On January 2, 2018, Cannon Company issued $10,000,000 of convertible debt.  The bonds are zero-coupon, and each $1,000 bond is convertible into 10 shares of Cannon Company's common stock at the bond holder's option.  The bonds mature in 2022 and were issued at par.  Companies with similar credit profiles were issuing non-convertible debt at an effective rate of interest of 8%.  The present value factor for $1 for 5 periods at 8% is .68058.  For each of the following assumptions, prepare the journal entry to record the issuance of debt and entries for 2018 and 2019 to record interest expense.  No bonds were converted during 2018 or 2019. Required:

Cannon Company uses U.S. GAAP to prepare its external financial reporting to shareholders and regulators.Cannon Company uses IFRS to prepare its external financial reporting to shareholders and regulators.

What will be an ideal response?

A.
January 1, 2018

 
Cash10,000,000   
Convertible bonds payable  10,000,000 
No further entries would be required during 2018 and 2019 under U.S. GAAP. Current GAAP allows Cannon Company to avoid interest expense because the zero-coupon convertible debt and structure of the conversion feature allowed the company to sell the bond for par (face) value. Therefore, no interest expense is recorded over the life of the bond.

B.
January 1, 2018
 
Cash10,000,000   
Convertible bonds payable  6,805,800 
Shareholders' equity - conversion option  3,194,200 
December 31, 2018
 
Interest expense544,464*  
Convertible bonds payable  544,464 
*$6,805,800 × 8%

December 31, 2019
 
Interest expense588,021**  
Convertible bonds payable  588,021 
**$6,805,800 + 544,464 = $7,398,864 × 8%

Business

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