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```					Chapter 12
Long-Term LiabiLiTies

Learning ouTComes:

1    Describe the characteristics and types of bonds
2    Apply the concept of present value
3    Record bonds issued at par
4    Record bonds issued at discount
5    Record bonds issued at premium
6    Record the retirement of bonds
7    Calculate and understand debt-to-total-assets ratio
8    Calculate and understand debt-to-equity ratio
9    Apply controls related to long-term liabilities
10   Understand the ethics relating to long-term liabilities

Question 1 ( 2 , 4 )

On January 1, 2009, Metro Inc. issued a 5-year bond with a par value of \$700,000. The bond
bears an interest rate of 6% per annum, with the interest paid semi-annually. On January 1,
2009, the market interest rate was 8%.

required:

Part a: Calculate the amount of a bond discount or a bond premium.

Present value of the principal
(\$700,000 x .676)                             \$473,200
Present value of future interest payments
(\$21,000 x 8.111)                              170,331
Total Price                                       643,531
Face Value                                        700,000
Discount                                           56,469

171
Chapter 12 Exercises                                                                Long-Term Liabilities

Part b: Prepare the journal entry to record the sale of bond.

DaTe                             DesCriPTion           Dr             Cr
Jan 01       Cash                                      643,531
Discount on Bonds                         56,469
Bonds Payable                                         700,000
To record bond issuance at a discount

Question 2 ( 2 )

On April 1, 2010, Dixon Company issued \$300,000 worth of bonds, with the interest rate of
12% per annum. The bonds will mature on March 31, 2017. Interest will be paid semi-annually
on September 30 and March 31. The company has a December 31 year-end.

required: Calculate the accrued interest payable on December 31, 2011.

Accrued interest payable from October 1, 2011 to
December 31, 2011 ( \$300,000 x 12% x 3/12)                   \$9,000

Question 3 ( 2 , 5 )

On July 1, 2009, Marky Corporation issued \$1,500,000 worth of bonds with 9% interest
rate. Interest is payable semi-annually on June 30 and December 31. The bonds mature on
June 30, 2016. At the time of the bond issuance, market interest rate was 8%. Any discount
or premium resulting from the sale of the bonds will be amortized using the straight-line
amortization method.

required:

Part a: Calculate the total price of the bonds on the issue date and determine the amount of
a bond discount or a bond premium.

Present value of the principal
(\$1,500,000 x .577)                           \$865,500
Present value of future interest payments
(\$67,500 x 10.563)                               713,003
Total Price                                   1,578,503
Face Value                                     1,500,000

172
Long-Term Liabilities                                                                         Chapter 12 Exercises

Part b: Prepare a journal entry to record the issuance of the bond and the first interest payment.

DaTe                            DesCriPTion                     Dr              Cr
Jul 01       Cash                                              1,578,503
Bonds Payable                                                 1,500,000
To record bond issuance at a premium

Dec 31       Interest expense                                    61,893
Cash                                                             67,500
To record first payment of interest and

Part C: Prepare the journal entry required on September 30, 2010, which is the company’s year-end.

DaTe                            DesCriPTion                     Dr              Cr
Sep 30       Interest expense                                    30,946
Interest Payable                                                33,750
To record the interest accrued on bonds payable

Part D: Prepare the journal entry required on December 31, 2010.

DaTe                            DesCriPTion                     Dr              Cr
Dec 30       Interest expense                                    30,946
Interest Payable                                    33,750
Cash                                                             67,500
To record third payment of interest and

Question 4 ( 2 )

Refer to question 3. Calculate the book value (carrying amount) of bonds payable at
December 31, 2011.

Bonds Payable                                           \$1,500,000
(78,503 - (5,607 x 5))                                    50,466
book value or carrying amount                           1,550,466

173
Chapter 12 Exercises                                                              Long-Term Liabilities

Question 5 ( 2 , 5 )

On July 1, 2011, Dilly Company received \$516,440 cash for the sale of a 10-year bond with the
face value of \$500,000. The bond bears an interest rate of 12%, to be paid semi-annually. At
the time of the sale, the market interest rate was 10%.

required: Prepare a journal entry to record the issuance of bond.

