slide 12-1 investments financial accounting, seventh edition chapter 12

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InvestmentsInvestments

Financial Accounting,

Seventh Edition

Chapter 12

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

(all amounts in millions of dollars) Sept. 29, 2012

Current Assets:

Cash and Cash Equivalents $10,746

Short-Term Marketable Securities 18,383

Accounts Receivable, net 10,930

Inventories 791

Deferred Tax Assets 2,583

Vendor Non-Trade Receivables 7,762

Other Current Assets 6,458

Total Current Assets 57,653

Long Term Marketable Securities 92,122

Property, Plant and Equipment, net 15,452

Goodwill 1,135

Acquired Intangible Assets, net 4,224

Other Assets 5,478

TOTAL ASSETS $176,064

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Corporations generally invest in debt or stock securities for one of three reasons.

Why Corporations InvestWhy Corporations InvestWhy Corporations InvestWhy Corporations Invest

1. Corporation may have excess cash.

2. To generate earnings from investment income.

3. For strategic reasons.

Temporary investments

and the operating

cycle

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How have Stock Prices changed over the How have Stock Prices changed over the years?years?

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Accounting for Debt InstrumentsAccounting for Debt InstrumentsAccounting for Debt InstrumentsAccounting 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.

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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.

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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.

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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

Knowledge Check Question 1:

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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


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When bonds are sold, the gain or loss on sale is the difference between the:

a. sales price and the cost of the bonds.

b. net proceeds and the cost of the bonds.

c. sales price and the market value of the bonds.

d. net proceeds and the market value of the bonds.


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0 --------------20% ------------ 50% -------------- 100%0 --------------20% ------------ 50% -------------- 100%No

significant influence

usually exists

Significant influence

usually exists

Control usually exists

Investment valued using

Cost Method

Investment valued using

Equity Method

Investment valued on parent’s books using

Cost Method or Equity Method (investment

eliminated in Consolidation)

Ownership PercentagesOwnership Percentages

Accounting for Stock InvestmentsAccounting for Stock InvestmentsAccounting for Stock InvestmentsAccounting for Stock Investments

The accounting depends on the extent of the investor’s influence over the operating and financial affairs of the issuing corporation.

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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).

Holdings of Less than 20%


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Holdings of Less than 20%Holdings of Less than 20%Holdings of Less than 20%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.

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Holdings of Less than 20%Holdings of Less than 20%Holdings of Less than 20%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.

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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


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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.


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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.

Holdings Between 20% and 50%Holdings Between 20% and 50%Holdings Between 20% and 50%Holdings Between 20% and 50%

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After Panda Company posts the transactions for the year, its investments and revenue accounts will show the following.

Holdings Between 20% and 50%Holdings Between 20% and 50%Holdings Between 20% and 50%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.

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Under the equity method, the investor records dividends received by crediting:

a. Dividend Revenue.

b. Investment Income.

c. Revenue from Investment.

d. Stock Investments.


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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:

a. $95,200

b. $112,000

c. $119,200

d. $148,000


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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.

Holdings of More Than 50%


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Valuing and Reporting InvestmentsValuing and Reporting InvestmentsValuing and Reporting InvestmentsValuing 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%.

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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.

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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.

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Marketable securities bought and held primarily for sale in the near term are classified as:

a. available-for-sale securities.

b. held-to-maturity securities.

c. stock securities.

d. trading securities



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Panda Company holds the following portfolio of investments in securities, which are classified as trading securities on December 31, 2012.

Trading SecuritiesTrading SecuritiesTrading SecuritiesTrading Securities

Record the adjusting entry for Panda Company (assuming trading):

Investments Cost Market Value Unrealized Gain (Loss)

1.Microsoft $10,000 $15,000 $5,000

2.Google 5,000 3,000 (2,000)

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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.

Available-for-Sale SecuritiesAvailable-for-Sale SecuritiesAvailable-for-Sale SecuritiesAvailable-for-Sale Securities

Record the adjusting entry for Panda Company (assuming AFSS):

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Illustration: Assume that Panda Company has two securities that it classifies as available-for-sale.

Record the adjusting entry for Panda Company:


Investments Cost Market Value Unrealized Gain (Loss)

1.Microsoft $10,000 $7,000 $(3,000)

2.Google 15,000 16,000 1,000

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An unrealized loss on available-for-sale securities is:

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.



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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.


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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 aA. Debit to Market Adjustment - AFSS for $725B. Debit to Unrealized Gain - Equity for $725C. Debit to Investment in AFSS for $725D. Credit to Market Adjustment - AFSS for $725


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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.

Short-Term Investments

Investments that do not meet both criteria are classified as long-term investments.

Balance Sheet Presentation


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Nonoperating items related to investments

Presentation of Realized and Unrealized Gain or Loss

Balance Sheet PresentationBalance Sheet PresentationBalance Sheet PresentationBalance Sheet Presentation

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Realized and Unrealized Gain or Loss


Unrealized gain or loss on available-for-sale securities are reported as a separate component of stockholders’ equity.

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Classified Balance Sheet (partial)

Illustration 12-12

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Held-to-Maturity

Debt Investments(Bonds)

Equity Investments(Stocks)

Classification of Investments - Classification of Investments - SummarySummary


Trading Securities

Available for Sale

Securities

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Significant Influence

(20 to 50%)- Equity Method

Debt Investments(Bonds)

ControllingInfluence (>50%) –

Consolidated Financial Statements

Equity Investments(Stocks)

Trading Securities(<20%)

Available for Sale

Securities(<20%)



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Identify where each of the following items

would be reported in the financial

statements.


Use the following possible categories:Current assets Current liabilitiesInvestments Long-term liabilitiesProperty, plant, and equipment Stockholders’ equityIntangible assets Other revenues and gains Other expenses and losses

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End of Chapter 12 End of Chapter 12

slide 12-1 investments financial accounting, seventh edition chapter 12

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