Ch 12
Ziegler Company owns 40% of Norm Company's outstanding voting stock. During the current year, Norm reported income of $2 mil and declared dividends of $1 mil. Ziegler Company should report income from its investment of
$2 mil x 40% = $800,000
Markus Company sells 1,000 bonds of its debt investment in Berta Inc. for $20,000. The original cost of the 1,000 bonds was $18,000. During the prior year, the bonds were reported on the balance sheet at a fair value of $19,000. On the date of sale, Markus should recognize a realized gain of _____ in net income. (Assume the debt investment was accounted for as available-for-sale and all unrealized holding gains and losses have been reversed.)
$2,000
Marian company's records show the following account balances at 2/1/18: on that day, the company sells the investments in HTM securities, $500K; and discount on HTM investment $20K. On that day, the company sells the investment for $520K. The journal entry would include debuts of (select all that apply)
$520K to cash;
Which of the following is correct regarding the purpose of additional adjustments under the equity method? 1. Adjustments help improve financial statement consistency 2. Adjustments help improve financial statement comparability 3. Adjustments help to approximate the effects of consolidation
3. Adjustments help to approximate the effects of consolidation
Match the correct accounting treatment with the correct transaction: A. Holding gain or loss in other comprehensive income B. Holding gain or loss in income C. No holding gain or loss is recognized 1. Investment in held-to-maturity debt securities 2. Investment in trading debt securities 3. Investment in available for sale debt securities
A - 3 B - 2 C - 1
How are equity investments that lack significant influence adjusted?
A fair value adjustment is recorded at the end of every reporting period; Unrealized holding gain or loss is included in net income
How is an equity investment that lacks significant influence adjusted to fair value at the end of each reporting period?
A valuation allowance account is increased or decreased
Financial statement presentation for AFS Net fair value adjustments to date - net holding gains and losses to date
Accumulated other comprehensive income
If the market rate of interest rises after a bond is purchased, the bond incurs
An unrealized holding loss
Regarding the valuation of equity investments that lack significant influence beginning in 2018, which of the following statements is correct?
Companies are required to use the fair value through net income method
Action company sells bond investments classified as trading securities for $99K. The face amount is $100K; unamortized discount is $2K. What must be included in the journal entry to record the sale? (Select all that apply)
DR cash 99K; DR discount on bond investments $2K; CR investment in bonds $100K; Cr fair value adjustment $1K
Jan 1,2021, Smith Co. purchased common stock of North Company for $500,000. North Company has common stock outstanding of $10 million. Smith owns 5% of the outstanding stock of North. On Dec 31, 2021, the investment in North Company has a fair value of $505,000. On Jan 1, 2022, Smith sells the investment in North Company for $505,000. What journal entry is required to record the sale?
Debit cash $505,000; Credit investment in North stock $500,000; credit fair value adjustment $5,000
Which reporting method should be used if the investor can exert significant influence over the investee?
Equity method
At the first me off the accounting period, trading debt securities must be adjusted to ___ value
Fair
Investments in debt securities classified as trading are reported on the balance sheet at _____ _____
Fair value
True or False: If the investee reports a net loss, the equity investment account is not adjusted for additional expenses
False (If the investee reports a net loss, the investment account is decreased by the investor's share of the investee's net loss, adjusted for additional expenses.
Equity and debt securities are commonly referred to as _______________ instruments
Financial
characteristics that support classification of investments as trading securities include (select all that apply)
Frequent and active trading; motivation to realize short term profits
Which of the following are correct regarding the financial statement presentation of HTM securities?
Gains and losses are shown in net income in the period in which the securities are sold
If an investor has the positive intent and ability to hold a debt security until it matures, it should be classified as a
Held-to-maturity security
Cash flows fr using and selling held-to-maturity securities are typically classified as _______ activities on the Statement of Cash Flow
Investing
Financial statement presentation for Realized gains and losses from the sale of AFS securities
Net income
Which of the following may be a valid concern that supports recognizing unrealized gains and losses associated with AFS debt securities in other comprehensive income?
