Financial-asset - intermediate accounting, derived from c. valix, k. kieso, weygandt. PDF

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INTERMEDIATE ACCOUNTING 1INVESTMENTAssets held by an entity for the accretion of wealth through distribution such as interest, royalties, dividends, and rentals, for capital appreciation or for other benefits to the investing entity such as those obtained through trading relationships.Financial Stat...

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INTERMEDIATE ACCOUNTING 1 Overview of the Handouts: 1. Investment 2. Financial Assets 3. Investment in Equity Securities 4. Investment in Debt Securities INVESTMENT Assets held by an entity for the accretion of wealth through distribution such as interest, royalties, dividends, and rentals, for capital appreciation or for other benefits to the investing entity such as those obtained through trading relationships. Financial Statement Presentation Investments are classified as either current or noncurrent assets. a. Current Investment if it is expected to be realized within one year from the end of reporting period. b. Noncurrent Investment if it is expected to be realized beyond one year. Purposes of Investments Investment held to earn profit: a. Held for trading securities b. Investment in equity securities measured at FVOCI c. Investment in debt securities mandatorily measured at FVOCI d. Investment in debt securities measured at amortized cost e. Investment property Investments held to secure beneficial relationship with another entity: a. Investment in associate b. Investment in subsidiary c. Investment in joint venture Investment held for the purpose of meeting business requirements: a. Investment in long-term funds Investments held to serve as protection from possible future loss: a. Contingency or insurance fund and similar reserves

b. Cash surrender value c. Certain derivatives designated as hedging instruments FINANCIAL INSTRUMENT Any contract that gives rise to a financial asset of one entity and a financial liability or equity of another entity. Financial Asset is any asset that is: a. Cash; b. An equity instrument of another entity; c. A contractual right to receive cash of another financial asset from another entity; d. A contractual right to exchange financial instruments with another entity under conditions that are potentially favorable; or e. A contract that will or may be settled in the entity’s own equity instruments and is not classified as the entity’s own equity instrument. Examples of Financial Assets a. Cash and Cash Equivalents b. Receivables c. Investments in Equity or Debt Instruments of other entities Equity vs. Debt Instrument Debt Equity Instrument Instrument represents evidences residual interest debtor-creditor in the net relationship. Debt assets of an (e.g. Securities) entity. (e.g. Equity Securities) d. Sinking Fund and other long-term funds Initial Measurement Financial assets are initially measured at Fair Value plus transaction costs, except FVPL. Transaction Cost are incremental costs that are directly attributable to the acquisition, issue or disposal of a financial asset or financial liability. (e.g. fees &

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

commissions to agents, advisers, brokers & dealers; levies by regulatory agencies & securities exchanges; transfer taxes & duties) Subsequent Measurement After initial measurement, financial assets are measured at:  Amortized cost;  FVOCI; or  FVPL Classification of Financial Asset a. Financial assets at fair value through profit or loss (FVPL) – include both equity & debt securities b. Financial assets at fair value through other comprehensive income (FVOCI) – include both equity & debt securities c. Financial assets at amortized cost – include only debt securities Are cashflows solely payments for principal and interest?

FVPL* NO

YES

Is the business model ‘hold to collect’?

(e.g., Trading Portfolios, Investment in Equity Securities, Assets managed in a FV basis)

Amortized Cost YES

(e.g., Receivables, Debt Securities)

NO

Is the business model ‘hold to collect & sell’?

FVOCI (mandatory) YES

(e.g., Liquidity Portfolio, Assets held to back liabilities)

NO

FVPL* *Exceptions: a. Election to measure investment in equity securities b. Option to designate financial assets as FVPL Recognition of Gains & Losses  FVPL: Gain & losses are recognized in profit or loss.  FVOCI – mandatory: Gain & losses are recognized in other

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comprehensive income (except for impairment gains or losses and foreign exchange gains or losses) until the financial asset is derecognized or reclassified. When it is derecognized, the cumulative gain or loss previously recognized in OCI is reclassified from equity to profit or loss. FVOCI – irrevocable election: Gain & losses are recognized in OCI. However, when financial asset is derecognized, the cumulative gain or loss previously recognized in OCI is not subsequently transferred to profit or loss, but the entity may transfer it within equity as direct transfer to retained earnings. Amortized Cost: Gain or loss arising from derecognition, reclassification, amortization or impairment except fair value changes are recognized in profit or loss.

