Financial Accounting: In an Economic Context

ISSUES FOR DISCUSSION

REAL DATA

ID11-1

Repurchasing outstanding debt

Sun Company, an oil-refining concern, purchased all of its outstanding 8.5 percent (stated rate) debentures as part of a restructuring plan. The balance sheet value of each outstanding debenture at the time of the repurchase was $875, and the company paid $957.50 for each $1,000 face value bond.

REQUIRED:

a. What is a debenture? Would such bonds tend to be issued at higher or lower prices than secured bonds? Why?

b. Briefly discuss why a company would repurchase its outstanding debt.

c. Explain how this repurchase would affect (increase, decrease, or have no effect on) the components of the accounting equation: assets, liabilities, shareholders' equity. Would a gain or loss be recognized on the transaction?

d. Would the gain or loss be recognized if Sun Company had not repurchased the bonds? Why or why not?

REAL DATA

ID11-2

Bonds with a stated interest rate of zero

Several years ago, JCPenney Company issued bonds for 33.24 (percent of face value), with a face value of $200 million and a stated interest rate of zero, which matured eight years later. That same year, Martin Marietta, Northwest Industries, and Alcoa also issued bonds with stated interest rates of zero.

REQUIRED:

a. Why would an investor purchase a bond with a stated interest rate of zero?

b. Compute the effective interest rate on the bond issuance.

c. In terms of its cash flows, explain why a company might wish to issue bonds with a stated interest ...