Question

ABC Ltd is an Australian company issued $10 million convertible notes on 1 July 2019 that carry a nominal interest (coupon) rate of 5% per annum. They are redeemable on 30 June 2022 for cash or can be exchanged for ordinary shares in ABC Ltd on the basis of 20 shares for each $100 of note. The prevailing market interest rate for the notes without conversion options are 8%.

When preparing the draft financial statements for the year ended 30 June 2020, the directors are proposing to show the convertible note within equity in the statement of financial position, as they believe all the convertible note holders will choose the equity option when the convertible note is due for redemption. They further intend to charge a finance cost of $500,000 ($10 million x 5%) in the income statement for each year up to the date of redemption.

Required

Prepare extracts to show how the convertible notes and the finance charge should be treated by ABC Ltd in its financial statements for the year ended 30 June 2020. Show your workings.

Using Australian Accounting System - AASB

Answer 1

AASB-132--Financial instruments presentation

Paragraph 28 under the above heading,

requires the measurement of the liability component in present value terms , at the prevailing market interest rates, as for a non-convertible bond

& the equity component , if in case, the holder of the bond , opts for shares instead of cash.

& presented accordingly, on the liabilities side of the balance sheet.

Also, the financial charges are to be accounted in all the income statements , as long as the bonds are not converted.

Accordingly, the following caculations have been done:

Present value of the principal –$ 10000000,payable at the end of three years (10000000/1.08^3)	7938322
Add: Present value of the 3 yrs.' annual Finance charge (10000000*5%= $ 500000)--	1288548
Total Liability component	9226871
So, Equity component (Bal.fig.)	773129
Proceeds of the bond issue	10000000

so, ABC will present as follows in its June30, 2020 Balance Sheet

Long-term liabilities
Bonds payable	9226871
Stockholders' equity
Equity shares	773129