DaTe                           DesCriPTion           Dr             Cr
Jul 01       Cash                                    516,440
Bonds Payable                                       500,000
To record bond issuance at a premium

Question 6 ( 4 , 5 )

On May 1, 2010, Ezzy Company issued a 6-year bond worth \$400,000 with an interest rate of
8% per annum. Interest is to be paid semi-annually on October 31 and April 30. At the time
of the issuance, the market interest rate was 6%. Ezzy Company amortizes any premium or
discount using the straight-line method.

required: Calculate the bond issue price and the resulting premium or discount.

Present value of the principal
(\$400,000 x .743)                           \$297,200
Present value of future interest payments
(\$16,000 x 9.954)                              159,264
Total issue Price                             456,464
Face Value                                       400,000

Question 7 ( 5 , 6 )

Refer to question 6. Prepare journal entries to record the following bonds payable
transactions:

a. Issuance of bonds on May 1, 2010.
b. Payment of interest and amortization of premium on October 31, 2010.
c. Accrual of interest and amortization of premium on December 31, 2010, which is the
company’s year-end.
d. Payment of interest and amortization of premium on April 30, 2011.
e. Redemption of the bond at fair value on May 1, 2015 (1 year before maturity).
174
Long-Term Liabilities                                                                       Chapter 12 Exercises

DaTe                        DesCriPTion                           Dr         Cr
May 01    Cash                                                    456,464
Bonds Payable                                                    400,000
To record bond issuance at a premium

Oct 31   Interest expense                                           11,295
Cash                                                              16,000
To record first payment of interest and

Dec 31   Interest expense                                           3,765
Interest Payable                                                   5,333
To record the interest accrued on bonds payable

Apr 30   Interest expense                                            7,530
Interest Payable                                           5,333
Cash                                                              16,000
To record the payment of interest and

May 01    Bonds Payable                                           400,000
Cash                                                             409,411
Redemption of bond at fair value

Question 8 ( 3 , 4 , 5 )

A company issued \$1,200,000 worth of 15-year bonds with a 3% interest rate. Interest is to be
paid annually.

required: Calculate the bond issue price under each market interest rate:

market interest rate               bond Price
2%                          \$1,354,164
3%                          \$1,200,000
4%                          \$1,066,248

175
Chapter 12 Exercises                                                              Long-Term Liabilities

market interest rate - 2%
Present value of the principal
(\$1,200,000 x .743)                           \$891,600
Present value of future interest payments
(\$36,000 x 12.849)                               462,564
Total issue Price                             1,354,164
Face Value                                     1,200,000

market interest rate - 3%
Face value equals issue price                 1,200,000

market interest rate - 4%
Present value of the principal
(\$1,200,000 x .555)                              666,000
Present value of future interest payments
(\$36,000 x 11.118)                               400,248
Total issue Price                             1,066,248
Face Value                                     1,200,000
Discount                                           133,752

Question 9 ( 2 , 3 , 4 , 5 )

Refer to question 8. For each market condition, prepare a journal entry to record the bond
issuance.

market interest rate - 2%
DaTe                           DesCriPTion           Dr               Cr
Cash                                    1,354,164
Bonds Payable                                         1,200,000
To record bond issuance at a premium

market interest rate - 3%
DaTe                           DesCriPTion           Dr               Cr
Cash                                    1,200,000
Bonds Payable                                         1,200,000
To record bond issuance at par

176
Long-Term Liabilities                                                                   Chapter 12 Exercises

market interest rate - 4%
DaTe                            DesCriPTion              Dr               Cr
Cash                                      1,066,248
Discount on Bonds                           133,752
Bonds Payable                                           1,200,000
To record bond issuance at a discount

Question 10 ( 4 , 6 )

On January 1, 2009, Town Company issued a 7-year bond with a face value of \$1,000,000. The
bond bears an interest rate of 10% per annum, with interest payments made semi-annually on
June 30 and December 31. The market interest rate was 12% when the bond was issued. Town
Company uses the straight-line method of amortizing bond premiums and discounts.

required:

Part a: Calculate the book value (carrying amount) of bonds at December 31, 2009.

Issued Price                                      \$906,750
Less: Discount on bonds
(\$93,250 ÷ 7)                                       13,321
Carrying amount - 12/31/10                           920,071

Part b: Prepare the journal entry required on December 31, 2009.

