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Chapter15
Investments
Intermediate Accounting 10th edition
Nikolai Bazley Jones
An electronic presentation
by Norman Sunderman
Angelo State University
COPYRIGHT © 2007 Thomson South-Western, a part of The Thomson Corporation.
Thomson, the Star logo, and South-Western are trademarks used herein under license.
2
Why Companies Invest in
Other Companies
Additional revenues from idle cash.
2. Control over another company.
3. Beneficial relationship with another
company.
1.
3
Classification of
Investments
1. Trading securities
2. Available-for-sale
securities
3. Held-to-maturity
debt securities
4
Classification of
Investments
Trading securities are investments in
debt and equity securities that are
purchased and held principally for the
purpose of selling them in the near term.
5
Trading Securities
These
Trading
securities
securities
are
arereported
investments
at their
in debt
fair
and
market
equity
value
securities
on thethat
balance
are purchased
sheet date,
and
and
held unrealized
principally holding
for the purpose
gains and
of selling
losses
are included
them
in in
nettheincome
near term.
of the period.
6
Available-for-Sale Securities
Investments in available-forsale securities are (a) debt
securities that are not
classified as being held to
maturity, and...
7
Available-for-Sale Securities
…(b) debt and equity securities
that are not classified as
trading securities.
8
Available-for-Sale Securities
Investments in available-for-sale
securities are reported at their
fair value on the balance sheet
date. The unrealized holding
gains or losses are included in
other comprehensive income.
9
Available-for-Sale Securities
Therefore, the unrealized holding
gains and losses for available-forsale securities are not included in
net income.
10
Held-to-Maturity Securities
Investments in held-to-maturity
debt securities are debt
securities for which the
company has the positive intent
and ability to hold until they
mature.
11
Held to Maturity Securities
Investments in held-to-maturity
debt securities are reported at
their amortized cost on the
balance sheet…not their fair
value.
12
Accounting for Investments
Method
Reporting of
Unrealized Holding
Gains and Losses
Investment in Debt Securities
1. Trading
2. Available for sale
3. Held to maturity
Fair value
Fair value
Net Income
Other comprehensive income
Amortized cost Not recognized
Investments in
Available-for-Sale
Debt and Equity Securities
The investment is initially recorded at cost.
2. It is subsequently reported at fair value.
3. Unrealized holding gains and losses are
reported as a component of other
comprehensive income.
4. Interest and dividend revenue, as well as
realized gains and losses on sales, are
included in net income for the current period.
1.
13
Investments in
Available-for-Sale
Debt and Equity Securities
14
The cost and fair value of the available-for-sale
securities held by the Kent Company is as follows:
Security
Cost
100 shares of A Co. common stock $ 5,000
300 shares of B Co. common stock 24,000
200 shares of C Co. preferred stock 24,000
D Company 10% bonds
15,000
Totals
$68,000
Cumulative
12/31/06
Change
Fair
in Fair
Value
Value
$ 6,000
23,500
26,000
15,500
$71,000
$1,000
(500)
2,000
500
$3,000
Investments in
Available-for-Sale
Debt and Equity Securities
15
The cost and fair value of the available-for-sale
securities held by the Kent Company is as follows:
Allowance for Change in Value
of Investment
Security
Cost
Unrealized Increase/Decrease
of Available-for100 sharesin
of Value
A Co. common
stock $ 5,000
300 sharesSale
of B Co.
common stock 24,000
Securities
200 shares of C Co. preferred stock 24,000
D Company 10% bonds
15,000
Totals
$68,000
Cumulative
12/31/06
Change
Fair
in Fair
3,000
Value
Value
$ 6,000
23,500
26,000
15,500
$71,000
$1,000
(500)
3,000
2,000
500
$3,000
Investments in
Available-for-Sale
Debt and Equity Securities
16
The same securities are held on December 31, 2007.
