On the first day of its fiscal year Ebert Company issued 500

On the first day of its fiscal year, Ebert Company issued $50,000,000 of 10-year, 7% bonds to finance its operations. Interest is payable semiannually. The bonds were issued at a market (effective) interest rate of 9%, resulting in Ebert Company receiving cash of $43,495,895. The company uses the interest method.

Compute the amount of the bond interest expense for the first year. Round amounts to the nearest dollar.

Solution

Face Value = $50,000,000
Annual Coupon Rate = 7%
Semi-annual Coupon Rate = 3.50%
Semi-annual Coupon = 3.50%*$50,000,000
Semi-annual Coupon = $1,750,000
Annual Market Rate = 9%
Semi-annual Market Rate = 4.50%

June 30:

Carrying Value = $43,495,895

Interest Expense = 4.50%*$43,495,895
Interest Expense = $1,957,315

Amortization of Discount = $1,957,315 - $1,750,000
Amortization of Discount = $207,315

Dec. 31:

Carrying Value = $43,495,895 + $207,315
Carrying Value = $43,703,210

Interest Expense = 4.50%*$43,703,210
Interest Expense = $1,966,644

Amortization of Discount = $1,966,944 - $1,750,000
Amortization of Discount = $216,644

Interest Expense for the first year = $1,957,315 + $1,966,644
Interest Expense for the first year = $3,923,959