Accounting Chapter 14 This Implies That An annuity Six 2000 Payments

Chapter 14 Long–Term Liabilities

MULTIPLE CHOICE QUESTIONS

1)

The legal contract between the issuing corporation and the bondholders is called the bond

indenture.

A)

True

B)

False

2)

One of the similarities of bond and equity financing is that both dividends and equity distribution

payments are tax deductible.

A)

True

B)

False

3)

Interest on bonds is tax deductible.

A)

True

B)

False

4)

The relationship between the market rate of a bond and the rate of return on the borrowed funds

affects the company’s return on equity.

A)

True

B)

False

5)

A disadvantage of bond financing over equity financing is the burden on the cash flows of the

company.

A)

True

B)

False

6)

Term bonds are scheduled for maturity on one specified date, whereas serial bonds mature at more

than one date.

A)

True

B)

False

7)

Debentures always have specific assets of the issuing company pledged as collateral.

A)

True

B)

False

8)

Indenture refers to a bond’s legal contract; debenture refers to an unsecured bond.

A)

True

B)

False

9)

Bond market values are expressed as a percent of their par (face) value.

A)

True

B)

False

10)

A bond with a par value of $1,000 trading at 101½ sells for a premium.

A)

True

B)

False

11)

A bond with a par value of $1,000 trading at 97½ sells for a premium.

A)

True

B)

False

12)

Callable bonds have an option exercisable by the issuer to retire them at a stated dollar amount

prior to maturity.

A)

True

B)

False

13)

Callable bonds can be exchanged for a fixed number of shares of the issuing corporation’s common

stock.

A)

True

B)

False

14)

A particular feature of callable bonds is that they reduce the bondholder’s risk by requiring the

issuer to create a sinking fund of assets set aside at specified amounts and dates to repay the bonds

at maturity.

A)

True

B)

False

15)

Issuers of coupon bonds are not allowed to deduct the interest expense on their tax returns.

A)

True

B)

False

16)

A bond’s par value is not necessarily the same as its market value.

A)

True

B)

False

17)

An installment note is an obligation of the issuing company that requires a series of periodic

payments to the lender.

A)

True

B)

False

18)

Payments on an installment note normally include the accrued interest expense plus a portion of the

amount borrowed.

A)

True

B)

False

19)

Bonds and long-term notes are similar in that they are typically transacted with multiple lenders.

A)

True

B)

False

20)

The carrying value of a long-term note is computed as the present value of all remaining future

payments, discounted using the market rate at the time of issuance.

A)

True

B)

False

21)

Mortgage contracts grant the lender the right to be paid from the cash proceeds of the sale of a

borrower’s assets identified in the mortgage if the borrower fails to make the required payments.

A)

True

B)

False

22)

Mortgage bonds are backed only by the good faith and credit of the issuing company.

A)

True

B)

False

23)

A basic present value concept is that cash paid or received in the future has less value now than the

same amount of cash today.

A)

True

B)

False

24)

A basic present value concept is that cash paid or received in the future has more value now than

the same amount of cash received today.

A)

True

B)

False

25)

Compounded means that interest during a second period is based on the total amount borrowed

plus the interest accrued in the first period.

A)

True

B)

False

26)

A company borrows $10,000 and issues a 5-year, 6% installment note with interest payable

annually. The factor for the present value of an annuity at 6% for 5 years is 4.2124. The factor for

the present value of a single sum at 6% for 5 years is 0.7473. The amount of the annual payment is

$2,373.94.

A)

True

B)

False

27)

A company borrows $40,000 and issues a 3-year, 10% installment note with interest payable

annually. The factor for the present value of an annuity at 10% for 3 years is 2.4869. The factor for

the present value of a single sum at 10% for 3 years is 0.7513. The amount of the annual payment

is $12,000.

A)

True

B)

False

28)

An annuity is a series of equal payments at equal time intervals.

A)

True

B)

False

29)

The present value of an annuity is equal to the sum of the individual future values for each

payment.

A)

True

B)

False

30)

The factor for the present value of an annuity at 8% for 10 years is 6.7101. This implies that an

annuity of ten $15,000 payments at 8% yields a present value of $2,235.

