1. Prepared by: Keri Norrie, Camosun College
ACCOUNTING PRINCIPLES
Third Canadian Edition
Prepared by: Keri Norrie, Camosun College

2. CHAPTER 16
INVESTMENTS

3. TYPES OF INVESTMENTS Debt securities Equity securities
money-market instruments
bonds
Equity securities
preferred shares
common shares

4. WHY CORPORATIONS INVEST
Invest excess cash
Generate investment income
Strategically purchase shares of another company

5. TEMPORARY AND LONG-TERM INVESTMENTS
Temporary investments
(1) Readily marketable
Readily marketable means the investment can be sold easily, whenever the need for cash arises.
(2) Intended to be converted into cash in the near future
Intention to convert means that management intends to sell the investment if and when the need for cash arises.
Long-term investments
Investments that do not meet both criteria

6. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Money Market Instruments
Assume that Cheung Corporation has excess cash on hand and so, on November 30, 2005, it purchases a $5,000 three-month term deposit that pays an annual interest rate of 2%.
The journal entry to record Cheung’s temporary investment is as follows:
Date
Account Titles and Explanation
Debit
Credit
Nov. 30
Temporary Debt Investment—Term Deposit
5,000
Cash
To record purchase of three-month, 2% term deposit.

7. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Money Market Instruments
Cheung Corporation’s year end is December 31. Assuming that the term deposit pays interest at maturity, it is necessary to accrue interest revenue at year end.
$5,000 x 2% x 1/12 months (rounded)
Date
Account Titles and Explanation
Debit
Credit
Dec. 31
Interest Receivable 8
Interest Revenue
To accrue interest on term deposit.

8. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Money Market Instruments
On February 28, 2006, when the term deposit matures, Cheung records the interest revenue earned since year end as well as the receipt of cash and elimination of the term deposit.
Date
Account Titles and Explanation
Debit
Credit
Feb. 28
Cash
5,025
Interest Receivable 8
Interest Revenue ($5,000 x 2% x 2/12) 17
Temporary Debt Investment—Term Deposit
5,000
To record maturation of term deposit.

9. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Bonds
Kuhl Corporation acquires 50 Doan Inc. 8%, 10-year, $1,000 bonds on January 1, 2005, for $51,000, including brokerage fees of $1,000. The bonds pay interest semi-annually on July 1 and January 1. The entry to record the temporary investment at cost is:
Cost includes all expenses to acquire the investment.
Date
Account Titles and Explanation
Debit
Credit
Jan. 1
Temporary Debt Investment—Doan Bonds
51,000
Cash
To record purchase of 50 Doan Bonds.

10. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Bonds
The bonds pay interest semi-annually on July 1 and January 1. Interest receipts are calculated using the bond’s face or principal value.
The entry on July 1 is:
$50,000 x 8% x 6/12
Date
Account Titles and Explanation
Debit
Credit
July 1
Cash
2,000
Interest Revenue
To record receipt of interest on Doan Bonds.

11. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Bonds
If Kuhl’s fiscal year ends on December 31, it is necessary to accrue interest of $2,000 earned since July 1.
Date
Account Titles and Explanation
Debit
Credit
Dec. 31
Interest Receivable
2,000
Interest Revenue
To accrue interest on Doan Bonds.

12. ACCOUNTING FOR DEBT INVESTMENTS Temporary Debt Investments
Bonds
Assume Kuhl sells the bond for $55,000 net proceeds (sales price less brokerage fees) on January 1, 2006 after receiving (and recording) the interest due.
Net proceeds – the cost of the bond investment = gain (or loss) on sale.
Date
Account Titles and Explanation
Debit
Credit
Jan. 1
Cash
55,000
Temporary Debt Investment—Doan Bonds
51,000
Gain on Sale of Investment in Doan Bonds
4,000
To record sale of Doan Inc. bonds.

13. ACCOUNTING FOR DEBT INVESTMENTS LONG-TERM DEBT INVESTMENTS
(ILLUSTRATION 16-2)
Accounting for long-term and temporary debt investments is similar except for bonds purchased with a premium or discount. To illustrate, assume Khadr Inc. has bought ABC Corporation bonds with a face value of $100,000 at a price of 101.
Temporary Investment
Long-Term Investment
Temporary Debt Investment
-ABC Bonds ,000
Cash ,000
To record purchase of ABC bonds as a temporary investment.
Long-Term Debt Investment
-ABC Bonds ,000
Premium on Bonds ,000
Cash ,000
To record purchase of ABC bonds as a long-term investment.
A premium (or discount) is recorded as part of the investment cost.
A premium (or discount) is separately recorded and is amortized to interest revenue over the bond’s term.

14. ACCOUNTING FOR DEBT INVESTMENTS LONG-TERM BOND INVESTMENTS
(ILLUSTRATION 16-3)
Recording a long-term investment in bonds (asset) is basically the opposite of recording long-term bonds payable (liability) discussed in chapter 15. Using the previous Khadr example, the journal entry for Khadr Inc. and ABC Corporation to record the bond is:
Khadr Inc. (Investor)
ABC Corporation (Investee)
Long-Term Debt Investment
-ABC Bonds ,000
Premium on Bonds ,000
Cash ,000
To record purchase of ABC bonds as a long-term investment.
Cash ,000
Premium on Bonds ,000
Bonds Payable ,000
To record issue of bonds.
The premium is recorded as a debit for the investor, Khadr Inc., and a credit for the investee, ABC Corporation.