Security
Cost
100 shares of A Co. common stock $ 5,000
300 shares of B Co. common stock 24,000
200 shares of C Co. preferred stock 24,000
D Company 10% bonds
15,000
Totals
$68,000
Cumulative
12/31/07
Change
Fair
in Fair
Value
Value
$ 6,100
22,700
23,200
14,000
$66,000
$1,100
(1,300)
(800)
(1,000)
$(2,000)
17
Allowance for Change in
Value of Investment
12/31/06
3,000
5,000 adjusting entry
2,000
12/31/07
Unrealized Increase/Decrease in
Value of Available-for-Sale Securities 5,000
Allowance for Change in Value of
Investment
5,000
18
Sale of Available-for-Sale
Securities
On March 1, 2008, the Kent Company sold 100
shares of A Company stock for $6,000. The stock
had a fair value on Dec. 31, 2007, of $6,100.
Cash
Investment in Available-forSale Securities
Gain on Sale of Available-forSale Securities
6,000
5,000
1,000
The Unrealized Increase/Decrease in Value (DR) and
the allowance (CR) account are reduced by $1,100.
19
Available-for-Sale Securities
December 2008
Security
Cost
300 shares of B Co. common stock $24,000
200 shares of C Co. preferred stock 24,000
D Company 10 bonds
15,000
Totals
$63,000
Cumulative
12/31/08
Change
Fair
in Fair
Value
Value
$23,500
24,100
14,700
$62,300
$(500)
100
(300)
$(700)
Allowance for Change in
Value of Investments
2,400 adjusting entry
2,000
1,100
12/31/07
3/1/08
700
12/31/08
Allowance for Change in Value of Investment 2,400
Unrealized Increase/Decrease in
Value of Available-for-Sale Securities
2,400
20
21
Accounting for Investments
Classify
According to
Management
Intent as:
Recognize
Interest and
Dividend
Revenue in:
Recognize
Realized
Gain or
Loss in:
Compute
Realized
Gain or
Loss as:
Trading
Net Income
Availablefor-Sale
Net Income
Net Income Selling Price minus
Fair Value at Most
Recent Balance
Sheet Date
Net Income Selling price minus
(Amortized) Cost
Held-toMaturity
Net Income
Net Income Selling Price minus
(Amortized) Cost
22
Investments in Held-toMaturity Debt Securities
The investment is initially recorded at
cost.
2. It is subsequently reported at amortized
cost.
3. Unrealized holding gains and losses are
not recorded.
4. Interest revenue and realized gains and
losses on sales (if any) are all included
in net income.
1.
23
Investments in Held-toMaturity Debt Securities
A company purchases 9% bonds with a face
value of $100,000 on August 1, 2006, at 99 plus
accrued interest, which is payable semiannually.
$100,000 x 0.99
Investment in Held-to-Maturity
Debt Securities
Interest Revenue
Cash
99,000
1,500
100,500
$100,000 x 0.09 x 2/12
24
Accounting for Bond
Premiums
On January 1, 2006, Colburn Company invests in
bonds that will be held to maturity, with a face value
of $100,000, paying $102,458.71. The stated rate is
13% and the effective interest rate is 12%.
Investment in Held-toMaturity Debt Securities 102,458.71
Cash
102,458.71
25
Accounting for Bond
Premiums
Colburn Company records the first interest receipt
on June 30, 2006, using the effective interest method.
$100,000 x 0.13 x 1/2
Cash
6,500.00
Investment in Held-toMaturity Debt Securities
Interest Revenue
352.48
6,147.52
$102,458.71 x .12 x 1/2
26
Accounting for Bond
Discounts
On January 1, 2006, Colburn Company invests
in bonds that will be held to maturity, with a
face value of $100,000, paying $97,616.71. The
stated rate is 13% and the effective interest rate
is 14%.
Investment in Held-toMaturity Debt Securities 97,616.71
Cash
97,616.71
27
Accounting for Bond
Discounts
Colburn Company records the first
interest receipt on June 30, 2006,
using the effective interest method.
