Question

For each of the unrelated transactions described below, present the entry required to record the bond transactions. (Credit account titles are automatically indented when amount is entered. Do not indent manually. If no entry is required, select "No Entry" for the account titles and enter 0 for the amounts. Round answers to 0 decimal places, e.g. 5,275.)

1. On August 1, 2018, Lane Corporation called its 10% convertible bonds for conversion. The $7,100,000 par bonds were converted into 284,000 shares of $20 par common stock. On August 1, there was $710,000 of unamortized premium applicable to the bonds. The fair value of the common stock was $20 per share. Ignore all interest payments.
2. Packard, Inc. decides to issue convertible bonds instead of common stock. The company issues 10% convertible bonds, par $2,700,000, at 97. The investment banker indicates that if the bonds had not been convertible they would have sold at 94.
3. Gomez Company issues $8,100,000 of bonds with a coupon rate of 8%. To help the sale, detachable stock warrants are issued at the rate of ten warrants for each $1,000 bond sold. It is estimated that the value of the bonds without the warrants is $7,993,000 and the value of the warrants is $495,000. The bonds with the warrants sold at 101.

Answer 1

The value of a bond is influenced by the current market interest rates compared to the interest rate the bond offers. If market rates rise above the bond's rate, its price must drop to attract buyers. A bond's present value decreases with higher discount rates, reflecting reduced attractiveness in a high-rate environment.

Step-by-step explanation:

When assessing the value of a bond, it is crucial to consider both the interest rate offered by the bond and the current market interest rates. A bond issued at an 8% interest rate would ordinarily sell for its face value of $1,000 and pay $80 annually in interest. However, if market interest rates rise to 12%, the bond would become less attractive, leading sellers to reduce the selling price below $1,000 to make it competitive with new bonds offering higher rates.

For the example of a simple two-year bond issued at $3,000 with an 8% interest rate, the bond will pay $240 in interest each year. To calculate the bond's present value at the same 8% discount rate, each future payment must be discounted back to its present value. But if the discount rate rises to 11%, the present value of these future payments will be lower, reflecting that the bond is less valuable if it were issued or sold in a higher interest rate environment.