Chapter D, Problem D.5EX

To determine

Stock investments: Stock investments are equity securities which claim ownership in the investee company and pay a dividend revenue to the investor company.

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.

To journalize: The stock investment transactions in the books of Industries S

Explanation of Solution

1)

Prepare journal entry for the purchase of 1,000 shares of Company T at $85 per share and a brokerage of $150.

Date		Account Titles and Explanations	Post. Ref.	Debit ($)	Credit ($)
February	24	Investments–Company T Stock		85,150
		Cash			85,150
		(To record purchase of shares for cash)

Table (1)

• Investments–Company T Stock 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.

Working Notes:

Compute amount of cash paid to purchase Company T’s stock.

$\begin{array}{c}\text{Cash paid = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares purchased× }\\ \text{Price per share}\end{array}\right)\text{+}\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{1,000 shares ×\$85}\right)+\$150\\ \text{= \$85,150}\end{array}$

2)

Prepare journal entry for the purchase of 2,500 shares of Company I at $36 per share and a brokerage of $100.

Date		Account Titles and Explanations	Post. Ref.	Debit ($)	Credit ($)
March	16	Investments–Company I Stock		90,100
		Cash			90,100
		(To record purchase of shares for cash)

Table (2)

• Investments–Company I Stock 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.

Working Notes:

Compute amount of cash paid to purchase Company I’s stock.

$\begin{array}{c}\text{Cash paid = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares purchased× }\\ \text{Price per share}\end{array}\right)\text{+}\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{2,500 shares ×\$36}\right)+\$100\\ \text{= \$90,100}\end{array}$

3)

Prepare journal entry for sale of 400 shares of Company T at $100, with a brokerage of $75.

Date		Account Titles and Explanations	Post. Ref.	Debit ($)	Credit ($)
July	14	Cash		39,925
		Gain on Sale of Investments			5,865
		Investments–Company T Stock			34,060
		(To record sale of shares)

Table (3)

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Gain on Sale of Investments is a revenue account. Since revenues increase equity, equity value is increased, and an increase in equity is credited.
• Investments–Company T Stock is an asset account. Since stock investments are sold, asset value decreased, and a decrease in asset is credited.

Working Notes:

Calculate the realized gain (loss) on sale of stock.

Step 1: Compute cash received from sale proceeds.

$\begin{array}{c}\text{Cash received = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares sold× }\\ \text{Sale price per share}\end{array}\right)–\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{400 shares ×\$100}\right)–\$75\\ \text{= \$39,925}\end{array}$

Step 2: Compute cost of stock investment sold.

$\begin{array}{c}\begin{array}{l}\text{Cost of stock }\\ \text{investment sold}\end{array}\}\text{ = Number of shares sold × Price per share}\\ \text{= Number of shares sold ×}\frac{\text{Cost of 1,000 shares}}{\text{Number of shares}}\\ \text{= 400 shares ×}\frac{\text{\$85,150}}{\text{1,000 shares}}\\ \text{= \$34,060}\end{array}$

Step 3: Compute realized gain (loss) on sale of stock.

$\begin{array}{c}\begin{array}{l}\text{Realized gain }\left(\text{loss}\right)\\ \text{on investments}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Cash received –}\\ \text{Cost of stock investment }\end{array}\right\}\\ \text{= \$39,925–\$34,060}\\ \text{= \$5,865}\end{array}$

Note: Refer to Steps 1 and 2 for value and computation of cash received and cost of stock investment sold.

4)

Prepare journal entry for sale of 750 shares of Company I at $32.50, with a brokerage of $80.

Date		Account Titles and Explanations	Post. Ref.	Debit ($)	Credit ($)
August	12	Cash		24,295
		Loss on Sale of Investments		2,735
		Investments–Company I Stock			27,030
		(To record sale of shares)

Table (4)

• Cash is an asset account. Since cash is received, asset account increased, and an increase in asset is debited.
• Loss on Sale of Investments is a loss or expense account. Since losses decrease equity, equity value is decreased, and a decrease in equity is debited.
• Investments–Company I Stock is an asset account. Since stock investments are sold, asset value decreased, and a decrease in asset is credited.

Working Notes:

Calculate the realized gain (loss) on sale of stock.

Step 1: Compute cash received from sale proceeds.

$\begin{array}{c}\text{Cash received = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares sold× }\\ \text{Sale price per share}\end{array}\right)–\\ \text{Brokerage commission}\end{array}\right\}\\ \text{= }\left(\text{750 shares ×\$32}\text{.50}\right)–\$80\\ \text{= \$24,295}\end{array}$

Step 2: Compute cost of stock investment sold.

$\begin{array}{c}\begin{array}{l}\text{Cost of stock }\\ \text{investment sold}\end{array}\}\text{ = Number of shares sold × Price per share}\\ \text{= Number of shares sold ×}\frac{\text{Cost of 2,500 shares}}{\text{Number of shares}}\\ \text{= 750 shares ×}\frac{\text{\$90,100}}{\text{2,500 shares}}\\ \text{= \$27,030}\end{array}$

Step 3: Compute realized gain (loss) on sale of stock.

$\begin{array}{c}\begin{array}{l}\text{Realized gain }\left(\text{loss}\right)\\ \text{on investments}\end{array}\}\text{ = }\left\{\begin{array}{l}\text{Cash received –}\\ \text{Cost of stock investment }\end{array}\right\}\\ \text{= \$24,295–\$27,030}\\ \text{= \$}\left(2,735\right)\end{array}$

Note: Refer to Steps 1 and 2 for value and computation of cash received and cost of stock investment sold.

5)

Prepare journal entry for the dividend received from Company T for 600 shares.

Date		Account Titles and Explanations	Post. Ref.	Debit ($)	Credit ($)
October	31	Cash		240
		Dividend Revenue			240
		(To record receipt of dividend revenue)

Table (5)

• Cash is an asset account. Since cash 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.

Working Notes:

Compute amount of dividend received on Company T’s stock.

$\begin{array}{c}\text{Dividend received = }\left\{\begin{array}{l}\left(\begin{array}{l}\text{Number of shares purchased–}\\ \text{Number of shares sold}\end{array}\right)\text{× }\\ \text{Dividend per share}\end{array}\right\}\\ =\left\{\left(\text{1,000 shares –400 shares}\right)\text{× }\right\}\\ \text{= 600 shares ×\$0}\text{.40}\\ \text{= \$240}\end{array}$