Investments ($100,000 – 80,000)... 20,000
Retained earnings... 20,000
Exercise 12-15
Purchase ($ in millions)
Investment in Carne Cosmetics shares. 68 Cash ... 68
Net income
Investment in Carne Cosmetics shares (25% x $40 million) ... 10 Investment revenue... 10
Dividends
Cash (4 million shares x $1)... 4 Investment in Carne Cosmetics shares... 4
Depreciation Adjustment
Investment revenue ($8 million [calculation below‡] ÷ 8 years).. 1 Investment in Carne Cosmetics shares... 1
‡Calculations:
Investee Net Assets Difference Net Assets Purchased Attributed to:
⇓ ⇓ ⇓
Cost $68
Goodwill:$12 Fair value: $224* x 25% = $56
Undervaluation Book value: $192 x 25% = $48 of assets: $8Exercise 12-16
*[$192 + 32] = $224
Adjusting entry
No entry to adjust for changes in fair value as this investment is accounted for under the equity method.
Requirement 1
Exercise 12-17
Purchase ($ in millions)
Investment in Lake Construction shares... 300 Cash ... 300
Net income
Investment in Lake Construction shares (20% x $150 million) 30 Investment revenue... 30
Dividends
Cash (20% x $30 million)... 6 Investment in Lake Construction shares... 6
Adjustment for depreciation
Investment revenue ($10 million [calculation below‡] ÷ 10 years) 1 Investment in Lake Construction shares... 1
‡ calculation:
Investee Net Assets Difference Net Assets Purchased Attributed to:
⇓ ⇓ ⇓
Cost $300
Goodwill: $120Fair value: $900 x 20% = $180
UndervaluationBook value: $800 x 20% = $160 of buildings ($10) and land ($10): $20
Requirement 2
a. Investment in Lake Construction shares __________________________________________
($ in millions)
Cost 300
Share of income 30
6 Dividends
1 Depreciation adjustment _________________
Balance 323
b. As investment revenue in the income statement.
$30 million (share of income) – $1 million (depreciation adjustment) =
$29 million
c. Among investing activities in the statement of cash flows.
$300 million
[Cash dividends received ($6 million) also are reported - as part of operating activities. If Cameron reports cash flows using the indirect method, the operations section of its statement of cash flows would include an adjustment of ($23 million) to get from the net income figure that includes $29 million of revenue to a cash flow number that should only include $6 million of cash flow.]
Exercise 12-17 (concluded)
Requirement 1
Investee Net Assets Difference Net Assets Purchased Attributed to:
⇓ ⇓ ⇓
Cost $750
Goodwill: $300Fair value: $900 x 50% = $450
UndervaluationBook value: $800 x 50% = $400 of buildings ($25) and land ($25): $50
a. January 1, 2009 effect on Buildings
b. January 1, 2009 effect on Land
c. January 1, 2009 effect on Goodwill
d. January 1, 2009 effect on Equity method investments
Exercise 12-18
First we need to identify the amount of difference between book value and fair value associated with goodwill, buildings and land:
Because half of the fair value of Lake’s individual net assets are buildings, and Lake would be consolidated with Cameron, Cameron’s Buildings account would increase by 1/2 x $450 = $225 million.
Because half of the fair value of Lake’s individual net assets is land, and Lake would be consolidated with Cameron, Cameron’s Land account would increase by 1/2 x
$450 = $225 million.
Because Lake would be consolidated with Cameron, Cameron’s Goodwill account would increase by $300 million.
Requirement 2
a. December 31, 2009 effect on Buildings
b. December 31, 2009 effect on Land
c. December 31, 2009 effect on Goodwill
d. December 31, 2009 effect on Equity method investments
Requirement 3
Because Lake would be consolidated with Cameron, there would be no effect of this investment on Cameron’s Equity method investment account.
Exercise 12-18 (concluded)
Because half of the fair value of Lake’s individual net assets are buildings, and Lake would be consolidated with Cameron, Cameron’s Buildings account would increase by 1/2 x $450 = $225 million. Cameron would depreciate those buildings over their remaining 10 year life, so Lake would recognize $22.5 million of depreciation expense per year ($225 million ÷ 10 years). Therefore, at December 31, 2009, the buildings associated with the Lake investment would have a carrying value of
$202.5 million ($225 million cost - $22.5 million accumulated depreciation).
