On January 1, 2008, Merrill Corporation issued $2 million of par value 10-year bonds. The bonds pay interest semiannually on January | and July 1 at an annual rate of 10% and are callable at 102% of par. The bonds were issued to yield 8% annually.

Required:

1. Compute the issue price of the bonds..

2. Compute the amount of interest expense on the bonds for 2008, assuming that the effec- tive interest method is used.

3. Merrill uses the indirect method of computing cash flows from operations on its cash flow statement (see Chapter 4). How much will be added to or subtracted from reported net in- come in 2008 for these bonds to obtain cash flows from operations?

4. On January 1, 2009, the market yield on the bonds increased to 9%, and Merrill decided to retire the debt early. Indicate how much Merrill would save by exercising the call option rather than by purchasing the debt in the open market.

5. What entry would Merrill make on January 1, 2009 to record the bond retirement, assum- ing that it exercises the call option?