Stallion Corporation sold $100,000 par value, 10-year first mortgage bonds to Pony Corporation on January 1, 20X5. The bonds, which bear a nominal interest rate of 12 percent, pay interest semiannually on January 1 and July 1. The entry to record interest income by Pony Corporation on December 31, 20X7, was as follows: Note: Assume using straight-line amortization of bond discount or premium.

General JournalDebitCredit
Interest Receivable6,000
Interest Income 5,750
Investment in Stallion Corporation Bonds 250

Pony Corporation owns 65 percent of the voting stock of Stallion Corporation, and consolidated statements are prepared on December 31, 20X7.

Required:
a. What was the original purchase price of the bonds to Pony Corporation?

b. What is the balance in Pony’s bond investment account on December 31, 20X7?

c. Prepare the worksheet consolidation entry or entries needed to remove the effects of the intercompany ownership of bonds in preparing consolidated financial statements for 20X7. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field.)

Solution :

a).

Amortization of the bonds premium semi annually = $ 250

Amortization of the bonds premium annually = 250 x 2

                                                                           = $ 500

Bond premium = 500 x 10

                        = $ 5000

Par value bond = $100,000

Premium on the bonds = $ 6000

∴ Original price of the bonds = $ 106,000

b).

Original purchase price = $ 106,000

Semi annually periods from 1 Jan 20X5 to 31 Dec 20X7 = 3 yrs x 2 = 6 periods.

The premium amortization till 31st Dec, 20X7 = $ 250 x 6 = $1500

The balance of the bond investment account = $ 106,000 - $1500

                                                                            = $ 104,500

c).

Event 1

Accounts                                                                       Debit                   Credit

Bonds payable                                                          $100,000

Bonds premium (6000-1500)                                   $4500

Interest income (5750 x 2)                                        $ 11500

Investment in the Stallion Bonds                                                        $104,500

Interest expenses                                                                                 $ 11500

Event 2

Accounts                                                                       Debit                   Credit

Interest payable                                                          $ 6000

Interest receivable                                                                                  $6000

answer; rapid growth in buyer demand and high buyer switching cost;