Long Term Debt - bonds

Long Term Debt is legal obligation to pay principle & interest.

Advantage of debt:
· financial leverage
· tax deductibility of interest
· no voting control

Disadvantage of debt:
· legal commitment to pay interest and principle

Interest coverage rate = (Income before tax + interest expense ) / Interest expense

Bonds:
A company can issue debt securities to finance its operations. A bond is a promise, in most cases, to pay a predetermined annual or semiannual interest payment and to pay back the principal (face value) when the bond matures.

Most US bonds provide sem-annually payment whereas most international bond are with annual payments.

Terms for bonds
· principle value (aka par, principle, maturity/redemption value, face value)
· coupon rate
· secured (backed by legal claims to specific property) vs unsecured (backed by credit),
· Ownership(bearer vs registered)
· Term to maturity (term bond vs serial bond -the bonds in an issue mature at diff pts of time)

Bonds interest expense = book value x market interest rate at issuance, as a part of CFO. For interest received, as a part of CFF; matured bond repayment, as a part of CFF

Book value of bonds = PV x market interest rate at issuance

Bonds issued at premium (coupon > yield):
· Initial liabilities value > Par value.
· Interest expense < Coupon payments.
· (Coupon payments - Interest expense) = Bond premium amortized over the life of the bond.

Bonds issued at discount (coupon >
· Initial liabilities value < Par value.
· Interest expense > Coupon payments.
· (Interest expense - Coupon payments) = Bond discount amortized over the life of the bond.

Double entries for bonds

Purpose of amortizing
· If issurance at discount:
· increase book value of bonds over time
· coupon + amortized discount = interest expense