INVESTMENT IN EQUITY SECURITIES General Rule: Fair Value + Transaction Cost Exception: If held for trading, transaction cost is expensed immediately. Acquisition by Exchange: Acquisition cost is determined by reference to the ff in the order of priority: 1. Fair value of asset given 2. Fair value of asset received 3. Carrying amount of asset given Lumpsum Acquisition: The single cost is allocated to the securities acquired based on their fair value. Categories of Equity Securities a. Trading Securities or Financial Asset- FVPL b. Financial Asset- FVOCI c. Investment in Associate d. Investment in Subsidiary e. Investment in Unquoted Equity Instrument – at cost

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

Equity Investment – FVPL Problem #1: On January 1, 2018, an entity purchased marketable equity securities for P125,000. The entity also paid P2,000 as commission to the broker. The equity securities qualify as financial asset held for trading. On December 31, 2018, the trading securities have a fair value of P150,000. On December 31, 2019, the trading securities have a fair value of P100,000. On December 31, 2020, the trading securities are sold for P120,000. Journal Entries: 1/1/18

12/31/1 8 12/31/1 9 12/31/2 0

Trading Securities Commission Expense Cash

125 K 2K

Trading Securities Unrealized GainTS Unrealized Loss-TS Trading Securities Cash Trading Securities Gain on Sale of TS

25K

127 K 25K

The entity also paid P2,000 as commission to the broker. The equity securities do not qualify as financial asset held for trading. The entity made an irrevocable election to present unrealized gain & loss in OCI. On December 31, 2018, the trading securities have a fair value of P150,000. On December 31, 2019, the trading securities have a fair value of P100,000. On December 31, 2020, the trading securities are sold for P120,000. Journal Entries: 1/1/18 12/31/1 8 12/31/1 9 12/31/2 0 12/31/2 0

Financial Asset-FVOCI Cash Financial Asset-FVOCI Unrealized Gain-OCI Unrealized Loss-OCI Financial Asset-FVOCI Cash Financial Asset-FVOCI Retained Earnings Retained Earnings Unrealized Loss-OCI

127K 127K 23K 23K 50K 50K 120K 100K 20K 27K 27K

50K 50K 120 K

100 K 20K

Notes:  “Trading Securities” may also be debited to “Financial Asset – FVPL”  Transaction cost is treated as outright expense  Equity securities are carried at fair value in FS  Cost of securities is disclosed in FS  Unrealized Gain (Loss) is classified in the income statement as other income (other expense)  On derecognition, the difference between the consideration received and the carrying amount shall be recognized in P/L Equity Investment – FVOCI Problem #2: On January 1, 2018, an entity purchased marketable equity securities for P125,000.

Notes:  Transaction cost is capitalized as cost of investment  Unrealized gain(loss) for the period is presented as component of OCI in the period’s Statement of Comprehensive Income  Cumulative gain(loss) will appear in the Statement of Changes in Equity  Gain or loss on disposal of equity investment-FVOCI is recognized in Retained Earnings.  Cumulative gain(loss) previously recognized in OCI is transferred to Retained Earnings. Dividends are distribution of earnings paid to shareholders based on the number of shares owned. a. Cash Dividends – receivable in cash b. Property Dividends – receivable in non-cash assets c. Share Dividends (Bonus Issue) – receivable in the form of the investee’s own equity securities

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

Ordinary Bonus Issue – shares in the same class held by the shareholder  Special Bonus Issue – shares in the form of another class of share capital d. Liquidating Dividend – return of capital 

Relevant Dates to the Accounting for Dividends a. Date of Declaration b. Date of Record c. Date of Receipt Dividend-on vs. Ex-dividend 

