Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CHAPTER 12 REPORTING AND ANALYZING INVESTMENTS LEARNING OBJECTIVES Identify reasons to invest, and classify investments Account for non-strategic investments Account for strategic investments Explain how investments are reported in the financial statements Compare the accounting for a bond investment and a bond payable (Appendix 12A) SUMMARY OF QUESTIONS BY LEARNING OBJECTIVES AND BLOOM’S TAXONOMY Item LO BT Item LO K 2 C 1,4 C C C BT Item LO BT Questions Item LO BT C 11 K 16 C 12 C 17 AP 13 C 18 AP 14 C 19 C 10 C 15 K 20 3,4 AP Item LO BT C 21 C K 22 2,5 C C 23 C C 13 C 14 AP Brief Exercises 1 K AP AP 10 2 AP AP 2,3,4 AP 11 C AP AP 2,3,4 AP 12 AP Exercises 1 K AP AP 10 AN 1,4 K 2,4 AP 2,3,4 AP 11 AN AP 2,3 AP 2,3,4 AP Problems: Set A and B 2,4 AP 2,4 AN 2,3,4 AN 10 AP 2,4 AP 2,3,4 C 2,3,4 AN 11 AN 2,4 AP 2,3,4 AN 2,3,4 AN Cases 1,4 1,2,3,4 K 3,4 E 2,3,4 S C 2,3,4 E C Solutions Manual 12-1 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition Legend: The following abbreviations will appear throughout the solutions manual file LO Learning objective BT Bloom's Taxonomy K Knowledge C Comprehension AP Application AN Analysis S Synthesis E Evaluation Difficulty: Level of difficulty S Simple M Moderate C Complex Estimated time to prepare in minutes Association to Advance Collegiate Schools of Business Communication Communication Ethics Ethics Analytic Analytic Technology Tech Diversity Diversity Reflective Thinking Reflec Thinking CPA Canada Competency Ethics Professional and Ethical Behaviour PS and DM Problem-Solving and Decision-Making Comm Communication Self-Mgt Self-Management Team & Lead Teamwork and Leadership Reporting Financial Reporting Stat & Gov Strategy and Governance Mgt Accounting Management Accounting Audit Audit and Assurance Finance Finance Tax Taxation Time: AACSB CPA CM cpa-e001 cpa-e002 cpa-e003 cpa-e004 cpa-e005 cpa-t001 cpa-t002 cpa-t003 cpa-t004 cpa-t005 cpa-t006 Solutions Manual 12-2 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition ANSWERS TO QUESTIONS Companies invest primarily for two reasons: to earn investment income such as interest, dividends, and the appreciation in the value of an investment or to influence or control other companies through the acquisition of large amounts of common shares LO BT: K Difficulty: S Time: AACSB: None CPA: cpa-t001 CM: Reporting A non-strategic investment is made for the purposes of generating investment income A strategic investment is purchased to influence or control the operations of another company in some way LO BT: C Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting (a) This equity investment should be classified as a non-strategic investment as the company intends to sell its Suncor Energy shares if the need for cash arises (b) The investment would most likely be classified as a current asset (although judgement must be exercised here) as it was not purchased with the intent of holding it for a long period of time LO 1,4 BT: C Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting For most debt and equity investments, their fair value is determined by the stock and bond markets Adjustments in the carrying amount of investments are made for increases and decreases in fair value and the adjustments generate unrealized gains and losses from holding the investments For inventory, the valuation for reporting is at the lower of cost and net realizable value Inventory cannot be written up beyond historical cost In other words, there cannot be unrealized gains for inventory due to fair value adjustments The same holds true for accounts receivable that are reported at realizable value by establishing an allowance for doubtful accounts LO BT: C Difficulty: C Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting (a) Common shares in a publicly traded company that will be sold within a year are valued at fair value (b) Bond investments that will be held until maturity are valued at amortized cost (c) Shares in a private company that not have a determinable fair value are valued at cost LO BT: C Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-3 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition Management might prefer to account for a bond investment at amortized cost because the reasons for purchasing the bond were to hold it to maturity and earn interest income If management does not intend to trade the bond or earn gains from the appreciation in the price of the bond, then information pertaining to the fair value of the bond is not relevant so its carrying amount does not have to be adjusted to fair value By not adjusting the bond to its fair value, the company would not be recording any unrealized gains or losses pertaining to the bond and this would eliminate the volatility in the amounts that are reported in the financial statements caused in turn by the volatility of the interest rate environment affecting the bond market LO BT: C Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting Realized gains (losses) are the differences between fair values and the carrying amounts when the investments are actually sold Unrealized gains (losses) are the differences between the fair values and carrying amounts of investments still held or owned by the investor LO BT: C Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-4 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition (a) The $10,000 difference between the carrying amount of $245,000 and the fair value of $255,000 should be recorded