Chapter C, Problem 1PSA

To determine

Procedure for debiting and crediting an account:

• Increase in assets account, increase in expenses account, and decrease in liabilities account should be debited.

• Decrease in assets account, increase in revenue account, and increase in liabilities account should be credited.

All transactions affect the accounting equation that is displayed below. The accounting equation should always remain in balance at the time of recording a business transaction:

Adjusting entries:

Adjusting entries refer to those entries that are reported at the end of the year to adjust the financial position of a firm based on the accrual basis of accounting.

To prepare: The journal entries to record the short-term investment activities for the years 2015, 2016, and 2017 and adjusting entries to record fair value adjustment entry for the portfolio of trading securities.

Answer to Problem 1PSA

Solution:

Prepare the journal entries and adjusting entries for 2015 as shown below.

Journal entries of C Company For the year 2015
Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 20	Short term-investment - Trading securities		20,925
	Cash			20,925
	(Being short term investment purchase against cash)
Feb 9	Short term investment - Trading securities		97,928
	Cash			97,928
	(Being short term investment purchase against cash)
Oct 12	Short term investment Trading securities		5,825
	Cash			5,825
	(Being short term investment purchase against cash)
Dec 31	Unrealized loss - Income		5,322
	Fair value adjustment Short term investment			5,322
	(Being unrealized loss suffered of $275 at the time of closing)

Table - 1

Explanation of Solution

► The short-term investment of C Company increases. The short-term investment is an asset of the company and the current asset of C Company also increases.

► The cash account decreases by $20,925. So, cash account is credited which means that the current asset of the company also decreases.

► The cash account decreases by $97,928. So, cash account is credited which means that the current asset of the company also decreases.

► The cash account decreases by $5,825. So, cash account is credited which means that the current asset of the company also decreases.

► The fair value of short-term investment is $130,000 and the cost of share is $124,678. So, C Company suffers an unrealized loss of $5,322 and unrealized loss reduces the balance of income.

► The fair value adjustment account is an adjustment account, which is reported as an unrealized loss suffered by C Company.

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

Journal entries of C Company For the year 2016
Date	Particulars	L/F	Debit ($)	Credit ($)
April 15	Cash		22,915
	Gain on sale of short-term investment			1,990
	Short-term investment			20,925
	(Being short-term investment sold at a gain of $1,990 and receive cash )
July 5	Cash		7,585
	Gain on sale of short-term investment			1,760
	Short-term investment			5,825
	(Being short-term investment sold at a gain of $1,990 and receive cash )
July 22	Short-term investment - Trading securities		48,444
	Cash			48,444
	(Being short-term investment purchase against cash)
Aug 19	Short-term investment - Trading securities		33,140
	Cash			33,140
	(Being short-term investment purchase against cash)
Dec 31	Unrealized loss - Income		24,834
	Fair value adjustment – short-term investment			24,834
	(Being unrealized loss suffered of $24,834 at the time of closing)

Table – 2

► 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 $20,925 amount.

► 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 short-term investment account.

► On the sale of short-term investment, the short-term investment account decreases and the asset of the company also decreases by $5,825.

► The short-term investment of C Company increases. The short-term investment being an asset to the company, the current asset of the company also increases.

► The cash account decreases by $48,444. The credit of the cash account means that the current asset of the company also decreases.

► The cash account decreases by $33,140. The credit of the cash account means that the current asset of the company also decreases.

► The fair value of short-term investment is $160,000 and the cost of share is $179,512. So, C Company suffers an unrealized loss of $24,834, which reduces the balance of equity account.

► The fair value adjustment account is an adjustment account reported as an unrealized loss suffered by the company.

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

Journal entries of C Company For the year 2017
Date	Particulars	L/F	Debit ($)	Credit ($)
Feb 27	Short-term investment - Trading securities		116,020
	Cash			116,020
	(Being short-term investment purchase against cash)
March 3	Cash		39,750
	Loss on sale of short-term investment		8,694
	Short-term investment			48,444
	(Being short-term investment sold at a loss of $8,694 and receive cash )
June 21	Cash		92,150
	Loss on sale of short-term investment		5,778
	Short term-investment			97,928
	(Being short-term investment sold at a loss of $8,694 and receive cash )
June 30	Short-term investment - Trading securities		57,595
	Cash			57,595
	(Being short-term investment purchase against cash)
Nov 1	Cash		32,541
	Loss on sale of short-term investment		599
	Short-term investment			33,140
	(Being short term investment sold at a loss of $599 and receive cash )
Dec 31	Fair value adjustment - Short-term investment $\left(\$19,512+\$6,385\right)=\$25,897$		25,897
	Unrealized gain income			25,897
	(Being unrealized loss suffered of $24,834 at the time of closing)

Table – 3

► The short-term investment of C Company increases. The short-term investment being an asset to the company, the current asset of the company also increases.

