Intermediate Accounting ; INVESTMENTS "Revision"



HEy. again my friends

Now i'll put a small revision for the Intermediate accounting

For the part related to investments

and how to adjust it and record


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MULTIPLE CHOICE—Conceptual

21. Which of the following is not a debt security?
a. Convertible bonds
b. Commercial paper
c. Loans receivable
d. All of these are debt securities.

22. A correct valuation is
a. available-for-sale at amortized cost.
b. held-to-maturity at amortized cost.
c. held-to-maturity at fair value.
d. none of these.

23. Securities which could be classified as held-to-maturity are
a. redeemable preferred stock.
b. warrants.
c. municipal bonds.
d. treasury stock.

24. Unrealized holding gains or losses which are recognized in income are from securities classified as
a. held-to-maturity.
b. available-for-sale.
c. trading.
d. none of these.


P25. When an investor's accounting period ends on a date that does not coincide with an interest receipt date for bonds held as an investment, the investor must
a. make an adjusting entry to debit Interest Receivable and to credit Interest Revenue for the amount of interest accrued since the last interest receipt date.
b. notify the issuer and request that a special payment be made for the appropriate portion of the interest period.
c. make an adjusting entry to debit Interest Receivable and to credit Interest Revenue for the total amount of interest to be received at the next interest receipt date.
d. do nothing special and ignore the fact that the accounting period does not coincide with the bond's interest period.

S26. Debt securities that are accounted for at amortized cost, not fair value, are
a. held-to-maturity debt securities.
b. trading debt securities.
c. available-for-sale debt securities.
d. never-sell debt securities.

S27. Debt securities acquired by a corporation which are accounted for by recognizing unrealized holding gains or losses and are included as other comprehensive income and as a separate component of stockholders' equity are
a. held-to-maturity debt securities.
b. trading debt securities.
c. available-for-sale debt securities.
d. never-sell debt securities.

S28. Use of the effective-interest method in amortizing bond premiums and discounts results in
a. a greater amount of interest income over the life of the bond issue than would result from use of the straight-line method.
b. a varying amount being recorded as interest income from period to period.
c. a variable rate of return on the book value of the investment.
d. a smaller amount of interest income over the life of the bond issue than would result from use of the straight-line method.

S29. Equity securities acquired by a corporation which are accounted for by recognizing unrealized holding gains or losses as other comprehensive income and as a separate component of stockholders' equity are
a. available-for-sale securities where a company has holdings of less than 20%.
b. trading securities where a company has holdings of less than 20%.
c securities where a company has holdings of between 20% and 50%.
d. securities where a company has holdings of more than 50%.

30. A requirement for a security to be classified as held-to-maturity is
a. ability to hold the security to maturity.
b. positive intent.
c. the security must be a debt security.
d. All of these are required.

31. Held-to-maturity securities are reported at
a. acquisition cost.
b. acquisition cost plus amortization of a discount.
c. acquisition cost plus amortization of a premium.
d. fair value.
32. Solo Co. purchased $300,000 of bonds for $315,000. If Solo intends to hold the securities to maturity, the entry to record the investment includes
a. a debit to Held-to-Maturity Securities at $300,000.
b. a credit to Premium on Investments of $15,000.
c. a debit to Held-to-Maturity Securities at $315,000.
d. none of these.

33. Which of the following is not correct in regard to trading securities?
a. They are held with the intention of selling them in a short period of time.
b. Unrealized holding gains and losses are reported as part of net income.
c. Any discount or premium is not amortized.
d. All of these are correct.

34. In accounting for investments in debt securities that are classified as trading securities,
a. a discount is reported separately.
b. a premium is reported separately.
c. any discount or premium is not amortized.
d. none of these.

35. Investments in debt securities are generally recorded at
a. cost including accrued interest.
b. maturity value.
c. cost including brokerage and other fees.
d. maturity value with a separate discount or premium account.

36. Pippen Co. purchased ten-year, 10% bonds that pay interest semiannually. The bonds are sold to yield 8%. One step in calculating the issue price of the bonds is to multiply the principal by the table value for
a. 10 periods and 10% from the present value of 1 table.
b. 10 periods and 8% from the present value of 1 table.
c. 20 periods and 5% from the present value of 1 table.
d. 20 periods and 4% from the present value of 1 table.

37. Investments in debt securities should be recorded on the date of acquisition at
a. lower of cost or market.
b. market value.
c. market value plus brokerage fees and other costs incident to the purchase.
d. face value plus brokerage fees and other costs incident to the purchase.

38. An available-for-sale debt security is purchased at a discount. The entry to record the amortization of the discount includes a
a. debit to Available-for-Sale Securities.
b. debit to the discount account.
c. debit to Interest Revenue.
d. none of these.

