Question

Mills Corporation acquired as a long-term investment $220 million of 6% bonds, dated July 1, on July 1, 2018. Company management has positive intent and ability to hold the bonds until maturity. The market interest rate (yield) was 4% for bonds of similar risk and maturity. Mills paid $270.0 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 $250.0 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?

- Investment ____ Million

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 $280 million. Prepare the journal entry to record the sale.

Answer 1

1 & 2) Mills Corporation

Journal Entries (Amounts in Million $)

Date	General Journal	Debit	Credit
July 1, 2018	Investment in bonds	220.0
	Premium on bonds investment	50.0
	Cash		270.0
	(To record the investment in bonds)
Dec 31, 2018	Cash (220*6%*6/12)	6.6
	Premium on bonds investment (6.6-5.4)		1.2
	Interest Revenue (270*4%*6/12)		5.4
	(To record the interest revenue)

3) The investment will be reported at its fair value on Dec 31, 2018 (i.e. $250 million). Journal entry to adjust the investments to its fair value is shown as follows:-

        Journal Entries (Amounts in Million $)

Date	General Journal	Debit	Credit
Dec 31, 2018	Unrealized Holding Loss-NI	18.8
	Fair Value Adjustment		18.8

Current Book Value of Investments = $220.0 million+($50 - $1.2)= $268.8 million

Amount to be debited to unrealized loss on investments = $268.8 million - $250.0 million = $18.8 million

4) Journal Entries (Amounts in Million $)

Date	General Journal	Debit	Credit
Jan 2, 2019	Fair Value Adjustment	30.0
	Unrealized Holding Gain-NI (280-250)		30.0
	(To recognized increase in fair value from 250 million to 280 million)
Jan 2, 2019	Cash	280.0
	Premium on bonds investment (50.0-1.2)		48.8
	Investment in bonds		220.0
	Fair Value Adjustment (30-18.8)		11.2
	(To record the sale of investments)

Fair Value Adjustment is debited for $30 million and credited for $18.8 million, therefore net effect of $11.2 million is credited on sale of bonds.