Question: On 1/1/2001, ABC Co. issued $1,000,000 5-year bonds with a market rate of 8%. Interests are paid annually on 12/31. The coupon rate is 5%. Answer the following questions assuming that the company uses the effective interest method of amortization. Show your calculations.
1. Determine the selling price of the bond on the issue date. Is it issued at a premium or discount?
2. Give the journal entry to record the bond issuance above.
3. How much is the interest expense for ABC Co. for the fiscal year that ended 12/31/2001? Give the journal entry to record the interest expense.
4. What is the net borrowing (i.e., book value of bond) by ABC Co. as of 12/31/2001 after making the first coupon payment?
5. On 1/1/2003, ABC Co. found itself with a lot of excess cash and it will be best for them to buy back their bonds from the open market and retire them so as to avoid future interest payments. The market interest rate on 1/1/2003 is 9%.
Calculate: (i) the cash amount that ABC has to pay to retire the bond
(ii) the book value (i.e., net borrowing) of the bonds on 1/1/2003
(iii) gain/loss from the retirement
(iv) provide the journal entry for the early retirement of bonds.