Land is not amortized, so its carrying value would not change from its value on January 1, 2009.
Goodwill is not amortized, so its carrying value would not change from its value on January 1, 2009.
Because Lake would be consolidated with Cameron, there would be no effect of this investment on Cameron’s Equity method investment account at December 31,
2009.
Requirement 1
Electing the fair value option for held-to-maturity securities simply requires reclassifying those securities as trading securities. Therefore, this investment would be classified as a trading security on Tanner-UNF’s balance sheet.
Requirement 2 ($ in millions)
Investment in bonds (face amount)... 240
Discount on bond investment (difference)... 40 Cash (price of bonds)... 200
Requirement 3
Cash (3% x $240 million)... 7.2 Discount on bond investment (difference)... .8
Interest revenue (4% x $200)... 8.0
The effect of the investment on Cameron’s December 31, 2009 retained earnings would not differ between the equity method and proportionate consolidation treatments. Under the equity method, Cameron would recognize investment revenue based on its share of Lake’s net income, while under proportionate consolidation, Cameron would include its share of Lake’s revenue and expenses on those lines of the consolidated income statement. Regardless, the same total amount would be included in Cameron’s net income and closed to Cameron’s retained earnings.
Exercise 12-19
Requirement 4
The carrying value of the bonds is $240 – ($40 – $0.8) = $200.8. Therefore, to adjust to fair value of $210, Tanner-UNF would need the following journal entry:
Fair value adjustment... 9.2
Net unrealized holding gains and losses—I/S ($210 – 200.8) 9.2
Requirement 5
Tanner-UNF reports its investment in the December 31, 2009, balance sheet at fair value of $210 million.
Requirement 6 ($ in millions)
Cash (proceeds from sale)... 190.0 Loss on sale of investments (to balance)... 10.8 Discount on bond investment (account balance)... 39.2
Investment in bonds (account balance)... 240.0
Assuming no other trading securities, the 2010 adjusting entry would be:
Net unrealized holding gains and losses—I/S... 9.2
Fair value adjustment (account balance) ... 9.2
Requirement 1
Electing the fair value option for available-for-sale securities simply requires reclassifying those securities as trading securities. Therefore, this investment would be classified as a trading security on Sanborn’s balance sheet.
Requirement 2
Purchase ($ in millions)
Investment in Jackson Industry shares... 90 Cash ... 90
Net income
No entry
Dividends
Cash (5% x $60 million)... 3 Investment revenue... 3
Adjusting entry
Fair value adjustment ($98 - 90 million)... 8 Net unrealized holding gains and losses—I/S... 8
Exercise 12-20
Requirement 3
Investment revenue (dividends)... $ 3,000 Net unrealized holding gains and losses (from adjusting entry) 8,000 Total effect on 2009 net income before taxes
11,000
Requirement 1
Electing the fair value option for significant-influence investments requires use of the same basic accounting approach that is used for trading securities. However, the investments will still be classified as significant-influence investments and shown either on the same line of the balance sheet as equity-method investments (but with the amount at fair value indicated parenthetically) or on a separate line of the balance sheet.
Requirement 2
Purchase ($ in millions)
Investment in Nursery Supplies shares... 56
Cash ... 56
Net income
No entry.
Exercise 12-21
Dividends
Cash (30% x 8 million shares x $1.25)... 3
Investment revenue... 3
Adjusting entry...
Net unrealized holding gains and losses—I/S ($56 - 52 million)4
Fair value adjustment... 4
Note: A different approach to reach the same outcome would be for Florists to use equity-method accounting throughout the year, and then at the end of the year make whatever adjustment to fair value is necessary to adjust the investment account to fair value. Under that approach, Florists would recognize 30% of Nursery’s $40 million of income ($12 million) as investment income, it would not recognize investment income associated with Nursery’s dividend, and would end up with an Investment account containing $65 ($56 million + $12 million – $3 million). The company would need to make a fair value adjustment of $13 million ($65 million – 52 million). So the total amount of loss recognized would be $1 million ($12 million investment income – $13 million unrealized loss). Note that this alternative produces the same total amount of investment loss as is
produced above: $1 million ($3 million investment revenue – $4 million unrealized loss).
