Chapter C, Problem 4PSB

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 4PSB

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		205,000
	Cash			205,000
	(Being long-term investment purchase against cash)
Aug 1	Cash		21,000
	Long-term investment			21,000
	(Being cash dividend received)
Dec 31	Long-term investment		20,500
	Earnings from long-term investment			20,500
	(Being equity in investee earning recorded)

Table - 1

Explanation of Solution

► The long-term investment of B 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 $200,500. 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 B 1 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 $20,500 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 B Company increases.

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

Date	Particulars	L/F	Debit ($)	Credit ($)
Oct 15	Cash		27,000
	Long-term investment			27,000
	(Being cash dividend received)
Dec 31	Long-term investment		19,500
	Earnings from long-term investment			19,500
	(Being equity in investee earning recorded)

Table - 2

► Cash account is debited, as cash is received from B 1 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		375,000
	Gain on sale of long-term investment			182,500
	Long-term investment			192,500
	(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 $192,500.

► On the time of sale, B 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. Calculate the cash dividend of B l Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =20,000\times \$1.05\\ =\$21,000\end{array}$

2. Calculate the amount of dividend as on December 31, 2017.

$\begin{array}{c}\text{Dividend}=\text{Amount}\times \text{Rate}\\ =\text{\$82,000}\times 25\%\\ =\$20,500\end{array}$

3. Calculate cash dividend of B l Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =20,000\times \$1.35\\ =\$27,000\end{array}$

4. Calculate the amount of dividend as on December 31, 2018.

$\begin{array}{c}\text{Dividend}=\text{Amount}\times \text{Rate}\\ =\text{\$78,000}\times 25\%\\ =\$19,500\end{array}$

5. Calculate the value of B l stock.

$\begin{array}{c}\text{Cost of B l}=\$200,500-\$21,000+\$20,500-\$27,000+\$19,500\\ =\$192,500\end{array}$

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

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short term investment}\\ =\$375,000-\$192,500\\ =\$182,500\end{array}$

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 $9.63 per share.

Carrying value as on sale of date is $192,500.

Number of share is 20,000.

Calculate the carrying value per share.

$\begin{array}{c}\text{Carrying value per share}=\frac{\text{Carrying value}}{\text{Number of share}}\\ =\frac{\$192,500}{20,000}\\ =\$9.63\text{ per share}\end{array}$

Working notes:

Calculate the carrying book value of B 1’s common stock.

Particulars	Amount ($)
Actual cost	200,500
Less: Dividend 2017	21,000
Add: Earning in 2017	20,500
Less: Dividend 2018	27,000
Add: Earning in 2018	19,500
Carrying value as on sale of date	192,500

Table 4

Thus, the carrying book value of B 1’s common stock is $192,500.

Conclusion

Therefore, the carrying book value per share of B 1 Company’s investment in B’s common stock is $9.63 per share.

3.

To determine

To compute:

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

Explanation of Solution

The net increase or decrease in B Company’s equity is $222,500.

Calculate the net increase as shown below.

Particulars	Amount ($)
Earning from B l in 2017	20,500
Earning from B l in 2018	19,500
Gain on sale of investment	182,500
Net increase in equity	222,500

Table 5

Conclusion

Therefore, the increase in equity is $222,500.

PART 2

1.

To determine

To prepare:

The journal entries to record the preceding transactions and events.

Answer to Problem 4PSB

Solution:

Prepare the journal entries for 2015 as shown below.

Date	Particulars	L/F	Debit ($)	Credit ($)
Jan 5	Long-term investment trading securities		200,500
	Cash			200,500
	(Being long-term investment purchase against cash)
Aug 1	Cash		21,000
	Long-term investment			21,000
	(Being cash dividend received)
Dec 31	Fair value adjustment long-term investment		37,500
	Unrealized gain			37,500
	(Being unrealized gain earned of $240,000 at the time of closing)

Table – 6

Explanation of Solution

► The long-term investment of B 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 $200,500. 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 B 1 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 to account for the unrealized gain earn by B Company.

► The fair value of long term investment is less than the cost of share so the B Company earn an unrealized gain of $37,500, and unrealized gain 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		27,000
	Long-term investment			27,000
	(Being cash dividend received)
Dec 31	Fair value adjustment long-term investment		35,000
	Unrealized gain			35,000
	(Being unrealized gain earned of $120,000 at the time of closing)

Table – 7

► Cash account is debited, as cash is received from B 1 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 B Company.

► The fair value of long-term investment is less than the cost of share. So, B Company earns an unrealized gain of $35,000, 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		375,000
	Gain on sale of long-term investment			174,500
	Long-term investment			200,500
	(Being long-term investment sold at a gain of $154,000 and receive cash )
Dec 31	Unrealized gain equity		72,500
	Fair value adjustment long-term investment			72,500
	(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 $200,500.

► On the time of sale, B 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, B Company earns an unrealized gain of $72,500. The fair value adjustment account is credited to set off the account.

Working notes:

1. Calculate the cash dividend of B l Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =20,000\times \$1.05\\ =\$21,000\end{array}$

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

$\begin{array}{c}\text{Fair value}=\text{Number of share}\times \text{Price per share}\\ =20,000\times \$11.90\\ =\$238,000\end{array}$

3. Calculate the fair value adjustment as on December 31, 2017.

$\begin{array}{c}\text{Fair value adjustment}=\text{Fair value}-\mathrm{Cos}\text{t of share}\\ =\$238,000-\$200,500\\ =\$37,500\end{array}$

4. Calculate the cash dividend of B l Company.

$\begin{array}{c}\text{Cash dividend}=\text{Number of share}\times \text{Rate of dividend}\\ =20,000\times \$1.35\\ =\$27,000\end{array}$

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

$\begin{array}{c}\text{Fair value}=\text{Number of share}\times \text{Price per share}\\ =20,000\times \$13.65\\ =\$273,000\end{array}$

6. Calculate the fair value adjustment as on December 31, 2018.

$\begin{array}{c}\text{Fair value adjustment}=\text{Fair value}-\mathrm{Cos}\text{t of share}\\ =\$273,000-\$200,500\\ =\$72,500\end{array}$

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

$\begin{array}{c}\text{Amount to be adjusted}=\text{Total amount}-\text{Amount adjusted in 2017}\\ =\$72,500-\$37,500\\ =\$35,000\end{array}$

8. Calculate the Gain in the sale of investment of K Company.

$\begin{array}{c}\text{Gain}=\text{Sale Price}-\text{Cost of short term investment}\\ =\$375,000-\$200,500\\ =\$174,500\end{array}$

2.

To determine

To compute:

The carrying book value per share of B Company’s investment in B 1 common stock.

Explanation of Solution

The carrying book value per share of S Company’s investment in K common stock is $10.03 per share.

Required information:

Carrying value as on sale of date is $200,500.

Number of share is 20,000.

Calculate the carrying value per share.

$\begin{array}{c}\text{Carrying value per share}=\frac{\text{Carrying value}}{\text{Number of share}}\\ =\frac{\$200,500}{20,000}\\ =\$10.03\text{ per share}\end{array}$

Conclusion

Therefore, the carrying book value per share of B Company’s investment in B 1 common stock is $10.03 per share.

3.

To determine

To compute:

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

Explanation of Solution

The net increase in B Company’s equity is $222,500.

Calculate the net increase as shown below.

Particulars	Amount ($)
Earning from B in 2017	21,000
Earning from B in 2018	27,000
Gain on sale of investment	174,500
Net increase in equity	222,500

Table 9

Conclusion

Therefore, the increase in equity is $222,500.