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Chapter 16: 2Q (page 873)
Briefly explain why corporations issue convertible securities.
Corporations issue convertibles for two principal reasons. One is to raise equity capital without surrendering more ownership control than needed and secondly, to give convertibles is to get debt financing at less expensive rates.
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Which of the following statements is correct?
a) IFRS separates the proceeds of a convertible bond between debt and equity by determining the fair value of the debt component before the equity component.
b) Both IFRS and GAAP assume that when there is a choice of settlement of an option for cash or shares, share settlement is assumed.
c) IFRS separates the proceeds of a convertible bond between debt and equity, based on relative fair values.
d) Both GAAP and IFRS separate the proceeds of convertible bonds between debt and equity.
(Issuance of Bonds with Detachable Warrants) On September 1, 2017, Sands Company sold at 104 (plus accrued interest) 4,000 of its 9%, 10-year, \(1,000 face value, nonconvertible bonds with detachable stock warrants. Each bond carried two detachable warrants. Each warrant was for one share of common stock at a specified option price of \)15 per share. Shortly after issuance, the warrants were quoted on the market for \(3 each. No fair value can be determined for the Sands Company bonds. Interest is payable on December 1 and June 1. Bond issue costs of \)30,000 were incurred.
Prepare in general journal format the entry to record the issuance of the bonds
Question: . Mae Jong Corp. issues \(1,000,000 of 10% bonds payable which may be converted into 10,000 shares of \)2 par value ordinary shares. The market rate of interest on similar bonds is 12%. Interest is payable annually on December 31, and the bonds were issued for total proceeds of $1,000,000. In accounting for these bonds, Mae Jong Corp. will:
(a) first assign a value to the equity component, then determine the liability component.
(b) assign no value to the equity component since the conversion privilege is not separable from the bond.
(c) first assign a value to the liability component based on the face amount of the bond.
(d) use the “with-and-without” method to value the compound instrument.
Bridgewater Corp. offered holders of its 1,000 convertible bonds a premium of \(160 per bond to induce conversion into shares of its common stock. Upon conversion of all the bonds, Bridgewater Corp. recorded the \)160,000 premium as a reduction of paid-in capital. Comment on Bridgewater’s treatment of the $160,000 “sweetener.”
Angela Corporation issues 2,000 convertible bonds at January 1, 2016. The bonds have a 3-year life, and are issued at par with a face value of \(1,000 per bond, giving total proceeds of \)2,000,000. Interest is payable annually at 6%. Each bond is convertible into 250 ordinary shares (par value of $1). When the bonds are issued, the market rate of interest for similar debt without the conversion option is 8%.
Instructions
(a) Compute the liability and equity component of the convertible bond on January 1, 2016.
(b) Prepare the journal entry to record the issuance of the convertible bond on January 1, 2016.
(c) Prepare the journal entry to record the repurchase of the convertible bond for cash at January 1, 2019, its maturity date.
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