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.

Step by step solution

01

(a) Calculation of liability and equity component

Present value of principal ($200,000 x 0.79383)	$1,587,660
Present value of interest payment ($120,000 x 2.57710)	$309,252
Present value of liability component	$1,896,912

Fair value of convertible debt	$2,000,000
Less: Present value of liability component	$1,896,912
Present value of equity component	$103,088

02

(b) Journal entry

Date	Transaction	Debit	Credit
	Cash	$2,000,000
	Bonds payable		$1,896,912
	Share premium- Conversion equity		$103,088
	Being bonds issued

03

(c) Journal entry

Date	Transaction	Debit	Credit
	Bonds payable	$2,000,000
	Cash		$2,000,000
	Being bonds repurchased

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