Page 134 - FR Integrated Workbook 2018-19

Chapter 10

Example 5

Debt investment

On 1 January 20X1, Tokyo bought a $100,000 5% bond for $95,000, incurring
acquisition costs of $2,000. Interest is received annually in arrears. The bond
will be redeemed at a premium of $5,960 over nominal value on 31 December
20X3. The effective rate of interest is 8%. The fair value of the bond was as
follows:

31 December 20X1 $110,000

31 December 20X2 $104,000

Explain, with calculations, how the bond will have been accounted for
over all relevant years if:

(a) Tokyo planned to hold the bond until the redemption date.

(b) Tokyo may sell the bond if the possibility of an investment with a
higher return arises.

(c) Tokyo planned to trade the bond in the short-term, selling it for its
fair value on 1 January 20X2.

(a) The business model is to hold the asset until redemption. Therefore, the
debt instrument will be measured at amortised cost.
The asset is initially recognised at its fair value plus transaction costs of
$97,000 ($95,000 + $2,000).

Interest income will be recognised in profit or loss using the effective
rate of interest.

Year b/f Interest at 8% Paid c/f
20X1 97,000 7,760 (5,000) 99,760

20X2 99,760 7,981 (5,000) 102,741
20X3 102,741 8,219 (5,000) 105,960

In the year ended 31 December 20X1, interest income of $7,760 will be
recognised in profit or loss and the asset will be held at $99,760 on the
statement of financial position.

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