INVESTMENTS

Multiple Choice - Conceptual

Answer No. Description
b 1. No Significant Influence: Held-to-Maturity
b 2. No Significant Influence: Available-for-Sale
a 3. No Significant Influence: Transfer
a 4. Investment Where Significant Influence Does Exist
c 5. Investment Where Significant Influence Does Exist
d 6. Stock Dividends and Splits
c 7. No Significant Influence: Held-to-Maturity
c 8. International Financial Reporting Standards
a 9. International Financial Reporting Standards
c 10. International Financial Reporting Standards
Multiple Choice – Computational/Problems
Answer No. Description
b 11. Concepts of Accounting and Investment Percentage
b 12. No Significant Influence: Available-for-Sale
a 13. No Significant Influence: Available-for-Sale
14.
15.
16.
17.
18.
19.
20.
Multiple Choice – Conceptual

1. Kale Co. purchased bonds at a discount on the open market as an investment and intends
to hold these bonds to maturity. Kale does not elect the fair value option for the bonds.
Kale should account for these bonds at
a. Cost
b. Amortized Cost
c. Fair Value
d. Lower of cost or market

Held-to-maturity securities, which include only debt securities, are reported on the balance sheet
at amortized cost without adjustment to fair value. If the investment in bonds had been classified
as trading or available-for-sale, answer (c) would be correct. Trading securities are reported at
fair value with holding gains or losses flowing through the income statements. Available-for-sale
securities are reported at fair value with holding gains or losses reported as a component of other
comprehensive income. Cost and lower of cost or market are not used as reporting bases for
bond investment.

2. On both December 31, 2009, and December 31, 2010, Kopp Co.’s only marketable
equity security had the same market value, which was below cost. Kopp considered the
decline in valid to be temporary in 2009 but other than temporary in 2010. At the end of
both years the security was classified as a non-current asset. Kopp considers the
investment to be available-for-sale. Assume that Kopp does not elect the fair value option
to account for its available-for-sale securities. What would be the effects of the
determination that the decline was other than temporary on Kopp’s 2010 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.

The carrying amount of a marketable equity security classified as available-for-sale shall be the
fair market value and the unrealized holding gain or loss should be reported as other
comprehensive income. In 2009 when the value declined, the portfolio was reported at market
with an unrealized holding loss recorded as other comprehensive income. In 2010, the decline is
considered to be other than temporary. Thus, the security must be written down to market and a
realized loss recognized. However, since there is no actual change in value, in 2010 the security
will be reported at the same amount (Cost – Write-down of assets) as in 2009.Therefore, there is
no effect on net noncurrent assets in 2010. However, net income will be affected because a
realized loss is recorded on the income statement. Note that the unrealized loss account charged
to other comprehensive income in 2009 would be credited and the realized loss account would be
closed against each other because the new basis after the write-down will equal the lower FV
amount. Answer (a) is incorrect because net income is affected. Note that if the decline was
merely temporary declines in value of noncurrent portfolios are reported as other comprehensive
income, rather than net income. Answer (c) is incorrect because there is no net decrease in
noncurrent assets, but there is a net income effect. Answer (d) is incorrect because only the net
income decreases.

3. A marketable debt security is transferred from available-for-sale to held-to-maturity

securities. At the transfer date, the security’s carrying amount exceeds its market value.
Assume the fair value option is not elected to report this security. What amount is used at
the transfer date to record the security in the held-to-maturity portfolio?
a. Market value, regardless of whether the decline in market value below cost is
considered permanent or temporary.
b. Market value, only if the decline market value below cost is considered
permanent.
c. Cost, if the decline in market value below cost is considered temporary.
d. Cost, regardless of whether the decline in market value below cost is considered
permanent or temporary.

The transfer of a security between categories of investment shall be accounted for at fair value. If
fair value is less than the security’s carrying amount at the date of transfer, it is irrelevant
whether the decline is temporary or permanent.

