Chapter 14: Long-Term Liabilities MC questions

17. All of the following statements are true regarding IFRS treatment of reporting and recognition of long term liabilities except: (a)IFRS allows use of straight-line amortization of discounts and premiums. (b)liabilities are classified as current and non-current. (c)the use of effective interest amortization. (d)bond issue costs are netted against the carrying amount of the bonds

(a)IFRS allows use of straight-line amortization of discounts and premiums. IFRS requires use of effective interest amortization. Under GAAP, companies are permitted to use the straight-line method of amortization for bond discount or premium, provided that the amount recorded is not materially different than that resulting from effective-interest amortization.

16. On January 1, 2017, Trinity Company loaned $901,560 to Litton Industries in exchange for a 3 year, zero-interest-bearing note with a face amount, $1,200,000. The prevailing rate of interest for a loan of this type is 10%. The adjusting journal entry made by Litton at December 31, 2017 with regard to the note will include (LO 3) (a)a credit to Discount on Notes Payable for $90,156. (b)a debit to Interest Expense for $120,000. (c)a credit to Interest Payable for $60,000. (d)a debit to Interest Expense for $29,850.

(a)a credit to Discount on Notes Payable for $90,156. The adjusting entry made at December 31, 2017 debits Interest Expense and credits Discount on Notes Payable for ($901,560 × 0.10) = $90,156.

1. The covenants and other terms of the agreement between the issuer of bonds and the lender are set forth in the (a)bond indenture. (b)bond debenture. (c)registered bond. (d)bond coupon.

(a)bond indenture. The covenants and other terms of the agreement between the issuer of bonds and the lender are set forth in the bond indenture.

10. If bonds are initially sold at a discount and the straight-line method of amortization is used, interest expense in the earlier years will (a)exceed what it would have been had the effective-interest method of amortization been used. (b)be less than what it would have been had the effective-interest method of amortization been used. (c)be the same as what it would have been had the effective-interest method of amortization been used. (d)be less than the stated (nominal) rate of interest.

(a)exceed what it would have been had the effective-interest method of amortization been used. If bonds are initially sold at a discount and the straight-line method of amortization is used, interest expense in the earlier years will exceed what it would have been had the effective-interest method of amortization been used.

13. On January 1, 2017, Kimbrough Inc. issued $5,000,000, 9% bonds for $4,695,000. The market rate of interest for these bonds is 10%. Interest is payable annually on December 31. Kimbrough uses the effective-interest method of amortizing bond discount. At December 31, 2017, Kimbrough should report unamortized bond discount of (LO 1) (a)$274,500. (b)$285,500. (c)$258,050. (d)$255,000.

(b)$285,500. The discount on bonds payable is recorded at ($5,000,000 − $4,695,000) = $305,000 at issuance. The amortization of discount in 2017 is [$450,000 − ($4,695,000 × 0.10)] =$19,500 leaving a balance of $305,000 − $19,500 = $285,500.

15. On June 30, 2017, Prouty Co. had outstanding 9%, $5,000,000 face amount, 10-year bonds that pay interest semi-annually on June 30 and December 31. The unamortized balances in the bond discount and deferred bond issue costs accounts on June 30, 2017 were $200,000 and $50,000, respectively. On June 30, 2017, Prouty acquired all of these bonds at 101 and retired them. What amount of gain or loss would Prouty record on this early extinguishment of debt? (a)$505,000 gain. (b)$300,000 loss. (c)$200,000 gain. (d)$250,000 loss.

(b)$300,000 loss. The bonds' net carrying amount is ($5,000,000 − $200,000 − $50,000) = $4,750,000. The loss on extinguishment is ($5,000,000 × 1.01) − $4,750,000 = $300,000.

11. Ferrone Company issues $10,000,000, 7.8%, 20-year bonds to yield 8% on January 1, 2017. Interest is paid on June 30 and December 31. The proceeds from the bonds are $9,802,072. Ferrone uses effective-interest amortization. What amount of interest expense will Ferrone record for the June 30 payment? (a)$390,000 (b)$392,083 (c)$400,000 (d)$784,164

(b)$392,083 Interest expense for the first six months is ($9,802,072 × 0.04) =$392,083.

6. On January 1, Gasperson Inc. issued $100,000,000, 7% bonds at 102. The journal entry to record the issuance of the bonds will include (LO 1) (a)a credit to Bonds Payable for $102,000,000. (b)a credit to Premium on Bonds Payable for $2,000,000. (c)a debit to Cash for $100,000,000. (d)a credit to Interest Expense for $2,000,000.

