Accounting for AFS Securities
Purchase AFS Investments
(Note: we use the same basic journal entries for HTM, TS, and AFS investments)
July 1, 2016
Investment in Masterwear bonds ……………………………………….. 700,000
Discount on bond investment …………………………………… 33,367
Recognize Investment Revenue for AFS Investments
(Note: we use the same basic journal entries for HTM, TS, and AFS investments)
December 31, 2016
Cash (6% × $700,000) ……………………………………………………… 42,000
T12-10
12-22 Intermediate Accounting, 8/e
Adjust AFS Investments to Fair Value (2016)
December 31, 2016
Security
Amortized Cost
Fair Value
Fair Value
Adjustment
Masterwear
$ 671,297
$ 714,943
$ 43,646
Bendac
Total
$3,171,297
Sell AFS Investments
(Note: we use the same basic journal entries for HTM, TS, and AFS investments)
January 15, 2017
Cash (amount received) …………………………………………………….. 725,000
Adjust AFS Investments to Fair Value (2017)
December 31, 2017
Security
Amortized Cost
Fair Value
Unrealized
Gain (Loss)
Masterwear
(sold)
-0-
-0-
Bendac
T12-10 (continued)
12-24 Intermediate Accounting, 8/e
More about the AFS Fair Value Adjustment:
Reclassification
This journal entry serves two purposes:
(a) adds to fair value adjustment and OCI and new unrealized gains or losses for
Let’s look at each of those two parts individually, and then
combine them:
A. Changes in the Fair Value of Investments Not Sold
For United, that’s the Bendac stock:
T12-11
B. Reclassification Adjustment
In 2016, United recorded a net unrealized loss of $6,354 on the Arjent and Masterwear
investments as part of the $16,354 fair value adjustment made at the end of that year:
$50,000 unrealized loss for the Arjent stock
When A and B are Combined:
T12-11 (continued)
12-26 Intermediate Accounting, 8/e
Fair Value Adjustment for AFS Investments:
Reclassification (Recycling)
Effect on comprehensive
income
Effect on shareholders’
equity
Period 1: hold AFS
investment and
experience net
unrealized loss:
OCI for unrealized holding
loss
AOCI
recognized unrealized
on AOCI over time
T12-12
Financial Statement Presentation of AFS Investments
2016
2017
Comprehensive Income Statement:
Revenues
$ ♦
$ ♦
Expenses
♦
♦
Other income (expense):
Interest and dividend income
Tax Expense
♦
♦
Net income
Total
Comprehensive income
♦
♦
Balance Sheet
Assets:
Available-for-sale securities
3,154,943
985,000
Statement of Cash Flows (direct
method)
Operating Activities:
Cash from investment revenue
117,000
Investing Activities:
Purchase of available-for-sale securities
(3,166,633)
T12-13
12-28 Intermediate Accounting, 8/e
Comparison of HTM, TS, and AFS Approaches
The following compares accounting for the Masterwear bonds under the three different
approaches used for insignificant-influence investments.
Held-to-Maturity
(HTM)
Trading
(TS)
Available-for-Sale
(AFS)
Purchase
Investments 700,000
Adjust to
fair value
No entry (unless
impaired)
FV adjustment 43,646
Net unreal.
gain/loss: I/S 43,646
FV adjustment 43,646
Net unreal.
gain/loss: OCI 43,646
Sell bonds
for a
Discount 28,703
Cash 725,000
Recognize gain or loss:
Recognize gain or loss:
Illustration 12-10
T12-14
Comparison of the HTM, TS, and AFS Approaches
(Key Points)
Some transactions handled the same for all three approaches:
• To record the purchase of an investment.
• To record the receipt of investment revenue.
• To record the sale of the security.
Fair value changes handled differently
• No entry for HTM
• For TS and AFS:
o The entries have the same effect on the investment (via the fair
Regardless of approach:
• The cash flows are the same.
T12-14 (continued)
12-30 Intermediate Accounting, 8/e
INTERNATIONAL FINANCIAL REPORTING STANDARDS
Investments
IFRS currently has two standards that apply to these investments:
• IAS No. 39, until recently the only standard. It has primary categories that are
similar to U.S. GAAP, consisting of “Fair Value through Profit & Loss”
(“FVTPL,” similar to TS), HTM, and AFS.
• IFRS No. 9
o Will be required after January 1, 2018, and earlier adoption is allowed..
o Investments in debt securities are classified either as
▪ amortized cost (accounted for like HTM investments in U.S.
GAAP),
TRANSFERS BETWEEN REPORTING CATEGORIES
When a security is reclassified between two reporting categories, the
security is transferred at its fair value at the date of transfer. Any
unrealized holding gain or loss should be accounted for in a manner
consistent with the classification into which the security is being
transferred.
Transfer
from:
To:
Unrealized gain or loss from transfer at
fair market value
Either of the
other
Trading
Include in current earnings
the other
earnings)
Illustration 12-11
T12-16
12-32 Intermediate Accounting, 8/e
OTHER-THAN-TEMPORARY IMPAIRMENTS
• Focused on HTM and AFS investments
• If FV < amortized cost, and that decline is deemed to be other–
than-temporary (OTT), the company recognizes an OTT
impairment loss in earnings.
• Specifics differ between equity and debt investments.
o For equity investments, the question is whether the
company has the intent and ability to hold the investment
T12-17
PRESENTATION AND DISCLOSURE
❖ Trading securities are current assets by definition. Held-to–
maturity and available-for-sale securities are either current or
noncurrent depending on when they are expected to be sold.
❖ Can break out individual amounts for the three categories of
investments – HTM, TS, or AFS – on the face of the balance
sheet or in the disclosure notes.
❖ Investors should disclose the following in the disclosure notes:
➢ aggregate fair value
➢ gross realized and unrealized holding gains and losses
❖ Information about maturities should be reported for debt
securities, by disclosing the fair value and cost for at least 4
T12-18
12-34 Intermediate Accounting, 8/e
REPORTING CLASSIFICATIONS FOR
INVESTMENT RELATIONSHIPS
Classification
Reporting Method
Varies by Reporting
Illustration 12-13
THE EQUITY METHOD
❖ We use the equity method when the investor owns less than
51% of the voting shares, and therefore can’t control the
investee, but can exercise “significant influence” over the
operating and financial policies of an investee.
❖ Initially, the investment is recorded at cost. The carrying
amount of this investment subsequently is:
➢ Increased by the investor’s percentage share of the investee’s
net income (or decreased by its share of a loss).
➢ Decreased by dividends declared.
❖ When the investor’s expenditure to acquire an investment
T12-20
12-36 Intermediate Accounting, 8/e
INTERNATIONAL FINANCIAL REPORTING STANDARDS
Equity Method
Mostly like U.S. GAAP, but there are a few important differences.
1. IFRS No. 28 requires that the accounting policies of investees be adjusted to
2. IFRS does not provide the fair value option for most investments that qualify for
T12-21
EXAMPLE OF APPYING THE EQUITY METHOD
Assume United is acquiring 30% of Argent, and uses the equity method:
Account
Book value on Arjent’s
financial statements
Fair value at time of
United’s investment
Buildings (10-year
remaining useful life,
no salvage value)
$1,000,000
$2,000,000
T12-22
12-38 Intermediate Accounting, 8/e
Purchase of Investment:
Recording Investment Revenue: Proportion of investee net
income (view investee as an extension of the investor)
Receiving Dividends: Liquidation of investment
No Fair Value Adjustment!!!
Further Equity Method Adjustments
Need to amortize any difference between fair value of assets and their book
value on the investees books (the “purchase price differential”), if those are
assets that would be expensed eventually if purchased outright.
• The idea is for the investor to end up with the same effect on earnings
Determining Amounts to Amortize ($ in thousands)
Investee Net
Assets
Net Assets
Purchased
Difference
Attributed To:
Illustration 12-10
Adjustments for Additional Depreciation:
No Adjustments for Land or Goodwill (they aren’t expensed).
T12-23