4. On January 1, 2010, Point, Inc. purchased 10% of Iona Co.’s common stock. Point
purchased additional shares bringing its ownership up to 40% of Iona’s common stock
 outstanding on August 1, 2010. During October 2010, Iona declared and paid a cash
dividend on all of its outstanding common stock. Point uses the equity method to account
for its investment in Iona. How much income from the Iona investment should Point’s
2010 income statement report?
a. 10% of Iona’s income for January 1 to July 31, 2010, plus 40% of Iona’s
income for August 1 to December 31, 2010.
b. 40% of Iona’s income for August 1 to December 31, 2010 only.
c. 40% of Iona’s 2010 income
d. Amount equal to dividends received from Iona.

The requirement is to determine the amount of investment income to be reported in the 2010
income statement. When an investment which has been accounted for using a different method
qualifies for the use of the equity method, due to a change in ownership level (such 10% to
40%), then the change to the equity method should be reported retroactively. At the date of the
change, the investment account and the retained earnings account are adjusted as if the equity
method had been used all along. Therefore, answer (a) is correct as Point owned 10% of Iona’s
stock from January 1 to July 31, 2010 and 40% of Iona’s stock from August 1 to December 31,
2010. Answer (b) and (c) are incorrect because income should be recognized under the equity
method according to the percentage of ownership existing during each of the periods. Answer (d)
is incorrect because when Iona reports its earnings to Point, Point will record its share of the
revenue. When Point receives the dividends, (which may be in a different period than Point
recognized its share of Iona’s income), the carrying amount of the investment will be reduced by
the amount received. Therefore, the income recognized does not usually equal the dividends
received.

5. In its financial statements, Pulham Corp. uses the equity method of accounting for its
30% of Angles Corp. At December 31, 2019, Pulham has a receivable from Angles. How
should the receivable be reported in Pulham’s 2010 financial statements?
a. None of the receivable should be reported, but the entire receivable should be
offset against Angles’ payable to Pulham
b. 70% of the receivable should be separately reported, with the balance offset
against 30% of Angles’ payable to Pulham
 c. The total receivable should be disclosed separately.
d. The total receivable should be included as part of the investment in Angles,
without separate disclosure.

The equity method is used when accounting for investment in which the investor has the ability
to exercise significant influence over the operating and financial policies of the investee.
Ownership of 20% or more of the outstanding common stock demonstrates this ability. In this
case, Pulham Corp. owns 30% of angles and properly uses the equity method. Under the equity
method intercompany profits and losses are eliminated. However, receivables and payables are
not eliminated as they are in the case of consolidated financial statements. On the December 31,
2010 balance sheet, Pulham should separately disclose the total amount of the receivable.
Additionally, this receivable should be shown separately from other receivables.

6. Stock dividends on common stock should be recorder at their fair market value by the
investor when the related investment is accounted for under which of the following
methods?
Cost Equity Fair Value
a. Yes Yes Yes
b. Yes No No
c. No Yes Yes
d. No No No

Regardless of the accounting method used, no dividend revenue is recognized when an investor
receives a proportional stock dividend, because the investor continues to own the same
proportion of the investee as before the stock dividend. In addition, the investee has not
distributed any assets to the investors. Therefore, no entry is prepared to record the receipt of a
stock dividend. The investor simply makes a memo entry to record the additional number of
shares owned, while leaving the balance in the investment account unchanged. The balance is
then spread over the total number of shares (previous holdings + stock dividend) to determine the
new per share cost of the stock.
 7. Bing Corporation purchased bonds at a discount on the market as an investment and
intends to hold these bonds to maturity. Assume that Bing elects the fair value option.
Bing should account for these bonds at
a. Cost
b. Amortized Cost
c. Fair Value
d. Lower of cost or market

A company may elect to value held-to-maturity securities at fair value. Any increase or decrease
in value is reported as a gain or loss and included in earnings for the period. Answer (a) is
incorrect because bonds are recorded at cost, but reported at amortized cost at year-end. Answer
(b) is incorrect because Bing elected the fair value option. Answer (d) is incorrect because
investments are not recorded at lower of cost or market.

