On 1 July 2020, David Ltd issues 2,000 convertible notes. The notes have a three-year term and are issued at par with a face value of $1,000 per note, giving total proceeds at the date of issue of $2 million. The notes pay interest at 5% p.a. annually in arrears. The holder of each note is entitled to convert the note into 300 ordinary shares of David Ltd at contract maturity. When the notes are issued, the prevailing market interest rate for similar debt (similar term, similar credit status of issuer and similar cash flows) without conversion options is 8% per annum.

Required

a) Prepare an effective interest schedule and distinguish between the allocation of interest payments and interest expense for each reporting period during the term of the note issue. (4 marks)

b) Prepare the journal entries of David Ltd to account for the convertible notes for each year ending 30 June under the following circumstances. (7 marks)

The holders exercise their conversion option at the expiration of the contract term.

Present value of $1 annuity over 3 years at 8% per annum	2.577097
Present value of $1 lump sum in 3 years at 8% per annum	0.793832