Slide
12-1
Chapter
12
Investments
Financial Accounting,
Seventh Edition
Slide
12-2
Study Objectives
Slide
12-3
1.
Discuss why corporations invest in debt and stock
securities.
2.
Explain the accounting for debt investments.
3.
Explain the accounting for stock investments.
4.
Describe the use of consolidated financial statements.
5.
Indicate how debt and stock investments are reported in
financial statements.
6.
Distinguish between short-term and long-term
investments.
Investments
Why
Corporations
Invest
Cash
management
Investment
income
Strategic
reasons
Accounting for
Debt
Investments
Recording
acquisition of
bonds
Accounting for
Stock
Investments
Valuing and
Reporting
Investments
Holdings of less
than 20%
Categories of
securities
Recording bond
interest
Holdings
between 20%
and 50%
Balance sheet
presentation
Recording sale
of bonds
Holdings of more
than 50%
Realized and
unrealized gain
or loss
Classified
balance sheet
Slide
12-4
Why Corporations Invest
Corporations generally invest in debt or stock
securities for one of three reasons.
1.
Corporation may have excess cash.
2.
To generate earnings from investment income.
3.
For strategic reasons.
Illustration 12-1
Temporary
investments
and the
operating cycle
Slide
12-5
SO 1 Discuss why corporations invest in debt and stock securities.
Why Corporations 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.
Slide
12-6
SO 1 Discuss why corporations invest in debt and stock securities.
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.
Slide
12-7
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
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.
Slide
12-8
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Illustration: Kuhl Corporation acquires 50 Doan Inc.
8%, 10-year, $1,000 bonds on January 1, 2011, for
$54,000, including brokerage fees of $1,000. The entry
to record the investment is:
Jan. 1
Debt investments
Cash
Slide
12-9
54,000
54,000
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Illustration: Kuhl Corporation acquires 50 Doan Inc.
8%, 10-year, $1,000 bonds on January 1, 2011, for
$54,000, including brokerage fees of $1,000. The
bonds pay interest semiannually on July 1 and January 1.
The entry for the receipt of interest on July 1 is:
July 1
*
Slide
12-10
Cash
Interest revenue
2,000 *
2,000
($50,000 x 8% x ½ = $2,000)
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Illustration: If Kuhl Corporation’s fiscal year ends on
December 31, prepare the entry to accrue interest since
July 1.
Dec. 31 Interest receivable
Interest revenue
2,000
2,000
Kuhl reports receipt of the interest on January 1 as
follows.
Jan. 1
Slide
12-11
Cash
Interest receivable
2,000
2,000
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Illustration: Assume that Kuhl corporation receives net
proceeds of $58,000 on the sale of the Doan Inc. bonds
on January 1, 2011, after receiving the interest due.
Prepare the entry to record the sale of the bonds.
Jan. 1
Cash
58,000
Debt investments
Gain on sale of investments
Slide
12-12
54,000
4,000
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Question
An event related to an investment in debt securities
that does not require a journal entry is:
a. acquisition of the debt investment.
b. receipt of interest revenue from the debt
investment.
c. a change in the name of the firm issuing the
debt securities.
d. sale of the debt investment.
Slide
12-13
SO 2 Explain the accounting for debt investments.
Accounting for Debt Instruments
Question
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.
Slide
12-14
SO 2 Explain the accounting for debt investments.
Accounting for Stock Investments
Ownership Percentages
0 --------------20% ------------ 50% -------------- 100%
No significant
influence
usually exists
Significant
influence
usually exists
Investment
valued using
Cost
Method
Investment
valued using
Equity
Method
Control
usually exists
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.
Slide
12-15
SO 3 Explain the accounting for stock investments.
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).
Slide
12-16
SO 3 Explain the accounting for stock investments.
Holdings of Less than 20%
Illustration: On July 1, 2011, Sanchez Corporation
acquires 1,000 shares (10% ownership) of Beal
Corporation common stock. Sanchez pays $40 per
share plus brokerage fees of $500. The entry for the
purchase is:
July 1
Stock investments
Cash
Slide
12-17
40,500
40,500
SO 3 Explain the accounting for stock investments.
Holdings of Less than 20%
Illustration: During the time Sanchez owns the stock,
it makes entries for any cash dividends received. If
Sanchez receives a $2 per share dividend on December
31, the entry is:
Dec. 31
Cash
2,000
Dividend revenue
Slide
12-18
2,000
SO 3 Explain the accounting for stock investments.
