Intermediate Accounting教科书上习题答案12（by J. David Spiceland）.doc

Chapter 12 Investments 12 1 Chapter 12 Investments QUESTIONS FOR REVIEW OF KEY TOPICS Question 12 1 Investment securities are classified as held to maturity trading or available for sale securities Question 12 2 Increases and decreases in the market value between the time a debt security is acquired and the day it matures to a prearranged maturity value are ignored for a security classified as held to maturity These changes aren t important if sale before maturity isn t an alternative which is the case if an investor has the positive intent and ability to hold the security to maturity Question 12 3 GAAP distinguishes between three levels of inputs to fair value determination with level 1 being readily observable fair values for example from a securities exchange level 2 inputs are other observable amounts for example quoted values for similar items or important inputs like interest rates and level 3 inputs are unobservable like the company s own assumptions GAAP requires disclosure of the amount of fair values based on each of these three classes of inputs Question 12 4 For investments to be held for an unspecified period of time fair value information is more relevant than for investments to be held to maturity Changes in fair values are less relevant if the investment is to be held to maturity because sale at that fair value is not an option The investor receives the same contracted interest payments for the period held to maturity and the stated principal at maturity regardless of movements in market values However when the investment is of unspecified length changes in fair values indicate management s success in deciding when to acquire the investment and when to sell it as well as the propriety of investing in fixed rate or variable rate securities and long term or short term securities Question 12 5 The way unrealized holding gains and losses are reported in the financial statements depends on whether the investments are classified as securities available for sale or as trading securities Securities available for sale are reported at fair value and resulting holding gains and losses are not included in the determination of income for the period Rather they are reported as a separate component of shareholders equity as part of other comprehensive income OCI Available for sale securities for which the investor has chosen the fair value option are reclassified as trading securities Chapter 12 Investments 12 2 Answers to Questions continued Question 12 6 Comprehensive income is a more expansive view of the change in shareholders equity than traditional net income It encompasses all changes in equity from non owner transactions The non income part of comprehensive income is called Other comprehensive income Other comprehensive income includes net unrealized holding gains losses on AFS investments and also the non credit loss component of other than temporary impairments of HTM investments Question 12 7 Unrealized holding gains or losses on trading securities are reported in the income statement as if they actually had been realized Trading securities are actively managed in a trading account with the express intent of profiting from short term market price changes So any gains and losses that result from holding securities during market price changes are suitable measures of success or lack of success in achieving that goal On the other hand unrealized holding gains or losses on securities available for sale are not reported in the income statement By definition these securities are not acquired for the purpose of profiting from short term market price changes so gains and losses from holding these securities while prices change are less relevant performance measures to be included in earnings Question 12 8 When acquired debt and equity securities are assigned to one of the three reporting classifications held to maturity trading or available for sale The appropriateness of the classification is reassessed at each reporting date A reclassification should be accounted for as though the security had been sold and immediately reacquired at its fair value Any unrealized holding gain or loss should be accounted for in a manner consistent with the classification into which the security is being transferred Specifically when a security is transferred 1 Into the trading category any unrealized holding gain or loss should be recognized in earnings of the reclassification period 2 Into the available for sale category any unrealized holding gain or loss should be recorded in Other Comprehensive Income which will then increase Accumulated Other Comprehensive Income in shareholders equity 3 Into the held to maturity category any unrealized holding gain or loss should be amortized over the remaining time to maturity This would be the case for Western Die Casting s investment in the LGB Heating Equipment bonds Chapter 12 Investments 12 3 Answers to Questions continued Question 12 9 Yes Although a company is not required to report individual amounts for the three categories of investments held to maturity available for sale or trading on the face of the balance sheet that information should be presented in the disclosure notes The following also should be disclosed for each year presented aggregate fair value gross realized and unrealized holding gains gross realized and unrealized holding losses the change in net unrealized holding gains and losses and amortized cost basis by major security type Information about the level of the fair value hierarchy upon which fair values are based should be provided and more disclosure is necessary with respect to amounts based on level 3 of the fair value hierarchy In addition information about maturities should be reported for debt securities by disclosing the fair value and cost for at least 4 maturity groupings a within 1 year b after 1 year through 5 years c after 5 years through 10 years and d after 10 years Question 