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On 1 July 2021 Scarecrow Ltd issues convertible notes with a face value of $6 million. The convertible notes have a 20-year term and mature on 30 June 2041. Interest is payable semiannually in arrears, on 31 December and 30 June each year, and the coupon rate of interest is 7.5% p.a. At around the same point in time, companies with a similar credit rating issue debt securities without a conversion option with a coupon rate of 10% p.a., payable semiannually.
Question 1: Explain why the coupon rate to holders of the convertible notes is less than the rate of return offered to investors in the debt securities of other similar companies.
Question 2: Determine the debt and equity components of the convertible notes issued using the residual valuation method.
Question 3: Prepare the entries of Scarecrow Ltd to account for the convertible notes over the period 1 July 2021 to 30 June 2024.
Include a detailed explanation of the conclusion you reached concerning whether or not to call the bond before maturity and Discuss the advantages
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