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FINANCIAL INSTRUMENTS

Investment are assets not directly related to central revenue producing activities of the enterprise but are acquired by
the entity for any of the following purposes: to have other source of income; to establish long-term relationship with
suppliers and customers; to acquire control or significant influence over another entity; to accumulate funds for future
use; for the entity’s future protection or for appreciation in value.

A financial asset is any asset that is:


1. Cash
2. A contractual right to receive cash or another financial asset from another entity. ‘
3. A contractual right to exchange financial instruments with another entity under conditions that are potentially
favorable.
4. An equity instrument of another entity.

There are two types of financial instruments – equity securities and debt securities.

Debt securities or investment in debt Equity securities or investment in


securities equity securities
Definition Any security that represents a creditor It encompasses any instrument
relationship with an entity. It has maturity representing ownership shares and
date and maturity value. right, warrants or options to acquire
or dispose of ownership shares at
fixed or determinable price.

Business model (a) the business model for managing (a) the business model in order
financial assets and contractual to realize fair value changes
cash flow characteristics of the
financial assets
(b) the business model in order to
realize fair value changes

Classification – Financial assets Included Included


at fair value through profit or
loss
(FA@FVTPL)

Classification – financial asset at Included Included


fair value through other
comprehensive income
(FA@FVTOCI)

Classification – financial assets Included Not included


at amortized cost
(FA@AC)

QUALIFICATIONS AND CLASSIFICATIONS OF FINANCIAL ASSETS.

Financial assets at fair value Financial assets at fair value Financial assets at
through profit or loss through other comprehensive amortized cost
income
Inclusion  As required by standard, Equity instruments - At initial  The business model
PRFS 9, financial assets recognition, PFRS 9, provides for managing
held for trading or that an entity makes an financial assets and
popularly known as irrevocable election to present  The contractual cash
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“trading securities” in other comprehensive income flow characteristics
 By consequence in or OCI subsequent changes in of the financial
accordance with the fair value of an investment in assets are solely
application guide of PFRS equity instrument that is not payments of
9, all other investment in held for trading. principal and interest
quoted equity on the principal
instruments. This irrevocable approach is amount outstanding.
 By option or irrevocably designed to impose discipline in
designation, financial accounting for nontrading
assets that are irrevocably equity investment.
designated on initial
recognition as at fair value Note: Equity investment will
through profit or loss. only qualify under business
 By default, in accordance model of realizing fair value
with PFRS 9, all debt changes. Thus, irrevocable
instruments that do not election executes nontrading
satisfy the requirements equity investment or equity
for measurement at investment at fair value through
amortized cost and at fair OCI.
value through other
comprehensive income. The amount recognized in other
comprehensive income is not
Note: PFRS 9 provides that a reclassified to profit or loss
financial asset is held for trading under any circumstances.
if: Subsequent changes in fair
(a) it is acquired principally for the value are always part of other
purpose of selling or repurchasing comprehensive income.
it in the near term;
(b) on initial recognition, it is part Debt instruments –
of a portfolio of identified financial • The business model for
assets that are managed together managing financial assets and
and for which there is evidence of by selling the financial assets.
a recent actual pattern of short-
term profit taking; • The contractual cash
(c) it is a derivative, except for a flow characteristics of the
derivative that is a financial financial assets are solely
guarantee contract or a payments of principal and
designated and an effective interest on the principal amount
hedging instrument. outstanding.

Initial FAIR VALUE FAIR VALUE PLUS FAIR VALUE PLUS


measurement at the date of acquisition. TRANSACTION COST TRANSACTION COST
(FV) DIRECTLY ATTRIBUTABLE TO DIRECTLY ATTRIBUTABLE
THE ACQUISITION TO THE ACQUISITION
Fair value at the date of at the date of acquisition. at the date of acquisition.
acquisition may be the purchase (FV + TC) (FV + TC)
price, transaction price,
consideration given or quoted
price of the instrument.

