2 Module - Equity Investments PDF

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ACCT203 – Financial Accounting and Reporting Causing, N This document is a property of the University of St. La Salle Module 3 Investment in Equity Instruments | Page 1MODULEFlexible Learning A. 2020-20 213FINANCIAL ACCOUNTING AND REPORTINGSTUDY GUIDE v. Course instructor: Noreza A. Causing Contact ...

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MODULE

3 3 hours

Flexible Learning A.Y. 2020-2021 FINANCIAL ACCOUNTING AND REPORTING STUDY GUIDE v.3 Course instructor: Noreza A. Causing Contact details: FB Messenger: Cg Nza email: [email protected] Consultation period: Th 12pm – 2pm; Friday 4:30pm-6:30pm

INVESTMENT IN EQUITY SECURITIES

This module presents the accounting treatment for equity investments considering their classification, measurement and presentation in financial statements. It introduces the students to what criteria to use in the proper classification of the investment. The valuation to be used and accounting for transactions affecting equity investment like dividends, mode of acquisition, share splits, rights and other equity related transactions.

Learning Outcomes At the end of this module, you must be able to: 1. Explain the different forms of equity investments. 2. Demonstrate the measurement and valuation of the equity investments, initially and subsequent to acquisition. 3. Explain how the dividends are recognized. 4. Explain the other issues related to equity investments like share splits, share rights, redemptions and assessments.

Learning Task 3.3

Accounting for Equity Investments

Equity Investment Equity investment represents 1. ownership interest, such as ordinary, preference, or other capital shares. 2. rights to acquire or dispose of ownership interests at an agreed-upon or determinable price, such as in warrants and rights. The cost of the equity investment is measured at purchase price of the security. Broker’s commissions and fees are recorded as expense. The degree to which one corporation (investor) acquires an interest in the common stock of another corporation (investee) generally determines the accounting treatment for the investment subsequent to acquisition. The accounting and reporting for equity investment therefore depend on the level of influence and the type of security involved.

ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

Causing, N Module 3 Investment in Equity Instruments | Page 1

The accounting and reporting for equity investments may be categorized as follows:

Holdings of Less Than 20% Under IFRS, the presumption is that equity investments are held-for-trading. General accounting and reporting rule: 1. Investments valued at fair value. 2. Record unrealized gains and losses in net income For non-trading classification: 1. Investments valued at fair value. 2. Record unrealized gains and losses in other comprehensive income. Example – Trading November 3, 2019, Republic SA purchased ordinary shares of three companies, each investment representing less than a 20 percent interest. These shares are held-for-trading.

Entries: To record the investment:

Equity Investments Cash

718,550

ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

718,550 Causing, N Module 3 Investment in Equity Instruments | Page 2

On December 6, 2019, Republic receives a cash dividend of €4,200 on its investment in the ordinary shares of Nestlé. Cash

4,200 Dividend Revenue

4,200

At December 31, 2019, Republic’s equity investment portfolio has the carrying value and fair value shown.

On December 31, 2019, Republic prepares an adjusting entry to record the decrease in fair value and to record the loss as follows. Unrealized Holding Gain or Loss—Income

35,550

Fair Value Adjustment

35,550

On January 23, 2020, Republic sold all of its Burberry ordinary shares, receiving €287,220.

Cash

287,220 Equity Investments

259,700

Gain on Sale of Investments

27,520

In addition, assume that on February 10, 2020, Republic purchased €255,000 of Continental Trucking ordinary shares (20,000 shares €12.75 per share), plus brokerage commissions of €1,850. Republic’s equity investment portfolio as of December 31, 2020.

ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

Causing, N Module 3 Investment in Equity Instruments | Page 3

Republic records this adjustment on Dec. 31, 2020, as follows. Fair Value Adjustment

101,650

Unrealized Holding Gain or Loss—Income

101,650

Equity Investments – Non-Trading (OCI) Example – Non-Trading On December 10, 2019, Republic SA purchased 1,000 ordinary shares of Hawthorne Company for €20.75 per share (total cost €20,750). The investment represents less than a 20 percent interest. Hawthorne is a distributor for Republic products in certain locales, the laws of which require a minimum level of share ownership of a company in that region. The investment in Hawthorne meets this regulatory requirement. Republic accounts for this investment at fair value. Equity Investments (Hawthorne)

20,750

Cash

20,750

On December 27, 2019, Republic receives a cash dividend of €450 on its investment in the ordinary shares of Hawthorne Company. It records the cash dividend as follows. Cash

450 Dividend Revenue

450

At December 31, 2019, Republic’s investment in Hawthorne has the carrying value and fair value shown.

Republic records this adjustment as follows.

Equity Investment (Hawthorne) Unrealized Holding Gain or Loss—Equity

ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

3,250 3,250

Causing, N Module 3 Investment in Equity Instruments | Page 4

The Equity Investment account is used because the non-trading classification is applied on investment by investment basis, rather than on a portfolio basis. Financial Statement Presentation:

On December 20, 2020, Republic sold all of its Hawthorne Company ordinary shares receiving net proceeds of €22,500.

Entry to adjust the carrying value of the non-trading investment. Unrealized Holding Gain or Loss—Equity

1,500

Equity Investment (Hawthorne)

1,500

On December 20, 2020, Republic sold all of its Hawthorne Company ordinary shares receiving net proceeds of €22,500. Entry to the sale of the investment. Cash

22,500 Equity Investments

22,500

Notice that there is no record of gain or loss on sale, as the equity investment was revalued prior to sale. Acquisition of Equity Investments Equity investments can be acquired individually, by exchange, or on a lump sum basis. If the equity investments are acquired individually, we initially measure it depending on this classification, whether FA@FVPL or FA@FVOCI. However, if such investments are acquired by exchange, take note that the acquisition cost is determined by reference to the following, in the order of priority: 1. Fair value of asset given 2. Fair value of asset received

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3. Carrying amount of asset given. If two or more equity securities are acquired at a single cost or lump sum, the single cost is allocated to the securities acquired on the basis of their fair value.

ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

Causing, N Module 3 Investment in Equity Instruments | Page 5

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If only one security has a known market value, an amount is allocated to the security with a known market value equal to its market value.

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The remainder of the single cost is then allocated to the other security with no known market value.

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If the fair value of the equity securities cannot be measured reliably, the investment shall be measured at cost. We call this, investment in unquoted equity instruments.

Example Accessible Company purchased for a lump sum of P3,075,000 the following long-term investments: A Corporation share capital

8,000 shares

B Corporation share capital

16,000 shares

C Corporation bond

P1,000,000 face value

At the time of purchase, the securities were quoted at the following prices: A share, 100; B share, 150; and C bond, 90. Required: Prepare journal entry to record the lump sum acquisition with proper allocation of the single cost. SOLUTION: Fair value

Total

A

8,000

100

800,000

B

16,000

150

2,400,000

C

1,000,000

90%

900,000

Ratio

Allocated cost

800/4,100

600,000

2,400/4,100 900/4,100

4,100,000

1,800,000 675,000 3,075,000

Entry: Investment in equity securities - A

600,000

Investment in equity securities - B

1,800,000

Investment in equity securities - C

675,000

Cash

3,075,000

Special Problem – Sale of Equity Securities When equity securities are sold, the difference between the consideration received and the carrying amount of the financial asset shall be recognized in profit or loss. If the equity shares of the same class were acquired on different dates at different costs, and only a portion is subsequently sold, the entity shall determine the cost of the shares sold using either FIFO (if the problem is silent) or average cost approach. Example: Inane Company purchased shares to be measured at cost because the shares are unquoted. Purchases were in the following order: 1. Purchased 1,000 ordinary shares of Star Company at P300 per share plus transaction costs of P9,000.

2. Purchased 4,000 ordinary shares of Star Company at P250 per share plus transaction costs of P30,000. 3. Sold 1,500 ordinary shares of Star Company at P280 per share minus transaction costs of P15,000. ACCT203 – Financial Accounting and Reporting This document is a property of the University of St. La Salle Unauthorized copying and / or editing is prohibited

Causing, N Module 3 Investment in Equity Instruments | Page 6...