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Investments

Investments. Financial Accounting, Seventh Edition. Chapter 12. A Corporation’s Balance Sheet shows the following Assets:. Why Corporations Invest. Corporations generally invest in debt or stock securities for one of three reasons. Corporation may have excess cash .

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Investments

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  1. Investments Financial Accounting, Seventh Edition Chapter12

  2. A Corporation’s Balance Sheet shows the following Assets:

  3. Why Corporations 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. Temporary investments and the operating cycle

  4. How have Stock Prices changed over the years?

  5. Accounting for Debt 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.

  6. Accounting for Debt Instruments Recording Acquisition of Bonds On November 15, 2012, Panda Company purchased 120 Microsoft Corporation’s 3.5% senior unsecured bonds (maturity date - November 15, 2042), with a par value of $1,000 each, at par, plus a total brokerage fee of $1,000. The bonds pay interest May 15 and November 15, and Panda Company’s accounting period ends on December 31.Record all journal entries for Panda Company thru May 15, 2013.

  7. Accounting for Debt Instruments

  8. Accounting for Debt Instruments Sale of Bond Investments On May 16, 2013, Panda Company sold 30 out of the 120 Company A bonds (which were purchased for $121,000) at a market price of 102, less brokerage fees of $200. Record the transaction.

  9. Knowledge Check Question 1: A company paid $37,800 plus a broker's fee of $525 to acquire 8% bonds with a $40,000 maturity value. The company intends to hold the bonds to maturity. The cash proceeds the company will receive upon the maturity of the bond is:  • A. $37,800B.  $38,325C.  $40,000D.  $40,525

  10. Knowledge Check Question 2: A company purchased $60,000 of 5% bonds on May 1. The bonds pay interest on February 1 and August 1. The amount of interest accrued on December 31 (the company's year-end) would be: A. $500B. $1,000C. $1,250D. $2,000

  11. Knowledge Check Question 3: When bonds are sold, the gain or loss on sale is the difference between the: • sales price and the cost of the bonds. • net proceeds and the cost of the bonds. • sales price and the market value of the bonds. • net proceeds and the market value of the bonds.

  12. 0 --------------20% ------------ 50% -------------- 100% Accounting for Stock Investments Ownership Percentages No significant influence usually exists Significant influence usually exists Control usually exists Investment valued using CostMethod Investment valued using Equity Method Investment valued on parent’s books using Cost Method or Equity Method(investment eliminated in Consolidation) The accounting depends on the extent of the investor’s influence over the operating and financial affairs of the issuing corporation.

  13. Accounting for Stock Investments Holdings of Less than 20% Companies use the cost method. Under the cost method, companies record the investment at cost, and recognize revenue only when cash dividends are received. Cost includes all expenditures necessary to acquire these investments, such as the price paid plus any brokerage fees (commissions).

  14. Holdings of Less than 20% On September 5, 2012, Panda Company purchased 2,000 shares of Microsoft Corporation at $30.39 per share, plus a brokerage fee of $400. Microsoft paid a dividend of $0.20 per share on September 13, 2012. Record the appropriate entries for Panda Company.

  15. Holdings of Less than 20% On November 20, 2012, Panda Company sold 1,000 shares of Microsoft Corporation (which were purchased on September 5) for $26.95 per share, and paid brokerage fees of $200. Record the transaction.

  16. Knowledge Check Question 4: • On January 26, 2012, Bill Gates purchased 500 shares of Microsoft Company’s stock for $29.50 a share (classified as Trading Securities), and paid brokerage fees of $200. On August 23, 2012, he sold 200 of these share at $30.25 per share and paid brokerage fees of $80. What is the realized gain/loss on the sale? • Gain of $150 • Loss of $10 • Gain of $70 • Loss of $80

  17. Accounting for Stock Investments Holdings Between 20% and 50% (Equity Method) • Record the investment at cost and subsequently adjust the amount each period for • the investor’s proportionate share of the earnings (losses) and • dividends received by the investor. If investor’s share of investee’s losses exceeds the carrying amount of the investment, the investor ordinarily should discontinue applying the equity method.

  18. Holdings Between 20% and 50% On January 1, 2012, Panda Company acquired 4,000 shares of Koala Company for $50 per share (all cash). Koala Company has 10,000 shares of outstanding stock. On June 30, 2012, Koala Company reports Net Income of $60,000, and on July 31, 2012, Koala declares and pays dividends of $1.00 per share. Record all relevant journal entries for Panda Company.

  19. Holdings Between 20% and 50% On January 1, 2012, Panda Company acquired 4,000 shares of Koala Company for $50 per share (all cash). Koala Company has 10,000 shares of outstanding stock. On June 30, 2012, Koala Company reports Net Income of $60,000, and on July 31, 2011, Koala declares and pays dividends of $1.00 per share. Record all relevant journal entries for Panda Company. After Panda Company posts the transactions for the year, its investments and revenue accounts will show the following.

