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Investements Accounting
Investements Accounting
Investements Accounting
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738
APPENDIX E
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Appendix E
Held-to-Maturity Securities
Since equity securities representing ownership interests have no maturity date, the
held-to-maturity classification applies only to debt securities. Debt securities should
be classified as held-to-maturity securities if the investor has a positive intent and the
ability to hold the securities until the maturity date. Held-to-maturity securities are
reported on the balance sheet at amortized historical cost.1
Trading Securities
Both debt and equity securities can be classified as trading securities. Trading securities
are bought and sold for the purpose of generating profits on the short-term appreciation
of stock or bond prices. They are usually traded within three months of when they are
acquired. Trading securities are reported on the investors balance sheet at their fair
value on the investors fiscal closing date.
Available-for-Sale Securities
All marketable securities that are not classified as held-to-maturity or trading securities
must be classified as available-for-sale securities. These securities are also reported on
the investors balance sheet at fair value as of the investors fiscal closing date.
Two of the three classifications, therefore, must be reported at fair value, which
is a clear exception to the historical cost concept. Other exceptions to the use of
historical cost measures for asset valuation are discussed in later sections of this
appendix.
Debt securities are frequently purchased for amounts that are more or less than their face value (the amount of
principal due at the maturity date). If the purchase price is above the face value, the difference between the face
value and the purchase price is called a premium. If the purchase price is below the face value, the difference is
called a discount. Premiums and discounts increase or decrease the amount of interest revenue earned and affect
the carrying value of the bond investment reported on the balance sheet. The presentation in this section of the
text makes the simplifying assumption that the bonds are purchased at a price equal to their face value.
Accounting for discounts and premiums is discussed in Chapter 10.
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Appendix E
Event
No.
Type
Assets
Cash
Inv. Sec.
Liab.
Equity
Rev.
Exp.
Net Inc.
Cash Flow
Held
(9,000)
9,000
NA
NA
NA
NA
NA
(9,000)
IA
Trading
(9,000)
9,000
NA
NA
NA
NA
NA
(9,000)
OA
Available
(9,000)
9,000
NA
NA
NA
NA
NA
(9,000)
IA
Event
No.
Assets
Cash
1,600
Liab.
Equity
Rev.
Exp.
Net Inc.
Cash Flow
1,600
NA
1,600
1,600 OA
Ret. Earn.
NA
1,600
Event
No.
Type
Assets
Cash
Inv. Sec.
Liab.
Equity
Rev. or
Gain
Exp. or
Loss
Net Inc.
Cash Flow
Held
2,600
(2,000)
NA
600
600
NA
600
2,600
IA
Trading
2,600
(2,000)
NA
600
600
NA
600
2,600
OA
Available
2,600
(2,000)
NA
600
600
NA
600
2,600
IA
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Appendix E
741
Event
No.
Type
Assets
Inv. Sec.
Liab.
Equity
1
Ret. Earn.
Unreal. Gain
Rev. or
Gain
Exp. or
Loss
Cash Flow
Held
NA
NA
NA
NA
NA
NA
NA
NA
Trading
700
NA
700
NA
700
NA
700
NA
Available
700
NA
NA
700
NA
NA
NA
NA
FINANCIAL STATEMENTS
As the preceding discussion implies, the financial statements of Arapaho Company are
affected by not only the business events relating to its security transactions but also the
accounting treatment used to report those events. In other words, the same economic
events are reflected differently in the financial statements depending on whether the
Net Inc.
Statement of Financial Accounting Standards No. 130 permits companies to report unrealized gains and losses on
available-for-sale securities as additions to or subtractions from net income with the result being titled comprehensive
income. Alternatively, the unrealized gains and losses can be reported on a separate statement or as part of the
statement of changes in stockholders equity.
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Appendix E
EXHIBIT E.1
ARAPAHO COMPANY
Comparative Financial Statements
Income Statements
Investment Securities Classified as
Investment revenue
Realized gain
Unrealized gain
Net income
Held
Trading
Available
$ 1,600
600
$ 1,600
600
$ 2,200
$ 1,600
600
700
$ 2,900
Held
Trading
Available
$ 5,200
7,000
$ 5,200
$ 5,200
$12,200
7,700
$12,900
7,700
$12,900
$10,000
2,200
$10,000
2,900
$12,200
$12,900
$10,000
2,200
700
$12,900
Held
Trading
Available
$ 1,600
$ 1,600
(9,000)
2,600
$ 1,600
$ 2,200
Balance Sheets
Assets
Cash
Investment securities, at cost (market value $7,700)
Investment securities, at market (cost $7,000)
Total assets
Stockholders equity
Common stock
Retained earnings
Unrealized gain on investment securities
Total stockholders equity
Operating Activities
Cash inflow from investment revenue
Outflow to purchase securities
Inflow from sale of securities
Investing Activities
Outflow to purchase securities
Inflow from sale of securities
Financing Activities*
Net decrease in cash
Beginning cash balance
Ending cash balance
(9,000)
2,600
0
(4,800)
10,000
$ 5,200
0
(4,800)
10,000
$ 5,200
(9,000)
2,600
0
(4,800)
10,000
$ 5,200
*The $10,000 capital acquisition is assumed to have occurred prior to the start of the accounting period.
securities are classified as held to maturity, trading, or available for sale. Exhibit E.1
displays the financial statements for Arapaho under each investment classification
alternative.
