INTERMEDIATE ACCOUNTING
INTERMEDIATE ACCOUNTING
8th Edition
ISBN: 9780078025839
Author: J. David Spiceland
Publisher: McGraw-Hill Education
Question
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Chapter 12, Problem 12.4P

a)

To determine

Investment: The act of allocating money to buy a monetary asset, in order to generate wealth in the future is referred to as investment.

Journal: Journal is the method of recording monetary business transactions in chronological order. It records the debit and credit aspects of each transaction to abide by the double-entry system.

Rules of Debit and Credit:

Following rules are followed for debiting and crediting different accounts while they occur in business transactions:

  • Debit, all increase in assets, expenses and dividends, all decrease in liabilities, revenues and stockholders’ equities.
  • Credit, all increase in liabilities, revenues, and stockholders’ equities, all decrease in assets, expenses.

To Journalize: The investment made by Company FM on January 1, 2016.

a)

Expert Solution
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Explanation of Solution

Prepare the journal entry to record the investment made by Company FM.

Date Account Title Post ref. Debit ($) Credit ($)
01.01.16 Investment in Bonds   $80,000,000  
       Discount on bond investment     $14,000,000
       Cash     $66,000,000
  (To record the investment made )      

Table (1)

  • Investment in Bonds is an asset account. Since bonds investments are purchased, asset value increased, and an increase in asset is debited.
  • Discount on Bond Investment is a contra-asset account. The contra-asset account generally has a credit balance. So, credit the discount, indicating a reduction in carrying amount of bonds to the cost.
  • Cash is an asset account. Since cash is paid, asset account decreased, and a decrease in asset is credited.

b)

To determine

To Journalize: The semiannual interest received by Company FM on June 30, 2016.

b)

Expert Solution
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Explanation of Solution

Prepare the journal entry to record the investment made by Company FM.

Date Account Title Post ref. Debit ($) Credit ($)
06.30.16 Cash   (2)   $3,200,000  
  Discount on bond investment  (3)   $100,000  
       Interest revenue    (1)     $3,300,000
  (To record the investment made )      

Table (2)

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Discount on Bond Investment is a contra-asset account. The contra-asset account generally has a credit balance. Since the discount amount is reduced, the account is debited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.

Working Note:

Calculate the interest revenue.

Interest revenue = 5% × Investment made= 5% ×$66,000,000= $3,300,000 (1)

Calculate the cash received.

Cash = 4% × Investment value= 4% ×$80,000,000= $3,200,000 (2)

Calculate the discount on bond investment.

Discount on bond investment = Investment revenue Cash= $3,300,000$3,200,000=$100,000 (3)

c)

To determine

To Journalize: The semiannual interest received by Company FM on December 31, 2016.

c)

Expert Solution
Check Mark

Explanation of Solution

Prepare the journal entry to record the investment made by Company FM.

Date Account Title Post ref. Debit ($) Credit ($)
12.31.16 Cash   (2)   $3,200,000  
  Discount on bond investment  (5)   $110,000  
       Interest revenue    (4)     $3,310,000
  (To record the investment made )      

Table (3)

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Discount on Bond Investment is a contra-asset account. The contra-asset account generally has a credit balance. Since the discount amount is reduced, the account is debited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.

Working Note:

Calculate the interest revenue.

Interest revenue = 5% × (Investment made+0.1)= 5% ×($66,000,000+0.1)= $3,310,000 (4)

Calculate the discount on bond investment.

Discount on bond investment = Investment revenue Cash= $3,310,000$3,200,000=$110,000 (5)

d)

To determine

To Calculate: The amount of investment to be recorded in the balance sheet of Company FM on December 31, 2016.

d)

Expert Solution
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Explanation of Solution

1.

Calculate the amount of investment to be recorded in the balance sheet of Company FM on December 31, 2016.

Investment in Bonds$80,000,000

Less:  Discount on bond investment (6)$13,790,000

Amortized Cost$66,210,000

Hence, the amount of investment to be recorded in the balance sheet of Company FM on December 31, 2016 is $66,210,000.

