Accounting for bonds under different classifications

Problem 12-1Requirement 1
Investment in bonds (face amount)........................

Discount on bond investment (difference).........
Cash (price of bonds)..........................................
($ in millions)
80
14
66
Requirement 2
Cash (4% x $80 million)..........................................
Discount on bond investment (difference)............
Interest revenue (5% x $66)....................................
3.20
.10
Requirement 3
Cash (4% x $80 million)..........................................
Interest revenue (5% x [$66 + 0.1])........................
3.20
.11
3.30
3.31
Requirement 4
Fuzzy Monkey reports its investment in the December 31, 2011, balance
sheet at its amortized cost that is, its book value:
Investment in bonds............................................................
Less: Discount on bond investment ($14 .1 .11 million)
Amortized cost................................................................
$80.00
13.79
$66.21
Increases and decreases in the fair value between the time a debt security is
acquired and the day it matures to a prearranged maturity value are relatively
unimportant if sale before maturity isnt an alternative. For this reason, if an
investor has the positive intent and ability to hold the securities to
maturity, investments in debt securities are classified as held-to-maturity
and reported at amortized cost rather than fair value in the balance sheet.
Problem 12-1 (concluded)

Requirement 5
Fuzzy Monkeys 2011 statement of cash flows would be affected as
follows:
Operating cash flows: Cash inflow from interest of $3.2 +
$3.2 = $6.4. (Note: if Fuzzy Monkey prepares an indirect
method statement of cash flows, it would have interest
revenue of $3.30 + $3.31 = $6.61 included in net income, so
would have to include an adjustment of $6.4 $6.61 = ($0.21)
to get from net income to cash from operations.)
Investing cash flows: Cash outflow from purchasing
investments of $66.
($ in millions)
80
14
66
Requirement 2
Cash (4% x $80 million)..........................................
3.20
.10
Requirement 3
Cash (4% x $80 million)..........................................
3.20
.11
3.30
3.31
Requirement 4
sheet at its fair value, $70 million in this case. For investments in trading
securities, changes in market values, and thus market returns, provide an
indication of managements success in deciding when to acquire the
investment, when to sell it, whether to invest in fixed-rate or variable-rate
securities, and whether to invest in long-term or short-term securities.
To do this, we first need to determine the investments amortized cost (or

book value) at the end of the year:
Amortized cost................................................................
$80.00
13.79
$66.21
Then, to record it at fair value, we increase the investment by $70 66.21 =

$3.79 million:
Fair value adjustment.........................................
Net unrealized holding gains and lossesI/S ($70 66.21)
3.79
3.79
Because these are trading securities, the unrealized holding gain of $3.79
would be recognized in Fuzzy Monkeys 2011 income statement.

Requirement 5
follows:
revenue of $3.30 + $3.31 = $6.61 and an unrealized holding
gain of $3.79 included in net income, totaling $10.4, so would
have to include an adjustment of $6.4 $10.4 = ($4.0) to get
from net income to cash from operations.)
Fuzzy Monkey would also be likely to treat the cash outflow
from purchasing trading securities of $66 as an operating cash
flow.
($ in millions)
80
14
66
Requirement 2
Cash (4% x $80 million)..........................................
3.20
.10
Requirement 3
Cash (4% x $80 million)..........................................
3.20
.11
3.30
3.31
Requirement 4
sheet at its fair value, $70 million in this case. For investments in securities
available-for-sale, changes in market values, and thus market returns,
provide an indication of managements success in deciding when to acquire
the investment, when to sell it, whether to invest in fixed-rate or variablerate securities, and whether to invest in long-term or short-term securities.
To do this, we first need to determine the investments amortized cost (or
book value) at the end of the year:
Amortized cost................................................................
$80.00
13.79
$66.21

$3.79 million:
Net unrealized holding gains and lossesOCI ($70 66.21)
3.79
3.79
Because these are available-for-sale securities, the unrealized holding gain

of $3.79 would be recognized in Fuzzy Monkeys 2011 other comprehensive
income, and serve to increase the accumulated other comprehensive income
shown in shareholders equity.

Requirement 5
follows:
revenue of $3.30 + $3.31 = $6.61 included in net income, so
would have to include an adjustment of $6.4 $6.61 = ($0.21)
to get from net income to cash from operations.)
Investing cash flows: Cash outflow from purchasing
investments of $66.
Problem 12-4Note: Because Fuzzy Monkey elected the fair value option,
these investments will be reclassified as trading securities and

accounted for under that approach. Therefore, the answers to Requirements 1-5
are the same as those to Problem 12-2.
Requirement 1
($ in millions)
80
14
66
Requirement 2
Cash (4% x $80 million)..........................................
3.20
.10
Requirement 3
Cash (4% x $80 million)..........................................
3.20
.11
3.30
3.31
Requirement 4
sheet at its fair value, $70 million in this case. For investments in trading
securities, changes in market values, and thus market returns, provide an
indication of managements success in deciding when to acquire the
investment, when to sell it, whether to invest in fixed-rate or variable-rate
securities, and whether to invest in long-term or short-term securities.
To determine the journal entry that Fuzzy Monkey must make, we first need
to determine the investments amortized cost (or book value) at the end of
the year:
Amortized cost................................................................
$80.00
13.79
$66.21

