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Owners ’ Equity

Owners ’ Equity RCJ Chapter 15 Key Issues Statement of O/E O/E accounts O/E events Convertible debt Statement of Owners ’ Equity (link to SCF, financing section) Shows all events affecting common O/E accounts (entry is O/E side of event JE)

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Owners ’ Equity

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  1. Owners’ Equity RCJ Chapter 15

  2. Key Issues • Statement of O/E • O/E accounts • O/E events • Convertible debt Paul Zarowin

  3. Statement of Owners’ Equity (link to SCF, financing section) Shows all events affecting common O/E accounts (entry is O/E side of event JE) ex. Stock issuances, repos, option exercises, NI, dividends, conversions, etc. Common O/E accounts _________________ events # shares*ParAPCTreasStockAcc’dCompIncR/ETotal 1. ex. Repo - DR DR 2. ex. Option + CRCR (or CR to Treasury Stock) CR exercise 3. ex. Con- + CRCR (or CR to Treasury Stock) CR version 4. ex. NICR CR 5. ex. DivDR DR * #’shares in table show the effect of the event on the specific O/E account (CR is + and DR is -) Ex. P15-13,14 Paul Zarowin

  4. Convertible Debt Def: bonds with an option attached • option = right to convert bonds into common stock @ conversion price for a certain period • because of conversion option, convertible bonds have yields < straight bonds • i.e., bondholder gives up some guaranteed interest for the possibility of stock price appreciation Journal entries 1. issuance: ignore conversion feature, as if its value were zero (just like IV method for options)  DR Cash CR B/P 2. interest payment: also just like straight bond DR Interest expense CR Cash Paul Zarowin

  5. Convertible Bonds (cont’d) 3.Conversion: 2 methods: market value method and book value method. market value method book value method DRCRDRCR B/P (BV) C/S (MV @ conversion) B/P (BV) C/S (BV) Loss  • MV > BV or no one would convert Ex. P15-3 Key financial statement analysis implications: 1. difficulty to estimate future cash outflows, because of the probability of conversion, and 2. recorded interest expense understates the true cost of debt Paul Zarowin

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