39. APB Opinion No. 21 specifies that, regarding the amortization of a premium or discount on a debt security, the
a. effective-interest method of allocation must be used.
b. straight-line method of allocation must be used.
c. effective-interest method of allocation should be used but other methods can be applied if there is no material difference in the results obtained.
d. par value method must be used and therefore no allocation is necessary.
40. Which of the following is correct about the effective-interest method of amortization?
a. The effective interest method applied to investments in debt securities is different from that applied to bonds payable.
b. Amortization of a discount decreases from period to period.
c. Amortization of a premium decreases from period to period.
d. The effective-interest method produces a constant rate of return on the book value of the investment from period to period.

41. When investments in debt securities are purchased between interest payment dates, preferably the
a. securities account should include accrued interest.
b. accrued interest is debited to Interest Expense.
c. accrued interest is debited to Interest Revenue.
d. accrued interest is debited to Interest Receivable.

42. Which of the following is not generally correct about recording a sale of a debt security before maturity date?
a. Accrued interest will be received by the seller even though it is not an interest payment date.
b. An entry must be made to amortize a discount to the date of sale.
c. The entry to amortize a premium to the date of sale includes a credit to the Premium on Investments in Debt Securities.
d. A gain or loss on the sale is not extraordinary.

S43. When a company has acquired a "passive interest" in another corporation, the acquiring company should account for the investment
a. by using the equity method.
b. by using the fair value method.
c. by using the effective interest method.
d. by consolidation.

S44. Bista Corporation declares and distributes a cash dividend that is a result of current earnings. How will the receipt of those dividends affect the investment account of the investor under each of the following accounting methods?
Fair Value Method Equity Method
a. No Effect Decrease
b. Increase Decrease
c. No Effect No Effect
d. Decrease No Effect

P45. An investor has a long-term investment in stocks. Regular cash dividends received by the investor are recorded as
Fair Value Method Equity Method
a. Income Income
b. A reduction of the investment A reduction of the investment
c. Income A reduction of the investment
d. A reduction of the investment Income


46. When a company holds between 20% and 50% of the outstanding stock of an investee, which of the following statements applies?
a. The investor should always use the equity method to account for its investment.
b. The investor should use the equity method to account for its investment unless circum-stances indicate that it is unable to exercise "significant influence" over the investee.
c. The investor must use the fair value method unless it can clearly demonstrate the ability to exercise "significant influence" over the investee.
d. The investor should always use the fair value method to account for its investment.

47. If the parent company owns 90% of the subsidiary company's outstanding common stock, the company should generally account for the income of the subsidiary under the
a. cost method.
b. fair value method.
c. divesture method.
d. equity method.

48. Byner Corporation accounts for its investment in the common stock of Yount Company under the equity method. Byner Corporation should ordinarily record a cash dividend received from Yount as
a. a reduction of the carrying value of the investment.
b. additional paid-in capital.
c. an addition to the carrying value of the investment.
d. dividend income.

49. Under the equity method of accounting for investments, an investor recognizes its share of the earnings in the period in which the
a. investor sells the investment.
b. investee declares a dividend.
c. investee pays a dividend.
d. earnings are reported by the investee in its financial statements.

50. Dane, Inc., owns 35% of Marin Corporation. During the calendar year 2007, Marin had net earnings of $300,000 and paid dividends of $30,000. Dane mistakenly recorded these transactions using the fair value method rather than the equity method of accounting. What effect would this have on the investment account, net income, and retained earnings, respectively?
a. Understate, overstate, overstate
b. Overstate, understate, understate
c. Overstate, overstate, overstate
d. Understate, understate, understate

51. An unrealized holding loss on a company's available-for-sale securities should be reflected in the current financial statements as
a. an extraordinary item shown as a direct reduction from retained earnings.
b. a current loss resulting from holding securities.
c. a note or parenthetical disclosure only.
d. other comprehensive income and deducted in the equity section of the balance sheet.


52. An unrealized holding gain on a company's available-for-sale securities should be reflected in the current financial statements as
a. an extraordinary item shown as a direct increase to retained earnings.
b. a current gain resulting from holding securities.
c. a note or parenthetical disclosure only.
d. other comprehensive income and included in the equity section of the balance sheet.

53. A reclassification adjustment is reported in the
a. income statement as an Other Revenue or Expense.
b. stockholders’ equity section of the balance sheet.
c. statement of comprehensive income as other comprehensive income.
d. statement of stockholders’ equity.

54. When an investment in a held-to-maturity security is transferred to an available-for-sale security, the carrying value assigned to the available-for-sale security should be
a. its original cost.
b. its fair value at the date of the transfer.
c. the lower of its original cost or its fair value at the date of the transfer.
d. the higher of its original cost or its fair value at the date of the transfer.