Transaction Not included. Should be reported Included. Shall be added and Included. Shall be added and
cost at initial as part of profit or loss. Expensed capitalized as part of the initial capitalized as part of the
measurement outright. carrying value or initial cost of initial carrying value or initial
the financial instruments. cost of the financial
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instruments.
Transaction costs include fees
and commissions paid to Transaction costs include
agents, advisers, brokers and fees and commissions paid to
dealers, levies by regulatory agents, advisers, brokers and
agencies and securities dealers, levies by regulatory
exchanges, and transfer taxes or agencies and securities
duties. exchanges, and transfer
taxes or duties.
Transaction cost do not include
debt premiums or discount, Transaction cost do not
financing cost and internal include debt premiums or
administrative or holding cost. discount, financing cost and
internal administrative or
holding cost.

Subsequent Apply business model: (a) the Apply business model: (a) the Apply business model (a) the
measurement business model in order to realize business model in order to business model for managing
fair value changes realize fair value changes financial assets and
contractual cash flow
Fair value, subsequent date xx Fair value, subsequent date xx characteristics of the
Carrying value xx Carrying value financial assets.
Increase or decrease xx xx
Increase or decrease Use the effective interest
If the fair value is higher than the xx method.
carrying amount, the difference is
an unrealized gain. If the fair value is higher than
(FV > CA) = UG the carrying amount, the
difference is an unrealized gain.
If the fair value is lower than the (FV > CA) = UG
carrying amount, the difference is
an unrealized loss. If the fair value is lower than the
(FV < CA) = UL. carrying amount, the difference
is an unrealized loss.
Gain or loss on financial assets at (FV < CA) = UL.
fair value through profit or loss
shall be presented in profit or loss Gain or loss on financial assets
or income statement. at fair value through other
comprehensive income shall be
presented in other
comprehensive income in the
period realized and
cumulatively in the
shareholder’s equity section of
the balance sheet.

Derecognition The difference between the cash The difference between the Not applicable
or disposal – received and the carrying amount cash received and the carrying
equity is recognized as gain or loss on amount is recognized as gain or
investment disposal to be reported in the loss on disposal to be reported
income statement. in the retained earnings.

If the cash received is higher than If the cash received is higher


the carrying amount, the than the carrying amount, the
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difference is gain. difference is gain.
(CR > CA) = Gain. (CR > CA) = Gain.

If the cash received is lower than If the cash received is lower


the carrying amount, the than the carrying amount, the
difference is loss. difference is loss.
(CR < CA) = Loss. (CR < CA) = Loss.

In addition, the cumulative gain


or loss previously recognized in
other comprehensive income is
also transferred to retained
earnings.

Derecognition The difference between the net The difference between the net The difference between the
or disposal – selling price and the carrying selling price and the carrying net selling price and the
debt amount is recognized as gain or amount is recognized as gain or carrying amount is
investment loss on disposal to be reported in loss on disposal to be reported recognized as gain or loss on
the income statement. in the income statement. disposal to be reported in
the income statement.
If the net selling price is higher If the net selling price is higher
than the carrying amount, the than the carrying amount, the If the net selling price is
difference is gain. difference is gain. higher than the carrying
(NSP > CA) = Gain. (NSP > CA) = Gain. amount, the difference is
gain.
If the net selling price is lower If the net selling price is lower (NSP > CA) = Gain.
than the carrying amount, the than the carrying amount, the
difference is loss. difference is loss. If the net selling price is
(NSP < CA) = Loss. (NSP < CA) = Loss. lower than the carrying
amount, the difference is
In addition, the cumulative gain loss.
or loss previously recognized in (NSP < CA) = Loss.
other comprehensive income is
also transferred to retained
earnings.

FINANCIAL ASSETS AT FAIR VALUE – COMPARED.


