Tools for Business Decision-Making Fourth Canadian Edition Financial Accounting: Prepared by: Peggy Coady Memorial University of Newfoundland & Catherine Seguin University of Toronto

Reporting and Analyzing Investments Chapter 12

Investments Investments include: –Debt securities (certificates of deposit, treasury bills, commercial paper, government and corporate bonds) –Equity securities (preferred and common shares) Chapter 12 3

Classifying Investments Can be passive investments (to generate investment income) or strategic investments (to influence/control operations of another company) Chapter 12 4

Passive Investments Passive investments can be debt or equity securities –Held-for-trading (debt or equity) –Available-for-sale (debt or equity) –Held-to-maturity (debt) Chapter 12 5

Held-For-Trading Securities Held-for-trading securities are debt or equity securities Typically, they are actively traded with the objective of making a profit from changes in short-term market values Classified as short-term Chapter 12 6

Available-for-Sale Securities Available-for-sale securities are debt or equity securities that are held with the intention of selling them sometime in the future Classified as short- or long-term Chapter 12 7

8 Held-To-Maturity Securities Held-to-maturity securities are debt securities that the investor has the intention and ability to hold until maturity Classified as long-term (except within one year of maturity)

Accounting for Passive Investments Recorded at purchase cost at acquisition After acquisition –Held-for-trading and available-for- sale securities are valued at fair value –Held-to-maturity securities are valued at (amortized) cost Chapter 12 9

Fair Value ─HFT and AFS When investments are valued at their fair value, any increase or decrease in their market price changes the asset value Difference between fair value and cost (or carrying amount) while an investment is held is called an unrealized gain or loss Chapter 12 10

Fair Value ─HFT and AFS Held-for-trading –Unrealized gain or loss reported as other revenue/expense on statement of earnings Available-for-sale –Unrealized gain or loss reported as Other Comprehensive Income (OCI) on statement of comprehensive income Chapter 12 11

Cost─HTM Valued at amortized cost Fair value exception for impairment loss –If fair value falls below cost and the decline is considered permanent, then the held-to- maturity security is adjusted to its fair value Chapter 12 12

Summary of Passive Investments Chapter Illustration 12-5

Accounting for Passive Investments Sale of investment –Compare proceeds to cost when sold and record realized gain or loss –Reversal of OCI for available-for- sale securities required Chapter 12 14

Discussion Question What is the difference between unrealized gains and losses and realized gains and losses? Chapter 12 15

Accounting for Strategic Investments Only equity securities can be strategic investments Accounting for investments in common shares is based on the extent of the investor's degree of influence over the issuing corporation (the investee) Chapter 12 16

Accounting for Strategic Investments Chapter Illustration 12-6

Cost Method (Less than 20%) Record investment at the cost paid to acquire the investment Recognize revenue when cash dividends are declared Chapter 12 18

Cost Method Chapter Illustration 12-8

Equity Method (More than 20%) Investment in common shares is initially recorded at cost Investment account adjusted annually to show the investor’s equity in the investee Investor has significant influence over investee Chapter 12 20

Equity Method Chapter Illustration 12-8

Discussion Question When are equity investments written down? Chapter 12 22

Reporting Investments Chapter Illustration 12-13

Consolidated Financial Statements When a company owns more than 50% or controls the common shares of another company a consolidated set of financial statements must be prepared Informs creditors, investors, and others of the magnitude and scope of operations of companies under common control Chapter 12 24

Chapter Consolidated Financial Statements Present assets and liabilities controlled by parent and the aggregate profitability of subsidiary companies Prepared in addition to financial statements for individual parent and subsidiary companies

Appendix 12A Investment in Bonds The recording of bonds as an investment is similar to recording a bond liability Investor (purchaser of bonds) Investee (issuer of bonds) Chapter 12 26

Appendix 12A Investment in Bonds In accounting for bond investments, entries are required to record: –Acquisition (at purchase cost net premium/discount) –Investment revenue –Sale Chapter 12 27

Comparing Bond Investments and Liabilities Chapter Illustration 12A-1

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