55. When an investment in an available-for-sale security is transferred to trading because the company anticipates selling the stock in the near future, the carrying value assigned to the investment upon entering it in the trading portfolio should be
a. its original cost.
b. its fair value at the date of the transfer.
c. the higher of its original cost or its fair value at the date of the transfer.
d. the lower of its original cost or its fair value at the date of the transfer.

P56. A debt security is transferred from one category to another. Generally acceptable accounting principles require that for this particular reclassification (1) the security be transferred at fair value at the date of transfer, and (2) the unrealized gain or loss at the date of transfer currently carried as a separate component of stockholders' equity be amortized over the remaining life of the security. What type of transfer is being described?
a. Transfer from trading to available-for-sale
b. Transfer from available-for-sale to trading
c. Transfer from held-to-maturity to available-for-sale
d. Transfer from available-for-sale to held-to-maturity

*57. Companies that attempt to exploit inefficiencies in various derivative markets by attempting to lock in profits by simultaneously entering into transactions in two or more markets are called
a. arbitrageurs.
b. gamblers.
c. hedgers.
d. speculators.

*58. All of the following statements regarding accounting for derivatives are correct except that
a. they should be recognized in the financial statements as assets and liabilities.
b. they should be reported at fair value.
c. gains and losses resulting from speculation should be deferred.
d. gains and losses resulting from hedge transactions are reported in different ways, depending upon the type of hedge.
*59. All of the following are characteristics of a derivative financial instrument except the instrument
a. has one or more underlyings and an identified payment provision.
b. requires a large investment at the inception of the contract.
c. requires or permits net settlement.
d. All of these are characteristics.

*60. The accounting for fair value hedges records the derivative at its
a. amortized cost.
b. carrying value.
c. fair value.
d. historical cost.

*61. Gains or losses on cash flow hedges are
a. ignored completely.
b. recorded in equity, as part of other comprehensive income.
c. reported directly in net income.
d. reported directly in retained earnings.

*62. An option to convert a convertible bond into shares of common stock is a(n)
a. embedded derivative.
b. host security.
c. hybrid security.
d. fair value hedge.

*63. All of the following are requirements for disclosures related to financial instruments except
a. disclosing the fair value and related carrying value of the instruments.
b. distinguishing between financial instruments held or issued for purposes other than trading.
c. combining or netting the fair value of separate financial instruments.
d. displaying as a separate classification of other comprehensive income the net gain/loss on derivative instruments designated in cash flow hedges.




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Multiple Choice—Computational

64. On August 1, 2007, Witten Co. acquired 200, $1,000, 9% bonds at 97 plus accrued interest. The bonds were dated May 1, 2007, and mature on April 30, 2013, with interest paid each October 31 and April 30. The bonds will be added to Witten’s available-for-sale portfolio. The preferred entry to record the purchase of the bonds on August 1, 2007 is
a. Available-for-Sale Securities........................................ ......... 198,500
Cash.............................................. ............................. 198,500
b. Available-for-Sale Securities........................................ ......... 194,000
Interest Receivable........................................ ........................ 4,500
Cash.............................................. ............................. 198,500
c. Available-for-Sale Securities........................................ ......... 194,000
Interest Revenue........................................... ........................ 4,500
Cash.............................................. ............................. 198,500
d. Available-for-Sale Securities........................................ ......... 200,000
Interest Revenue........................................... ........................ 4,500
Discount on Debt Securities...................................... 6,000
Cash .................................................. ........................ 198,500

65. Barr Company purchased bonds with a face amount of $400,000 between interest payment dates. Barr purchased the bonds at 102, paid brokerage costs of $6,000, and paid accrued interest for three months of $10,000. The amount to record as the cost of this long-term investment in bonds is
a. $424,000.
b. $414,000.
c. $408,000.
d. $400,000.

Use the following information for questions 66 and 67.

Oliver Company purchased $400,000 of 10% bonds of McGee Co. on January 1, 2008, paying $376,100. The bonds mature January 1, 2018; interest is payable each July 1 and January 1. The discount of $23,900 provides an effective yield of 11%. Oliver Company uses the effective-interest method and plans to hold these bonds to maturity.

66. On July 1, 2008, Oliver Company should increase its Held-to-Maturity Debt Securities account for the McGee Co. bonds by
a. $2,392.
b. $1,371.
c. $1,196.
d. $686.

67. For the year ended December 31, 2008, Oliver Company should report interest revenue from the McGee Co. bonds of:
a. $42,392.
b. $41,409.
c. $41,368.
d. $40,000.


Use the following information for questions 68 and 69.
Marten Co. purchased $500,000 of 8%, 5-year bonds from Duggan, Inc. on January 1, 2008, with interest payable on July 1 and January 1. The bonds sold for $520,790 at an effective interest rate of 7%. Using the effective-interest method, Marten Co. decreased the Available-for-Sale Debt Securities account for the Duggan, Inc. bonds on July 1, 2008 and December 31, 2008 by the amortized premiums of $1,770 and $1,830, respectively.