Holdings of Less than 20%
Illustration: Assume that Sanchez Corporation
receives net proceeds of $39,500 on the sale of its
Beal stock on February 10, 2012. Because the stock
cost $40,500, Sanchez incurred a loss of $1,000. The
entry to record the sale is:
Feb. 10
Cash
39,500
Loss on sale of stock
Stock investments
Slide
12-19
1,000
40,500
SO 3 Explain the accounting for stock investments.
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.
Slide
12-20
SO 3 Explain the accounting for stock investments.
Holdings Between 20% and 50%
Question
Under the equity method, the investor records
dividends received by crediting:
a. Dividend Revenue.
b. Investment Income.
c. Revenue from Investment.
d. Stock Investments.
Slide
12-21
SO 3 Explain the accounting for stock investments.
Holdings Between 20% and 50%
Illustration: Milar Corporation acquires 30% of the common
shares of Beck Company for $120,000 on January 1, 2011. For
2011, Beck reports net income of $100,000 and paid dividends
of $40,000. Prepare the entries for these transactions.
Jan. 1
Stock investments
120,000
Cash
Dec. 31
120,000
Stock investments ($100,000 x 30%)
30,000
Revenue from investments
Dec. 31 Cash ($40,000 x 30%)
Stock investments
Slide
12-22
30,000
12,000
12,000
SO 3 Explain the accounting for stock investments.
Holdings Between 20% and 50%
Illustration: Milar Corporation acquires 30% of the common
shares of Beck Company for $120,000 on January 1, 2011. For
2011, Beck reports net income of $100,000 and paid dividends
of $40,000. Prepare the entries for these transactions.
After Milar posts the transactions for the year, its
investment and revenue accounts will show the following.
Stock Investments
Debit
120,000
30,000
Credit
Revenue from Investments
Debit
Credit
30,000
12,000
138,000
Slide
12-23
SO 3 Explain the accounting for stock investments.
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.
Slide
12-24
SO 4 Describe the use of consolidated financial statements.
Slide
12-25
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%.
Slide
12-26
SO 5 Indicate how debt and stock investments
are reported in financial statements.
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.
Companies report trading securities at fair value,
and report changes from cost as part of net income.
Slide
12-27
SO 5 Indicate how debt and stock investments
are reported in financial statements.
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.
Slide
12-28
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Valuing and Reporting 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
Slide
12-29
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Trading Securities
Illustration: Investment of Pace classified as trading
securities on December 31, 2011.
Illustration 12-7
The adjusting entry for Pace Corporation is:
Dec. 31
Market adjustment—trading
Unrealized gain—income
Slide
12-30
7,000
7,000
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Available-for-Sale 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.
Slide
12-31
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Available-for-Sale Securities
Illustration: Assume that Ingrao Corporation has two
securities that it classifies as available-for-sale.
Illustration 12-8
The adjusting entry for Ingrao Corporation is:
Dec. 31
Unrealized gain or loss—equity
9,537
Market adjustment—available-for-sale9,537
Slide
12-32
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Available-for-Sale 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.
Slide
12-33
SO 5 Indicate how debt and stock investments
are reported in financial statements.
Slide
12-34
Valuing and Reporting Investments
Balance Sheet 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 do not meet both criteria are
classified as long-term investments.
Slide
12-35
SO 6 Distinguish between short-term and long-term investments.
Balance Sheet Presentation
Presentation of Realized and Unrealized Gain
or Loss
Nonoperating items related to investments
Illustration 12-10
Slide
12-36
SO 6 Distinguish between short-term and long-term investments.
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.
Illustration 12-11
Slide
12-37
SO 6 Distinguish between short-term and long-term investments.
Classified
Balance
Sheet
(partial)
Illustration 12-12
Slide
12-38
SO 6 Distinguish between short-term and long-term investments.
Balance Sheet Presentation
Identify where each of the following items would
be reported in the financial statements.
Use the following possible categories:
Current assets
Investments
Property, plant, and equipment
Intangible assets
Other expenses and losses
Slide
12-39
Solution on
notes page
Current liabilities
Long-term liabilities
Stockholders’ equity
Other revenues and gains
SO 6 Distinguish between short-term and long-term investments.
A Good Day to Start Starving
 Only about 48% of people in their twenties whose employers
have a 401(k) plan participate in that plan. [401(k) plans allow
you to put part of your pretax salary into investments. The
investment and its earnings are not taxed until you withdraw
them in retirement.] Many employers automatically enroll
employees in 401(k) plans when they hire them.
