{"id":1268,"date":"2015-06-03T14:35:15","date_gmt":"2015-06-03T14:35:15","guid":{"rendered":"https:\/\/courses.candelalearning.com\/finacct2x10xmaster\/?post_type=chapter&p=1268"},"modified":"2015-06-03T22:16:45","modified_gmt":"2015-06-03T22:16:45","slug":"redeeming-bonds-payable","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/clinton-finaccounting\/chapter\/redeeming-bonds-payable\/","title":{"raw":"Redeeming Bonds Payable","rendered":"Redeeming Bonds Payable"},"content":{"raw":"

Redeeming bonds payable<\/strong><\/h4>\r\nBonds may be (1) paid at maturity, (2) called, or (3) purchased in the market and retired. Bonds may also be retired by being converted into stock. Each action is either a redemption of bonds or the extinguishment of debt. A company that pays its bonds at maturity would have already amortized any related discount or premium and paid the last interest payment. The only entry required at maturity would debit Bonds Payable and credit Cash for the face amount of the bonds\r\n\r\nAn issuer may redeem some or all of its outstanding bonds before maturity by calling them. The issuer may also purchase bonds in the market and retire them. In either case, the accounting is the same. Watch this video to see how we retire bonds when the the bond was originally issued at a discount.\r\n\r\nhttps:\/\/youtu.be\/zvXuYDvuyRE\r\n\r\nIn the video example, the carrying value of the bonds are $61,750 calculated as Bonds Payable $65,000 - Discount on Bonds Payable remaining $3,250.\u00a0 The cash we paid to retire the bonds is $66,150 which is greater than the carrying value of the bond of $61,750 so we are paying more to retire the bond than it is worth and we record a loss for the difference of $4,400 ($66,150 - $61,750).\u00a0 If the cash we paid is less the carrying value of the bonds, we are paying less than the bonds are worth so we get to record a gain on the retirement of the bonds.\u00a0 Let's look at another example.\r\n\r\nAssume that on January 1, Carr calls bonds\u00a0with a\u00a0$10,000 face value and remaining premium on bonds payable of $272.\u00a0 Carr pays cash of $10,300 to retire these bonds.\u00a0\u00a0The carrying value on the bonds is $10,272 ($10,000 bonds payable + $272 premium on bonds payable) and\u00a0we are paying\u00a0cash of $10,300 which is more than the carrying value of the bonds.\u00a0 We will record a loss for the difference\u00a0$28 ($10,300 cash- $10,272 carrying value).\u00a0 In the required entry, we must remove the bond and its related accounts, in this case, premium on bonds payable by debiting both accounts.\u00a0\u00a0The required entry is:\r\n\r\n\r\n\r\n\r\n\r\n\r\n\r\n\r\n
<\/td>\r\n<\/td>\r\nDebit<\/td>\r\nCredit<\/td>\r\n<\/tr>\r\n
Jan 1<\/td>\r\nBonds Payable<\/td>\r\n10,000<\/td>\r\n<\/td>\r\n<\/tr>\r\n
<\/td>\r\nPremium on Bonds Payable<\/td>\r\n272<\/td>\r\n<\/td>\r\n<\/tr>\r\n
<\/td>\r\nLoss on Retirement of Debt ($10,300 cash - 10,272 carrying value)<\/td>\r\n28<\/td>\r\n<\/td>\r\n<\/tr>\r\n
<\/td>\r\n\u00a0\u00a0 Cash<\/td>\r\n<\/td>\r\n10,300<\/td>\r\n<\/tr>\r\n
<\/td>\r\nTo record bond redemption at a loss.<\/td>\r\n<\/td>\r\n<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nAccording to FASB Statement No. 4<\/em>, gains and losses from voluntary early retirement of bonds are extraordinary items, if material. We report such gains and losses in the income statement, net of their tax effects, as described in Unit 15. The FASB is currently reconsidering the reporting of these gains and losses as extraordinary items.\r\n\r\nA company may add to the attractiveness of its bonds by giving the bondholders the option to convert the bonds to shares of the issuer\u2019s common stock. In accounting for the conversions of convertible bonds<\/strong>, a company treats the carrying value of bonds surrendered as the capital contributed for shares issued.\r\n\r\nSuppose a company has\u00a0$10,000 face value of bonds outstanding. Each\u00a0$1,000 bond is convertible into 50 shares of the issuer\u2019s\u00a0$10 par value common stock so the $10,000\u00a0face value\u00a0(10 bonds x $1,000 each) would convert to 500 shares (10 bonds x 50 shares per bond). On May 1, when the carrying value of the bonds was\u00a0$9,800 (meaning $10,000 bonds payable - $200 discount on bonds payable balance), investors presented all of the bonds for conversion. The entry required is:\r\n\r\n\r\n\r\n\r\n\r\n\r\n\r\n\r\n
<\/td>\r\n<\/td>\r\nDebit<\/td>\r\nCredit<\/td>\r\n<\/tr>\r\n
May 1<\/td>\r\nBonds Payable<\/td>\r\n10,000<\/td>\r\n<\/td>\r\n<\/tr>\r\n
<\/td>\r\n\u00a0\u00a0 Discount on Bonds Payable<\/td>\r\n<\/td>\r\n200<\/td>\r\n<\/tr>\r\n
<\/td>\r\n\u00a0\u00a0 Common Stock (500 shares x $10 par)<\/td>\r\n<\/td>\r\n5,000<\/td>\r\n<\/tr>\r\n
<\/td>\r\n\u00a0\u00a0 Paid in capital in excess of par value, Common<\/td>\r\n<\/td>\r\n4,800<\/td>\r\n<\/tr>\r\n
<\/td>\r\nTo record conversion of bonds to common stock.<\/td>\r\n<\/td>\r\n<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nThe entry eliminates the\u00a0$9,800 book value of the bonds from the accounts by debiting Bonds Payable for\u00a0$10,000 and crediting Discount on Bonds Payable for\u00a0$200 (remember, discount on bonds payable is a contra-liability account and has a normal debit balance). It credits Common Stock for the par value of the $5,000 shares issued (500 shares\u00a0x $10 par). The excess amount ($10,000 - 200 - 5,000 = $ 4,800) is credited to Paid-In Capital in Excess of Par Value\u2014Common.\r\n

