Chapter 16-1 CHAPTER CHAPTER 16 16 INVESTMENTS Accounting Principles, Eighth Edition Chapter 16-2 Study Study Objectives Objectives Discuss why corporations invest in debt and stock securities Explain the accounting for debt investments Explain the accounting for stock investments Describe the use of consolidated financial statements Indicate how debt and stock investments are reported in financial statements Distinguish between short-term and long-term investments Chapter 16-3 Long-Term Long-Term Liabilities Liabilities Why Why Corporations Corporations Invest Invest Cash management Investment income Strategic reasons Accounting Accountingfor for Debt Debt Investments Investments Recording acquisition of bonds Accounting Accountingfor for Stock Stock Investments Investments Valuing Valuingand and Reporting Reporting Investments Investments Holdings of less than 20% Categories of securities Recording bond interest Holdings between 20% and 50% Balance sheet presentation Recording sale of bonds Holdings of more than 50% Realized and unrealized gain or loss Classified balance sheet Chapter 16-4 Why Why Corporations Corporations Invest Invest Corporations generally invest in debt or stock securities for one of three reasons Corporation may have excess cash To generate earnings from investment income For strategic reasons Illustration 16-1 Temporary investments and the operating cycle Chapter 16-5 LO Discuss why corporations invest in debt and stock securities Why Why Corporations Corporations Invest Invest Question Pension funds and banks regularly invest in debt and stock securities to: Chapter 16-6 a house excess cash until needed b generate earnings c meet strategic goals d avoid a takeover by disgruntled investors LO Discuss why corporations invest in debt and stock securities Accounting Accounting for for Debt Debt Instruments Instruments Recording Acquisition of Bonds Cost includes all expenditures necessary to acquire these investments, such as the price paid plus brokerage fees (commissions), if any Recording Bond Interest Calculate and record interest revenue based upon the carrying value of the bond times the interest rate times the portion of the year the bond is outstanding Chapter 16-7 LO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Instruments Instruments Sale of Bonds Credit the investment account for the cost of the bonds and record as a gain or loss any difference between the net proceeds from the sale (sales price less brokerage fees) and the cost of the bonds Chapter 16-8 LO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Instruments Instruments Exercise: Issel Corporation had the following transactions pertaining to debt investments Jan Purchased 60, 8%, $1,000 Hollis Co bonds for $60,000 cash plus brokerage fees of $900 Interest is payable semiannually on July and January July Received semiannual interest on Hollis Co bonds July Sold 30 Hollis Co bonds for $34,000 less $500 brokerage fees Instructions (a) Journalize the transactions (b) Prepare the adjusting entry for the accrual of interest at December 31 Chapter 16-9 LO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Instruments Instruments Exercise: Jan Purchased 60, 8%, $1,000 Hollis Co bonds for $60,000 cash plus brokerage fees of $900 Interest is payable semiannually on July and January Jan Debt investment * 60,900 Cash 60,900 * ($60,000 + $900 = $60,900) Chapter 16-10 LO Explain the accounting for debt investments Valuing Valuing and and Reporting Reporting Investments Investments Categories of Securities Companies classify debt and stock investments into three categories:  Trading securities  Available-for-sale securities  Held-to-maturity securities These guidelines apply to all debt securities and all stock investments in which the holdings are less than 20% Chapter 16-26 LO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments Investments Trading Securities Companies hold trading securities with the intention of selling them in a short period Trading means frequent buying and selling Companies report trading securities at fair value, and report changes from cost as part of net income Chapter 16-27 LO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments Investments Available-for-Sale Securities Companies hold available-for-sale securities with the intent of selling these investments sometime in the future These securities can be classified as current assets or as long-term assets, depending on the intent of management Companies report securities at fair value, and report changes from cost as a component of the stockholders’ equity section Chapter 16-28 LO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments Investments Question Marketable securities bought and held primarily for sale in the near term are classified as: Chapter 16-29 a available-for-sale securities b held-to-maturity securities c stock securities d trading securities LO Indicate how debt and stock investments are reported in financial statements Trading Trading Securities Securities Problem: Loxley Company has the