21–13 Ch. 21—Problems
Problem 21-1, Concluded
Based on a comparison of the above effective interest rates (3.11% vs. 3.09%), it is apparent
that the creditor has made a concession. Therefore, the restructuring qualifies as a troubled
debt restructuring.
June 30, 2015 Debt Issuance Expense …………………………………………. 50,000
Unamortized debt issuance costs………………………………………. (61,836)
Accrued Interest Payable………………………………………………… 150,000
5,088,164
Accrued Interest Payable …………………………………………………………….. 150,000
Deferred Debt Issuance Costs …………………………………….. 150,000
To reclassify accrued interest as part of unamortized discount/premium.
Dec. 31, 2015 Interest Expense ……………………………………………………. 157,342
Interest Loan Deferred Debt Net Loan
Payment Expense Payable Issuance* Value**
0 $5,000,000 $88,164 $5,088,164
1 $165,000 $157,342 (7,658) 5,080,506
2 165,000 157,105 (7,895) 5,072,611
3 165,000 156,861 (8,139) 5,064,472
4 165,000 156,609 (8,391) 5,056,082
PROBLEM 21-2
(a) Cash ………………………………………………………………………………….. 20,000
Accumulated Amortization …………………………………………………….. 115,000
Loss on Sale of Patents ………………………………………………………… 5,000
Patents ………………………………………………………………………….. 140,000
Accrued Interest Payable ……………………………………………………… 15,000
Cash …………………………………………………………………………….. 185,000
Gain on Restructuring ……………………………………………………… 60,000
To record gain on restructuring of mortgage.
(d) Loan from Shareholder …………………………………………………………. 150,000
Gain on Restructuring ……………………………………………………… 10,000
To record restructuring of vendor payable.
(f) Bank Debt …………………………………………………………………………… 510,000
Accrued Interest Payable ……………………………………………………… 22,000
Investment Securities ……………………………………………………… 62,000
Problem 21-2, Concluded
(g) Bank Note …………………………………………………………………………… 60,000
Restructured Bank Note ………………………………………………….. 51,000
Gain on Restructuring ……………………………………………………… 9,000
To record restructuring of bank note.
(h) Creditor Debt ………………………………………………………………………. 120,000
Accumulated Depreciation …………………………………………………….. 150,000
Equipment ……………………………………………………………………… 220,000
Gain on Disposal of Equipment ………………………………………… 10,000
Total Interest Expense in Connection with First Quarterly Payment
Implicit
Number Quarterly
Original Reduction Unpaid Quarterly of Interest
Balance
in Balance Balance Payment Payments Rate
Mortgage payable ………… $245,000 $245,000 $ 0 $ 0 0 0.00%
Shareholder loan ………….. 154,500 30,000 124,500 8,810.25 16 1.50
PROBLEM 21-3
(1) Original Adjusted
December 31, 2017 December 31, 2017
Dr. (Cr.) Debit Credit Dr. (Cr.)
Cash ……………………………….. $ (15,000) $ (15,000)
Accounts receivable (net) …… 500,000 (a) $ 75,000 425,000
Inventory …………………………. 150,000 (a) 20,000 130,000
7% Note payable:
Current portion ……………. 0 (d) 240,000 (240,000)
Noncurrent portion ………. (1,500,000) (d) 300,000 (1,200,000)
Common stock at par ………… (550,000) (e) 1,000,000 (e) 550,000 (100,000)
Contributed capital in excess
of par …………………………. (550,000) (e) 550,000 0
Retained earnings …………….. 300,000 (e) 300,000 0
2017 Net income ………………. 240,000 (e) 240,000 0
(2) Calculation of ratios: Before Actions After Actions
Current ratio …………………………………….. 2.00 0.98
Problem 21-3, Concluded
(3) The above ratios have not improved as a result of management’s actions. However, several
benefits may not be apparent from the ratio analysis. First, management has a balance
sheet that more clearly reflects market values. Second, the recognition of impairment losses
PROBLEM 21-4
1. Classification of Liabilities:
Portion of Liability
Fully Partially Secured
Secured Secured Unsecured Unsecured Total
Accounts payable…………………
…
$ 0 $200,000 $ 50,000 $ 90,000 $ 340,000
Note payable………………………
…
250,000 350,000 600,000
…
Allocation of Assets:
Asset Net Realizable Value Allocated to
Fully Partially Secured Totally
Secured Secured Unsecured Unsecured Total
Free assets…………………………
…
$ 0 $ 0 $ 0 $ 85,000 $ 85,000
Inventory……………………………
…
330,000 330,000
…
Problem 21-4, Concluded
Dividend to general unsecured creditors:
Proceeds available to unsecured creditors………….…….………
$
411,000
Less: Unsecured with priority…………………………….…….…… (70,000)
Proceeds available to unsecured without priority………………….. 341,000
$
Amount received by holders of note payable:
Amount secured by specific assets:
Amount secured by inventory……………………………………. $130,000
2. Target present value of restructured note ($495,000 + $80,000) … $575,000
Given a: Target quarterly payment of ………………………………… 52,716
3. Carrying value of mortgage:
Principal balance ……………………………………………………………. $1,000,000
Accrued interest ……………………………………………………………… 24,000
21–19 Ch. 21—Problems
PROBLEM 21-5
(a) Note Payable—Officer ………………………………………………………….. 230,000
Patents (net) ………………………………………………………………….. 210,000
Gain on Patents ……………………………………………………………… 20,000
To record transfer of patents against note.
