How to Value Bonds Payable - dummies

By Maire Loughran

A company can issue bonds either at face value (also known as par value), which is the principal amount printed on the bond; at a discount, which is less than face value; or at a premium, which means the bond sells for more than its face value. Usually face value is set in denominations of $1,000.

You need the present value tables to help in valuing bonds in the real world. Luckily for your intermediate accounting class, the discussion about bonds references the correct table but gives you the factor so you don’t have to do the heavy lifting yourself.

GAAP prefers the effective interest method when accounting for bonds issued at a discount or a premium. When using the effective interest method, you amortize using the carrying value of the bonds, which is face plus unamortized premium or minus unamortized discount.

GAAP allows the straight-line method if the result is materially the same: straight line versus effective. In fact, your financial accounting class may use only the straight-line method in its chapter on bonds. Keep in mind that International Financial Accounting Standards (IFRS) requires use of the effective interest method.

Issuing bonds at par value is the easiest type of bond transaction to account for. The journal entry to record bonds that a company issues at face value is to debit cash and credit bonds payable. So if the corporation issues bonds for $100,000 with a five-year term, at 10 percent, the journal entry to record the bonds is to debit cash for $100,000 and to credit bonds payable for $100,000.

A bond with a face value and market value of $1,000 has a bond price of 100 (no percent sign or dollar sign — just 100). Bonds issued at premium have a bond price of more than 100. Issued at a discount, the bond price is less than 100.

The rate of interest investors actually earn is known as the effective yield or market rate. If the bond sells for a premium, its market rate is lower than the rate stated on the bond. For example, if the face rate of the bond is 10% and the market rate is 9%, the bond sells at a premium.

On the flip side, if a bond sells at a discount, its market rate is higher than the rate stated on the bond. For example, if the face rate of the bond is 10 percent and the market rate is 11 percent, the bond sells at a discount.