$3.79 million:
Net unrealized holding gains and lossesI/S ($70 66.21)
3.79
3.79
Because these are trading securities, the unrealized holding gain of $3.79
would be recognized in Fuzzy Monkeys 2011 income statement.
Requirement 5
follows:
method statement of cash flows, it would have included in net
income interest revenue of $3.30 + $3.31 = $6.61 and an
unrealized holding gain of $3.79, totaling $10.4, so would
have to include an adjustment of $6.4 $10.4 = ($4.0) to get
from net income to the correct operating cash flow.)
Fuzzy Monkey would also be likely to treat the cash outflow
from purchasing trading securities of $66 as an operating
cash flow. However, if Fuzzy Monkey anticipate holding
these investments for a sufficiently long period, it could
classify this cash outflow as an investing cash flow.
Requirement 6
The answers to requirements 1-5 would not differ if the investment
qualified for treatment as a held-to-maturity investment, because Fuzzy
Monkeys choice of the fair value option still requires reclassification
of the investment as trading securities.
2011
February 21
Investment in Distribution Transformers shares .........
Cash..........................................................................
400,000
400,000
March 18
Cash..............................................................................
Investment revenue..................................................
8,000
September 1
Investment in American Instruments bonds ................
Cash..........................................................................
900,000
October 20
Cash..............................................................................
Investment in Distribution Transformers ...............
Gain on sale of investments.....................................
November 1
Investment in M&D Corporation shares .....................
Cash..........................................................................
8,000
900,000
425,000
400,000
25,000
1,400,000
1,400,000
Problem 12-5 (continued)

December 31
Adjusting entries:
Investment revenue receivable.....................................
Investment revenue ($900,000 x 10% x 4/12)...............
30,000
30,000
Accumulated
Available-for-Sale Securities
M & D Corporation shares
American Instruments bonds
Totals Dec. 31, 2011
Cost
$1,400,000
900,000
$2,300,000
Fair Value
$1,460,000
850,000
$2,310,000
Fair value adjustment (calculated above).........................
Unrealized
Gain (Loss)
$60,000
(50,000)
$10,000*
10,000
Net unrealized holding gains and lossesOCI.........

10,000*
* The $10,000 credit balance in the net unrealized holding gain is reported as 2011 Other
comprehensive income in the statement of comprehensive income. It serves to increase
Accumulated other comprehensive income, a component of Shareholders equity in the
2011 balance sheet.

Requirement 2
Income statement:
Investment revenue ($8,000 + 30,000)
Gain on sale of investments
38,000
25,000
10,000
Note: Unlike for trading securities, unrealized holding gains and losses are not
included in income for securities available-for-sale.
Statement of comprehensive income*:

Net unrealized holding gains and losses on investments
Balance sheet:
Current Assets
Investment revenue receivable
30,000
Securities available-for-sale
Plus: Fair value adjustment
$2,310,000
$
$2,300,000
10,000
Shareholders Equity
Accumulated other comprehensive income
Net unrealized holding gain (loss) ($60,000 50,000)
10,000
* Can be reported either (a) as an additional section of the income statement, (b) as part of
the statement of shareholders equity, or (c) as a separate statement in a disclosure note.

Requirement 3
2012
January 20
Cash..............................................................................
Gain on sale of investments (to balance)....................
Investment in M&D Corporation shares (cost).........
March 1
Cash..............................................................................
Investment revenue receivable.................................
1,485,000
85,000
1,400,000
45,000
30,000
15,000
August 12
Investment in Vast Communications shares ...............
Cash..........................................................................
650,000
September 1
Cash..............................................................................
45,000
650,000
45,000

December 31
Adjusting entries:
Investment revenue receivable.....................................
Investment revenue ($900,000 x 10% x 4/12)...............
30,000
30,000
Accumulated
Securities
Vast Communication shares
American Instruments bonds
Totals Dec. 31, 2012
Cost
$650,000
900,000
$1,550,000
Fair Value
$670,000
830,000
$1,500,000
Unrealized
Gain (Loss)
$20,000
(70,000)
$(50,000)*
Moving from a positive $10,000 (2011) to a negative $50,000 requires a

decrease of $60,000:
Balance needed in fair value adjustment
Existing balance in fair value adjustment:
Increase (decrease) needed in fair value adjustment:
Fair Value
Adjustment
($50)
$10
($60)
-------------------------------------------------------------------------------------------50,000
0
+10,000
<-------------------------------------------- $60,000
Net unrealized holding gains and lossesOCI...........

Fair value adjustment (calculated above)...................
60,000*
60,000
* The $60,000 debit balance in the net unrealized holding gains and losses is
reported as 2012 Other comprehensive income in the statement of
comprehensive income. It serves to decrease Accumulated other
comprehensive income, a component of Shareholders equity in the 2012
balance sheet, from the $10,000 credit balance it showed on the 2011
balance sheet to the $50,000 debit balance it shows in the 2012 balance
sheet.

