face value.

D) at a price greater than the spread.

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 8 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

134) Which of the following statements is not true about the general ledger account — discount on bond payable?

A) It arises when bonds are issued at prices less than their face values.

B) It carries a debit balance and serves as a contra-liability on the balance sheet.

C) Its presence indicates that the interest cost on the bond is greater than stated interest rate.

D) Amortizing the discount decreases the interest expense recognized on the income statement.

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 9 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

135) If the market value of outstanding bonds is above the balance sheet value of the bonds:

A) market rates have dropped below the bond's historical effective interest rate.

B) redeeming the bonds would lead to a gain on the income statement.

C) the risk-free rate must have increased since the bonds were initially issued.

D) the risk-premium must have increased since the bonds were initially issued.

Diff: Hard

Learning Objective: 11.3

Bloom's: Analysis

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond liabilities - General Motors Video: Question 10 / Video: Bond liabilities - General Motors. www.wiley.com/go/pratt/financialaccounting11e

136) Cash flows associated with the purchase and sale of bonds are included in which section of the statement of cash flows?

A) Operating section

B) Investing section

C) Financing section

D) They are not included on the statement of cash flows, but they are included in the cash account on the balance sheet.

Diff: Medium

Learning Objective: 11B

Bloom's: Comprehension

AACSB/AICPA: None / FC: Disclosure Question

Title/Media Ref.: Bond Investments — Amazon Video: Question 1 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

137) When market interest rates increase, other factors equal, bond prices:

A) increase.

B) decrease.

C) are unaffected.

D) The movement of bond prices cannot be determined from the information given.

Diff: Medium

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / None

Title/Media Ref.: Bond Investments — Amazon Video: Question 2 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

138) When a bond is purchased for a price that is above the face value, other factors equal:

A) the effective rate of interest on the bond is equal to the stated rate of interest on the bond.

B) the face value of the bond is greater than $1,000.

C) the market risk-free interest rate must have increased.

D) the effective rate of interest on the bond is less than the stated rate of interest on the bond.

Diff: Hard

Learning Objective: 11B

Bloom's: Analysis

AACSB/AICPA: Analytic / None

Title/Media Ref.: Bond Investments — Amazon Video: Question 3 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

139) Under the effective interest method of accounting for bond investments:

A) interest income for a given year is equal to the effective rate of interest times the balance sheet value of the bond investment at the beginning of that year.

B) interest income for a given year is equal to the effective rate of interest times the balance sheet value of the bond investment at the end of that year.

C) the balance sheet value of the bond will equal the market value of the bond over the bond's life.

D) the amortized cost of the bond will equal the market value of the bond over its life.

Diff: Hard

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond Investments — Amazon Video: Question 4 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

140) Which of the following statements is not true?

A) The effective interest method ensures that the balance sheet value of a bond investment is equal to the present value of the bond's future cash flows discounted at the effective interest rate.

B) The internal rate of return on a bond investment is equal to its effective interest rate.

C) The manner in which changes in bond market values are accounted for depends upon what management intends to do with the bond investment.

D) Cash interest payments on a bond investment are computed by multiplying the face value of the bond times the effective interest rate of the bond.

Diff: Hard

Learning Objective: 11B

Bloom's: Comprehension

AACSB/AICPA: Knowledge / None

Title/Media Ref.: Bond Investments — Amazon Video: Question 5 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

141) Under which of the following bond classifications is the bond investment on the balance sheet equal to its amortized cost?

A) Held-to-maturity

B) Trading securities

C) Available-for-sale securities

D) Secured bond securities

Diff: Hard

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: None / FC: Measurement

Title/Media Ref.: Bond Investments — Amazon Video: Question 6 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

142) If a bond with a balance sheet value of $500 is sold for $600:

A) an unrealized gain is recognized.

B) a realized gain is recognized.

C) an unrealized loss is recognized.

D) a realized loss is recognized.

Diff: Medium

Learning Objective: 11B

Bloom's: Application

AACSB/AICPA: None / FC: Measurement

Title/Media Ref.: Bond Investments — Amazon Video: Question 7 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

143) Unrealized market value decreases on bond investments that are part of a trading portfolio are:

A) not recognized on the financial statements.

B) reflected on the income statement only.

C) reflected on both the balance sheet and the income statement.

D) reflected on the balance sheet only.

Diff: Medium

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: None / FC: Disclosure Question

Title/Media Ref.: Bond Investments — Amazon Video: Question 8 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

144) Unrealized market value increases on bond investments that are classified as available-for-sale are:

A) not recognized on the financial statements.

B) reflected on the income statement only.

C) reflected on both the balance sheet and the income statement.

D) reflected on the balance sheet only.

Diff: Medium

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: None / FC: Disclosure Question

Title/Media Ref.: Bond Investments — Amazon Video: Question 9 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

145) The "accumulated other comprehensive income/loss" account is:

A) located in the shareholders' equity section of the balance sheet.

B) located on the income statement.

C) located in the current asset section of the balance sheet.

D) part of contributed capital on the balance sheet.

Diff: Easy

Learning Objective: 11B

Bloom's: Knowledge

AACSB/AICPA: None / FC: Disclosure Question

Title/Media Ref.: Bond Investments — Amazon Video: Question 10 / Video: Bond Investments — Amazon. www.wiley.com/go/pratt/financialaccounting11e

© 2021 John Wiley & Sons, Inc. All rights reserved. Instructors who are authorized users of this course are permitted to download these materials and use them in connection with the course. Except as permitted herein or by law, no part of these materials should be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording or otherwise.

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Chapter 11 Long-Term Liabilities: Notes, Bonds, and Leases

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Pratt Peters

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Chapter 9 Long-Lived Assets

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