Question

Mills Corporation acquired as a long-term investment $300 million of 7% bonds, dated July 1, on July 1, 2018. Mills determined that it should account for the bonds as an available-for-sale investment. The market interest rate (yield) was 5% for bonds of similar risk and maturity. Mills paid $340 million for the bonds. The company will receive interest semiannually on June 30 and December 31. As a result of changing market conditions, the fair value of the bonds at December 31, 2018, was $320 million. Required: 1. & 2. Prepare the journal entry to record Mills’ investment in the bonds on July 1, 2018 and interest on December 31, 2018, at the effective (market) rate. 3. At what amount will Mills report its investment in the December 31, 2018, balance sheet? 4. Suppose Moody’s bond rating agency upgraded the risk rating of the bonds, and Mills decided to sell the investment on January 2, 2019, for $352 million. Prepare the journal entries to record the sale. Record any reclassification adjustment. Record the sale of the investment by Mills.

Answer 1

Solution 1 & 2:

Journal Entries - Mills Corporation
Date	General Journal	Debit	Credit
1-Jul-18	Investment in Bonds	$300,000,000
	premium on bonds	$40,000,000
	To Cash		$340,000,000
	(To record investment in bonds)
31-Dec-18	Cash Dr ($300,000,000 * 7% * 6/12)	$10,500,000
	premium on bonds		$3,000,000
	Interest Revenue($280,000,000*5%*6/12)		$7,500,000
	(To record investment in revenue)

Solution 3:

Particulars	Amount	Amount
Investment in Bonds		$300,000,000
premium on bonds	$40,000,000
premium amortized
($300,000,000*3.5% - $340,000,000*2.5%	$2,000,000	$38,000,000
Book Value		$338,000,000

Therefore, Mills corporation will report its investment as $338,000,000 in Dec 31,2018 balance sheet

Solution 4:

Journal Entries - Mills Corporation
Date	General Journal	Debit	Credit
2-Jan-19	Cash Dr	$352,000,000
	Gain on sale of investment ($352,000,000-$38,000,000-$300,000,000)		$14,0000,000
	premium on bonds Payable		$38,000,000
	Investment in Bonds		$300,000,000

                   (To record the sale investment)