68. At December 31, 2008, the fair value of the Duggan, Inc. bonds was $530,000. What should Marten Co. report as other comprehensive income and as a separate component of stockholders' equity?
a. $12,810.
b. $9,210.
c. $3,600.
d. No entry should be made.

69. At April 1, 2009, Marten Co. sold the Duggan bonds for $515,000. After accruing for interest, the carrying value of the Duggan bonds on April 1, 2009 was $516,875. Assuming Marten Co. has a portfolio of Available-for-Sale Debt Securities, what should Marten Co. report as a gain or loss on the bonds?
a. ($14,685).
b. ($10,935).
c. ($1,875).
d. $ 0.

70. On August 1, 2007, Bettis Company acquired $200,000 face value 10% bonds of Hanson Corporation at 104 plus accrued interest. The bonds were dated May 1, 2007, and mature on April 30, 2012, with interest payable each October 31 and April 30. The bonds will be held to maturity. What entry should Bettis make to record the purchase of the bonds on August 1, 2007?
a. Held-to-Maturity Securities........................................ ............ 208,000
Interest Revenue........................................... ........................ 5,000
Cash.............................................. ............................. 213,000
b. Held-to-Maturity Securities........................................ ............ 213,000
Cash.............................................. ............................. 213,000
c. Held-to-Maturity Securities........................................ ............ 213,000
Interest Revenue........................................... ............ 5,000
Cash.............................................. ............................. 208,000
d. Held-to-Maturity Securities........................................ ............ 200,000
Premium on Bonds............................................. ................... 13,000
Cash.............................................. ............................. 213,000

71. On October 1, 2007, Porter Co. purchased to hold to maturity, 1,000, $1,000, 9% bonds for $990,000 which includes $15,000 accrued interest. The bonds, which mature on February 1, 2016, pay interest semiannually on February 1 and August 1. Porter uses the straight-line method of amortization. The bonds should be reported in the December 31, 2007 balance sheet at a carrying value of
a. $975,000.
b. $975,750.
c. $990,000.
d. $990,250.
72. On November 1, 2007, Little Company purchased 600 of the $1,000 face value, 9% bonds of Player, Incorporated, for $632,000, which includes accrued interest of $9,000. The bonds, which mature on January 1, 2012, pay interest semiannually on March 1 and September 1. Assuming that Little uses the straight-line method of amortization and that the bonds are appropriately classified as available-for-sale, the net carrying value of the bonds should be shown on Little's December 31, 2007, balance sheet at
a. $600,000.
b. $623,000.
c. $622,080.
d. $632,000.

73. On November 1, 2007, Morton Co. purchased Gomez, Inc., 10-year, 9%, bonds with a face value of $250,000, for $225,000. An additional $7,500 was paid for the accrued interest. Interest is payable semiannually on January 1 and July 1. The bonds mature on July 1, 2014. Morton uses the straight-line method of amortization. Ignoring income taxes, the amount reported in Morton's 2007 income statement as a result of Morton's available-for-sale investment in Gomez was
a. $4,375.
b. $4,167.
c. $3,750.
d. $3,333.

74. On October 1, 2007, Lyman Co. purchased to hold to maturity, 200, $1,000, 9% bonds for $208,000. An additional $6,000 was paid for accrued interest. Interest is paid semiannually on December 1 and June 1 and the bonds mature on December 1, 2011. Lyman uses straight-line amortization. Ignoring income taxes, the amount reported in Lyman's 2007 income statement from this investment should be
a. $4,500.
b. $4,020.
c. $4,980.
d. $5,460.

75. During 2005, Plano Co. purchased 2,000, $1,000, 9% bonds. The carrying value of the bonds at December 31, 2007 was $1,960,000. The bonds mature on March 1, 2012, and pay interest on March 1 and September 1. Plano sells 1,000 bonds on September 1, 2008, for $988,000, after the interest has been received. Plano uses straight-line amortization. The gain on the sale is
a. $0.
b. $4,800.
c. $8,000.
d. $11,200.

76. Redman Company's trading securities portfolio which is appropriately included in current assets is as follows:
December 31, 2007
Fair Unrealized
Cost Value Gain (Loss)
Arlington Corp. 250,000 200,000 $(50,000)
Downs, Inc. 245,000 265,000 20,000
$495,000 $465,000 $(30,000)
Ignoring income taxes, what amount should be reported as a charge against income in Redman's 2007 income statement if 2007 is Redman's first year of operation?
a. $0.
b. $20,000.
c. $30,000.
d. $50,000.