DaTe                            DesCriPTion              Dr               Cr
Dec 31       Interest Expense                            56,661
Discount on Bonds                                           6,661
Cash                                                      50,000
To record interest payment and discount
amortization

Question 11 ( 2 , 6 )

Refer to question 10. Assume that Town Company has redeemed its bonds payable at fair
value on January 1, 2014. Prepare a journal entry to record the redemption.

DaTe                            DesCriPTion              Dr               Cr
Jan 01       Bonds Payable                             1,000,000
Discount on Bonds                                         26,645
Cash                                                     973,355
Redemption of bond at fair value

177
Chapter 12 Exercises                                                           Long-Term Liabilities

Question 12 ( 2 , 3 )

On June 1, 2010, Webb Company issued a 15-year bond with 9% interest rate and a face
value of \$900,000. Interest is payable on every November 30 and May 31. The company has a
December 31 year-end. Prepare a journal entry to record bond issuance on June 1, 2010.

DaTe                        DesCriPTion           Dr             Cr
Jun 01   Cash                                     900,000
Bonds Payable                                        900,000
To record bond issuance at par

Question 13 ( 2 , 3 )

Refer to question 12. Prepare journal entries required on November 30, December 31, 2010
and May 31, 2011.

DaTe                        DesCriPTion           Dr             Cr
Nov 30   Interest Expense                          40,500
Cash                                                   40,500
To record interest payment

Dec 31   Interest Expense                           6,750
Interest Payable                                        6,750
To record accrued interest on bond

May 31   Interest Expense                          33,750
Interest Payable                           6,750
Cash                                                   40,500
To record interest payment

Question 14 ( 7 )

The balance sheet of Benevolent Company is presented below:

178
Long-Term Liabilities                                                                       Chapter 12 Exercises

benevolent Company
balance sheet
December 31, 2011

2011              2010
Cash                                                        \$106,000           \$82,000
Accounts Receivable                                          566,000           444,000
Inventories                                                  320,000           300,000
Total Current Assets                                         992,000           826,000
Property and equipment,Net of Depreciation                   740,000           550,000
Patents                                                       26,000            26,000
Other Intangible Assets                                       14,000                14,000
Total assets                                              \$1,772,000        \$1,416,000

Accounts Payable                                            \$170,000          \$100,000
Income Tax Payable                                            32,000            20,000
Miscellaneous Accrued Payables                                38,000            44,000
Total Current Liabilities                                    240,000           164,000
Bonds Payable - 4% due 2013                                  300,000           300,000
Total Liabilities                                            540,000           464,000
Stockholders' Equity
Contributed Capital                                          400,000           400,000
Paid-in Capital                                              112,000            112,000
Retained Earnings                                            720,000           440,000
Total Stockholders' Equity                                 1,232,000           952,000

Total Liabilities and stockholders' equity                \$1,772,000        \$1,416,000

required:

Part a: Calculate the debt-to-total assets ratio.

Total Liabilities
Debt-to-Total Assets   =
Total Assets

2011                      2010
Total Liabilities                      \$540,000                  \$464,000
Total Assets                          \$1,772,000                \$1,416,000
=                                          0.30                      0.33

179
Chapter 12 Exercises                                                                Long-Term Liabilities

Part b: In which year does the company have a better debt-to-total assets ratio?

Debt-to-total-assets ratio measures how much of a company’s assets are financed through debt.
The higher the ratio, the greater the difficulty a company will have in repaying its creditors. Since
the company has a lower ratio in 2011, its performance has improved from last year.

Question 15 ( 2 , 5 )

On January 1, 2011, Bull Corporation issued bonds with the face value of \$500,000. The bonds
offer an interest rate of 7% per annum and will mature on December 31, 2019. At the time
of the bond issuance, market interest rate was 6%. Bull Corporation uses the straight-line
method of amortizing premiums and discounts. Interest is payable annually on December 31,
2011.

required:

Part a: Calculate the unamortized portion of premium on bonds as at December 31, 2011.

Issue Price                                            \$534,070
Face value                                              500,000
Premium on Bonds - January 1, 2011                       34,070
Less: Annual Amortization
\$34,070 ÷ 9 years                                        3,786
Premium on Bonds - December 31, 2011                    \$30,284

Part b: Calculate the book value (carrying amount) of bonds payable as at December 31,
2011.

Bonds Payable                                          \$500,000
Carrying Amount or Book Value                         \$530,284

180

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