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Flashcards in FAR 18 - No Significant Influence Deck (40):
1

On January 2, 2004, Adam Co. purchased, as a long-term investment, 10,000 shares of Mill Corp.'s common stock for $40 a share.

On December 31, 2004, the market price of Mill's stock was $35 a share, reflecting a temporary decline in market price. On December 28, 2005, Adam sold 8,000 shares of Mill stock for $30 a share.

For the year ended December 31, 2005, Adam should report a loss on disposal of long-term investment of:

$80,000
The realized loss on the sale of available-for-sale securities is the decline in market value since the acquisition of the securities sold. The $80,000 loss equals 8,000($40-$30). The loss to the beginning of 2005 is unrealized and recorded in owners' equity.

2

On July 1, 2004, York Co. purchased, as a held-to-maturity investment, $1,000,000 of Park, Inc.'s 8% bonds for $946,000, including accrued interest of $40,000.

The bonds were purchased to yield 10% interest. The bonds mature on January 1, 2011 and pay interest annually on January 1. York uses the effective interest method of amortization.

In its December 31, 2004 Balance Sheet, what amount should York report as investment in bonds?
A. $911,300
B. $916,600
C. $953,300
D. $960,600

A. Initial investment cost: $946,000-$40,000 =
$906,000
Interest revenue for 2004: $906,000(.10)(1/2 year) = $45,300
Less cash interest for 6 months: $1,000,000(.08)(1/2) = (40,000)
Equals amortization of discount (increases investment)
5,300
Investment in bonds balance at the end of 2004
$911,300

The initial investment cost or balance excludes accrued interest. The bonds were purchased at the halfway point in the interest period. York must pay for 1/2 a year's interest, and will receive a full year's interest on January 1, 2005. The interest revenue for the year is based on the effective yield of 10%. The difference between interest revenue and the cash interest earned for the second half of 2004 is the growth in the value of the bond over time.

The book value of the bond investment at maturity will be $1,000,000. Thus, the discount amortization increases the investment carrying value each year until it reaches $1,000,000.

3

A security that has unrealized gains and losses recognized in owners' equity is a (an):

AFS - available-for-sale
Securities available for sale are held for purposes other than short-term price appreciation.
Only realized gains would be recognized in NI.

4

In year 1, a company reported in other comprehensive income an unrealized holding loss on an investment in available-for-sale securities. During year 2, these securities were sold at a loss equal to the unrealized loss previously recognized. The reclassification adjustment should include which of the following?
A. The unrealized loss should be credited to the investment account.
B. The unrealized loss should be credited to the other comprehensive income account.
C. The unrealized loss should be debited to the other comprehensive income account.
D. The unrealized loss should be credited to beginning retained earnings.

B. The unrealized loss would be credited to the other comprehensive income account to reclassify the holding loss as a realized loss in the income statement for year 2. For purposes of illustration, assume the available for sale (AFS) securities were originally purchased for $5 and that the loss during year 1 was $1. The related entries would be:

Purchase: DR. AFS Securities $5
CR. Cash $5
Year 1 End: DR. OCI (holding loss) $1
CR. AFS Securities $1
Year 2: DR. Cash $4
CR. AFS Securities $4
DR. Loss on AFS Securities $1 (Income Statement)
CR. OCI (holding loss) $1 (B/S, Accumulated OCI)

The last entry (above) reclassifies the holding loss to recognize a realized loss on sale

5

In 2003, Lee Co. acquired, at a premium, Enfield, Inc. 10-year bonds as a held-to-maturity investment. At December 31, 2004, Enfield's bonds were quoted at a small discount.

Which of the following situations is the most likely cause of the decline in the bonds' market value?
A. Enfield issued a stock dividend.
B. Enfield is expected to call the bonds at a premium, which is less than Lee's carrying amount.
C. Interest rates have declined since Lee purchased the bonds.
D. Interest rates have increased since Lee purchased the bonds.

D. Bond prices and interest rate changes are inversely related. When bond prices increase, the market value of fixed income investments, such as bonds decreases, because now there are better opportunities on the market.

6

What is a security that is held for short-term price appreciation; when it's value increases or decreases, that gain or loss should be recognized in earnings?

Held-for-trading securities
consistent with the purpose for holding the investments

7

In open-market transactions, Oak Corp. simultaneously sold its investment in Maple Corp. bonds (held as securities available-for-sale) and purchased its own outstanding bonds.

The broker remitted the net cash from the two transactions. Oak's gain on the purchase of its own bonds exceeded its loss on the sale of Maple's bonds.

Oak should report the:
A. Net effect of the two transactions as an ordinary gain.
B. Gain and loss separately in income from continuing operations.
C. Gain and loss as separate extraordinary items.
D. Net effect of the two transactions as an extraordinary gain.

B. The gain and loss arise from completely different transactions and should be reported separately. Neither is extraordinary.

