Reference no: EM132621294

Consider the following events for Suva Ltd.

a) purchased a machinery at a cost of $672,000. As at 30 June 2019 the machinery had accumulated depreciation of $168,000 and an expected remaining useful life of three years. On 30 June 2019 it was determined that the machinery could be sold at a price of $456,000 and that the costs associated with making the sale would be $24,600. Alternatively, the machinery is expected to be useful for another three years and it is expected that the net cash flows to be generated from the machine would be $165,000 over each of the next three years. It is assessed that at 30 June 2019 the market would require a rate of return of 5 per cent on this type of machinery.

b) on 1 July 2020 Suva Ltd issues $5 million of convertible bonds to Lautoka Ltd. The bonds have a life of five years, a face value of $3.00 each, and they offer interest, payable at the end of each financial year, at a rate of 6 per cent per annum. The bonds are issued at their face value and each bond can be converted into two ordinary shares in Suva Ltd at any time in the next five years. Organisations of a similar risk profile have recently issued debt with similar terms, but without the option for conversion. The market requires a rate of return of 8 per cent per annum on such securities. It is considered that investors in Suva Ltd are prepared to take a lower return (6 per cent) as a result of the facility to convert the bonds to equity.

REQUIRED:

Problem 1. Determine whether any impairment loss needs to be recognised in relation to the machinery and, if so, provide the appropriate journal entry at 30 June 2019. Also, provide the journal entry to account for depreciation in 2020.

Problem 2. Provide the journal entries to account for:

(a) the issue of the above securities

(b) the payment of the first year's interest,

(c) the conversion of the securities to equity, assuming that the conversion takes place two years after the bonds are issued.