 Only 40% of working couples currently are covered by pension
plans, but 61% of workers expect to get income from a
company pension plan.
Slide
12-40
 More than half of workers age 55 and older have less than
$50,000 in retirement savings.
 80% of individuals between the ages of 18 to 26 said that, if
given $10,000, they would deposit the money into a traditional
bank savings account rather than invest in the stock market.
Many stated that they are intimidated by the stock market,
and choose to give up the added returns the stock market
offers over the long run, rather than face the market.
Slide
12-41
 The message to start saving early has been presented in many
different ways. The chart below presents the facts in very blunt
terms. When you are 25 years old, if you start putting $300 per
month into an investment earning 8%, by the age of 65 you will
have accumulated more than $1 million. But if you wait until age
55, you will accumulate only about $55,000. Notice the sharp
drop-off between ages 25 and 35.
Slide
12-42
You’ve got $3,000 in credit card bills at an 18% interest rate. Your
employer has a 401(k) plan in which it will match your contributions,
up to 10% of your annual salary. Should you pay off your credit card
bills before you start putting money into the 401(k)?
YES: Paying off an 18% debt, and thus avoiding 18% interest
payments, is essentially equivalent to earning 18% on investments.
Reducing your debts reduces your financial vulnerability.
NO: You need to get in the savings habit as soon as possible. You
should take part of the money you would have used to pay off your
debt each month and instead put it into the 401(k).
Slide
12-43
Preparing Consolidated Financial Statements
Consolidated Balance Sheet
Appendix
 Companies prepare consolidated balance sheets from
the individual balance sheets of their affiliated
companies.
 Transactions between the affiliated companies are
eliminated.
Slide
12-44
Preparing Consolidated Financial Statements
Consolidated Balance Sheet
Illustration: Assume that on January 1, 2011, Powers
Construction Company pays $150,000 in cash for
100% of Serto Brick Company’s common stock.
Powers Company records the investment at cost, as
required by the cost principle.
The combined totals do not represent a consolidated
balance sheet, because there has been a double
counting of assets and owners’ equity in the amount
of $150,000.
Slide
12-45
Preparing Consolidated Financial Statements
Consolidated Balance Sheet
Slide
12-46
Illustration 12A-1
Preparing Consolidated Financial Statements
Use of a Worksheet—Cost Equal to Book Value
Illustration 12A-2
Slide
12-47
SO 7 Describe the content of a worksheet for a consolidated balance sheet.
Preparing Consolidated Financial Statements
Use of a Worksheet—Cost Above Book Value
Illustration: Assume the same data used above, except
that Powers Company pays $165,000 in cash for
100% of Serto’s common stock. The excess of cost
over book value is $15,000 ($165,000 $150,000).
Slide
12-48
SO 7 Describe the content of a worksheet for a consolidated balance sheet.
Preparing Consolidated Financial Statements
Use of a Worksheet—Cost Above Book Value
Illustration 12A-3
Slide
12-49
SO 7 Describe the content of a worksheet for a consolidated balance sheet.
Preparing Consolidated Financial Statements
Content of a Consolidated Balance Sheet
Slide
12-50
Illustration: The prior worksheet shows an excess of
cost over book value of $15,000. In the consolidated
balance sheet, Powers first allocates this amount to
specific assets, such as inventory and plant
equipment, if their fair market values on the
acquisition date exceed their book values. Any
remainder is considered to be goodwill. For Serto
Company, assume that the fair market value of
property and equipment is $155,000.Thus, Powers
allocates $10,000 of the excess of cost over book
value to property and equipment, and the remainder,
$5,000, to goodwill.
SO 8 Explain the form and content of consolidated financial statements.
Preparing Consolidated Financial Statements
Content of a Consolidated Balance Sheet
Slide
12-51
Illustration 12A-4
SO 8 Explain the form and content of consolidated financial statements.
Preparing Consolidated Financial Statements
Consolidated Income Statement
Appendix
 Statement shows the results of operations of
affiliated companies as though they are one
economic unit.
 All intercompany revenue and expense transactions
must be eliminated.
 A worksheet facilitates the preparation of
consolidated income statements in the same manner
as it does for the balance sheet.
Slide
12-52
SO 8 Explain the form and content of consolidated financial statements.
Copyright
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12-53