8

Jent Corp. purchased bonds at a discount of $10,000. Jent classified the bonds as available-for-sale and subsequently sold them at a premium of $14,000. At the time of the sale, $2,000 of the discount had been amortized.

What amount should Jent report as gain on the sale of bonds?
A. $12,000
B. $22,000
C. $24,000
D. $26,000

B. The book value at the date of sale was $8,000 below face value ($10,000 original discount-$2,000 amortization). The market value of the bonds at date of sale was $14,000 above face value ($14,000 premium). Thus, the difference between the price of the bonds at sale and the book value was $22,000 ($8,000 + $14,000). That difference is the gain on sale.

9

When the fair value of an investment in debt securities exceeds its carrying amount, how should each of the following assets be reported at the end of the year?
Held-to-maturity securities Available-for-sale securities
Fair value Carrying amount
Carrying amount Fair value
Carrying amount Carrying amount
Fair Value Fair Value

HTM: Carrying amount AFS: Fair value
Securities classified as held-to-maturity are reported at amortized cost, which is the carrying amount of the securities. Further, securities classified as available-for-sale are reported at fair value.

10

On both December 31, 2003 and December 31, 2004, Kopp Co.'s only marketable equity security had the same market value, which was below cost.

Kopp considered the decline in value to be temporary in 2003 but other than temporary in 2004. At the end of both years, the security was classified as a noncurrent available-for-sale investment.

What should be the effects of the determination that the decline was other than temporary on Kopp's 2004 net noncurrent assets and net income?
A. No effect on both net noncurrent assets and net income.
B. No effect on net noncurrent assets and decrease in net income.
C. Decrease in net noncurrent assets and no effect on net income.
D. Decrease in both net noncurrent assets and net income.

B. A permanent decline in the value of an available-for-sale security is recognized as a loss in the Income Statement (whereas nonpermanent declines are treated as reductions in owners' equity).

The security did not change in value during 2004 because the market value had not changed, thus there is no further reduction in assets. The owners' equity account would be reclassified as a loss account; thus, only income is decreased.

11

T/F: Equity securities have a maturity date.

False

12

T/F: The assets "Investments Available-for-Sale" may appear in either the Current Assets or the Non-Current Assets section of the balance sheet.

True

13

T/F: The proceeds from the sale of investments classified as available-for-sale should be classified in the Cash Flows from Investing Activities section of the Statement of Cash Flows.

True

14

T/F: The classification of investments as available-for-sale applies only to investments in equity securities.

False.
AFS can be either Debt or Equity securities

15

T/F: Investment classified as held-to-maturity should be reported at amortized cost.

True

16

T/F: If at the balance sheet date the fair value of investments held-for-trading is greater than the book (carrying) value, the resulting holding gain has been realized.

False
Held-for-trading investments must be adjusted to fair value at the BS date. Any unrealized G/L are included in earnings in the period they occur.
Recognize (realized) G/L at date of sale, if any, as difference between sales price and carrying value of investments sold.

17

T/F: The asset "Investments Held-to-Maturity" may appear only in the noncurrent asset section of the balance sheet.

False.
On the BS, it will appear as current - if maturity is within one year; or noncurrent - if maturity is not within one year.

18

T/F: The recorded cost of an investment includes brokerage fees incurred to acquire the securities.

True

19

T/F: In order for an investment to be classified as held-to-maturity, the investor must have both the positive intent and the financial ability to hold the security until it matures.

True

20

T/F: The cost of purchasing investments held-for-trading should be shown as a use of cash in the Cash Flows from Investing Activities section of the Statement of Cash Flows.

False
On the Statement of Cash Flows, held-for-trading securities will be shown in the Operating Activities.

21

When investments are transferred between classifications, which one of the following valuation basis is most likely to be used when recording the investment in the new classification?
A. Historic cost.
B. Amortized cost.
C. Prior carrying value.
D. Fair market value.

D. Fair market value is the valuation basis used when investments are transferred between classifications. Conceptually, the existing carrying value is written off and the current fair value is written on in the new classification, with any difference being an unrealized gain or loss.

22

Sun Corp. had investments in marketable equity securities costing $650,000. On June 30, 20x2, Sun decided to hold the investments indefinitely and, accordingly, reclassified them from held-for-trading to available-for-sale on that date. The investments' market value was $575,000 at December 31, 20x1, $530,000 at June 30, 20x2, and $490,000 at December 31, 20x2.

What amount should Sun report as net unrealized loss on noncurrent marketable equity securities in its 20x2 statement of stockholders' equity?

$40,000
The securities were classified as available-for-sale at June 30, 20x2. The decline in market value from that date to December 31, 20x2 is $40,000 ($530,000-$490,000).

That amount is reported in owners' equity because holding gains and losses on securities available-for-sale are not recognized in earnings.

