Chapter A, Problem 5P

1.

To determine

Journalize the entries related to investment, in the books of Corporation J, assuming the portfolio as trading securities

Explanation of Solution

Trading securities (TS): The category of passive investments which are bought with a purpose to sell in the near future are referred to as trading securities.  The percentage of passive investments in debt or equity will be less than 20%.

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.

Prepare journal entry for purchase of investment in TS.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2019
August	4	Investments in TS			180,000
			Cash			180,000
		(To record purchase of investment in TS)

Table (1)

Description:

• Investments in TS is an asset account. Since stock investments are purchased, 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 adjusting the cost of TS to the fair market value, as on December 31, 2019.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2019
December	31	Net Unrealized Gains (Losses)			10,000
			Investments in TS			10,000
		(To record the adjustment of cost of investment in TS to the fair value)

Table (2)

Description:

• Net Unrealized Gains (Losses) 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. This loss is reported as loss under net income.
• Investments in TS is an asset account. The account is credited because the market price was decreased, and eventually the asset value decreased.

Working Notes:

Compute the fair value of investment on December 31, 2019.

$\begin{array}{c}\text{Fair value}=\text{Number of shares×Market price per share}\\ \text{= 2,000 shares × \$85 per share}\\ \text{= \$170,000}\end{array}$

Compute unrealized gain or loss on investment in TS.

$\begin{array}{c}\begin{array}{l}\text{Unrealized }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2019 – }\\ \text{Cost of investment on August 4, 2019}\end{array}\right\}\\ \text{=\$170,000–\$180,000}\\ \text{=\$}\left(\text{10,000}\right)\end{array}$

Note: Refer to Equation (1) for value and computation of fair value of investment on December 31, 2015.

Prepare journal entry for dividend received in 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
June	1	Dividend receivable			7,000
			Dividend revenue			7,000
		(To record receipt of dividend)

Table (3)

• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.
• Dividend revenue is a revenue account and it is increased therefore, credit the dividend revenue.

Prepare journal entry for cash dividend received in 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
July	1	Cash			7,000
			Dividend Receivable			7,000
		(To record receipt of dividend)

Table (4)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Dividends receivable is an asset account. Since dividend is received, asset account decreased, and a decrease in asset is credited.

Working Notes:

Compute amount of dividend received.

$\begin{array}{c}\text{Dividend received}=\left\{\begin{array}{l}\text{Number of shares}\times \\ \text{Dividend per share}\end{array}\right\}\\ =2,000\text{ shares}\times \$3.50\text{ per share}\\ =\$7,000\end{array}$

Prepare journal entry for adjusting the TS to the fair market value, as on December 31, 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
December	31	Investments in TS			12,000
			Net Unrealized Gains (Losses)			12,000
		(To record the adjustment of investment in TS to the fair value)

Table (5)

Description:

• Investments in TS is an asset account. The account is debited because the market price was increased, and eventually the asset value increased.
• Net Unrealized Gains (Losses) is an adjustment account used to report gain or loss on adjusting cost of investment at fair market value. Since gain has occurred and gains increase stockholders’ equity value, an increase in stockholders’ equity value is credited. This gain is reported as gain under net income.

Working Notes:

Compute the fair value of investment on December 31, 2020.

$\begin{array}{c}\text{Fair value}=\text{Number of shares×Market price per share}\\ \text{= 2,000 shares × \$91 per share}\\ \text{= \$182,000}\end{array}$

Compute unrealized gain or loss on investment in TS.

$\begin{array}{c}\begin{array}{l}\text{Unrealized }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2020 – }\\ \text{Fair value of investment on December 31, 2019}\end{array}\right\}\\ \text{=\$182,000–\$170,000}\\ \text{=\$12,000}\end{array}$

Note: Refer to Equations (3) and (1) for both the values.

Prepare journal entry for cash dividend received in 2021.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
July	1	Dividend receivable			7,000
			Dividend Revenue			7,000
		(To record receipt of dividend)

Table (6)

• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.
• Dividend Revenue is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.

Prepare journal entry for cash dividend received in 2021.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
June	1	Cash			7,000
			Dividend Receivable			7,000
		(To record receipt of dividend)

Table (7)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.

Note: Refer to Equation (2) for value and computation of dividend revenue.

Prepare journal entry for adjusting the TS to the fair market value, as on December 31, 2021.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
December	31	Investments in TS			6,000
			Net Unrealized Gains (Losses)			6,000
		(To record the adjustment of investment in TS to the fair value)

Table (8)

Description:

• Investments in TS is an asset account. The account is debited because the market price was increased, and eventually the asset value increased.
• Net Unrealized Gains (Losses) is an adjustment account used to report gain or loss on adjusting cost of investment at fair market value. Since gain has occurred and gains increase stockholders’ equity value, an increase in stockholders’ equity value is credited. This gain is reported as gain under net income.

Working Notes:

Compute the fair value of investment on December 31, 2021.

$\begin{array}{c}\text{Fair value}=\text{Number of shares×Market price per share}\\ \text{= 2,000 shares × \$94 per share}\\ \text{= \$188,000}\end{array}$

Compute unrealized gain or loss on investment in TS.

