Find out the difference between investment classifications and how to account for each using both US GAAP and IFRS methods.
Roger Philipp, CPA presents:
"MARKETABLE SECURITIES" - LEARN ABOUT ALL 3 TYPES
Alright, let's talk about marketable securities. Now, we're still talking about investments. We just talked about cost versus equity. That was cost 0 to 20% equity, 20 to 50. Now, we're going to talk about marketable securities, which again is still 0 to 20, however there is a market value, fair market value. So, as we look at marketable securities, we're going to see that there's different ways to account for them. So, let's think back again for a minute...we said if it's 0 to 20%, that was called the cost method or marketable securities. If it's 20 to 50%, that was called the equity method or one line consolidation, and 50% plus was consolidations. Alright, 0 to 20, 20 to...we've already talked about this and this. Now, we're going to look at this one, which is marketable securities. What it says is, we own 0 to 20. However, it does have a market value. In other words, it's traded on a national exchange, for example. Let's say, for example, I own, you know, 100 shares in Microsoft. So, when I was single, I'd go out to the clubs and go, "Hey, can I buy a drink? What are you doing?" And they'd say, "Hey, what do you do for a living?" I'd go, "Oh, I own Microsoft." They go, "Oh, wow, you own Micro...you and Bill Gates, right?" Well, Bill Gates owns like 30% worth 50, 60 billion dollars, right? And I own 100 shares worth, like, 3000 dollars. So, obviously, but the point is, how much influence do I have? Same kind of rules. If I own 0 to 20% of the stock, I have no influence. That's cost, or in this case, marketable securities, but within marketable securities there's different categories called trading available and held to maturity. You'll see here, top of the page, it says, "When investment is made in securities, debt or equity." What is debt? Debt bonds. What is equity? "Stocks that are publicly traded, and the investment is not large enough to provide the investor with any significant influence over the investee. The accounting for the investment will depend on the classification." This is covered again by ASC 320 or FASB 115. We've got trading available, held to maturity. Trading securities means this, and it's all based on the 4th paragraph down, management's intentions. So, when I go out to the company, I pick up these statements. Whose statements are these? Management's. I'm going to ask them, "What are your intentions? What are you going to do with this stock?" Well, some people buy stocks and bonds, and they watch the market, "I'm gonna buy, I'm gonna sell, I'm gonna buy," and they call their broker, "Sell, sell, buy, buy, sell, sell!" What is their intention? To trade it currently.. So, what does that mean? It is held for trading. We call that HFT, held for trading or trading securities. Another type is called available for sale, AVS. That means they bought a security, and they're going to hold it for a while, but their intention is to hold it, but if they need the money, then it's what? Available for sale. So, if they need the money, it's AVS. Held to maturity. This is for something they intend, they have the intent and ability to hold it until it matures. So, for example, bonds mature. So, that would be, for example, debt securities or bonds. So, bonds only. Again, it says there as a result...trading...management's intention. So, again, we have to talk to management and say, "What do you plan to do with these securities? What are your goals?" Now, trading securities, with trading securities called held for trading or HFT, it says when trading securities are required, they're recorded at cost since they're being purchased for the purpose of generating profits from resale. They're kind of a form of inventory, and transactions are normally reported in the operating section of a statement of cash flows. So, we're going to have to learn kind of where do they go in a statement of cash flows as well, which we'll talk about in a moment. Let's jump ahead and kind of look at a chart. Now, this is going to be a really important chart. It will benefit you in your life, and your children, and your children's children. Look at this chart on page 5, and it says they're trading securities, HFT, held for trading, available for sale AVS, held to maturity HTM. So, what I want to do is kind of talk about these different securities and how we account for them. So, let me set this chart up over here, and we're going to have what we call trading securities, which is held for trading. We have available for sale and we have held to maturity, HTM. These are the different categories of securities that we can have. Now, as far as a trading securities, I said your intention is to what? Trade it currently, trade it currently, buy, sell, buy, sell, buy, sell. So, on the balance sheet, this is generally considered a current security. It could either be stocks or bonds. Now, what are stocks or bonds? Equity or debt. So, it could be either equity or debt. Equity securities being stocks, debt securities being things like bonds, and we generally acquire it at cost, but we're going to carry it at it's fair market value. So, that's what we're looking at on the balance sheet. So, on the balance sheet, current, it's considered a current