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Chapter 14: Q12P (page 762)

(Debtor/Creditor Entries for Continuation of Troubled Debt) Daniel Perkins is the sole shareholder of Perkins Inc., which is currently under protection of the U.S. bankruptcy court. As a 鈥渄ebtor in possession,鈥� he has negotiated the following revised loan agreement with United Bank. Perkins Inc.鈥檚 \(600,000, 12%, 10-year note was refinanced with a \)600,000, 5%, 10-year note.

Instructions

(a) What is the accounting nature of this transaction?

(b) Prepare the journal entry to record this refinancing:

(1) On the books of Perkins Inc.

(2) On the books of United Bank.

(c) Discuss whether generally accepted accounting principles provide the proper information useful to managers and investors in this situation.

Short Answer

Expert verified
  1. The transaction of refinancing is classified as trouble debt restructuring.
  2. Creditor will lose$237,300.
  3. The GAAP principle in the above situation does not provide fair information to the investors and the managers.

Step by step solution

01

Definition of Shareholder

A shareholder can be defined as an individual interested in the company鈥檚 ownership. Such an individual becomes the owner of the company by purchasing the equity security issued by the company.

02

Accounting Nature of the transaction

The transaction will be classified as trouble debt restructuring because, under this type of transaction, the creditor refinances the loan because of the financial and economic difficulties faced by the business entity. Under this transaction, the debtor is provided with the concession.

03

Journal entry to record refinancing

Date

Accounts and Explanation

Debit $

Credit $

In the books of Perkins

No journal entry will be made by the Perkins Inc.

In the books of United bank

Bad debt expenses

237,300

Allowance for doubtful accounts

237,300

Working note:

Calculation creditor鈥檚 loss due to restructuring

Particular

Amount $

Carrying cost before restructuring

$600,000

Less: Present value of debt of $600,000 due after 10 years @ 12% (0.322)

(193,200)

Less: PVOAF of annual interest of $30,000 @ 12% for 10 years (5.65)

(169,500)

Creditor鈥檚 loss due to restructuring

$237,300

04

Information provided by the GAAP principles in the above situation to the managers and the investors

The GAAP principle in the above situation does not provide useful information because the loss faced by the creditor is calculated using the discounted value of the future cash flow (present value of the future cash flow). At the same time, the gains generated by the debtors are not calculated using the discounted present value. Therefore, it will not provide fair information relating to the benefits generated by the debtor due to refinancing.

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Most popular questions from this chapter

On January 1, 2017, Aumont Company sold 12% bonds having a maturity value of \(500,000 for \)537,907.37, which provides the bondholders with a 10% yield. The bonds are dated January 1, 2017, and mature January 1, 2022, with interest payable December 31 of each year. Aumont Company allocates interest and unamortized discount or premium on the effective-interest basis.

Instructions

(Round answers to the nearest cent.)

  1. Prepare the journal entry at the date of the bond issuance.
  2. Prepare a schedule of interest expense and bond amortization for 2017鈥�2019.
  3. Prepare the journal entry to record the interest payment and the amortization for 2017.
  4. Prepare the journal entry to record the interest payment and the amortization for 2019.

Question: (a) From what sources might a corporation obtain funds through long-term debt? (b) What is a bond indenture? What does it contain? (c) What is a mortgage?

On January 1, 2017, Henderson Corporation redeemed \(500,00 of bonds at 99. At the time of redemption, the unamortized premium was \)15,000. Prepare the corporation鈥檚 journal entry to record the reacquisition of the bonds.

(Amortization Schedule鈥擡ffective-Interest) Assume the same information as E14-6.

Instructions

Set up a schedule of interest expense and discount amortization under the effective-interest method. (Hint: The effective-interest rate must be computed.)

(Comprehensive Problem: Issuance, Classification, Reporting) The following are four independent situations.

(a) On March 1, 2018, Wilke Co. issued at 103 plus accrued interest \(4,000,000, 9% bonds. The bonds are dated January 1, 2018, and pay interest semiannually on July 1 and January 1. In addition, Wilke Co. incurred \)27,000 of bond issuance costs. Compute the net amount of cash received by Wilke Co. as a result of the issuance of these bonds.

(b) On January 1, 2017, Langley Co. issued 9% bonds with a face value of \(700,000 for \)656,992 to yield 10%. The bonds are dated January 1, 2017, and pay interest annually. What amount is reported for interest expense in 2017 related to these bonds, assuming that Langley used the effective-interest method for amortizing bond premium and discount?

(c) Tweedie Building Co. has a number of long-term bonds outstanding at December 31, 2017. These long-term bonds have the following sinking fund requirements and maturities for the next 6 years.

Sinking Fund

Maturities

2018

\(300,000

\)100,000

2019

100,000

250,000

2020

100,000

100,000

2021

200,000

-

2022

200,000

150,000

2023

200,000

100,000

Indicate how this information should be reported in the financial statements at December 31, 2017.

(d) In the long-term debt structure of Beckford Inc., the following three bonds were reported: mortgage bonds payable \(10,000,000; collateral trust bonds \)5,000,000; bonds maturing in installments, secured by plant equipment $4,000,000. Determine the total amount, if any, of debenture bonds outstanding
See all solutions

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