Prepare for the following transactions:

TRANSACTION Financial assets at fair value through profit Financial assets at fair value through
or loss other comprehensive income

Initial recognition

Initial recognition with


transaction cost

Unrealized gain

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Unrealized loss

Derecognition through
sale of instrument

Let’s do it!

Exercise 1: During 2019, the first year of operations, Beneath Company purchased the following equity securities:

Cost excluding transaction Market value as of Market value as of


cost December 31, 2019 December 31, 2020
Security 1 2,200,000 1,400,000 900,000
Security 2 700,000 1,000,000 1,100,000
Security 3 1,600,000 1,500,000 1,600,000
Security 4 2,000,000 2,500,000 1,200,000

In relation to acquiring these securities, the following transaction costs are reported:

Transaction cost
Security 1 200,000
Security 2 300,000
Security 3 400,000
Security 4 150,000

Security 1 and 2 are held for trading and Security 3 and 4 are measured as at fair value through other comprehensive
income by irrevocable election. During 2020, the entity sold one-half of Security 1 for P1,000,000 and one-half of
security for P1,300,000.

Required: Prepare journal entries for 2019 and 2020.

Problems:
On December 28, 2013, Anne Company commits itself to purchase a financial asset to be classified as held for trading for
P800,000, its fair value on commitment date. This security has a fair value of P801,000 and P802,000 on December 31,
2013 and January 5, 2014, the settlement date respectively.

1. If Anne applies the trade date accounting method to account for regular-way purchase of its securities, how much
should be recognized as trading securities on December 31, 2013?
a. 800,000 c. 802,000
b. 801,000 d. 0

2. If Anne applies the settlement date accounting method to account for regular-way purchase of its securities, how
much should be recognized as trading securities on December 31, 2013?
a. 800,000 c. 802,000
b. 801,000 d. 0

3. Raiza Company acquired financial asset at the market value of P3,200,000. Broker fees of P200,000 were incurred in
relation to the purchase. At what amount should the financial asset initially be recognized respectively if it is classified as
at fair value through profit or loss, or as at fair value through other comprehensive income?
a. 3,400,000 and 3,200,000 c. 3,200,000 and 3,400,000
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b. 3,200,000 and 3,200,000 d. 3,400,000 and 3,400,000

4. Carmela Company acquired a financial instrument for P4,000,000 on March 31,2014. The financial instrument is
classified as financial asset through other comprehensive income. The direct acquisition costs incurred amounted to
P700,000. On December 31,2014, the fair value of the instrument was P5,500,000 and the transaction costs that would
be incurred on the sale of investment are estimated at P600,000. What gain should be recognized on other
comprehensive income for the year ended December 31,2014?
a. 200,000 c. 800,000
b. 900,000 d. 0

5. On December 31,2014, Fay Company appropriately reported a P100,000 unrealized loss. There was no change during
2015 in the composition of the portfolio of marketable equity securities held as financial asset at fair value through
other comprehensive income.
Security Cost Market Value, 12/31/2015
A 1,200,000 1,300,000
B 900,000 500,000
C 1,600,000 1,500,000

What amount of loss on these securities should be included in the statement of comprehensive income for the year
ended December 31,2015 as component of other comprehensive income?
a. 400,000 c. 100,000
b. 300,000 d. 0

6. Inspiration Company had trading and nontrading investments held throughout 2014 and 2015. The nontrading
investments are measured at fair value through other comprehensive income. The investments had a cost of P3,000,000
for trading and P3,000,000 for nontrading. The investments had the following fair value at year-end:
12/31/2015 12/31/2014
Trading 3,800,000 4,000,000
Nontrading 3,700,000 3,200,000

What amount of unrealized gain or loss should be reported in the income statement for 2015?
a. 200,000 gain c. 300,000 gain
b. 200,000 loss d. 300,000 loss

What amount of cumulative unrealized gain or loss should be reported as component of other comprehensive income in
the statement of changes in equity on December 31, 2015?
a. 500,000 gain c. 700,000 gain
b. 500,000 loss d. 700,000 loss

