ACCT 209 1nd Edition Lecture 12 Outline of Last Lecture I Long lived assets a Acquisition I Example b Use over multiple years I Methods II Example II Disposal a Example III Natural resources a Example IV Intangible assets V Current Liabilities Overview VI Short Term notes payable a Examples VII Discounted Notes Payable VIII Commitments IX Contingent Liabilities a Example X Quick Ratio XI Compound Interest XII Compound interest and present value of an annuity XIII Debt financing Vs Equity financing Borrowing Vs Ownership a Example XIV Bonds a Example XV Pricing Bonds Payable a Example b Second Example Outline of Current Lecture c Example continued XVI Retirement of bonds XVII Other long term liabilities I Comparison of organizations II Bonds compared to capital stock These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute III IV V Stock Terms Stock Holder rights Issuing stock a Example Current Lecture Compound Interest and Long term Liabilities continued Example 7 b What is the total amount of cash that must be repaid over the life of the bonds Given that total interest is the difference between the amount borrowed and the amount repaid how much interest expense should Longhorn report over the life of the bond issue At the carrying value Face Value Discount Price 100 000 6 463 93 537 c How much cash interest will the corporation pay each 6 months Increases total expense Example 8 BONDS ISSUED AT A PREMIUM On January 2 2010 Longhorn Company issued 5 year 250 000 bonds with a stated rate of 8 The bonds pay interest annually on December 31 At the time of the issue the market rate of interest was 6 Longhorn Company uses the effective interest method to amortize any premium or discount a What is the selling price of the bonds Interest payments 250 000 0 08 1 20 000 N 5 I 6 PV of promises 20 000 PVOA factor 250 000 PV factor 271 062 RETIREMENT OF BONDS If callable Issuer pays call price Compare CV to cash paid Record at gain or loss If not callable Purchase on bond market Would want to do this if rates go down Note No calculations for this Just know concept Other long term liabilities Pensions and post retirement benefits Defined Benefit plan When retire pay x amount for rest of life v s defined contribution plan matches contribution up to certain Note most companies are using defined contribution plan b c with the other plan the company does not know the total amount they will have to pay Don t know how long you will live Capital leases vs operating leases There are 4 conditions Not given If you met any of them you are in effect buying it so you must record a capital lease Must record as an increase in asset and an increase in liabilities This is expensed as incurred Chapter 11 CORPORATIONS COMPARISON OF BUSINESS ORGANIZATIONS SOLE PROPRIETORSHIP PARTNERNSHIP CORPORATION Formation Easy to establish Easy written contract not required but HIGHLY RECOMMENDED Must meet state requirements to obtain corporate charter Separation of ownership and entity Separate accounting entity only Separate accounting entity only Separate entity for legal tax and accounting purposes Liability of owners Unlimited liability for the debts of the business Unlimited liability for the debts of the business mutual agency Liability limited to investment in stock Ease of raising additional capital May be difficult based on resources of owner May be difficult based on resources of partners Ability to issue bonds or stock BONDS COMPARED TO CAPITAL STOCK BONDS STOCK Bondholders are creditors Stockholders are owners Bondholders do not have voting rights Stockholders have voting rights Some classes of stock may have voting rights withheld Bondholders have a primary claim at liquidation Stockholders have a residual claim at liquidation Get what is left over Interest is typically fixed and it must be paid Dividends are not fixed and are paid only if income is sufficient and dividends are declared by the board of directors Don t have to pay Interest is an expense on the income statement that is it reduces taxable income Dividends are not expenses they are distributions of profit to the owners That is they are not included on the income statement and do not reduce taxable income Called Double taxation FORMING A CORPORATION File articles of incorporation with state more than 1 2 of US corporations in Delaware When articles approved hold meeting to approve by laws and elect directors Issue stock Stock terms Common stock type of capital stock issued by every corporation All Companies have stock These are the four types of stock Authorized shares maximum number of shares that a corporation can issue based on articles of incorporation approved by state government Issued shares number of shares that have been sold to stockholders Outstanding shares number of shares of stock that are currently held by public shares issued less treasury shares Treasury stock issued shares of a corporation s own stock that the corporation has bought back and not retired shown as a reduction of total stockholders equity Total shares issued outstanding treasury shares Par value arbitrary amount assigned to share of stock generally represents required legal capital Preferred stock capital stock that has one or more preferences advantage over common usually preferred as to dividends preferred stockholders receive dividends before common Cumulative unpaid dividends from prior years accumulate must be paid in full before common stockholders can receive dividend Callable issuing corporation can call or buy back issued shares at predetermined price Convertible stockholders have the right to exchange preferred shares for a specified number of the corporation s common shares Stockholders Rights stockholders generally have four basic rights unless specifically withheld 1 voting right 1 share 1 vote 2 dividend right If dividends are declared you have a right to a share 3 liquidation right You have the right to share in assets remaining if liquidation 4 preemptive right often withheld in new stock issues Protects owners from dilution of ownership when new shares are declared Have the right to BUY of the new shares ISSUING STOCK Example 1 Stock issues Lockhart Company is authorized to issue 100 000 shares of 1 par value stock The company began operating on January 2 Year 1 when owners invested 10 000 in exchange for 10 000 shares of the company s stock The grid below