Chapter C, Problem 4PSA

PART 1:

1.

To determine

To prepare:

The journal entries to record the transactions and any year-end fair value adjustments to the portfolio of long-term available-for-sale securities.

Answer to Problem 4PSA

Solution:

Prepare the journal entries for the year 2015 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 5	Long-term investment Trading securities		1,560,000
	Cash			1,560,000
	(Being long-term investment purchase against cash)
Oct 23	Cash		192,000
	Long-term investment			192,000
	(Being cash dividend received)
Dec 31	Long-term investment		232,800
	Earnings from long-term investment			232,800
	(Being equity in investee earning recorded)

Table - 1

Explanation of Solution

► The long-term investment of G Company increases. The long-term investment is an asset of the company, so the current asset of the company also increases.

► The cash account decreases by $1,560,000. So, cash account is credited which means that the current asset of the company also decreases.

► Cash account is debited, as cash is received from K Company as cash dividend.

► As per the equity method, the dividend amount is to be credited to the long-term investment account.

► The long-term investment increases by $232,800 as per the dividend calculation as on December 31, 2015.

► Earnings from long-term investment account are related to the net income. If this account is credited the net income of the company increases.

Now, prepare the journal entries for the year 2016 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Oct 15	Cash		156,000
	Long-term investment			156,000
	(Being cash dividend received)
Dec 31	Long-term investment		295,200
	Earnings from long-term investment			295,200
	(Being equity in investee earning recorded)

Table - 2

► Cash account is debited, as cash is received from K Company as cash dividend.

► As per the equity method, the dividend amount is to be credited to the long-term investment account.

► The long-term investment increases as per the dividend calculation as on December 31, 2016.

► Earnings from long-term investment account are related to the net income. If this account is credited the net income of the company increases.

Now, prepare the journal entries for the year 2017 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 2	Cash		1,894,000
	Gain on sale of long-term investment			150,000
	Long-term investment			1,744,000
	(Being long-term investment sold at a gain of $154,000 and receive cash )

Table - 3

► Cash received at the time of sale of investment increases the cash balance and the value of assets of the company.

► On the sale of short-term investment, the short-term investment account decreases and the asset of the company also decreases by $1,744,000.

► On the time of sale, C Company earns a gain on the sale of investment. This gain is credited to the gain on sale of long-term investment account.

Working notes:

1. Calculation of cash dividend of K Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =60,000\times \$3.20\\ =\$192,000\end{array}$

2. Calculation of amount of dividend as on December 31, 2017.

$\begin{array}{c}\text{Dividend}=\text{Amount}\times \text{Rate}\\ \text{=\$1,164,000}\times 20\%\\ =\$232,800\end{array}$

3. Calculation of cash dividend of K Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =60,000\times \$2.60\\ =\$156,000\end{array}$

4. Calculation of amount of dividend as on December 31, 2018,

$\begin{array}{c}\text{Dividend}=\text{Amount}\times \text{Rate}\\ \text{=\$1,476,000}\times 20\%\\ =\$295,200\end{array}$

5. Calculation of value of K stock.

$\begin{array}{c}\text{Cost of K}=\$1,560,000-\$192,000+\$232,800-\$152,000+\$295,200\\ =\$1,744,000\end{array}$

6. Calculation of gain in the sale of investment of K Company.

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short term investment}\\ =\$1,894,000-\$1,744,000\\ =\$150,000\end{array}$

2.

To determine

To compute:

The carrying book value per share of S Company’s investment in K common stock.

Explanation of Solution

The carrying book value per share of S Company’s investment in K common stock is $29 per share.

Required information:

Carrying value as on sale of date is $1,744,000.

Number of shares is 60,000.

Calculate the carrying value per share.

$\begin{array}{c}\text{Carrying value per share}=\frac{\text{Carrying value}}{\text{Number of share}}\\ =\frac{\$1,744,000}{60,000}\\ =\$29\text{ per share}\end{array}$

Therefore, the carrying value per share is $29 per share.

Working notes:

Calculate the carrying book value of K’s common stock.

Particulars	Amount ($)
Actual cost	1,560,000
Less: Dividend 2017	192,000
Add: Earning in 2017	232,800
Less: Dividend 2018	152,000
Add: Earning in 2018	295,200
Carrying value as on sale of date	1,744,000

Table - 4

Therefore, the carrying value per share is $29.

Conclusion

Therefore, the carrying book value per share of S Company’s investment in K common stock is $29 per share.

3.

To determine

To compute:

The net increase or decrease in S Company’s equity.

Explanation of Solution

The net increase or decrease in S Company’s equity is $678,000.

Calculate the net increase as shown below.

Particulars	Amount ($)
Earning from K in 2017	232,800
Earning from K in 2018	295,200
Gain on sale of investment	150,000
Net increase in equity	678,000

Table - 5

Therefore, the increase in equity is $678,000.

PART 2

1.

To determine

To prepare:

The journal entries to record the preceding transactions and events.

Answer to Problem 4PSA

Solution:

Prepare the journal entries for 2015 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 5	Long-term investment trading securities		1,560,000
	Cash			1,560,000
	(Being long-term investment purchase against cash)
Oct 23	Cash		192,000
	Long-term investment			192,000
	(Being cash dividend received)
Dec 31	Fair value adjustment long-term investment		240,000
	Unrealized gain			240,000
	(Being unrealized gain earned of $240,000 at the time of closing)

Table – 6

Explanation of Solution

► The long-term investment of G Company increases. The long-term investment is an asset to the company, so the current asset of the company also increases.

