Investments in Equity Securiries

Investments in Equity
Securities
(Text, Chapter 2 and pp 427-431)
Presenter
Chuck Campbell
UNIVERSITY OF BRITISH COLUMBIA
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Chapter 2 Learning Objectives

1. Distinguish between the various categories of intercompany
equity investments.
2. Prepare journal entries to account for investments carried at
fair value with revaluation gains/losses through net income.
3. Prepare journal entries to account for investments carried at
fair value with revaluation through other comprehensive
income.
4. Prepare journal entries to account for investments accounted
for using the equity method.
5. Prepare journal entries to account for investments accounted
for using the cost method.
6. Identify some of the differences between IFRSs and ASPE for
accounting for investments in equity securities.
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INTRODUCTION TO INTERCORPORATE
INVESTMENTS
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Types of equity investments

Non-strategic investments
fair value through profit and loss (FVTPL)
fair value through OCI (FVTOCI)
Strategic investments
with significant influence significantly influenced
investment or associated company
with joint control joint operation or joint venture
with control subsidiary
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Classification of Investments
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Reporting methods
Non-strategic investments
fair value method (with changes to net income)

fair value method (with changes to other comprehensive
income)
cost method
Strategic investments
equity method (significant influence investments and joint

ventures)
proportionate consolidation (joint operations)
full consolidation (subsidiaries)
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Accounting (recording) methods

cost method
equity method
fair value method (with changes to net income)
fair value method (with changes to other
comprehensive income)
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Impact of IFRS 9
IFRS 9, introduces three significant changes:
the default classification for non-strategic
investments changes from FVTOCI to FVTPL;
all non-strategic investments must be valued at
fair value (cost method not permitted);
realized gains and losses on FVTOCI
investments go directly from AOCI to retained
earnings without going through net income.
Although the date for mandatory implementation of IFRS 9
has been deferred indefinitely, early adoption is encouraged
(and will be assumed for all questions in this course.)
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ACCOUNTING FOR INVESTMENTS AT

FAIR VALUE THROUGH PROFIT AND
LOSS (FVTPL)
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FVTPL (held-for trading) investments
This terminology has changed from held-fortrading investments to investments valued at

fair value through profit and loss (FVTPL).
This recognizes that the valuation of such
investments will be at fair value with the
unrealized revaluation gains and losses being
accounted for in net income as they occur.
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FVTPL investments
With the implementation of IFRS 9, all nonstrategic
investments must be valued at fair value, including
investments in non-traded private companies.
On initial recognition, an entity can elect to present
the fair value changes on an equity investment that
is not held for short-term trading in other
comprehensive income (OCI).
If this election is not made, revaluation gains and
losses on all non-strategic investments will be
reported in net income.
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FVTPL investments
They are initially recorded at fair value.
Transaction costs must be charged to net income at
acquisition.
Dividends are taken to income as declared.
They are revalued to fair value at each financial statement
date.
Changes in value are recorded in net income as they
occur.
Effectively, revaluations are considered as realized as they
occur.
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FVTPL investments
Investorco acquired 2,000 shares of A Company on January 1,
2012, at a cost of $20.00 per share plus a 2% brokerage
charge. (This was 10% of the outstanding shares of A
Company). At the close of business on December 31, 2012, the
shares were trading at $18.00 per share and at the close of
business on December 31, 2013, were trading at $21.00 per
share. On October 1, 2014, Investorco sold 50% of the shares
for proceeds of $22,250. The share price at December 31, 2014
was $22.50. The investment was considered to be a fair value
through profit and loss investment throughout the period during
which it was held. A Company earned income of $50,000 per
year and paid dividends of $0.50 per share on June 30 and
December 31 each year.
What journal entries would be required to account for this
investment (and the income from it) from Jan 1, 2012 to Dec 31,
2014?
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FVTPL investments
Jan 1, 2012 Investment in A Co

40,000
Investment expenses
800
Cash
40,800
June 30, 2012 Cash
Dividend income
Dec 31, 2012
Cash
Dividend income
1,000
1,000
1,000
1,000
Investment revaluation loss 4,000

Investment in A Co
4,000
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FVTPL investments
June 30, 2013 Cash

Dividend income
1,000
1,000
Dec 31, 2013

Cash
Dividend income
1,000
1,000
Investment in A Co
6,000
Investment revaluation gain
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6,000
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FVTPL investments
June 30, 2014 Cash
Dividend income
Oct 1, 2014
1,000
1,000
Cash
22,250
Gain on sale of shares
1,250
Investment in A Co
21,000
Dec 31, 2014 Cash

Dividend income
500
500
Investment in A Co
1,500
Investment revaluation gain 1,500
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FVTPL investments
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FVTPL investments -- summary
They are recorded at cost when acquired.

