# Chapter 14

## Solutions

### Exercise 14.1

a. PV = (60,000 PMT, 8 I/Y, 4 N, 1,000,000 FV) = $933,757 b. For IFRS, the residual method is used. This allocates the proceeds first to the liability component and the residual to the equity component. The debt component is measured first as the par value compared to the present value of future cash flows without the convertible feature:  Total proceeds at par$1,000,000 PV of the debt component by itself (933,757) Incremental value of option $66,243 Entry: c. Under ASPE, the zero-equity method can be used as a policy choice. The equity component would be measured at$0 and the rest to the debt component.
Entry:

Also, the residual method can also be used as explained above. Entry is the same as the entry for IFRS:Entry:

### Exercise 14.2

a. Under IFRS, the residual method is applied whereby cash is allocated to the value of the debt instrument first, and the residual is allocated to equity. The debt value is calculated as $576,000 and the warrants are accounted for as equity instruments. b. Under ASPE one option is to measure the component that is most easily measurable first (usually the debt component) and apply the residual to the other equity component. This is the option under IFRS, and the journal entry will, therefore, be the same: Another option is to measure the equity component using the zero-equity method. This means that equity is measured at$0 and the journal entry would be:

c. Allocating the entire issuance to the debt component, and therefore zero to equity, results in a higher debt to total assets ratio as compared with the residual method. A lower debt to total assets ratio indicates better debt paying ability and long-run solvency.

### Exercise 14.4

a.

*
**

b.

Note: The bonds payable carrying value would no longer include any unamortized premium, so the face value or par value would be the carrying value at maturity.

c. Due to common shares market price volatility, there is a risk in waiting to convert the bonds. If the bondholder does not convert when the common share market value is high, no gain will be realized. Conversely, if the common shares market price declines too far, the bondholder risks not being able to sell the bonds, rendering the conversion rights worthless.

### Exercise 14.5

Residual method, using the fair value of the warrants first and the residual to the bonds:

Fair value of bonds without warrants is = $396,000 ### Exercise 14.8 * ** ### Exercise 14.9 Residual method: Zero-equity method: ### Exercise 14.10 a. * PV (10%, 5N, 135,000 PMT, 1,500,000 FV) b. IFRS: * 1,443,138 × 10% – 135,000 = 9,314 1,443,138 + 9,314 = 1,452,452 × 10% – 135,000 = 10,245 1,452,452 + 10,245 = 1,462,697 Or: Using present values and changing the number of periods from five years to three years: PV (10%, (5 – 2)N, 135,000 PMT, 1,500,000 FV) =$1,462,697

c. ASPE:

* Same calculation as in previous part
** 1,462,697 – 1,470,000 = 7,303
*** 10,000 – 7,303 = 2,697