Mills Corporation acquired as a long-term investment $240 million of 6% bonds, d
ID: 2586215 • Letter: M
Question
Mills Corporation acquired as a long-term investment $240 million of 6% bonds, dated July 1, on July 1, 2018. Company management has the positive intent and ability to hold the bonds until maturity. The market interest rate (yield) was 4% for bonds of similar risk and maturity. Mills paid $280 million for the bonds. The company will receive interest semiannually on June 30 and December 31. As a result of changing market conditions, the fair value of the bonds at December 31, 2018, was $270 million.
Required:
1. & 2. Prepare the journal entry to record Mills’ investment in the bonds on July 1, 2018 and interest on December 31, 2018, at the effective (market) rate.
3. At what amount will Mills report its investment in the December 31, 2018, balance sheet?
4. Suppose Moody’s bond rating agency upgraded the risk rating of the bonds, and Mills decided to sell the investment on January 2, 2019, for $290 million. Prepare the journal entry to record the sale.
Explanation / Answer
Answer :
In the books of Mills Corporation :
Journal Entries
1 July 1,2018
Investment A/c Dr ....$280 million
To cash/Bank A/c $280 Million
(consideration paid to acquire the long term investment which is decided to be held till maturity ).
2. Dec 31,2018
Cash/Bank A/c .....Dr $7.2 Million
To Interest Income $7.2 Million
( Rec 6% interest for six months on the face value of $240 million. Interest income to be reflected in the income statement.)
3. Valuation on 31st Dec, 2018 : The value to be recorded in the books would still be $280 i.e the purchase price since the company adopted to hold the investment till maturity. There is no need to record any loss in the books of accounts.
4. Sale of investment on Jan 2,2019 :
Cash/Bank A/c ...Dr $290 million
To Investment A/c $280 million
To profit on sale of investment $10 million
( to record the profit on sale of investment to the income statement )