Working Note:

Calculate the discount on bond investment.

Discount on bond investment  = Discount ($100,000+$110,000)= $14,000,000$210,000= $13,790,000 (6)

2.

Prepare the journal to update the fair value adjustment.

The adjusting entry as on December 31, 2016, if the fair value adjustment was $3.79 millions, fair value of bonds was $70 millions, and the cost of bonds was $66.21 millions, to calculate the fair value adjustment is shown below.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
12.31.16 Fair-value adjustment  (7)   $3,790,000  
       Unrealized holding gain—OCI     $3,790,000
  (To record unrealized gain on equity securities)      

Table (4)

  • Fair Value Adjustment is a contra-asset account which serves the purpose of valuation allowance account. The account is adjusted to update the fair value as on December 31, 2016.
  • Unrealized Holding Gain–OCI is an adjustment account used to report gain or loss on adjusting cost of investment at fair market value. Since gain has occurred and gains increase stockholders’ equity value, it is credited.

Working Notes:

Compute the unrealized gain as on December 31, 2016, by adjusting the cost to the fair value.

Details Amount ($)
Fair value adjustment balance as on January 1, 2016 70,000,000
Adjustment needed to update fair value (Balancing figure) (7) 3,790,000
Fair value adjustment balance needed on December 31, 2016 66,210,000

Table (5) (7)

Available-for-sale (AFS) securities: These are short-term or long-term investments in debt and equity securities with an intention of holding the investment for some strategic purposes like meeting liquidity needs, or manage interest risk.

The bonds invested by Company FM are available for sale securities; hence the value is calculated at the amortized cost instead of the fair value, to get the market updates. The amortized cost is adjusted to the fair value using the adjusting entry.

e)

To determine

To Explain: The effect of investment by Company FM on December 31, 2016, in the statement of cash flows.

e)

Expert Solution
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Explanation of Solution

Statement of cash flows: This statement reports all the cash transactions which are responsible for inflow and outflow of cash, and result of these transactions is reported as ending balance of cash at the end of reported period.

The cash flow statement would be as below if the Company FM follows the direct method.

Cash flows from operating activities:    
Cash inflow from interest $3,200,000  
Cash inflow from interest $3,200,000  
Net cash flow used for operating activities   $6,400,000

Table (6)

Cash flows from investing activities:    
Investment in Bonds   $66,000,000

Table (7)

The cash flow statement would be as below if the Company FM follows the indirect method.

Cash flows from operating activities:    
Interest Revenue $3,300,000  
Interest Revenue $3,310,000  
Unrealized holding gain $3,790,000
Net cash flow used for interest revenue   $10,400,000
Increase in cash balance ($4,000,000)

Table (8)

The Net cash flow used for operating activities would require an adjustment for 4,000,000 ($10,400,000$6,400,000) .

Cash flows from investing activities:    
Investment in Bonds   $66,000,000

Table (9)

f)

To determine

To Explain: The effect of investment by Company FM on December 31, 2016, for the above requirements if the Company FM decided to hold the investment till maturity.

f)

Expert Solution
Check Mark

Explanation of Solution

Held-to-maturity security: The debt securities which are held by the investor with the intent to hold the investment till its maturity are referred to as held-to-maturity securities.

There would not be any difference in the accounting procedure so far followed, as the held-to-maturity securities require to be calculated at the fair value, as it is classified as trading securities

