Intermediate Accounting Chapter 16 Review Questions with Verified Solutions Rated A+

Intermediate Accounting Chapter 16 Review Questions with Verified Solutions Rated A+ What is meant by a dilutive security? - Answers Convertible debt or stock options are dilutive because their features indicate that the holders of the securities can become common shareholders. Results in a reduction of earnings per share. Briefly explain why corporations issue convertible securities: - Answers 1.To raise equity capital without giving up more ownership control than necessary 2. Obtain financing at cheaper rates Explain how the conversion feature of convertible debt has a value (a) to the issuer and (b) to the purchaser - Answers (a) For the issuer, lower cash interest cost than in the case of nonconvertible debt, allows raising equity capital over long term (b) Gives purchaser option to receive either the face amount of debt upon maturity or specified number of common shares upon conversion, if market value of underlying common stock increases above the conversion price, the purchases receives benefits of appreciation. On the other hand, if market value decreases, the purchaser could nevertheless expect to receive the principal and (lower) interest On July 1, 2012, Roberts Corporation issued $3,000,000 of 9% bonds payable in 20 years. The bonds include detachable warrants giving the bondholder the right to purchase for $30 one share of $1 par value common stock at any time during the next 10 years. The bonds were sold for $3,000,000. The value of the warrants at the time of issuance was $100,000. Prepare the journal entry to record this transaction. - Answers De. Cash 3,000,000 De. Discount on Bonds Payable 100,000 Cr. Bonds Payable 3,000,000 Cr. Paid-in Capital—Stock Warrants 100,000 What date or event does the profession believe should be used in determining the value of a stock option? What arguments support this position? - Answers Grant date: the market price on the date of grant may be presumed to be the value which the employer had in mind for compensation, not the ultimate gain or loss on the transaction. Over what period of time should compensation cost be allocated? - Answers Service period, which is the vesting period (the time between the grant date and the vesting date) At December 31, 2012, Reid Company had 600,000 shares of common stock issued and outstanding, 400,000 of which had been issued and outstanding throughout the year and 200,000 of which were issued on October 1, 2012. Net income for 2012 was $2,000,000, and dividends declared on preferred stock were $400,000. Compute Reid's earnings per common share. (Round to the nearest penny.) - Answers Weighted-average shares outstanding Outstanding shares (all year) = 400,000 October 1 to December 31 (200,000 X 3/12) = 50,000 (Net Income - Preferred Dividends)/Weighted Average Shares Outstanding (2,000,000 - 400,000)/ 450,000 = 3.56 Define: Basic earnings per share - Answers Amount of earnings for the period available to each share of common stock outstanding during the reporting period Define: A potentially dilutive security - Answers Security which can be exchanged for or converted into common stock, therefore upon conversion could dilute or decrease earnings per share. (convertible securities, stock options, stock warrants, and other rights) Define: Diluted earnings per share - Answers The amount of earnings for the period available to each share of common stock outstanding and to each share that would have been outstanding assuming the issuance of common shares for all dilutive potential common shares outstanding Define: A complex capital structure - Answers A complex capital structure exists whenever a company's capital structure includes dilutive securities. Define: Potential common stock - Answers Potential common stock is not common stock in form but does enable its holders to obtain common stock upon exercise or conversion Archer Inc. issued $4,000,000 par value, 7% convertible bonds at 99 for cash. If the bonds had not included the conversion feature, they would have sold for 95. Prepare the journal entry to record the issuance of the bonds. - Answers De. Cash 3,960,000 De. Discount on Bonds Payable 40,000 Cr. Bonds Payable 4,000,000 Petrenko Corporation has outstanding 2,000 $1,000 bonds, each convertible into 50 shares of $10 par value common stock. The bonds are converted on December 31, 2012, when the unamortized discount is $30,000 and the market price of the stock is $21 per share. Record the conversion using the book value approach. - Answers De. Bonds Payable 2,000,000 Cr. Discount on Bonds Payable 30,000 Cr. Common Stock (2,000 X 50 X $10) 1,000,000 Cr. Paid-in Capital in Excess of Par—Common Stock 970,000 Pechstein Corporation issued 2,000 shares of $10 par value common stock upon conversion of 1,000 shares of $50 par value preferred stock. The preferred stock was originally issued at $60 per share. The common stock is trading at $26 per share at the time of conversion. Record the conversion of the preferred stock. - Answers De. Preferred Stock (1,000 X $50) 50,000 De. Paid-in Capital in Excess of Par - Preferred Stock ($60 - $50) X 1,000 10,000 Cr. Common Stock (2,000 X $10) 20,000 Cr. Paid-in Capital in Excess of Par—Common Stock ($60 X 1,000) - (2,000 X $10) 40,000 Eisler Corporation issued 2,000 $1,000 bonds at 101. Each bond was issued with one detachable stock warrant. After issuance, the bonds were selling in the market at 98, and the warrants had a market price of $40. Use the proportional method to record the issuance of the bonds and warrants. - Answers De. Cash 2,020,000 De. Discount on Bonds Payable ($2,000,000 - $1,940,784) 59,216 Cr. Bonds Payable 2,000,000 Cr. Paid-in Capital—Stock Warrants 79,216 Add Fair value of bonds (2,000 X $1,000 X .98) $1,960,000 Fair value of warrants (2,000 X $40) 80,000