COMPOUND FINANCIAL INSTRUMENT

1-2)
ABC Company issued 6,000 of 12%, 12-year, P1,000 face value bonds with detachable share
warrants at 120. Each bond has a detachable warrant for ten ordinary shares of ABC Company at a
specified option price of P20 per share. The par value of the ordinary share is P15. Immediately after
the issuance, the market value of bonds ex warrants was P6,500,000 and the market value of the-
warrants was P800,000.
i. What is the carrying amount of bonds payable at year end?
a. 6,000,000
b. 6,500,000
c. 6,900,000
d. 7,200,000
Answer: b.
Solution:
Issue price of bonds payable equal to market value ex-warrants 6,500,000

ii. The issuance of the bonds payable with share warrants will show which of the
following?
a. A credit to Cash 7,200,000
b. A credit to Bonds Payable 6,500,000
c. A debit to Discount on bonds payable 500,000
d. A credit to Share warrants outstanding 700,000
Answer: d.
Solution:
Cash 7,200,000
Bonds Payable 6,000,000
Premiums on bonds payable 500,000
Share warrants outstanding 700,000
3-4)
On December 31, 2015, Divergent Company had outstanding 10%, P2,000,000 face amount
convertible bonds payable maturing on December 31, 2020. Interst is payable on June 30 an
December 31. Each P1,000 bond is convertible into 50 shares of P15 par value. On December 31,
2015, the unamortized premium on bonds payable was P70,000. On December 31, 2015, 400 bonds
were converted when Divergents share had a market price of P25. The entity incurred P6,000 in
connection with the conversion. No equity component was recognized when the bonds were
originally issued.

i. What is the share premium from the issuance of shares as a result of the bond
conversion on December 21,2015?
a. 108,000
b. 114,000
c. 120,000
d. 130,000
Answer: a.
Solution:
Bonds Payable 2,000,000
Premium on bonds payable 70,000
Carrying amount 2,070,000

Carrying amount converted (400/2,000 x 2,070,000) 414,000

Par value of shares issued (400 x 50 x P15) (300,000)
Share premium 114,000
Conversion Expenses (6,000)
Net share premium 108,000

ii. The carrying amount of converted bonds payable is equal to ______.

a. 300,000
b. 414,000
c. 1,035,000
d. 2,070,000
Answer:
 Solution:
Carrying amount converted (400/2,000 x 2,070,000) 414,000

5-6)
Lychee Corporation issued P7,000,000 face value, 5-year bonds at 110 on December 31, 2015. Each
P1,000 bond was issued with 25 detachable share warrants, each of which entitled the bondholder
to purchase one ordinary share of P5 par value at P15. Immediately after issuance, the market value
of each warrant is P7. The stated interest on the bonds is 9% payable annually every December 31.
However, the prevailing market rate of interest for similar bonds without warrant is 11%.
i. On December 31, 2015, what amount should be recorded as discount or premium on
bonds payable?
a. 359,000
b. 395,000
c. 539,000
d. 593,000
Answer: c.
Solution:
PV of principal (7,000,000 x 0.59) 4,130,000
PV of interest payments (630,000 x 3.70) 2,331,000
TOTAL PRESENT VALUE OF BONDS PAYABLE 6,461,000

Bonds payable 7,000,000

PV of bonds payable 6,461,000
Discount on bonds payable 539,000

ii. The amount allocated to equity is ____________.

a. 1,239,000
b. 1,329,000
c. 3,129,000
d. 3,192,000
Answer: a
 Solution:
Issue price of bonds with warrants (7,000,000 x 110%) 7,700,000
PV of bonds payable (6,461,000)
Residual amount allocated to warrants 1,239,000
7-8)
Anneth Company issued 8,000 convertible bonds at the beginning of the current year. The bonds
had a five-year term with a nominal rate of interest of 5%, and were issued at par with a face value
of P1,000 per bond. Interest is payable annually on December 31. Each bond is convertible into 40
ordinary shares with a par value of P10. The market rate of interest on similar nonconvertible bond
is 9%. At the issuance date, the amount of P325,000 was credited to share premium from
conversion privilege. The bonds were not converted and instead, the entity paid off the convertible
bondholders as maturity.
i. What amount should be recorded as gain or loss on the full payment of the convertible
bonds at maturity?
a. 8,000,000 loss
b. 325,000 loss
c. 325,000 gain
d. 0
Answer: d.
Solution: There is no gain or loss since the bonds were not converted and instead, the entity
paid off the convertible bondholders as maturity.
ii. Which of the following is false in recording the issuance of the convertible bonds?
a. A credit to Cash 8,000,000
b. A credit to Bonds Payable 7,675,000
c. A debit to Discount on bonds payable 325,000
d. A credit to Share warrants outstanding 325,000
Answer: c.
Solution:
Cash 8,000,000
Discount on bonds payable 325,000
Bonds payable 8,000,000
Share Premium - conversion privilege 325,000
9-10)
Fajardo Company had outstanding share capital with par value of P100,000,000 and a 9%
convertible bond payable in the face amount of P20,000,000. Interest payment dates of the bond
issue are June 30 and December 31. The conversion clause in the bond indenture entitled the
bondholders to receive 20 shares of P20 par value in exchange for each P1,000 bond. On June 30,
2015, the holders of P5,000,000 face value bonds exercised the conversion privilege. The market
price of the bonds on that date was P1,100 per bond and the market price of the share was P30. The
total unamortized bond discount at the date of conversion was P900,000. The share premium from
conversion privilege has a balance of P3,000,000 on June 30, 2015.
i. What amount of share premium should be recognized by reason of the conversion of
bonds payable into share capital?
a. 3,525,000
b. 2,775,000
c. 1,750,000
d. 1,525,000
Answer: d.
Solution:
Bonds Payable 20,000,000
Discount on bonds payable (900,000)
Carrying amount 11,100,000

Carrying amount converted (5/20 x 11,100,000) 2,775,000

Applicable share premium from conversion privilege
(5/20 x 3,000,000) 750,000
Total consideration 3,525,000
Par value of shares issued (5,000 x 20 x 20) (2,000,000)
Share premium from conversion 1,525,000

ii. The total consideration is equal to ____________.

a. 3,525,000
b. 2,775,000
c. 1,750,000
d. 1,525,000
Answer: a.
Solution:
Carrying amount converted (5/20 x 11,100,000) 2,775,000
Applicable share premium from conversion privilege
(5/20 x 3,000,000) 750,000
Total consideration 3,525,000