Chapter 14, Problem 2SSC

Surfing the Standards Case 2: Bonds with Detachable Warrants

Companies sometimes issue bonds with detachable warrants entitling the bondholder to buy the stock of the company at a fixed price. The U.S. GAAP rules related to the issue of these bonds are included in ASC 470-20, Debt with Conversion and Other Options. Read paragraphs 2 and 3 of section 5, paragraphs 2 and 3 of section 25, and paragraphs 1 and 2 of section 30.

1. 1. Why do companies sometimes issue bonds with detachable warrants?
2. 2. Does U.S. GAAP treat bonds with detachable warrants as debt or equity?
3. 3. How are the proceeds of the issue allocated to the financial statement components?

Doxy, Inc. issued $1,000,000 par value, 5%, 10-year bonds with detachable warrants on April 1 for $1,100,000 (April 1 is also the commitment date.) Interest is payable quarterly at the end of each quarter. Doxy can reliably determine that the market rate of interest that would be applicable to the bond issue without warrants is 6%. It can also reliably determine that the fair value of the warrants, if they were detached from the bonds would be $200,000.

1. 4. Provide the journal entry to record the issuance on April 1.
2. 5. Provide the journal entry to record the first interest payment on June 30.