On January 1, 2018, Essence Communications issued $610,000 of its 10-year, 6% bo

Question

On January 1, 2018, Essence Communications issued $610,000 of its 10-year, 6% bonds for $457,961. The bonds were priced to yield 10%. Interest is payable semiannually on June 30 and December 31. Essence Communications records interest at the effective rate and elected the option to report these bonds at their fair value. On December 31, 2018, the market interest rate for bonds of similar risk and maturity was 9%. The bonds are not traded on an active exchange. The increase in the market interest rate was due to a 1% increase in general (risk-free)interest rates. (FV of $1, PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1) (Use appropriate factor(s) from the tables provided.) Required: 1. Using the information provided, estimate the fair value of the bonds at December 31, 2018. 2. to 4. Prepare the journal entry to record interest on June 30, 2018 (the first interest payment), on December 31, 2018 (the second interest payment) and to adjust the bonds to their fair value for presentation in the December 31, 2018, balance sheet.

Explanation / Answer

1 Fair Value of Bond No of Yrs 20 Semiannual 10*2 Interest 6% 0.03 Coupon 18300 610000*6%/2 Future Value $610,000 Using the Present Value function in excel we get ($490,977.38) PV(4.5%,20,18300,610000) Fair Value of Bond $490,977.38 2 Prepare the Journal Entry to record interest on June 30,2018 Interest Expense 22898.05 To Discount on bonds payable $4,598.05 To Cash $18,300 (457961*5%) 3 Prepare the Journal Entry to record interest on December 31,2018 Interest Expense 23127.95 To Discount on bonds payable $4,827.95 To Cash $18,300 (457961+4598.05)*5%) 4 Journal Entry to Adjust the bonds to their fair value Unrealized holding loss 23590.38 To Fair Value Adjustment 23590.38 (490977.38-457961-4827.95-4598.05)

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