Cash
Investment in Held-toMaturity Debt Securities
Interest Revenue
6,500.00
333.17
6,833.17
$97,616.71 x .14 x 1/2
28
Investment in Securities
Classify
According to
Management Initially
Intent as:
Record as:
Subsequently
Report on the
Balance
Sheet at:
Recognize
Unrealized
Holding Gains
and Losses in:
Trading
Cost
Fair Value
Net Income
Availablefor-Sale
Cost
Fair Value
Other Comprehensive Income
Held-toMaturity
Cost
Amortized
Cost
---
29
Amortization of Bonds Acquired
Between Interest Dates
Tallen Company purchased 13% bonds with a face
value of $200,000 for $204,575.07 on April 3, 2006.
Interest on these bonds is payable June 30 and
December 31, and the bonds mature on December 31,
2008.
Investment in Held-to-Maturity
Debt Securities
204,575.07
Interest Revenue
6,500.00
Cash
211,075.07
$200,000 x
Continued
0.13 x 3/12
30
Amortization of Bonds Acquired
Between Interest Dates
($204,575.07
x 0.12 x ¼)
+ $6,500
June 30, 2006
Cash
13,000.00
Interest Revenue
12,637.25
Investment in Held-to-Maturity
Debt Securities
362.75
Continued
$13,000 –
$12,637.25
31
Amortization of Bonds Acquired
Between Interest Dates
December 31, 2006
($204,575.07
- $362.75) X
0.12 X 1/2
Cash
13,000.00
Interest Revenue
12,252.74
Investment in Held-to-Maturity
Debt Securities
747.26
$13,000 –
$12,252.74
32
Sale of Investment in Bonds
Before Maturity
The $100,000 of 13% bonds purchased by the
Colburn Company for $97,616.71 were sold on
March 31, 2007, for $102,000 plus accrued interest.
($2,383.29 ÷
6) x ½
Investment in Held-to-Maturity
Debt Securities
198.61
Interest Revenue
198.61
Continued
33
Sale of Investment in Bonds
Before Maturity
$102,000
$100,000
x 0.13 x ¼
+ $3,250
Cash
105,250.00
Interest Revenue
Gain on Sale of Debt Securities
Investment in Held-to-Maturity
Debt Securities
3,250.00
3,390.24
98,609.76
$98,411.15 +
$198.61
34
Transfers of Investments
Between Categories
1. A transfer from the trading category.
2. A transfer into the trading category.
3. A transfer into the available for sale
category.
4. A transfer of a debt security into the
held to maturity category from the
available for sale category.
35
Transfer from Available-for-Sale
to Trading Securities
In 2007, Kent transfers the Company A securities into
the trading category when the fair value is $6,300.
Investment in Trading Securities
6,300
Investment in Available-forSale Securities
5,000
Gain on Transfer of Securities
1,300
Unrealized Increase/Decrease in
Value of Available-for-Sale Securities 1,100
Allowance for Change in Value of
Investment
1,100
36
Transfers from Held-to-Maturity
to Available-for-Sale
Devon Company has $10,000 in bonds that were
purchased at par. When the fair value is $9,500,
Devon transfers them to the available-for-sale
category.
Investment in Available-for-Sale
Securities
10,000
Investment in Held-toMaturity Debt Securities
10,000
Unrealized Increase/Decrease in
Value of Available-for-Sale Securities 500
Allowance for Change in Value of
Investment
500
37
Transfer from Available-for-Sale
to Held to Maturity
Devon Company classifies its bond investment as
available for sale with a previous fair vale of $9,700,
and transfers them into the held-to-maturity category
when the current market value of the debt securities
is $9,500.
Investment in Held-to-Maturity Debt
Securities
9,500
Unrealized Increase/Decrease from
Transfer of Securities
500
Investment in Available-forSale Securities
10,000
Continued
38
Transfer from Available-for-Sale
to Held to Maturity
An entry is needed to eliminate the previous $300
($9,700 – $10,000) amount in the allowance and
unrealized increase/decrease accounts.
Allowance for Change in Value of
Investment
Unrealized Increase/Decrease in
Value of Available-for-Sale
Securities
300
300
39
Impairments
Impairments may be an “other than
temporary” decline below the
amortized cost of an investment in a
debt security classified as available
for sale or held to maturity.
