Lec 5 &6 Flashcards
(26 cards)
Other comprehensive income
Financial a/l are a or l, but gains / losses on these instruments are accounted in I/S (realised) it OCI (unrealised)
Part of shareholders equity:
Common stock and premium
Retained earnings
Other comprehensive income
OCI included transactions that bypass the income statements but affect A/L
Comprehensive income = net inclement - oci
Financial asset
Financial asset is a financial instrument that meets the criteria for asset definition and recognition
Financial instrument
Financial instrument is a contact between 2 parties where party a has a financial asset and party b had a financial liability or equity instrument
Financial liability is a contractual obligation to pay cash or deliver financial asset to another entity
Equity instrument is a contact for residual interest
2 categories financial assets are clarified
- Business model test - why the asset is held?
- Hold the asset (I.e. collect contractual CF) or sell the FA?
Contractual terms if the FA are solely payments of principal + interests on the amount outstanding and nothing else
Measured at :
Amortised cost or fair value
Measurement of financial asset
2 ways:
AmortiSed cost: debt; hold the asset + solely principal and interests (e.g. loans)
Equity ; X ( equity Instruments do not have maturity or interests and principal schedule)
Fair Value: Debt: sell the asset (eg corporate public bonds)
Equity: more reasonable
Equity financial instruments
Ownership interests in other companies
Degree of % acquisition determines accounting treatment
% of ownership
Level of influence 0-20 = little or none (Fair Value)
20-50= significant (Equity method)
50-100 = control (consolidation)
I’m
Equity financial instruments - equity holdings of <20%
Ifrs presumes equity FA are held for trading
So initial recognition: FV= exit price (transaction price)
Subsequent measurement: all unrealised changes in FV are recognised in pl
Dividends and realised gains / losses
If equity FA re held to maturity (long time) or are available for sale (not trading)
Intial recognition is fv = exit price (transaction price)
Subsequent measurement: all unrealised changes in fv are recognised in the OCI
Examples of equity holdings <20%
With respect to trading securities, Sony recorded net unrealised losses of 10,768 for the year ended March 31 2011. Net unrealised gains of 21216 for 31 March 2012 and net unrealised gains of 72783 for March 31 2013
March 32,2011
Unrealised gains and losses (NI -) 10768
Financial assets at FVTPL (CA-) 10768
March 31,2012
Financial assets at FVTPL (CA+) 21216
I realised gains + lossses (NI+). 21216
Examples of equity holdings <20%
On dec 10,2019 a purchased 1000 shares at 20.75 a share. The investment represents <20% interest,/ bid is thought to be kept in the long run.
Dec 10,2019
Financial assets at FVTOCI (CA+) 20750
Cash (CA-). 20750
U
Equity holdings <20%
On dec 27, 2019 a receives a cash dividend of 450
On dec 31,2019’ Non trad equipment A - carrying value = 20750 Fair value = 24000 Unrealised gains = 3250
Dec 27, 2019
Cash (CA+). 450
Div revenue. 450
Dec 10,2019
Financial assets at FVTOCI (CA+) 3250
Un realised gains & losses (OCI+). 3250
Final outstanding balance for A
Sofp:
Investments:
Equity instruments 24000
Equity
Accum other comp gain. 3250
Statement of comp income
Other income and expenses 450
Other comprehensive income
Unrealising holding gain 3250
If equity holdings between 20-50%
Investor does not losses legal control >50% but has significant influence
Account for equity fa using equity method:
Initial recognition: acquisition price
Subsequent measurwmnt: adjust carrying amount by the ownership of investees net income
Div received - decreases carrying amount (less ni)
If investes losses > carrying amount - not recognise add losses
Examples of how to use FV method and Equity method:
- Company acquired 48000 shares (20% of A’s shares) at cost of 10 a share
- Company reported 200k income, a share is 20%
- Company’s 48,000 shares have a fv price of 12 a share
- Company announced and paid a cash dividend of 100,000, company received 20%
- Company reported loss of 50,000, company has 20%
- Company’s 48,000 shares have fv value of 11 a share
- Fv and eq =
Equity investments 480,000
Cash 480,000 - Fv = no entry
Equity method: eq investments =40,000
Investments income. 40,000 - Fv=
Fv adjustment =96,000
Unrealised holding gain 96,000
Equity method = no entry
- Fv=
Cash 20,000
Div revenue. 20,000
Equity method:
Cash 20,000
Equity investment. 20,000
- fV = no entry
Equity method: investment loss: 10000
Equity investments:10,000
6. Fv= unrealised gains 48,000 Fv adjustment (480,000+96,000-528,000). 48,000
Equity holdings +50%
Investor is a controlling interest (+50%) - parent / sub relation
Consolidation of financial statements is generally required
Parent and sub as a single economic entity (add financial statements together
Accounting treatment ( irrespective of consolidation) Equity method
Debt financial instruments
Contractural payments between a lender and a borrower of principal and interests on a specified dates
Ifrs determines 3 categories:
Held for collection: hold the asset to collect CF (principal and interests)
Held for collection and selling: hold the asset to collect cf but also sell fa
Trading: short term oriented (primarily for sale in near term)
Bonds
Investors have money and possibilities to invest: savings accounts, eq instruments (risky but with high gains) or debt instruments (less risky and offer almost secure gains like corporate bonds)
Characteristic of a bond
Face value = maturity value = money returns at maturity
Maturity date = date at which the debt will be repaid by the firm
Bond interest rate = rate set by the issuing firm
Investments community value bonds at its pv (future cf) and this can vary from issuing bond prices as set in the bond contract
Examples of characteristics of bonds
Example bond with face Value 1000 and yearly coupon rate of 10% payable
Setting a: market increases to 15%
So bond trading price < issue price so the bond trades at a discount
Setting b: market decreases to 5% - very attractive bond:
Bond trading price > issue price so bond trades at a premium
Setting c: bond trades at the issue price so bond trades at a par
How are bonds priced?