Dividend income is recorded as dividends are
declared by investee.
They are revalued at each financial statement
date with revaluation gains or losses included
in net income.
A gain or loss will be recorded on disposal.
All entries go through net income.
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ACCOUNTING FOR INVESTMENTS

VALUED AT FAIR VALUE THROUGH
OTHER COMPREHENSIVE INCOME
(FVTOCI)
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FVTOCI investments
Prior to the implementation of IFRS 9, this
classification was called available for sale
investments.
Until IFRS 9 is implemented, this is the default
category for non-strategic investments; with the
implementation of IFRS 9, the default will be FVTPL
and investments may only be accounted for as
FVTOCI if an election is made at the time of initial
recognition.
Revaluation gains are recorded in OCI as they
occur.
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FVTOCI investments
Gains and losses may be transferred from
accumulated OCI to retained earnings at any time
(generally, this would be done when the investment
was sold and the revaluation gains or losses
realized).
With the introduction of IFRS 9, such balances must
be transferred directly to retained earnings without
being recycled through net income.
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FVTOCI investments
Their initial and subsequent measurement is at fair

value.
Under IFRS, transactions costs are usually
included in the initial value of the investment,
although they may be expensed at the option of
the investor.
Changes in value are recorded in other
comprehensive income as they occur.
Effectively, revaluations are considered as
unrealized until the investments are sold.
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FVTOCI investments
Investorco acquired 2,000 shares of A Company on January 1,
2012, at a cost of $20.00 per share plus a 2% brokerage
charge. (This was 10% of the outstanding shares of A
Company). At the close of business on December 31, 2012,
the shares were trading at $18.00 per share and at the close
of business on December 31, 2013, were trading at $21.00
per share. On October 1, 2014, Investorco sold 50% of the
shares for proceeds of $22,250. The share price at
December 31, 2014 was $22.50. Investorco elected to
account for this investment through OCI. A Company earned
income of $50,000 per year and paid dividends of $0.50 per
share on June 30 and December 31 each year. The company
included brokerage and other acquisition costs in the cost of
the investment. Revaluation gains and losses are transferred
to retained earnings when realized.
What journal entries would be required to account for this
investment (and the income from it) from January 1, 2012 to
December 31, 2014?
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FVTOCI investments
January 1, 2012 Investment in A Co 40,800
Cash
40,800
June 30, 2012
Cash
Dividend income
1,000
1,000
Dec 31, 2012

Cash
Dividend income
1,000
1,000
Inv revaluation loss (OCI) 4,800

Investment in A Co
4,800
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FVTOCI investments
June 30, 2013 Cash

Dividend income
1,000
1,000
Dec 31, 2013

Cash
Dividend income
1,000
1,000
Investment in A Co
6,000
Inv revaluation gain (OCI)
6,000
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FVTOCI investments
June 30, 2014 Cash
Dividend income
1,000
1,000
Oct 1, 2014 Investment in A Co

Cash
in A Co
2,500
2,500
22,250
22,250
Accumulated OCI
Retained earnings
Investment
1,850
1,850
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FVTOCI investments
Dec 31, 2014 Cash
Dividend income
500
500
Investment in A Co 250
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FVTOCI investments
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FVTOCI investments
declared by investee;
They are revalued at each financial statement date
with revaluation gains/losses included in OCI;
A gain/loss is recorded on disposal. Under IFRS 9,
gains/losses are transferred from accumulated OCI
directly to retained earnings (usually on disposal).
This is the only investment category using OCI.
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Other comprehensive income

Other comprehensive income is a relatively new term in
accounting and consists of revenues, expenses, gains and
losses that are required to be included in comprehensive
income, but excluded from net income, and includes such
items as:
gains and losses on revaluation of investments valued at fair
value through OCI;
gains on revaluation of capital assets (losses generally are
charged against net income);
unexpected valuation gains and losses from accounting for
defined benefit pension plans;
gains and losses on derivatives designated as cash flow
hedges;
unrealized gains and losses on translating the financial
statements of self-sustaining foreign operations.
OCI is part of IFRS but is not part of ASPE.