23

In which of the following cases would an unrealized gain or loss on the transfer of an investment (which does not give the investor significant influence) from one classification to another classification not be recognized in current net income?
A. Transfer from held-to-maturity to trading.
B. Transfer from held-to-maturity to available-for-sale.
C. Transfer from trading to held-to-maturity.
D. Transfer from trading to available-for-sale.

B. A transfer of an investment from held-to-maturity to available-for-sale would result in writing off the unamortized cost in the held-to-maturity classification and writing on the investment at fair value in the available-for-sale classification, with any difference being an unrealized gain or loss recognized in comprehensive income, not in current net income.

24

T/F: If an investment classified as held-to-maturity is reclassified to available-for-sale, a holding gain or loss may be recognized.

True
An unrealized G/L is recorded in AOCI.

25

T/F: Equity securities classified as available-for-sale can be reclassified to held-to-maturity.

False.
Only Debt securities classified as AFS can be reclassified to HTM.

26

T/F: If a parent uses the cost method on its books to carry a subsidiary, under normal circumstances the carrying amount of the investment in the subsidiary will change each operating period.

False.
The cost method is permitted if the investor cannot exert significant influence over the investee and there is no readily determinable fair value of the investment.
After initial recording, no further adjustments or changes are required, unless: the fair market value of investment has a permanent decline, or there is a liquidating dividend.

27

T/F: If a parent uses the equity method on its books to carry a subsidiary, under normal circumstances the carrying amount of the investment in the subsidiary will change each operating period.

True.

28

T/F: An investment in equity securities which do not have a readily determinable fair value and for which there is no evidence of loss in value should be reported at cost.

True.

29

Under IFRS, which of the following statements is correct (if any)?
I. Only investments in debt securities may be transferred between categories.

II. When investments are transferred between categories, financial statements of prior periods presented for comparative purposes must not be restated.

I only.
Only investments in debt securities may be transferred between categories; equity securities may not be transferred between categories (Statement I). When investments are transferred between categories, financial statements of prior periods presented for comparative purposes must be restated (Statement II).

30

Under IFRS, how is an investment that meets the conditions of debt instrument measured?

At amortized cost.

All other investments, including debt instruments not measured at amortized cost and all equity instruments and derivative instruments are measured at fair value.

31

Which of the following are possible ways that gains or losses on changes in the fair value of investments in equity securities may be reported under IFRS requirements?
In profit/loss (Income Statement)
In other comprehensive income

Both. Under IFRS, changes in fair value may be reported in profit/loss or in other comprehensive income, depending on whether or not the investment is held for trading purposes or not. If an investment in equity securities is held-for-trading purposes (i.e., to make a profit on price appreciation), changes in fair value will be reported through profit/loss. If an investment in equity securities is not held-for-trading purposes, the investor may elect to report changes in fair value through other comprehensive income.

32

Which, if any, of the following characteristics concerning the categories of investments under IFRS No. 9 is/are correct?
I. There is a single category for debt investments and a single category for equity investments.

II. The business model test used in evaluating debt instruments for classification purposes is concerned with the investor's intent.

II only.
The business model test used in evaluating debt instruments for classification purposes is concerned with the investor's intent. Specifically, did the investor make the investment to collect cash flows from interest and return of principal, rather than to make a profit on sale of the investment (Statement II)? While there is a single category for equity investments (at fair value), there are two categories for debt investments (at amortized cost and at fair value) (Statement I).

33

Which, if any, of the following transfers between categories is possible under IFRS No. 9 for investments in debt securities?
Amortized cost to fair value
Fair value to amortized cost

Both.
Under IFRS No. 9, investments in debt securities may be (1) transferred from amortized cost (when the investment originally meets both the business model test and the cash flow characteristic test) to fair value when the investment fails to continue to meet both the business model test and the cash flow characteristic test and (2) transferred from fair value to amortized cost when an investment that originally fails to meet both the business model test and the cash flow characteristic test subsequently meets both tests.

34

T/F: Under IFRS No. 9, all changes in the fair value of investments in equity securities must be reported through profit or loss.

False.
If the investor does not hold an equity investment for trading purposes, it may elect to report changes in fair value through OCI.

35

T/F: Under IFRS No. 9, investments in equity securities that have no ready market should be accounted for at cost.

False.
All investments in equity are measured and reported at fair value. Even investments in equity securities with no ready market must be reported at fair value. Cost, however, can be the best estimate of fair value.

36

T/F: When a debt investment is an element of an accounting mismatch, under IFRS No. 9, the investor may elect to measure the investment at fair value if that would significantly reduce the mismatch.

True

37

T/F: In order to classify an investment as debt at amortized cost under IFRS No. 9, an entity must hold the investment solely to collect cash flows.

True

38

T/F: Gains and losses on the sale of investments, measured at amortize cost, must be separately reported on the face of financial statements.

True

39

T/F: Under IFRS No. 9, investments in debt securities can be transferred from the amortized cost category to the fair value category.

True

40

What are the three categories of investments?

1. Held-to-maturity
2. Available-for-sale
3. Trading

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