77. On its December 31, 2006, balance sheet, Quinn Co. reported its investment in available-for-sale securities, which had cost $600,000, at fair value of $550,000. At December 31, 2007, the fair value of the securities was $585,000. What should Quinn report on its 2007 income statement as a result of the increase in fair value of the investments in 2007?
a. $0.
b. Unrealized loss of $15,000.
c. Realized gain of $35,000.
d. Unrealized gain of $35,000.

78. During 2007, Ellis Company purchased 20,000 shares of Hiller Corp. common stock for $315,000 as an available-for-sale investment. The fair value of these shares was $300,000 at December 31, 2007. Ellis sold all of the Hiller stock for $17 per share on December 3, 2008, incurring $14,000 in brokerage commissions. Ellis Company should report a realized gain on the sale of stock in 2008 of
a. $11,000.
b. $25,000.
c. $26,000.
d. $40,000.

Use the following information for questions 79 and 80.

On its December 31, 2007 balance sheet, Klugman Company appropriately reported a $10,000 debit balance in its Securities Fair Value Adjustment (Available-for-Sale) account. There was no change during 2008 in the composition of Klugman’s portfolio of marketable equity securities held as available-for-sale securities. The following information pertains to that portfolio:
Security Cost Fair value at 12/31/08
X $125,000 $160,000
Y 100,000 95,000
Z 175,000 125,000
$400,000 $380,000

79. What amount of unrealized loss on these securities should be included in Klugman's stockholders' equity section of the balance sheet at December 31, 2008?
a. $30,000.
b. $20,000.
c. $10,000.
d. $0.

80. The amount of unrealized loss to appear as a component of comprehensive income for the year ending December 31, 2008 is
a. $30,000.
b. $20,000.
c. $10,000.
d. $0.
81. Kennett Corporation purchased 25,000 shares of common stock of the Swenson Corporation for $40 per share on January 2, 2008. Swenson Corporation had 100,000 shares of common stock outstanding during 2008, paid cash dividends of $60,000 during 2008, and reported net income of $200,000 for 2008. Kennett Corporation should report revenue from investment for 2008 in the amount of
a. $15,000.
b. $35,000.
c. $50,000.
d. $55,000.

Use the following information for questions 82 and 83.

Garrison Co. owns 20,000 of the 50,000 outstanding shares of Steele, Inc. common stock. During 2008, Steele earns $800,000 and pays cash dividends of $640,000.

82. If the beginning balance in the investment account was $500,000, the balance at December 31, 2008 should be
a. $820,000.
b. $660,000.
c. $564,000.
d. $500,000.

83. Garrison should report investment revenue for 2008 of
a. $320,000.
b. $256,000.
c. $64,000.
d. $0.

Use the following information for questions 84 through 87.

The summarized balance sheets of Elston Company and Alley Company as of December 31, 2007 are as follows:
Elston Company
Balance Sheet
December 31, 2007
Assets $1,200,000

Liabilities $ 150,000
Capital stock 600,000
Retained earnings 450,000
Total equities $1,200,000
Alley Company
Balance Sheet
December 31, 2007
Assets $900,000

Liabilities $225,000
Capital stock 555,000
Retained earnings 120,000
Total equities $900,000


84. If Elston Company acquired a 20% interest in Alley Company on December 31, 2007 for $195,000 and the fair value method of accounting for the investment were used, the amount of the debit to Investment in Alley Company Stock would have been
a. $135,000.
b. $111,000.
c. $195,000.
d. $180,000.

85. If Elston Company acquired a 30% interest in Alley Company on December 31, 2007 for $225,000 and the equity method of accounting for the investment were used, the amount of the debit to Investment in Alley Company Stock would have been
a. $285,000.
b. $225,000.
c. $180,000.
d. $202,500.

86. If Elston Company acquired a 20% interest in Alley Company on December 31, 2006 for $135,000 and during 2008 Alley Company had net income of $75,000 and paid a cash dividend of $30,000, applying the fair value method would give a debit balance in the Investment in Alley Company Stock account at the end of 2008 of
a. $111,000.
b. $135,000.
c. $150,000.
d. $144,000.

87. If Elston Company acquired a 30% interest in Alley Company on December 31, 2007 for $202,500 and during 2008 Alley Company had net income of $75,000 and paid a cash dividend of $30,000, applying the equity method would give a debit balance in the Investment in Alley Company Stock account at the end of 2008 of
a. $202,500.
b. $216,000.
c. $225,000.
d. $217,500.

Use the following information for questions 88 and 89.
Karter Company purchased 200 of the 1,000 outstanding shares of Flynn Company's common stock for $300,000 on January 2, 2007. During 2007, Flynn Company declared dividends of $50,000 and reported earnings for the year of $200,000.

