Chapter C, Problem 2PSB

1.

To determine

To prepare:

The journal entries to record the preceding transactions and events for the year 2015.

Explanation of Solution

Prepare the journal entries a shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Feb 6	Short-term investment		143,250
	Cash			143,250
	(Being short-term investment purchase against cash)
Feb 15	Short-term investment		20,000
	Cash			20,000
	(Being short-term investment purchase against cash)
April 7	Short-term investment		48,655
	Cash			48,655
	(Being short-term investment purchase against cash)
June 2	Short-term investment		184,140
	Cash			184,140
	(Being short-term investment purchase against cash)
June 30	Cash		646
	Dividend revenue			646
	(Being cash dividend received)
Aug 11	Cash		38,050
	Gain on sale of short-term investment			2,237
	Short-term investment			35,813
	(Being short-term investment sold at a gain of $1,990 and receives cash.)
Aug 16	Cash		20,600
	Short-term investment			20,000
	Interest revenue			600
	(Being short-term investment mature and interest received)
Aug 24	Cash		120
	Dividend revenue			120
	(Being cash dividend received)
Dec 1	Cash		510
	Dividend revenue			510
	(Being cash dividend received)
Nov 9	Cash		180
	Dividend revenue			180
	(Being cash dividend received)

Table – 1

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

► The cash account decreases by $143,250. When cash is credited it means that the current asset of the company also decreases.

► The cash account decreases by $20,000. When cash is credited it means that the current asset of the company also decreases.

► The cash account decreases by $48,655. When cash is credited it means that the current asset of the company also decreases.

► The cash account decreases by $184,410. When cash is credited it means that the current asset of the company also decreases.

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

► Dividend revenue account is credited as it increases the income of S Company.

► Cash received at the time of sale of investment increases the cash balance and the asset 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 $35,813.

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

► The interest revenue account is credited, as income is received in the form of interest to S Company.

Working notes:

1. Calculation of the value of purchase price of shares of N Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Brokerage fee}\\ \text{=}\left(3,400\times \$41.25\right)+\$3,000\\ =\$140,250+\$3,000\\ =\$143,250\end{array}$

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

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Brokerage fee}\\ \text{=}\left(1,200\times \$39.50\right)+\$1,255\\ =\$47,400+\$1,255\\ =\$48,655\end{array}$

3. Calculation of the value of purchase price of shares of M Company.

$\begin{array}{c}\text{Purchase price of shares}=\left(\text{Number of shares}\times \text{share price}\right)+\text{Brokerage fee}\\ \text{=}\left(2,500\times \$72.50\right)+\$2,890\\ =\$181,250+\$2,890\\ =\$184,140\end{array}$

4. Calculation of cash dividend of N Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =3,400\times \$0.19\\ =\$646\end{array}$

5. Calculation of sale price of shares of N Company.

$\begin{array}{c}\text{Sale price of shares}=\left(\text{Number of shares}\times \text{share price}\right)-\text{Broker fee}\\ \text{=}\left(850\times \$46\right)-\$1,050\\ =\$39,100-\$1,050\\ =\$38,050\end{array}$

6. Calculation of cost price of 850 shares of N company.

$\begin{array}{c}\text{Purchase price of shares}=\text{Amount}\times \frac{\text{Number of share sold}}{\text{Total number of share}}\\ =\$143,250\times \frac{850}{3,400}\\ =\$143,250\times 0.25\\ =\$35,813\end{array}$

7. Calculation of gain in the sale of investment of N Company.

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short term investment}\\ =\$38,050-\$35,813\\ =\$2,237\end{array}$

8. Calculation of interest on US Treasury bills.

$\begin{array}{c}\text{Interest}=\text{Amount}\times \text{Rate}\times \text{Time period}\\ =\$20,000\times \frac{6}{100}\times \frac{6}{12}\\ =600\end{array}$

9. Calculation of cash dividend of D Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =1,200\times \$0.10\\ =\$120\end{array}$

10. Calculation of number of shares remaining in N Company after sale.

$\begin{array}{c}\text{Number of share}=\text{Total share}-\text{Sold}\\ =3,400-850\\ =2,550\end{array}$

11. Calculation of cash dividend of N Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =2,550\times \$0.20\\ =\$510\end{array}$

12. Calculation of cash dividend of D Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =1,200\times \$0.15\\ =\$180\end{array}$

2.