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Other comprehensive income

Comprehensive income for the year is made up of two
elements net income and other comprehensive income.
At the end of the year, net income is transferred to retained
earnings and other comprehensive income is generally
transferred to a separate account in shareholders equity
called accumulated other comprehensive income.
Net income and other comprehensive income may be
reported on a single statement of comprehensive income
(ending with comprehensive income for the year) OR
reported separately in an income statement (concluding
with net income for the year) and a separate statement of
comprehensive income. The sources of the changes in
other comprehensive income must be disclosed. (The
sources are listed on the previous slide.)
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ACCOUNTING USING THE COST AND

EQUITY METHODS
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Cost method of accounting -- IFRS

IFRS currently permits the cost method to be used
to report investments when investments accounted
for at fair value through OCI do not have a reliable
market value. This will be changed with the
implementation of IFRS 9 to require that all
available-for-sale securities be valued at fair value.
The cost method may also used to account for (but
not report) other investments such as subsidiaries.
The cost method may be used to report investments
in subsidiaries where the parent prepares single
entity (unconsolidated) financial statements under
IFRS.
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Cost method of accounting -- ASPE

Under ASPE, the cost method may be used to
report a number of investments, including nonstrategic investments without a reliable market
value, investments with significant influence, joint
operations and subsidiaries.
ASPE does not permit the cost method to be used
for any investment which is traded on an exchange
and has a reliable market value.
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Cost method of accounting

The investment is recorded at cost and is not
revalued unless there is a permanent decline in
value.
Dividends are recorded when received or
receivable.
Prior to 2009, when dividends exceeded the
investors share of earnings since acquisition, this
was considered to be a return of capital (liquidating
dividend). These were regarded as a recovery of
investment and credited to the investment account.
Since 2009, all dividends from investments
accounted for using the cost method are taken to
income when received or receivable.
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On January 1, 2013, Holding Company Inc. paid
$100,000 for 10% of the outstanding shares of Cougar
Inc. During 2013, Cougar Inc. had a net income of
$150,000 and paid dividends of $100,000 at the end
of that year. During 2014, Cougar Inc. had a net
income of $50,000 and paid dividends of $120,000 at
the end of that year. Holding Company reports under
ASPE and has elected to account for this investment
using the cost method.
What journal entries would have been required to
account for the investment in Cougar Inc. and the
receipt of the dividends from Cougar for the years
2013 and 2014?
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At acquisition: Dr. Investment in Cougar Inc. $100,000
Cr. Cash
$100,000
No entry is made to record Holding Companys share of
Cougar Inc.s income for 2013.
On receipt of the 2013 dividend:
Dr. Cash
$ 10,000
Cr. Investment income (Cougar Inc.)
$10,000
On receipt of the 2014 dividend:

Dr. Cash
$12,000
Cr. Investment income (Cougar Inc.)
$12,000
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declared by investee.
They are not revalued unless there is a permanent
decline in value.
A gain or loss recorded on disposal.
All transactions are recorded in net income.
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The concept of control

1. Control is the ability of an investor to use its power over the
investee to affect variable returns from its investment in the
investee. This is usually achieved by owning a majority of the
voting shares of the investee.
2. Significant influence is the ability to influence the
strategic operating, investing and financing activities of an

investee. This is usually achieved by owning at least 20%
(but less than a majority) of the voting shares of the investee.
3. No influence is no ability to influence the strategic
operating, investing and financing activities of an investee.

This is usually considered to be the case where the investor
owns less than 20% of the voting shares of the investee.
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The concept of control

1. Control may exist without majority ownership.
2. Control may not exist even with majority
ownership.
3. Professional judgement must be used to
determine whether control (or significant
influence) exists.
4. Control will be assumed where majority
ownership exists.
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Subsidiaries
A subsidiary is defined as an enterprise

controlled by another enterprise (the parent)
that has the right and ability to obtain future
economic benefits from the resources of the
enterprise and is exposed to the related risks.
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Significant influence
. Like control, significant influence is a matter of
determination by applying professional judgement in
each case.
. Indicators of significant influence include:
representation on the board of directors;

participation in policy-making processes;
material intercompany transactions;
exchange of management personnel;
exchange of essential technical information.
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The equity method of accounting