8. Under IFRS, investment are classified in any of the following different ways, except
a. Fair Value through profit and losses
b. Held to Maturity
c. Tradable
d. Available for Sale

The requirement is to identify the item that does not represent a category of investment under
IFRS. Answer (c) is correct because IFRS includes the classification of fair value through profit
and loses, held to maturity and available for sale. It does not include tradable.

9. Under IFRS, any investment may be accounted for by fair value through profit and losses
providing
a. It is traded in an active market
b. It is an equity instrument
c. It is a debt instrument
d. The instrument matures within 2 years

The requirement is to identify for an investment to be accounted for using fair value through
profit and losses. Answer (a) is correct because the investment must be traded in an active
market to be accounted for using fair value through profit and loses.
 10. Under IFRS if a company uses the fair value method for accounting for an investment
any changes in fair value are recognized in
a. Other comprehensive income
b. Retained earnings
c. Profit and losses
d. Revaluation surplus

The requirement is to identify how changes in fair value are recognized for an investment
accounted for under IFRS. Answer (c) is correct because gains or losses are recognized in profit
and losses of the period

Multiple Choice – Computational/Problems

11. Puff Co. acquired 40% of Straw, Inc.’s voting common stock on January 2, 2011, for
P400000. The carrying amount of Straw’s net assets at the purchase date totaled
P900000. Fair values equaled carrying amounts for all items except equipment, for which
fair values exceeded carrying amounts by P100000. The equipment has a five-year life.
During 2011, Straw reported net income of P150000. What amount of income from this
investment should Puff report in its 2011 income statement if Puff uses the equity method
to account for the investment?
a. P40000
b. P52000
c. P56000
d. P60000

Straw’s Net Income P150000

Multiply by x 40%
Puff’s Share of Straw’s net Icome P60000
Less: Puff’s depreciation of excess value of equipment
Excess Cost P100000
Multiply by x 40%
Puff’s Share P40000
Remaining useful life ÷5
 Puff’s Share of excess depreciation for 2011 (P8000)
Income from investment on the equity basis P52000

12. Information regarding Shelton Co.’s portfolio of available-for-sale securities is as

follows:
Aggregate cost as of 12/31/11 P150000
Unrealized gains as of 12/31/11 14000
Unrealized losses as of 12/31/11 26000
Net Realized gains during 2011 30000

Shelton elects to use the fair value option for reporting all available-for-sale securities. At
December 31, 2011, what total amount should Shelton report on its income statement?
a. P4000 gain
b. P18000 gain
c. P30000 gain
d. P44000 gain

A company may elect the fair value option for reporting available-for-sale securities. If the fair
value option is elected, realized and unrealized gains and losses from available-for-sale securities
are included in earnings of the period. Therefore, the net gain of P18000 (P14000 unrealized
gains + P30000 realized gains – P26000 unrealized losses) is reported on the income statement
of the period.

13. Cap Corp. reported accrued investment interest receivable of P38000 and P46000 at
January 1 and December 31, 2010, respectively. During 2010, cash collections from the
investment included the following

Capital gains distributions P145000

Interest 152000

What amount should Cap report as interest revenue from investment for 2010?
a. P160500
 b. P153500
c. P152000
d. P143500

The capital gains distribution (P145000) would not be reported as interest revenue. The solutions
approach is to set up a T-account for interest receivable.

Interest Receivable
Beg. Bal. 38000
Int. Rev. ? 152000 Int. Collected
End. Bal. 46500

Beginning and ending balances are given in the questions. Interest receivable would be credited
for cash collections to reduce the receivables.

Cash 152000
Interest Receivable 152000
Interest receivable would be debited for interest revenue.

Interest Receivable xxx

Interest Revenue xxx
Solve for interest revenue (P46500 + P152000 – P38000 = P160500)