7. On January 1, 2014, an entity purchased marketable equity security not qualifying as financial asset held for trading.
The entity elected to present changes in fair value as component of other comprehensive income. On December 31,
2014, the securities have the following cost and market value:
Cost Market
Security A 1,000,000 1,100,000
Security B 2,000,000 2,700,000
Security C 3,000,000 2,800,000

On July 1, 2015, Security A was sold for P1,400,000. On December 31, 2015, the remaining securities have the market of
3,500,000 and 2,750,000 for B and C, respectively.

On December 31, 2014, what should be recognized as net increase in the market value of the securities?
a. 600,000 gain c. 750,000 gain
b. 600,000 loss d. 750,000 loss

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What should be reported as gain on sale of Security A?
a. 300,000 c. 400,000
b. 100,000 d. 0

Cumulative unrealized gains/ losses transferred to retained earnings


a. 300,000 c. 400,000
b. 100,000 d. 0

2015 statement of comprehensive income will report


a. 1,250,000 gain c. 750,000 gain
b. 1,250,000 loss d. 750,000 loss

2015 statement of changes in equity will report


a. 1,250,000 gain c. 750,000 gain
b. 1,250,000 loss d. 750,000 loss

---- end ----

Investment in Equity Securities

Investment in equity securities are investment in ownership and potential ownership shares. Based on the intention of
the holding entity and the level of influence acquired, investment in equity securities are classified either as:

Threshold Interest Description Accounting Treatment /


Method
It is presumed that the Equity investment at fair
Less than 20% (1% to 19%) Passive Interest investor does not have value using the fair value
significant influence over method.
the over the investee
company Fair value Method

PFRS 9
It is presumed that the Investment in associate
20% to 49% Significant Influence investor has significant
influence over the investee Equity method – unless it is
company expected to be disposed
within 12 months

PAS 28

50% Common Control / Joint


Control
It is presumed that the has Investment in subsidiary
51% to 100% Control control over the investee
company.

Parent-subsidiary
relationship exits.

Let’s do it!

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Cobb Company purchased 10,000 shares representing 2% ownership of Roe Company on February 15, 2017. Cobb
Company received a stock dividend of 2,000 shares on March 31, 2017, when the carrying amount per share was P350
and the market value per share was P400. Roe Company paid a cash dividend of P15 per share on September 15, 2017.
In the income statement for the year ended October 31, 2016 what amount should be reported as dividend income?
A. 980,000
B. 880.000
C. 180,000
D. 150,000

During 2017, Lawan Company bought the shares of Burwood Commpany as follows:
June 1 20,000 shares @ 100 2,000,000
December 1 30,000 shares @ 120 3,600,000
---------------
5,600,000
Transactions for 2017
January 10 Received cash dividend at P10 per share.
January 20 Received 20% stock dividend.
December 10 Sold 30,000 shares at P125 per share.

If the FIFO approach is used, what is the gain on the sale of the shares?
A. 1,150,000
B. 950,000
C. 150,000
D. 550,000

Wood Company owns 20,000 shares of Arlo Company’s 200,000 shares of P100 par, 6% cumulative, nonparticipating
preference share capital and 10,000 shares representing 2% ownership of Arlo’s ordinary share capital. During 2016,
Arlo declared and paid preference dividends of P2, 400, 000. No dividends had been declared or paid during 2015. What
amount should be reported as dividend income for 2016?
A. 120, 000
B. 125, 000
C. 240, 000
D. 245, 000

Wray Company provided the following data for 2016: On September 1, Wray received a P500, 000 cash dividend from
Seco Company in which Wray owns a 30% interest. On October 1, Wray received a P 60,000 liquidating dividend from
King Company. Wray owns a 5% interest in King. Wray owns a 2% interest in Bow Company, which declared a P
2,000,000 cash dividend on November 15, 2016 payable on January 15, 2017. What amount should be reported as
dividend income for 2016?
A. 600, 000
B. 560, 000
C. 100, 000
D. 40,000