Requirement 1
Insurance expense (difference)... 64,000 Cash surrender valueof life insurance ($27,000 – 21,000)... 6,000
Cash (2009 premium)... 70,000
Requirement 2
Cash (death benefit)... 4,000,000
Cash surrender valueof life insurance (account balance) 27,000 Gain on life insurance settlement (to balance)... 3,973,000
Requirement 1
Insurance expense (difference)... 22,900 Cash surrender valueof life insurance ($4,600 – 2,500). . 2,100
Cash (premium)... 25,000
Requirement 2
Cash (death benefit)... 250,000
Cash surrender valueof life insurance (account balance) 16,000 Gain on life insurance settlement (to balance)... 234,000
ANALYSIS
Previous Value:
Accrued 2008 interest (10% x $12,000,000) $ 1,200,000
Principal 12,000,000
Carrying amount of the receivable $13,200,000
Exercise 12-22
Exercise 12-23
Exercise 12-24
New Value:
Interest $1 million x 1.73554 * = $1,735,540 Principal $11 million x 0.82645 ** = 9,090,950
Present value of the receivable (10,826,490 )
Loss: $ 2,373,510
* present value of an ordinary annuity of $1: n=2, i=10% (from Table 4)
** present value of $1: n=2, i=10% (from Table 2)
JOURNAL ENTRIES
January 1, 2009
Loss on troubled debt restructuring (to balance)... 2,373,510
Accrued interest receivable (account balance)... 1,200,000 Note receivable ($12,000,000 - 10,826,490)... 1,173,510
December 31, 2009
Cash (required by new agreement)... 1,000,000 Note receivable (to balance)... 82,649
Interest revenue (10% x $10,826,490)... 1,082,649
December 31, 2010
Cash (required by new agreement)... 1,000,000 Note receivable (to balance)... 90,861
Interest revenue (10% x [$10,826,490 + 82,649])... 1,090,861*
Cash (required by new agreement)... 11,000,000
Note receivable (balance)... 11,000,000
Amortization Schedule – Not required
Cash Effective Increase in Outstanding
Interest Interest Balance Balance
by agreement 10% x Outstanding Balance Discount Reduction
10,826,490 1 1,000,000 .10 (10,826,490) = 1,082,649 82,649 10,909,139 2 1,000,000 .10 (10,909,139) = 1,090,861* 90,861 11,000,000
2,000,000 2,173,510 173,510
* rounded
ANALYSIS
Previous Value:
Accrued 2008 interest (10% x $240,000)$ 24,000
Principal 240,000
Carrying amount of the receivable $264,000
New Value:
$11,555 + 11,555 + 11,555 + 240,000 = $274,665
$274,665 x 0.82645 * = (226,997 )
Loss: $ 37,003
* present value of $1: n=2, i=10% (from Table 2)
JOURNAL ENTRIES
Exercise 12-24 (concluded)
Exercise 12-25
January 1, 2009
Loss on troubled debt restructuring (to balance)... 37,003
Accrued interest receivable (10% x $240,000)... 24,000 Note receivable ($240,000 - 226,997)... 13,003
December 31, 2009
Note receivable (to balance)... 22,700
Interest revenue (10% x $226,997)... 22,700
December 31, 2010
Note receivable (to balance)... 24,968
Interest revenue (10% x [$226,997 + 22,700])... 24,968*
Cash (required by new agreement)... 274,665
Note receivable (balance)... 274,665
* rounded to amortize the note to $274,665 (per schedule below)
Amortization Schedule – Not required
Cash Effective Increase in Outstanding
Interest Interest Balance Balance
by agreement 10% x Outstanding Balance Discount Reduction
226,997
Sales price (2,000 shares x $14) $28,000
Less: Brokerage commission (1,400)
Net Proceeds $26,600
Less: Cost of investment (31,500)
Realized loss on trading security $(4,900)
If these securities had been categorized as available-for-sale, the total loss of
$4,900 would have been recognized in net income. The prior year's unrealized holding loss would not have been included (recognized) in earnings (net income), but rather would have been reported as an element of other comprehensive income. A reclassification adjustment for the unrealized holding loss ($2,000) would also be included in other comprehensive income to remove it from the Exercise 12-25 (concluded)