Issue at par (nominal value) and redeemed once-off at discount
Mieke Limited purchases a 10% CU1,000 debenture at par on 1 January 2011, issued by MPHO LIMITED, a company listed on the JSE Limited. The debenture matures once-off on 31 December 2013 at CU900. Interest on the debenture is payable six-monthly on 30 June and 31 December. Transaction costs of CU75 were paid on this issue by Mpho Limited. The market related interest rate for debentures with similar terms is 5,05% per annum.
The objective of Mieke Limited’s business model is to hold the debenture in order to collect contractual cash flows. The contractual terms of the debenture give rise on specified dates to cash flows that are solely payments of principal and interest on the principal amount outstanding. The asset was at no stage credit impaired. Ignore expected credit losses. Mpho Limited did not designate the debenture as measured at fair value through profit or loss. Mpho Limited’s reporting date is 31 December.
REQUIRED
- Prepare the general journal entries (cash transactions included) of Mpho Limited for the years 1 January 2011 to 31 December 2013 (inclusive) to account for all matters related to the above transaction.
- Prepare the Debenture Liability general ledger account, of Mpho Limited for the years 1 January 2011 to 31 December 2013 (inclusive), properly closed off.
🇿🇦 Mieke is a popular Afrikaans name meaning “water” and is derived from Dutch. Pronounce it MY-khu.
🇿🇦 Mpho is a unisex name of Tswana origin meaning “gift”. Pronounce it M-phô.
SOLUTION
Calculations
|
Date of cash flow |
|
Cash flow CU |
| 01/01/2011 | (CU1,000 – CU75) | 925 |
| 30/06/2011 | (CU1,000 x 10% x 6/12) | (50) |
| 31/12/2012 | (CU1,000 x 10% x 6/12) | (50) |
| 30/06/2012 | (CU1,000 x 10% x 6/12) | (50) |
| 31/12/2012 | (CU1,000 x 10% x 6/12) | (50) |
| 30/06/2013 | (CU1,000 x 10% x 6/12) | (50) |
| 31/12/2013 | (CU1,000 x 10% x 6/12) | (50) |
| 31/12/2013 | (900) |
Calculation of the fair value of the liability on initial recognition
| PMT | 50 | (1,000 x 10%) ÷ 2 |
| FV | 900 | |
| N | 6 | (2 x 3) |
| I/YR | 2,525 | (5,05 ÷ 2) |
| Thus PV | = – CU1,050,11 |
Calculation of the effective interest rate as the liability amount initially recognised changes due to transaction costs
| PMT | 50 | (1,000 x 10%) ÷ 2 |
| FV | 900 | |
| N | 6 | (2 x 3) |
| PV | – 975,11 | (1,050,11 – 75,00 transaction costs) |
| Thus | = 3,965337528% for 6 months | |
| I/YR | = 7,9307% per annum (rounded) | |
1. General Journal of Mpho Limited
|
|
|
DR CU |
CR CU |
|
2011 |
|
|
|
|
01/01 |
Bank (SFP) |
1,000,00 |
|
|
|
Fair value adjustment (other expenses) (P or L) |
50,11 |
|
|
|
Debenture liability (SFP) |
|
1,050,11 |
|
|
Debenture liability accounted for at fair value |
|
|
|
01/01 |
Debenture liability (SFP) |
75,00 |
|
|
|
Bank (SFP) |
|
75,00 |
|
|
Transaction costs paid |
|
|
|
30/06 |
Finance cost (P or L) |
38,67 |
|
|
|
Debenture liability (SFP) |
|
38,67 |
|
|
(CU1,050,11 – CU75) x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
30/06 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU1,050,11 – CU75,00 + CU38,67 – CU50,00 = CU963,78 |
|
|
|
31/12 |
Finance cost (P or L) |
38,22 |
|
|
|
Debenture liability (SFP) |
|
38,22 |
|
|
CU963,78 x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
31/12 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU963,78 + CU38,22 – CU50,00 = CU952,00 |
|
|
|
2012 |
|
|
|
|
30/06 |
Finance cost (P or L) |
37,75 |
|
|
|
Debenture liability (SFP) |
|
37,75 |
|
|
CU952,00 x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
30/06 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU952,00 + CU37,75 – CU50,00 = CU939,75 |
|
|
|
31/12 |
Finance cost (P or L) |
37,26 |
|
|
|
Debenture liability (SFP) |
|
37,26 |
|
|
CU939,75 x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
31/12 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU939,75 + CU37,26 – CU50,00 = CU927,01 |
|
|
|
2013 |
|
|
|
|
30/06 |
Finance cost (P or L) |
36,76 |
|
|
|
Debenture liability (SFP) |
|
36,76 |
|
|
CU927,01 x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
30/06 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU927,01 + CU36,76 – CU50,00 = CU913,77 |
|
|
|
31/12 |
Finance cost (P or L) |
36,23 |
|
|
|
Debenture liability (SFP) |
|
36,23 |
|
|
CU913,77 x 7,9307% x 6/12 |
|
|
|
|
Finance cost recognised at the effective interest rate |
|
|
|
31/12 |
Debenture liability (SFP) |
50,00 |
|
|
|
Bank (SFP) |
|
50,00 |
|
|
Recognise finance cost paid |
|
|
|
|
Balance on Debenture liability account: CU913,77 + CU36,23 – CU50,00 = CU900,00 |
|
|
|
|
Debenture liability (SFP) |
900,00 |
|
|
|
Bank (SFP) |
|
900,00 |
|
|
Debenture redeemed at discount |
|
|
|
|
Balance on Debenture liability account: |
|
|
2. General ledger of Mpho Limited
Comment
The coupon rate of the debenture of 10% p.a. (nominal rate) > 7,9307% p.a. offered on similar instruments in the market. Therefore the debenture with a nominal value of CU1,000 will be redeemed at a discount, for CU900. Investors earned more interest in cash during the term of the debenture investment than the market was offering and would therefore have been prepared to receive less capital back than was originally invested, when investment matured.
