Lesson: Convertible Bonds

Instructor: Nick Palazzolo

In this lesson, discover the financial instrument known as a convertible bond and its unique feature that allows it to be transformed into a predetermined number of common stock shares. Nick Palazzolo, CPA, breaks down the mechanics of convertible bonds, highlighting how they provide an additional incentive for investment through the option of conversion. He takes you through an example that illustrates the process of converting bond debt into common stock, including how to account for premiums, par value, and additional paid-in capital (APIC) in journal entries. He also advises checking out the bond section for a deeper understanding if the concept seems complex, reassuring that all the information will click with a bit more context.

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Transcript

Instructor: Nick Palazzolo

Nick Palazzolo is head instructor of ExamPrep.ai CPA Review. Nick's teaching style is engaging & upbeat, combining practical Big 4 tax & assurance expertise with years of 1-on-1 coaching. His lessons are concise and emphasize what you need to know to pass. Whether you're a recent grad or working full-time, we’re confident you can conquer your CPA exams with Nick’s review.

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As I mentioned, wouldn't you know it? It's like I'm psychic, right? I mentioned convertible bonds and now here they are. A convertible bond is the same as a normal bond in form, however, it's a fixed income debt security that pays out interest, right? That's a normal bond. However, this convertible bond can be converted into a predetermined amount of common stock shares. So maybe, you know, a hundred thousand dollar bond pays out 10% interest, blah, blah, blah. But in addition to all of that, I can give this bond back and now get 100 shares. That's just a stipulation of the bond, just another incentive for me to buy the bond. Maybe the stock is now increasing in value and I want the shares instead. Converting the bonds to stock can be done at multiple different periods of the bond's life, at the choice of the bondholder. That's how this plays into diluted earnings per share. That's why it's important.

Well, let's see an example of converting that debt to common stock, right? So we have a convertible bond. We're converting it to common stock conversion or debt. Let's see what we've got. Well, ABC company issued a $1,000 bond to Park Company issued at a $45 premium. Now, here's a good point where I'm going to say if you haven't seen the bond section yet, I would skip over this example until you have reviewed the bond lecture. There's only so much we can do in terms of putting this in order of everything because there are topics that intermingle with each other, but follow along best you can. Premiums and discounts on bonds. That's something you'll see later on. This bond is convertible and the rate is one bond for ten shares of stock.

And ABC company

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Conceptual Framework and Standard-setting for Business and Nonbusiness Entities

Module: 4 Concepts, 43 Lessons

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Conceptual Framework Objectives

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FASB Statements of Financial Accounting Concepts

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