Question

Question 3 When would payments made to employees be considered to be an asset? I Question 4 On 1 July 2018 Michaela Ltd issues $4,000,000 in five-year debentures that pay interest each six months at a coupon rate of 10 per cent. At the time of issuing the securities, the market requires a rate of return of 8 per cent. Interest expense is determined using the effective-interest method. REQUIRED (a) Determine the issue price. (b) Provide the journal entries at: (i) 1 July 2018 (ii) 30 June 2019 (iii) 30 June 2020

Answer 1

Solution ;

1. The employer loan money to employee (loan receivable) or pay salary in advance to employees

(Prepaid expenses) can be considered to be an asset .

2. The interest payments of 10% are made each 6 months for 5 years . Therefore , treat

the debentures as offering a coupon rate of 5 % over 10 periods . And the market rate will

be calculated as 4% for 10 periods .

PV of principal = 4000,000 * 0.6755642 = 2702257

PV of annuity (4000,000 * 10% / 2)    =    200,000 * 8.1108957 = 1622179

Issue price = 2702257 + 1622179 = 4324436

Because the market price is less than the coupon rate of the debenture . The debentures

are issued at a premium .

b . 1 July 2018   Cash    a/c    dr          4324436

                                 To Debenture liability                4324436

     30 June 2019      Interest expense   a/c   dr    171897

                              Debenture liability a/c    dr     28103

                                    To Cash                                               200,000

                               (The 2nd 6-month period)

30 June 2020         Interest expense   a/c     dr       169603

                             Debenture liability   a/c    dr       30397

                                  To Cash                                        200,000

                            ( The fourth 6-month perid )

          To determine interest expense using effective - interest method

Period	Opening liability	Interest expense (at 4 %)	Cash payment	Reduction in liability	Closing liability
1	4324436	172977	200,000	27023	4297413
2	4297413	171897	200,000	28103	4269310
3	4269310	170772	200,000	29228	4240082
4	4240082	169603	200,000	30397	4209685
5	4209685	168387	200,000	31613	4178072
6	4178072	167123	200,000	32877	4145195
7	4145195	165808	200,000	34192	4111003
8	4111003	164440	200,000	35560	4075443
9	4075443	163018	200,000	36982	4038461
10	4038461	161538	200,000	38462	4076923