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Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094

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BuyFindarrow_forward

Accounting

27th Edition
WARREN + 5 others
ISBN: 9781337272094
Textbook Problem

Debt investment transactions, available-for-sale valuation

Soto Industries Inc. in an athletic foot ware company that began operations on January 1, Year 1. The following transactions relate to debt investments acquired by Solo Industries Inc., which has a fiscal year ending on December 31:

Year 1  
Apr. 1. Purchased $100,000 of Welch Co. 6%, 15-year bonds at their face amount plus accrued interest of $500. The bonds pay interest semiannually on March 1 and September 1.
June 1. Purchased $210,000 of Bailey 49%, 10-year bonds at their face amount plus accrued interest of $700. The bonds pay interest semiannually on May 1 and November 1.
Sept. 1. Received semiannual interest on the Welch Co. bonds.
30. Sold $10,000 of Welch Co. bonds at 97 plus accrued interest of $200.
Nov. 1. Received semiannual interest on the Bailey bonds.
Dec. 31. Accrued $1,200 interest on the Welch Co. bonds.
31. Accrued $1,400 interest on the Hailey bonds.
Year 2  
Mar. 1. Received semiannual interest on the Welch Co. bonds.
May 1. Received semiannual interest on the Bailey bonds.

Instructions

1. Journalize the entries to record these transactions.

2. If the bond portfolio is classified as available for sale, what impact would this have on financial statement disclosure?

(1)

To determine

Bond investment: Bond investments are debt securities which pay a fixed interest revenue to the investor.

Journal entry: Journal entry is a set of economic events which can be measured in monetary terms. These are recorded chronologically and systematically.

Debit and credit rules:

  • Debit an increase in asset account, increase in expense account, decrease in liability account, and decrease in stockholders’ equity accounts.
  • Credit decrease in asset account, increase in revenue account, increase in liability account, and increase in stockholders’ equity accounts.

To journalize: The bond investment transactions in the books of Company G

Explanation

Prepare journal entry for purchase of $100,000 bonds of Company W, at face amount with an accrued interest of $500.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
April 1 Investments–Company W Bonds   100,000  
    Interest Receivable   500  
             Cash     100,500
    (To record purchase of Company W bonds for cash)      

Table (1)

Explanation:

  • Investments–Company W Bonds is an asset account. Since bonds investments are purchased, asset value increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received has increased, asset value increased, and an increase in asset is debited.
  • Cash is an asset account. Since cash is paid, asset account decreased, and a decrease in asset is credited.

Prepare journal entry for purchase of $210,000 bonds of Company B, at face amount with an accrued interest of $700.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
June 1 Investments–Company B Bonds   210,000  
    Interest Receivable   700  
             Cash     210,700
    (To record purchase of Company B bonds for cash)      

Table (2)

Explanation:

  • Investments–Company B Bonds is an asset account. Since bonds investments are purchased, asset value increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received has increased, asset value increased, and an increase in asset is debited.
  • Cash is an asset account. Since cash is paid, asset account decreased, and a decrease in asset is credited.

Prepare journal entry to record the interest revenue received from Company W bonds.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
September 1 Cash   3,000  
             Interest Receivable     500
             Interest Revenue     2,500
    (To record receipt of interest revenue)      

Table (3)

Explanation:

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Interest Receivable is an asset account. Since interest to be received is received, asset value decreased, and a decrease in asset is credited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.

Working Notes:

Compute amount of interest received from Company W.

Interest received = {Amount of debt investment × Rate of interest×Time period}= $100,000×6%×612= $3,000

Prepare journal entry for $40,000 bonds of Company W sold at 97%, with an accrued interest of $200.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
September 30 Cash   39,000  
    Loss on Sale of Investments   1,200  
             Interest Revenue     200
             Investments–Company W Bonds     40,000
    (To record sale of M City bonds)      

Table (3)

Explanation:

  • Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
  • Loss on Sale of Investments is an expense account. Since expenses decrease equity, equity value is decreased, and a decrease in equity is debited.
  • Interest Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.
  • Investments–Company W Bonds is an asset account. Since bond investments are sold, asset value decreased, and a decrease in asset is credited.

Working Notes:

Calculate the cash received from the sale of bonds.

Particulars Amount ($)
Cash proceeds from sale of  $40,000 bonds ($40,000×97%) 38,800
Add: Accrued interest revenue 200
Cash received $39,000

Table (4)

Calculate the realized gain (loss) on sale of $40,000 bonds.

Particulars Amount ($)
Cash proceeds from sale of  $40,000 bonds ($40,000×97%) 38,800
Cost of bonds sold (40,000)
Gain (loss) on sale of bonds $(1,200)

Table (5)

Prepare journal entry to record the interest revenue received from Company B bonds.

Date Account Titles and Explanations Post. Ref. Debit ($) Credit ($)
Year 1        
November 1 Cash   4,200  
             Interest Receivable     700
             Interest Revenue     3,500
    (To record receipt of interest revenue)      

Table (6)

Explanation:

  • Cash is an asset account

(2)

To determine

To explain: The impact of bonds, if the portfolio is classified as available-for-sale investment

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