(b)a credit to Premium on Bonds Payable for $2,000,000. The entry will credit Bonds Payable for $100,000,000 and Premium on Bonds Payable for $2,000,000.

2. A bond for which the issuer has the right to call and retire the bonds prior to maturity is a (a)convertible bond. (b)callable bond. (c)retirable bond. (d)debenture bond.

(b)callable bond. Callable bonds give the issuer the right to call and retire the bonds prior to maturity.

3. A bond that matures in installments is called a: (a)term bond. (b)serial bond. (c)callable bond. (d)bearer bond.

(b)serial bond. Bonds that mature in installments are referred to as serial bonds.

12. Pontchartrain Company issues $20,000,000, 7.8%, 20-year bonds to yield 8% on January 1, 2017. Interest is paid on June 30 and December 31. The proceeds from the bonds are $19,604,145. The company uses effective-interest amortization. Interest expense reported on the 2017 income statement will total (a)$1,529,115 (b)$1,560,000 (c)$1,568,498 (d)$1,600,000

(c)$1,568,498 Interest expense for the first 6 month period is ($19,604,145 × 0.04) =$784,166. The new carrying value for the bonds is [$19,604,145 + ($784,166 − $780,000)] = $19,608,311. Interest expense for the second six months is ($19,608,311 × 0.04) = $784,332. Total interest expense for 2017 is ($784,166 + $784,332) = $1,568,498.

14. On June 30, 2017, Baker Co. had outstanding 8%, $6,000,000 face amount, 15-year bonds maturing on June 30, 2024. Interest is payable on June 30 and December 31. The unamortized balances in the bond discount and deferred bond issue costs accounts on June 30, 2017 were $210,000 and $60,000, respectively. On June 30, 2017, Baker acquired all of these bonds at 94 and retired them. What net carrying amount should be used in computing gain or loss on this early extinguishment of debt? (a)$5,940,000. (b)$5,790,000. (c)$5,730,000. (d)$5,640,000.

(c)$5,730,000. The bonds' net carrying amount used to calculate the gain or loss on extinguishment is ($6,000,000 − $210,000 − $60,000) = $5,730,000.

4. The printing costs and legal fees associated with the issuance of bonds should (a)be expensed when incurred. (b)be reported as a deduction from the face amount of bonds payable. (c)be accumulated in a deferred charge account and not affect effective interest amortization. (d)not be reported as an expense until the period the bonds mature or are retired.

(c)be accumulated in a deferred charge account and not affect effective interest amortization. The printing costs and legal fees associated with the issuance of bonds should be recorded as part of the carrying value of the bonds amortized over the life of the bonds.

7. If a bond sold at 97, the market rate was: (a)equal to the stated rate. (b)less than the stated rate. (c)greater than the stated rate. (d)equal to the coupon rate.

(c)greater than the stated rate. If a bond was sold at 97, it sold at a discount (97% of face value), which occurs when the market rate is greater than the stated rate.

8. When a bond sells at a premium, interest expense will be: (a)equal to the bond interest payment. (b)greater than the bond interest payment. (c)less than the bond interest payment. (d)None of these answer choices are correct.

(c)less than the bond interest payment. Selling a bond at a premium results in interest expense being less than the interest payment because of the amortized premium.

18. Which of the following is not an example of "off-balance-sheet financing"? (a)Non-consolidated subsidiary. (b)Special purpose entity. (c)Operating leases. (d)Capital leases.

(d)Capital leases. Capital leases are not an example of "off-balance-sheet financing."

9. Under the effective interest method, interest expense: (a)always increases each period the bonds are outstanding. (b)always decreases each period the bonds are outstanding. (c)is the same annual amount as straight-line interest expense. (d)is the same total amount as straight-line interest expense over the term of the bonds.

(d)is the same total amount as straight-line interest expense over the term of the bonds. Interest expense is the same total amount over the term of the bonds in both the effective interest and straight-line methods.

5. The selling price of a bond is the sum of the present values of the principal and the periodic interest payments. The present values are determined by discounting using the (LO 1) (a)stated rate. (b)nominal rate. (c)coupon rate. (d)market rate.

(d)market rate. The market rate is used to discount the cash flows in determining the selling price (proceeds) of a bond.