  20. Knowledge Check Question 5: Under the equity method, the investor records dividends received by crediting: • Dividend Revenue. • Investment Income. • Revenue from Investment. • Stock Investments.

  21. Knowledge Check Question 6: Celtics Company purchased 40% of Lakers Company for $100,000 on January 1, 2012. On November 17, 2012, Lakers Company declared total cash dividends of $12,000. At 2012 year-end, Lakers Company reported net income of $60,000. The balance in Celtics Company's Investment in Lakers Company account on December 31, 2012 should be: • $95,200 • $112,000 • $119,200 • $148,000

  22. Accounting for Stock Investments Holdings of More Than 50% • Controlling Interest - When one corporation acquires a voting interest of more than 50 percent in another corporation • Investor is referred to as the parent. • Investee is referred to as the subsidiary. • Investment in the subsidiary is reported on the parent’s books as a long-term investment. • Parent generally prepares consolidated financial statements.

  23. Valuing and Reporting 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%.

  24. Valuing and Reporting Investments Trading Securities • Companies hold trading securities with the intention of selling them in a short period. • Trading means frequent buying and selling. (actively managed) • Companies report trading securities at fair value, and report changes from cost as part of net income.

  25. Valuing and Reporting 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.

  26. Valuing and Reporting Investments Knowledge Check Question 7: Marketable securities bought and held primarily for sale in the near term are classified as: • available-for-sale securities. • held-to-maturity securities. • stock securities. • trading securities

  27. InvestmentsCostMarket ValueUnrealized Gain (Loss) • Microsoft $10,000 $15,000 $5,000 • Google 5,000 3,000 (2,000) Trading Securities Panda Company holds the following portfolio of investments in securities, which are classified as trading securities on December 31, 2012. Record the adjusting entry for Panda Company (assuming trading):

  28. Available-for-Sale Securities Question:How would the entries change if the securities were classified as available-for-sale securities? The entries would be similar, 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. Record the adjusting entry for Panda Company (assuming AFSS):

  29. Available-for-Sale Securities Illustration: Assume that Panda Company has two securities that it classifies as available-for-sale. • InvestmentsCostMarket ValueUnrealized Gain (Loss) • Microsoft $10,000 $7,000 $(3,000) • Google 15,000 16,000 1,000 Record the adjusting entry for Panda Company:

  30. Available-for-Sale Securities Knowledge Check Question 8: An unrealized loss on available-for-sale securities is: • reported under Other Expenses and Losses in the income statement. • closed-out at the end of the accounting period. • reported as a separate component of stockholders' equity. • deducted from the cost of the investment.

  31. Knowledge Check Question 9: Spurs Company purchased some investments and classified them as Available for Sale on October 1, 2012. The proper adjusting entry on December 31, 2012 included a credit to Market Adjustment – Available for Sale Securities for $1,300. From this information, we can conclude that: A. Assets and stockholder’s equity both decreased by $1,300. B. Assets decreased and stockholder’s equity increased by $1,300. C. Assets and stockholder’s equity both increased by $1,300. D. Assets increased and stockholder’s equity decreased by $1,300.

  32. Knowledge Check Question 10: An investment in common stock (classified as Available for Sale Securities) acquired during 2012 at a cost of $45,000 has a market value on December 31, 2012, of $45,725. The year-end adjusting entry will require a A. Debit to Market Adjustment - AFSS for $725 B. Debit to Unrealized Gain - Equity for $725 C. Debit to Investment in AFSS for $725 D. Credit to Market Adjustment - AFSS for $725

  33. Valuing and Reporting Investments Balance Sheet Presentation Short-Term Investments Also called marketable securities, are securities held by a company that are • readily marketable and • intended to be converted into cash within the next year or operating cycle, whichever is longer. Investments that do not meet both criteria are classified as long-term investments.

  34. Balance Sheet Presentation Presentation of Realized and Unrealized Gain or Loss Nonoperating items related to investments

  35. Balance Sheet Presentation Realized and Unrealized Gain or Loss Unrealized gain or loss on available-for-sale securities are reported as a separate component of stockholders’ equity.

  36. Classified Balance Sheet (partial) Illustration 12-12

  37. Held-to- Maturity Classification of Investments - Summary Investments Equity Investments (Stocks) Debt Investments (Bonds) Trading Securities Available for Sale Securities

  38. Classification of Investments - Summary Investments Equity Investments (Stocks) Debt Investments (Bonds) Controlling Influence (>50%) – Consolidated Financial Statements Available for Sale Securities (<20%) Trading Securities (<20%) Significant Influence (20 to 50%) - Equity Method

  39. Balance Sheet Presentation Identify where each of the following items would be reported in the financial statements. Use the following possible categories: Current assets Current liabilities Investments Long-term liabilities Property, plant, and equipment Stockholders’ equity Intangible assets Other revenues and gains Other expenses and losses

  40. End of Chapter 12 We must be the change we wish to see in the world. M.K. Gandhi

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