(L01) (Lump-Sum Sale of Stock with Bonds) Faith Evans Corporation is a regional company which is an SEC registrant.

The corporation’s securities are thinly traded on NASDAQ. Faith Evans Corp. has issued 10,000 units. Each unit consists of a $500 par, 12% subordinated debenture and 10 shares of $5 par common stock. The units were sold to outside investors for cash at $880 per unit. Prior to this sale, the 2-week ask price of common stock was $40 per share. Twelve percent is a reasonable market yield for the debentures, and therefore the par value of the bonds is equal to the fair value.

Instructions

(a) Prepare the journal entry to record Evans’ transaction, under the following conditions.

(1) Employing the incremental method.

(2) Employing the proportional method, assuming the recent price quote on the common stock reflects fair value.

(b) Briefly explain which method is, in your opinion, the better method.