PROBLEMS

PROBLEM 1: TRUE OR FALSE

1. Unlike notes payable which involve a single creditor, bonds enable entities to borrow from several
creditors.

2. The contract between an issuer and its bondholders is called a debenture.

3. It is the responsibility of the underwriter to monitor the issuer's compliance with its obligations under
a bond issue.

4. Convertible bonds contain an exercisable option for the issuer.

5. The market rate tends to go up when the demand for bonds decreases.

6. When the market rate is higher than the stated rate, the bonds will sell at a price higher than the
bonds' par value.

7. If the carrying amount of a bond issue exceeds the face amount, the difference is called discount on
bonds payable.

8. According to the PFRS, discounts or premiums on bonds payable may be amortized using the straight-
line method.

9. Registered bonds are bonds that can be freely transferred and have a detachable coupon for each
interest payment.

10. One reason why coupon bond is seldom issued anymore by corporations is that there is no readily
available record of who actually receives the interest.

PROBLEM 2: MULTIPLE CHOICE - THEORY

1. It is a type of bond that the bondholder can exchange for other securities of the issuer.

a. debenture bond

b. collateral trust bond

c. convertible bond

d. james bond

2. Transaction costs of issuing bonds

a. are added to the carrying amount of the bonds.

b. are recognized as outright expenses.

c. are amortized as expense over the term of the bonds.

d. a and c.

3. The interest payment dates of a bond issue are April 1and October 1, 20x1. The bonds were issued on
August 31. 20x1. The interest expense for the year ended December 31, 20x1 would be for:

a. four (4) months

b. six (6) months

c. seven (7) months

d. ten (10) months

4. For a bond issue that sells for less than its par value, the market rate of interest is

a. Dependent on rate stated on the bond.

b. Equal to rate stated on the bond.

c. Less than rate stated on the bond.

d. Higher than rate stated on the bond.

5. The market price of a bond issued at a discount is the present value of its principal amount at the
market (effective) rate of interest

a. Less the present value of all future interest payments at the market (effective) rate of interest.

b. Less the present value of all future interest payments at the rate of interest stated on the bond.

c. Plus the present value of all future interest payments at the market (effective) rate of interest.

d. Plus the present value of all future interest payments at the rate of interest stated on the bond.

6. The issue price of a bond is equal to the present value of the future cash flows for interest and
principal when the bond is issued

At face amount At a discount At a premium

a. Yes No Yes

b. Yes No No

c. No Yes Yes

d. Yes Yes Yes

7. Kenwood Co. neglected to amortize the premium on outstanding ten-year bonds payable. What is the
effect of the failure to record premium amortization on interest expense and bond carrying value,
respectively?

a. Understate; understate c. Overstate; overstate

b. Understate; overstate d. Overstate; understate

8. On March 1, 1997, Clark Co. issued bonds at a discount. Clark incorrectly used the straight-line
method instead of the effective interest method to amortize the discount. How were the following
amounts, as of December 31, 1997, affected by the error?

Bond carrying amount Retained earnings

a. Overstated Overstated

b. Understated Understated

c. Overstated Understated

d. Understated Overstated

9. (On January 2, 20x1, Nast Co. issued 8% bonds with a face amount of P1,000,000 that mature on
January 2, 20x7. The bonds were issued to yield 12%, resulting in a discount of P150,000. Nast
incorrectly used the straight-line method instead of the effective interest method to amortize the
discount. How is the carrying amount of the bonds affected by the error?

At Dec. 31,20x1 At Jan. 2,20x7 At Dec. 31, 20x1 At Jan. 2, 2027

a. Overstated Understated c. Understated Overstated

b. Overstated No effect d. Understated No effect

10. The equity component of a compound financial instrument is determined

a. by allocating the issue price to the liability and equity components based on their relative fair values.

b. by allocating the equity component its fair value.

c. by deducting the fair value of the liability com without the equity feature from the issuance price of
the compound instrument.

d. none of these

PROBLEM 3: EXERCISES
1. On January 1, 20x1, Sixty Hours Co. issued 1,000, P2,000, 10% bonds P1,903,927. Principal is due on
December 31, 20x3, while interest is due annually every year-end. The interest rate is 12%.

Requirement: Provide the journal entries over the life of the bonds.

2. On January 1, 20x1, Faith Co. issued 1,000, P2,000, 120% bonds for P2,206,168. Principal is due on
December 31, 20x3, while interest is due annually every year-end. Faith Co. incurred transaction costs of
P106,694 on the issuance. The effective interest rates are 8% before adjustment for transaction costs
and 10% after adjustment for transaction costs.