12 10 According to U S GAAP the fair value of an equity security is considered readily determinable only if its selling price is currently available on particular securities exchanges or over the counter markets If the fair value of an equity security is not readily determinable U S GAAP uses the cost method Under IFRS equity investments typically are measured at fair value even if they are not listed on an exchange or over the counter market Under IAS No 39 the cost method only is used if fair value cannot be measured reliably which occurs when the range of reasonable fair value estimates is significant and the probability of various estimates within the range cannot be reasonably estimated Under IFRS No 9 the cost method is prohibited although cost can sometimes be used as an estimate of fair value Therefore in general use of the cost method is less prevalent under IFRS than under U S GAAP Question 12 11 When a company elects the fair value option for held to maturity or available for sale investments it simply reclassifies those investments as trading securities and accounts for them in that fashion Question 12 12 U S GAAP allows companies complete discretion in electing the fair value option when an investment is made The only constraint is that the election is irrevocable IFRS only allows companies to elect the fair value option in specific circumstances e g when electing the fair value option for an asset or liability allows a company to avoid the accounting mismatch that occurs when some parts of a fair value risk hedging arrangement are accounted for at fair value and others are not Chapter 12 Investments 12 4 Answers to Questions continued Question 12 13 The equity method is used when an investor can t control but can significantly influence the investee For example if effective control is absent the investor still might be able to exercise significant influence over the operating and financial policies of the investee if the investor owns a large percentage of the outstanding shares relative to other shareholders By voting those shares as a block the investor often can sway decisions in the direction desired We presume in the absence of evidence to the contrary that the investor exercises significant influence over the investee when it owns between 20 and 50 of the investee s voting shares Question 12 14 The equity method like consolidation views the investor and investee as a special type of single entity By the equity method though the investor doesn t include separate financial statement items of the investee on an item by item basis as in consolidation Rather by the equity method the investor reports its equity interest in the investee as a single investment account That single investment account is periodically adjusted to reflect the effects of consolidation without actually consolidating financial statements Question 12 15 The investor should account for dividends from the investee as a reduction in the investment account Since investment revenue is recognized as the investee earns it it would be inappropriate to again recognize revenue when earnings are distributed as dividends Rather the dividend distribution is considered to be a reduction of the investee s net assets indicating that the investor s ownership interest in those net assets declines proportionately Question 12 16 The equity method attempts to approximate the effects of accounting for the purchase of the investee as a consolidation Consolidated financial statements report acquired net assets at their fair values as of the date the investor acquired the investee The accounting in the consolidated financial statements subsequent to the acquisition date is based on those fair values So if Finest had consolidated its acquisition of Penner Penner s depreciable assets would have been put on Finest s balance sheet in their respective asset accounts at their fair value on the date of acquisition and then depreciated over 10 years Under the equity method Finest s investment in Penner is shown in a single investment account Therefore for the equity method to approximate consolidation it would reduce both investment revenue as if depreciation expense were being recognized and the investment as if the book value of the asset were being reduced by the negative income effect of the extra depreciation the higher fair value would cause This would equal 40 x 12 million 10 years 480 000 each year for ten years Chapter 12 Investments 12 5 Answers to Questions continued Question 12 17 The investment account was decreased by 40 000 40 x 100 000 Cash increased by the same amount There is no effect on the income statement Question 12 18 When it becomes necessary to change from the equity method to another method no adjustment is made to the carrying amount of the investment The equity method is simply discontinued and the new method is applied from then on The investment account balance when the equity method is discontinued would serve as the new cost basis for writing the investment up or down to fair value in the next set of financial statements Question 12 19 IFRS require that accounting policies of investees be adjusted to correspond to those of the investor when applying the equity method U S GAAP has no such requirement Also IFRS allow investors to account for a joint venture using either the equity method or proportionate consolidation whereby the investor combines its proportionate share of the investee s accounts with its own accounts on an item by item basis U S GAAP generally requires that the equity method be used to account for joint ventures Question 12 20 When a company elects the fair value option for a significant influence investment that investment is not reclassified as a trading security Rather the investment still appears in the balance sheet as a significant influence investment but the amount that is accounted for at fair value is indicated in the balance sheet either parenthetically on a single line that includes the total