I got a question while doing one of the Mock tests about bonds being reported on the balance sheet based on:
A)Amortized value
B)Historical value
C)Fair Value
I believe it could be any of the above.
How to tackle such questions?
What is the answer? I believe i would’ve selected A. If it is at premium/discount, it is straightforward. If it is at par, it is still carrying value, except that there is no amortization to be made.
Are we talking about bonds that the company has issued, or bonds (of other companies/governments) in which the company has invested?
S2000, yes the issuer (borrower).
I believe for bonds that the company invested in should be reported at fair value or market value.
Gurifissu, i don’t know the answer, unfortunately the page displayed some errors while doing the mock, i couldn’t review my answers.
The issuer reports the bonds at amortized value: issue price with any premium or discount amortized over the life of the bonds.
(Technically, Bonds Payable is recorded at par value, with the premium or discount recorded in a separate account that’s amortized to zero. Net, however, it’s the amortized obligation.)
thanks for clarifying. but in my readings they say that IFRS and GAAP give firms the option to report at fair value.
That’s a recent change, but you’re correct: they can report bonds payable at fair market value.
Thanks
My pleasure.
Hi S2000magican,
I hate to start a separate thread so I thought I would just continue the conversation in here. Plus, I think my question is relevant to the topic of this thread. Anywho, I came across the following question that I would love to get your take on…
When a company has floating-rate debt, it periodically revalues its debt for changes in the market rate of interest.
True or False?
Interesting question.
Typically, companies show their debt at amortized historical cost: original issue cost with any discount or premium amortized over the life of the debt. However, both IFRS and US GAAP have a fair value option: companies can report their debt at fair value.
All of this is generally moot, however, for floating-rate debt as its fair value is generally par (or very close to par): it doesn’t really change all that much.
So . . . false.
Understood.
I guess I just don’t like the way the question is asked. It seems as though the concept being tested concerns the contrast between carrying value and fair value.
Whereas for someone who is very literal like myself, I think about how the the market rate of interest that the FRN is tied to will change. In other words, if the market interest rate was 3% when the company last reported, and the market interest rate is 4% when the company reports again, compared to the last period the new financial statement will reflect a different fair value amount for the floating-rate debt. Will it not?
As I said, it will be close to par: if the market rate is now 4%, the coupon will reset to 4% (or whatever the market rate is then) at the next coupon date. Even if rates change wildly between coupon dates, the only change is the change in the present value of the next coupon payment; the value of the bond will reset to par.