88. If Karter Company used the fair value method of accounting for its investment in Flynn Company, its Investment in Flynn Company account on December 31, 2007 should be
a. $290,000.
b. $330,000.
c. $300,000.
d. $340,000.

89. If Karter Company uses the equity method of accounting for its investment in Flynn Company, its Investment in Flynn Company account at December 31, 2007 should be
a. $290,000.
b. $300,000.
c. $330,000.
d. $340,000.
Use the following information for questions 90 and 91.

Barry Corporation earns $240,000 and pays cash dividends of $80,000 during 2007. Glenon Corporation owns 3,000 of the 10,000 outstanding shares of Barry.

90. What amount should Glenon show in the investment account at December 31, 2007 if the beginning of the year balance in the account was $320,000?
a. $392,000.
b. $320,000.
c. $368,000.
d. $480,000.

91. How much investment income should Glenon report in 2007?
a. $80,000.
b. $72,000.
c. $48,000.
d. $240,000.

92. Young Co. acquired a 60% interest in Tomlin Corp. on December 31, 2006 for $945,000. During 2007, Tomlin had net income of $600,000 and paid cash dividends of $150,000. At December 31, 2007, the balance in the investment account should be
a. $945,000.
b. $1,305,000.
c. $1,215,000.
d. $1,395,000.

Use the following information for questions 93 and 94.

Stone Co. owns 4,000 of the 10,000 outstanding shares of Maye Corp. common stock. During 2007, Maye earns $120,000 and pays cash dividends of $40,000.

93. If the beginning balance in the investment account was $240,000, the balance at December 31, 2007 should be
a. $240,000.
b. $272,000.
c. $288,000.
d. $320,000.

94. Stone should report investment revenue for 2007 of
a. $16,000.
b. $32,000.
c. $40,000.
d. $48,000.

95. The following information relates to Vernon Company for 2007:
Realized gain on sale of available-for-sale securities $15,000
Unrealized holding gains arising during the period on
available-for-sale securities 35,000
Reclassification adjustment for gains included in net income 10,000

Vernon’s 2007 other comprehensive income is
a. $25,000.
b. $40,000.
c. $50,000.
d. $60,000.



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Exercises

Ex. 17-105—Investment in debt securities at premium.
On April 1, 2007, Sean Co. purchased $160,000 of 6% bonds for $166,300 plus accrued interest as an available-for-sale security. Interest is paid on July 1 and January 1 and the bonds mature on July 1, 2012.

Instructions
(a) Prepare the journal entry on April 1, 2007.
(b) The bonds are sold on November 1, 2008 at 103 plus accrued interest. Amortization was recorded when interest was received by the straight-line method (by months and round to the nearest dollar). Prepare all entries required to properly record the sale.



Solution 17-105

(a) Available-for-Sale Securities........................................ .................... 166,300
Interest Revenue ($160,000 × .06 × 1/4)......................................... 2,400
Cash.............................................. ...................................... 168,700

(b) Interest Revenue ($6,300 × 4 ÷ 63)............................................... .. 400
Available-for-Sale Securities........................................ ...... 400

Cash ($160,000 × .06 × 1/3)................................................ ............ 3,200
Interest Revenue........................................... ..................... 3,200

Cash.............................................. .................................................. . 164,800
Gain on Sale of Securities........................................ .......... 400
Available-for-Sale Securities ............................................. 164,400
$166,300 – [($6,300 ÷ 63) × 19]



Ex. 17-106—Investment in debt securities at a discount.
On May 1, 2007, Gipson Corp. purchased $450,000 of 12% bonds, interest payable on January 1 and July 1, for $422,800 plus accrued interest. The bonds mature on January 1, 2013. Amortization is recorded when interest is received by the straight-line method (by months and round to the nearest dollar). (Assume bonds are available for sale.)

Instructions
(a) Prepare the entry for May 1, 2007.
(b) The bonds are sold on August 1, 2008 for $425,000 plus accrued interest. Prepare all entries required to properly record the sale.




Solution 17-106

(a) Available-for-Sale Securities........................................ .................. 422,800
Interest Revenue ($450,000 × .12 × 4/12)..................................... 18,000
Cash.............................................. ...................................... 440,800

(b) Available-for-Sale Securities ($27,200 ÷ 68 × 1)........................... 400
Interest Revenue........................................... ..................... 400

Cash ($450,000 × .12 × 1/12)............................................... .......... 4,500
Interest Revenue........................................... ..................... 4,500

Cash.............................................. .................................................. 425,000
Loss on Sale of Securities........................................ ...................... 3,800
Available-for-Sale Securities........................................ ...... 428,800
$422,800 + [($27,200 ÷ 68) ´ 15]



Ex. 17-107—Investments in equity securities.
Presented below are unrelated cases involving investments in equity securities.

