Chapter 7, Problem 5AP

a.

To determine

Indicate the presentation of marketable securities and the unrealized holding gain or loss in the balance sheet of Corporation CH as at December 31, 2014.

Explanation of Solution

Marketable securities: The financial instruments that are traded in less than a year, on the public stock or bond exchanges, are referred to as short-term marketable securities., and those that are traded beyond a year are referred to as long-term marketable securities.

Unrealized holding gains and losses: These are gains and losses which are unrealized and are the result of changes in cost and fair values of the investment for the period the investment is held. Net Unrealized Losses is an adjustment account used to report unrealized loss on adjusting cost of investment at fair market value.

Presentation of marketable securities and the unrealized holding gain or loss:

Corporation CH
Balance Sheet (Partial)
December 31, 2014
Current assets:
Marketable securities (cost, $360,000)	$364,000
Stockholders’ equity:
Unrealized holding gain on investments	$4,000

Table (1)

Working Notes:

Determine the unrealized gain or loss on investment on December 31, 2014.

$\begin{array}{c}\begin{array}{l}\text{Unrealized holding }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2014– }\\ \text{Cost of iinvestment on December 31, 2014}\end{array}\right\}\\ \text{=\$364,000–\$360,000}\\ \text{=\$4,000}\end{array}$

b.

To determine

Journalize the transactions on April 10 and August 7.

Explanation of Solution

Journalize the sale of marketable securities transaction on April 10.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
April	10	Cash			44,900
			Marketable Securities			40,000
			Gain on Sale of Investment			4,900
		(Record the disposal of marketable securities)

Table (2)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Marketable Securities is an asset account. Since investment is sold, asset value decreased, and a decrease in asset is credited.
• Gain on Sale of Investment is a revenue account. Since gains and revenues increase equity, equity value is increased, and an increase in equity is credited.

Working Notes:

Calculate the realized gain (loss) on sale of stock.

Step 1: Compute cash received from sale proceeds.

$\begin{array}{c}\text{Cash received = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares sold× }\\ \text{Sale price per share}\end{array}\right)–\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{1,000 shares ×\$45}\right)–\$100\\ \text{= \$44,900}\end{array}$ (1)

Step 2: Compute cost of stock investment sold.

$\begin{array}{c}\begin{array}{l}\text{Cost of stock }\\ \text{investment sold}\end{array}\}\text{ = Number of shares sold × Price per share}\\ \text{= 1,000 shares ×\$40}\\ \text{= \$40,000}\end{array}$ (2)

Step 3: Compute realized gain (loss) on sale of stock.

$\begin{array}{c}\begin{array}{l}\text{Realized gain }\left(\text{loss}\right)\\ \text{on investments}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Cash received –}\\ \text{Cost of stock investment }\end{array}\right\}\\ \text{= \$44,900–\$40,000}\\ \text{= \$4,900}\end{array}$

Note: Refer to Equations (1) and (2) for value and computation of cash received and cost of stock investment sold.

Journalize the sale of marketable securities transaction on August 7.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
August	7	Cash			69,850
		Loss on Sale of Investment			10,150
			Marketable Securities			80,000
		(Record the disposal of marketable securities)

Table (3)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Loss on Sale of Investment is a loss or expense account. Since losses and expenses decrease equity, equity value is decreased, and a decrease in equity is debited.
• Marketable Securities is an asset account. Since investment is sold, asset value decreased, and a decrease in asset is credited.

Working Notes:

Calculate the realized gain (loss) on sale of stock.

Step 1: Compute cash received from sale proceeds.

$\begin{array}{c}\text{Cash received = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares sold× }\\ \text{Sale price per share}\end{array}\right)–\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{2,000 shares ×\$35}\right)–\$150\\ \text{= \$69,850}\end{array}$ (3)

Step 2: Compute cost of stock investment sold.

$\begin{array}{c}\begin{array}{l}\text{Cost of stock }\\ \text{investment sold}\end{array}\}\text{ = Number of shares sold × Price per share}\\ \text{= 2,000 shares ×\$40}\\ \text{= \$80,000}\end{array}$ (4)

Step 3: Compute realized gain (loss) on sale of stock.

$\begin{array}{c}\begin{array}{l}\text{Realized gain }\left(\text{loss}\right)\\ \text{on investments}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Cash received –}\\ \text{Cost of stock investment }\end{array}\right\}\\ \text{= \$69,850–\$80,000}\\ \text{= \$}\left(\text{10,150}\right)\end{array}$

Note: Refer to Equation (3) and (4) for value and computation of cash received and cost of stock investment sold.

c.

To determine

Compute the unadjusted balance in the Marketable Securities control account and Unrealized Holding gain or Loss on Investments.