as an unrealized gain and reported in the other revenues and expenses section in the income statement (b) Yes, the answer would be different if the fair value could not be determined No unrealized gain would be reported and the investment would be valued at cost LO BT: AP Difficulty: M Time: AACSB: Analytic CPA: cpa-t001 CM: Reporting (a) The bonds would be shown at their fair value of $1,050,000 (b) The interest revenue earned on the bonds would be reported as other revenue under the other revenue and expenses section of the statement of income LO BT: AP Difficulty: M Time: AACSB: None CPA: cpa-t001 CM: Reporting 10 Management might prefer to account for an equity investment at the fair value through other comprehensive income model rather than using the fair value through profit or loss model when users of the financial statements are not evaluating management or the company’s performance on the appreciation in the value of the investment Although this model will result in the investment being recorded at fair value, unrealized gains or losses will have no impact on net income or earnings per share, two measures of management and company performance Using this model will eliminate the volatility in net income that can arise from recording unrealized gains and losses in net income rather than in OCI If the particular investment is subject to above average volatility, it would be preferable to management that the unrealized increases and decreases in the investment’s carrying amount not affect net income and basic earnings per share LO BT: C Difficulty: M Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-5 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley 11 Financial Accounting, Seventh Canadian Edition (a) Under the cost model, the carrying amount of the company’s investment is equal to its cost The investment account is not affected by the earnings of the entity into which the investment is made which it is under the equity method Furthermore, dividends received not affect the investment account when using the cost model as they when using the equity method In the cost model, the investing company records any dividends received as investment revenue, leaving the carrying amount (usually cost) of the investment intact (b) Under the equity method, the investment is also recorded at cost on the day when the investment is purchased However, the investment account is increased or decreased by the investor’s share of the investee company’s net income or loss for the period, respectively The investing company would reduce the carrying amount of its investment by any dividends received from the investee, since the value of the latter’s net assets decreases as it declares dividends (c) Under the fair value through profit or loss model, the recording of the strategic investment is at cost at the date of purchase, but at all subsequent reporting periods, the carrying amount is adjusted to the investment’s fair value at that date The investing company records any dividends received as investment revenue LO BT: K Difficulty: M Time: 15 AACSB: None CPA: cpa-t001 CM: Reporting 12 When an investor exercises significant influence over its associate, it is in a position to affect some of the operational decisions of the associate through membership on the board of directors Because this degree of influence has been achieved, it is deemed appropriate for the investor to record, in an account called Income from Associates, the investor’s proportionate share of the net income or loss reported by the associate This recording of income is done even if the associate has paid no dividends to the investor If the associate does pay a dividend to the investor, the dividend cannot be recorded in the income statement because the dividend is simply a distribution of the previously recorded income from the associate Consequently, dividends received are treated as a return of the investment (reduction of the investment account) instead of revenue LO BT: C Difficulty: M Time: 15 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-6 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley 13 Financial Accounting, Seventh Canadian Edition (a) Under the cost model, the investor has little to no influence over the investee, due to its relatively small ownership interest Therefore, the only entry the investor would make relative to this investment is to record any cash dividends it receives from the investee as investment revenue or any realized gains or losses when selling the investment (b) The equity method is used when the investor exercises significant influence over the investee (known as an associate if it is significantly influenced) Consequently, the investor has played a role in the determination of any net income or loss experienced by the investee As the investee earns income, its value will increase Thus the investor’s carrying amount of its investment in the investee should reflect this reality Consequently, the investor records investment revenue (loss) when the investee reports net income (or loss) and does not wait for the distribution of income by way of dividends to record income from the investee The investment is reduced by the amount of dividends received and does not result in the recording of dividend revenue This is done because the dividend is simply a distribution of income that has already been recorded Furthermore, when the investee (also known as associate) distributes a dividend, the value of the associate falls and a corresponding