Convertible Debt at Time of Issuance

1
Convertible Debt at Time of Issuance

• E16-1 (part 1)
• Cash 19,800,000
• Bond discount 200,000
• Bonds payable 20,000,000
• Bond issue costs 70,000
• Cash 70,000

2
Time of Normal Conversion

• Text (p. 780)
• Carrying amount of bonds (book value)
• Bonds payable 1,000
• Bond premium 50
• 1,050

3
Time of Normal Conversion

• Bonds payable 1,000
• Premium on bonds payable 50

4
Time of Normal Conversion

• Bonds payable 1,000
• Premium on bonds payable 50
• Common stock (par value) 100
• APIC (1,050 100) 950

5
Induced Conversions

• Involves a sweetner
• E16-1 (part 3)

6
Induced Conversions

• Book value of bonds
• Bonds payable 10,000,000
• Discount on bonds payable 55,000
• 9,945,000
• Par value of stock 1,000,000
• APIC 8,945,000
• 9,945,000
• Debt conversion expense 75,000
• Bonds payable 10,000,000
• Discount on bonds payable 55,000
• Common stock 1,000,000
• APIC 8,945,000
• Cash 75,000

7
Convertible Preferred Stock

• Is equity - unless mandatory redeemable
• Conversion is an equity transaction -- no gain
  or loss recognized
• Book value of preferred used to record
  conversion

8
Conv. Preferred Stock Text P. 781

• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200

9
Conv. Preferred Stock Text P. 781

• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200
• Common stock (1,000 x 2 par) 2,000

10
Conv. Preferred Stock Text P. 781

• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200
• Retained earnings 800
• Common stock (1,000 x 2 par) 2,000

11
Conv. Preferred Stock Text P. 781

• What if convertible into 400 shares of common?
• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200

12
Conv. Preferred Stock Text P. 781

• What if convertible into 400 shares of common?
• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200
• Common stock (400 x 2 par) 800

13
Conv. Preferred Stock Text P. 781

• What if convertible into 400 shares of common?
• Book value of preferred
• Preferred 1,000
• APIC preferred 200
• 1,200
• Preferred stock 1000
• APIC preferred 200
• Common stock (400 x 2 par) 800
• APIC common 400

14
Stock Warrants

• Entitle holder to acquire additional shares
• within a specified period
• at a specified price
• Typical uses
• Equity kicker
• Evidence of preemptive right of existing
  stockholders
• Stock-based compensation for executives (stock
  options)

15
Stock Warrants (cont.)

• Detachable
• Proportional method (if FV of both debt and
  warrant determinable)
• Incremental method (if FV of both not
  determinable)
• Nondetachable
• No part of proceeds allocated to warrants
• See text examples pp. 783-784

16
Stock Warrants (cont.)

• Allocated to warrants
• 300,000/10,200,000 x 10,000,000 294,118
• Allocated to bonds
• 9,900,000/10,200,000 x 10,000,000 9,705,882
• 10,000,000
• Cash 9,705,882
• Discount on bonds payable 294,118
• Bonds payable 10,000,000
• Cash 294,118
• APIC - stock warrants 294,118

17
Stock Warrants (cont.)

• What if proceeds 9,700,000?
• Allocated to warrants
• 300,000/10,200,000 x 9,700,000 285,294
• Allocated to bonds
• 9,900,000/10,200,000 x 9,700,000 9,414,706
• 9,700,000
• Cash 9,414,706
• Discount on bonds payable 585,294
• Bonds payable 10,000,000
• Cash 285,294
• APIC - stock warrants 285,294

18
Stock Compensation Plans

• Stock option plans
• incentive plans qualified for tax purposes
• non-qualified plans
• Stock appreciation rights
• Performance plans

19
Stock Options - Important Dates
Work start date
20
Stock Option Plans

• Accounting method
• Now required - fair value method (SFAS 123R)
• Previously required - intrinsic value method
  (APBO 25)

21
Fair Value Method

• Total compensation cost (TCC)
• Fair value at grant date of options expected to
  vest
• Allocate TCC over service period
• See page 789

22
Stock Appreciation Rights SARs

• SARs are designed to mitigate employees cash
  flow problems in non-qualified plans
• Employee gets a right to receive any appreciation
  in share value at exercise date equal to market
  price less a pre-established amount
• Employee receives cash or stock only for the
  appreciation.

23
Stock Appreciation Rights (SARs) Example

• Given
• SAR program is established January 1, 2006
• SAR exercise period any time next five years
• Pre-established price per SAR 10
• Number of SARs granted 10,000
• Market prices of the stock
• Dec 31, 01 13 Dec 31, 02 17
  Dec 31, 03 15.
• Service period 2 years (2006 - 2007)
• The SARs are held for 3 years and then
  exercised.
• Determine the compensation expense for 2006, 07,
  and 08.

24
Stock Appreciation Rights (SARs) Entries
Debit
Credit
Dec 31, 2006 Compensation Expense 15,000
Liability for SARs 15,000
Dec 31, 2007 Compensation Expense 55,000
Liability for SARs 55,000
Dec 31, 2008 Liability for SARs 20,000
Compensation Expense 20,000
Dec 31, 2008 Liability for SARs 50,000
Cash 50,000 (SARs exercised end of the
third year)