19. Note disclosures for long-term debt generally include all of the following except (a)assets pledged as security. (b)call provisions and conversion privileges. (c)restrictions imposed by the creditor. (d)names of specific creditors.

(d)names of specific creditors. Note disclosures for long-term debt generally do not include the names of specific creditors.

24. Bonds for which the owners' names are not registered with the issuing corporation are called a. bearer bonds. b. term bonds. c. debenture bonds. d. secured bonds.

a. bearer bonds.

22. The covenants and other terms of the agreement between the issuer of bonds and the lender are set forth in the a. bond indenture. b. bond debenture. c. registered bond. d. bond coupon.

a. bond indenture.

21. An example of an item which is not a liability is a. dividends payable in stock. b. advances from customers on contracts. c. accrued estimated warranty costs. d. the portion of long-term debt due within one year.

a. dividends payable in stock.

32. If bonds are initially sold at a discount and the straight-line method of amortization is used, interest expense in the earlier years will a. exceed what it would have been had the effective-interest method of amortization been used. b. be less than what it would have been had the effective-interest method of amortization been used. c. be the same as what it would have been had the effective-interest method of amortiza-tion been used. d. be less than the stated (nominal) rate of interest.

a. exceed what it would have been had the effective-interest method of amortization been used.

26. If bonds are issued initially at a premium and the effective-interest method of amortization is used, interest expense in the earlier years will be a. greater than if the straight-line method were used. b. greater than the amount of the interest payments. c the same as if the straight-line method were used. d. less than if the straight-line method were used.

a. greater than if the straight-line method were used.

44. A debt instrument with no ready market is exchanged for property whose fair market value is currently indeterminable. When such a transaction takes place a. the present value of the debt instrument must be approximated using an imputed interest rate. b. it should not be recorded on the books of either party until the fair market value of the property becomes evident. c. the board of directors of the entity receiving the property should estimate a value for the property that will serve as a basis for the transaction. d. the directors of both entities involved in the transaction should negotiate a value to be assigned to the property.

a. the present value of the debt instrument must be approximated using an imputed interest rate.

35. If bonds are issued between interest dates, the entry on the books of the issuing corporation could include a a. debit to Interest Payable. b. credit to Interest Receivable. c. credit to Interest Expense. d. credit to Unearned Interest.

c. credit to Interest Expense.

39. Treasury bonds should be shown on the balance sheet as a. an asset. b. a deduction from bonds payable issued to arrive at net bonds payable and outstanding. c. a reduction of stockholders' equity. d. both an asset and a liability.

b. a deduction from bonds payable issued to arrive at net bonds payable and outstanding.

57. In a troubled debt restructuring in which the debt is settled by a transfer of assets with a fair market value less than the carrying amount of the debt, the debtor would recognize a. no gain or loss on the settlement. b. a gain on the settlement. c. a loss on the settlement. d. none of these.

b. a gain on the settlement.

58. In a troubled debt restructuring in which the debt is continued with modified terms, a gain should be recognized at the date of restructure, but no interest expense should be recognized over the remaining life of the debt, whenever the a. carrying amount of the pre-restructure debt is less than the total future cash flows. b. carrying amount of the pre-restructure debt is greater than the total future cash flows. c. present value of the pre-restructure debt is less than the present value of the future cash flows. d. present value of the pre-restructure debt is greater than the present value of the future cash flows.

b. carrying amount of the pre-restructure debt is greater than the total futu

23. The term used for bonds that are unsecured as to principal is a. junk bonds. b. debenture bonds. c. indenture bonds. d. callable bonds.

b. debenture bonds.

31. Reich, Inc. issued bonds with a maturity amount of $200,000 and a maturity ten years from date of issue. If the bonds were issued at a premium, this indicates that a. the effective yield or market rate of interest exceeded the stated (nominal) rate. b. the nominal rate of interest exceeded the market rate. c. the market and nominal rates coincided. d. no necessary relationship exists between the two rates.

b. the nominal rate of interest exceeded the market rate.

43. A corporation borrowed money from a bank to build a building. The long-term note signed by the corporation is secured by a mortgage that pledges title to the building as security for the loan. The corporation is to pay the bank $80,000 each year for 10 years to repay the loan. Which of the following relationships can you expect to apply to the situation? a. The balance of mortgage payable at a given balance sheet date will be reported as a long-term liability. b. The balance of mortgage payable will remain a constant amount over the 10-year period. c. The amount of interest expense will decrease each period the loan is outstanding, while the portion of the annual payment applied to the loan principal will increase each period. d. The amount of interest expense will remain constant over the 10-year period.

c. The amount of interest expense will decrease each period the loan is outstanding, while the portion of the annual payment applied to the loan principal will increase each period.