The net income reported under the trading securities alternative is $700 higher than
that reported under the held-to-maturity and available-for-sale alternatives because
unrealized gains and losses on trading securities are recognized on the income statement.
Similarly, total assets and total stockholders equity are $700 higher under the trading
and available-for-sale alternatives than they are under the held-to-maturity category
because the $700 unrealized gain is recognized on the balance sheet for those two
classifications. The gain is not reported on the income statement for available-for-sale
securities; it is reported on the balance sheet in a special equity account called Unrealized
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Appendix E
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EXHIBIT E.2
Investment
Category
Types of
Securities
Types of Revenue
Recognized
Reported on
Balance Sheet at
Recognition of
Unrealized Gains
and Losses on the
Income Statement
Held to maturity
Trading
Available for sale
Debt
Debt and equity
Debt and equity
Interest
Interest and dividends
Interest and dividends
Amortized cost
Market value
Market value
No
Yes
No
Gain on Investment Securities. The statements of cash flows report purchases and sales
of trading securities as operating activities while purchases and sales of available-for-sale
and held-to-maturity securities are investing activities. Exhibit E.2 summarizes the reporting differences among the three classifications of investment securities.
EXERCISES
Exercise E1 Identifying asset values for financial statements
Required
Indicate whether each of the following assets should be valued at fair market value (FMV), lower
of cost or market (LCM), or historical cost (HC) on the balance sheet. For certain assets,
historical cost may be called amortized cost (AC.)
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Appendix E
Asset
FMV
LCM
HC/AC
Supplies
Land
Trading securities
Cash
Held-to-maturity securities
Buildings
Available-for-sale securities
Ofce equipment
Inventory
Required
a. Record a 1, 2, or NA in a horizontal statements model to show how the purchase of the
securities affects the financial statements, assuming that the securities are classified as (1) held
to maturity, (2) trading, or (3) available for sale. In the Cash Flow column, indicate whether
the event is an operating activity (OA), investing activity (IA), or financing activity (FA).
Record only the effects of the purchase event.
Event
No.
Type
Held
Trading
Available
Cash
Inv. Sec.
Liab.
Equity
Rev.
Exp.
Net Inc.
Cash Flow
b. Determine the amount of net income that would be reported on the 2009 income statement,
assuming that the marketable securities are classified as (1) held to maturity, (2) trading, or
(3) available for sale.
Required
a. Record the four events in a statements model like the following one. Use a separate model for
each classification: (1) held to maturity, (2) trading, and (3) available for sale. The first event
for the first classification is shown as an example.
Held to Maturity
Event
No.
Cash
(100,000)
1 Inv. Sec.
Liab.
Ret. Earn.
Unreal.
Gain.
Rev. or
Gains
Exp. or
Loss
Net Inc.
Cash Flow
100,000
NA
NA
NA
NA
NA
NA
(100,000) IA
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Appendix E
745
b. What is the amount of net income under each of the three classifications?
c. What is the change in cash from operating activities under each of the three classifications?
d. Are the answers to Requirements b and c different for each of the classifications? Why or
why not?
1.
2.
3.
4.
5.
Required
Use a vertical statements model to prepare income statements, balance sheets, and statements
of cash flow for Wright, Inc., assuming the securities were (a) held to maturity, (b) trading, and
(c) available for sale.
Investment
Category
Types of
Securities
Types of Revenue
Recognized
Value Reported on
Balance Sheet
Recognition of
Unrealized Gains
and Losses on the
Income Statement
Held to maturity
Trading
Available for sale
Debt
Interest
Amortized cost
No
Started business by acquiring $30,000 cash from the issue of common stock.
Provided $90,000 of services for cash.
Invested $35,000 in marketable investment securities.
Paid $18,000 of operating expense.
Received $500 of investment income from the securities.
Invested an additional $16,000 in marketable investment securities.
Paid a $2,000 cash dividend to the stockholders.
Sold investment securities that cost $8,000 for $14,000.
Received another $1,000 in investment income.
Determined the market value of the investment securities at the end of the year was $42,000.
Required
Use a vertical model to prepare a 2009 income statement, balance sheet, and statement of cash
flows, assuming that the marketable investment securities were classified as (a) held to maturity,
(b) trading, and (c) available for sale. (Hint: Record the events in T-accounts prior to preparing the
financial statements.)
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Appendix E
Required
a. Show the effect of each event on the elements of the financial statements using a horizontal
statements model like the following one. Use 1 for increase, 2 for decrease, and NA for not
affected. In the Cash Flow column, indicate whether the item is an operating activity (OA),
investing activity (IA), or financing activity (FA). The first transaction is entered as an
example.
Event
No.
Assets
Liab.
NA
Equity
Rev. or
Gain
NA
Exp. or
Loss
NA
Net Inc.
NA
Cash Flow
1
FA
b. Explain why there is or is not a difference in the way Events 8 and 9 affect the financial statements
model.