When the bond reaches maturity, it is time for the issuing company to repay the principal to whoever holds the bond at the time. This is also called redemption. The issuing company may have the option to redeem a bond early. Such securities are referred to as callable bonds.
Callable bonds are those bonds whereby the company has the right to buy back the bonds before maturity at a set or “call” price. In other words, callable bonds allow the issuing company to buy back the bonds before the stated maturity date. The issuer might want to do this to take advantage of lower market interest rates, which would allow for the issuance of new bonds to match those lower rates. In other words, the company could now make lower annual payments on its bonds.
Callable Bonds Example: Journal Entry in the General Journal
Hair Company is planning to expand its facilities by constructing a new building, and installing new machines. In order to complete this project, the company has decided to issue $2,000,000 worth of 20 year 4% callable bonds. On April 1, the company completed all the necessary paperwork, and is now ready to issue the bonds. Fortunately, just as Hair Company was issuing its bonds, the current market rate dropped to 3.5%. Their financial advisor recommended issuing the bonds at a premium of
How to record the journal entry for the issuance of bonds on April 1, year 1?
Premium bond price = 2,000,000 + 142,124 = 2,142,124