On July 2, 2006 the McGraw Corporation issued $500,000 of convertible bonds. Each $1,000 bond could be converted into 20 shares of the company’s $5 par value stock. On July 3, 2008, when the bonds had an unamortized discount of $7,400, and the market value of the McGraw shares was $52 per share, all the bonds were converted into common stock.
1. Prepare the journal entry to record the conversion of the bonds under
(a) The book value method, and
(b) The market value method.
2. Compute the company’s debt-to-equity ratio (total liabilities divided by total stockholders’ equity, as mentioned in Chapter 6) under each alternative. Assume the company’s other liabilities are $2 million and stockholders’ equity before the conversion is $3 million.