Accounting 2 Chapter 17

Impairment

is a loss on the investments value that is determined to be other than temporary. A company should evaluate all of its investments at least once each year to determine if any of the investments has become impaired. The investment is written down to a new cost basis and the impairment loss is reflected in net income.

Debt securities that are bought and held primarily for sale in the near term are reported at:

Fair Value

The FASB Fair Value Heirarchy

- Level One: observable inputs (such as market prices) for identical items - Level Two: observable inputs (such as market prices) for similar items - Level Three: unobservable inputs (such as the PV of estimated future cash flows)

Amortized Cost

Acquisition cost adjusted for any discount or premium amortization

Equity Securities

Represents ownership interests such as common, preferred, or other capital stock.

Unrealized holding gains or losses are recognized as other comprehensive income for:

Available-for-sale securities

When an available-for-sale equity security is sold, the gain (loss) on sale is the difference between the net proceeds from the sale and the security's:

Cost

Trading

Debt securities bought and held primarily for sale in the near term to generate income on short-term price differences. Frequent buying and selling of deb securities.

Available-for-sale

Debt securities not classified as held-to-maturity or trading securities. The "Default" category.

Held-to-maturity

Debt securities that the company has the positive intent and ability to hold to maturity.

Under the equity method, the investment account is decreased by all of the following except the investor's proportionate share of:

Declines in the fair value of the investment

Equity Method vs. Fair Value Method

Equity method: - Record when the company has net income - Record when the company has net loss - Record an Investment account when the company pays a cash dividend Fair Value Method: - Record when the company adjusts to fair market value - Record a Revenue account when the company pays a cash dividend

50% or more of ownership in a company

Investor has controlling interest. Use equity method and consolidation.

20% or less of ownership in a company

Investor has passive interest. Little or no level of influence. Use the fair value method. Can either be Available-for-sale or Trading

20% to 50% of ownership in a company

Investor has significant influence. Use equity method.

The unrealized gains and losses on available-for-sale securities are:

Reported on the portfolio of investments.

Unrealized holding gain/loss

Relates to a security that has NOT been sold as of the reporting date; the gain or loss is determined by comparing the security's fair value with its carrying value.

Fair Value

The fair market value of the security; easy to determine IF the security is actively traded on an exchange, if not, estimates of fair value must be made.

Unrealized holding gains or losses which are recognized in income are from securities classified as

Trading

Debt securities may be classified as:

all of these answer choices are correct (Available-For-Sale, Trading, and Held-To-Maturity)

A requirement for a security to be classified as held-to-maturity is

all of these answer choices are correct (ability to hold the security to maturity, positive intent, the security must be a debt security)

Financial Instruments

are cash, an ownership interest, a contractual right to receive cash or another financial instrument, or a contractual right to deliver cash or another financial instrument. Both the cost and the fair value of the financial instruments must be disclosed.

If the parent company owns 90% of the subsidiary company's outstanding common stock, the company should generally account for the income of the subsidiary under the

equity method

A correct valuation is

held-to-maturity securities at amortized cost

Unrealized gains and losses on held-to-maturity securities are:

not reported because these securities are reported at their amortized cost

An unrealized holding gain on a company's available-for-sale securities should be reflected in the current financial statements as

other comprehensive income and included in the equity section of the balance sheet

The unrealized holding gain or loss on trading securities is reported as:

part of net income

Debt Securities

represent a creditor relationship with another entity. They include U.S. government securities, corporate bonds, convertible bonds, and municipal securities.