Question

15‐13 Convertible Debt Conversion Features FASB ASC 470 contains GAAP requirements for the initial recording of convertible debt. These debt instruments have either beneficial conversion features or conversion features that are not beneficial. Required: When does a convertible bond have a beneficial conversion feature that is not within the cash conversion subsection of ASC 470? Describe how these bonds are accounted for on issuance and discuss the rationale for this treatment. Are bonds that do not have a beneficial conversion feature accounted for in the same manner as those that do? If not, how and why are they accounted for differently?

Answer 1

A convertible bond is having beneficial conversion feature that is not within the cash conversion subsection of ASC 470 when the the value of the convertible bond is lower than the value of the instrument into which it is converted to. For example if a convertible bond of $10 is converted to a Common stock with a face value of $15, then it is a beneficial conversion as the value of the instrument into which it is converted to is higher than the value of Convertible Bond. This is beneficial for the holder of the instrument but the company that issues this will suffer losses.

Journal entry for the above example is:

Dr. Convertible bond................... $10

Dr. Profit & Loss A/c.....................$5

Cr. Share Capital....................................$15

Bonds that do not have a beneficial conversion feature will not have any price difference between the Convertible Bond and the new instrument into which it is converted. Hence, in relation to above example the journal entry for this would be:

Dr. Convertible bond..................$10

Cr. Share Capital...............................$10