Question

On 1 July 2018 Charter Ltd issues through private placement $10 million in 5-year debentures that pay coupon interest on a yearly basis at a coupon rate of 10 percent per annum. At the time of issuing the securities, the market requires a rate of return of 12 percent per annum. Interest expense is determined using the effective interest method.

Required

1. Determine the issue price (show all workings). (2 Mark)
2. Provide the journal entries (show all workings) at:
   1. 1 July 2018. (1 mark)
   2. 30 June 2019. (1 mark)
   3. 30 June 2020. (1 mark)

Answer 1

Face value	$ 10.00
Coupon rate	10%
Coupon amount	$    1.00	10*10%
Year	Cashflow	PV factor @ 12%, 1/(1+12%)^t	Cashflow * PV factor
1	$    1.00	0.8929	$                      0.89
2	$    1.00	0.7972	$                      0.80
3	$    1.00	0.7118	$                      0.71
4	$    1.00	0.6355	$                      0.64
5	$    1.00	0.5674	$                      0.57
5	$ 10.00	0.5674	$                      5.67
		Total	$                      9.28
So issue amount will be $ 9.28 million.

1-Jul-18	Bank a/c             Dr	$     9.28
	Discount on bonds Dr	$     0.72
	To Debentures		$      10.00
	(Being debentures issued at discount)
30-Jun-19	Interest expense              Dr (9.28*12%)	$     1.11
	To Discount on bonds		$        0.11
	To Bank (10*10%)		$        1.00
	(Being debentures issued at discount)
30-Jun-20	Interest expense              Dr (9.28+1.11-1)*12%)	$     1.13
	To Discount on bonds		$        0.13
	To Bank (10*10%)		$        1.00
	(Being debentures issued at discount)