2 year, 1000 , 5% coupon bond
Market Prince is 1000,
Interest is 50
Interst = 50, principal = 1000
If at 8% interest rate what is the market price of the bond at the start?
Market price is 50/ (1.08+50) / 1.08^2 +1000 / 1.08^2 =946.50
Pricing bonds at discount
Discounts / premiums are amortised (“effective interest method)
Amortisations fill the void between face value and the real price paid taking into account the effective interest rate investors use
Using example before:
Carrying amount 946.50 At 31/12/20x0 Cash rev=50 Interest rev = 946.50 x 0.08= 75.72 Bond discount amortised = 75.52-50=25.72 Carrying amount = 946.50+25.72=972.22
At 31/12/20x1 Cash received =50 Interst revenue =972.22 x 0.08 = 77.78 Bond discounts amortised = 77.78-50=27.78 Carrying amount = 1000
Journal entries:
At 1/01/20x0
Debt investment (+nca) 946.50
Cash (-ca). 946.50(you pay cash for an investment)
At 32/12/20x0
Cash (+ca) 50 (receive coupon)
Debt investments +25.72 (fictitious)
Interest rev (income) 75.72 (real interest market rates)
At 31/12/20x1 Cash (+ca) 50 Debt investment (+nca) 27.78 Interest revenue (income) 77.78 Cash (+ca) 1000 Debt investment (+nca) 1000
Compounding periods
Example
A invests 92.278 into a 100,000 face value 5 year bond of company b; coupon rate is 8% paid semi annually on jul 1 and jan 1 ; market interest rate is 10%?
When coupons are paid other than annually be careful with the discount to PV procedure
Value of bond = pv(principal) + pv coupon
Pv principal = principal / (1+IR )^n
Pv coupon = coupon * 1-(1/(1+IR)^n)) / IR
Value f bond = 100,000 /(1+(.1/2) ^52 + 100,000(8%/2) * 1-(1*0.05)^-10 /0.05 = 92278
Value of the bond = 100,000 /1.05^10 +4000 * 1-1/1.05^10 / 0.05 = 92,278
Journal entries:
01/01/2010
Debt investment (+nca) 92,278
Cash (-ca) 92,278 (you pay for cash as investment)
01/07/2010
Cash (+ca) 4000 (receive coupon
Debt investment (+nca) 614 (fictitious)
Interest rev (income) 4614
31.12.2010 Interst rec (+ca) 4000 Debt investment (+nca) 646 Interest revenue (income) 4645
Sofp Long term investment Debt investments 93.537 Current assets Interest rec 4000
Income statement
Other income and expense
Interest revenue (4614+4645) = 9259
Why sell bonds
Bond downgraded to lower than accepted credit risk (BBB- rating)
Change in company’s investing strategy ( change in maturity dates)
Needs for cash (eg operational reasons)
Debt type : held for collection and selling
Example: a purchases 100k 10% 5 year bond on jan 1 with interest payable on jul 1 and jan 1. Bond is 108,111 (bond trading at premium of 8,111) and effective interest rate of 8%
Initial recognition: fair value (issue price)
Subsequent recognition: changes in fair value (OCI)
Realised gain /loss at selling time - NI
On 01/1/19
Debt inv (NCA+). 108,111 Cash (CA-) 108,111 (you pay cash for an investment)
O1/07/19
Cash +CA 5000(receive coupon)
Debt inv (-NCA) 676 (decrease A value due to premium)
Interest revenue (+income) 4324
5000= 100,000 x .1 x 6/12 4324 = 108,111 x .08 x 6/12 676= 5000-4324
On dec 2019 two things: recognise interst revenue and apply fair value ( assume fv =105,000)
Recognise interest rev; Interest rev (+CA) 5000 (coupon will be paid jan 1, 2020) Debt inv (-NcA) 703(decrease a value due to premium) Interest rev (income) 4297
Apply fair value:
Unrealised holding loss (-oci) 1732 (106732 carrying value)
Fair value adjustment (-nca) 1732 (reducing gross amount of debt investment
Debt type; trading
Initial recognition: fair value (issue price)
Subsequent recognition: changes in fv > NI (other income)
Realised gain/loss at selling time > NI
