Question

Assume that the following are independent situations recently reported in the Wall Street Journal.

1. General Electric (GE) 7% bonds (interest payable annually on January 1), maturing January 1, 2030, were issued at 112 on January 1, 2010.

2. Sears 7% bonds (interest payable annually on December 31), maturing January 1, 2028 were issued at 90 on January 1, 2018. Instructions

(a) Were GE and Sears bonds issued at a premium or a discount?

(b) Explain how bonds, both paying the same contractual interest rate, could be issued at different prices.

(c) Prepare the journal entry to record the issue of each of these two bonds, assuming each company issued $500,000 of bonds in total.

(d) Prepare the adjusting entries to record the accrued interest and the amortization of the premium on the bonds for GE, on December 31, 2010 using straight-line amortization.

(e) Prepare the entries to record the interest payment and the amortization of the discount on the bonds for Sears, on December 31, 2018 using straight-line amortization.

Answer 1

Answer a]

General Electric (GE) 7% bonds (interest payable annually on January 1), maturing January 1, 2030, were issued at 112 on January 1, 2010.

Ans : It is issued at Premium of 12%

Sears 7% bonds (interest payable annually on December 31), maturing January 1, 2028 were issued at 90 on January 1, 2018. Instructions

Ans : It is issued at Discount of 10%

  

Answer b]

Both the bonds are having same face value and interest rate but are issued at different prices because the selling price of the bonds depends on market rate of interest which depends on market conditions. The market rate of interest [ and not rate of interest rate of bonds which is same 7%] must have been different at the time of issue.First is issued on 1Jan 2010 and second on 1 Jan 2018.

Answer c] Prepare the journal entry to record the issue of each of these two bonds, assuming each company issued $500,000 of bonds in total.

Journal Entries in the books of General Electric

Date	Particulars	P Ref	Dr $	Cr $
1 Jan 201 0	Cash A/c - Dr	$500000x112%	560,000
	To Bonds Payable			500,000
	To Premium on Bonds Payable			60,000
	[For issue of 5000 bonds of $100 each at 12% premium]

Journal Entries in the books of Sears

Date	Particulars	P Ref	Dr $	Cr $
1 Jan 201 8	Cash A/c - Dr	$500000x90%	450,000
	Discount on Bonds Payable		50,000
	To Bonds Payable			500,000
	[For issue of 5000 bonds of $100 each at 10% discount]

Answer d]

Journal Entries in the books of General Electric

Date	Particulars	P Ref	Dr $	Cr $
31 Dec 201 0	Interest A/c - Dr	$500000x7%	35,000
	To Interest Payable			35,000
	[For recording of interest payable onb bonds at 7% p.a]

31 Dec 2010	Premium on Bonds Payable -Dr	60,000/20	3000
	To Profit & Loss A/c			3000
	[For amortisation of premium for the year]

31 Dec 2010	Profit & Loss A/c - Dr		35000
	To Interest A/c			35000
	[For transfer of interest for the year ]

Answer e]

Date	Particulars	P Ref	Dr $	Cr $
31 Dec 201 0	Interest A/c - Dr		40,000
	To Bonds Payable	50,000/(10x12)x12		5,000
	To Interest Payable	$500000x7%		35,000
	[For recording of interest payable onb bonds at 7% p.a and premium amortiesed]

31 Dec 2010	Profit & Loss A/c - Dr		40000
	To Interest A/c			40000
	[For transfer of interest for the year ]