Question

Smiley Corporation wholesales repair products to equipment manufacturers. On April 1, 20Y1, Smiley issued $20,000,000 of five-year, 9% bonds at a market (effective) interest rate of 8%, receiving cash of $20,811,010. Interest is payable semiannually on April 1 and October 1. Required: a. Journalize the entries to record the following. Refer to the Chart of Accounts for exact wording of account titles. 1. Issuance of bonds on April 1, 20Y1. 2. First interest payment on October 1, 20Y1, and amortization of bond premium for six months, using the straight-line method. (Round to the nearest dollar.) b. Explain why the company was able to issue the bonds for $20,811,010 rather than for the face amount of $20,000,000.

CHART OF ACCOUNTSSmiley CorporationGeneral Ledger

	ASSETS
110	Cash
111	Petty Cash
121	Accounts Receivable
122	Allowance for Doubtful Accounts
126	Interest Receivable
127	Notes Receivable
131	Merchandise Inventory
141	Office Supplies
142	Store Supplies
151	Prepaid Insurance
191	Land
192	Store Equipment
193	Accumulated Depreciation-Store Equipment
194	Office Equipment
195	Accumulated Depreciation-Office Equipment

	LIABILITIES
210	Accounts Payable
221	Salaries Payable
231	Sales Tax Payable
232	Interest Payable
241	Notes Payable
251	Bonds Payable
252	Discount on Bonds Payable
253	Premium on Bonds Payable

	EQUITY
311	Common Stock
312	Paid-In Capital in Excess of Par-Common Stock
315	Treasury Stock
321	Preferred Stock
322	Paid-In Capital in Excess of Par-Preferred Stock
331	Paid-In Capital from Sale of Treasury Stock
340	Retained Earnings
351	Cash Dividends
352	Stock Dividends

	REVENUE
410	Sales
610	Interest Revenue
611	Gain on Redemption of Bonds

	EXPENSES
510	Cost of Merchandise Sold
515	Credit Card Expense
516	Cash Short and Over
521	Sales Salaries Expense
522	Office Salaries Expense
531	Advertising Expense
532	Delivery Expense
533	Repairs Expense
534	Selling Expenses
535	Rent Expense
536	Insurance Expense
537	Office Supplies Expense
538	Store Supplies Expense
541	Bad Debt Expense
561	Depreciation Expense-Store Equipment
562	Depreciation Expense-Office Equipment
590	Miscellaneous Expense
710	Interest Expense
711	Loss on Redemption of Bonds

. Journalize the entries. Refer to the Chart of Accounts for exact wording of account titles.

PAGE 10

JOURNAL

ACCOUNTING EQUATION

	DATE	DESCRIPTION	POST. REF.	DEBIT	CREDIT	ASSETS	LIABILITIES	EQUITY
1
2
3
4
5
6

b. Explain why the company was able to issue the bonds for $20,811,010 rather than for the face amount of $20,000,000.

The bonds sell for more than their face amount because the market rate of interest is ( the same as, less than, or greater than ) the contract rate of interest. Investors ( are not or are ) willing to pay more for bonds that pay a higher rate of interest (contract rate) than the rate they could earn on similar bonds (market rate).

Answer 1

a. Journalize the entries to record the following:

1.

Apr.	1	Cash	20,811,010
		Premium on Bonds Payable		811,010
		Bonds Payable		20,000,000

2.

Oct.	1	Interest Expense	818,899
		Premium on Bonds Payable*	81,101
		Cash**		900,000

* $811,010 ¸ 10 semiannual payments

** $20,000,000 x 9% x 6/12

b.     

The bonds sell for more than their face amount because the market rate of interest is less than the contract rate of interest. Investors are willing to pay more for bonds that pay a higher rate of interest (contract rate) than the rate they could earn on similar bonds (market rate).