University:
California State University, Northridge
Course:
ACCT 352 | Intermediate Financial Accounting III
Academic year:

2024
Views:

439

Pages:

14
Author:

gaullistaho3

14-1 Bonds and Long-Term Notes Chapter 14 Part 3 14-41 Bonds With Detachable Warrants On January 1, 2013, HTL issued $100,000,000 of 8% bonds due in 2020 at 103 (103% of face value). Accompanying each $1,000 bond were 20 warrants. Each warrant permitted the holder to buy one share of $1 par common stock at $25 per share. Shortly after issuance, the warrants were listed on the stock exchange at $3 per warrant. HTL (Issuer) Cash 103,000,000 Discount on bonds payable 3,000,000 Bonds payable Equity – stock warrants 100,000,000 6,000,000 100,000 bonds × 20 warrants × $3 14-42 Bonds With Detachable Warrants Assume one-half of the warrants (1,000,000) are exercised when the market value of HTL’s common stock is $30 per share. The exercise price is $25 per common share. HTL (Issuer) Cash 25,000,000 Equity – stock warrants 3,000,000 Common stock 1,000,000 Paid-in capital – common stock 27,000,000 1,000,000 warrants × $25 $6,000,000 ÷ 2 14-43 Option to Report Liabilities at Fair Value Companies have the option to value some or all of their financial assets and liabilities at fair value. The same market forces that influence the fair value of an investment in debt securities (interest rates, economic conditions, risk, etc.) influence the fair value of liabilities. 14-44 U. S. GAAP vs. IFRS International accounting standards are more restrictive than U.S. standards for determining when firms are allowed to elect the fair value option.  The fair value option may be elected by the firm.  Although U.S. GAAP guidance indicates that the intent of the fair value option under U.S. GAAP is to address these sorts of circumstances, it does not require that those circumstances exist.  Companies may only elect the fair value option when 1. 2. When a group of financial assets or liabilities is managed and its performance is evaluated on a fair value basis, or If the fair value option reduces “accounting mismatch.” 14-45 Where We’re Headed Under a proposed change in the way we account for financial assets and liabilities, financial assets would be measured at (a) fair value with changes reported in net income (FV-NI), (b) at fair value through Other Comprehensive Income (FV-OCI), or (c) at amortized cost, the classification depending on the assets’ characteristics and the company’s business strategy for holding the assets. Most liabilities would be accounted for at amortized cost as described in this chapter. The fair value option, though, would no longer be permitted except in unique circumstances. The proposed change is a result of a joint project on financial instruments by the International Accounting Standards Board (IASB) and the FASB as part of a broader goal of achieving a single set of high quality global accounting standards. At the time this text is being written, a final standard is expected to be issued in 2012. Appendix 14A: Bonds Issued Between Interest Dates Suppose a weak market caused a delay in selling the bonds until two months after the bond date of January 1(four months before semiannual interest was to be paid). In that case, the buyer would be asked to pay the seller accrued interest for two months in addition to the price of the bonds. Masterwear was unable to sell $700,000 face amount of bonds, dated January 1, and paying interest semiannually at an annual rate of 12%. The bonds were eventually sold on March 1. Let’s calculate the accrued interest. 14-46 Appendix 14A: Bonds Issued Between Interest Dates The journal entry at the date of issuance (March 1) on the books of the issuer and investor are shown below: 14-47 Appendix 14A: Bonds Issued Between Interest Dates On June 30, the first interest payment date, the following journal entries will be made for the issuer and investor. 14-48 Appendix 14B Troubled Debt Restructuring When changing the original terms of a debt agreement is motivated by financial difficulties experienced by the debtor (borrower), the new arrangement is referred to as a troubled debt restructuring. A troubled debt restructuring may be achieved in either of two ways: 1. The debt may be settled at the time of the restructuring. 2. The debt may be continued, but with modified terms. 14-49 14-50 Debt Settled at Time of Restructuring First Prudent Bank is holding a $30,000,000 note from the developer of some property. The developer is in financial trouble and cannot pay the bank the amount owed. The bank agrees to accept property with a fair value of $20,000,000 in full settlement of the note. The property is carried on the books of the developer at $17,000,000. Let’s look at the entries on the books of the developer to record the settlement. Land …...................................................... Gain on disposal of land …......... ($20,000,000 less carrying value of $17,000,000) Note payable …............................................ Gain on troubled debt restructuring. Land…………………………………. 3,000,000 3,000,000 30,000,000 10,000,000 20,000,000 Debt is Continued, but with Modified Terms Let’s look at an example where the total cash payments are less than the carrying amount of the debt. First Prudent Bank holds a $30,000,000 note from a property developer. The note bears interest at 10%, and matures in two years. The developer is in financial difficulty and the bank agrees to modify the terms of the agreement as follows: 1. Forgive the interest accrued from last year of $3,000,000. 2. Reduce the remaining two interest payments to $2,000,000 each. 3. Reduce the principal amount to $25,000,000. Carrying amount Future payments Gain to developer Principal $ 30,000,000 25,000,000 Interest $ 3,000,000 4,000,000 Total $ 33,000,000 29,000,000 $ 4,000,000 14-51 Debt is Continued, but with Modified Terms At the date of the new agreement, the following journal entry is required: Accrued interest payable ............................. Note payable …........................................... Gain on debt restructuring ………. 3,000,000 1,000,000 4,000,000 The debit to notes payable is for the difference between the old face amount of $30,000,000 and the total future cash payments of $29,000,000 At each of the next two interest payments, we will make the following entry: Note payable …......................................... Cash ……………………………… 2,000,000 2,000,000 14-52 Debt is Continued, but with Modified Terms Face amount of old note Entry at date of restructuring First interest payment Second interest payment Maturity value of note Amount $ 30,000,000 (1,000,000) (2,000,000) (2,000,000) $ 25,000,000 At maturity, the developer will make the following entry: Note payable …......................................... Cash ……………………………… 25,000,000 25,000,000 14-53