Requirement 4
Income statement:
Investment revenue ($15,000 + 45,000 + 30,000)
Gain on sale of investments
90,000
85,000
Note: Unlike for trading securities, unrealized holding gains and losses are
not included in income for securities available-for-sale.
Statement of comprehensive income*:
Net unrealized holding gains and losses on investments
(60,000)
Balance sheet:
Current Assets
Investment revenue receivable
30,000
Securities available-for-sale
Less: Fair value adjustment
$1,500,000
$
$1,550,000
(50,000)
Shareholders Equity
Accumulated other comprehensive income
Net unrealized holding gain (loss) ($20,000 70,000)
$ (50,000)
* Can be reported either (a) as an additional section of the income

statement, (b) as part of the statement of shareholders equity, or (c) as a
separate statement in a disclosure note.
2011
December 12
Investment in FF&G Corporation bonds .....................................
Cash..........................................................................................
($ in millions)
12
12
December 13
Investment in Ferry common shares ............................................
Cash..........................................................................................
December 15
Cash..............................................................................................
Investment in FF&G Corporation bonds .................................
Gain on sale of investments ($12.1 12)....................................
22
22
12.1
12.0
0.1
December 22
Investment in U.S. Treasury bills ................................................
Investment in U.S. Treasury bonds ..............................................
Cash..........................................................................................
56
65
December 23
Cash..............................................................................................
Loss on sale of investments ($10 11)...........................................
Investment in Ferry common shares ($22 x 1/2).........................
10
1
December 26
Cash (selling price)..........................................................................
Gain on sale of investments ($57 56).......................................
Investment in U.S. Treasury bills (account balance)....................
December 27
Investment in U.S. Treasury bonds (account balance).................
121
11
57
1
56
63
2
65

December 28
Cash..............................................................................................
Investment revenue...................................................................
0.2
0.2
December 31
($ in millions)
Adjusting entry:
Net unrealized holding gains and lossesI/S
($10 million [$22 million x 1/2])...................................................
Fair value adjustment................................................................
1.0
1.0
Closing entry:
Income summary (to balance).........................................................
Investment revenue ($5 + 0.2 million)..............................................
Gain on sale of investments ($8 + 0.1 + 1 million)...........................
Loss on sale of investments ($11 + 1 + 2 million)........................
Net unrealized holding gains and lossesI/S (adjusting entry)...
.7
5.2
9.1
14.0
1.0
Note: Unlike for securities available-for-sale, unrealized holding gains and

losses are included in income for trading securities.
Requirement 2
($ in millions)
Balance sheet (short-term investment):

Trading Securities...............................
Less: Fair value adjustment.................
Total.....................................................
11
(1)
10
Income statement:
Investment revenue (closing entry)
5.2
Gain on sale of investments (closing entry)
9.1
Loss on sale of investments (closing entry)
(14.0)
Net unrealized holding gains and losses on investments (closing entry) (1.0)
Requirement 3
2012
January 2
($ in millions)

Loss on sale of investments (to balance) ........................................
Investment in Ferry common (account balance)...........................
10.2
0.8
11.0
Assuming no other transactions involving trading securities, the 2012 adjusting

entry to remove the fair value adjustment associated with the sold securities would
be:
December 31
Fair value adjustment (account balance)......................................
Net unrealized holding gains and lossesI/S..........................
January 5
Investment in Warehouse Designs bonds ....................................
Cash..........................................................................................
Problem 12-72011
1.0
1.0
34
34
($ in millions)
October 18
Investment in Millwork Ventures preferred shares .....................
Cash..........................................................................................
October 31
Cash..............................................................................................
November 1
Investment in Holistic Entertainment bonds.................................
Cash..........................................................................................
58
58
1.5
1.5
18
18
November 1
Cash..............................................................................................
Investment in Kansas Abstractors bonds .................................
28
2
December 1
Investment in Household Plastics bonds......................................
Cash..........................................................................................
60
December 20
Investment in U.S. Treasury bonds ..............................................
Cash..........................................................................................
December 21
Investment in NXS common shares ............................................
Cash..........................................................................................
December 23
Cash..............................................................................................
Investment in U.S. Treasury bonds ..........................................
Gain on sale of investments ($5.7 5.6).....................................
30
60
5.6
5.6
44
44
5.7
5.6
.1

($ in millions)
December 29
Cash..............................................................................................
Investment revenue................................................................
December 31
Accrued interest:
Investment revenue receivable - Holistic
Entertainment ($18 million x 10% x 2/12).......................................
Investment revenue receivable - Household
Plastics ($60 million x 12% x 1/12)..................................................
Investment revenue ...............................................................
0.3
0.6
0.9
Revaluations:
Net unrealized holding gains and lossesOCI
([2 million shares of Millwork Ventures x $27.50] $58 million)..........
Fair value adjustment ............................................................

Fair value adjustment ...................................................................
([4 million shares of NXS x $11.50] $44 million)........................
3
2
2
Note: Securities held-to-maturity are not adjusted to fair value.

