Investments - Chapter 15 Summary

Basics of Investments

  • Companies invest extra cash to earn more income and for strategic reasons.

Short-Term Investments

  • Securities management intends to convert to cash within one year.
  • Readily convertible to cash and mature between 3-12 months.

Long-Term Investments

  • Not readily convertible to cash and not intended to be converted to cash in the short term.
  • Reported in the noncurrent section of the balance sheet.

Debt Securities

  • Reflect a creditor relation (e.g., notes, bonds, CDs).
  • May be issued by governments, companies, or individuals.

Equity Securities

  • Reflect an owner relation (e.g., shares of stock).
  • Issued by companies.

Accounting for Investments

  • Depends on security type (debt or equity), intent to hold (short or long term), and percentage ownership.

Debt Investments: Acquisition

  • Recorded at cost.

Debt Investments: Recording Interest

  • Interest revenue is recorded when earned.
  • Example: 30,000 \text{ par value} \times 7\% \times \frac{6}{12} = $1,050

Debt Investments: Maturity

  • Ling Co. will receive the par value amount in cash when bonds mature.

Debt Investments – Trading

  • Actively managed for profit and always current assets.
  • Portfolio reported at fair value, with unrealized gains/losses in the income statement.

Debt Investments – Trading: Selling

  • Difference between sale price and cost is reported as a gain or loss on the income statement.

Debt Investments: Held-to-Maturity

  • Company intends to hold until maturity.
  • Current or noncurrent asset based on maturity date.
  • Reported at amortized cost without fair value adjustment.

Debt Investments: Available-for-Sale

  • Not classified as trading or held-to-maturity.
  • Short-term or long-term based on intent to sell.
  • Valued at fair value, with unrealized gains/losses in equity section.

Equity Investments Insignificant: Recording Acquisition

  • Recorded at cost, including fees.

Equity Investments Insignificant: Recording Dividends

  • Cash is debited and Dividend Revenue is credited.

Equity Investments Insignificant: Recording Fair Value

  • Unrealized gain reported on the Income Statement.

Stock Investments Insignificant: Selling Stock Investments

  • Gain or loss is the difference between net proceeds and cost.

Equity Investments: Significant Influence (20% - 50%)

  • Investor Percentage Ownership of Investee Shares Outstanding.

Equity Investments Significant Influence: Recording Acquisition

  • Purchase of shares recorded at cost.

Equity Investments Significant Influence: Recording Share of Earnings

  • Investor records share of investee's net income.

Equity Investments Significant Influence: Recording Share of Dividends

  • Dividends received reduce the investment account.

Equity Investments Significant Influence: Selling Investments

  • Gain or loss is the difference between sale proceeds and book value.

Equity Investments, Controlling Influence (More than 50%)

  • Consolidation method is used.
  • Consolidated financial statements show all entities under parent's control.

Comprehensive Income

  • All changes in equity except investments by and dividends to owners.

Return on Total Assets

  • Return on total assets=Net incomeAverage total assets=Net incomeNet sales×Net salesAverage total assets\text{Return on total assets} = \frac{\text{Net income}}{\text{Average total assets}} = \frac{\text{Net income}}{\text{Net sales}} \times \frac{\text{Net sales}}{\text{Average total assets}}

  • Companies desire a high return on total assets, balancing profit margin and asset turnover.