amount of significant influence investment or on a separate line As with trading securities unrealized gains and losses are included in earnings in the period in which they occur Question 12 21 A financial instrument is a cash b evidence of an ownership interest in an entity c a contract that 1 imposes on one entity an obligation to deliver cash or another financial instrument and 2 conveys to a second entity a right to receive cash or another financial instrument or d a contract that 1 imposes on one entity an obligation to exchange financial instruments on potentially unfavorable terms and 2 conveys to a second entity a right to exchange other financial instruments on potentially favorable terms Accounts payable bank loans and investments in securities are examples Question 12 22 These instruments derive their values or contractually required cash flows from some other security or index Chapter 12 Investments 12 6 Answers to Questions continued Question 12 23 Since this money won t be used within the upcoming operating cycle it is a noncurrent asset It should be reported as part of Investments Question 12 24 Part of each premium payment the company makes is not used by the insurance company to pay for life insurance coverage but rather is invested on behalf of the insured company in a fixed income investment As a result the periodic insurance premium should not be expensed in its entirety an appropriate portion should be recorded instead as a noncurrent asset cash surrender value Question 12 25 If the investor intends to sell the investment or thinks it will be more likely than not that it will be required to sell the investment prior to recovering the impairment the investor is required to recognize the entire impairment loss in the income statement as an OTT impairment writing down the investment to fair value in the balance sheet Otherwise the investor considers whether credit losses exist If there are no credit losses no impairment loss is recognized On the other hand if there are some credit losses then the investment is written down to fair value in the balance sheet However only the credit loss component is recognized in net income Any non credit losses are recognized in OCI In the income statement the entire impairment loss is shown and then the amount of non credit loss is subtracted leaving only the credit loss reducing net income Question 12 26 If the OTT impairment relates to an equity investment the entire amount of impairment is recognized in net income Any previously recorded unrealized losses are reclassified out of AOCI If the OTT impairment relates to a debt investment the accounting is more complicated First if the investor intends to sell the investment or thinks it will be more likely than not that it will be required to sell the investment prior to recovering the impairment it is required to recognize the entire impairment loss in the income statement as an OTT impairment writing down the investment to fair value in the balance sheet Otherwise the investor considers whether credit losses exist If there are no credit losses no impairment loss is recognized On the other hand if there are some credit losses then the investment is written down to fair value in the balance sheet However only the credit loss component is recognized in net income Any non credit losses are recognized in OCI In the income statement the entire impairment loss is shown and then the amount of non credit loss is subtracted leaving only the credit loss reducing net income Chapter 12 Investments 12 7 Answers to Questions concluded Question 12 27 Given that the decline in shares relates to a new law banning a primary approach used by the company it likely would be treated as an other than temporary impairment So when the investment is written down to its fair value the amount of the write down should be treated as if it were a realized loss meaning the loss is included in income for the period This could require a reclassification adjustment if any unrealized losses were included previously in OCI just as if the investment was being sold Subsequent to the other than temporary write down the usual treatment of unrealized gains or losses should be resumed Therefore later changes in fair value will be reported as a separate component of shareholders equity accumulated other comprehensive income Question 12 28 U S GAAP and IFRS differ somewhat Under IFRS OTT impairments only are recognized on debt that is classified as HTM to the extent that credit losses exist so there is no non credit loss component of OTT impairments under IFRS OTT impairments are recognized on debt classified as AFS in their entirety with no distinction made between credit losses and non credit losses Also under IFRS OTT impairments can be recovered in earnings for debt investments but not for equity investments Chapter 12 Investments 12 8 BRIEF EXERCISES Brief Exercise 12 1 a Investment in bonds face amount 720 000 Discount on bond investment difference 120 000 Cash price of bonds 600 000 b Cash 1 5 x 720 000 10 800 Discount on bond investment difference 1 200 Interest revenue 2 x 600 000 12 000 Brief Exercise 12 2 Unlike for securities available for sale unrealized holding gains and losses for trading securities are included in earnings S Oct 15 3 Gain on sale of investments from Oct 16 1 Other comprehensive income Net unrealized holding gains and losses on investments 2 Assuming Construction Forms chooses to report Other comprehensive income as an additional section of the income statement Alternatively it can report this a as part of the statement of shareholders equity or b as a separate statement in a disclosure note Note Unlike for trading securities unrealized holding gains and losses are not included in income for securities available for sale Rather they are included in other comprehensive income and accumulated in shareholders equity in accumulated other comprehensive income Chapter 12 Investments 12 30 Exercise 12 8 Requirement 1 Purchase