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Intermediate Accounting 2 Week 1 - Question

Question 1 (Difficult)
Determine whether the below financial instruments should be classified as a
financial liability, equity, compound instrument or others of company A. Give
reasons for your answer in accordance with HKAS 32 Financial Instrument
Presentation.

1. Perpetual bond (i.e. a bond that does not have a maturity date) that pays 5%
interest each year.

2. 100,000 $1 convertible notes: The notes pay interest at 7%. The market rate
for similar debt without conversion option is 9%. The note is not redeemable,
but it converts at the option of the holder into however many shares that will
have a value of exactly $100,000.

3. 100,000 $1 redeemable convertible notes: The notes pay interest at 5%. They
convert at any time at the option of the holder into 100,000 ordinary shares.
The notes are redeemable at the option of the holder for cash after five years.
Market rates for similar notes without the conversion option are 7%.

4. 100,000 $1 redeemable convertible notes: The notes pay interest at 5%. They
convert at any time at the option of the holder into 100,000 ordinary shares.
The notes are redeemable at the option of the issuer for cash after five years. If
after five years the notes have not been redeemed or converted, they cease to
carry interest. Market rates for similar notes without the conversion option
are 7%.

5. $100,000 redeemable preference shares with a fixed maturity date: The


shares are redeemable only on maturity at the option of the holder. The shares
carry a cumulative 6% dividend.

6. $100,000 redeemable preference shares: The shares are redeemable for cash
at the option of the issuer. The shares carry a cumulative 6% dividend. In
addition, the preference share dividend can be paid only if a dividend on
ordinary shares is paid for the relevant period.

7. $100,000 redeemable convertible preference shares with a fixed maturity


date: The shares are redeemable only on maturity at the option of the holder.
They convert at any time at the option of the holder into 100,000 ordinary
shares. The shares carry a cumulative 6% dividend. Market rates for similar
notes without the conversion option are 7%.

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Intermediate Accounting 2 Week 1 - Question

Question 2 (Basic)
Bonds with a nominal value of $12,000,000 were issued at $11,652,000. The
coupon rate is 10% paid at each year-end whilst the effective rate is 12%.
Redemption is to be made a premium of 5% at the end of the fourth year.

Required:

In accordance with HKFRS 9 Financial Instruments, prepare

(1) The table showing the movement on the loan for the four years. You may
round to the nearest $000 and any rounding error may be adjusted in the
final year.

(2) The journal necessary to deal with the accounting entries for year 1

Question 3 (Basic)
An enterprise issues $5,000,000 convertible bonds at the start of year 1 and
receives $4,800,000. The bonds have a four year term and are redeemable at par.
Interest is paid annually in arrears at 10% per annum. At time of issue the
interest rate for similar debt without a conversion option is 12%. The convertible
bonds are classified as compound instrument. Issued costs of $50,000 were
incurred. The impact of the issue costs is to increase the effective interest rate to
12.34%.

Required:

As per HKAS 32 Financial Instruments Presentation, using the method of split


accounting,

(i) divide the cost between that relating to the liability element and the equity
element; and
(ii) show the journal entry from the issue date of the convertible bond to end of
year 1.

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Intermediate Accounting 2 Week 1 - Question

Question 4 (Basic)
Butterworth Ltd issued 400,000 8% redeemable preference shares on 1 January
2015 with $2 each. Dividends are payable every six months on 30 June and 31
December. The preference shares are redeemable on 31 December 2018 at a
premium of $0.5 per share.

The effective interest rate that will discount the premium over the eight periods is
6.48249%. The financial year-end of Butterworth Ltd is 31 December.

Required:

In accordance with HKFRS 9 Financial Instruments, prepare

(1) The table showing the movement on the redeemable preference shares for
the eight periods. You may round to the nearest dollar and any rounding
error may be adjusted in the final year.

(2) The journal necessary to deal with the accounting entries for 2015.

Question 5 (Basic)
Discuss the concept of equity risk and how it is useful in determining whether a
financial instrument is a financial liability or an equity instrument of the issuer.

Question 6 (Basic)
The managing director of Croco Panda, Panda Lam, is of the opinion that HKFRS
9 Financial Instruments requires fair value accounting on all financial
instruments, including financial assets and financial liabilities. He feels quite
concerned over the requirement to state the companys financial liabilities at fair
value to ease the credit crunch problem. Even though Croco Panda does not issue
any financial guarantee contracts or commitments to provide a low-rate loan, if
the financial liabilities are marked to fair value based on a lower yield, Croco
Panda may sustain more financial liabilities in its statement of financial position.

Required:

Briefly explain to Panda Lam the measurement requirements of HKFRS 9 on


financial liabilities.

Question 7 (Basic)
Why is there a need for a single set of accounting or financial reporting standards
around the world?

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Intermediate Accounting 2 Week 1 - Question

Question 8 (Basic)
How do IFRSs or IAS help in resolving and reconciling the accounting differences
in different countries?

Question 9 (Basic)
The Chairman of June Fashion Group, Miss June Lok, prepares to list her groups
share in Country Empire. Country Empire has just announced to require the
listed entities in its country to use IFRSs in preparing their financial statements.

Required:

June asked your advice the recognition and authority of IFRSs and what are the
current developments of IASB.

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Intermediate Accounting 2 Week 1 - Question

Question 10 (Difficult)
Navigator is currently financed entirely by equity and is considering the following
three alternatives in obtaining external funds on 1 October 2007 by the issue of:-

1) $6,000,000 bonds at par. The interest rate would be 16% per annum
for the first ten years payable in arrears and zero per cent in subsequent
periods. Navigator would have no obligation to repay the principal amount.
Assume the effective interest rate is 9.5%;

2) 6,000,000, 8% redeemable convertible preference shares at


$6,000,000. By the end of the fourth year from the date of issue,
Navigator has an option to redeem it. The directors of Navigator would
guarantee a fixed dividend at 8% per annum. At any time during the four
years, the shares could be converted into 1,000,000 ordinary shares of
Navigator if the holders exercised the conversion option, without which
Navigator would have to pay a dividend at 10% per annum; or

3) $6,000,000 convertible loan note at par with quoted rate interest of


2% per annum, payable on 30 September in arrears. The loan note was
repayable at an amount of $7,000,000 on 30 September 2010. As an
alternative to repayment the lender may choose to receive 1,000,000 shares
in Navigator (having a nominal value of $1 each). The required rate of
return for providers of loan finance without conversion element was 10%
per annum.

Required:

Discuss how Navigator should account for the financial instruments to be issued
under the above three financing alternatives in the financial statements of
Navigator for the year ended 30 September 2008. Explain your answer with
reference to HKAS 32 Financial Instruments: Presentation and HKFRS 9
Financial Instruments.

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Intermediate Accounting 2 Week 1 - Question

Question 11 (Moderate)
Benny Ltd has issued three types of debt on 1 January 2015, the start of the
companys financial reporting year.

(a) $10 million, 10-year, 13% unsecured bonds, interest payable quarterly.
Bonds were priced to yield 12%.
(b) $25 million, 10-year, zero-coupon bonds at a price to yield 12% per year.
(c) $15 million, 10-year, 10% mortgage bonds, interest payable annually to yield
12%.
Required:
Prepare a schedule that identifies the following items for each bond:
(i) maturity value,
(ii) number of interest periods over life of bond,
(iii) stated rate per each interest period,
(iv) effective-interest rate per each interest period,
(v) payment amount per period, and
(vi) present value of bonds at date of issue.