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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(Issuance, Exercise, and Termination of Stock Options) On January 1, 2018, Titania Inc. granted stock options to officers and key employees for the purchase of 20,000 shares of the company’s \(10 par common stock at \)25 per share. The options were exercisable within a 5-year period beginning January 1, 2020, by grantees still in the employ of the company, and expiring December 31, 2024. The service period for this award is 2 years. Assume that the fair value option-pricing model determines total compensation expense to be \(350,000.On April 1, 2019, 2,000 options were terminated when the employees resigned from the company. The market price of the common stock was \)35 per share on this date.On March 31, 2020, 12,000 options were exercised when the market price of the common stock was $40 per share.
Instructions
Prepare journal entries to record issuance of the stock options, termination of the stock options, exercise of the stock options, and charges to compensation expense, for the years ended December 31, 2018, 2019, and 2020.
What effect do stock dividends or stock splits have on the computation of the weighted-average number of shares outstanding?
(Warrants Issued with Bonds and Convertible Bonds) Incurring long-term debt with an arrangement whereby lenders receive an option to buy common stock during all or a portion of the time the debt is outstanding is a frequent corporate financing practice. In some situations, the result is achieved through the issuance of convertible bonds; in others, the debt instruments and the warrants to buy stock are separate.
Instructions
(a) (1) Describe the differences that exist in current accounting for original proceeds of the issuance of convertible bonds and of debt instruments with separate warrants to purchase common stock.
(2) Discuss the underlying rationale for the differences described in (a)(1) above.
(3) Summarize the arguments that have been presented in favor of accounting for convertible bonds in the same manner as accounting for debt with separate warrants.
(b) At the start of the year, Huish Company issued \(18,000,000 of 12% bonds along with detachable warrants to buy 1,200,000 shares of its \)10 par value common stock at \(18 per share. The bonds mature over the next 10 years, starting one year from date of issuance, with annual maturities of \)1,800,000. At the time, Huish had 9,600,000 shares of common stock outstanding. The company received $20,040,000 for the bonds and the warrants. For Huish Company, 12% was a relatively low borrowing rate. If offered alone, at this time, the bonds would have sold in the market at a 22% discount. Prepare the journal entry (or entries) for the issuance of the bonds and warrants for the cash consideration received.
The information below pertains to Barkley Company for 2018.
Net income for the year \(1,200,000
7% convertible bonds issued at par (\)1,000 per bond); each bond is convertible into
30 shares of common stock 2,000,000
6% convertible, cumulative preferred stock, \(100 par value; each share is convertible
into 3 shares of common stock 4,000,000
Common stock, \)10 par value 6,000,000
Tax rate for 2018 40%
Average market price of common stock \(25 per share
There were no changes during 2018 in the number of common shares, preferred shares, or convertible bonds outstanding. There is no treasury stock. The company also has common stock options (granted in a prior year) to purchase 75,000 shares of common stock at \)20 per share.
Instructions
(a) Compute basic earnings per share for 2018.
(b) Compute diluted earnings per share for 2018
EXCEL (Stock-Option Plan) Berg Company adopted a stock-option plan on November 30, 2016, that provided that 70,000 shares of \(5 par value stock be designated as available for the granting of options to officers of the corporation at a price of \)9 a share. The market price was \(12 a share on November 30, 2017.
On January 2, 2017, options to purchase 28,000 shares were granted to president Tom Winter—15,000 for services to be rendered in 2017 and 13,000 for services to be rendered in 2018. Also on that date, options to purchase 14,000 shares were granted to vice president Michelle Bennett—7,000 for services to be rendered in 2017 and 7,000 for services to be rendered in 2018. The market price of the stock was \)14 a share on January 2, 2017. The options were exercisable for a period of one year following the year in which the services were rendered. The fair value of the options on the grant date was \(4 per option.
In 2018, neither the president nor the vice president exercised their options because the market price of the stock was below the exercise price. The market price of the stock was \)8 a share on December 31, 2018, when the options for 2017 services lapsed.
On December 31, 2019, both president Winter and vice president Bennett exercised their options for 13,000 and 7,000 shares, respectively, when the market price was $16 a share.
Instructions
Prepare the necessary journal entries in 2016 when the stock-option plan was adopted, in 2017 when options were granted, in 2018 when options lapsed, and in 2019 when options were exercised.
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