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Investments in Equity Securities

Investments in Equity Securities. Presentations for Chapter 8 by Glenn Owen. Key Points. Criteria that must be met before a security can be listed in the current assets section of the balance sheet.

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Investments in Equity Securities

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  1. Investments in Equity Securities Presentations for Chapter 8 by Glenn Owen

  2. Key Points • Criteria that must be met before a security can be listed in the current assets section of the balance sheet. • Trading and available-for-sale securities and how the mark-to-market rule is used to account for them. • Why companies make long-term investments in equity securities. • The mark-to-market method, the cost method, and the equity method of accounting for long-term equity investments, and the conditions under which each method is used. • Consolidated financial statements, when they are prepared, and how they differ from financial statements that account for equity investments using the equity method.

  3. Equity Securities Classified as Current • Existence of a ready market • Readily marketable meaning that a security can be sold and converted into cash on demand • Intention to convert

  4. Trading and Available-For-Sale Securities • Purchasing trading and available-for-sale securities • Declaration and receipt of cash dividends • Sale of securities • Price changes of securities on hand at the end of the accounting period • Reclassifications and permanent market value declines • Mark-to-market accounting andcomprehensive income

  5. Purchasing Trading and Available-for-sale Securities Dr. Cr. Trading Securities xxx Available-for Sale Securities xxx Cash xxx Purchased trading and available-for-sale securities for cash.

  6. Declaration and Receipt of Cash Dividends Dr. Cr. Dividends Receivable xxx Dividend Income xxx Recognize declaration of dividend. Cash xxx Dividend Receivable xxx Recognize declaration of dividend.

  7. Sale of Trading Securities Dr. Cr. Cash xxx Trading Securities xxx Realized Gain on Sale of Trading Securities xxx Sold trading securities for a gain or Cash xxx Realized Loss on Sale of Trading Securities xxx Trading Securities xxx Sold trading securities sold for a loss

  8. Sale of Available-for-Sale Securities Dr. Cr. Cash xxx Available-for-Sale Securities xxx Realized Gain on Sale of Available-for-Sale Securities xxx Sold available-for-sale securities for a gain or Cash xxx Realized Loss on Sale of Available-for-Sale Securities xxx Available-for-Sale Securities xxx Sold available-for-sale securities for a loss

  9. Price Changes of Securities On Hand at the End of the Period Dr. Cr. Trading Securities xxx Unrealized Gain on Trading Securities xxx Revalued trading securities to market or Unrealized Loss on Trading Securities xxx Trading Securities xxx Revalued trading securities to market

  10. Price Changes of Securities On Hand at the End of the Period Dr. Cr. Available-for-Sale Securities xxx Unrealized Gain on Available-for-Sale Securities xxx Revalued available-for-sales securities to market or Unrealized Loss on Available-for-Sale Securities xxx Available-for-Sale Securities xxx Revalued available-for-sales securities to market

  11. Long-Term Equity Investments • The cost method • Market value is indeterminable • Ownership is less than 20 percent • No change is made in the carrying value of the investment • The equity method • Significant influence (20 - 50 percent ownership) • Periodically increase(decrease) the carrying value of the investment by the investor’s proportionate share of the net income (loss) of the investee. • Decrease the carrying value of the investmentby dividends received.

  12. Long-Term Equity Investments • Equity method cautions • This method will give rise to a difference between reported net income (loss) and cash flow from operations. • It ignores market price. • 20-50 percent is not always a valid indication of significant influence. • It generates off-balance sheet financing • Consolidated financial statements • Greater than 50 percent ownership • Purchase or pooling methods

  13. Yes No <20% 20-50% >50% Mark-to-Market Mark-to-Market Equity Method Consoli-date Accounting for Equity Securities Marketable? Yes Intend to liquidate within time period of current assets? Proportion of voting shares Accounting Treatment

  14. No (implied) No <20% 20-50% >50% CostMethod Equity Method Consoli-date Accounting for Equity Securities Marketable? No Intend to liquidate within time period of current assets? Proportion of voting shares Accounting Treatment

  15. Goodwill Accounting Controversy • Goodwill is defined as the excess amount paid for a corporation over the fair market value of the acquired company’s assets and liabilities. • Goodwill appears on the balance sheet. • Until recently, goodwill was amortized over a future period not to exceed forty years. • In July 2001, the FASB passed an accounting standard with removes the requirementto amortize goodwill.

  16. Review Problem I (a) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Mark-to-market journal entry on 12/31/xx for AAA: Trading Securities (AAA) (+A) 30 Unrealized Gain on Trading Securities(R, +SE) 30 * Trading security ** Available-for-sale security

  17. Review Problem I (a) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Mark-to-market journal entry on 12/31/xx for BBB: Unrealized Loss on Trading Securities (Lo, -SE) 25 Trading Securities (BBB) (-A) 25 * Trading security ** Available-for-sale security

  18. Review Problem I (a) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Mark-to-market journal entry on 12/31/99 for CCC: Available-for-Sale Securities (CCC) (+A) 30 Unrealized Loss on Available-for-Sale Securities (+SE) 30 * Trading security ** Available-for-sale security

  19. Review Problem I (b) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Sold all of AAA in 2000 for $180: Cash (+A) 180 Trading Securities (-A) 170 Realized Gain on Trading Securities (Ga, +SE) 10 * Trading security ** Available-for-sale security

  20. Review Problem I (b) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Sold 20% of BBB in 2000 for $65: 20% Cash (+A) 65 Realized Loss on Trading Securities (Lo, -SE 5 Trading Securities (-A) 70 * Trading security ** Available-for-sale security

  21. Review Problem I (b) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Received $60 in BBB dividends and $30 in dividends were declared on CCC stock: Cash (+A) 60 Dividends Receivable (+A) 30 Dividend Revenue (R, +SE) 90 * Trading security ** Available-for-sale security

  22. Review Problem I (b) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Revalued BBB shares to market 12/31/00: Unrealized Loss on Trading Securities (Lo, -SE) 40 Trading Securities (BBB) (-A) 40 $2 per share x 20 shares. * Trading security ** Available-for-sale security

  23. Review Problem I (b) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Revalued CCC shares to market 12/31/00: Unrealized Price Increase on Available-for-Sale Securities (-SE) 15 Available-for-Sale Securities (CCC) (-A) 15 $1 per share x 15 shares. * Trading security ** Available-for-sale security

  24. Review Problem I (c) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Sold 20 shares of BBB stock during 2001: Cash (+A) 260 Trading Securities (BBB) (-A) 240 Realized Gain on Trading Securities (R, +SE) 20 Gain of $1 per share x 20 shares. * Trading security ** Available-for-sale security

  25. Review Problem I (c) Securities Cost Market Value MV - Cost *AAA $140 $170 $30 *BBB 375 350 (25) **CCC 120 150 30 Sold 15 shares of CCC stock during 2001: Cash (+A) 165 Unrealized Gain on Available-for-Sale Securities (-SE) 15 Available-for-Sale Securities (CCC) (-A) 135 Realized Gain on Available-for-Sale Securities (Ga, +SE) 45 * Trading security ** Available-for-sale security

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