Closing entry:
Net unrealized holding gains and lossesI/S (NXS)....................
Investment revenue ($3.0 + 1.5 + .9)...............................................
Gain on sale of investments (U.S. Treasury bonds)..........................
Loss on sale of investments (Kansas Abstractors)......................
Income summary (to balance)...................................................
2.0
5.4
.1
Note: Unlike for securities available-for-sale, unrealized holding gains

and losses are included in income for trading securities.
2.0
5.5

2012
January 7
Cash..............................................................................................
Loss on sale of investments (to balance).........................................
Investment in NXS common shares (account balance)................
43
1
44
Assuming no other transactions involving trading securities, the 2012 adjusting

entry to remove the fair value adjustment associated with the sold securities would
be:
December 31
Net unrealized holding gains and lossesI/S..............................
Fair value adjustment (account balance)..................................
2.0
2.0
Beale should report its securities available-for-sale in its December 31, 2012,
balance sheet at their fair value, $54 million.
Requirement 2
The journal entry needed to enable the investment to be reported at fair value
is:
($ in millions)
Fair value adjustment ($4 debit to $5 debit)

1
Net unrealized holding gains and lossesOCI ($4 credit to $5 credit)
Requirement 3
As of December 31, 2011, the cost of the Schwab Pharmaceuticals investment
was $25 million and its fair value was $27 million. Therefore, in the year-end
2011 adjustment process, Beale must have made whatever adjustment was
necessary to produce a debit balance of $2 in the fair value adjustment
valuation allowance for Schwab Pharmaceuticals and a credit balance of that
amount in accumulated other comprehensive income. Because the Schwab
Pharmaceuticals investment was sold during 2012, the reclassification
adjustment would have to remove that amount in 2012. Beales statement of
comprehensive income can be provided as (a) an extension of its income

statement, (b) as part of its statement of shareholders equity, or (c) in a
disclosure note in a manner similar to this:
STATEMENT OF COMPREHENSIVE INCOME
($ in millions)
Net income..............................................
Other comprehensive income:
Unrealized holding gains (losses) on investments
Reclassification adjustment of prior years unrealized
gain included in 2012 net income
Net unrealized holding gains (losses)
Comprehensive income
$xxx
$3
(2)
1
$xxx

Comprehensive income includes both net income and other comprehensive
income. Net income in 2012 includes the $3 million gain realized from selling the
Schwab shares. However, $2 million of that gain already has been reported in
comprehensive income as an unrealized holding gain in a prior year or years
when the shares value increased from $25 million to $27 million. To avoid
double-counting, Beale must compensate by reducing comprehensive income by
the $2 million portion of the 2012 realized gain that already has been reported.
Thats what the reclassification adjustment does; it reduces this years
comprehensive income by the amount that was reported previously to keep it from
being reported twice. For there to be a total increase in AOCI of $1 million (from
$4 million to $5 million), and the reclassification serving to reduce AOCI by $2
million, $3 million of unrealized holding gains must have occurred during 2012.
Purchase
Investment in Lavery Labeling shares..........................................
Cash .........................................................................................
($ in millions)
324
324
Net income
Investment in Lavery Labeling shares (30% x $160 million) ..........
48
48
Dividends
Cash (10 million shares x $2).............................................................
Investment in Lavery Labeling shares......................................
20
20
Depreciation adjustment
Investment revenue ([$80 million x 30%] 6 years) ......................
4
4
Calculations:
Investee
Net Assets
Cost
Net Assets
Purchased
Goodwill:
$60
Undervaluation
of depr. assets:
$24
$880* x 30% = $264
Book value:
$324
Fair value:
Difference
Attributed to:
$800 x 30% = $240
*[$800 + 80] = $880

Adjusting entry
No entry to recognize changes in the fair value of the Lavery investment,
as Runyan is accounting for its investment under the equity method.

Requirement 2
Purchase
Cash .........................................................................................
($ in millions)
324
324
Net income
No entry
Dividends
20
20
Adjusting entry
([10 million shares x $31] $324 million).................................................
14
14
Purchase
Cash .........................................................................................
($ in millions)
324
324
Net income
No entry
Dividends
20
20
Adjusting entry
([10 million shares x $31] $324 million)..................................................
14
14
Requirement 2
Because Runyan is accounting for the Lavery investment under the fair value
option, the unrealized holding loss would be included in 2011 net income.
Therefore, total effect on net income would be $20 million 14 million, or $6
million.
Problem 12-11Requirement 1 (note: requirement 1 has the same answer

as does P 12-10)
Purchase
Cash .........................................................................................
($ in millions)
324
324
Net income
No entry
Dividends
20
20
Adjusting entry
14
14
Therefore, total effect on net income would be $20 of dividend $14 of
unrealized holding loss, or $6. The investment would be shown in the
balance sheet at its fair value of $310.