Net income may appear to be more volatile than it is
In the statement of cash flows, inflows and outflows of cash from buying and selling trading securities typically are considered:
Operating activities
Financial statement presentation for AFS Current period holding gains or losses
Other comprehensive income
If a company holds bonds that are not actively traded, it can estimate the fair value of those bonds by using _______ _______ techniques
Present value
The price of a bond is equal to
Present value of future interest payments plus present value of principal AND Present value of future cash receipts
An investor who purchased corporate bonds that are not publicly traded may estimate the bonds fair value by determining the
Present value of the future cash flows
Investments in debt securities acquired principally for the purpose of selling them in the near term are classified as _____ securities
Trading
Von Company properly applies the equity method in accounting for its investment in Neumann Inc. Which of the following statements are correct?
Von has significant influence over Neumann; Von owns 20-50% of Neumann's voting shares
Adrianna Company purchases 35% of Saddle Company's outstanding stock for $450,000. Adrianna should record this investment with
debit investment in Saddle $450,000; credit cash $450,000
Dividends cause the investor's investment in the investee's net assets to
decrease
Gunter Company acquires a 25% interest in Hunter Company. The fair value of Hunter's inventory exceeds its book value by $40,000. During the subsequent year, the inventory is sold. As a result of the sale of inventory, investment revenue would
decrease by $10,000 (40,000 * 25%)
Silvia company acquires a 30% interest in Small Company. The fair value of Small's inventory exceeds its carrying value by $100,000. During the subsequent year, the inventory is sold. As a result of the sale of inventory, investment revenue would:
decrease by $30,000
Under the equity method, if the investee company reports a net loss, the investment balance will
decrease by the investor's proportionate share of the investee's net loss
Under the equity method, dividends received from the investment
decrease the investment account balance
Cash flows from buying and selling AFS debt securities are typically shown on the statement of cash flows in the ______activities section
investing
Cash flows from buying and selling held-to-maturity securities are typically classified as _____ activities on the Statement of cash flows
investing
On July 1, Adrianna Company purchased 35% of Saddle Company's outstanding stock for $450,000. During the first year, Saddle reports income of $200,000 and declares dividends of 50,000. Adrianna should recognize income earned by debiting
investment in Saddle company for $35,000 (200,000*35%*(6/12)
If a company chooses to apply the fair value option to investments that otherwise would be accounted for under the equity method, the election
is irrevocable; can be made for some investments and not others
Cash flows related to equity investments for which the investor lacks significant influence and are held with an intent for short-term profit are shown in the _____ section of the statement of cash flows
operating
When equity investments that lack significant influence are sold and a fair value adjustment account has been used to increase or decrease the carrying value of the investment, the investment account is credited for the:
the original cost of the investment
Bella company purchased debt securities with a face amount of $500K for $480 and classifies them as trading securities. During the first year, the company amortized $2K of the associated discount. At the end of the period, the fair value is $504K. Bella should recognize a fair value adjustment of
$22K
Goofy Inc. bought a sizeable amount of Crazy Cos bonds for $196,000 on May 5, 2020, and classified the investment as AFS. The market value of the bonds declined to $122,000 by December 31, 2020. Goofy reclassified this investment as trading securities in December of 2021 when the market value had risen to $160,000. What effect on 2021 net income should be reported by Goofy for the Crazy Co. bonds?
$36,000 net unrealized holding loss. Explanation: Unrealized holding loss of $74,000 is recorded in an allowance to reduce the investment balance, and as other comprehensive loss, in 2020. When the bonds are reclassified in 2021, the $74,000 in accumulated other comprehensive income is reclassified as an unrealized holding loss in the income statement. In addition, $38,000 unrealized holding gain for 2021 goes directly to the income statement. The net effect on net income in 2021 is a $36,000 unrealized holding loss.