Recognition of Dividend Revenue at the date of declaration: Only cash dividends & property dividends can be recognized as “Dividend Income.” Share dividends recorded as memo entry. Liquidating dividends are also not recognized as such. Measurement of Dividends a. Cash Dividends – at amount of cash received or receivable b. Property Dividends – at fair value of noncash asset determined as of the date of declaration c. Share Dividends  Ordinary Bonus Issue If share held is at cost (no fair value is stated): No effect on the total shareholder’s equity balance. The only effect is the increase in no. of shares and decrease in the carrying value per share. If fair value is stated: Share Dividend is recognized at fair value with the entry: dr. Financial Asset; cr. Unrealized Gain.  Special Bonus Issue If share held has fair value: The carrying value of original investment is allocated between the original shares and the share dividends based on the market value of each at the date of receipt. If share held has no fair value: Share dividend is measured at its fair value. d. Liquidating Dividends – as deduction from carrying amount of investment

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Dividend-on Purchased between the date of declaration and record Purchase price includes dividends

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Ex-dividend Purchased between the date of record and receipt Purchase price excludes dividends

Dividends settled at the option of the holder General Rule: If dividend received is different from what is declared, reference as to determination whether it is revenue or not should be made to the dividends originally declared.  Shares in lieu of Cash Dividend The shares received are recognized as dividend income at fair value. In the absence of fair value, the income is equal to the cash dividends that would have been received.  Cash in lieu of Share Dividend No dividend income is recognized. “As if” approach is followed which means that the share dividends are assumed to be received and subsequently sold at the cash received. Gain or loss may be recognized. Share Split is a restructuring of capital by effecting a change in the number of shares without capitalizing retained earnings or changing the amount of its legal capital. Only a memorandum entry is used. a. Split Up is a transaction whereby the outstanding shares are called in and replaced by a larger number, accompanied by a reduction in the par or stated value of each share. b. Split Down is a transaction whereby the outstanding shares are called in and replaced by smaller number,

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

Oct 15

accompanied by an increase in the par or stated value.

Nov 23

Dec 1

Problem #3: PLM Company had the following long-term investment at the beginning of the current year: Investment in ABC ordinary shares, 10,000 shares P800,000 Investment in GHI preference share, 10% P300 par, 5,000 shares P650,000

Dec 5

Prepare journal entries & memorandum entries to record the transaction and a summary of the portfolio of investments stating the number of shares and the corresponding cost. Journal Entries:

During the current year, the following transactions relating to permanent investments were completed:

1/1

Jan 1

1/31

Jan 31 Feb 15 Feb 28 Mar 9 Mar 20

Apr 3 June 19 July 1

July 10

Aug 8 Sept 30

ABC Company declared a dividend on ordinary shares of P5, payable on March 31, 2020, to shareholders of record on February 15, 2020. Sold 5,000 ABC ordinary shares for P460,000. Received 500 preference shares of GHI Company in lieu of semiannual dividend. Purchased 10,000 ordinary shares of DEF Company for P420,000. Purchased 10,000 ordinary shares from ABC Company for P550,000. Received 1,000 ordinary shares of MNO Wasting Asset Company worth P50,000 as dividend from DEF Company. Purchased 1,000 JKL ordinary shares for P550,000. JKL ordinary share was split on a 2-for-1 basis Received a dividend of P10,000 from MNO ordinary shares in which P2,000 is designated as income. JKL Company declared a 10% share dividend to be received on October 15, 2020. Received notice from ABC Company that share is split down 2-for-1. Received 10% ordinary share dividend from ABC Company.

Received P60,000 cash from JKL Company as dividend. Received 1,000 12% preference shares as dividend from DEF Company. The market value of preference share is P60. Sold 3,250 ABC ordinary shares for P470,000. (using FIFO method) Received a P10 cash dividend for every share held from ABC Company.

2/15 2/28 3/9 3/20 3/31 4/3 7/1

10/1 5 11/23 12/1

12/5

Dividend Receivable Dividend Income Cash Investment in ABC OS Dividend Receivable Gain on Sale of Investment Investment in GHI PS Dividend Income Investment in DEF OS Cash Investment in ABC OS Cash Investment in MNO OS Dividend Income Cash Dividend Receivable Investment in JKL OS Cash Cash Dividend Income Investment in MNO OS Cash Investment in JKL OS Gain on Investment Investment in DEF PS Investment in DEF OS Cash Investment in ABC OS Gain on Sale of Investment Cash Dividend Income

50K 50K 460K 400K 25K 35K 75K 75K 420K 420K 550K 550K 50K 50K 25K 25K 550K 550K 10K 2K 8K 60K 50K 10K 60K 60K 480K 450K 30K 50K 50K

Where:

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

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derivatives shall not be separated from the host contract if the host contract is a financial asset. b. Accounted for separately A portion of the carrying amount of the original investment in equity securities is allocated to the stock rights at an amount equal to the fair value of the stock rights at the time of acquisition.

