Investment in Equity and Debt Security

Chapter 3: Investments in Equity and Debt Securities 3.1 EQUITY !D DE"T I!#EST$E!TS companies record investments in debt securities when they purchase bonds, receive or accrue • interest, and sell the bonds gains or losses are reported on the sale of bonds in the “other revenues and gains” or “ other • expenses and losses” sections in income state ment equity or stock investments record investments in common stock when they purchase the • shares, receive dividends and sell the shares when ownership is less than 20% and 0%, the equit y method should be used • when ownership is more than 0%, companies prepare consolidated financial statements • company that owns more than 0% of common shares of another entity is called parent • company company whose share the parent company owns is called subsidiary subsi diary company, because because of its • shares ownership, parent company has a controlling interest in subsidiary when a company owns more than t han 0% of common shares of another company, it usually •  prepares consolidated financial statement these statements present the total revenues and expenses of the subsidiar y companies • it indicates the magnitude and scope of operations of the companies under common control • 3.% &E'(&TI!) I!#EST$E!TS trading securities •  brought and held primarily for for sale in the near term to generate income on short!term short!term o  price differences available!for!"ale "ecurities • held with the intent of selling them sometime in the future o held!to!maturity securities • o debt securities that the investor has the intent and abilit y to hold to maturity 3.%.1 Tradin* Securities companies hold trading securities with the intention of selling them in a short period #usually • less than a month$ trading means frequent buying and selling • companies report trading securities at fair value and report changes from cost as part of net • income changes are reported as unrealised gains and losses because securities have not been sold • unrealised gain or loss is the difference between total cost of trading securities and their t otal • fair value companies classify trading securities as current assets • if total cost of trading securities is greater than total fair value, an unrealised loss has occurred • in this case, the adusting entry is a debit to &nrealised 'oss ( )ncome and a credit to market • *dustment ( +rading companies report the unrealised loss under “other “other expenses and losses” in income statement • 3.%.% vai+ab+e,-r,Sa+e Securities companies hold available!for!sale securities with the intention for selling these investments • sometime in the future if the intent is to sell the securities within the next year or operating cycle, the investor • classifies the securities as current assets in the balance sheet otherwise, it is classified as long l ong term assets in the investments section of balance sheet • companies report available!for!sale securities at fair value •

3.%.3 /e+d,t,$aturity Securities is the investment made by a company which it intends to hold till maturity while it has the • capacity to honour such intention only debt securities can be classified as held!to!maturity because they have a definite maturit y • equity securities have no maturity and cannot be classified as held to! maturit y • a held!to!maturity investment is reported on balance sheet at its amortised cost • interest income is recognised on held!to!maturity investments using the effective rate of • interest method 3.3 S/(&T,TE&$ I!#EST$E!T #E&SUS 0(!),TE&$ I!#EST$E!T 3.3.1 Shrt,term Investment short!term investments are securities held by a company that are readily marketable and • intended to be converted into cash within the next year or operating cycle whichever that does not meet both criteria is classified as l ong!term investments readily marketable • an investment is readily marketable when it can be sold easil y whenever the need for o cash arises intent to convert • o management intends to sell the investment within next year or operating cycle, whichever longer  SE0,C/EC2 3. 3.3.% 0n*,term Investment companies generally report long!term investments in a separate section of the balance sheet • immediately below “current asset” long term investments in available!for!sale securities are reported at fair value • investments in common shares accounted for under the equity method are reported at their • equity value