Requirement: Provide the journal entries over the life of the bonds.

3. On January 1, 20x1, Hope Co. issued 5-year, 12%, P2,000,000 bonds for P2,151,632. Principal is due at
maturity, while interest is due annually every year-end. The effective interest rate is 10%. On July 1,
20x3, Hope Co. retired all the bonds at 102. The retirement price includes payment for the accrued
interest.

Requirement: Provide the entries on July 1, 20x3.

4. On January 1, 20x1, Patience Co. issued 10%, 3-year, P2,000,000 convertible bonds at 105. Each
P1,000 bond is convertible into 8 shares with par value per share of P100. Principal is due on December
31, 20x3, while interest is due annually every year-end. On issuance date, the bonds were selling at a
yield to maturity market rate of 12% without the conversion option. All the bonds were converted into
equity on December 31, 20x2. Patience Co. incurred stock issuance costs of P20,000.

Requirement: Provide all the journal entries in 20x1 and 20x2.

5. On January 1, 20x1, Kindness Co. issued 3-year, 10%, P2,000,000 convertible bonds for P2,200,000.
Principal is due at maturity but interest is payable every year-end. The bonds are convertible into 6,000
ordinary shares with par value per share of P200. On issuance date, the prevailing market rate of
interest for similar debt without a conversion feature was 12%. On December 31, 20x2, Kindness Co.
retired all the bonds for P2,000,000. On retirement date, the current rate for similar debt instrument
without a conversion feature was 11%.

Requirement: Provide all the entries in 20x1 and 20x2.

PROBLEM 4: MULTIPLE CHOICE – COMPUTATIONAL

1. Blue Corp.'s December 31, 1991, balance sheet contained the following items in the long-term
liabilities section:

9 3/4% registered debentures, callable in 2002, due in 2007 700,000

9 1/2% collateral trust bonds, convertible into common stock beginning in 2000, due in 2010
600,000

10% subordinated debentures (P30,000 maturing annually beginning in 1997) 300,000

What is the total amount of Blue's term bonds?

a. 600,000

b. 700,000

c. 1,000,000

d. 1,300,000

2. On January 2, 2001, West Co. issued 9% bonds in the amount of P500,000, which mature on January
2, 2011. The bonds were issued for P469,500 to yield 10%. Interest is payable annually on December 31.
West uses the effective interest method of amortizing bond discount. In its June 30, 2001, balance
sheet, what amount should West report as bonds payable?

a. 469,500

b. 470,475

c. 471,025

d. 500,000

3. On January 1, 20x1, Yoga Co. issued 1,000, P4,000 face amount bonds for P3,807,852. The bonds
mature on December 31, 20x3. Interest of 10% is due annually every year-end. The effective interest
rate is 12%. How much is the unamortized discount on bonds payable on December 31, 20x1?

a. 147,908

b. 135,206

c. 134,987

d. 143,134

4. On January 1, 20x1, Silent Co. issued 1,000 bonds with face amount of P4,000 each for a total of
P3,807,852. Silent Co. paid transaction costs of P179,316 on the issuance. The bonds mature on
December 31, 20x3 but 10% interest is due every year-end. The effective interest rate adjusted for the
transaction costs is 14%. How much is the carrying amount of the bonds on December 31, 20x1?

a. 3,288,776

b. 3,391,580

c. 3,401,832

d. 3,736 ,531
5. On April 1, 20x9, Hill Corp. issued 200 of its P1,000 face value bonds at 101 plus accrued interest. The
bonds were dated November 1, 20x8, and bear interest at an annual rate of 9% payable semiannually on
November 1 and May 1. What amount did Hill receive from the bond issuance?

a. 194,500

b. 200,000

c. 202,000

d. 209,500

6. Tuck Co. plans on issuing three-year, 12% term bonds with face amount of P2,000,000. If the current
rate on issuance date is 10%, the estimated issue price of the bonds would be

a. 2,099,474.

b. 2,123,649

c. 2,230,713.

d. 1,979,365

7. On June 30, 20x9, King Co. had outstanding 9%, P5,000,000 face value bonds maturing on June 30,
2x14. Interest was payable semiannually every June 30 and December 31. On June 30, 20x9, after
amortization was recorded for the period, the unamortized bond premium and bond issue costs were
P30,000 and P50,000, respectively. On that date, King acquired all its outstanding bonds on the open
market at 98 and retired them. At June 30, 20x9, what amount should King recognize as gain on
redemption of bonds?

a. 20,000

b. 80,000

c. 120,000

d. 180,000

8. On December 31, 20x0, Arnold, Inc., issued P200,000, 8% serial bonds, to be repaid in the amount of
P40,000 each year. Interest is payable annually on December 31. The bonds were issued to yield 10% a
year. The bond proceeds were P190,280 based on the present values at December 31, 20x0, of the five
annual payments as follows:

Due date Amounts due Present value at 12/31/x0

Principal Interest
 12/31/x1 40,000 16,000 50,900
12/31/x2 40,000 12,800 43,610
12/31/x3 40,000 9,600 37,250
12/31/x4 40,000 6,400 31,690
12/31/x5 40,000 3,200 26,830
190,280

Arnold amortizes the bond discount by the effective interest method. In its December 31, 20x1, balance
sheet, at what amount should Arnold report the carrying value of the bonds?

a. 139,380 b. 149,100 c. 150,280 d. 153,308

9. On January 1, 20x1, NESCIENCE IGNORANCE Co. issued 10%, P6,000,000 zero-coupon bonds at a price
that reflects a yield to maturity rate of 18%. Both the principal and accrued interests are due on
December 31, 20x3. What amounts are reported in NESCIENCE CO.'s December 31, financial statements
for the following?

Bonds payable Interest payable

a. 5,135,421 600,000

b. 5,268,944 600,000

c. 5,735,421 600,000

d. 5,735,421 0

10. Ray Corp. issued bonds with a face amount of P200,000. Each P1,000 bond contained detachable
stock warrants for 100 shares of Ray's common stock. Total proceeds from the issue amounted to
P240,000. The fair value of each warrant was P2,196,000. The bonds were issued at a discount of

a. 0

b. 678

c. 4,000

d. 33,898

11. On July 1, 2003, after recording interest and amortization, York Co. converted P1,000,000 of its 12%
convertible bonds into 50,000 shares of P1 par value ordinary share. On the conversion date the carrying
amount of the bonds was P1,300,000, the fair value of the bonds was P1,400,000, and York's ordinary
share was publicly trading at P30 per share. What amount of share premium should York record as a
result of the conversion?

a. 950,000
b. 1,250,000

c. 1,350,000

d. 1,500,000

12. On January 1, 20x1, Melancholic Co. issued 10%, convertible bonds for P2,200,000. The bonds, which
are due on December 31, 20x3, are convertible into 10,000 ordinary shares with par value of P100. The
annual interest payments are due at each year-end. The prevailing market rate of interest for similar
debt without conversion feature on January 1, 20x1 was 12%. On December 31, 20x2, half of the bonds
were retired for P1,000,000. The prevailing interest rate for similar debt without conversion feature on
December 31, 20x2 was 11%. How much are the (1) gain (loss) on the retirement and (2) net amount of
“share premium – conversion feature” reclassified within equity on December 31, 20x2?

a. 9,724; 152,760 c. (8,849); 139,028

b. (9,724); 152,670 d. 8,849; 139,208

13. During 20x4 Peterson Company experienced financial difficulties and is likely to default on a
P500,000, 15%, three-year note dated January 1, 20X2, payable to Forest National Bank. On December
31, 20X4, the bank agreed to settle the note and unpaid interest of P75,000 for 20X4 for P50,000 cash
and marketable securities with carrying amount of P375,000. Peterson's acquisition cost of the securities
is P385,000. What amount should Peterson report as a gain from the debt restructuring in its 20x4
income statement?

a. 65,000

b. 75,000

c. 140,000

d. 150,000

14. Wood Corp., a debtor undergoing financial difficulties granted an equity interest to a creditor in full
settlement of a P28,000 debt owed to the creditor. At the date of this transaction, the equity interest
had a fair value of P25,000 and par value of P20,000. What amount should Wood recognize as gain on
restructuring of debt?

a. 0

b. 3,000

c. 5,000

d. 8,000
15. In 20X2, May Corp. acquired land by paying P75,000 down and signing a note with a maturity value
of P1,000,000. On the note's due date, December 31, 20X7, May owed P40,000 of accrued interest and
P1,000,000 principal on the note. May was in financial difficulty and was unable to make any payments.
May and the bank agreed to amend the note as follows:

• The P40,000 of interest due on December 31, 20X7, was forgiven.

• The principal of the note was reduced from P1,000,000 to P950,000 and the maturity date extended 1
year to December 31, 20X8.

• May would be required to make one interest payment totaling P30,000 on December 31, 20X8.

• The original effective interest rate is 10% while the current market rate on December 31, 20X7 is 12%.

As a result of the troubled debt restructuring, May should report a gain before taxes, in its 20x7 income
statement of

a. 0

b. 165,000

c. 60,000

d. 149,092

PROBLEM 5: CLASSROOM ACTIVITY

You are the accountant of B-Cull co. on July 1, 20x1, company issued 1,000 pieces of the document
shown below with serial numbers SR/213-2 (shown below) to SR/213-1001 (not shown to save space).
The total issue price is P922,782, net of transaction costs.

Requirements:

a. Compute for the effective interest rate on the bond issued

b. Prepare the amortization table (you may round-off centavos)
c. Prepare the journal entries for 20x1 only.
d.

PROBLEM 6: FOR CLASSROOM DISCUSSION

Bonds issued at a discount — with Transaction costs

1. On January 1, 20x1, an entity issues bonds with face amount of P5,000,000 for P4,800,000. The bonds
mature on December 31, 20x3 and pay annual interest of 10% every December 31. The entity incurs
bond issue costs of P473,767. The interest rate adjusted for bond issue costs is 16%.

Requirements:

a. Compute for the initial carrying amount of the bonds.

b. Compute for net discount or a net premium (including the effect of the bond issue cost) from
the issuance on initial recognition.
 c. Are the periodic interest payments greater than or less than the periodic interest expenses?

d. Prepare all the journal entries during the term of the bonds.

Issuance of bonds between interest payment dates

2. On April 1, 20x1, an entity issues bonds with face amount of P5,000,000 for P5,415,183, including
accrued interest. The bonds are dated January 1, 20x1 and pay annual interest of 14% every December
31. The effective interest rate is 12%.

Requirements:

a. Compute for the initial carrying amount of the bonds.

b. Provide the entry on April 1, 20x1 to record the issuance of the bonds.

c. Compute for the interest expense in 20x1.

Issue price of bonds

3. On January 1, 20x1, Vale Co. issues 14%, 3-year, P5,000,000 bonds at a price that reflects a yield rate
of 8%.

Requirement: Compute for the issue price of the bonds.

Retirement of bonds prior to maturity

4. On January for 1, 20x1, an entity issues bonds with face amount of P5,000,000 for P5,773,129. The
bonds mature on face December 31, 20x3 and pay annual interest of 14%. The effective interest rate is
8%. On December 31, 20x2, after paying the annual interest, the entity retires the bonds at a call
premium of P400,000.

Requirement: Provide the entry on December 31, 20x2 to record the retirement of the bonds.

Convertible bonds — Conversion

5. On January 1, 20x1, an entity issues bonds with face amount of P5,000,000 for P5,200,000. The bonds
mature on December 31, 20x3 and pay annual interest of 12%. The bonds can be converted into 10,000
ordinary shares of the entity with par value per share of P200. On January 1, 20x1, the bonds are selling
at 101 without the conversion feature. The effective interest rate on the bonds is 11.59%. All of the
bonds are converted into ordinary shares on January 1, 20x3.

Requirement: Provide the entries to record the following:

a. issuance of the convertible bonds.

b. conversion of the bonds.
Convertible bonds — Retirement

6. Use the facts in the immediately preceding problem. However, in this case, the entity retires the
bonds on January 1, 20x3 at a call premium of P200,000. Without the conversion feature, the bonds are
selling on this date at 102.

Requirement: Provide the entry to record the retirement of the bonds.

Asset swap

7. On January 1, 20x1, an entity transfers a piece of equipment with historical cost of P1,800,000,
accumulated depreciation of P900,000 and fair value of P850,000 as full settlement of a note payable
with a carrying amount of P1.000.000. How much is the gain or loss on the derecognition of the note?

Equity swap

8. On January 1, 20x1, an entity issues 10,000 of its own shares with par value per share of P10 and fair
value per share of P75 as full settlement of a note payable with a carrying amount of P600,000. How
much is the gain or loss on the derecognition of the note?

Modification of terms

9. On December 31, 20x1, an entity enters into a restructuring agreement to modify the terms of its
existing loan as follows:

-The principal is reduced from P2,800,000 to P2,500,000.

-The lender waived the accrued interest of P400,000.

-The nominal rate is decreased from 14% to 9%.

-The maturity date is extended from December 31, 20x1 to January 1, 20x6.

The principal is due in lump sum at maturity date but interest is payable annually at each year-end. The
original effective interest rate is 14%. The prevailing rate on December 31, 20x1 is 12%.