BUSI 2001 - Intermediate Accounting 1

Student File: 14 - Financial Instruments

BUSI 2001 Intermediate Accounting I

14 Financial Instruments
Video Sequence
Video #

Video Title

Page*

Financial Instruments 1

27

Financial Instruments 2

7 11

ICP 14-1: Investments in Equity Securities

12

ICP 14-2: Emily Inc.

12

ICP 14-3: Hauser Company

13

* page numbers refer to the pages in this documents that are referred to in the videos.

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BUSI 2001 - Intermediate Accounting 1

Student File: 14 - Financial Instruments

BUSI 2001 Intermediate Accounting I

Chapter 14 Investments in Financial Instruments

Investments in the shares

of another company
Percentage Ownership of the other Company
0%
No Significant
Influence

Fair Value
Method

50%
Significant
Influence

Equity
Method

100%
Control

Consolidated Financial
Statements

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Non Strategic Investments

Classifications

fair value through profit and loss (FVTPL): specifically held for
purposes of sale, i.e. they are acquired with the intention to re-sell
fair value through other comprehensive income (FVTOCI) - any
designated equity securities; classification is irrevocable
amortized cost investments: debt securities held within a business
model whose objectives is to hold assets in order to collect
contractual cash flows

Equity
Securities

FVTOCI

Debt
Securities

FVTPL

Amortized
Cost

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FVTPL and FVTOCI Investments

Commonalities
they are carried at fair value on the Statement of
Financial Position at acquisition, and re-measured to fair
value in subsequent periods
the designation as FVTPL/FVTOCI is done at acquisition
and is irrevocable

Fair value through profit and

loss investments (FVTPL)
any unrealized gains/losses when adjusting to fair value flow to
profit and loss
transaction costs are expensed
fair value option: the entity can opt to classify other investments in
this category if such classification would result in more relevant
information presented in the financial statements
derivatives are mandatorily classified as FVTPL investments

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Fair Value through Other

Comprehensive Income
Investments (FVTOCI)
unrealized gains and losses on adjustment to fair value flow to Other
Comprehensive Income and gets closed out to A*OCI
A*OCI can be negative
transaction costs have to be capitalized
any realized gains or losses on the sale of the investments are
recycled directly to equity (typically to retained earnings)

FVTOCI Investments contd

The sale of an investment classified as FVTOCI is handled in three
parts:
1. The investment is marked to market FV adjustment goes to OCI
2. The investment is removed from the FVTOCI account and cash is
debited
3. Any accumulated OCI relating to this investment is removed from
the A*OCI account and transferred directly to R/E it bypasses the
Statement of Comprehensive Income

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FVTOCI Example 20x2

During 20x2, an investment is purchased at a cost of $100,000 and
classified as FVTOCI. At year-end, the FV = $120,000.
Statement of Comprehensive Income
..
Profit for the period

$2,600,000

Other Comprehensive Income

Gain on FVTOCI Inv.

20,000

Comprehensive Income

$2,620,000

Balance Sheet
Assets
FVTOCI Investments

$120,000

Shareholders Equity
Accumulated OCI
FV Gains on
FVTOCI Investments

$20,000

FVTOCI Example 20x3

At December 31, 20x3, the FV of the investment = $70,000.

Statement of Comprehensive Income

..
Profit for the period

$1,400,000

Other Comprehensive Income

Loss on FVTOCI Inv.

(50,000)

Comprehensive Income

$1,350,000

Balance Sheet
Noncurrent Assets
FVTOCI Investments

$70,000

Shareholders Equity
Accumulated OCI
FV Losses on
FVTOCI Investments

($30,000)

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FVTOCI Example 20x4

During 20x4, the investment is sold for $80,000.

Statement of Comprehensive Income

..
Profit for the period

$1,900,000

Other Comprehensive Income

Gain on FVTOCI Inv.

10,000

Comprehensive Income

$1,910,000

Balance Sheet
Shareholders Equity
Retained Earnings

-$20,000

Accumulated OCI - Op

(30,000)

FV Losses on
FVTOCI Investments
Ending balance

+10,000
+20,000
-0-

BUSI 2001 Intermediate Accounting I

Chapter 18 Investments in Financial Instruments Part 2

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Amortized Cost Investments

to be classified as an amortized cost investment, the following
criteria must be met:
the asset is held within a business model whose objectives
is to hold assets in order to collect contractual cash flows,
the contractual terms of the financial asset give rise on
specific dates to cash flows that are solely payments and
interest on the principal amount outstanding
transaction costs have to be capitalized
subsequent to acquisition - account for at amortized cost using
the effective interest rate method

Amortized Cost
Investment Example
On December 31, 20x0, you purchase $600,000 face value bonds.
These bonds have a coupon rate of 4%, trade to yield 3.5% and mature
in 20 years. Interest payment dates are June 30 and Dec 31.
Purchase price of the bonds:
N = 40
I = 3.5/2 = 1.75%
PMT = 600,000 x 4% / 2 = 12,000
CPT PV = $642,891

FV = 600,000

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Amortized Cost
Investment Example contd
Dec 31, 20x0

