Question

Morgan Corporation had two issues of securities outstanding: common stock and an 8% convertible bond issue in the face amount of $12,000,000. Interest payment dates of the bond issue are June 30th and December 31st. The conversion clause in the bond indenture entitles the bondholders to receive forty shares of $20 par value common stock in exchange for each $1,000 bond. On June 30, 2014, the holders of $1,800,000 face value bonds exercised the conversion privilege. The market price of the bonds on that date was $1,100 per bond and the market price of the common stock was $35. The total unamortized bond discount at the date of conversion was $750,000. In applying the book value method, what amount should Morgan credit to the account &paid-in capital in excess of par,& as a result of this conversion?

Answer 1

Morgan Corporation should credit $247,500 to the 'paid-in capital in excess of par' account, which is calculated by finding the book value of the bonds being converted and subtracting the par value of the common stock received upon conversion.

Step-by-step explanation:

To determine the amount that should be credited to paid-in capital in excess of par using the book value method, we first need to calculate the book value of the bonds being converted. The face amount of the bonds being converted is $1,800,000. Given that the total unamortized bond discount is $750,000 for the entire $12,000,000 bond issue, the proportionate amount of the discount for the $1,800,000 being converted is:

$750,000 × ($1,800,000 / $12,000,000) = $112,500.

So, the book value of the bonds being converted is:

$1,800,000 - $112,500 = $1,687,500

Now, the bondholders receive 40 shares of $20 par value common stock for each $1,000 bond. With $1,800,000 worth of bonds being converted, this results in:

(40 shares × $20 par value) × 1,800 bonds = $1,440,000 worth of common stock at par value.

The excess over par value is then the book value of the bonds minus the par value of the common stock received:

$1,687,500 (book value) - $1,440,000 (par value) = $247,500.

Therefore, Morgan Corporation should credit $247,500 to the paid-in capital in excess of par account as a result of this conversion.