Financial Accounting: In an Economic Context

ACCOUNTING FOR LONG-TERM NOTES PAYABLE

Issuing long-term notes is a popular way for major U.S. companies to raise cash. Both secured (backed by collateral) and unsecured notes are widely used. Accounting Trends and Techniques (AICPA, 2009) reported that, of the major U.S. companies surveyed, 74 percent disclosed unsecured notes and 13 percent disclosed notes backed by collateral.

The issuance of notes normally involves only one or a small group of lenders (usually financial institutions) and can take a number of different contractual forms. Interest-bearing, non-interest-bearing, and installment notes are all quite common, and they can be exchanged for cash and/or noncash items. A mortgage, for example, is a cash loan, exchanged for an installment note that is secured by real estate. Machinery and equipment purchases are often received in exchange for (financed with) installment notes. When a note payable is issued to satisfy another outstanding note payable, a refinancing has occurred.

The following example illustrates the methods used to account for a non-interest-bearing note exchanged for equipment (2B in Figure 11-2), which is almost identical to such a note being exchanged for cash (2A). Bonds are normally interest-bearing notes exchanged for cash, so the discussion of bonds later in the chapter will cover 3A in Figure 11-2. Capital leases are a form of financing the purchase of long-term assets with installment notes, so that discussion later in the chapter will cover 1B ...