On January 1, 2011, Garner issued 10-year $200,000 face value,6% bonds at par. Each $1,000 bond is convertible into 30 shares ofGarner $2, par value, ordinary shares. Interest on the bonds ispaid annually on December 31. The market rate for Garner’snon-convertible debt is 9%. The company has had 10,000 ordinaryshares (and no preference shares) outstanding throughout its life.None of the bonds have been converted as of the end of 2012.(Ignore all tax effects.)Accounting(a) Prepare the journal entryGarner would have made on January 1, 2011, to record the issuanceof the bonds and prepare an amortization table for the first threeyears of the bonds.(b) Garner’s net income in 2012 was $30,000 andwas $27,000 in 2011. Compute basic and diluted earnings per sharefor Garner for 2012 and 2011.(c) Assume that all of the holders ofGarner’s convertible bonds convert their bonds to shares on January2, 2013, when Garner’s shares are trading at $32 per share. Garnerpays $50 per bond to induce bondholders to convert. Prepare thejournal entry to record the conversion, using the book valuemethod.AnalysisShow how Garner Company will report income and EPSfor 2012 and 2011. Briefly discuss the importance of IFRS for EPSto analysts evaluating companies based on price-earnings ratios.Consider comparisons for a company over time, as well ascomparisons between companies at a point in time.PrinciplesIn orderto converge U.S. GAAP and IFRS, U.S. standard-setters (the FASB)are considering whether the equity element of a convertible bondshould be reported as equity. Describe how the journal entry youmade in part (a) above would differ under U.S. GAAP. In terms ofthe accounting principles discussed in Chapter 2, what does IFRSfor convertible debt accomplish that U.S. GAAP potentiallysacrifices? What does U.S. GAAP for convertible debt accomplishthat IFRS potentially sacrifices?
