Question 3Q

Expert-verifiedFound in: Page 752

Book edition
16th

Author(s)
Donald E. Kieso, Jerry J. Weygandt, Terry D. Warfield

Pages
1552 pages

ISBN
9781118743201

**Distinguish between the following interest rates for bonds payable:**

**(a)Yield rate**

**(b) Nominal Rate**

**(c) Stated rate**

**(d) Market rate**

**(e) Effective rate**

**The yield rate** is the rate actually earned by the bondholders. **The nominal rate** is the rate fixed by the one who issues the bonds, usually expressed as a percentage on par value. **The stated rate** is the specified rate listed on the bond. **The market rate** is the current rate prevailing in the market depending on various factors. **The effective rate** is the true rate on the bond, which takes into account the effects of compounding.

Bonds payable is a liability that arises when a company issues bonds to generate cash. The company is a borrower, thus creating a liability. Bonds can be issued at par, discount, and at a premium. The pricing depends on the difference between its coupon rate and its market yield.

- Yield rate is the rate of return the bond generates. It can say what percent was made from an investment.
- A company can use this rate to compare various projects or investments to decide which is most profitable.
**Current Yield = Annual cash/ Bond price**

- Nominal rate is the rate bond issuer promises to pay the bond purchaser.
- The rate is fixed, expressed as a percentage on par value, and is applied to the lifetime of the bond.
- It is the actual interest rate stated without considering the effect of compounding.
- Nominal rate = Annual Interest payment/ Face value

- Stated rate is the actual rate listed on the bond
- It is the actual amount of interest paid by the bond issuer, similar to the nominal rate.
- Example, if an issuer pays $60 on a bond with the face value of $1000, then the stated interest rate is 6%.
**S****tated rate = Bond payment/ Face value**

- Market rate is the prevailing rate offered on cash deposits.
- It is determined by the current rate compared to the rate specified in the bond.
- It considers two things: The present value of the bond`s face value & Present value of the bond`s interest payments.
- This rate is driven by many factors such as the size and duration of deposits, the flow of funds in & out of the country, etc.
- M
**arket rate = Bond`s face value * Bond`s price quote**

- Effective rate is the rate that will discount both the bond`s future. interest payments and the bond`s maturity value to a present value that is equal to the bond`s current market value.
- It is similar to market and yield rate, but it takes into account the effects of compounding.
- The more frequent the compounding period, the higher the rate.
**Effective rate = [ 1 + i/n ]**^{n }- 1

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