15. ACCOUNTING FOR EQUITY INVESTMENTS
Investments in the preferred or common shares of another corporation may be held:
To earn dividend income
For share price appreciation
To influence relationships between companies

16. ACCOUNTING FOR EQUITY INVESTMENTS
The accounting for equity investments is based on how much influence the investor has over the operating and financial affairs of the investee. The following guideline is followed:
Less than 20% ownership of the investee’s common shares
Cost method of accounting
No significant influence
20% or more ownership of the investee’s common shares
Equity method of accounting
Significant influence

17. ACCOUNTING FOR EQUITY INVESTMENTS NO SIGNIFICANT INFLUENCE
On July 1, 2005, St. Amand Corporation acquires 1,000 shares (10 % ownership) of Beal Corporation at $40 per share plus brokerage fees of $500. The entry for the purchase is:
All temporary equity investments would also use the cost method.
Under the cost method, the investment is recorded at cost, which includes all expenses to acquire it.
Date
Account Titles and Explanation
Debit
Credit
July 1
Long-Term Equity Investment—Beal Common
Shares
40,500
Cash [(1,000 x $40) + $500]
To record purchase of 1,000 common shares of Beal Corporation.

18. ACCOUNTING FOR EQUITY INVESTMENTS NO SIGNIFICANT INFLUENCE
Under the cost method, revenue is recognized only when cash dividends are received. If a $2 per share dividend is received by St. Amand Corporation on December 1, 2005, the entry is:
Date
Account Titles and Explanation
Debit
Credit
Dec. 1
Cash (1,000 x $2)
2,000
Dividend Revenue
To record receipt of cash dividend.
Unlike interest, dividends do not accrue before they are declared.

19. ACCOUNTING FOR EQUITY INVESTMENTS NO SIGNIFICANT INFLUENCE
When sold, the difference between the net proceeds and cost is recognized as a gain or loss.
Assume Armand sells its Beal common shares for $39,500 net proceeds (sales price less brokerage fees) on October 10, 2006.
Date
Account Titles and Explanation
Debit
Credit
Oct. 10
Cash
39,500
Loss on Sale of Equity Investment
1,000
Long-Term Equity Investment—Beal Common Shares
40,500
To record sale of Beal common shares.

20. ACCOUNTING FOR EQUITY INVESTMENTS SIGNIFICANT INFLUENCE
Similar to the cost method, the acquisition of the share investment is recorded at cost for the equity method.
Assume Milar Corporation acquires 30 percent of the common shares of Beck Company for $120,000 on January 1, The entry to record this transaction is:
Date
Account Titles and Explanation
Debit
Credit
Jan. 1
Long-Term Equity Investment—Beck Common Shares
120,000
Cash
To record purchase of Beck common shares.

21. ACCOUNTING FOR EQUITY INVESTMENTS SIGNIFICANT INFLUENCE
With significant influence over the financial and operating activities of the investee, the investor records its share of the net income of the investee in the same year that it is earned. Assuming that Beck reports net income of $100,000 for 2005, Milar would record:
Net income increases Beck’s shareholders’ equity by $100,000. With the equity method, Milar increases its investment in Beck’s equity by its 30% portion.
Date
Account Titles and Explanation
Debit
Credit
Dec. 31
Long-Term Equity Investment—Beck Common Shares (30% x 100,000)
30,000
Revenue from Investment in Beck
To record 30% equity in Beck’s common shares.

22. ACCOUNTING FOR EQUITY INVESTMENTS SIGNIFICANT INFLUENCE
Dividends reduce the shareholders’ equity (retained earnings) of the investee and under the equity method, reduces the investor’s investment in that equity. Assuming that Beck declares and pays a $40,000 cash dividend for 2005, Milar would record:
Date
Account Titles and Explanation
Debit
Credit
Dec. 31
Cash ($40,000 x 30%)
12,000
Long-Term Equity Investment—Beck Common Shares
To record dividends received.
In 2005, Milar’s investment has increased from $120,000 to $138,000. This $18,000 increase is Milar’s 30% equity in the $60,000 increase in Beck’s retained earnings ($100,000 net income – $40,000 dividends).

23. ACCOUNTING FOR EQUITY INVESTMENTS CONSOLIDATED FINANCIAL STATEMENTS
If an investor (also called the parent company) has voting control (usually owns more than 50% of the common shares) of the investee (also called the subsidiary), the investor must prepare consolidated financial statements.
Consolidated statements present the total assets and liabilities controlled by the parent company.
Parent’s financial
statements
Subsidiary’s financial
statements
Consolidated financial
statements +

24. VALUATION AND REPORTING OF INVESTMENTS
For temporary investments, the investments must be reported at the lower of cost or market based on the conservatism principle. The entry would be:
Date
Account Titles
Debit
Credit
xxx
Loss on Decline in Value of Investment
Allowance to Reduce Cost to Market Value
A contra asset account is used to record the decrease in the asset’s value.
For long-term investments, the investments are only reduced for permanent declines in value.

25. COMPREHENSIVE BALANCE SHEET
(ILLUSTRATION 16-8)

26. COMPREHENSIVE BALANCE SHEET
(ILLUSTRATION 16-8)

27. CHANGING STANDARDS
Effective 2005, Canadian accounting standards are expected to change to require the use of market values for some investments to harmonize with international standards.
The revaluation of investments to market value will result in unrealized gains and losses.
In addition, the new proposed standards will classify investments into three broad categories:
- Trading securities
- Available-for-sale securities
- Held-to-maturity securities

28. COPYRIGHT
Copyright © 2004 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (The Canadian Copyright Licensing Agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained herein.