► The cash account decreases by $1,560,000. So, cash account is credited which means that the current asset of the company also decreases.

► Cash account is debited, as cash is received from K Company as cash dividend.

► As per the equity method, the dividend amount is to be credited to the long-term investment account.

► The long-term investment increases by $232,800 as per the dividend calculation as on December 31, 2015.

► The fair value of long-term investment is less than the cost of share. So, S Company earns an unrealized gain of $240,000, which increases the balance of income.

Now, prepare the journal entries for the year 2016 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Oct 15	Cash		156,000
	Long-term investment			156,000
	(Being cash dividend received)
Dec 31	Fair value adjustment long-term investment		120,000
	Unrealized gain			120,000
	(Being unrealized gain earned of $120,000 at the time of closing)

Table – 7

► Cash account is debited, as cash is received from K Company as cash dividend.

► As per the equity method, the dividend amount is to be credited to the long-term investment account.

► The fair value adjustment account is an adjustment account recorded as unrealized gains earned by S Company.

► The fair value of long-term investment is less than the cost of share. So, S Company earns an unrealized gain of $120,000, which increases the balance of income.

Now, prepare the journal entries for the year 2017 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 2	Cash		189,4000
	Gain on sale of long-term investment			334,000
	Long-term investment			1,560,000
	(Being long-term investment sold at a gain of $154,000 and receive cash )
Dec 31	Unrealized gain equity		360,000
	Fair value adjustment long-term investment			360,000
	(Being fair value adjustment recorded)

Table – 8

► Cash received at the time of sale of investment increases the cash balance and the asset of the company also increases.

► On the sale of the long-term investment, the long-term investment account decreases and the asset of the company also decreases by $1,560,000.

► On the time of sale, S Company earns a gain on the sale of investment and this gain is credited to the gain on sale of long-term investment account.

► The unrealized gain account is debited to set off the account.

► The fair value of long-term investment is less than the cost of share. So, S Company earns an unrealized gain of $360,000. The fair value adjustment account is credited to set off the account.

Working notes:

1. Calculation of cash dividend of K Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =60,000\times \$3.20\\ =\$192,000\end{array}$

2. Calculation of fair value of shares as on December 31, 2017.

$\begin{array}{c}\text{Fair value}=\text{Number of share}\times \text{Price per share}\\ =60,000\times \$30\\ =\$1,800,000\end{array}$

3. Calculation of fair value adjustment as on December 31, 2017.

$\begin{array}{c}\text{Fair value adjustment}=\text{Fair value}-\mathrm{Cos}\text{t of share}\\ =\$1,800,000-\$1,560,000\\ =\$240,000\end{array}$

4. Calculation of cash dividend of K Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =60,000\times \$2.60\\ =\$156,000\end{array}$

5. Calculation of fair value of shares as on December 31, 2018.

$\begin{array}{c}\text{Fair value}=\text{Number of share}\times \text{Price per share}\\ =60,000\times \$32\\ =\$1,920,000\end{array}$

6. Calculation of fair value adjustment as on December 31, 2018.

$\begin{array}{c}\text{Fair value adjustment}=\text{Fair value}-\mathrm{Cos}\text{t of share}\\ =\$1,920,000-\$1,560,000\\ =\$360,000\end{array}$

7. Determine the unadjusted amount that has to be adjusted.

$\begin{array}{c}\text{Amount to be adjusted}=\text{Total amount}-\text{Amount adjusted in 2017}\\ =\$360,000-\$240,000\\ =\$120,000\end{array}$

8. Calculation of gain in the sale of investment of K Company.

$\begin{array}{c}\text{Gain}=\text{Sale price}-\text{Cost of short term investment}\\ =\$1,894,000-\$1,560,000\\ =\$334,000\end{array}$

2.

To determine

To compute:

The carrying book value per share of S Company’s investment in K’s common stock.

Explanation of Solution

The carrying book value per share of S Company’s investment in K’s common stock is $26 per share.

Required information:

Carrying value as on sale of date is $1, 560,000.

Number of shares is 60,000.

Calculate the carrying value per share.

To determine

To compute:

Carrying book value per share of S Company investment in K’s common stock.

Explanation of Solution

Given information:

Carrying value as on sale of date is $1,560,000.

Number of share is 60,000.

Calculate the carrying value per share.

$\begin{array}{c}\text{Carrying value per share}=\frac{\text{Carrying value}}{\text{Number of shares}}\\ =\frac{\$1,560,000}{60,000}\\ =\$26\text{ per share}\end{array}$

Therefore, the carrying value is $26 per share.

Conclusion

Therefore, the carrying book value per share of S Company’s investment in K’s common stock is $26 per share.

3.

To determine

To compute:

The net increase or decrease in S Company’s equity.

Explanation of Solution

The net increase in S Company’s equity is $678,000.

Calculate the net increase as shown below.

Particulars	Amount ($)
Earning from K in 2017	192,000
Earning from K in 2018	156,000
Gain on sale of investment	334,000
Net increase in equity	682,000

Table - 9

Therefore, the increase in equity is $682,000.