Loss on Equipment ………………………………………………………………. 20,000
Equipment (net) ……………………………………………………………… 240,000
To record transfer of equipment against note.
Bank B Note Payable …………………………………………………………… 50,000
Gain on Restructuring ……………………………………………………… 50,000
(f) Common Stock ($10 par value) ……………………………………………… 200,000
Common Stock ($5 par value) ………………………………………….. 100,000
Paid-In Capital from Reduction in Par Value ………………………. 100,000
To record reduction in par value.
Paid-In Capital from Reduction in Par Value ……………………………. 100,000
Problem 21-5, Concluded
Note A:
Implicit
Number Quarterly
Original Reduction Unpaid Quarterly of Interest
Balance
in Balance Balance Payment Payments Rate
Note payable—officer ……. $ 400,000 $ 230,000 $ 170,000 $ 35,026.77 5 1.00%
Quarterly
Unpaid Interest
Balance
Rate Payment Interest Principal
Note payable—officer ……. $ 170,000 1.00% $ 35,026.77 $ 1,700 $ 33,327
Mortgage payable ………… 1,400,000 2.00 51,178.05 28,000 23,178
PROBLEM 21-6
St. John Corporation
Statement of Realization and Liquidation
For the Period January 1, 2016, to June 30, 2016
Liabilities
Unsecured
Assets
Fully Partially With Without Shareholders’
Cash
Noncash Secured Secured Priority Priority Equity
Beginning balances, assigned
January 1, 2016 …………………. $42,000 $5,910,000 $100,000
Accounts payable ……………….. $ 400,000 $ 320,000 $ 92,000
Other liabilities …………………… 90,000 $ 35,000 95,000
Beginning balances …………….. $42,000 $5,910,000 $2,810,000 $2,820,000 $ 35,000 $187,000 $100,000
Subsequently discovered items:
Additional assets ………………… 15,000 15,000
Administrative expenses ……… 20,000 (20,000)
payable ………………………….. (400,000) (400,000)
Payment of accounts
payable …………………………..
Payment of broker’s fee ………. (10,000) (10,000)
Payment to Bank A …………….. (940,000) (940,000)
PROBLEM 21-7
Debt A The original effective interest rate on the note is 1.81% per quarter determined as
follows:
Where: Number of periods is………………. 12
Periodic payments are……………. $ 45,000 (6%/4 × $3,000,000)
The carrying value of the note at the time of the restructuring is $2,923,018 determined
as follows:
Where: Number of periods is………….…….. 9
Periodic payments are…………..….. $ 45,000 (6%/4 × $3,000,000)
Future value is……………………..… $3,000,000
Effective interest rate………………… 1.81% per quarter
The net present value of the new debt, based on the original debt’s effective interest rate
is $3,317,347 determined as follows:
Where: Number of periods is………………….. 13
Periodic payments are………………… $ 54,400 (6.4%/4 × $3,500,000)
The new loan is substantially different from the original loan in that the net present value
(NPV) of the new loan’s cash flows are at least 10% different than the net present value
of the original loan’s remaining cash flows determined as follows:
Net present value of new loan…………… $3,317,347
The transaction qualifies as an extinguishment of debt and the required impact on the in-
come statement is as follows:
Gain (loss) on extinguishment of debt:
Net carrying value of old loan…………… $2,923,018
Increase in principal amount……………. 400,000
21–23 Ch. 21—Problems
Problem 21-7, Continued
Interest expense recognized on December 31, 2014:
Effective interest rate on new debt is 1.86% determined as follows:
Where: Number of periods is………………… 13
Periodic payments are……………… $ 54,400
Debt B This qualifies as a troubled debt restructuring in that the debtor is experiencing financial
difficulties and the creditor has made a concession. The concession is obvious in that
the sum of the restructured payments are less than the carrying amount of the original
debt and therefore, the new effective interest rate is less than zero.
Carrying value of original debt:
NPV after three payments………… $2,923,018
Accrued interest payable…………… $45,000
Carrying value of original debt…… $2,968,018
Sum of cash payment on new debt:
Interest expense recognized on December 31, 2014:
No interest expense since the sum of the payments on the new debt are less
than the carrying value on the original debt immediately prior to the restructuring.
Debt C The effective interest rate on the original note immediately prior to restructuring is 2.91%
semiannual determined as follows:
Where: Number of periods is…………….. 7
Problem 21-7, Concluded
The effective interest rate on the restructured note is 1.87 % semiannual determined as follows:
Where: Number of periods is………………. 5
Periodic payments are…………….. $ 150,000 (5%/2 × $6,000,000)
Future value is……………………… $6,000,000
Present value is…………………….. $6,180,000
The creditor is deemed to have made a concession because the effective interest rate on the
restructured note is less than the effective interest rate on the original note immediately prior to
restructuring.