Blanton Plastics, a household plastic product manufacturer, borrowed $28 million cash on October 1, 2018, to provide working capital for year-end production. Blanton issued a four-month, 12% promissory note to L&T Bank under a prearranged short-term line of credit. Interest on the note was payable at maturity. Each firm’s fiscal period is the calendar year. Required:
1. Prepare the journal entries to record (a) the issuance of the note by Blanton Plastics and (b) L&T Bank’s receivable on October 1, 2018.
2. Prepare the journal entries by both firms to record all subsequent events related to the note through January 31, 2019.
3. Suppose the face amount of the note was adjusted to include interest (a noninterest-bearing note) and 12% is the bank’s stated discount rate.
(a) Prepare the journal entries to record the issuance of the noninterest-bearing note by Blanton Plastics on October 1, 2018, the adjusting entry at December 31, and payment of the note at maturity.
(b) What would be the effective interest rate?

1. Prepare the journal entries to record (a) the issuance of the note by Blanton Plastics and (b) L&T Bank’s receivable on October 1, 2018.

a) October 1, 2018, loan obtained from L&T Bank

Dr Cash 28,000,000

    Cr Notes payable 28,000,000

b) October 1, 2018, loan granted to Blanton Plastics

Dr Notes receivable 28,000,000

    Cr Cash 28,000,000

2. Prepare the journal entries by both firms to record all subsequent events related to the note through January 31, 2019.

a) December 31, 2018, accrued interests on bank loan

Dr Interest expense 840,000

    Cr Interest payable 840,000

January 31, 2019, loan is repaid

Dr Notes payable 28,000,000

Dr Interest payable 840,000

Dr Interest expense 280,000

    Cr Cash 29,120,000

b) December 31, 2018, accrued interests on Blanton Plastics' loan

Dr Interest receivable 840,000

    Cr Interest revenue 840,000

January 31, 2019, loan repaid by Blanton Plastics

Cr Cash 29,120,000

    Cr Notes receivable 28,000,000

    Cr Interest receivable 840,000

    Cr Interest revenue 280,000

3. Suppose the face amount of the note was adjusted to include interest (a noninterest-bearing note) and 12% is the bank’s stated discount rate.

(a) Prepare the journal entries to record the issuance of the noninterest-bearing note by Blanton Plastics on October 1, 2018, the adjusting entry at December 31, and payment of the note at maturity.

October 1, 2018, loan obtained from L&T Bank

Dr Cash 28,000,000

Dr Discount on notes payable 1,120,000

    Cr Notes payable 29,120,000

December 31, 2018, accrued interests on bank loan

Dr Interest expense 840,000

    Cr Discount on notes payable 840,000

January 31, 2019, loan is repaid

Dr Notes payable 29,120,000

Dr Interest expense 280,000

    Cr Cash 29,120,000

    Cr Discount on notes payable 280,000

(b) What would be the effective interest rate?

effective interest rate = (1 + 12%/3)³ - 1 = 1.124864 - 1 = 0.124864 = 12.49%