Question

Federal Semiconductors issued 12% bonds, dated January 1, with a face amount of $940 million on January 1, 2024. The bonds sold for $873,516,024 and mature on December 31, 2043 (20 years). For bonds of similar risk and maturity the market yield was 13%. Interest is paid semiannually on June 30 and December 31. Federal determines interest at the effective rate. Federal elected the option to report these bonds at their fair value. On December 31, 2024, the fair value of the bonds was $860 million as determined by their market value in the over-the-counter market. Assume the fair value of the bonds on December 31, 2025, had risen to $866 million. Required: Complete the below table to record the following journal entries. 1. & 2. Prepare the journal entries to record interest on June 30, 2024, December 31, 2024, and adjust the bonds to their fair value for presentation in the December 31, 2024 balance sheet, and record interest on June 30, 2025, December 31, 2025, and adjust the bonds to their fair value for presentation in the December 31, 2025, balance sheet. Federal determined that none of the change in fair value in 2024 was due to a decline in general interest rates and one-half of the increase in fair value in 2025 was due to a decline in general interest rates.

Answer 1

Journal Entries:

1. June 30, 2024

Interest Expense $30,660,960 (=$940,000,000 x 0.12 x 6/12)

Cash $47,000,000 (=$940,000,000 x 0.12 x 6/12)

2. December 31, 2024

Interest Expense $30,660,960 (=$940,000,000 x 0.12 x 6/12)

Premium on Bonds Payable $5,000,000 [(($873,516,024 - $860,000,000)/$940,000,000) x $940,000,000 x 6/12]

Bonds Payable $25,000,000 [(($873,516,024 - $860,000,000)/$940,000,000) x $940,000,000]

Cash $47,000,000 (=$940,000,000 x 0.12 x 6/12)

3. June 30, 2025

Interest Expense $28,020,000 [=$940,000,000 x 0.12 x 6/12 x (1 - 0.5)]

Cash $47,000,000 (=$940,000,000 x 0.12 x 6/12)

4. December 31, 2025

Interest Expense $28,020,000 [=$940,000,000 x 0.12 x 6/12 x (1 - 0.5)]

Premium on Bonds Payable $3,000,000 [(($866,000,000 - $860,000,000)/$940,000,000) x $940,000,000 x 6/12 x 0.5]

Bonds Payable $12,500,000 [(($866,000,000 - $860,000,000)/$940,000,000) x $940,000,000 x 0.5]

Cash $47,000,000 (=$940,000,000 x 0.12 x 6/12)

Step-by-step explanation:

1. The company records the interest expense and the cash paid for the interest.

2. The company records the interest expense and adjusts the Bonds Payable account to its fair value. The premium on the Bonds Payable account is credited for the difference between the face amount of the bonds and the fair value of the bonds, and the Bonds Payable account is debited for the face amount of the bonds. The cash paid for the interest is also recorded.

3. The company records the interest expense and the cash paid for the interest.

4. The company records the interest expense, adjusts the Bonds Payable account to its fair value, and credits the Premium on Bonds Payable account for the difference between the fair value of the bonds and the face amount of the bonds. The cash paid for the interest is also recorded. The increase in the fair value of the bonds is assumed to be due to a decline in general interest rates, and one-half of the increase is recognized as an adjustment to the fair value of the bonds.