42. "In-substance defeasance" is a term used to refer to an arrangement whereby a. a company gets another company to cover its payments due on long-term debt. b. a governmental unit issues debt instruments to corporations. c. a company provides for the future repayment of a long-term debt by placing purchased securities in an irrevocable trust. d. a company legally extinguishes debt before its due date.

c. a company provides for the future repayment of a long-term debt by placing purchased securities in an irrevocable trust.

55. In a troubled debt restructuring in which the debt is continued with modified terms and the carrying amount of the debt is less than the total future cash flows, a. a loss should be recognized by the debtor. b. a gain should be recognized by the debtor. c. a new effective-interest rate must be computed. d. no interest expense or revenue should be recognized in the future.

c. a new effective-interest rate must be computed.

38. The printing costs and legal fees associated with the issuance of bonds should a. be expensed when incurred. b. be reported as a deduction from the face amount of bonds payable. c. be accumulated in a deferred charge account and amortized over the life of the bonds. d. not be reported as an expense until the period the bonds mature or are retired.

c. be accumulated in a deferred charge account and amortized over the life of the bonds.

59. In a troubled debt restructuring in which the debt is continued with modified terms and the carrying amount of the debt is less than the total future cash flows, the creditor should a. compute a new effective-interest rate. b. not recognize a loss. c. calculate its loss using the historical effective rate of the loan. d. calculate its loss using the current effective rate of the loan.

c. calculate its loss using the historical effective rate of the loan.

49. When a business enterprise enters into what is referred to as off-balance-sheet financing, the company a. is attempting to conceal the debt from shareholders by having no information about the debt included in the balance sheet. b. wishes to confine all information related to the debt to the income statement and the statement of cash flow. c. can enhance the quality of its financial position and perhaps permit credit to be obtained more readily and at less cost. d. is in violation of generally accepted accounting principles

c. can enhance the quality of its financial position and perhaps permit credit to be obtained more readily and at less cost.

53. The times interest earned ratio is computed by dividing a. net income by interest expense. b. income before taxes by interest expense. c. income before income taxes and interest expense by interest expense. d. net income and interest expense by interest expense.

c. income before income taxes and interest expense by interest expense.

54. The debt to total assets ratio is computed by dividing a. current liabilities by total assets. b. long-term liabilities by total assets. c. total liabilities by total assets. d. total assets by total liabilities.

c. total liabilities by total assets.

47. Discount on Notes Payable is charged to interest expense a. equally over the life of the note. b. only in the year the note is issued. c. using the effective-interest method. d. only in the year the note matures.

c. using the effective-interest method.

Use the following information for questions 29 and 30: Fox Co. issued $100,000 of ten-year, 10% bonds that pay interest semiannually. The bonds are sold to yield 8%. 29. One step in calculating the issue price of the bonds is to multiply the principal by the table value for a. 10 periods and 10% from the present value of 1 table. b. 20 periods and 5% from the present value of 1 table. c. 10 periods and 8% from the present value of 1 table. d. 20 periods and 4% from the present value of 1 table.

d. 20 periods and 4% from the present value of 1 table.

48. Which of the following is an example of "off-balance-sheet financing"? 1. Non-consolidated subsidiary. 2. Special purpose entity. 3. Operating leases. a. 1 b. 2 c. 3 d. All of these are examples of "off-balance-sheet financing."

d. All of these are examples of "off-balance-sheet financing."

51. Which of the following must be disclosed relative to long-term debt maturities and sinking fund requirements? a. The present value of future payments for sinking fund requirements and long-term debt maturities during each of the next five years. b. The present value of scheduled interest payments on long-term debt during each of the next five years. c. The amount of scheduled interest payments on long-term debt during each of the next five years. d. The amount of future payments for sinking fund requirements and long-term debt maturities during each of the next five years.

d. The amount of future payments for sinking fund requirements and long-term debt maturities during each of the next five years.

41. The generally accepted method of accounting for gains or losses from the early extinguishment of debt treats any gain or loss as a. an adjustment to the cost basis of the asset obtained by the debt issue. b. an amount that should be considered a cash adjustment to the cost of any other debt issued over the remaining life of the old debt instrument. c. an amount received or paid to obtain a new debt instrument and, as such, should be amortized over the life of the new debt. d. a difference between the reacquisition price and the net carrying amount of the debt which should be recognized in the period of redemption.

d. a difference between the reacquisition price and the net carrying amount of the debt which should be recognized in the period of redemption.

