Liabilities and equity
The Bond Math
Cash follows the coupon on face; expense follows the market rate on carrying value; the difference amortizes toward face.
How the exam words it
- -The stem gives face, coupon rate, market rate, and issue price and asks 'what is the interest expense in Year 1?' or a later year.
- -It asks 'what is the carrying value of the bonds?' after one or more periods.
- -Bonds are retired early and it asks 'what is the gain or loss on extinguishment?'.
- -It asks whether a bond 'will be issued at' a premium or a discount, or for an HTM investor's interest income.
The playbook
- 1Set the direction first: coupon above market means premium, coupon below market means discount, and amortization walks carrying value toward face.
- 2Each period: cash = face times coupon rate; expense (or investor income) = carrying value times market rate; the difference is the amortization.
- 3Carry the updated carrying value forward before computing any later period.
- 4Extinguishment: gain or loss = carrying value (face plus unamortized premium or minus discount) minus the repurchase price.
The trap
Mixing the rates. Cash interest is coupon rate times face; expense is market rate times carrying value. Using face value in the expense calculation misses the amortization entirely.
How the exam varies it
The same pattern, re-skinned along these axes:
Issuer expense versus investor incomePremium versus discountSingle period versus multi-period versus early extinguishment
Drill this pattern
8 questions of The Bond Math from across the AUD topics. Clear it by getting 5 right with a streak of 3.