Chapter 10, Problem 7CP

1.

To determine

Calculate the cash received from issuance of bonds.

Answer to Problem 7CP

The cash received from issuance of bonds is $624,000.

Explanation of Solution

Bonds: Bonds are long-term promissory notes that are represented by a company while borrowing money from investors to raise fund for financing the operations.

Calculate the cash received from issuance of bonds.   

$\begin{array}{c}\text{Cash}\text{received}\text{from}\text{issuance}\text{of}\text{bonds}=\text{Face}\text{value}\text{of}\text{bonds}\text{×}\text{Issue}\text{price}\text{of}\text{bonds}\\ \text{=}\text{\$600,000}\times \frac{104}{100}\\ \text{=}\text{\$624,000}\end{array}$

2.

To determine

Prepare journal entry to record issuance of bonds payable.

Explanation of Solution

Bonds Payable: Bonds payable are referred to long-term debts of the business, issued to various lenders known as bondholders, generally in multiples of $1,000 per bond, to raise fund for financing the operations.

Premium on bonds payable: It occurs when the bonds are issued at a higher price than the face value.

Effective-interest amortization method: Effective-interest amortization method it is an amortization model that apportions the amount of bond discount or premium based on the market interest rate.

Prepare journal entry for issuance of bonds payable on January 1, 2018.

Date	Account Title and Explanation	Post Ref	Debit ($)	Credit ($)
January 1, 2018	Cash		624,000
	Premium on Bonds Payable (1)			24,000
	Bonds Payable			600,000
	(To record the issuance of bonds at premium)

Table (1)

• Cash is an asset and it increases the value of assets. So, debit it by $624,000.
• Premium on Bonds Payable is an adjunct liability account and it increases the value of liabilities. So, credit it by $24,000.
• Bonds payable is a liability and it increases the value liabilities. So, credit it by $600,000.

Working note (1):

Calculate the premium on bonds payable.

$\begin{array}{c}\text{Premium on bonds payable}=\text{Cash}\text{received}–\text{Face value of bonds}\\ =\$624,000–\$600,000\\ =\$24,000\end{array}$

3.

To determine

Prepare journal entry to record the interest payment on December 31, 2018 and 2019.

Explanation of Solution

Prepare journal entry to record the payment of interest and amortization of premium on bonds on December 31, 2018.

Date	Account Title and Explanation	Post Ref	Debit ($)	Credit ($)
December 31, 2018	Interest Expense(3)		49,920
	Premium on Bonds Payable  (4)		4,080
	Cash (2)			54,000
	(To record first payment of interest and amortization of premium on bonds)

Table (2)

• Interest expense is a component of stockholder’s and it decreases the equity value. So, debit it by $49,920.
• Premium on Bonds Payable is an adjunct liability account and it decreases the value of liability. So, debit it by $4,080.
• Cash is an asset and it decreases the value of assets. So, credit it by $54,000.

Working note (2):

Calculate the cash interest payment.

$\begin{array}{c}\text{Cash Interest Payment}=\left(\begin{array}{l}\text{Face value}\times \text{Stated interest rate}\\ \times \text{Interest time period}\end{array}\right)\\ =\$600,000\times \frac{9}{100}\times \frac{12}{12}\\ =\$54,000\end{array}$

Working note (3):

Calculate the interest expense.

$\begin{array}{c}\text{Interest expense}=\text{Carrying amount }\times \text{Market interest}\times \text{Time}\\ =\$624,000\times \frac{8}{100}\times \frac{12}{12}\\ =\$49,920\end{array}$

Working note (4):

Calculate the premium amortized.

$\begin{array}{c}\text{Premium amortized}=\text{Cash interest payment}–\text{ Interest Expense }\\ =\$54,000-\$49,920\\ =\$4,080\end{array}$

Prepare journal entry for the payment of interest and amortization of premium on bonds on December 31, 2019.

Date	Account Title and Explanation	Post Ref	Debit ($)	Credit ($)
December 31, 2019	Interest Expense (6)		49,594
	Premium on Bonds Payable (7)		4,406
	Cash (5)			54,000
	(To record second payment of interest and amortization of premium on bonds)

Table (3)

• Interest expense is an expense and it decreases the equity value. So, debit it by $49,594.
• Premium on Bonds Payable is an adjunct liability account and it decreases the value of liabilities. So, debit it by $4,406.
• Cash is an asset and it is decreases the value of assets. So, credit it by $54,000.

Working note (5):

Calculate cash interest payment.

$\begin{array}{c}\text{Cash Interest Payment}=\left(\begin{array}{l}\text{Face value}\times \text{Stated interest rate}\\ \times \text{Interest time period}\end{array}\right)\\ =\$600,000\times \frac{9}{100}\times 1\\ =\$54,000\end{array}$

Working note (6):

Calculate the interest expense.

$\begin{array}{c}\text{Interest expense}=\text{Carrying amount }\times \text{Market interest}\times \text{Time}\\ =\left(\$624,000-\$4,080\right)\times \frac{8}{100}\times 1\\ =\$49,594\end{array}$

Working note (7):

Calculate the premium amortized.

$\begin{array}{c}\text{Premium amortized}=\text{Cash interest payment}–\text{ Interest Expense }\\ =\$54,000-\$49,594\\ =\$4,406\end{array}$

4.

To determine

Calculate the interest expense that would be reported on the income statements for 2018 and 2019, and show the presentation of bonds that would be reported  on the balance sheet at December 31, 2018 and 2019.

Explanation of Solution

Bonds Payable: Bonds payable are referred to long-term debts of the business, issued to various lenders known as bondholders, generally in multiples of $1,000 per bond, to raise fund for financing the operations.

Premium on bonds payable: It occurs when the bonds are issued at a higher price than the face value.

Balance sheet: This financial statement reports a company’s resources (assets) and claims of creditors (liabilities) and stockholders (stockholders’ equity) over those resources, on a specific date. The resources of the company are assets which include money contributed by stockholders and creditors. Hence, the main elements of the balance sheet are assets, liabilities, and stockholders’ equity.

Calculate the interest expense that would be reported on the income statements for 2018 and 2019 as follows:

The amount of interest expense that would be reported on the income statements for 2018 and 2019 is $49,920 $\left(\$624,000\times 8\%\times 1\right)$ and $49,594 $\left\{\left(\$624,000-\$4,080\right)\times 8\%\times 1\right\}$ respectively.

The presentation of bonds that would be reported in on the balance sheet is as shown below:

Corporation S Balance Sheet (Partial) As of December 31
Long-term Liabilities:	2018	2019
Bonds Payable	$600,000	$600,000
Add: Premium on bonds payable	19,920 (8)	15,514 (9)
Carrying Value	619,920	$615,514

Table (4)

Working note (8):

Calculate the premium on bonds payable for 2018.

$\begin{array}{c}\text{Premium on bonds payable for 2018 =}\left(\begin{array}{l}\text{Premium bonds payable at the time of purchase}-\\ \text{Premium on bond paid during the year 2018}\end{array}\right)\\ =\$24,000-\$4,080\\ =\$19,920\end{array}$

Working note (9):

Calculate the premium on bonds payable for 2019.

$\begin{array}{c}\text{Premium on bonds payable =}\left[\begin{array}{l}\text{Preminum on bond payable for 2018}-\\ \text{Premium on bond paid durint the year 2019}\end{array}\right]\\ =\$19,920\text{ (8) }-\$4,406\\ =\$15,514\end{array}$