40
Impairments
Tracy Company has a bond investment categorized
as held to maturity, which has an unamortized
carrying amount of $21,500 and a fair value of
$6,500. The investment is considered to be
“impaired.”
Realized Loss on Decline in Value 15,000
Investment in Held-to-Maturity
Debt Securities
15,000
41
Financial Statement
Classification
Current Assets
Temporary investment in available-for-sale
securities (at cost)
Plus: Allowance for change in value of
investment
Temporary investment in available-for-sale
securities (at fair value)
$29,000
500
$29,500
Noncurrent Assets
Investment in available-for-sale securities (at cost) $39,000
Plus: Allowance for change in value of investment 2,500
Investment in available-for-sale securities
(at fair value)
$41,500
42
Equity Method
When an investor
corporation owns a
significantly large
percentage of common
stock, it is able to exert
significant influence over
the policies of the investee
corporation. The equity
method is used to account
for this investment.
43
Equity Method
Acknowledges the existence of a material
economic relationship between the investor
and the investee.
Is based upon the requirements of accrual
accounting.
Reflects the change in stockholders’ equity
of the investee company.
44
Equity Method
In the
According
absenceto
ofFASB
evidence
Interpretation
to the contrary,
No.an
35,
what
investment
are theoffacts
20%and
or
more
circumstances
in the outstanding
that
indicate
commonthat
stock
investors
of the
with
investee
20% or
leads
more
to in
thethe
investee’s
presumption
stock
of significant
should not
use theinfluence.
equity method?
45
Equity Method Not Used
 Opposition by the investee which challenges the
investor’s ability to exercise significant influence.
 The investor and investee sign an agreement under
which the investor surrenders significant
stockholder’s rights.
 Majority ownership of the investee is concentrated
among a small group of shareholders who operate
the investee without regard to views of the investor.
 Inability to gather information not available to
other shareholders.
 Failure to obtain representation on investee’s
board of directors.
46
Equity Method
Investment Book
Value Difference
X
Balance Sheet
Book Value Fair Value % of Investment
Depreciable assets
$400,000 $450,000 50,000 X 25% =
12,500
(remaining life, 10 yrs)
Other nondepreciable assets 190,000 246,000
(e.g., land)
Total
$590,000 $696,000
Liabilities
Common Stock
Retained earnings
Total
$200,000 $220,000
250,000
140,000
$590,000
47
Equity Method
When acquired by S Company, the investee’s
depreciable assets had a fair market value that
exceeded book value by $50,000 (10-year life).
Cliborn’s share of the depreciable asset value
is $12,500 (25%). Additional depreciation is
needed on December 31.
Investment Income: Ordinary
1,250
Investment in Stock: S Company
1,250
Note that this entry results in a
deduction from ordinary income.
$12,500 /
10 years
48
Disclosure-Carrying Value
Investment
125,000
Ordinary income 18,250
Extraordinary
income
2,000
Ending balance 139,000
5,000 Dividends received
1,250 Excess depreciation
49
Disclosure-Equity Income
Share of 2007 ordinary income
Less: excess depreciation
Ordinary investment income
Plus: investee extraordinary income
Net investment income
$18,250
1,250
$17,000
2,000
$19,000
50
Stock Dividends
Smith Corporation purchased 2,000 shares of Kell
Company common stock for $30 per share. Two
months later, Kell issued a 50% stock dividend.
Memo: Received 1,000 shares of Kell Company
common stock as a stock dividend. The cost of the
shares is now $20 per share, computed as follows:
$60,000 ÷ 3,000 (2,000 + 1,000) shares.
51
Stock Dividends
Subsequently, Smith Corporation sold 500 of the
shares for $25 per share, and the fair value at the
most recent balance sheet date was $23 per share.
Cash
12,500
Investment in Available-for-Sale
Securities
10,000
Gain on Sale of Investment
2,500
Unrealized Increase/Decrease in Value
of Available-for Sale Securities
1,500
Allowance for Change in Value of
Investment
1,500
52
Chapter 15
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