following portfolio of securities at September 30, 2008, its last reporting date Trading Securities Dan Fogelberg, Inc common (5,000 shares) Petra, Inc preferred (3,500 shares) Tim Weisberg Corp common (1,000 shares) Cost $ 225,000 133,000 180,000 Fair Value $ 200,000 140,000 179,000 On Oct 10, 2008, the Fogelberg shares were sold at a price of $54 per share In addition, 3,000 shares of Los Tigres common stock were acquired at $59.50 per share on Nov 2, 2008 The Dec 31, 2008, fair values were: Petra $96,000, Los Tigres $132,000, and the Weisberg common $193,000 Chapter 16-30 LO Indicate how debt and stock investments are reported in financial statements Trading Trading Securities Securities Problem: Prepare the journal entries to record the sale, purchase, and adjusting entries related to the trading securities in the last quarter of 2008 Portfolio at September 30, 2008 Trading Securities Dan Fogelberg, Inc common (5,000 shares) Petra, Inc preferred (3,500 shares) Tim Weisberg Corp common (1,000 shares) Cost $ 225,000 133,000 180,000 $ 538,000 Fair Value $ 200,000 140,000 179,000 $ 519,000 Market Adjustment – Trading (account balance) ($19,000) Chapter 16-31 LO Indicate how debt and stock investments are reported in financial statements Trading Trading Securities Securities Problem: On Oct 10, the Fogelberg shares were sold at a $54 per share In addition, 3,000 shares of Los Tigres common stock were acquired at $59.50 per share on Nov October 10, 2008 (Fogelberg): Cash (5,000 x $54) 270,000 Trading securities 225,000 Gain on sale 45,000 November 2, 2008 (Los Tigres): Trading securities (3,000 x $59.50) Cash Chapter 16-32 178,500 178,500 LO Indicate how debt and stock investments are reported in financial statements Trading Trading Securities Securities Problem: Portfolio at December 31, 2008 Trading Securities Petra, Inc preferred Tim Weisberg Corp common Los Tigres common $ $ Cost 133,000 180,000 178,500 491,500 Fair Value $ 96,000 193,000 132,000 $ 421,000 Prior market adjustment balance Market fair value adjustment Unrealized Gain (Loss) $ (37,000) 13,000 (46,500) (70,500) $ (19,000) (51,500) December 31, 2008: Unrealized loss - Income Market adjustment - Trading Chapter 16-33 51,500 51,500 LO Indicate how debt and stock investments are reported in financial statements Available-for-Sale Available-for-Sale Securities Securities Problem: How would the entries change if the securities were classified as available-for-sale? The entries would be the same except that the Unrealized Gain or Loss—Equity account is used instead of Unrealized Gain or Loss—Income The unrealized loss would be deducted from the stockholders’ equity section rather than charged to the income statement Chapter 16-34 LO Indicate how debt and stock investments are reported in financial statements Available-for-Sale Available-for-Sale Securities Securities Question An unrealized loss on available-for-sale securities is: Chapter 16-35 a reported under Other Expenses and Losses in the income statement b closed-out at the end of the accounting period c reported as a separate component of stockholders' equity d deducted from the cost of the investment LO Indicate how debt and stock investments are reported in financial statements Balance Balance Sheet Sheet Presentation Presentation Short-Term Investments Also called marketable securities, are securities held by a company that are (1) readily marketable and (2) intended to be converted into cash within the next year or operating cycle, whichever is longer Investments that not meet both criteria are classified as long-term investments Chapter 16-36 LO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation Presentation Presentation of Realized and Unrealized Gain or Loss Nonoperating items related to investments Chapter 16-37 Illustration 16-10 LO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation Presentation Realized and Unrealized Gain or Loss Unrealized gain or loss on available-for-sale securities are reported as a separate component of Illustration 16-11 stockholders’ equity Chapter 16-38 LO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation Presentation Classified Balance Sheet (partial) Chapter 16-39 Illustration 16-12 LO Distinguish between short-term and long-term investments Copyright Copyright “Copyright © 2008 John Wiley & Sons, Inc All rights reserved Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc The purchaser may make back-up copies for his/her own use only and not for distribution or resale The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.” Chapter 16-40 .. .CHAPTER CHAPTER 16 16 INVESTMENTS Accounting Principles, Eighth Edition Chapter 16- 2 Study Study Objectives Objectives Discuss why corporations... rate times the portion of the year the bond is outstanding Chapter 16- 7 LO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Instruments Instruments Sale of... (sales price less brokerage fees) and the cost of the bonds Chapter 16- 8 LO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Instruments Instruments Exercise: