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Bond Problem

On Jan 1, the Cheng Corp purchased \$10,000 of 5%, five-year bonds as a long term investment. Interest is paid annually. The company is not involved in active trading of securities.
A. Record the purchase of the bonds for \$10,000.
B. Record the receipt of the first interest payment on the bonds in part A.
C. Assuming the company intends to hold the bonds to maturity, what entry is necessary at the end of the first year if the market value of the bonds is \$10,400 at this time?
D. Show how the answer to part C would differ if the company does not intend to hold the bonds to maturity.
E. Assume that the company purchased these bonds at a cost of \$10,445. This price yields an effective rate of 4%.
F. Record the receipt of the first interest payment on the bonds purchased in part E.
G. Assuming the company intends to hold the bonds to maturity, prepare the necessary entry at the end of the first year to reflect the \$10,400 market value of the bonds.
H. Show how the answer to part G would differ if the company does not intend to hold the bonds to maturity.
I. Report the carrying value (book value) of the bonds at the end of the first year in parts C,D,G, and H. Explain how the amounts have been calculated.
J. Prepare an amortization table for the bonds purchased in E, assuming the company holds the bonds to maturity. What is the total amount of cash received? What is the total amount of interest revenue? What is the difference between the two?

Solution Preview

A. Record the purchase of the bonds for \$10,000.

The bonds are purchased as long term investment and so the entry is
Investment Dr 10,000
Cash Cr 10,000

B. Record the receipt of the first interest payment on the bonds in part A.

The interest is paid annually and the rate is 5%. The interest amount is 10,000X5%=\$500
The entry is
Cash Dr 500
Interest Revenue Cr 500

C. Assuming the company intends to hold the bonds to maturity, what entry is necessary at the end of the first year if the market value of the bonds is \$10,400 at this time?

If the bonds are to be held through maturity then they will be classified as held to maturity. All held to maturity investments are reported at cost and so there will be no entry necessary even if the bond price changes.

D. Show how the answer to part C would differ if the company does not intend to hold the bonds to maturity.

If the bonds are not be held till maturity and since the company does not actively trade in securities, the bonds would be classified as available for sale. In this case any unrealized gains or ...

Solution Summary

The solution explains various calculations relating to bond transactions

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