security. It could be stocks or bonds and fair market value. Now, I buy this security, my intention is to trade it currently. So, how is this affected in the financial statements? Well, let's say the value...remember back in conceptual framework for accounting, we talked about recognition realization, recognition realization? So, I said if you buy a security you haven't sold it, but the value goes up or down, that's an unrealized gain or loss, but it's recognized. So, what we have to look at is if the value changes, we're going to have what? These things called unrealized with gains or losses. If it is a trading security, you're unrealized gains or losses go on your income statement. So, they go on your income statement. So, on the income statement, if the value changes, called an unrealized gain or loss, that's going to go on your income statement. If you sell it, what kind of gain or loss is that? Realized. That would also go on your income statement. Now, what do stocks and bonds pay? They generally pay a interest and dividends, right? Bonds pay interest, and stocks hopefully pay a dividend. So, if you have interest or dividend income, that would also go on your income statement. What about on a statement of cash flows? Now, we haven't talked about this yet. We're going to talk about it in the cla...cash flow section, but generally with cash flows, generally speaking, when you buy or sell, a trading security is normally considered an operating activity. Now, we're going to learn in cash flows in FAR 6, we've got trading...I'm sorry...we've got operating, investing and financing. Operating is normal operations, how a company survives buying selling and so on. Trading...trading...operate...investing is where they invest in themselves or they invest in somebody else. They buy property plant equipment, they buy securities and so on. They're making an investment. And then finally operating...financing is how you finance a company, how you get money into the company, by issuing stocks, issuing bonds, things like that. So, these are all different types of operating, again, on a statement cash flows called operating, investing or financing. Here, it's normally operating. It could be investing as well, but it's normally an operating activity, and that's kind of relatively new, that it could be investing. but it's normally operating. Alright, as you look at available for sale...now, remember with available for sale, with available for sale, available for sale...this could be either current or non-current because available for sale means you bought a security, but what's your intention? Your intention is to hold it, but if you need the money, it's what? Available for sale. So, this could be current or non-current, although it's usually current. It could be stocks or bonds, and you buy it at cost, however you keep it at its fair market value. So, you can see here with AVS, again, current or non-current. Now, notice non-current, generally AVS. Current could be held for trading or could be also, AVS. Now, here's the big difference. This box right here. This thing here, that's going to go up here in this top part. So, if you have an unrealized gain or loss, it goes on the balance sheet as part of comprehensive income, which is part of equity. So, when I teach you this mnemonic, which is going to be dent, D-E-N-T on your stockholder's equity, it is going to be there, it is going to be the N, which is your net unrealized gain or loss on available for sale. So, the big difference is this thing here, your unrealized gain or loss goes on the balance sheet, not on the income statement. So, it's going to go on the balance sheet, not on the income statement. Now, what about realized gains or losses? Yeah. Those still go income statement. What about interest and dividends? That still goes income statement, and generally, when you buy or sell this available for sale, it is an investing activity on your statement of cash flows. Okay, so, that's available for sale. So, that's the big difference here, which I'm going to show you, because that they love to test. Finally, held to maturity, held to maturity. I'm not going to cover a lot today because I'm on going to cover a whole different section on bonds in a separate topic, but held to maturity...if look right on page 5. This is where you buy a security, but your intention is to do what? Hold it until it matures. So, this could be current or non-current because you could have bonds that you bought 10 years ago that mature in a week, current, or they mature in 10 years, non-current. This is bonds only, or what I'll say is debt only. Why is that? Because, let's think about it...bonds mature, stock doesn't. Here's a quick question. What's the difference between a bond and...what's the difference between yeah a bond and your boyfriend? Bonds eventually mature. Ha ha ha. Love you, mean it. Alright. So, there you go. So, what does that say? Bonds only, which is debt, so that's held to maturity. Basically this is kept at something called amortized cost. Now, amortized cost, again, I'm going to cover it in detail when I'm teaching you bonds, but it's basically cost of unamortized discount or premium. So, as we go through, that's called amortized cost. So, let me have you highlight that third bullet down...carry at amortized cost, face, net unamortized discount or premium. Now, what do I mean by