Investments in Debt and Equity Securities

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• Chapter 12
• Investments in Debt and Equity Securities

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Reasons for investing excess cash

• To earn a return
• Banks give a fixed return
• Investing in stocks or bonds of other companies
  may earn a higher rate of return (and demand a
  higher degree of risk)
• The ability to ensure a supply of raw materials
• To influence a board of directors
• To diversify their product offerings
• Less expensive than RD

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Two Classifications for Securities

• Debt Securities
• Financial instruments issued by a company that
  carry with them a promise of interest payments
  and the repayment of principal
• Equity Securities (Stock)
• Shares of ownership in a corporation that can
  change significantly in value and that provide
  for a return to investors in the form of dividends

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Classifying Securities
Debt securities purchased by an investor with the
intent of holding the securities until they
mature chapter 10 topic - review

• Equity securities ownership percentage
  substantial (20-50) for exercising significant
  influence over the operations of the investee
  use equity method which mimics consolidation
  (greater than 50 ownership - controlling
  investor - consolidation needed)

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Classifying Securities
Debt and equity (less than 20 ownership no
significant influence) securities purchased with
the intent of selling them should the need for
cash arise or to realize short-term gains

• Debt and equity (less than 20 ownership no
  significant influence) securities not classified
  as trading, held-to-maturity, or equity method
  securities
• Equity securities trading, available for sale,
  equity method securities
• Debt securities trading, available for sale,
  held to maturity

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Classifying Securities
Fair value Fair value Amortized cost Cost
adjusted for changes in net assets of investee
Income statement Stockholders equity Not
recognized Not recognized
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Purchase of Securities
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Accounting for Return Earned on an Investment
Buffalo Corp. earned the following return on
their owned securities. Record the journal entry.
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Accounting for the Sale of Securities
Buffalo Corp. sold Security 2 for 17,000. The
historical cost was 15,500. Record the entry.
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Realized and Unrealized Gains and Losses

• Realized gains and losses - Gains and losses
  resulting from the sale of securities in an
  arms-length transaction
• Report on the income statement
• Unrealized gains and losses - Gains and losses
  resulting from changes in the value of securities
  that are still being held
• Trading securities report on the income
  statement
• Available for sale securities report as part
  of comprehensive income stockholders equity

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Accounting for Changes in Value Trading
Securities
The following market values were recorded for
Buffalo Corp.s portfolio on December 31, 2003.
Record the changes in the values of the
securities.
Historical Cost
Market Value 12/31/03
Type
1 Trading 3,000 2,800 3 Available-for-sale
10,000 10,500 4 Available-for-sale 7,300 9,250
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Accounting for Changes in Value
Available-for-Sale
Historical Cost
Market Value 12/31/03
Type
1 Trading 3,000 2,800 3 Available-for-sale 10
,000 10,500 4 Available-for-sale 7,300 9,250
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Subsequent Changesin Value
The following market values were recorded for
Buffalo Corp.'s portfolio on December 31, 2004.
Record the subsequent change in the value of the
trading security
1 Trading 3,000 3,100 3 Available-for-sale 1
0,000 10,300 4 Available-for-sale 7,300 9,500
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Bonds PurchasedBetween Interest Dates
Assume the discount bond purchased by the Moose
Company paid interest on July 1 and January 1 of
each year. Assume present value calculations
yield a bond selling price of 463,199. If the
Moose Company purchased the bond on April 31,
2003, how will the purchase be recorded? Stated
rate - 10 face value - 500,000
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Sale of Bonds
The Rhinoceros Company holds a 10,000 bond (sold
at face value). Record the entry if the bond is
sold for 10,000? For 9,800?
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Illustrating the Equity Method
Brown Tree Co. purchased 100 shares of Koala
Corp. common shares at 2 per share, representing
a 20 percent ownership in the company. Record
Brown Trees transactions using both the
available-for-sale method and the equity method
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Illustrating the Equity Method
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Illustrating the Equity Method
Brown Tree Co. purchased 100 shares of Koala
Corp. common shares at 2 per share, representing
a 20 percent ownership in the company. Koala
Corp. announces a 10,000 earnings (net income)
for the year. Record the appropriate entries.