Marian company's records show the following account balances at 2/1/18: on that day, the company sells the investments in HTM securities, $500K; and discount on HTM investment $20K. On that day, the company sells the investment for $520K. The journal entry would include credits of (select all that apply)
$500K to investments in HTM securities; $40K to gain from sale of investments
Gruen Corp aquires a 25% interest in Blau Company for $1 mil. The excess of investment cost over Gruen's share of the book value of Blau's net assets is solely attributable to goodwill. During the year, Blau reports income of $500,000 and declares dividends of $100,000. The carrying value of Gruen's investment at the end of the accounting period will be
Purchase price + share of net income - dividends - depreciation adjustment ($1 mil + (($500,000 - 100,000)* 25%) = $1.1 mil
The investment account associated with Adam Corp's equity method investment shows a balance of $500,000. The investment is sold for $550,000. Adam should
Recognize a gain of $50,000
Unrealized holding gains and losses with debt investments properly classified as "available for sale" are
Recognized as other comprehensive income
Which of the following conditions must be present for a debt security to be classified as "held-to-maturity"? (Select all that apply)
The investor has the ability to hold the security until maturity; the investor intends to hold the security until maturity
Consistent with the equity method, investment income is
based on investee's income times ownership percentage
Barber Company acquires 35% of the outstanding shares of Carter Company. Which of the following is correct? a. Barber must consolidate Carter Company b. Barber must utilize the equity method c. Barber may choose to apply the fair value option
c. Barber may choose to apply the fair value option
Under US GAAP, which of the following statements regarding the classification of debt investments is correct? a. The classification of investments must be reassessed with each change in fair value b. The classification of investments is permanent c. The classification of investments must be reassessed each reporting period
c. The classification of investments must be reassessed each reporting period
Northern Company has bonds with an amortized cost of $600,000. At the end of the first reporting period, the bonds had a fair value of $675,000. 2 days after the end of the first reporting period, the bonds have a fair value of $680,000 and Northern decides to sell the bonds. The initial investment in the bonds was $700,000 and the discount on bond account has a $100,000 balance. Northern properly classifies these bonds as trading securities. The journal entry to record the sale of the bonds includes (Select all that apply.)
credit to fair value adjustment $80K; debit to discount on bond investment $100K; debit to cash $680K; credit to investment in bonds $700K
Global Company holds a portfolio of equity securities. The company intends to sell the securities during the next accounting period. The company should classify the investment as
current
Abbot Inc. owns 30% of the outstanding voting shares of Berta Inc. On the date of acquistion, the fair value of Berta's equipment with a remaining useful life of five years and no residual value exceeded its carrying value by $20,000. During the year after the acquisition, the undervalued equipment will ______ Abbot's investment revenue by ______
decrease; (20,000*30%/5 years) = $1,200
Equity investment for which the investor does not have significant influence are classified as ____ in the balance sheet.
noncurrent assets; current assets
Adrianna Company purchases 35% of Saddle Company's outstanding stock for $450,000. At the time of acquisition, book value of the company's net assets is $1 mil and the fair value of the company's net assets is $1.2 mil. The difference between the book value and fair value of the net assets is attributed to undervalued land. Adrianna should
not amortize the difference between fair value and book value attributable to land
Goodwill arising from an investment accounted for under the equity method is
not amortized
If an investment accounted for under the equity method is acquired during the year, income and other adjustments are
recognized for the portion of the year the investment was owned
The carrying value of an equity method investment consists of its initial cost plus
the investor's equity in the investee's undistributed income
Beginning in 2018, equity adjustments that lack significant influence are accounted for the same way as debt investments classified as:
trading securities
Markus Company sells 1,000 bonds of its debt investment in Berta Inc for $20K. The original cost of the 1,000 bonds was $18K. During the prior year, the bonds were reported on the balance sheet at a fair value of $19K. Assume the investment was accounted for as available for sale and all unrealized holding gains and losses have been reversed. The JE to record the sale of the bonds should include these credits: (select all that apply)
Investments in AFS - $18K; Gain on sale of investment - $2K
How are available-for-sale debt securities reported? (Select all that apply)
Realized gains and losses are reported in net income in the period the investment is sold; unrealized gains and losses are reported as part of other comprehensive income when they occur
If Dinsburry Company concluded that an investment originally classified as a trading security would now more appropriately be classified as held-to-maturity, Dinsburry would:
Reclassify the investment as held-to-maturity and immediately recognize in net income all unrealized holding gains and losses that have not already been recognized as of the reclassification date.