Requirement 2
Purchase
Cash .........................................................................................
($ in millions)
324
324
Net income
Investment in Lavery Labeling shares (30% x $160 million) ..........
48
48
Dividends
20
20
Investment revenue ([$80 million x 30%] 6 years) .......................
Calculations:
Investee
Net Assets
Cost
Net Assets
Purchased
Goodwill:
$60
Undervaluation
of depr. assets:
$24
$880* x 30% = $264
Book value:
$324
Fair value:
Difference
Attributed to:
$800 x 30% = $240
*[$800 + 80] = $880
4
4

Note: After the preceding journal entries are recorded, the balance in the
Lavery Labeling investment account would be:
Investment in Lavery Labeling shares
__________________________________________
($ in millions)
Cost
324
Share of income 48
Balance
20 Dividends
4 Depreciation adjustment
_________________
348
At December 31, 2011, the fair value of that investment is $310 (= 10

million shares x $31/share), implying need for the following adjusting
entry to adjust the carrying value of the investment to fair value:
38
38
Therefore, total effect on net income would be $48 million for Runyans
share of Lavery income minus $4 million of depreciation adjustment and
minus the $38 million unrealized holding loss, yielding a total of $6 of
income. The investment would be shown in the balance sheet at its fair value
of $310 million.
Note that the income effect and the carrying value in the balance sheet are
the same in requirements 1 and 2.
Purchase
Investment in Vancouver T&M shares.........................................
Cash .........................................................................................
($ in millions)
400.0
400.0
Net income
Investment in Vancouver T&M shares (40% x $140 million) .........
56.0
56.0
Dividends
Cash (40% x $30 million)..................................................................
Investment in Vancouver T&M shares.....................................
12.0
12.0
Inventory adjustment
Investment revenue ($5 million x 40%: all sold in 2011)....................
2.0
2.0
Investment revenue ([$20 million x 40%] 16 years) .....................
.5
.5
Calculations:
Investee
Net Assets
Cost
Net Assets
Purchased
inventory
plant facilities
Book value:
* $775 +5 +20
$400
Fair value:
Difference
Attributed to:
Goodwill:
$80 [plug]
$800* x 40% = $320

(5) x 40%
(20) x 40%
$775
x 40% = $310
Undervaluation
of inventory:
$2
Undervaluation
of plant:
$8

Requirement 2
Investment Revenue
($ in millions)
56.0 Share of income
Inventory
2.0
Depreciation
.5
_________________
Balance
53.5
Requirement 3
Investment in Vancouver T&M shares
($ in millions)
Cost
Share of income
Balance
400.0
56.0
12.0 Dividends
2.0 Inventory
.5 Depreciation
_________________
441.5
Requirement 4
$400 million cash outflow from investing activities
$12 million cash inflow (dividends) among operating activities
(Note: if Northwest uses the indirect method to report its operating cash
flows, it would need an adjustment of ($41.5) to get from the $53.5
included as investment revenue in net income to the $12 of cash actually
received in dividends and needing to be shown in cash from operations.)
Problem 12-13
Requirement 1
Millers management should decide whether it has the ability to exercise
significant influence over operating and financial policies of the Marlon Company.
Ability to exercise significant influence is presumed for investments of 20 percent
or more of voting stock and presumed not to exist for investments of less than 20
percent, other things being equal. Evidence to the contrary should be considered,
including participation on the board of directors, technological dependency,

material intercompany transactions, or interchange of managerial personnel.
Requirement 2
a.
Income statement:
($ in
millions)
Investment revenue ($12 million x 1/6)

Patent amortization adjustment ($4 million* 10)
$2.0
(.4)
*([$24 million] x 1/6])
$1.6
b. Balance sheet:
Investment in Marlon Company
($19 million + 2 million 1 million 0.4 million)
$19.6*

*Investment in Marlon Company
($ in millions)
Cost
Share of income
Balance
19.0
2.0
1.0 Dividends ($6 million x 1/6)
.4 Amortization adjustment
_________________
19.6
c. Statement of cash flows:

$19 million cash outflow from investing activities
$1 million cash inflow (dividends) among operating activities
(Note: if Marlon uses the indirect method to report its operating cash flows,
it would need an adjustment of ($0.6) to get from the $1.6 included as
investment revenue in net income to the $1 of cash actually received in
dividends and needing to be shown in cash from operations.)
Problem 12-14
Item
Reporting Category
__A_ 1. 35% of the nonvoting preferred stock

of American Aircraft Company
maturity
__M_ 2. Treasury bills to be held-to-maturity
sale
__M_ 3. Two-year note receivable from affiliate
__N_ 4. Accounts receivable
__M_ 5. Treasury bond maturing in one week
T. Trading securities
M. Securities
held-toA. Securities
available-for-
E. Equity method
C. Consolidation
N. None of these
__T_ 6. Common stock held in trading account

for immediate resale.
__T_ 7. Bonds acquired to profit from short-term differences in price.
__E_ 8. 35% of the voting common stock of Computer Storage Devices
Company.
__C_ 9. 90% of the voting common stock of Affiliated Peripherals, Inc.
__A_10. Corporate bonds of Primary Smelting Company to be sold if interest
rates fall 1/2%.
__A_11. 25% of the voting common stock of Smith Foundries Corporation: 51%
family-owned by Smith family; fair value determinable.
__E_ 12. 17% of the voting common stock of Shipping Barrels Corporation:
Investors CEO on the board of directors of Shipping Barrels
Corporation.
Problem 12-15
Requirement 1
Bond Fair Value at 1/1/2011:
Interest [($150,000 x 6%) / 2] x 14.21240 *
Principal
$150,000 x 0.50257 ** =
Present value of the receivable
$ 63,956
75,386
$139,342
* present value of an ordinary annuity of $1: n=20, i=3.5% (=7% 2) (from Table 4)
** present value of $1: n=20, i=3.5% (=7% 2) (from Table 2)
January 1, 2011
150,000
10,658
139,342
Requirement 2
January 1, 2011
150,000
10,658
139,342
June 30, 2011

Cash [(150,000 x 6%) / 2]........................................
Interest revenue [($150,000 10,658) x 7%] / 2 . .
4,500
377
December 31, 2011

Cash (6% / 2 x $150,000)........................................
Interest revenue [{$150,000 ($10,658 377)} x 7%] / 2
4,500
390
4,877
4,890
Note: For held-to-maturity investments, there are no adjustments to fair

value.