Amortized Cost Investments

$642,891

Cash
June 31, 20x0

Cash

$642,891
12,000

Amortized Cost Investments

749

Interest Revenue ($642,891 x 1.75%)

Dec 31, 20x0

Cash
Amortized Cost Investments
Interest Revenue ($642,142 x 1.75%)

11,251
12,000
763
11,237

Impairment of Amortized
Cost Investments
if an event is triggered that would have an impact on the future cash
flows generated by the asset (i.e. a loss event), then the asset
should be tested for impairment
impairment loss = difference between the asset's carrying value and
the present value of the estimated future cash flows discounted at
the financial asset's original effective interest rate
impairment losses can be reversed

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ASPE Differences - Non

Strategic Investments
equity instruments traded in an active market and freestanding
derivatives must be measured at fair value. All others are measured
at historical cost unless the entity opts to measure at fair value. This
choice must be made on acquisition and is irrevocable.
amortization of premium/discounts on debt securities can be done
using the effective interest rate method or the straight-line method.

ASPE Differences - Non

Strategic Investments

impairment of amortized cost investments: the carrying value is compared

to the higher of
i. the present value of the expected cash flows from holding the financial
asset discounted using the current rate appropriate to the asset,
ii. the net proceeds that could be realized if the asset was sold at the
reporting date, and
iii. the amount the entity would realize in exercising any claim it may have
on collateral for the asset .
ASPE permits a reversal of impairment to the extent of the pre-impairment
value.

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Transition from IAS 39 to IFRS 9

IFRS 9 was issued in October 2010 with an implementation
date of Jan 1, 2015; early application is allowed
the main IAS 39 differences with IFRS 9:
IFRS 9

IAS 39

FVTPL Investments

Held for trading investments

FVTOCI Investments

Available for sale investments

Amortized cost investments

Held to Maturity investment

Transition from IAS 39 to IFRS 9

contd
IAS 39 allowed held to maturity investments to be classified as
available for sale
reclassification of realized gains and losses of available for sale
investments flowed to profit and loss
reclassification of investments between categories under IAS 39
was much more complex
IAS 39 allowed investments in private companies to be recorded at
cost; IFRS 9 requires all equity investments to be carried at fair
value

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Student File: 14 - Financial Instruments

14 Financial Instruments
In-Class Problems
Problem 14-1
At December 31, 20x2, you have the following investments in the securities of other
entities:

Abacus Inc.
Bambra Corp.
Chili Inc.

Original
Cost

Carrying
Value

Fair
Value

$230,000
175,000
300,000

$260,000
150,000
300,000

$300,000
180,000
260,000

$705,000

$710,000

$740,000

During 20x3. the following transactions took place:

sold Abacus Inc. for $325,000 less brokerage fees of $15,000

sold Bambra for $175,000 less brokerage fees of $8,000
purchased Dandan Ltd shares for $560,000 plus $20,000 in brokerage fees

At the December 31, 20x3, the fair value of the Chili and Dandan shares were $330,000
and $530,000 respectively.
Required Prepare all journal entries for the years 20x2 20x3 under the following
assumptions:
(a) The investments are classified as FVTPL.
(b) The investments are classified as FVTOCI. Also show the bottom part of the
income statement (OCI part) assume the profit for 20x3 is $1,200,000.
Problem 14-2
On December 31, 20x6, you purchase $300,000 of the bonds of Emily Inc. The bonds
mature on December 31, 20x20 and pay interest of 5% each June 30 and Dec 31. On
December 31, 20x6 the bonds are trading to yield 6%. At December 31, 20x7 and 20x8
the bonds are trading to yield 5.4% and 4.8% respectively.
Required Prepare all journal entries for the years 20x6 20x8 under the following
assumptions:
(a) The bonds are classified as amortized cost investments.
(b) The bonds are classified as FVTPL.

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Student File: 14 - Financial Instruments

Problem 14-3
Hauser Company purchased the following equity investments in 20x5:
Investment
Alpha
Beta
Delta

# of shares
1,600
5,000
2,500

Cost
$125,000
160,000
80,000

Brokerage Fees
$2,500
3,000
2,000

During 20x5, dividends received and the fair value per share at December 31, 20x5 was
as follows:
Market
Value per
Dividends
Share
Alpha
$3,300
$82
Beta
4,200
45
Delta
-024
During 20x6, Hauser had the following transactions:
on March 31, sold all of the Alpha shares for $92 per share. Paid brokerage fees of
$3,200 on the sale.
on May 2, purchased 2,000 shares of Gamma for $30 per share plus $1,100 in
brokerage fees.
During 20x6, dividends received and the fair value per share at December 31, 20x6 was
as follows:
Market
Value per
Dividends
Share
Alpha
$825
n/a
Beta
4,500
$52
Delta
-031
Gamma
-036
Required Prepare all journal entries for the years 20x5 20x6 under the following
assumptions:
(a) Hauser classifies all of these shares as FVTPL.
(b) Hauser classifies all of these shares as FVTOCI. Also show the bottom part of the
income statement (OCI part) assume the profit for the period for both years is
$800,000.

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