reduction in the investment account balance is appropriate (c) Under the fair value through profit or loss model, as with the cost model, the investor would record, in the income statement, any cash dividends it receives from the investee as investment revenue along with any realized gains or losses when selling the investment In addition, unrealized holding gains or losses are recorded in the income statement at the end of each reporting period LO BT: C Difficulty: M Time: 15 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-7 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley 14 (a) (b) Financial Accounting, Seventh Canadian Edition Significant influence over an investee may result from representation on the board of directors, participation in policy-making processes, material inter-company transactions, interchange of managerial personnel, or technological dependency An investment (direct or indirect) of 20% or more of the voting shares of an investee constitutes significant influence, unless there exists evidence to the contrary Control on the other hand exists when one entity holds more than 50% of the voting shares of the investee Companies are required to use judgement rather than to blindly follow the 20% and 50% guidelines For example, 25% ownership in a company that is 75% controlled by another company would not necessarily indicate significant influence Similarly, a single investor holding 45% ownership in a public company that has the remaining 55% ownership spread over thousands of shareholders could have control over the investee LO BT: C Difficulty: M Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting 15 Consolidated (combined) financial statements are prepared when a parent company owns a subsidiary (ownership with control) Consolidated financial statements show the combined assets and liabilities of both the parent and subsidiary companies In order to avoid duplication, the investment account is eliminated and replaced with the assets and liabilities of the subsidiary LO BT: K Difficulty: S Time: AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-8 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley 16 Financial Accounting, Seventh Canadian Edition (a) Held for trading investments are classified as current assets under the assumption that management intends to trade them actively, thereby implying that they will be sold fairly soon (b) Investment in associates is classified as a long-term investment under the assumption that if an investor has gone to the trouble of obtaining a large enough block of shares to significantly influence the investee, they would want to hold onto the investment for more than one year (c) Debt investments held to maturity are classified as long-term investments except in the year of maturity, when the securities would be classified as current assets LO BT: C Difficulty: M Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting 17 Account Financial Statement Classification (a) Unrealized Gain on Held for Trading Investments Income Statement Other revenues and expenses (b) Realized Loss on Held for Trading Investments Income Statement Other revenues and expenses (c) Income from Associates Income Statement Other revenues and expenses (d) Investment in Associates Statement of Financial Position Non-current assets LO BT: K Difficulty: S Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-9 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley 18 Financial Accounting, Seventh Canadian Edition Comprehensive income includes all changes to shareholders’ equity during a period except changes resulting from investments by shareholders and dividends declared Net income is one component of comprehensive income The other component is other comprehensive income, which includes the current period’s unrealized gains/losses on securities accounted for using the fair value through other comprehensive income model and certain other unrealized gains/losses such as revaluation gains under the revaluation model for property, plant, and equipment that was covered in Chapter Net income and other comprehensive income can be reported separately in two statements although the preferred approach is to report both in a single statement known as the statement of comprehensive income Accumulated other comprehensive income is the cumulative total of each period’s other comprehensive income/loss Just as net income is closed out to retained earnings at the end of the year, other comprehensive income is closed out to accumulated other comprehensive income at the end of the year The changes to accumulated other comprehensive income are reported in the statement of changes in equity, and the ending balance of accumulated other comprehensive income is reported in the shareholders’ equity section of the statement of financial position LO BT: C Difficulty: C Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting 19 Net income reported on the income statement is a component of comprehensive income Net income along with other comprehensive income is reported in the statement of comprehensive income (if the company chooses to report both under a single statement) Net income (loss) increases (decreases) retained earnings Other comprehensive income (loss) increases (decreases) accumulated other comprehensive income which, like retained earnings, is an equity account Changes in both retained earnings and accumulated other comprehensive income are reported in the statement of changes in equity Total