this? One of the things that I'm going to be teaching you, and look over here, is when I issue bonds, bonds payable for 1000 bucks, let's say I got cash of 900. So, we have a discount of 100. That's the journal entry when you issue a bond. What's going to happen is, as we go through this, we're going to have to see that your amortizing it out. So, as I teach you this in the bond section is we're going to have some kind of cash that we're paying. We're going to amortize out the discount and our plug will be interest expense. So you'll notice that the amortization of the discount increases our expense, but we'll cover that in a separate section. This is from the person who's issuing the bond. The person who's buying the bond would do this...they would debit investment in bonds for 1000. They would credit cash. They only paid 900. They too would have a discount of 100. Now, the investor would keep this investment at what we call amortized cost, face, net unamortized discount or premium. So, in this case, it would be 900, and let's say it was a 5 year bond they're amortizing at 20 a year. So, this would come out by 20, this goes down from 100, down to 80. Now, it goes up to 920, 940, 960, 980 and then 1000. So, that is what we mean by amortized cost, face net of amortized discount or premium. I'm going to spend a lot of time on bonds generally, from this perspective, the issuer. However we need to understand both sides, but in this section, this is not as heavily tested. This goes over here with held to maturity. However, what we need to understand is, the distinction between all 3 of these. So, we need to know what is trading, what is available, what is held to maturity and kind of the differences between all of them. So, here's what I've covered so far. If it is a held to maturity, that's bonds only, current or non-current, amortized cost, cost net of discount or premium. Generally withheld to maturity. You really should not have any kind of gain or loss until you sell it, right, because you're going to hold it till it matures. But if it does occur, which is rare, you could have a realized gain or loss. You also would have interest income. When you buy or sell a bond, it is going to be what? An investing activity, an investing activity on the statement of cash flows. So, I'm covering cash flows in another section, but I'm just trying to kind of introduce you to it right now. So, for today, we're going to really focus on these two more so than even held to maturity. So, we need to understand this chart because it is very important as far as conceptually. Here's the big thing I want you to see. What I want you to realize is trading, woops, trading versus available for sale, trading, stocks or bonds, current, fair market value. Here it can be current or non-current stocks or bonds, fair market value. Here, an unrealized gain or loss goes to the income statement. Here, an unrealized gain or loss goes to the balance sheet. The other thing, too, is, if it's non-current stock, it can't be this, can't be this, it's generally this. So, on the exam, if its current stock, it's usually this. Non-current stock, usually this. If it's bonds, it could be this or this or this. Okay? So, that's what we're going to see as far as going through it. So, let's turn back in our notes, look back to about page...look at about page 2, and let's do a class example because I want to walk through it because I want make sure that you're understanding the concepts here. So, let's go through this class example and kind of see what's going on. Alright, it says here, class example, purchase price on 1-1, x1 for 100,000, 12-31, x1 for 140, 12-31, x2 it went down to 90, alright. So, we're going to go through this problem. We're going to do both trading and available for sale. That's what we're going to do over on this board. So, let's start out here with trading, and then later on we'll do available for sale. So, when I purchased this security, I debited investment, and I paid what was it I paid? I paid 100 bucks. I debit investment, credit cash. Okay. So, that the investment. Now, here's my investment T account, 100 bucks. Then it says in x2, it went to...or in x1, it went to 140. So, at the end of the year, it went to 140. So, now I want it to be 140 in value. So, what I will do is, I will allow for the increase, 100 plus 40 is 140. That's my target. I'm going to adjust it to my target, my target. So, 140. Now, is this a realized or unrealized gain? I haven't sold it. So, it's what? Unrealized. So, what did we learn? If it's trading and its unrealized, it goes where? Income statement. So, for x1, my journal entry's going to be debit allowance for 40 credit, unrealized gain for 40. Now, this unrealized gain goes where? Income statement. The next year goes to 90, value goes to 90. So, my new target or target is 90. So, at that point, 100 minus 10 is 90. So, that...I need a goal of a credit to 10. How do I get it there? 50. That's my journal entry. So, over here for x2, what was my journal entry going to be? I guess I credit allowance for 50, and I debit unrealized loss for 50. Now notice, where does the unrealized loss go? Both of these go where? Income statement, income statement. How do I know? Because it's trading. So, again, notice I bought it for 100, it went up to 140. 