When bonds are issued or sold for less than their par value, the bond discount is the difference between their price and their par value.
When bonds are originally issued or traded later on the secondary market, they may sell for more or less than their par value. A bond’s price depends on how its coupon rate, or the interest rate it will pay to bondholders, compares to current market interest rates for similar credits.
If a bond’s coupon rate is lower than the current market rate, it will be less attractive to investors, and it will sell for less than its par value, or at a discount. For example, if $100 million of 20-year term bonds pay 3 percent interest while the market rate is 4 percent, the bonds may sell for $86 million: $100 million of par value less a $14 million discount.
The original issue discount is the bond discount when the bond is issued. After the bonds are issued, the issuer records them on its financial statements at their book value: their par value less the original issue discount. As time passes, the discount is accreted, or gradually decreased as the discount decreases, the bonds’ book value correspondingly increases. Before the bonds mature, they are recorded on the issuer’s financial statements at $100 million, their par value.
