CFA Level 1 - Financial Reporting and Analysis Session 9 - Reading 32

University:
CFA Institute
Course:
CFA Program Level 2 | Financial Reporting and Analysis
Academic year:

2023
Views:

21

Pages:

6
Author:

anon

CFA Level 1 - Financial Reporting and Analysis Session 9 - Reading 32 (Notes, Practice Questions, Sample Questions) 1.1 A company issued an annual-pay bond with the following characteristics: Face value $67,831 Maturity 4 years Coupon 7% Market interest rates 8% What is the unamortized discount on the date when the bonds are issued? A)$2,249. B)$15,729. C)$1,748. The unamortized discount at the time bonds are issued will be $2,249. Face value of bonds = $67,831 Proceeds from bond sale = $65,582 [I/Y = 8.00%; N = 4; PMT = $4,748.17 ($67,831 × 0.07); FV = $67,831; CPT → PV] Unamortized discount = $2,249 ($67,831 − $65,582) 1.2 What is the unamortized discount at the end of the first year? A)$538. B)$1,750. C)$1,209. The unamortized discount will decrease by $499 at the end of first year and will be $1,750. Interest expense = $5,247 ($65,582 × 0.08) Coupon payment = $4,748 ($67,831 × 0.07) Change in discount = $499 ($5,247 − $4,748) Discount at the end of first year = $1,750 ($2,249 − $499) 2. Assuming all else equal, if the coupon rate offered on a bond is less than the corresponding market rate of interest, the bond will be issued at: A)a premium. B)a discount. C)par. If the coupon rate is less than the market rate, the bond must be sold at a discount so the effective rate on the bond equals the market rate 3. Proceeds from issuing a bond are recorded on the statement of cash flows as an inflow from: A)investing (CFI). B)financing (CFF). C)operations (CFO). Cash from financing (CFF) is increased by the amount of the proceeds. 4. Over time, the reported amount of the annual interest expense on a long-term bond issued at a discount will: A)increase. B)remain constant. C)decrease. A portion of the discount must be amortized to the interest expense each year. The amortized amount is debited to interest expense and credited to debt. So debt goes up. The interest expense is debt times the effective interest rate. Thus, interest expense will increase over time 5. At the date of issuance the market interest rate was above the coupon rate. Bonds of this nature would sell for: A)par. B)discount. C)premium. When the contract rate on a bond is lower than the market rate, a bond will sell for a discount 6. A firm issues a $5 million zero coupon bond with a maturity of four years when market rates are 8%. Assume semi-annual compounding. What is the firm's initial liability and the value of the liability in six months? Initial Liability Liability in 6 months A) $3,675,149 $3,675,149 B) $5,000,000 $5,000,000 C) $3,653,451 $3,799,589 The initial liability is: N = 8, I/Y = 4%, PMT = 0, FV = $5,000,000, Compute PV = -$3,653,451. The value of the liability 6 months is: [$3,653,451 + {0.04($3,653,451)}] = $3,799,589 7. The asset or liability reported on the balance sheet for a defined benefit plan is equal to the plan’s funded status under: A)Both IFRS and U.S. GAAP. B)U.S. GAAP, but not IFRS. C)Neither IFRS nor U.S. GAAP. Under U.S. GAAP, the asset presented for an overfunded plan or liability presented for an underfunded plan is the plan’s funded status. Under IFRS, the asset or liability presented does not include unrecognized prior service costs or unrecognized actuarial gains and losses 8. A firm is more solvent if it has: A)low leverage and coverage ratios. B)low leverage ratios and high coverage ratios. C)high leverage and coverage ratios Low leverage ratios suggest the firm has relatively little debt compared to its equity and assets. High coverage ratios suggest the firm generates enough earnings to meet its interest payments 9. Other things equal, and ignoring issuance costs, a firm that raises cash by issuing a new bond is most likely to: A)increase its leverage ratios and increase its coverage ratios. B)decrease its leverage ratios and increase its coverage ratios. C)increase its leverage ratios and decrease its coverage ratios Leverage ratios will increase because debt increases while equity remains unchanged, and (assuming equity is positive) debt increases proportionally by more than assets. Coverage ratios decrease because interest payments increase while EBIT is unchanged