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Investments in Debt and Equity Securities

13. C H A P T E R. Investments in Debt and Equity Securities. Learning Objective 1. Understand why companies invest in other companies. Insufficient cash (relieved by short-term borrowing). 1/1. 6/30. 12/31. Average Cash Needs. Excess cash (used for short- term investments).

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Investments in Debt and Equity Securities

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  1. 13 • C H A P T E R Investments in Debt and Equity Securities

  2. Learning Objective 1 • Understand why companies invest in other companies.

  3. Insufficient cash (relieved by short-term borrowing) 1/1 6/30 12/31 Average Cash Needs Excess cash (used for short- term investments) Actual Cash on Hand A Cash Flow Pattern • Companies often need cash flow from sources other than their own operations because the company’s own cash flow might vary greatly over the course of a year.

  4. What Are Some Other Reasons Companies Invest Their Excess Cash?

  5. Learning Objective 2 Understand the different classifications for securities.

  6. Define Two Classifications for Securities. • Debt Securities • Equity Securities(Stock)

  7. Classifying Securities Investments Debt Equity

  8. Securities—Matching Equity Method Securities Held-to-Maturity Securities • Method used to account for an investment in the stock of another company when significant influence can be imposed (presumed when 20 to 50 percent of the outstanding voting stock is owned). Debt securities purchased by an investor with the intent of holding the securities until they mature.

  9. Securities—Matching Trading Securities Available-for-Sale Securities • Debt and equity securities not classified as trading, held-to-maturity, or equity method securities. Debt and equity securities purchased with the intent of selling them should the need for cash arise or to realize short-term gains.

  10. Investments Held-to- Maturity Trading Classifying Securities Debt Equity Available- for-Sale Equity Method

  11. Classifying Securities Investments Debt Equity Held-to- Maturity Available- for-Sale Equity Method Trading

  12. Reporting of Changes in FMV Classification Disclosed at Trading Available- for-Sale Held-to- Maturity Equity Method Classifying Securities— Fill in the Chart

  13. Learning Objective 3 Account for the purchase, recognition of revenue, and sale of trading and available-for-sale securities.

  14. Cost (including broker’s fees) Type Classification 1 Debt Trading $ 3,000 2 Equity Trading 15,500 3 Debt Available-for-sale 10,000 4 Equity Available-for-sale 7,300 Purchase of Securities Caribou Corp. purchased the following securities on January 1, 2006. Record the appropriate entry.

  15. Cost (including broker’s fees) Type Classification 1 Debt Trading $ 3,000 2 Equity Trading 15,500 3 Debt Available-for-sale 10,000 4 Equity Available-for-sale 7,300 Purchase of Securities

  16. Security Interest Dividends 1 Debt $270 2 Equity $895 3 Debt 920 4 Equity 560 Accounting for Return Earned on an Investment Buffalo Corp. earned the following return on their owned securities. Record the journal entry.

  17. Cost (including broker’s fees) Type Classification 1 Debt Trading $ 3,000 2 Equity Trading 15,500 3 Debt Available-for-sale 10,000 4 Equity Available-for-sale 7,300 Accounting for the Sale of Securities Buffalo Corp. sold Security 2 for $17,000. The historical cost was $15,500. Record the entry.

  18. What Are Realized Gains and Losses?

  19. Learning Objective 4 Account for changes in the value of securities.

  20. What Are Unrealized Gains and Losses?

  21. Accounting for Changes in Value — Trading Securities The following market values were recorded for Buffalo Corp.’s portfolio on December 31, 2006. Record the changes in the values of the securities. Historical Cost MarketValue12/31/06 Type 1 Trading $ 3,000 $ 2,800 3 Available-for-sale 10,000 10,500 4 Available-for-sale 7,300 9,250

  22. Accounting for Changes in Value — Available-for-Sale Historical Cost Market Value 12/31/06 Type 1 Trading $ 3,000 $ 2,800 3 Available-for-sale 10,000 10,500 4 Available-for-sale 7,300 9,250

  23. Historical Cost Market Value 12/31/07 Type Subsequent Changesin Value The following market values were recorded for Buffalo Corp.'s portfolio on December 31, 2007. Record the subsequent change in the trading security. 1 Trading $ 3,000 $ 3,100 3 Available-for-sale 10,000 10,300 4 Available-for-sale 7,300 9,500

  24. Expanded Material Learning Objective 5 Account for held-to-maturity securities.

  25. Initial Purchase of Held-to-Maturity Securities The Moose Company purchased a 5-year, $500,000 bond and received interest payments of 10 percent, payable semiannually. Assume the effective rate is 12 percent. Record the investment.

  26. Initial Purchase of Held-to-Maturity Securities 1. Semiannual interest payments $ 25,000 Present value of interest annuity $184,002 2. Principal of bonds $500,000 Present value of bonds 279,197 3. Present value of investment $463,199

  27. Bonds PurchasedBetween Interest Dates Assume the bond purchased by the Moose Company paid interest on July 1 and January 1 of each year. If the Moose Company purchased the bond on April 31, 2006, how will the purchase be recorded?

  28. Define Amortization Methods for Bond Premiums and Discounts • Straight-Line Amortization • Effective-Interest Amortization

  29. Straight-Line Amortization The Rhinoceros Company purchased a 12 percent, 5-year, $10,000 bond for $8,658 on the issuance date. The interest payments are made semiannually. Using the straight-line method, record the first interest payment received.

  30. Effective-Interest Amortization The Rhinoceros Company purchased a 12 percent, 5-year, $10,000 bond for $8,658 on the issuance date. The interest payments are made semiannually and the market rate is 16 percent. Using the effective-interest method, record the first interest payment received. Hint: Won’t you need an amortization table?

  31. Effective-Interest Amortization Cash Interest Amortized Investment Payment Received Earned Amount Balance

  32. Effective-Interest Amortization The Rhinoceros Company purchased a 12 percent, 5-year, $10,000 bond for $8,658 on the issuance date. The interest payments are made semiannually and the market rate is 16 percent. Using the effective-interest method, record the first interest payment received.

  33. Sale or Maturity of Bonds The Rhinoceros Company holds the bond until maturity. Record the entry for the receipt of the bond principal.

  34. Sale or Maturity of Bonds What journal entry is required if the Rhinoceros Company sells the bond for $9,900 before maturity when the balance in the bond account is $9,800?

  35. Expanded Material Learning Objective 6 Understand the Basics of Consolidated Financial Statements

  36. When Should the Equity Method Be Used?

  37. Illustrating the Equity Method Brown Tree Co. purchased 100 shares of Koala Corp. common shares at $2 per share, representing a 20 percent ownership in the company. Record Brown Tree’s transactions using the equity method.

  38. Illustrating the Equity Method Brown Tree Co. purchased 100 shares of Koala Corp. common shares at $2 per share, representing a 20 percent ownership in the company. Record the $0.80 per share dividend. Record the entry.

  39. Illustrating the Equity Method Brown Tree Co. purchased 100 shares of Koala Corp. common shares at $2 per share, representing a 20 percent ownership in the company. Koala Corp. announces a $10,000 earnings for the year. Record the appropriate entries.

  40. What is the Objective of Consolidated Financial Statements? To Create Financial Statements for the Parent and its Controlled Subsidiaries to Report Their Performance as if they Were One Company

  41. What are Notable Items Concerning the Statements?

  42. You Have Completed Chapter 13 The three keys to success: One, Get up early; Two, Work hard; Three, Find oil. J. Paul Getty

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