On January 1, 2009, Roller Coaster Extreme Corporation Issue

On January 1 2009 Roller Coaster Extreme Corporation Issued 400000

On January 1, 2009, Roller Coaster Extreme Corporation issued $4,000,000 of 10-year, 3% convertible bonds at 102. Interest is paid semiannually on June 30 and December 31 each year. Each $1,000 bond can be converted into 12 shares of $20 par value common stock after December 31, 2011. On January 1, 2012, $1,200,000 of bonds are converted into common stock. An additional $840,000 of bonds are converted into common stock on June 1, 2012. At the time of conversion, any accrued interest on bonds being converted is paid in cash. Bond premium is amortized on a straight-line basis. Prepare journal entries for each of the following dates: a. December 31, 2011, including closing entries for the year; b. January 1, 2012; c. June 1, 2012; d. June 30, 2012; e. December 31, 2012, including closing entries for the year.

Paper For Above instruction

Introduction

Convertible bonds are hybrid securities that function both as debt and potential equity. When a company like Roller Coaster Extreme Corporation issues convertible bonds, it must account for these instruments accurately, recognizing bond issuance, amortization of premium, interest payments, conversions, and the associated impact on equity. This paper presents a comprehensive analysis of the journal entries associated with the issuance of bonds, their amortization, interest payments, conversions, and related closing entries over a period spanning from issuance through subsequent bond conversions.

Bond Issuance on January 1, 2009

On January 1, 2009, Roller Coaster Extreme issued bonds with a face value of $4,000,000 at 102, reflecting a premium of 2% or $80,000 (since 102% of $4,000,000 = $4,080,000). The journal entry reflects the cash received, the bond payable at face value, and the premium:

Debit Cash: $4,080,000
Credit Bonds Payable: $4,000,000
Credit Premium on Bonds Payable: $80,000

The premium is amortized straight-line over 10 years (120 months), resulting in annual amortization:

Premium amortization per year = $80,000 / 10 = $8,000.

Interest Payments and Premium Amortization for 2011

December 31, 2011 - Year-end Closing Entries

Interest expense for each semiannual period involves recognizing the amortized premium and accrued interest. The semiannual interest on the bonds based on face value:

Interest payment = $4,000,000 x 3% / 2 = $60,000.

Since the bond premium is amortized straight-line over 10 years, each period amortizes $8,000 / 2 = $4,000.

The journal entry on December 31, 2011, to recognize interest paid and premium amortized:

Debit Interest Expense: $56,000
Debit Premium on Bonds Payable: $4,000
Credit Cash: $60,000

Here, the interest expense is the interest paid minus the amortized premium.

Conversion on January 1, 2012

On January 1, 2012, bonds worth $1,200,000 are converted. The bonds being converted accrue interest up to date (since last interest payment on December 31, 2011). The accrued interest:

Interest accrued = $1,200,000 x 3% x 1/2 year = $18,000.

Interest is paid in cash by the company:

Debit Interest Expense: $18,000
Credit Cash: $18,000

The bonds are converted into equity. Each $1,000 bond converts into 12 shares (par value $20). So, total shares issued:

Shares = ($1,200,000 / $1,000) x 12 = 14,400 shares.

Total amount of bonds converted:

Bond principal: $1,200,000
Less: proportion of premium amortized for that amount: $1,200,000 / $4,000,000 x $80,000 = $24,000

Book value of bonds converted:

Face value: $1,200,000
Plus: proportional premium = $24,000
Book value of bonds = $1,224,000

Journal entry to record bond conversion on January 1, 2012:

Debit Bonds Payable: $1,200,000
Debit Premium on Bonds Payable: $24,000
Credit Cash (interest paid): $18,000
Credit Gain on Bond Conversion (or recognize equity): balancing figure
Credit Common Stock: (14,400 shares x $20 par) = $288,000
Credit Additional Paid-in Capital: balancing figure

Since the bonds are convertible into equity, the difference between book value and par may be adjusted via paid-in capital or gain/loss accounts according to accounting standards.

Conversion on June 1, 2012

Similarly, on June 1, 2012, bonds worth $840,000 are converted. Accrued interest:

Interest accrued = $840,000 x 3% x 0.5 year = $12,600.

Interest paid in cash:

Debit Interest Expense: $12,600
Credit Cash: $12,600

Number of bonds:

($840,000 / $1,000) = 840 bonds
Shares per bond: 12
Total shares issued: 10,080 shares

Book value of bonds converted:

Face value: $840,000
Proportional premium: $840,000 / $4,000,000 x $80,000 = $16,800
Total book value: $856,800

Debit Bonds Payable: $840,000
Debit Premium on Bonds Payable: $16,800
Credit Cash (interest paid): $12,600
Credit Common Stock: (10,080 x $20) = $201,600
Credit Additional Paid-in Capital: balancing figure

Interest Payment on June 30, 2012

Interest expense:

Interest = $4,000,000 x 3% / 2 = $60,000 per semiannual period.

Journal entry:

Debit Interest Expense: $56,000
Debit Premium on Bonds Payable: $4,000
Credit Cash: $60,000

Year-End Closing on December 31, 2012

At year-end, the company recognizes the interest expense for the second half of 2012:

Interest = $4,000,000 x 3% / 2 = $60,000.

Interest expense and premium amortization:

Debit Interest Expense: $56,000
Debit Premium on Bonds Payable: $4,000
Credit Cash: $60,000

Closing entries would include closing nominal accounts to retention earning accounts, which is standard for preparing financial statements following accrual accounting principles.

Conclusion

This detailed examination of journal entries related to the issuance, amortization, interest payments, and conversions of convertible bonds demonstrates the complexities in accounting for these financial instruments. Proper recognition and measurement are crucial for accurate financial reporting, especially considering the conversion features that can significantly affect a company's equity structure.

References

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