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- February 13, 2021 at 5:11 am #610191
On 31 December 20X3, Hummings Co purchased $10 million 5% bonds in Stave Co at par value. The bonds are repayable on 31 December 20X6 and the effective rate of interest is 8%. Hummings Co’s business model is to collect the contractual cash flows over the life of the asset. At 31 December 20X3, the bonds were considered to be low risk and as a result the 12-month expected credit losses are expected to be $10,000. On 31 December 20X4, Stave Co paid the coupon interest, however, at that date the risks associated with the bonds were deemed to have increased significantly. The present value of the repayments for the year ended 31 December 20X5 were estimated to be $462,963 and the probability of default is 3%. At 31 December 20X4, it is also anticipated that no further coupon payments would be received during the year ended 31 December 20X6 and only a portion of the nominal value of the bonds would be repaid. The present value of these cash shortfalls was assessed to be $6,858,710 with a 5% likelihood of default in the year ended 31 December 20X6.
question: a calculation and discussion of how the bonds should be accounted for in the financial statements of Hummings Co as at 31 December 20X3 and for the year ended 31 December 20X4, including any impairment losses.
sir my question is that why are we incorporating the probability of year 20×5 and 20×6(to find impairment) in our calculation, even though we are expected to calculate until for the year ended 31 dec 20×4?
February 14, 2021 at 9:49 am #610330(Please do not copy and paste entire questions. Please summarise the question in your own words).
In x4 we have reached Stage 2 of the impairment model.
Therefore we must recognise LIFETIME losses – all losses that will be incurred in future years.
February 14, 2021 at 10:28 am #610348ok sir, got it
February 15, 2021 at 4:10 pm #610539My pleasure
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