40. An early extinguishment of bonds payable, which were originally issued at a premium, is made by purchase of the bonds between interest dates. At the time of reacquisition a. any costs of issuing the bonds must be amortized up to the purchase date. b. the premium must be amortized up to the purchase date. c. interest must be accrued from the last interest date to the purchase date. d. all of these.

d. all of these.

37. Theoretically, the costs of issuing bonds could be a. expensed when incurred. b. reported as a reduction of the bond liability. c. debited to a deferred charge account and amortized over the life of the bonds. d. any of these.

d. any of these.

45. When a note payable is issued for property, goods, or services, the present value of the note is measured by a. the fair value of the property, goods, or services. b. the market value of the note. c. using an imputed interest rate to discount all future payments on the note. d. any of these.

d. any of these.

46. When a note payable is exchanged for property, goods, or services, the stated interest rate is presumed to be fair unless a. no interest rate is stated. b. the stated interest rate is unreasonable. c. the stated face amount of the note is materially different from the current cash sales price for similar items or from current market value of the note. d. any of these.

d. any of these.

50. Long-term debt that matures within one year and is to be converted into stock should be reported a. as a current liability. b. in a special section between liabilities and stockholders' equity. c. as noncurrent. d. as noncurrent and accompanied with a note explaining the method to be used in its liquidation.

d. as noncurrent and accompanied with a note explaining the method to be used in its liquidation.

27. The interest rate written in the terms of the bond indenture is known as the a. coupon rate. b. nominal rate. c. stated rate. d. coupon rate, nominal rate, or stated rate.

d. coupon rate, nominal rate, or stated rate.

28. The rate of interest actually earned by bondholders is called the a. stated rate. b. yield rate. c. effective rate. d. effective, yield, or market rate.

d. effective, yield, or market rate.

56. A troubled debt restructuring will generally result in a a. loss by the debtor and a gain by the creditor. b. loss by both the debtor and the creditor. c. gain by both the debtor and the creditor. d. gain by the debtor and a loss by the creditor.

d. gain by the debtor and a loss by the creditor.

25. Bonds that pay no interest unless the issuing company is profitable are called a. collateral trust bonds. b. debenture bonds. c. revenue bonds. d. income bonds.

d. income bonds.

34. When the effective-interest method is used to amortize bond premium or discount, the periodic amortization will a. increase if the bonds were issued at a discount. b. decrease if the bonds were issued at a premium. c. increase if the bonds were issued at a premium. d. increase if the bonds were issued at either a discount or a premium.

d. increase if the bonds were issued at either a discount or a premium.

36. When the interest payment dates of a bond are May 1 and November 1, and a bond issue is sold on June 1, the amount of cash received by the issuer will be a. decreased by accrued interest from June 1 to November 1. b. decreased by accrued interest from May 1 to June 1. c. increased by accrued interest from June 1 to November 1. d. increased by accrued interest from May 1 to June 1.

d. increased by accrued interest from May 1 to June 1.

52. Note disclosures for long-term debt generally include all of the following except a. assets pledged as security. b. call provisions and conversion privileges. c. restrictions imposed by the creditor. d. names of specific creditors.

d. names of specific creditors.

Use the following information for questions 29 and 30: Fox Co. issued $100,000 of ten-year, 10% bonds that pay interest semiannually. The bonds are sold to yield 8%. 30. Another step in calculating the issue price of the bonds is to a. multiply $10,000 by the table value for 10 periods and 10% from the present value of an annuity table. b. multiply $10,000 by the table value for 20 periods and 5% from the present value of an annuity table. c. multiply $10,000 by the table value for 20 periods and 4% from the present value of an annuity table. d. none of these.

d. none of these. 30. multiply $5,000 by the table value for 20 periods and 4% from the present value of an annuity table.

33. Under the effective-interest method of bond discount or premium amortization, the periodic interest expense is equal to a. the stated (nominal) rate of interest multiplied by the face value of the bonds. b. the market rate of interest multiplied by the face value of the bonds. c. the stated rate multiplied by the beginning-of-period carrying amount of the bonds. d. the market rate multiplied by the beginning-of-period carrying amount of the bonds.

d. the market rate multiplied by the beginning-of-period carrying amount of the bonds.