During 2016, Neil Company held 30,000 shares of Brock Company’s 100, 000 outstanding shares and 6,000 shares of
Amal Company’s 300, 000 outstanding shares. During the year, Neil received P 300,000 cash dividend from Brock, P15,
000 cash dividend and 3% stock dividend from Amal. The closing price of Amal share is P150.
What amount should be reported as dividend revenue for 2016?
A. 342, 000
B. 315,000
C. 442,000
D. 15,000

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On March 1, 2016, Evan Company purchased 10,000 ordinary shares at P80 per share. On September 30, 2016, Evan
received 10,000 stock rights to purchase an additional 10,000 shares at P90 per share. The stock rights had an expiration
date on February 1, 2017. On September 30, 2016, the share had a market value P95 and the stock right had a market
value of P15. What amount should be reported in September 30, 2016 for investment in stock rights?
A. 150,000
B. 100,000
C. 50,000
D. 60,000

Adam Company owned 50, 000 ordinary shares of Bland Company. These 50, 000 shares were purchased by Adam for
P120 per share. On August 30, 2016 each share had a market value of P130 and each right had a market value of P20.
What total cost should be reported for the new shares that are acquired by exercising rights?
A. 2, 250, 000
B. 3, 250, 000
C. 3, 050, 000
D. 5, 500, 000

Excelsia Company issued rights to subscribe to its stock, the ownership of 4 shares entitling the shareholders to
subscribe for 1 share at P100. Jealina Company owns 50,000 shares of Exclesia Company with total cost of P 5, 000, 000.
The share is quoted right – on at P125. What is the cost of the new investment if all of the stock rights are exercised by
the investor?
A. 1, 500, 000
B. 1, 250, 000
C. 1, 562, 500
D. 1, 450, 000

On January 1, 2016 , Mylene Company purchased 50, 000 shares of another entity for P3, 600, 000. On October 1, 2016,
the entity received 50, 000 stock rights from the investee. Each right entitled the shareholder to acquire one share for
P85. The market price of the investee’s share was P100 immediately before the rights were issued and P90 immediately
after the rights were issued.

On December 1, 2016, the entity exercised all stock rights. On December 31, 2016 the entity sold 25, 000 shares at P90
per share. The stock rights are not accounted for separately. The FIFO approach is used.

What is the gain on sale of investment that should be recognized in 2016?


A. 450, 000
B. 700, 000
C. 287, 500
D. 125, 000

Investment in Associate

On January 1, 2016, Saxe company purchased 20% of Lex Company's ordinary shares outstanding for P6,000,000. The
acquisition cost is equal to the carrying amount if the net assets acquired. During 2016, the investee reported net
income of P7,000,000 and paid cash dividend of P4,000,000.

What is the balance in the investment in associate on December 31, 2016?


A. 5,200,000
B. 6,000,000
C. 6,600,000
D. 7,400,000

In January 2016, Farley Company acquired 20% of the outstanding ordinary shares of Davis Company for P8,000,000.
This investment gave Farley the ability to exercise significant influence over Davis. The carrying amount of the acquired

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shares was P6,000,000. The excess of cost over carrying amount was attributed to a depreciable asset which was
undervalued on Davis' statement on financial position and which had a remaining useful life of ten years.

