Question

At the beginning of 2018, VHF Industries acquired a equipment with a fair value of $7,209,560 by issuing a five-year, noninterest-bearing note in the face amount of $10 million. The note is payable in five annual installments of $2 million at the end of each year. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.)

Required:

1. What is the effective rate of interest implicit in the agreement?
2. to 4. Prepare the necessary journal entry.
5. Suppose the market value of the equipment was unknown at the time of purchase, but the market rate of interest for notes of similar risk was 11%. Prepare the journal entry to record the purchase of the equipment.

Required1:

What is the effective rate of interest implicit in the agreement?

nterest rate? __________?

Required2-4:

Prepare the necessary journal entry. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in whole dollar.)

a) 01/01/2018 Record the purchase of the equipment.

b) 12/31/2018 Record the interest expense.

c) 12/31/2019 Record the interest expense.

Required 5:

Suppose the market value of the equipment was unknown at the time of purchase, but the market rate of interest for notes of similar risk was 9%. Prepare the journal entry to record the purchase of the equipment. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Enter your answers in whole dolla

a) 01/01/2018 Record the purchase of equipment.

Answer 1

Answer 1.
PV = Annuity X Factor
$7,209,560 = $2,000,000 X Factor
Factor = 3.60478
Use the Tables for PV of Annuity, which corresponds to 5 payments is:
Effective Rate of Interest = 12%
Answer 2-4.
Journal Entry
Date	Particulars	Dr. Amt.	Cr. Amt.
1-Jan-18	Equipment	7,209,560
	Discount on issue of Bonds	2,790,440
	Notes Payable		10,000,000
	(Record the purchase of equipment)
31-Dec-18	Discount on Issue of Bonds	865,147		$7,209,560 X 12%
	Notes Payable	1,134,853		$2,000,000 - $865,147
	Cash		2,000,000
	(record the installment paid)
31-Dec-18	Discount on Issue of Bonds	728,965		($7,209,560 - $1,134,853) X 12%
	Notes Payable	1,271,035		$2,000,000 - $865,147
	Cash		2,000,000
	(record the installment paid)
Answer 5.
Market Rate of Note - 11%
PV of Annuity = $2,000,000 X 3.6959 (Annuity at 11%)
PV of Annuity = $7,391,800
Journal Entry
Date	Particulars	Dr. Amt.	Cr. Amt.
1-Jan-18	Equipment	7,391,800
	Discount on issue of Bonds	2,608,200
	Notes Payable		10,000,000
	(Record the purchase of equipment)
Answer 5-b
Market Rate of Note - 9%
PV of Annuity = $2,000,000 X 3.8897 (Annuity at 9%)
PV of Annuity = $7,779,400
Journal Entry
Date	Particulars	Dr. Amt.	Cr. Amt.
1-Jan-18	Equipment	7,779,400
	Discount on issue of Bonds	2,220,600
	Notes Payable		10,000,000
	(Record the purchase of equipment)