To determine

To prepare:

A table to compare the year-end cost and fair values.

Explanation of Solution

Prepare the table as shown below.

Given information:

Fair value of N Company is $40.25.

Fair value of D Company is $40.50.

Fair value of M Company is $59.

Company	Cost ($) (A)	Fair value ($) (B)	Unrealized loss ($) $\left(\text{A}-\text{B}\right)$
N	108,188	102,638	5,550
D	48,655	48,600	55
M	184,140	147,500	36,640
	340,983	298,738	42,245

Table – 2

Therefore, the unrealized loss is $42,245.

Working notes:

1. Calculation of cost of share of G Company.

$\begin{array}{c}\text{Cost}=\left(\text{Number of share remaining}\times \text{Rate}\right)+\text{Brokerage Fee}\\ =\left(2,550\times \$41.25\right)+\$3,000\\ =\$105,188+\$3,000\\ =\$108,188\end{array}$

2. Calculation of fair value of N Company.

$\begin{array}{c}\text{Fair value }=\text{Number of share}\times \text{Rate}\\ =2,550\times \$40.25\\ =\$102,638\end{array}$

3. Calculation of fair value of D Company.

$\begin{array}{c}\text{Fair value }=\text{Number of share}\times \text{Rate}\\ =1,200\times \$40.50\\ =\$48,600\end{array}$

4. Calculation of fair value of M Company.

$\begin{array}{c}\text{Fair value }=\text{Number of share}\times \text{Rate}\\ =2,500\times \$59\\ =\$147,500\end{array}$

3.

To determine

To prepare:

The adjusting entry to record the year-end fair value adjustment.

Explanation of Solution

Prepare the adjusting entry as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Dec 31	Unrealized loss - (Equity)		42,245
	Fair value adjustment short-term investment			42,245
	(Being unrealized loss recorded of $42,245)

Table - 3

► The fair value per share is less than the cost of share, as calculated in part 2. So, unrealized loss is debited. The balance of equity decrease by $42,245.

► The fair value adjustment account is an adjustment account recorded as an unrealized loss suffered by S Company.

4.

To determine

To explain:

The balance sheet presentation of the fair value adjustment to S’s short-term investments.

Explanation of Solution

The balance sheet is prepared as per the cost value of the short-term investment.

In the balance sheet, S Company reported a short-term investment of $340,983 and also reported a deduction of $42,245 for fair value adjustment. The result is the fair value of the short-term investment.

Thus, the short-term investment shows the cost price along with the adjustment.

5.

(a)

To determine

To identify:

The effect of short-term investment on the income statement of the year 2015.

Explanation of Solution

The effect (net income) of short-term investment on the income statement of the year 2015 is computed below.

Required information:

Dividend is $1,456.

Interest is $600.

Gain on sale of short-term investment is $2,237.

Calculate the net income as shown below.

$\begin{array}{c}\text{Net Income}=\text{Dividend}+\text{Interest}+\text{Gain on sale of investment}\\ =\$1,456+\$600+\$2,237\\ =\$4,293\end{array}$

Therefore, the net income increases by $4,293.

(b)

To determine

To identify:

The effect of short-term investment on the equity section of the balance sheet at 2015 year-end.

Explanation of Solution

The effect of short-term investment on the equity section of the balance sheet at 2015 year-end is stated as below.

The following are the effects of short-term investment on equity:

► The increase in the income of $4,293 increases the equity.

► $42,245 is deducted as unrealized loss from the equity account.

Thus, equity decreases by $37,952.

Working notes:

1. Calculate the total dividend earned.

$\begin{array}{c}\text{Total dividend}=\$,646+\$120+\$510+\$180\\ =\$1,456\end{array}$

2. Calculate the net effect on equity.

$\begin{array}{c}\text{Decrease in equity}=\text{Unrealized loss}-\text{Net income}\\ =\$42,245-\$4,293\\ =\$37,952\end{array}$