Requirement 3
January 1, 2011
150,000
10,658
139,342
June 30, 2011

Cash ($150,000 x 6%) / 2 .......................................
Interest revenue [($150,000 10,658) x 7%] / 2 .
Bond Fair Value at June 30, 2011:
Interest [($150,000 x 6%) / 2] x 13.13394 *
Principal $150,000 x 0.47464 ** =
4,500
377
4,877
$ 59,103
71,196
$130,299
*present value of an ordinary annuity of $1: n=19, i=4% (=8% 2) (from Table 4)
**present value of $1: n=19, i=4% (=8% 2) (from Table 2)
January 1 initial cost

Increase from discount amortization
June 30 amortized initial cost
$139,342
377
$139,719
Comparing the amortized initial cost with the fair value of the bonds on that
date provides the amount needed to adjust the investment to its fair value.
June 30 fair value
Fair value adjustment needed
$139,719
130,299
$ 9,420
Net unrealized holding gains and lossesI/S ............................

Fair value adjustment...........................................................
9,420
9,420

December 31, 2011
Cash ($150,000 x 6%) / 2.......................................
Interest revenue [{$150,000 ($10,658 377)} x 7%] / 2
Bond Fair Value at December 31, 2011:
Interest [($150,000 x 6%) / 2] x 12.15999 *
Principal $150,000 x 0.45280 ** =
4,500
390
4,890
$ 54,720
67,920
$122,640
* present value of an ordinary annuity of $1: n=18, i=4.5% (=9% 2) (from Table 4)
** present value of $1: n=18, i=4.5% (=9% 2) (from Table 2)

Increase from discount amortization
Dec. 31 amortized initial cost
$139,719
390
$140,109
Comparing the amortized initial cost with the fair value of the bonds on that
date provides the amount needed to adjust the investment to its fair value.
Dec. 31 amortized initial cost
Dec. 31 fair value
Fair value adjustment balance needed: debit/(credit)
Less: Current fair value adjustment debit/(credit)
Change in fair value adjustment needed
Net unrealized holding gains and lossesI/S ............................
Fair value adjustment...........................................................
$140,109
122,640
$ 17,469
(9,420)
$ 8,049
8,049
8,049
Problem 12-16Bee Company Investment

2011: Stewart does not plan to sell the Bee investment, and does not believe it is
more likely than not that it will have to sell the investment before fair value
recovers, so the portion of the impairment that consists of credit and non-credit
losses is relevant. Stewart must recognize the $240,000 of credit losses as an OTT
impairment in earnings, and the other $260,000 as a reduction of OCI, as follows:
Other-than-temporary impairment loss I/S......

Discount on bond investment..........................
240,000
OTT impairment loss OCI ..............................

Fair value adjustment Non-credit loss..........
260,000
240,000
260,000
2012: Stewart ignores the change in Bees fair value during 2012, as the Bee
investment is accounted for as an HTM investment and fair value changes are not
relevant unless viewed as OTT impairments. GAAP does not allow recovery of
prior OTT impairments when fair value increases. Over the remaining life of the
bonds, Stewart would amortize the bonds as if they had a $240,000 discount.
Stewart also would amortize the $260,000 of Fair value adjustment Non-credit
loss in AOCI over the remaining life of the bonds by crediting that account and
debiting Fair value adjustment non-credit loss for a portion each period, thus
gradually decreasing the amount shown in AOCI and increasing the carrying
amount of the bonds.
Oliver Corporation Investment
2011: Stewart accounts for the Oliver investment as a trading security, so OTT
impairment accounting is not relevant. Stewart simply continues to recognize in
earnings any unrealized gains and losses associated with fair value changes. Given
that the bonds already have a negative fair value adjustment of $200,000, and need
a negative fair value adjustment of $300,000 to adjust from amortized cost of
$2,500,000 to fair value of $2,200,000, Stewart must recognize additional
unrealized losses of $100,000 for 2011.
Net unrealized holding gains and lossesI/S.........
Fair value adjustment.............................. .............
100,000
100,000

2012: Fair value increased to $2,700,000 during 2012, so Stewart needs to have a
positive fair value adjustment of $200,000 on the balance sheet to adjust from
amortized cost of $2,500,000 to fair value of $2,700,000. Therefore, Stewart must
recognize an unrealized gain $500,000 for 2012, moving the fair value adjustment
from a negative $300,000 to a positive $200,000. Note that this is not a recovery
of the OTT impairment, but just normal ongoing accounting for a TS investment.
500,000
500,000
Jones, Inc Investment

2011: Stewart does not plan to sell the Jones investment, and does not believe it is
more likely than not that it will have to sell the investment before fair value
recovers, so the portion of the impairment that consists of credit and non-credit
losses is relevant. Stewart must recognize the $225,000 of credit losses as an OTT
impairment in earnings, and the other $575,000 as a reduction of OCI, as follows:
Other-than-temporary impairment loss I/S.....
Investment in Jones bonds...............................
225,000
Net unrealized holding gains and lossesOCI. .