Case I. The fair value of the trading securities at the end of last year was 30% below original cost, and this was properly reflected in the accounts. At the end of the current year, the fair value has increased to 20% above cost.

Case II. The fair value of an available-for-sale security has declined to less than forty percent of the original cost. The decline in value is considered to be other than temporary.

Case III. An equity security, whose fair value is now less than cost, is classified as trading but is reclassified as available-for-sale.

Instructions
Indicate the accounting required for each case separately.



Solution 17-107

Case I. At the end of last year, the company would have recognized an unrealized holding loss and recorded a Securities Fair Value Adjustment (Trading). At the end of the current year, the company would record an unrealized holding gain that would be reported in the other revenue and gains section. The adjustment account would now have a debit balance.

Case II. When the decline in value is considered to be other than temporary, the loss should be recognized as if it were realized and earnings will be reduced. The fair value becomes a new cost basis.

Case III. The security is transferred at fair value, which is the new cost basis of the security. The Available-for-Sale Securities account is recorded at fair value, and the Unrealized Holding Loss—Income account is debited for the unrealized loss. The Trading Securities account is credited for cost.


Ex. 17-108—Investment in equity securities.
Watt Corp. acquired a 25% interest in Sauer Co. on January 1, 2007, for $500,000. At that time, Sauer had 1,000,000 shares of its $1 par common stock issued and outstanding. During 2007, Sauer paid cash dividends of $160,000 and thereafter declared and issued a 5% common stock dividend when the market value was $2 per share. Sauer's net income for 2007 was $360,000. What is the balance in Watt’s investment account at the end of 2007?


Solution 17-108

Cost $500,000
Share of net income (.25 × $360,000) 90,000
Share of dividends (.25 × $160,000) (40,000)
Balance in investment account $550,000



Ex. 17-109—Fair value and equity methods. (Essay)
Compare the fair value and equity methods of accounting for investments in stocks subsequent to acquisition.



Solution 17-109

Under the fair value method, investments are originally recorded at cost and are reported at fair value. Dividends are reported as other revenues and gains. Under the equity method, investments are originally recorded at cost. Subsequently, the investment account is adjusted for the investor's share of the investee's net income or loss and this amount is recognized in the income of the investor. Dividends received from the investee are reductions in the investment account.








PROBLEMS

Pr. 17-114—Trading equity securities.
Gordon Company has the following securities in its portfolio of trading equity securities on December 31, 2007:
Cost Fair Value
5,000 shares of Milner Corp., Common $155,000 $139,000
10,000 shares of Eddy, Common 182,000 190,000
$337,000 $329,000

All of the securities had been purchased in 2007. In 2008, Gordon completed the following securities transactions:
March 1 Sold 5,000 shares of Milner Corp., Common @ $31 less fees of $1,500.
April 1 Bought 600 shares of Yount Stores, Common @ $45 plus fees of $550.
The Gordon Company portfolio of trading equity securities appeared as follows on December 31, 2008:

Cost Fair Value
10,000 shares of Eddy, Common $182,000 $195,500
600 shares of Yount Stores, Common 27,550 25,500
$209,550 $221,000

Instructions
Prepare the general journal entries for Gordon Company for:
(a) the 2007 adjusting entry.
(b) the sale of the Milner Corp. stock.
(c) the purchase of the Yount Stores' stock.
(d) the 2008 adjusting entry.


Solution 17-114

(a) 12-31-07
Unrealized Holding Gain or Loss—Income.................................... 8,000
Securities Fair Value Adjustment (Trading)........................ 8,000
($337,000 – $329,000)

(b) 3-1-08
Cash [(5,000 ´ $31) – $1,500].................................................. ...... 153,500
Loss on Sale of Securities........................................ ...................... 1,500
Trading Securities........................................ ....................... 155,000

(c) 4-1-08
Trading Securities........................................ ................................... 27,550
Cash [(600 ´ $45) + $550].................................................. 27,550

(d) 12-31-08
Securities Fair Value Adjustment (Trading).................................... 19,450
Unrealized Holding Gain or Loss—Income........................ 19,450



Pr. 17-115—Trading equity securities.
Lopez Company began operations in 2006. Since then, it has reported the following gains and losses for its investments in trading securities on the income statement:

2006 2007 2008
Gains (losses) from sale of trading securities $ 15,000 $(20,000) $ 14,000
Unrealized holding losses on valuation of trading securities (25,000) — (30,000)
Unrealized holding gain on valuation of trading securities — 10,000 —

At January 1, 2009, Lopez owned the following trading securities:
Cost
AGH Common (15,000 shares) $450,000
DEL Preferred (2,000 shares) 210,000
Pratt Convertible bonds (100 bonds) 115,000


During 2009, the following events occurred:
1. Sold 5,000 shares of AGH for $170,000.
2. Acquired 1,000 shares of Norton Common for $40 per share. Brokerage commissions totaled $1,000.