shareholders’ equity is reported in the statement of financial position (assets = liabilities + shareholders’ equity) LO BT: C Difficulty: M Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-10 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition *PROBLEM 12-11B (a) Densmore Consulting — Held for Trading Jan Held for Trading Investments Cash ($200,000 × 1.02) June July (b) 30 Cash ($200,000 × 4% × 6/12) Interest Revenue July 30 204,000 4,000 4,000 Cash ($200,000 × 1.03) 206,000 Realized Gain on Held for Trading Investments Held for Trading Investments Densmore Consulting — Hold to Maturity Jan Long-Term Investments Cash June 204,000 Cash ($200,000 × 4% × 6/12) Long-Term Investments Interest Revenue ($204,000 × 3.5% × 6/12) Cash ($200,000 × 1.03) Long-Term Investments ($204,000 – $430) Realized Gain on Long-Term Investments 2,000 204,000 204,000 204,000 4,000 430 3,570 206,000 203,570 2,430 Solutions Manual 12-82 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition *PROBLEM 12-11B (CONTINUED) (c) CASB Jan June Dec (d) 30 31 Cash ($1,000,000 × 1.02) Bonds Payable 1,020,000 1,020,000 Interest Expense ($1,020,000 × 3.5% × 6/12) Bonds Payable Cash ($1,000,000 × 4% × 6/12) 17,850 2,150 Interest Expense ([$1,020,000 – $2,150] × 3.5% × 6/12) Bonds Payable Cash ($1,000,000 × 4% × 6/12) 17,812 2,188 20,000 20,000 When the bonds are purchased with the intention of holding them to maturity, the recording of the bonds for the investor and investee are mirror images The bonds have the same proportionate carrying amount This would not be the case if the bonds were purchased by Densmore on the open market The purchase price would reflect a different effective rate than the rate that existed at issuance of the bond and would be different than the selling price received by CASB when the bonds were issued There are also differences in accounting for the investor and investee when the bonds are purchased for trading purposes Any premium or discount is not amortized by the investor even though the company issuing the bonds would continue to amortize any discount or premium If the bonds are held at year-end, their carrying amount would be adjusted to fair value on the investor’s books while the issuer would carry the liability at amortized cost When Densmore sold its bonds on the open market, the issuer, CASB, was not affected by this transaction because it took place between Densmore and another company LO BT: AN Difficulty: C Time: 40 AACSB: Analytic CPA: cpa-t001 CM: Reporting Solutions Manual 12-83 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-1 Financial Accounting, Seventh Canadian Edition FINANCIAL REPORTING CASE (a) North West does not have held for trading securities According to note 10 titled Other Assets, North West has a 50% interest in a jointly controlled entity discussed in note 23 called Transport Nanuk Inc This is a strategic investment in a company that supplies freight handling and shipping services (b) The companies mentioned in note 23 are subsidiaries of North West The balances in the investment accounts for these companies have been eliminated when the financial statements of these subsidiaries were consolidated along with their parent company This is why the financial statement titles include the word “consolidated.” LO 1,4 BT: K Difficulty: S Time: 10 AACSB: None CPA: cpa-t001 CM: Reporting Solutions Manual 12-84 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-2 (a) Financial Accounting, Seventh Canadian Edition FINANCIAL ANALYSIS CASE North West has an investment in a jointly controlled entity as listed in note 23 North West owns 50% of the Canadian Arctic shipping company, Transport Nanuk Inc The equity method is used to account for the 50% ownership of Transport Nanuk Inc., as discussed in note (A) titled Basis of Consolidation Sobeys has an investment in an associate (affiliate) ECL Developments Limited, a private company The investment is accounted for using the cost method because the investment is in preferred shares whose fair value cannot be reliably measured as they are not publicly traded (b) Any income earned from investments in subsidiaries is embedded within the specific revenue and expense accounts of the consolidated financial statements and is not shown on a separate line North West would have investment income from an associate for its share of the net income of Transport Nanuk Inc because it is using the equity method In the case of Sobeys, dividend revenue from its investment in the preferred shares of ECL Developments Limited would be reported on the income statement Because the income statements are condensed and appear in millions of dollars in the case of Sobeys and thousands of dollars in the case of North West, the amounts involved are likely very small and it was not relevant to list them separately on the respective income statements (c) North West has other comprehensive income of $11,953,000, which exceeded that of Sobeys, which had $3,900,000 North West ended the year with a balance of $30,418,000 in Accumulated Other Comprehensive Income (AOCI) In the case of Sobeys, the balance was a loss of $3,200,000 Other Comprehensive Income is closed to Accumulated Other Comprehensive Income at the end of the year LO 1,2,3,4 BT: C Difficulty: M Time: 20 AACSB: Analytic CPA: cpa-t001 CM: Reporting Solutions Manual 12-85 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-3 (a) Financial Accounting, Seventh Canadian Edition PROFESSIONAL JUDGEMENT CASE ARP’s investment in CPS is