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Chapter 12 Solutions

INTERMEDIATE ACCOUNTING

Ch. 12 - Prob. 12.11QCh. 12 - Prob. 12.12QCh. 12 - Do U.S. GAAP and IFRS differ in the amount of...Ch. 12 - Under what circumstances is the equity method used...Ch. 12 - The equity method has been referred to as a...Ch. 12 - In the application of the equity method, how...Ch. 12 - Prob. 12.17QCh. 12 - Prob. 12.18QCh. 12 - Prob. 12.19QCh. 12 - How does IFRS differ from U.S. GAAP with respect...Ch. 12 - What is the effect of a company electing the fair...Ch. 12 - Define a financial instrument. Provide three...Ch. 12 - Some financial instruments are called derivatives....Ch. 12 - Prob. 12.24QCh. 12 - Prob. 12.25QCh. 12 - Prob. 12.26QCh. 12 - (Based on Appendix 12B) Reporting an investment at...Ch. 12 - Prob. 12.28QCh. 12 - Explain how the CECL model (introduced in ASU No....Ch. 12 - Prob. 12.1BECh. 12 - Prob. 12.2BECh. 12 - Available -for-sale securities LO12-4 SL...Ch. 12 - Prob. 12.4BECh. 12 - Prob. 12.5BECh. 12 - Prob. 12.6BECh. 12 - Prob. 12.7BECh. 12 - Prob. 12.8BECh. 12 - Prob. 12.9BECh. 12 - Prob. 12.10BECh. 12 - Prob. 12.11BECh. 12 - Prob. 12.12BECh. 12 - Prob. 12.13BECh. 12 - Prob. 12.14BECh. 12 - Prob. 12.15BECh. 12 - Prob. 12.16BECh. 12 - Prob. 12.17BECh. 12 - Prob. 12.18BECh. 12 - Prob. 12.1ECh. 12 - Prob. 12.2ECh. 12 - Prob. 12.3ECh. 12 - Prob. 12.4ECh. 12 - Prob. 12.5ECh. 12 - Prob. 12.6ECh. 12 - Prob. 12.7ECh. 12 - Prob. 12.8ECh. 12 - Prob. 12.9ECh. 12 - Prob. 12.10ECh. 12 - Prob. 12.11ECh. 12 - Prob. 12.12ECh. 12 - Prob. 12.13ECh. 12 - Prob. 12.14ECh. 12 - Prob. 12.15ECh. 12 - Prob. 12.16ECh. 12 - Prob. 12.17ECh. 12 - Prob. 12.18ECh. 12 - Prob. 12.19ECh. 12 - Prob. 12.20ECh. 12 - Prob. 12.21ECh. 12 - Prob. 12.22ECh. 12 - Prob. 12.23ECh. 12 - Prob. 12.24ECh. 12 - Prob. 12.25ECh. 12 - Prob. 12.26ECh. 12 - Prob. 12.27ECh. 12 - Prob. 12.28ECh. 12 - Prob. 12.29ECh. 12 - Prob. 12.30ECh. 12 - Prob. 12.31ECh. 12 - Prob. 1CPACh. 12 - Prob. 2CPACh. 12 - Prob. 3CPACh. 12 - Prob. 4CPACh. 12 - Prob. 5CPACh. 12 - Prob. 6CPACh. 12 - Prob. 7CPACh. 12 - Prob. 8CPACh. 12 - Prob. 9CPACh. 12 - Prob. 10CPACh. 12 - Prob. 11CPACh. 12 - Prob. 12CPACh. 12 - Prob. 13CPACh. 12 - Prob. 1CMACh. 12 - Prob. 2CMACh. 12 - Prob. 3CMACh. 12 - Prob. 12.1PCh. 12 - Prob. 12.2PCh. 12 - Prob. 12.3PCh. 12 - Prob. 12.4PCh. 12 - Prob. 12.5PCh. 12 - Prob. 12.6PCh. 12 - Prob. 12.7PCh. 12 - Prob. 12.8PCh. 12 - Prob. 12.9PCh. 12 - Prob. 12.10PCh. 12 - Prob. 12.11PCh. 12 - Prob. 12.12PCh. 12 - Prob. 12.13PCh. 12 - P 12–14 Classifying investments LO12–1 through...Ch. 12 - Prob. 12.15PCh. 12 - Prob. 12.16PCh. 12 - Prob. 12.17PCh. 12 - Prob. 12.18PCh. 12 - Prob. 12.1BYPCh. 12 - Prob. 12.2BYPCh. 12 - Case 12–4 Accounting for debt and equity...Ch. 12 - Prob. 12.6BYPCh. 12 - Prob. 12.7BYP
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