accounting environment

1. CHAPTER 4
LONG TERM INVESTMENTS

2. Investments
Two Types of Financial Assets
 Debt investments.
 Equity investments.
Motivations for investing:
 Earn a high rate of return.
 To secure certain operating or financing
arrangements with another company (equity
securities).

3. A Closer Look at Debt Investments
Debt investments are characterized by contractual payments
on specified dates of
 principal and
 interest on the principal amount outstanding.
Companies group debt investments into three categories:
1. Held-for-collection
2. Held-for-collection and selling
3. Trading

4. Illustration: Robinson SA purchased €100,000 of 8 percent
bonds of Evermaster AG on January 1, 2019, at a discount,
paying €92,278. The bonds mature January 1, 2024 and yield
10 percent; interest is payable each July 1 and January 1.
Robinson records the investment as follows:
January 1, 2019
Debt Investments 92,278
Cash 92,278
Debt Investment at Amortized Cost

5. Debt Investment at Amortized Cost

6. Cash 4,000
Debt Investments 614
Interest Revenue 4,614
Robinson records the receipt of the first semiannual interest
payment on July 1, 2019, as follows:
Debt Investment at Amortized Cost

7. Interest Receivable 4,000
Debt Investments 645
Interest Revenue 4,645
Robinson is on a calendar-year basis, it accrues interest and
amortizes the discount at December 31, 2019, as follows:
Debt Investment at Amortized Cost

8. Reporting of Bond Investment at Amortized Cost
LO 1
Debt Investment at Amortized Cost

9. Assume that Robinson sells its investment on November 1,
2021, at 99¾ plus accrued interest. Robinson records this
discount amortization as follows:
(€783 x 4/6 = €522)
LO 1
Debt Investments 522
Interest Revenue 522

10. Computation Gain on Sale of Bonds
Cash (€99,750 + €2,667) 102,417
Interest Revenue (4/6 x €4,000) 2,667
Debt Investments 96,193
Gain on Sale of Investments 3,557
LO 1
Debt Investment at Amortized Cost

11. Debt investments held-for-collection and selling follow the
same accounting entries as debt investments held-for-
collection during the reporting period. That is, they are
recorded at amortized cost.
However, at each reporting date, companies
 Adjust the amortized cost to fair value.
 Any unrealized holding gain or loss is reported as part
of other comprehensive income rather than in the
profit and loss statement.
Debt Investments—Held-for-Collection and
Selling (HFCS)
LO 1

12. Illustration: Graff plc purchases £100,000, 10 percent, five-
year bonds on January 1, 2019, with interest payable on July 1
and January 1. The bonds sell for £108,111, which results in a
bond premium of £8,111 and an effective-interest rate of 8
percent. Graff records the purchase of the bonds as follows.
LO 1
Held-for-Collection and Selling (HFCS)
January 1, 2019
Debt Investments 108,111
Cash 108,111

14. Illustration (Single Security): The entry to record interest revenue
on July 1, 2019, is as follows.
Cash 5,000
Debt Investments 676
Interest Revenue 4,324
LO 1

15. Illustration (Single Security): At December 31, 2019, Graff makes
the following entry to recognize interest revenue.
Interest Receivable 5,000
Debt Investments 703
Interest Revenue 4,297
Interest
Revenue for
2019 = $8,621
Held-for-Collection and Selling (HFCS)

16. Illustration (Single Security): To apply the fair value method to
these debt investments, assume that at December 31, 2019 the fair
value of the bonds is £105,000. Graff makes the following entry.
Unrealized Holding Gain or Loss—Equity 1,732
Fair Value Adjustment 1,732
LO 1
Held-for-Collection and Selling (HFCS)

17. Sale of HFCS Securities
If company sells bonds before maturity date:
 It must make entries to remove from the Debt Investments
account the amortized cost of bonds sold.
 Any realized gain or loss on sale is reported in the “Other
income and expense” section of the income statement.
LO 1
Held-for-Collection and Selling (HFCS)

18. Illustration: Webb records the following at December 31, 2020.
Fair Value Adjustment 4,537
Unrealized Holding Gain or Loss—Equity 4,537
LO 1
Sale of HFCS Securities

19. Financial Statement Presentation
LO 1
Held-for-Collection and Selling (HFCS)

20. Companies often hold debt investments with the intention
of selling them in a short period of time. These debt
investments are often referred to as trading investments.
Companies report trading securities
 at fair value,
 with unrealized holding gains and losses reported as
part of net income.
A holding gain or loss is the net change in the fair value of
a security from one period to another, exclusive of
dividend or interest revenue recognized but not received.
Debt Investments—Trading
LO 1