strategic, but ARP is not exercising significant influence even though it owns 20% of the outstanding voting shares ARP does not have representation on CPS’s board of directors, and Adam and Robert have not been involved in any decisions related to CPS’s operations Long-term investments that not involve significant influence must be accounted for using the fair value method if the value of the shares trade in an active market Under ASPE, if the investment was subject to significant influence, ARP would have the choice between two accounting methods, the equity method and the fair value model if the shares trade in an active market If the shares did not trade in an active market, ASPE allows a choice of the equity method or the cost model The cost model is therefore not an acceptable method under ASPE for this investment because the shares trade actively Recording the investment using the cost model means that the carrying amount of the investment remains at its original cost of $100,000 Revenues are derived from dividends received from CPS Since no dividends were received during the year, no revenue has been reported on ARP’s income statement The cost model does not record unrealized gains or losses from fair value adjustments at year end Had ARP applied the fair value method, the income statement would report an unrealized loss of $10,000 ([fair value of $4.50/ share × 20,000 shares] – cost of $100,000) If ARP had applied the equity method, the income statement would report a loss from its associate of $6,000 (20% × loss of $30,000) This loss would reduce income Robert would prefer the cost model to keep income higher by $10,000 for 2018 because the financial statements will be presented to the bank to obtain financing for expansion The bank would likely find out about the unrecorded unrealized loss by inquiring about the status of the investment Solutions Manual 12-86 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-3 (CONTINUED) (b) If ARP reported its financial results under IFRS, it would apply the fair value method and would be prohibited from using the cost method because the shares trade in an active market LO 3,4 BT: E Difficulty: M Time: 30 AACSB: Analytic CPA: cpa-t001 CM: Reporting Solutions Manual 12-87 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-4 (a) Financial Accounting, Seventh Canadian Edition PROFESSIONAL JUDGEMENT CASE The three investments held by Bering Limited fall into three categories: Debt investment with the intention to be held to maturity — for the Government of Alberta bonds Non-strategic held for trading investments purchased with the expectation of active trading of the security — for the Atlas Inc common shares Strategic investment in an associate where Bering exercises significant influence over the investee — for the CH Resources Inc common shares Because each investment has a different purpose and management has a different intention in holding the investment, IFRS provides some alternatives in how to account for each of the three investments Debt securities such as the Government of Alberta bonds will normally be accounted for using the amortized cost model The option exists under IFRS to account for the bonds using fair value through profit or loss Since the board of directors wishes to choose the model that will maximize Bering’s financial position and profitability, the amortized cost model is chosen because the bonds’ fair value at December 31, 2018 falls below the amortized cost Using the amortized cost model will avoid recording an unrealized loss on long-term investments in the amount of $10,000 Non-strategic held for trading investments must be reported at their fair value A choice is available under IFRS to report any unrealized gains or losses in the income statement or in other comprehensive income in the statement of comprehensive income The fair value though profit or loss is recommended because the board of directors wishes to choose the model that will maximize Bering’s financial position and profitability An unrealized gain on the held for trading investments in the amount of $5,000 is therefore recognized as other revenue on the income statement Solutions Manual 12-88 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-4 (CONTINUED) (a) (continued) The investment in the CH Resources Ltd is a strategic investment in an associate and Bering under IFRS must account for the investment using the equity method because it holds 40% of the common shares and exercises significant influence over CH Resources Bering will recognize income from investment in associates and an increase in its investment in this associate in the amount of its share of the net income reported by CH Resources for the fiscal year of $4,000 (40% × $10,000) The investment in associates account will be reduced by the amount dividends received from CH Resources during the year in the amount of $800 (40% × $2,000) and cash will be increased Consequently, the balance of the investment in associate account reported on the statement of financial position will be $103,200 ($100,000 + $4,000 – $800) If it can be demonstrated that Bering does not have significant influence over CH Resources, then the investment should be reported at fair value An unrealized gain of $11,000 would be recorded on long-term investments on the income statement or an unrealized gain reported as other comprehensive income on the statement of comprehensive income if Bering elected to use this model The dividend received in the amount of $800 would be reported as other revenue on the income statement Since the board of directors wishes to choose the model that will maximize Bering’s financial position and profitability, they may argue that Bering does not have a significant influence position over CH Resources and would not elect to show unrealized gains and losses as other comprehensive income The relationship between the investor and investee would need to be supported by evidence in order to use the fair value model for this investment The recommendation is to account for CH Resources using the equity method Solutions Manual 12-89 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-4 (CONTINUED) (a) (continued) Based on the above, the financial statements will show the following: BERING LIMITED Statement of Financial Position (Partial) December 31, 2018 Current assets Held for trading investments $105,000 Non-current assets Long-term investments Investment in associates 100,000 103,200 BERING LIMITED Income Statement (Partial) Year Ended December 31, 2018 Other revenue Income from associates Interest revenue Unrealized gain on held for trading investments $4,000 3,000 5,000 12,000 The choices among the different models will not affect the statement of cash flows Solutions Manual 12-90 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-4 (CONTINUED) (b) Under ASPE, the accounting for the three investments would be done using the following models and methods: Debt investment with the intention to be held to maturity — the Government of Alberta bonds will be accounted for using the amortized cost model However, an option does exist as under IFRS to value this investment at fair value, but it must be fair value through profit or loss This option would most likely not be taken as it would result in recording an unrealized loss Non-strategic held for trading investments purchased with the expectation of active trading of the security — the Atlas Inc common shares will be reported using the fair value through profit or loss because the shares’ market value is available (as under IFRS), but Bering cannot report their investments using the fair value through the other comprehensive income model Strategic investment in an associate where Bering exercises significant influence over the investee — the CH Resources Ltd common shares are accounted for using the equity method (as under IFRS) Bering also has the choice to account for this investment using the cost model if the shares had not been traded actively or fair value if the shares are traded actively and fair value can be obtained Based on the information given, the financial statements would show the same amounts and classifications as was recommended in part (a) under IFRS LO 2,3,4 BT: E Difficulty: M Time: 50 AACSB: Analytic CPA: cpa-t001 CM: Reporting Solutions Manual 12-91 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-5 Financial Accounting, Seventh Canadian Edition ETHICS CASE (a) Lemke’s position would show unrealized gains, dividend revenue, and interest revenue on the income statement, but would not report unrealized losses Her position would mask unrealized losses by overstating the carrying amount of certain investments that had declined in value Her approach does not reflect the nature of the investments as strategic or nonstrategic Her approach would also result in financial results that are not comparable because as investments fluctuate from increasing in value to decreasing in value, the model used would need to change She understands the implications of using different models for financial statement presentation purposes, but she is not applying the models in the correct manner (b) Greenwood’s position does not show any unrealized gains or losses, but reports revenue from associates where significant influence does not exist Her position would also mask unrealized losses by overstating the carrying amount of certain investments that had declined in value Her approach also does not reflect the nature of the investments as strategic or nonstrategic Her approach would also result in financial results that are not comparable, because as equity investments fluctuate from increasing in value to decreasing in value, the model used would need to change She understands the implications of using different models for financial statement presentation purposes, but she is not applying the models in the correct manner Solutions Manual 12-92 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-5 (CONTINUED) (c) By selling its held for trading investments that had risen in value just prior to year end, Kreiter Financial Services would report realized gains on its income statement The held for trading investments that decline in value would be reported at fair value with the unrealized losses also reported on the income statement When the declining investments are sold immediately after year end, a realized gain or loss is reported based on the difference between the selling price and the year-end carrying amount of the investment, which in this case would probably be insignificant as the sale occurs so soon after year end Had Kreiter sold these investments just prior to year end, a realized loss equal to the reported unrealized loss would be reported on the company’s income statement By properly classifying its trading portfolio, decisions as to the timing of selling these investments will not allow management to manipulate net income because investments are reported at fair value LO 2,3,4 BT: S Difficulty: M Time: 30 AACSB: Ethics and Communication CPA: cpa-t001, cpa-e001 CM: Reporting and Ethics Solutions Manual 12-93 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley CT12-6 (a) Financial Accounting, Seventh Canadian Edition SERIAL CASE If Software Solutions succeeds in purchasing all of the shares of Anthony Business Company Ltd (ABC), Software Solutions would record the investment in its accounting records using the equity method However, there would be a requirement to consolidate the ABC accounts into Software Solutions’ financial statements using consolidation techniques that would remove the investment account and replace it with the assets and liabilities of ABC ABC would be a wholly owned subsidiary company and Software Solutions would be the parent company The purchase of the shares would not necessarily require a change in ABC’s accounting records, but some parent companies require their subsidiaries to make changes to their accounting policies or systems and processes to improve consistency with those used by the parent and facilitate consolidation of the financial statements Another change that might be required is to make ABC’s fiscal year end match that of its parent (b) If Compuhelp succeeds in purchasing Bev and Doug’s (50%) of the shares of ABC, but control is retained by Emily and Daniel, Compuhelp would account for the investment using the equity method This reflects Compuhelp’s significant influence over the operations of ABC The purchase of the shares would likely not require a change in ABC’s accounting records since the relationship between Compuhelp and ABC is one of significant influence and not control (c) Offer from Software Solutions: The offer from Software Solutions may result in reduced hours of work for Emily and Daniel This could be a significant advantage because of the work involved in running the business In addition, the sale of the shares will provide them with a substantial amount of cash that if invested wisely, could yield benefits for many years The transition of Emily and Daniel from shareholders to employees would also result in some disadvantages, such as loss of control Software Solutions will exercise control over ABC’s operations and will not likely be willing to let Emily and Daniel participate in the decision-making process Solutions Manual 12-94 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition CT12-6 (CONTINUED) (c) (continued) Their employment contract is also limited to years, leaving uncertainty about their relationship with Software Solutions at the end of the employment period The nature of the income received would also change Emily and Daniel currently receive a management salary plus dividends as shareholders of ABC This income fluctuates based on the financial results of the company As employees, the income that they receive will be more stable, but they will no longer participate in the net income of the business Offer from Compuhelp: The offer from Compuhelp will keep Emily and Daniel in control of the operations of ABC It will also allow them to participate in their share of the net income of the business since they retain 50% ownership of the company The company could also benefit from integration of services and opportunities through the relationship with Compuhelp, as well as taking advantage of the expertise of the Compuhelp management team The offer would not result in reduced hours of work for Emily and Daniel, as they would be responsible for running the business In addition, they would be subject to the significant influence of Compuhelp rather than dealing with Bev and Doug They would also not receive a large cash payment for the sale of their shares as would Bev and Doug Finally, if the business relationship with Compuhelp did not work out, it may be difficult to find another investor to purchase the shares held by Emily and Daniel The comparative financial rewards to Bev and Doug are not stated in this case LO BT: C Difficulty: M Time: 40 AACSB: Analytic CPA: cpa-t001, cpa-t005 CM: Reporting and Finance Solutions Manual 12-95 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited Kimmel, Weygandt, Kieso, Trenholm, Irvine, Burnley Financial Accounting, Seventh Canadian Edition Legal Notice Copyright © 2017 by John Wiley & Sons Canada, Ltd or related companies All rights reserved The data contained in these files are protected by copyright This manual is furnished under licence and may be used only in accordance with the terms of such licence The material provided herein may not be downloaded, reproduced, stored in a retrieval system, modified, made available on a network, used to create derivative works, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise without the prior written permission of John Wiley & Sons Canada, Ltd (MMXVII vi F2) Solutions Manual 12-96 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying, distribution, or transmission of this page is strictly prohibited ... Statement of Financial Position (Partial) December 31, 2018 Current assets Interest receivable Held for trading investments $ 1,500 120 ,000 Solutions Manual 12- 38 Chapter 12 Copyright... Long-Term Investments 1,426 Interest Revenue (($462,808 + $1,384) × 6% × 6 /12) 12, 500 13,926 Solutions Manual 12- 36 Chapter 12 Copyright © 2017 John Wiley & Sons Canada, Ltd Unauthorized copying,... 5% × 6 /12) Long-Term Investments Interest Revenue ($462,808 × 6% × 6 /12) 12, 500 1,384 Cash Interest Receivable 12, 500 462,808 13,884 Cash ($500,000 × 5% × 6 /12) 12, 500