Fair value adjustment......................................
575,000
225,000
575,000
Stewart also must reclassify the previously recognized $400,000 unrealized loss
out of OCI and the fair value adjustment:
Fair value adjustment..........................................
400,000
400,000
Note that Stewart could net the latter two journal entries together to be:
175,000
175,000

However, Stewart still would need to show on the face of the income statement the
total OTT impairment of $800,000 less the $575,000 in OCI, yielding a $225,000
reduction in earnings.
2012: Stewart continues to treat the Jones investment as AFS. Therefore, Stewart
would show an unrealized gain associated with an increase of fair value from
$2,700,000 to $2,900,000. Note that this is not a recovery of the OTT impairment,
but just normal ongoing accounting for an AFS investment. The amount of credit
loss and non-credit loss is not relevant to this subsequent accounting.
200,000
200,000
Helms Corp. Investment

2011: Because the Helms Corp. investment is equity, Stewart bases the OTT
impairment on the entire difference between amortized cost and fair value.
Other-than-temporary impairment loss...............
Investment in Helms equity.............................
400,000
400,000
Stewart also must reclassify the previously recognized $120,000 unrealized gain
120,000
120,000
2012: Stewart continues to treat the Helms investment as AFS. Therefore, Stewart
$600,000 to $700,000. Note that this is not a recovery of the OTT impairment, but
just normal ongoing accounting for an AFS investment.
Problem 12-17Bee Company Investment
100,000
100,000
2011: Under IFRS only the credit loss component is relevant for debt impairments.
Therefore, Stewart recognizes the $240,000 of credit losses as an OTT impairment
in earnings, as follows:
Other-than-temporary impairment loss..............
Discount on bond investment..........................
240,000
240,000
2012: IFRS allows recovery of OTT impairments on debt investments. Therefore,

Stewart would record a reversal of OTT impairment in earnings to increase the
carrying value of the Bee investment to the level indicated by a $140,000 credit
loss.
Discount on bond investment..............................
100,000
Recovery of other-than-temporary impairment lossI/S
100,000
Oliver Corporation Investment
2011: Stewart accounts for the Oliver investment as a trading security, which
under IFRS would be called Fair value through profit and loss, so OTT
impairment accounting is not relevant. Stewart simply continues to recognize in
earnings any unrealized gains and losses associated with fair value changes. Given
that the bonds already have a negative fair value adjustment of $200,000, and need
a negative fair value adjustment of $300,000 to adjust from amortized cost of
$2,500,000 to fair value of $2,200,000, Stewart must recognize additional
unrealized losses of $100,000 for 2011.
Net unrealized holding gains and lossesI/S.........
Fair value adjustment.............................. .............
100,000
100,000

2012: Fair value increased to $2,700,000 during 2012, so Stewart needs to have a
positive fair value adjustment of $200,000 on the balance sheet to adjust from
amortized cost of $2,500,000 to fair value of $2,700,000. Therefore, Stewart must
recognize an unrealized gain $500,000 for 2012, moving the fair value adjustment
from a negative $300,000 to a positive $200,000. Note that this is not a recovery
of the OTT impairment, but just normal ongoing accounting for a Fair value
through profit and loss investment.
500,000
500,000
Jones, Inc Investment

2011: Given that this debt investment is AFS, IFRS bases the OTT impairment on
fair value rather than on credit losses. Therefore, Stewart recognizes the entire
$800,000 difference between amortized cost and fair value as an OTT impairment
in earnings, as follows:
Other-than-temporary impairment loss..............
Investment in Jones bonds...............................
800,000
800,000
Stewart also must reclassify the previously recognized $400,000 unrealized loss
400,000
400,000
2012: IFRS allows recovery of OTT impairments on debt investments. Therefore,

Stewart would record a reversal of OTT impairment in earnings to increase the
carrying value of the Jones investment to the fair value of $2,900,000.
Investment in Jones bonds..................................
200,000
Recovery of other-than-temporary impairment lossI/S
200,000

Helms Corp. Investment
2011: Because the Helms Corp. investment is classified as AFS, Stewart bases the
OTT impairment on the entire difference between amortized cost and fair value.
Other-than-temporary impairment loss...............
Investment in Helms equity.............................
400,000
400,000
Stewart also must reclassify the previously recognized $120,000 unrealized gain
120,000
120,000
2012: IFRS does not allow recovery of OTT impairments for equity investment.
However, Stewart continues to treat the Helms investment as AFS, so Stewart
$600,000 to $700,000. This is not a recovery of the OTT impairment, but just
normal ongoing accounting for an AFS investment.
100,000
100,000
CASES
Real World Case 12-1
Requirement 1
Fair Value Adjustment, AFS Investments
210
($225 loss 15 gain on
12/27/08)
change over first half of 2009
220
____________
$138 gain 128 loss on 6/27/09
10
Requirement 2
Intel needs to record unrealized holding gains and losses associated with its
AFS investments during the first half of 2009:
Fair value adjustment, AFS investment..................
223
223
Requirement 3
Fair Value Adjustment, AFS Investments
210
unrealized gains
$225 loss 15 gain on 12/27/08
223
3 to balance
____________
$138 gain 128 loss on 6/27/09
10
Case 12-1 (concluded)

