With the global bond market size bigger than many of the world's biggest economies, it's important for businesses that sell bonds to understand how to report transactions properly. According to the International Capital Market Association (ICMA), the global bond market's capitalization is more than $128 trillion.
Defining Bonds
Offered by government or corporate entities, bonds are a static commitment issued to investors. Entities earn money from investors to invest in infrastructure or support operations. Investors receive a coupon payment periodically, and the bond is settled at a future date, which is referred to as the maturity date.
When bonds are tendered, they may be done at a discount, at face value or at a premium. The valuation relies on the gap at issuance amid a bond's coupon rate from the bond's yield base on prevailing prices. Upon bond issuance, the bond's face value is recorded under bonds payable, as the issuing entity receives payment for the bond's prevailing market value. If there's a positive difference, it's recorded at a premium. If there's a negative difference, it's recorded at a discount.
Bond Issuance and Accounting Considerations
When sold at par value, after the corporation or government entity receives payment from investors, the issuing entity records it as a liability because it's liable for the investor's investment. This would be set up as:
| Debit | Credit | ||
|---|---|---|---|
| Cash | $100 | ||
| Bonds Payable | $100 |
Bonds Payable Defined
Since the entity owes the investor, bonds payable is recorded on the liability section of a business' balance sheet. Much of the time, bonds payable are reported as non-current liabilities.
When sold at a discount, a gap that exists between a bond's par value and the monetary investment the issuing entity obtains from the investor, the issuing entity must record the transaction as a discount on bonds payable account. The journal entry is as follows:
| Debit | Credit | ||
|---|---|---|---|
| Cash | $100 | ||
| Discount on Bonds Payable | $100 | $100 | |
| Bonds Payable | $100 |
If bonds are purchased at a premium, which is when investors pay more for a bond with a higher interest rate providing higher coupon payments, entities must record it as premium on bonds payable (POBP) account. It often occurs when purchasers agree to lesser earnings due to the bond having a higher rate than prevailing rates. In the case of a bond's issuance at premium, it can be recorded as follows:
| Debit | Credit | ||
|---|---|---|---|
| Cash | $100 | ||
| POBP | $100 | ||
| Bonds Payable | $100 |
If there's a discount on bonds payable, the recurrent record must reflect the interest expense with a debit transaction and the bonds payable entry must see a credit. This accounting method impacts the bond issuer by growing the total interest expense, which the issuer records.
If, however, the issuer receives payment from investors beyond the face value, the interest expense must be credited and premium on bonds payable entry should receive a debit.
Conclusion
Whether it's a business issuing bonds or an investor evaluating a company, understanding how to account for bonds is essential to evaluate a business' financial health.
