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?
a. $247,500.
b. $120,000.
c. $1,080,000.
d. $540,000.

Answer 1

Morgan Corporation should credit $247,500 to the "paid-in capital in excess of par" account as a result of the conversion of the $1,800,000 face value bonds using the book value method.

Step-by-step explanation:

To determine the amount Morgan Corporation should credit to the account "paid-in capital in excess of par," as a result of bond conversion using the book value method, we must first find the book value of the bonds converted. First, we calculate the book value per $1,000 bond, which is the face amount ($1,000) minus the proportionate share of the total unamortized bond discount. The unamortized bond discount attributable to the converted bonds is ($750,000 total unamortized discount / $12,000,000 total bond face value) * $1,800,000 converted bond face value, which equals $112,500. Subtracting this from the face value of the converted bonds, we get $1,800,000 - $112,500 = $1,687,500 book value of converted bonds.

To calculate the common stock issued at par value, we multiply the number of bonds converted by the number of shares per bond, then by the par value per share: $1,800,000 / $1,000 * 40 * $20 = $1,440,000. The difference between the book value of the converted bonds and the par value of the common stock issued represents the paid-in capital in excess of par. Thus, $1,687,500 - $1,440,000 = $247,500. Therefore, Morgan should credit $247,500 to the "paid-in capital in excess of par" account.