What could account for the unaccounted-for credit of $3? The most likely
explanation is that there are reclassification adjustments for AFS
investments that have been sold or for which OTT impairments have been
recognized. If Intel had previously recognized an unrealized gain for some
investments, it would have increased the fair value adjustment when it
included that gain in OCI. If Intel sold or impaired those investments during
the first half of 2009, a reclassification entry would reduce (credit) the fair
value adjustment and OCI to remove those effects.
Research Case 12-2
[Note:
This case encourages the student to reference actual

annual reports.]
The footnote that describes an investment in securities available-for-sale may

be headed by any one of a variety of captions or subsumed within another
disclosure note. Likewise, the caption by which the investments are reported in the
balance sheet can be reported separately as one of several asset titles or included
within another asset caption.
Investments in securities available-for-sale will be reported as current or
noncurrent assets depending on the intent of management regarding the timing of
their eventual sale. Realized gains or losses are reported in the income statement if
any of these securities were sold during any year reported.
Investments in securities available-for-sale are reported at fair value. Unrealized
holding gains and losses from retaining securities during periods of price change
are not included in the determination of income for the period. Rather, they are
accumulated and reported as accumulated other comprehensive income, a separate
component of shareholders equity. This means an unrealized holding gain would
increase shareholders equity and an unrealized holding loss would decrease
shareholders equity. Because unrealized gains or losses cause changes in
shareholders equity, those changes are reported in the statement of shareholders
equity. [Some companies may not provide a statement of shareholders equity and
may provide a statement of retained earnings instead. Unrealized gains or losses
have no effect on retained earnings.] By definition, securities available-for-sale 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 not
considered relevant performance measures to be included in earnings.
Cash outflows from acquiring these investments or inflows from selling them are
reported as investing activities in the companys comparative statements of cash
flows unless trading securities are included in the operating activities section.
Whether they are specifically identifiable depends on the degree of detail the
company uses in reporting its cash flows. Information on investing activities
assists investors and creditors by indicating the direction the company is directing
its funds.
A disclosure note may provide information not available in the financial
statements, in part dependent on how much information the financial statements
provide. Often the footnote will indicate the cost of the securities.

Accounting for bonds under different classifications

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Problem 12-1Requirement 1

Investment in bonds (face amount)........................

Problem 12-1 (concluded)

To do this, we first need to determine the investments amortized cost (or

Then, to record it at fair value, we increase the investment by $70 66.21 =

Problem 12-2 (concluded)

Then, to record it at fair value, we increase the investment by $70 66.21 =

Because these are available-for-sale securities, the unrealized holding gain

Problem 12-3 (concluded)

these investments will be reclassified as trading securities and

Problem 12-4 (concluded)

Problem 12-5 (continued)

Fair value adjustment (calculated above).........................

Net unrealized holding gains and lossesOCI.........

Problem 12-5 (continued)

Statement of comprehensive income*:

Problem 12-5 (continued)

Problem 12-5 (continued)

Moving from a positive $10,000 (2011) to a negative $50,000 requires a

Net unrealized holding gains and lossesOCI...........

Problem 12-5 (concluded)

* Can be reported either (a) as an additional section of the income

Problem 12-6 (continued)

Note: Unlike for securities available-for-sale, unrealized holding gains and

Balance sheet (short-term investment):

Problem 12-6 (continued)

Cash (selling price)..........................................................................

Assuming no other transactions involving trading securities, the 2012 adjusting

Problem 12-7 (continued)

Fair value adjustment ............................................................

Note: Securities held-to-maturity are not adjusted to fair value.

Note: Unlike for securities available-for-sale, unrealized holding gains

Problem 12-7 (concluded)

Assuming no other transactions involving trading securities, the 2012 adjusting

Fair value adjustment ($4 debit to $5 debit)

comprehensive income can be provided as (a) an extension of its income

Problem 12-8 (concluded)

$880* x 30% = $264

$800 x 30% = $240

*[$800 + 80] = $880

Problem 12-9 (concluded)

Fair value adjustment................................................................

Fair value adjustment................................................................

Problem 12-11Requirement 1 (note: requirement 1 has the same answer

Fair value adjustment................................................................

Problem 12-11 (continued)

$880* x 30% = $264

$800 x 30% = $240

*[$800 + 80] = $880

Problem 12-11 (concluded)

At December 31, 2011, the fair value of that investment is $310 (= 10

Fair value adjustment................................................................

$800* x 40% = $320

Problem 12-12 (concluded)

including participation on the board of directors, technological dependency,

Investment revenue ($12 million x 1/6)

*([$24 million] x 1/6])

Problem 12-13 (concluded)

c. Statement of cash flows:

__A_ 1. 35% of the nonvoting preferred stock

__T_ 6. Common stock held in trading account

June 30, 2011