OS means Ordinary Share PS means Preference Share

Memorandum Entries: 6/19 7/10

8/8 9/30

Received 2,000 JKL new ordinary shares as result of a 2-for-1 split of 1,000 original shares. Received 200 JKL ordinary shares representing 10% share dividend on 2,000 original shares held. Shares now held, 2,200 shares. Received 7,500 ABC new ordinary shares as result of 2-for-1 split down of 15,000 shares. Received 750 ABC ordinary shares representing 10% share dividend on 7,500 original shares held. Shares now held. 8,250 shares.

Summary of the Portfolio of Investments: Investments ABC ordinary shares DEF ordinary shares

No. of Shares 5,000 10,000

DEF preference shares. 12% GHI preference shares, 10%

5,000

JKL ordinary shares

500 2,000

MNO ordinary shares

1,000

840

Relevant Dates to the Accounting of Stock Rights a. Date of Declaration b. Date of Record c. Date of Issuance d. Exercise Period e. Date of Expiration

Cost P500,00 0 P360,00 0 P60,000 P650,00 0 P75,000 P500,00 0 P42,000

Special Assessment are additional capital contribution of the shareholders. On the part of the shareholders, it is recorded as additional cost of investment and on the part of the entity as share premium. Stock Rights (Preemptive Right or Right Issue) is a legal right granted to shareholders to subscribe for new shares issued by a corporation at a specified price during a de finite period. Accounting for Stock Rights a. Not accounted for separately This is in line with another instrument described in PFRS 9 known as embedded derivatives where the stock rights can be rightfully classified. Embedded

Right-on vs. Ex-right 

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Right-on Sold between the date of declaration and record Shares sold together with stock rights Buyer is entitled to stock rights

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Ex-right Sold between the date of record and issuance Shares sold separately from stock rights Seller is entitled to stock rights

Theoretical or Parity Value is an attempt to estimate the fair value of stock rights by considering the relationship between the fair value of the share and the exercise price. Formulas: a. Shares are selling right-on

MV of share No . of rights R=¿ on−SP ¿ purchase 1 share +1¿ ¿ b. Shares are selling ex-right

MV of share ex No. of rights R=¿−SP ¿ purchase 1 share ¿ ¿ Where:  R is the value of 1 right  MV is Market Value

Contributors: Paola Therese Afalla; Ferly Ann Alesin; Christian Contador; Angelica Punzalan References: Intermediate Accounting 1 by Millan, Financial Accounting 1 by Valix & Peralta, Intermediate Accounting 1 by Robles & Empleo

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SP is Subscription Price

Stock Rights

Problem #4: PLM Company had the following investments at the beginning of the current year: 10,000 shares of ABC Corp. P800,000 5,000 shares of DEF Corp. P350,000 During the current year, the entity had the following transactions: Feb. 5

Feb 15 Feb 21

Mar 12

Mar 17

ABC Corp. issued stock rights to subscribe to new stock at P65 per share in the ratio of one new share for every five rights held. The stock rights will expire on April 5. Sold half of the stock rights for P18,000. The share has a market value of P80. Received notice of stock rights from DEF Corp. to subscribe for new shares at P57 per share for every 10 shares held. The stock rights will be issued on March 15 and will expire on April 15. Sold 2,000 shares of DEF Corp for P160,000. The market value of the share is P90. Exercised all stock rights from DEF Corp.

b. Not accounted for separately 2/1 5 3/1 2

Cash Investment in ABC shares Cash Investment in DEF shares Gain on Sale of Investment Investment in DEF shares Cash

3/1 7

2/5

3/15

4/5

3/1 2 3/1 5 3/1 7

4/5

Loss on Stock Rights

140K 60K 17.1 K

17.1 K

Received 10,000 stock rights to subscribe for new ABC shares at P65 per share for every five rights held, or a total of 2,000 new shares. Received 3,000 stock rights to subscribe for new DEF shares at P57 per share for every ten rights held, or a total of 300 shares. Unexer...