Asked by Michal Basovich on May 01, 2024
Verified
Eaton Company issued $5 million of bonds with a 10% coupon rate of interest. When Eaton issued the bonds,the market rate of interest was 11%.Which of the following statements is correct?
A) The bonds were issued at a premium.
B) Annual interest expense will exceed the company's actual cash payments for interest.
C) Annual interest expense will be $500,000.
D) The book value of the bond will decrease as the bond matures.
Market Rate
The interest rate available in the marketplace for similar transactions.
- Absorb the impact that issuing bonds at a premium or discount has on interest expense and the effective interest method's usage.
- Register and understand the bookkeeping entries for bond transactions and their impact on financial accounts.
Verified Answer
NH
Nathan HerreraMay 02, 2024
Final Answer :
B
Explanation :
When the market rate of interest is higher than the coupon rate, the bonds will be issued at a discount. This means that the actual cash payments for interest will be higher than the annual interest expense recorded in the company's books. Therefore, annual interest expense will be less than $500,000 and the book value of the bond will increase as the bond matures.
Learning Objectives
- Absorb the impact that issuing bonds at a premium or discount has on interest expense and the effective interest method's usage.
- Register and understand the bookkeeping entries for bond transactions and their impact on financial accounts.