IFRS requires the use of the equity method to
report investments where significant influence
exists and also for joint ventures.
The initial investment is recorded at cost.
The investment account is adjusted each
period for the investors share of the investees
change in retained earnings (i.e., net income
less dividends).
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Investment income is equal to the investors share
of the reported net income of the investee. An entry
is made to debit the investment account and credit
investment income for that amount.
Gains or losses on discontinued operations, other
comprehensive income, etc., must be separately
reported by the investor.
Dividends are credited to the investment account
(not income) when received or receivable.
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On January 1, 2014, Holding Company Inc. paid
$125,000 for 25% of the outstanding shares of
Puma Inc. On that date, Puma had net assets of
$500,000. During 2014, Puma Inc. had a net
income of $100,000 and paid dividends of $80,000
at the end of that year.
Required: Prepare the journal entries to record
Holding Companys acquisition of the shares in
Puma Inc. and its investment income for the year
2014 if the investment in Puma is recorded using
the equity method.
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At acquisition:
Dr. Investment in Puma Inc.
Cr. Cash
$125,000
$125,000.
On notification of Puma Inc.s net income for 2014:

Dr. Investment in Puma Inc.
$ 25,000
Cr. Investment income (Puma Inc.) $25,000
On receipt of the dividend:
Dr. Cash
$ 20,000
Cr. Investment in Puma Inc.
$20,000
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It is possible for the investment account to go
into a negative balance. A negative balance
can be shown if:
the investor has guaranteed obligations of the
investee,
the investor is committed to provide further
financial support, or
the investee seems assured of returning to
profitability (not permitted by IFRS but allowed by
both ASPE and US GAAP).
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When using the equity method (within IFRS), all of
the adjustments that would be required in preparing
consolidated statements are also required in
determining the investment income of the investor.
These relate primarily to the amortization of
components of the difference between the purchase
price and net book value at acquisition (the
acquisition differential or purchase discrepancy) and
the elimination of unrealized gains and losses
arising from intercompany transactions.
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If there is a loss of value, other than a
temporary decline, the investment must be
written down with the write-down included in
the determination of net income.
Indicators of impairment of an investment
include depressed market prices, severe or
continued losses, suspension of trading, and
liquidity or going concern problems.
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Investments are recorded at cost when acquired.
The investors share of the income of the investee
is recorded as investment income when earned.
Dividends are not taken to income but reduce the
investment account.
Investments are not revalued unless there is a
permanent decline in value.
A gain or loss is recorded on disposal.
All transactions are recorded in net income.
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Changes in Classification
When the classification of an investment changes,
usually due to the purchase or sale of shares in the
investee, the accounting must change
(prospectively) to conform to the new classification.
The investment account balance, on the date of the
transaction causing the change in classification,
must be updated to that transaction date using the
method previously used.
When control is initially achieved, any previous
investment holding must be revalued to fair value at
the date that control is first achieved.
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ASPE Provisions
The default category for equity investments is fair value
through profit and loss.
Any equity investment may be reported at fair value.
ASPE permit either the equity or the cost method to be
used to account for all significant influence investments
that are not publicly traded.
Investments in and income from cost-accounted
investments should be separately reported, net of any
impairment losses.
The cost method is not permitted for publicly traded
investments which must be accounted for at FVTPL.
ASPE does not require amortization of any purchase
differential when reporting using the equity method.
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Investments in Equity

UNIVERSITY OF BRITISH COLUMBIA

Chapter 2 Learning Objectives

UNIVERSITY OF BRITISH COLUMBIA

Types of equity investments

UNIVERSITY OF BRITISH COLUMBIA

fair value method (with changes to net income)

equity method (significant influence investments and joint

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Accounting (recording) methods

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ACCOUNTING FOR INVESTMENTS AT

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FVTPL (held-for trading) investments

This terminology has changed from held-fortrading investments to investments valued at

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Jan 1, 2012 Investment in A Co

Investment revaluation loss 4,000

June 30, 2013 Cash

Dec 31, 2013

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Dec 31, 2014 Cash

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FVTPL investments -- summary

They are recorded at cost when acquired.

ACCOUNTING FOR INVESTMENTS

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Their initial and subsequent measurement is at fair

Dec 31, 2012

Inv revaluation loss (OCI) 4,800

June 30, 2013 Cash

Dec 31, 2013

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Oct 1, 2014 Investment in A Co

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Other comprehensive income

OCI is part of IFRS but is not part of ASPE.

Other comprehensive income

ACCOUNTING USING THE COST AND

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Cost method of accounting -- IFRS

Cost method of accounting -- ASPE

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Cost method of accounting

Cost method of accounting

Cost method of accounting

On receipt of the 2014 dividend:

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Cost method of accounting

They are recorded at cost when acquired.

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The concept of control

2. Significant influence is the ability to influence the

strategic operating, investing and financing activities of an

3. No influence is no ability to influence the strategic

operating, investing and financing activities of an investee.

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The concept of control

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