On January 1, 2014, TCU Utilities issued $1,012,000 in bonds that mature in 3 ye

Question

On January 1, 2014, TCU Utilities issued $1,012,000 in bonds that mature in 3 years. The bonds have a stated interest rate of 10 percent and pay interest on June 30 and December 31 each year. When the bonds were sold, the market rate of interest was 14 percent. The company uses the effective-interest amortization method. (FV of $1, PV of $1, FVA of $1, and PVA of $1) (Use the appropriate factor(s) from the tables provided.) Required: 1. What was the issue price on January 1, 2014? 2. What amount of interest expense should be recorded on (a) June 30, 2014? and (b) December 31, 2014? 3. What amount of cash interest should be paid on (a) June 30, 2014? and (b) December 31, 2014? 4. What is the book value of the bonds on (a) June 30, 2014? and (b) December 31, 2014?

Explanation / Answer

Issue Price on Jan 1, 2014 Sum of PVs of future interest payments + PV of FV @ maturity Using the formula PV=(Couponpayment*((1-(1+r)^-n)/r))+(FV/(1+r)^n) Semi-annual coupon- 1012000*10%/2= 50600 Semi-annual Market rate/Effective rate of interest 14%/2= 7% or 0.07 No.of semi-annual periods to maturity 3*2 6 Face value 1012000 Substituting these values, in the formula, Issue price is PV=(50600*((1-(1+0.07)^-6)/0.07))+(1012000/(1+0.07)^6) 915525 Discount on the bonds= 1012000-915525= 96475 (To be amortised) Bond Amortisation- Effective interest rate method A B C D E F G Date Int payment stated 5% * face Int exp Mkt7% * previous BV in G Amortisation of bond discount C minus B Debit balance in the account Bond discount Credit balance in the account Bonds payable Book value of the bonds F minus E Credit Cash Debit Interest expense Cr Bond discount Jan 1, 2014 96475 1012000 915525 June 30, 2014 50600 64087 13487 82988 1012000 929011.8 Dec 31, 2014 50600 65031 14431 68557 1012000 943442.6 June 30, 2015 50600 66041 15441 53116 1012000 958883.6 Dec 31, 2015 50600 67122 16522 36595 1012000 975405.4 June 30, 2016 50600 68278 17678 18916 1012000 993083.8 Dec 31, 2016 50600 69516 18916 0 1012000 1012000 Totals 303600 400074.6 96475 2.Amount of interest expense to be recorded on   (a) June 30, 2014 $ 64087 (b) December 31, 2014 $ 65031 3. Amount of cash interest to be paid on   (a) June 30, 2014 $ 50600 (b) December 31, 2014 50600 4.Book value of the bonds on (a) June 30, 2014 $ 929012 (b) December 31, 2014 $ 943443

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