21. Equity Investments
Equity investment represents
 ownership interest, such as ordinary, preference, or other
capital shares.
 rights to acquire or dispose of ownership interests at an
agreed-upon or determinable price, such as in warrants
and rights.
Cost includes
 Purchase price of the security.
 Broker’s commissions and fees are recorded as expense.
LO 2

22. LO 2
The degree to which one corporation (investor) acquires an
interest in the common stock of another corporation (investee)
generally determines the accounting treatment for the
investment subsequent to acquisition.
Equity Investments

23. Under IFRS, the presumption is that equity investments are
held-for-trading.
General accounting and reporting rule:
 Investments valued at fair value.
 Record unrealized gains and losses in net income.
Equity Investments
LO 2
Holdings of Less Than 20%

24. Equity Investments
LO 2
Holdings of Less Than 20%
IFRS allows companies to classify some equity investments
as non-trading.
General accounting and reporting rule:
 Investments valued at fair value.
 Record unrealized gains and losses in other
comprehensive income.

25. Illustration: November 3, 2019, Republic SA purchased
ordinary shares of three companies, each investment
representing less than a 20 percent interest. These shares are
held-for-trading.
Republic records these investments as follows:
Equity Investments—Trading (Income)
LO 2

26. Equity
Investments —
Trading
Republic records these investments as follows:
Equity Investments 718,550
Cash 718,550
On December 6, 2019, Republic receives a cash dividend of
€4,200 on its investment in the ordinary shares of Nestlé.
Cash 4,200
Dividend Revenue 4,200
LO 2

27. At December 31, 2019, Republic’s equity investment portfolio has
the carrying value and fair value shown.
Equity Investments—Trading (Income)
LO 2

28. ILLUSTRATION 17.14
LO 2
Unrealized Holding Gain or Loss—Income 35,550
Fair Value Adjustment 35,550
On December 31, 2019, Republic prepares an adjusting entry to
record the decrease in fair value and to record the loss as follows.

29. On January 23, 2020, Republic sold all of its Burberry ordinary
shares, receiving €287,220.
Cash 287,220
Equity Investments 259,700
Gain on Sale of Investments 27,520
Equity Investments—Trading (Income)
LO 2

30. In addition, assume that on February 10, 2020, Republic purchased
€255,000 of Continental Trucking ordinary shares (20,000 shares
€12.75 per share), plus brokerage commissions of €1,850.
Republic’s equity investment portfolio as of December 31, 2020.
Equity Investments—Trading (Income)

31. Fair Value Adjustment 101,650
Unrealized Holding Gain or Loss—Income 101,650
LO 2
Republic records this adjustment on Dec. 31, 2020, as follows.

32. The accounting entries to record non-trading equity
investments are the same as for trading equity investments,
except for recording the unrealized holding gain or loss.
Companies report the unrealized holding gain or loss as other
comprehensive income.
Equity Investments—Non-Trading (OCI)
LO 2

33. Illustration: On December 10, 2019, Republic SA purchased
1,000 ordinary shares of Hawthorne Company for €20.75 per
share (total cost €20,750). The investment represents less than a
20 percent interest. Hawthorne is a distributor for Republic
products in certain locales, the laws of which require a minimum
level of share ownership of a company in that region. The
investment in Hawthorne meets this regulatory requirement.
Republic accounts for this investment at fair value.
Equity Investments (Hawthorne) 20,750
Cash 20,750
Equity Investments—Non-Trading (OCI)
LO 2

34. On December 27, 2019, Republic receives a cash dividend of
€450 on its investment in the ordinary shares of Hawthorne
Company. It records the cash dividend as follows.
Cash 450
Dividend Revenue 450
Equity Investments—Non-Trading (OCI)
LO 2

35. At December 31, 2019, Republic’s investment in Hawthorne has
the carrying value and fair value shown.
Equity Investment (Hawthorne) 3,250
Unrealized Holding Gain or Loss—Equity 3,250
Equity Investments—Non-Trading (OCI)
LO 2
Republic records this adjustment as follows.
The Equity Investment account is used because the non-trading
classification is applied on investment by investment basis, rather than
on a portfolio basis.

36. Equity Investments—Non-Trading (OCI)
LO 2

37. An investment (direct or indirect) of 20 percent or more of the
voting shares of an investee should lead to a presumption that
in the absence of evidence to the contrary, an investor has the
ability to exercise significant influence over an investee.
In instances of “significant influence,” the investor must
account for the investment using the equity method.
LO 3
Equity Investments
Holdings Between 20% and 50%

38. Equity Method
Record the investment at cost and subsequently adjust the
amount each period for changes in investee’s net assets.
 Investor’s proportionate share of the earnings (losses) of the
investee increases (decreases) the investment’s carrying
amount.
 Dividends received from the investee decrease the
investment’s carrying amount.
Holdings Between 20% and 50%
LO 3