$\begin{array}{c}\begin{array}{l}\text{Unrealized }\\ \text{gain or }\left(\text{loss}\right)\end{array}\}\text{= }\left\{\begin{array}{l}\text{Fair value of investment on December 31, 2017 – }\\ \text{Fair value of investment on December 31, 2016}\end{array}\right\}\\ \text{=\$188,000–\$182,000}\\ \text{=\$6,000}\end{array}$

Note: Refer to Equations (4) and (3) for both the values.

2.

To determine

Journalize the entries related to investment, in the books of Corporation J, assuming the portfolio as available-for-sale securities

Explanation of Solution

Available-for-sale (AFS) securities: The category of passive investments which are held as idle funds to serve the future operating and strategic purposes, are referred to as available-for-sale securities. The percentage of passive investments in debt or equity will be less than 20%.

Prepare journal entry for purchase of investment in AFS securities.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2019
August	4	Investments in AFS Securities			180,000
			Cash			180,000
		(To record purchase of investment in AFS securities)

Table (9)

Description:

• Investments in AFS Securities is an asset account. Since stock investments are purchased, 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 equity in investee earnings.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2019
December	31	Investments in AFS Securities			9,000
			Equity in investee earnings			9,000
		(To record equity in investee earnings)

Table (10)

• Investments in AFS Securities is an asset account. Since stock investments are purchased, asset value increased, and an increase in asset is debited.
• Equity in investee earnings is an income account and it is increased. Therefore, credit the equity in investee earnings.

Prepare journal entry for adjusting the cost of AFS securities to the fair market value, as on June 1, 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
June	1	Dividend receivable			7,000
			Investment			7,000
		(To record the adjustment of cost of investment in AFS securities to the fair value)

Table (11)

Description:

• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.
• Investments in AFS Securities is an asset account. The account is credited because the market price was decreased, and eventually the asset value decreased.

Prepare journal entry for cash dividend received in 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
July	1	Cash			7,000
			Dividend Receivable			7,000
		(To record receipt of dividend)

Table (12)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.

Note: Refer to Equation (2) for value and computation of dividend revenue.

Prepare journal entry for adjusting the AFS securities to the fair market value, as on December 31, 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2020
December	31	Investments in AFS Securities			9,000
			Equity in investee earnings			9,000
		(To record the equity in investee earnings)

Table (13)

Description:

• Investments in AFS Securities is an asset account. The account is debited because the market price was increased, and eventually the asset value increased.
• Equity in investee earnings is an income account and it is increased. Therefore, credit the equity in investee earnings.

Prepare journal entry for adjusting the cost of AFS securities to the fair market value, as on June 1, 2021.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
June	1	Dividend receivable			7,000
			Investment			7,000
		(To record the adjustment of cost of investment in AFS securities to the fair value)

Table (14)

Description:

• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.
• Investments in AFS Securities is an asset account. The account is credited because the market price was decreased, and eventually the asset value decreased.

Prepare journal entry for cash dividend received in 2020.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
July	1	Cash			7,000
			Dividend Receivable			7,000
		(To record receipt of dividend)

Table (15)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Dividends receivable is an asset account. Since dividend is received, asset account increased, and an increase in asset is debited.

Note: Refer to Equation (2) for value and computation of dividend revenue.

Prepare journal entry for adjusting the AFS securities to the fair market value, as on December 31, 2021.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2021
December	31	Investments in AFS Securities			9,000
			Equity in investee earnings			9,000
		(To record the equity in investee earnings)

Table (16)

Description:

• Investments in AFS Securities is an asset account. The account is debited because the market price was increased, and eventually the asset value increased.
• Equity in investee earnings is an income account and it is increased. Therefore, credit the equity in investee earnings.

Note: Refer to Equations (7) and (6) for both the values.

• Equity in Affiliate Earnings is a revenue account. Revenues increase stockholders’ equity value, and an increase in stockholders’ equity is credited.

Note: Refer to Equation (8) for value and computation of investment revenue.

Prepare journal entry for dividends received from affiliate, in 2017.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2017
June	1	Cash			7,000
			Investments in Affiliates			7,000
		(To record dividends received from investee)

Table (17)

Description:

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Investments in Affiliates is an asset account. Since stock investments are reduced as an effect of receipt of dividends, asset value decreased, and a decrease in asset is credited.

Note: Refer to Equation (2) for value and computation of dividend revenue.

Prepare journal entry for share of income received from Company K in 2017.

Date		Account Titles and Explanation		Post Ref.	Debit ($)	Credit ($)
2017
December	31	Investments in Affiliates			9,000
			Equity in Affiliate Earnings			9,000
		(To record income received from affiliates)

Table (18)

Description:

• Investments in Affiliates is an asset account. Since share of income received from investee increases the investment value, asset value increased, and an increase in asset is debited.
• Equity in Affiliate Earnings is a revenue account. Revenues increase stockholders’ equity value, and an increase in stockholders’ equity is credited.

Note: Refer to Equation (8) for value and computation of investment revenue.