Accounting in the Headlines<\/h4>\r\n

How does a convertible bond issued by Fiat Chrysler Automobile affect the company\u2019s balance\u00a0sheet?<\/h2>\r\n
\r\n\r\n\"FCA<\/a>\r\n\r\nFiat Chrysler Automobiles (FCA<\/a>) launched a $2.5 billion convertible bond issue in December 2014.\u00a0 FCA will be using the funds generated from the bond issue to help to turn its Jeep, Maserati, and Alfa Romeo brands into global brands, competing directly against Volkswagen and BMW in the premium car market.\r\n\r\nThe bond issue will mature in 2016 and will pay annual interest (an \u201cannual coupon\u201d).\u00a0 The bond will have a conversion feature that allows it to be converted into shares; an investor would presumably exercise the conversion right if the market price of FCA rises to an appropriate level at some future date.\u00a0 If the market price does not increase suitably, then the bondholder would simply hold the bond without converting it into FCA stock.\r\n\r\nQuestions<\/strong>\r\n
    \r\n\t
  1. Is the convertible bond accounted for as liability or as equity by FCA? Why?<\/li>\r\n\t
  2. How will the convertible bond issue affect FCA\u2019s assets, liabilities, and equity?<\/li>\r\n\t
  3. Assume that investors opt to convert the bond into stock in late 2015. How will that conversion affect FCA\u2019s assets, liabilities, and equity?<\/li>\r\n<\/ol>\r\n<\/div>\r\n
    <\/div>","rendered":"

    Redeeming bonds payable<\/strong><\/h4>\n

    Bonds may be (1) paid at maturity, (2) called, or (3) purchased in the market and retired. Bonds may also be retired by being converted into stock. Each action is either a redemption of bonds or the extinguishment of debt. A company that pays its bonds at maturity would have already amortized any related discount or premium and paid the last interest payment. The only entry required at maturity would debit Bonds Payable and credit Cash for the face amount of the bonds<\/p>\n

    An issuer may redeem some or all of its outstanding bonds before maturity by calling them. The issuer may also purchase bonds in the market and retire them. In either case, the accounting is the same. Watch this video to see how we retire bonds when the the bond was originally issued at a discount.<\/p>\n