► The cash account decreases by $116,020. The credit of the cash account means that the current asset of the company also decreases.

► 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 $48,444.

► At the time of sale, C Company suffers a loss on sale of investment. This loss is debited to the loss on sale of short-term investment account.

► On the sale of short-term investment, the short-term investment account decreases and the asset of the company also decreases by $97,928.

► The cash account decreases by $57,595. The credit of the cash account means that the current asset of the company also decreases.

► On the sale of short-term investment, the short-term investment account decreases and the asset of the company also decreases by $33,140.

► The fair value of short-term investment is $180,000 and the cost of share is $173,615. So, C Company earns an unrealized gain of $25,897, which increases the balance of income.

Working notes:

1. Calculate the value of purchase price of shares of F Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Commision}\\ \text{=}\left(800\times \$26\right)+\$125\\ =\$20,800+\$125\\ =\$20,925\end{array}$

Therefore, the value of purchase price of shares F Company is $20,925.

2. Calculate the value of purchase price of shares of Z Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Commision}\\ \text{=}\left(750\times \$7.50\right)+\$2,00\\ =\$5,625+\$2,00\\ =\$5,825\end{array}$

Therefore, the value of purchase price of shares Z Company is $5,825.

3. Calculate the value of purchase price of shares of L Company

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Commision}\\ \text{=}\left(2,200\times \$44.25\right)+\$578\\ =\$97,350+\$578\\ =\$97,928\end{array}$

Therefore, the value of purchase price of shares L Company is $97,928.

4. Calculate the fair value adjustment as on December 31, 2015.

$\begin{array}{c}\text{Fair value adjustment}=\text{Fair Value}-\mathrm{Cos}\text{t of share}\\ =\$130,000-\left(\$20,925+5,825+97,928\right)\\ =\$130,000-\$124,678\\ =\$5,322\end{array}$

Therefore, the fair value adjustment as on December 31, 2015 is $5,322.

5. Calculate the sale price of shares of F Company.

$\begin{array}{c}\text{Sale price of shares}=\left(\text{Number of shares}\times \text{share price}\right)-\text{Broker fee}\\ \text{=}\left(800\times \$29\right)-\$285\\ =\$23,200-\$285\\ =\$22,915\end{array}$

Therefore, the sale price of shares of F Company is $22,915.

6. Calculate the gain in the sale of investment of F Company.

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short-term investment}\\ =\$22,915-\$20,925\\ =\$1,990\end{array}$

Therefore, the gain in the sale of investment of F Company is $1,990.

7. Calculate the sale price of shares of Z Company.

$\begin{array}{c}\text{Sale price of shares}=\left(\text{Number of shares}\times \text{share price}\right)-\text{Broker fee}\\ \text{=}\left(750\times \$10.25\right)-\$102.50\\ =\$7,687.5-\$102.50\\ =\$7,585\end{array}$

Therefore, the sale price of shares of Z Company is $7,585.

8. Calculate the gain in the sale of investment of Z Company.

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short term investment}\\ =\$7,585-\$5,825\\ =\$1,760\end{array}$

Therefore, the gain in the sale of investment of Z Company is $1,760.

9. Calculate the value of purchase price of shares of H Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Commision}\\ \text{=}\left(1,600\times \$30\right)+\$444\\ =\$48,000+\$444\\ =\$48,444\end{array}$

Therefore, the value of purchase price of shares of H Company is $48,444.

10. Calculation of the value of purchase price of shares of D Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Commision}\\ \text{=}\left(1,800\times \$18.25\right)+\$290\\ =\$32,850+\$290\\ =\$33,140\end{array}$

Therefore, the value of purchase price of shares of D Company is $33,140.

Conclusion

Hence, the journal entries to record the short-term investment activities for the years 2015, 2016, and 2017 and adjusting entries to record fair value adjustment entry for the portfolio of trading securities are prepared as above.