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Chapter 16: 4Q (page 873)

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.”

Short Answer

Expert verified

The FASB requires that the "sweetener" of $160,000 be accounted as an expense.

Step by step solution

01

Treatment of Sweetener as per the accounting norms

The issue of $160,000 "sweetener" as a premium induces the conversion of the bonds into common shares of B Corporation. The premium represents a departure from GAAP because the FASB views the transaction as the retirement of debt.

02

Discussing GAAP standards for paid-in- capital

Subsequently, the decrease in how much paid-in capital is an infringement of the GAAP standards. The top notch will diminish the conveying measure of the bonds, and the difference between the issue value of the common stock and the carrying value of the bonds shall be recognized immediately as an expense.

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Most popular questions from this chapter

Discuss why options and warrants may be considered potentially dilutive common shares for the computation of diluted earnings per share.

McIntyre Corporation issued 2,000 $1,000 bonds at 101. Each bond was issued with one detachable stock warrant. After issuance, the bonds were selling separately at 98. The market price of the warrants without the bonds cannot be determined. Use the incremental method to record the issuance of the bonds and warrants.

What are the computational guidelines for determining whether a convertible security is to be reported as part of diluted earnings per share?

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.

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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