At 12/31/09, the fair values for Lopez's trading securities were:
AGH Common, $28 per share
DEL Preferred, $110 per share
Pratt Bonds, $1,020 per bond
Norton Common, $42 per share

Instructions
(a) Prepare a schedule which shows the balance in the Securities Fair Value Adjustment (Trading) at December 31, 2008 (after the adjusting entry for 2008 is made).
(b) Prepare a schedule which shows the aggregate cost and fair values for Lopez's trading securities portfolio at 12/31/09.
(c) Prepare the necessary adjusting entry based upon your analysis in (b) above.



Solution 17-115

(a) Balance 12/31/06 (result of that year's adjusting entry) $(25,000)
Deduct unrealized gain for 2007 10,000
Add: Unrealized loss for 2008 (30,000)
Balance at 12/31/08 $(45,000)

(b) Aggregate cost and fair value for trading securities at 12/31/09:
Cost Fair Value
AGH Common 10,000 shares $300,000 $280,000
DEL Preferred 2,000 shares 210,000 220,000
Norton Common, 1,000 shares 41,000 42,000
Pratt Bonds, 100 bonds 115,000 102,000
Total $666,000 $644,000

(c) Adjusting entry at 12/31/09:
Securities Fair Value Adjustment (Trading).................................... 23,000
Unrealized Holding Gain or Loss—Income........................ 23,000
(Balance at 1/1/09 $45,000
Balance needed at 12/31/09 22,000
Recovery $23,000)




Pr. 17-116—Available-for-sale equity securities.
During the course of your examination of the financial statements of Simpson Corporation for the year ended December 31, 2007, you found a new account, "Investments." Your examination revealed that during 2007, Simpson began a program of investments, and all investment-related transactions were entered in this account. Your analysis of this account for 2007 follows:
Simpson Corporation
Analysis of Investments
For the Year Ended December 31, 2007
Date—2007 Debit Credit
(a)
Pinson Company Common Stock
Feb. 14 Purchased 4,000 shares @ $55 per share. $220,000
July 26 Received 400 shares of Pinson Company common stock
as a stock dividend. (Memorandum entry in general ledger.)
Sept. 28 Sold the 400 shares of Pinson Company common stock
received July 26 @ $70 per share. $28,000
(b)
Debit Credit
Watts Inc., Common Stock
Apr. 30 Purchased 20,000 shares @ $40 per share. $800,000
Oct. 28 Received dividend of $1.20 per share. $24,000

Additional information:
1. The fair value for each security as of the 2007 date of each transaction follow:
Security Feb. 14 Apr. 30 July 26 Sept. 28 Dec. 31
Pinson Co. $55 $62 $70 $74
Watts Inc. $40 32
Simpson Corp. 25 28 30 33 35

2. All of the investments of Simpson are nominal in respect to percentage of ownership (5% or less).

3. Each investment is considered by Simpson’s management to be available-for-sale.

Instructions
(1) Prepare any necessary correcting journal entries related to investments (a) and (b).
(2) Prepare the entry, if necessary, to record the proper valuation of the available-for-sale equity security portfolio as of December 31, 2007.



Solution 17-116

(1) (a) Pinson — original purchase 4,000 shares
stock dividend 400 shares
total holding 4,400 shares

Total cost of $220,000 ÷ Total shares of 4,400 = $50 cost per share

Solution 17-116 (cont.)

Sold 100 shares
Correct entry:
Cash (400 × $70).............................................. ........................... 28,000
Available-for-Sale Securities........................................ ... 20,000
Gain on Sale of Securities........................................ ....... 8,000

Entry made:
Cash.............................................. ............................................... 28,000
Available-for-Sale Securities........................................ ... 28,000

Correction:
Available-for-Sale Securities........................................ ............... 8,000
Gain on Sale of Securities........................................ ....... 8,000

(b) Watts—should record cash dividend as dividend income.

Correct entry:
Cash.............................................. ............................................... 24,000
Dividend Revenue........................................... ................ 24,000

Entry made:
Cash.............................................. ............................................... 24,000
Available-for-Sale Securities........................................ ... 24,000

Correction:
Available-for-Sale Securities........................................ ............... 24,000
Dividend Revenue........................................... ................ 24,000
(To properly record dividends under fair value
method)

(2) Valuation at End of Year:
Increase
Quantity Cost Fair Value (Decrease)
Pinson 4,000 shares $ 200,000 $296,000 $ 96,000
Watts 20,000 shares 800,000 640,000 (160,000)
$1,000,000 $936,000 $ 64,000

Year-end Adjustment:
Securities Fair Value Adjustment (Available-for-Sale)...................... 64,000
Unrealized Holding Gain or Loss—Equity.......................... 64,000
 
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