For the year ended December 31, 2016, the investee reported net income of P1,800,000 and paid cash dividends of
P400,000 and thereafter issued 5% stock dividend. What is the carrying amount of the investment in associate on
December 31, 2016?
A. 7,720,000
B. 7,800,000
C. 8,000,000
D. 8,080,000

On January 1, 2016, Dyer Company acquired as a long-term investment a 20% ordinary share interest in Eason
Company . Dyer paid P7,000,000 for thus investment when the fair value of Eason's net assets was P35,000,000.
For the year ended December 31, 2016, the investee reported net income of P4,000,000 and declared and paid cash
dividends of P1,600,000. What amount of revenue from the investment should be reported for 2016?
A. 1,120,000
B. 480,000
C. 800,000
D. 320,000

On July 1, 2016, Denver Company purchased 30,000 shares of Eagle Company's 100,000 outstanding ordinary shares for
P200 per share. On December 15, 2016, the investee paid P400,000 in dividends to the ordinary shareholders. The
investee's net income for the year ended December 31, 2016 was P1,200,000, earned evenly throughout the year. What
amount of income from the investment should be reported in 2016?
A. 360,000
B. 180,000
C. 120,000
D. 60,000

On January 1, 2016, Ronald Company purchased 40% of the outstanding ordinary shares of New Company, paying
P6,400,000 when the carrying amount of the net assets of New Company equaled P12,500,000. The difference was
attributed to equipment which had a carrying amount of P3,000,000 and a fair market value of P5,000,000 and to
building which had a carrying amount of P2,500,000 and a fair value of P4,000,000. The remaining useful life of the
equipment and building was 4 years and 12 years respectively.

During 2016, New Company reported net income of P5,000,000 and paid dividends of P2,500,000. What amount should
be reported as investment income for 2016?
A. 2,000,000
B. 1,000,000
C. 1,800,000
D. 1,750,000

At the beginning of the current year, Kean Company purchased interest in Pod Company for P2,500,000. On this date
Pod's shareholders' equity was P5,000,000. The carrying amounts of Pod's identifiable net assets approximated their fair
values, except for land whose fair values exceeded the carrying amount by P2,000,000, The investee reported net
income of P1,000,0000 and paid no dividends during the current year.

What amount should be reported as investment in associate at year-end?


A. 2,100,000
B. 2,200,000
C. 2,800,000
D. 2,760,000

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At the beginning of the current year, Bing Company purchased 30,000 shares of Latt Company's 200,000 outstanding
ordinary shares for P6,000,000. On that day, the carrying amount of the acquired shares on Latt's book was P4,000,000.
Bing attributed the excess of cost over carrying amount to patent. The patent has a remaining useful life of 10 years.
During the current year, Bing's officers gained a majority on Latt's board of directors. Latt's Company reported earnings
of P5,000,000 for the current year and declared and paid dividend of P3,000,000 at year-end. What is the carrying
amount of the investment in associate at year-end?
A. 6,000,000
B. 6,100,000
C. 6,300,000
D. 6,750,000

On July 1, 2016 Miller Company purchased 25% of Wall Company's outstanding ordinary shares and no good will
resulted from the purchase. Miller appropriately carried this investment equity and the balance in Miller's investment
account was P1,900,000 on December 31, 2016. Wall Company reported net income of P1,200,000 for the year ended
December 31, 2016, and paid dividend totaling P480,000 on December 31, 2016. How much did Miller pay for the 25%
interest in Wall?
A. 1,720,000
B. 2,020,000
C. 1,870,000
D. 2,170,000

At the beginning of current year, Cyber Company bought 30% of the outstanding ordinary shares of Free Company for
P5,000,000 cash. Cyber Company accounts for this investment by the equity method. At the date of acquisition, Free
Company's net assets had a carrying amount of P12,000,000. Depreciable assets with an average remaining life of five
years have a current market value that is P2,500,000 in excess of their carrying amount. The remaining difference
between the purchase price and the carrying amount of the underlying equity cannot be attributed to any the carrying
identifiable by any tangible or intangible asset. Accordingly, the remaining difference is allocated to goodwill. Free
Company reported net income of P4,000,000 and paid cash dividends as of P1,000,000 during the current year.

What is the carrying amount of the investment in associate at year-end?


A. 5,000,000
B. 5,900,000
C. 5,750,000
D. 5,400,000

--- end ---

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