A)

True

B)

False

31)

The factor for the present value of an annuity for 6 years at 10% is 4.3553. This implies that an

annuity of six $2,000 payments at 10% is the equivalent of $8,710.60 today.

A)

True

B)

False

32)

A lease is a contractual agreement between a lessor and a lessee that grants the lessee the right to

use the asset for a period of time in return for cash payment(s) to the lessor.

A)

True

B)

False

33)

Operating leases are long-term or noncancelable leases in which the lessor transfers substantially

all the risks and rewards of ownership to the lessee.

A)

True

B)

False

34)

An advantage of lease financing is the lack of an immediate large cash payment for the leased

asset.

A)

True

B)

False

35)

A disadvantage of an operating lease is the inability to deduct rental payments in computing

taxable income.

A)

True

B)

False

36)

A pension plan is a contractual agreement between an employer and its employees to provide

benefits to employees after they retire.

A)

True

B)

False

37)

A bond is an issuer’s written promise to pay an amount identified as the par value of the bond along

with periodic interest payments. Normal 0 false false false EN–IN X-NONE X-NONE

A)

True

B)

False

38)

An advantage of bond financing is that issuing bonds does not affect owner control.

A)

True

B)

False

39)

Periodic interest payments on bonds are determined by multiplying the par value of the bond by the

contract rate.

A)

True

B)

False

40)

The contract rate of interest is the rate that borrowers are willing to pay and lenders are willing to

accept for a particular bond and its risk level.

A)

True

B)

False

41)

Return on equity increases when the expected rate of return from the acquired assets is higher than

the interest rate on the debt issued to finance the acquired assets.

A)

True

B)

False

42)

The use of debt financing ensures an increase in return on equity.

A)

True

B)

False

43)

Bond interest paid by a corporation is an expense, whereas dividends paid are not an expense of the

corporation.

A)

True

B)

False

44)

Collateral from unsecured loans may be sold to offset the loan obligation if the loan is in default.

A)

True

B)

False

45)

A company’s ability to issue unsecured debt depends on its credit standing.

A)

True

B)

False

46)

A lessee has substantially all of the benefits and risks of ownership in an operating lease.

A)

True

B)

False

47)

A company with a low level of liabilities in relation to stockholders’ equity is likely to have a very

high debt-to-equity ratio.

A)

True

B)

False

48)

The debt-to-equity ratio is calculated by dividing total stockholders’ equity by total liabilities.

A)

True

B)

False

49)

The debt-to-equity ratio enables financial statement users to assess the risk of a company’s

financing structure.

A)

True

B)

False

50)

A company has assets of $350,000 and total liabilities of $200,000. Its debt–to-equity ratio is 0.6.

A)

True

B)

False

51)

A company’s debt–to-equity ratio was 1.0 at the end of Year 1. By the end of Year 2, it had

increased to 1.7. Since the ratio increased from Year 1 to Year 2, the degree of risk in the firm’s

financing structure decreased during Year 2.

A)

True

B)

False

52)

The contract rate on previously issued bonds changes as the market rate of interest changes.

A)

True

B)

False

53)

The market rate for bonds is generally higher when the time period to maturity is longer due to the

risk of adverse events occurring over the time period.

A)

True

B)

False

54)

A 10-year bond issue with a $100,000 par value, 8% annual contract rate, with interest payable

semiannually means that the issuer must repay $100,000 at the end of 10 years and make 20

semiannual interest payments of $4,000 each.

A)

True

B)

False

55)

When the contract rate on a bond issue is less than the market rate, the bonds sell at a discount.

A)

True

B)

False

56)

When the contract rate is above the market rate, a bond sells at a discount.

A)

True

B)

False

57)

A discount on bonds payable occurs when a company issues bonds with an issue price less than par

value.

A)

True

B)

False

58)

The carrying (book) value of a bond at the time it is issued is always equal to its par value.

A)

True

B)

False

59)

The carrying (book) value of a bond payable is the par value of the bonds plus any discount or

minus any premium.

A)

True

B)

False

60)

On January 1, a company issued a $500,000, 10%, 8-year bond payable, and received proceeds of

$473,845. Interest is payable each June 30 and December 31. The total interest expense on the

bond over its eight-year life is $400,000.

A)

True

B)

False