Question

PROBLEM #1: Bonds payable FACTS: Number of bonds Par value of each bond Stated interest rate Issue date Due date Call % Called on 1,000 Effective interest rate 1,000 Interest Paid Per Year 4% Payment dates 1/11/20X2 12/31/20X6 Years to maturity 101% 1/1/X6 January 1st July 1st 5 Additional Facts: Bonds called on Called at Years after issue 1/1/20X6 101% Additional Facts: Bonds called on Called at Years after issue 1/1/20X6 101% USE STRAIGHT LINE AMORTIZATION FOR THE GAIN OR LOSS CALCULATIONS.

Answer 1

Step 1 Calculation of issue price of bond Face Value ($1000 x 1000] Stated Rate Coupon Payment Market Rate Maturity Period $10,00,000 4.00% Semiannually 6.00% ET Step 2 The effective interest rate is also called as market rate. It is the investor's yield maturity. When the effective interest rate is higher/lower as compared bond coupon rate then, the bonds were issued at a discount/premium. The Discount/premium is then amortised over the period of bond by using effective interest rate method. Under this method, interest expense is derived by multiplying the bond carrying value with the effective interest rate applicable when the bonds were issued. The difference between the interest expense and actual interest paid is the discount/(premium) which will be amortised. Interest Expense (C) = (A) x 3% Coupon payment frequency Coupon Rate consider for calculation 2.00% [4%/2] Coupon Payment $20,000 ($ 1000000 x 2%] Market Rate Consider for Calculation 3.00% [6%/2] Period 10 (10 x 2] Present Value of Coupon Payments Present Value of Annuity of $1 period 10 8.5302 Present Value of Coupon Payments (A) $1,70,604 [$20000 x 8.5302] Present Value of Maturity Value Present Value of $1 period 10 0.74409 Present Value of Maturity Value (B) $7,44,090 ($1000000 x 0.74409] Present Value of Bond = Present Value of| Coupon Payment + Present Value of Maturity Present Value of Bond [(A) + (B)] $9,14,694 Amortisation schedule (Effective Interest Method) Opening book Cash Date Balance Payment (A) (B) Jan 1, 20x2 July 1,20x2 $9,14,694 $20,000 Jan 1, 20x3 $9,22,135 $20,000 July 1,20x3 $9,29,799 $20,000 Jan 1, 20x4 $9,37,693 $20,000 July 1,20x4 $9,45,824 $20,000 Jan 1, 20x5 $9,54,199 $20,000 July 1,20x5 $9,62,825 $20,000 Jan 1, 20x6 $9,71,710 $20,000 July 1,20x6 $9,80,861 $20,000 Dec 31,20x6 $9,90,287 $20,000 $27,441 $27,664 $27,894 $28,131 $28,375 $28,626 $28,885 $29,151 $29,426 $29,713 Amortisation Closing Book of Discount Value (D) = (C)-(B) (A)+(C)-(B) $9,14,694 $7,441 $9,22,135 $7,664 $9,29,799 $7,894 $9,37,693 $8,131 $9,45,824 $8,375 $9,54,199 $8,626 $9,62,825 $8,885 $9,71,710 $9,151 $9,80,861 $9,426 $9,90,287 $9,713 $10,00,000 $7,894 Ans Amortisation of discount at the third interest payment date is using Effective interest method Issue price of the Bond $9,14,694

Step 2 In straight line amortization, the premium received or discount given on issue of bond is amortized over the bond period maturity on straight line basis. Formula is (Discount / Premium Amount) divided by bond period. Discount ($1000000-$914694] $85,306 Amortisation per period ($85306/10] $8,531 Cash Amortisation of Discount (C) Interest Expense (D) = (B) + (C) Amortisation schedule ( Straight Line Method) Date Opening book Balance Payment (A) (B) Jan 1, 20x2 July 1,20x2 $9,14,694 $20,000 Jan 1, 20x3 $9,23,225 $20,000 July 1,20x3 $9,31,756 $20,000 Jan 1, 20x4 $9,40,287 $20,000 July 1,20x4 $9,48,818 $20,000 Jan 1, 20x5 $9,57,349 $20,000 July 1,20x5 $9,65,880 $20,000 Jan 1, 20x6 $9,74,411 $20,000 July 1,20x6 $9,82,942 $20,000 Dec 31,20x6 $9,91,473 $20,000 $8,531 $8,531 $8,531 $8,531 $8,531 $8,531 $8,531 $8,531 $8,531 $8,527 $28,531 $28,531 $28,531 $28,531 $28,531 $28,531 $28,531 $28,531 $28,531 $28,527 Closing Book Value (A)+(D)-(B) $9,14,694 $9,23,225 $9,31,756 $9,40,287 $9,48,818 $9,57,349 $9,65,880 $9,74,411 $9,82,942 $9,91,473 $10,00,000 $8,531 Amortisation of discount at the third interest payment date is using Straight Line method