Quiz 2
PROBLEM NO. 7 – Audit of bonds payable
On January 1, 2014, Thunder Corporation issued 2,000 of its 5-year, P1,000 face value, 11% bonds
dated January 1 at an effective annual interest rate(yield) of 9%. Interest is payable each December
31. Thunder uses the effective interest method of amortization. On December 31, 2015, the 2,000
bonds were extinguished early through acquisition in the open market by Thunder for P 1,980,000
plus accrued interest.
Jan 1, 2014 - Issuance
Cash 2,155, 534
Bonds Payable 2,000,000
Bonds Premium 155,534
Dec 31, 2014 – Interest
Interest Expense 220,000
Cash 220,000
Premium on Bonds 26,002
Interest Expense 26,002
Dec 31, 2015 – Amortization of premium until retirement
Premium on Bonds 28,342
Interest Expense 28,342
Bonds Payable 2,000,000
Premium on Bonds 101, 190
Interest Expense 220,000
Cash 2,200,000
Gain on early retirement 121, 190
On July 1, 2014, thunder issued 5,000 of its 6-year, P1,000 face value, 10% convertible bonds at
par. Interest is payable every June 30 and December 31. On the date of issue, the prevailing market
interest rate for similar debt without the conversion option is 12%. On July 1, 2015, an investor in
Thunder’s convertible bonds tendered 1,500 bonds for conversion into 15,000 ordinary shares of
Thunder, which had a fair value of P105 and a par value of P1 at the date of conversion.
July 1, 2014 – Issuance
Cash 4,580,950
Discount on Bonds Payable 419,050
Bonds Payable 5,000,000
Dec 31, 2014 – Interest
Interest Expense 250,000
Cash 250,000
Dec 31, 2014 – Amortization ([4,580,950 x 6%] -250,000)
Interest Expense 24,857
Discount on BP 24,857
July 1, 2015 - Conversion
Bonds Payable 5,000,000
Discount on BP
REQUIRED:
Based on the above and the result of your audit, determine the following:
(Round off present value factors to four decimal places)
1. Issue price of the 2,000 5 year bonds
2. Carrying amount of the 2,000 5 year bonds at December 31, 2014
3. Gain on early retirement of bonds on December 31, 2015
4. Equity component of the 6-year bonds
5. Increase share premium as a result of the conversion of the 1,500 6-year
SOLUTION:
Requirement No. 1
PV of principal (P2,000,000 x 0.6499) 1,299,800
PV of interest [(P2,000,000 x .11) x 3.8897] 855,734
Issue price 2,155,534
Requirement No. 2
Carrying amount, 1/1/11 (see no. 1) 2,155,534
Less premium amortization for 2011:
Nominal interest (P2,000,000 x .11) 220,000
Effective interest (P2,155,534 x .09) 193,998 26,002
Carrying amount, 12/31/11 2,129,532
Alternative computation:
PV of principal (P2,000,000 x 0.7084) 1,416,800
PV of interest [(P2,000,000 x .11) x 3.2397] 712,734
Carrying amount, 12/31/11 2,129,534
Requirement No. 3
Retirement price 1,980,000
Carrying amount,
12/31/12:
Carrying amount, 12/31/11 (see no. 1) 2,129,532
Less premium amortization for 2012:
Nominal interest (P2,000,000 x .11) 220,000
Effective interest (P2,129,532 x .09) 191,658 28,342 2,101,190
Gain early retirement of bonds 121,190
Alternative computation:
PV of principal (P2,000,000 x 0.7722) 1,544,400
PV of interest [(P2,000,000 x .11) x 2.5313] 556,886
Carrying amount, 12/31/10 2,101,286
Retirement price 1,980,000
Gain early retirement of bonds 121,286
Requirement No. 4
Total proceeds 5,000,000
Less liability component:
Present value of the principal (P5,000,000 x 0.4970) 2,485,000
Present value of the interest [(P5,000,000 x .05 x
8.3838) 2,095,950 4,580,950
Equity component 419,050
Requirement No. 5
PV of principal (P1,500,000 x 0.5584) 837,600
PV of interest [(P1,500,000 x .05) x 7.3601] 552,008
Carrying amount, 7/1/12 1,389,608
Par value of shares issued (15,000 shares x P1) (15,000 )
Net increase in share premium 1,374,608