Explanation of Solution

Compute the unadjusted balance in the Marketable Securities control account on December 31, 2015.

Details	Amount ($)	Amount ($)
Balance of marketable securities, December 31, 2014		$364,000
Less: Securities of Incorporation LB sold	$40,000
Less: Securities of Incorporation G sold	80,000	120,000
Balance of marketable securities, December 31, 2015		$244,000

Table (4)

Note: Refer to Equations (2) and (4) for the values of securities sold.

Compute the unadjusted balance of Unrealized Holding Gain (Loss) on Investment account as on December 31, 2015.

Details	Amount ($)
Fair value of marketable securities, December 31, 2014	$364,000
Less: Cost of marketable securities, December 31, 2014	(360,000)
Unrealized Holding Gain (Loss) account balance	$4,000

Table (5)

d.

To determine

Prepare a schedule of cost and market values of marketable securities at December 31, 2015.

Explanation of Solution

Schedule of cost and market values (as given in the illustration):

Details	Cost	Current Market Value
Incorporation LB (4,000 shares: cost $40 per share; market value, $42)	$160,000	$168,000
Incorporation G (2,000 shares: cost $40 per share; market value, $37)	80,000	74,000
	$240,000	$242,000

Table (6)

Note: Out of 5,000 shares of Incorporation LB, 1,000 shares were sold on April 10, so the remaining balance of shares is 4,000 shares. Out of 4,000 shares of Incorporation G, 2,000 shares were sold on August 7, so the remaining balance of shares is 2,000 shares.

e.

To determine

Journalize the adjusting entry for fair value adjustment at December 31, 2015.

Explanation of Solution

Prepare journal entry for adjusting the marketable securities to the fair market value, as on December 31, 2015.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2015
December	31	Unrealized Holding Gain on Investments			2,000
			Marketable Securities			2,000
		(Record the adjustment of cost of investment to the fair value)

Table (7)

Description:

• Unrealized Holding Gain on Investments is an adjustment account used to report gain or loss on adjusting cost of investment at fair market value. Since loss has occurred and losses decrease stockholders’ equity value, a decrease in stockholders’ equity value is debited.
• Marketable Securities is an asset account. The account is credited because the market price was decreased, and eventually the asset value decreased.

Working Notes:

Determine the unrealized gain or loss on investment on December 31, 2015.

$\begin{array}{c}\begin{array}{l}\text{Unrealized holding }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2015– }\\ \text{Balance of investment}\end{array}\right\}\\ \text{=\$242,000–\$244,000}\\ \text{=\$}\left(\text{2,000}\right)\end{array}$

Note: Refer to Table (4) and Table (6) for the both the values.

f.

To determine

Indicate the presentation of marketable securities and the unrealized holding gain or loss in the balance sheet of Corporation CH as at December 31, 2015.

Explanation of Solution

Presentation of marketable securities and the unrealized holding gain or loss:

Corporation CH
Balance Sheet (Partial)
December 31, 2015
Current assets:
Marketable securities (cost, $240,000)	$242,000
Stockholders’ equity:
Unrealized holding gain on investments	$2,000

Table (8)

Working Notes:

Determine the unrealized gain or loss on investment on December 31, 2015.

$\begin{array}{c}\begin{array}{l}\text{Unrealized holding }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2015– }\\ \text{Cost of iinvestment on December 31, 2015}\end{array}\right\}\\ \text{=\$242,000–\$240,000}\\ \text{=\$2,000}\end{array}$

Note: Refer to Table (6) for the value and computation of both the values.

g.

To determine

Indicate the presentation of net realized gains or losses in the income statement of Corporation CH for the year ended December 31, 2015.

Explanation of Solution

Presentation of net realized gain or loss:

Corporation CH
Income Statement (Partial)
For the Year Ended December 31, 2015
Non-operating items:
Loss on sale of investments	$5,250

Table (9)

Working Notes:

Compute net realized gain or loss on investments.

$\begin{array}{c}\text{Net realized gain }\left(\text{loss}\right)\text{ = }\left\{\begin{array}{l}\text{Gain on sale of investments on April 10–}\\ \text{Loss on sale of investments on August 7}\end{array}\right\}\\ \text{=\$4,900–\$10,150}\\ \text{=\$}\left(\text{5,250}\right)\end{array}$

Note: Refer to Part (b) for value and computation of both the values.

h.

To determine

Describe the effect of realized and unrealized gains and losses on the income tax return at the end of 2015.

Explanation of Solution

Effect of realized gains and losses on the income tax return: The realized gains and losses would be included in the income tax return. The realized gains increase the taxable income and income tax liability (income tax payable), while the realized losses decrease the taxable income.

Effect of unrealized gains and losses on the income tax return: The unrealized gains and losses would not be included in the income tax return because those are not recognized yet.