Chapter 16 Investments Chapter 16-1 Accounting Principles, Ninth Edition Study Study Objectives Objectives Discuss why corporations invest in debt and stock securities Explain the accounting for debt investments Explain the accounting for stock investments Describe the use of consolidated financial statements Indicate how debt and stock investments are reported in financial statements Distinguish between short-term and long-term investments Chapter 16-2 Long-Term Long-Term Liabilities Liabilities Why Corporations Invest Cash management Investment income Strategic reasons Chapter 16-3 Accounting for Debt Investments Recording acquisition of bonds Recording bond interest Recording sale of bonds Accounting for Stock Investments Holdings of less than 20% Holdings between 20% and 50% Holdings of more than 50% Valuing and Reporting Investments Categories of securities Balance sheet presentation Realized and unrealized gain or loss Classified balance sheet Why Why Corporations Corporations Invest 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 Illustration 16-1 Temporary investments and the operating cycle Chapter 16-4 SO Discuss why corporations invest in debt and stock securities Why Why Corporations Corporations Invest Invest Question Pension funds and banks regularly invest in debt and stock securities to: a house excess cash until needed b generate earnings c meet strategic goals d avoid a takeover by disgruntled investors Chapter 16-5 SO Discuss why corporations invest in debt and stock securities Accounting Accounting for for Debt Debt Investments Investments 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 Chapter 16-6 SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Sale of Bonds Credit the investment account for the cost of the bonds and record as a gain or loss any difference between the net proceeds from the sale (sales price less brokerage fees) and the cost of the bonds Chapter 16-7 SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Illustration: Kuhl Corporation acquires 50 Doan Inc 8%, 10-year, $1,000 bonds on January 1, 2010, for $54,000, including brokerage fees of $1,000 The entry to record the investment is: Jan Debt investments Cash Chapter 16-8 54,000 54,000 SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Illustration: Kuhl Corporation acquires 50 Doan Inc 8%, 10-year, $1,000 bonds on January 1, 2010, for $54,000, including brokerage fees of $1,000 The bonds pay interest semiannually on July and January The entry for the receipt of interest on July is: July * Chapter 16-9 Cash Interest revenue 2,000 * 2,000 ($50,000 x 8% x ½ = $2,000) SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Illustration: If Kuhl Corporation’s fiscal year ends on December 31, prepare the entry to accrue interest since July Dec 31 Interest receivable Interest revenue 2,000 2,000 Kuhl reports receipt of the interest on January as follows Jan Chapter 16-10 Cash Interest receivable 2,000 2,000 SO Explain the accounting for debt investments Chapter 16-25 Valuing Valuing and and Reporting Reporting Investments 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% Chapter 16-26 SO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments Investments Trading Securities Companies hold trading securities with the intention of selling them in a short period Trading means frequent buying and selling Companies report trading securities at fair value, and report changes from cost as part of net income Chapter 16-27 SO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments 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 Chapter 16-28 SO Indicate how debt and stock investments are reported in financial statements Valuing Valuing and and Reporting Reporting Investments Investments Question 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 Chapter 16-29 SO Indicate how debt and stock investments are reported in financial statements Trading Trading Securities Securities Illustration: Investment of Pace classified as trading securities on December 31, 2010 Illustration 16-7 The adjusting entry for Pace Corporation is: Dec 31 Market adjustment—trading Unrealized gain—income Chapter 16-30 7,000 7,000 SO Indicate how debt and stock investments are reported in financial statements Available-for-Sale Available-for-Sale Securities Securities Problem: How would the entries change if the securities were classified as available-for-sale? The entries would be the same 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 Chapter 16-31 SO Indicate how debt and stock investments are reported in financial statements Available-for-Sale Available-for-Sale Securities Securities Illustration: Assume that Ingrao Corporation has two securities that it classifies as available-for-sale Illustration 16-8 provides information on their valuation Illustration 16-8 The adjusting entry for Ingrao Corporation is: Dec 31 Unrealized gain or loss—equity 9,537 Market adjustment—available-for-sale Chapter 16-32 9,537 SO Indicate how debt and stock investments are reported in financial statements Available-for-Sale Available-for-Sale Securities Securities Question 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 Chapter 16-33 SO Indicate how debt and stock investments are reported in financial statements Chapter 16-34 Balance Balance Sheet Sheet Presentation Presentation Short-Term Investments 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 Investments that not meet both criteria are classified as long-term investments Chapter 16-35 SO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation Presentation Presentation of Realized and Unrealized Gain or Loss Nonoperating items related to investments Illustration 16-10 Chapter 16-36 SO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation 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 Illustration 16-11 Chapter 16-37 SO Distinguish between short-term and long-term investments Balance Balance Sheet Sheet Presentation Presentation Classified Balance Sheet (partial) Illustration 16-12 Chapter 16-38 SO Distinguish between short-term and long-term investments Copyright Copyright “Copyright © 2009 John Wiley & Sons, Inc All rights reserved Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc The purchaser may make back-up copies for his/her own use only and not for distribution or resale The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.” Chapter 16-39 ... long-term investments Chapter 16- 2 Long-Term Long-Term Liabilities Liabilities Why Corporations Invest Cash management Investment income Strategic reasons Chapter 16- 3 Accounting for Debt Investments... rate times the portion of the year the bond is outstanding Chapter 16- 6 SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Sale of... (sales price less brokerage fees) and the cost of the bonds Chapter 16- 7 SO Explain the accounting for debt investments Accounting Accounting for for Debt Debt Investments Investments Illustration: