INTERMEDIATE ACCOUNTING II Module 2

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INTERMIDIATE ACCOUNTING II

Module 2: Critical Thinking

Important! Read First

Choose one of the following two assignments to complete this week. Do not do both assignments. Identify your assignment choice in the title of your submission. When you are ready to submit, click the Module 2 Critical Thinking header on the Assignments page to upload the document.

Assignment Option #1: Earnings per Share

Respond to the following. Submit journal entries in a table in MS Word and written segments in the same Word document. Do not submit two separate documents, as only one document can be accepted. For written answers, please make sure your responses are well written, formatted per the CSU-Global Guide to Writing and APA Requirements and have proper citations, if applicable.

As one of the auditors at Banquo & Associates, you have been assigned to check Duncan Corporation’s computation of earnings per share for the current year. The controller, Mac Beth, has supplied you with the following computations.

Net income

$3,374,960

Common shares

issued and outstanding:

Beginning of year

1,285,000

End of year

1,200,000

Average

1,242,500

Earnings per share:

$3,374,960

= $2.72 per share

1,242,500

You have developed the following additional information.

1. There are no other equity securities in addition to the common shares.

2. There are no options or warrants outstanding to purchase common shares.

3. There are no convertible debt securities.

Activities in common shares during the year were as follows.

Outstanding, Jan. 1

1,285,000

Treasury shares acquired, Oct. 1

250,000

Shares reissued, Dec. 1

165,000

Outstanding, Dec. 31

1,200,000

Questions:

1. On the basis of the information above, do you agree with the controller’s computation of earnings per share for the year? If you disagree, prepare a revised computation of earnings per share.

2. Assume the same facts as those presented above, except that options had been issued to purchase 140,000 shares of common stock at $10 per share. These options were outstanding at the beginning of the year, and none had been exercised or canceled during the year. The average market price of the common shares during the year was $25, and the ending market price was $35. What earnings per share amounts will be reported?

Assignment Option #2: Debt with Detachable Stock Warrants

Respond to the following. Submit journal entries in a table in MS Word and written segments in the same Word document. Do not submit two separate documents, as only one document can be accepted. For written answers, please make sure your responses are well written, formatted per the CSU-Global Guide to Writing and APA Requirements and have proper citations, if applicable.

Companies typically practice financing strategy whereby they incur long-term debt with an arrangement for lenders to receive an option to buy common stock during all or a portion of the time the debt is outstanding. In some situations, companies issue convertible bonds. In others, the debt instruments and the warrants to buy stock are separate. In the latter scenario, this is detachable stock warrants.

Required:

1.

1. Explain the differences that exist in current accounting for original proceeds of the issuance of convertible bonds and debt instruments with detachable warrants to purchase common stock.

2. Explain the underlying rationale for the differences described in Requirement 1a.

3. Summarize the arguments for the alternative accounting treatment.

2.

At the start of the year, Triple T Company issued $6 million of 7% notes along with warrants to buy 400,000 shares of its $10 par value common stock at $18 per share. The notes mature over the next 10 years, starting one year from date of issuance, with annual maturities of $600,000. At the time, Triple T had 3,200,000 shares of common stock outstanding, and the market price was $23 per share. The company received $6,680,000 for the notes and the warrants. For Triple T, 7% was a relatively low borrowing rate. If offered alone, at this time, the notes would have been issued at a 20 to 24% discount.

Prepare journal entries for the issuance of the notes and warrants for the cash consideration received. Notes would have been issued at a 20% to 24% discount.

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