Which of the following scenarios may require additional adjustments under the equity method?
The investor's acquisition cost exceeds the book value of the underlying net assets
The choice to classify debt securities as current or noncurrent depends on
When they are expected to be matured or be sold
When an equity method investment is sold
a gain or loss is recognized for the difference between its selling price and its cost.
When fair value of equity investments is not readily determinable (select all that apply) a. The fair value is estimated as cost, adjusted for previous impairments and changes in the prices of similar equity investments b. the investor needs to assess annually whether the investment is impaired c. the investor needs to continually evaluate whether fair value is readily determinable d. the investor recognizes increases and decreases in the fair value into other comprehensive income
a, b, c
consistent with the equity method, investment income is
based on investee's income times ownership percentage
All equity investments are initially recorded at
cost
Equity investments for which the investor does not have significant influence are classified as ____ in the balance sheet (select all that apply)
current assets; noncurrent assets
January 1, 2018, Smith Co. purchased common stock of North Company for $500,000. North Company has common stock outstanding of $10 million. Smith owns 5% of the outstanding stock of North. On December 31, 2018, North Company has $250,000 in net income and pays Smith Co. $5,000 in dividends. What should Smith Co. record on December 31, 2018? (Select all that apply.)
debit cash $5,000; credit dividend revenue $5,000
January 1, 2021, Smith Co. purchased common stock of North Company for $500,000. North Company has common stock outstanding of $10 million. Smith owns 5% of the outstanding stock of North. On December 31, 2021, the investment in North Company has a fair value of $505,000. On January 1, 2022, Smith sells the investment in North Company for $505,000. What journal entry is required to record the sale? (Select all that apply.)
debit cash $505,000; credit fair value adjustment f$5,000; credit investment in North stock $500,000
January 1, 2021, Smith Co. purchased common stock of North Company for $500,000. North Company has common stock outstanding of $10 million. How should Smith Co. record the purchase of this investment? (Select all that apply.)
debit investment in North Company $500,000; credit cash $500,000
Dividends earned on an equity investment, when there is a lack of significant influence, are credited to
dividend revenue
The appropriateness of the classification of debt investments must be reassessed
each reporting date
The fair value option can be applied to: (select all that apply)
financial liabilities, financial assets
Gains and losses relating to debt securities classified as trading are presented in the _______ ________ in the periods in which fair value changes, regardless of whether they are realized or unrealized.
income statement
Under the fair option, unrealized gains and losses on HTM and AFS debt securities are recognized in ______ _______ in the period they occur
net income
Accounting for held-to-maturity, trading, and available for sale debt securities differs with respect to
the year end fair value adjustment
Select all that apply: Identify critical events that companies experience with respect to equity investments that must be recognized in the accounting system: a. purchase of investments b. sale of investment c. changes in the riskiness of investment d. changes in fair value e. receiving dividends
a, b, d, e
From an accounting perspective, critical events that investors experience over the life of an investment include (select all that apply): a. changes in fair value b. changes in related cash flows c. receiving dividends d. sale of investment e. changes in effective interest rates
a,c,d
Porter Company classifed its debt investment in Baily Company as an available-for-sale security. Subsequently to the purchase, the fair value of the investment increased by $5K. The result of this increase in value will be
an increase in other comprehensive income
Andrea Company purchases 30% of Sander Company's outstanding stock for $420,000. Andrea should record this investment at
cost
Lerner owns 30% of the outstanding voting shares of Koerner Inc. On the date of the acquisition, the fair value of Koerner's equipment with a remaining useful life of ten years and no residual value exceeded its carrying value by $50,000. During the year after the acquisition, the undervalued equipment will ______ Lerner's investment revenue by ____
decrease; (30% x 50,000 / 10years)= $1,500