140 debit allowance, credit unrealized gain, income statement. Then it went down in 90. What do I do? Credit allowance. Take it out and hit a loss. Where does the gain or loss go? Income statement. So, let's look back over here again, and let's kind of look at my chart. What does it say? Trading, current, stocks or bonds put it in...you want it at cost carried a fair market value. The value changed. Unrealized gain or loss goes where? Income statement. Ok. And, again, the concept is, it goes to the income statement. Why is that? Because your intention is to hold it currently, to trade it currently. Therefore, the gain or loss goes to the income statement. So, what I want us to realize there is the gain or loss goes to the income statement. Look at the journal entries in your notes to purchase it, boom, then it goes to 140, boom, then it goes down to 90. We have a loss or gain that goes the income statement. Note. Look at the note. The income statement effect in x1 is 40, and in x2 is -50. These amounts represent the current year effects only since they're both income statement items. Here's what I want you to realize. There are certain items that...when you think of an income statement or balance sheet, an income statement is what? It's a picture of the company this year only, this year only, because, remember, income gets closed out to retained earnings. Whereas the balance sheet is what? Cumulative, cumulative, cumulative. I started the year with 100 dollars, I made another 100 dollars. How much do I have at the end of the year on my balance sheet? 200 dollars. How much did I make for the year? 100. So, that 100 is my income statement number, which shows this year's number only but balance sheet is cumulative, cumulative, cumulative. So, because these are income statement item numbers only, those cumulative, therefore, they go where? They're going to my income statement, income statement. Let's do the same question. Instead of trading, let's do available for sale, AVS. Alright. So, what I do is, I go out and I buy the investment, debit investment for 100, credit cash for 100, then at the end of x1, what happens? The value goes up to 140. So, it goes up to 140. Now, when it goes up to 140, what's happening here? Is it realized or unrealized? Unrealized. So, debit mmm allowance for 40, credit unrealized gain for 40. Now, this unrealized gain, this is an available for sale security. So, therefore it goes where? it goes to the balance sheet, balance sheet as part of comprehensive income. Then the next year, what's going to happen? The next year in x2, it goes down to 90. So, that's my target. So, therefore, what do I do in x2? I'm going to have to debit unrealized loss and credit allowance. Now, remember where does the unrealized go? The unrealized goes to the balance sheet, the balance sheet. So, the unrealized goes to the balance sheet. So, that's balance sheet, boom, that's balance sheet. Now, remember, an income statement is this year only. A balance sheet is cumulative. So, if the balance sheet is cumulative, then what do I have after 2 years? I have a gain of 40 and a loss a 50. These are balance sheet accounts. It nets out to what? 10 negative. This goes to an account called OCI, which is other comprehensive income. So, what it means is it goes to this balance sheet account, part of stockholder's equity, called OCI. That is, remember the mnemonic, DENT, which is comprehensive income, D-E-N-T, derivative cash flow hedges, which is the next chapter, excess amortization on pensions, therefore, net unrealized gain or loss on AVS goes to the balance sheet, and T, foreign currency translation adjustments. So, notice it goes where? On your OCI, N goes to stockholder's equity. So, again the big difference is back over here. This is income statement. This year only, this year only, x1 40 dollars, x2, 50. Over here, what is this doing? Over here, this is going to be balance sheet and balance sheet. They offset. So, your cumulative is going to be what? Balance sheet. So, that's why coming back over here, your AVS, current stocks or bonds, fair market value, unrealized gain or loss goes on the balance sheet as part of comprehensive income, that's part of your DENT, which is part of OCI, called other comprehensive income. You'll see this in your notes. Let's actually turn back to page 1...look back at page 1, and on page 1...bullets at the bottom of the page. It says, ìTrading securities are purchased for the purch...purpose of selling in the near term. They are current assets on the balance sheet if operating, and if investing then non-current, include both debt and equity, initially recorded cost, they carried fair market value, any unrealized gain or loss, temporary appear on the income statement.î Now, I mentioned the word temporary. Why? Because when you buy stock, how often does the stock price change? Like every second, right? You're watching channel 58, you watch the numbers go by. What is it? Buy, sell, buy, sell, buy, buy, sell, but it changes every second, but those declines and increases are generally considered temporary. So, normally you're going to allow. That's why we had an allowance account. You will allow for them to come back and forth versus in a few minutes, we'll talk about like an impairment loss or a non-temporary permanent decline. That's when you would write it down and actually hit the investment, but otherwise, you normally hit the allowance because if it's temporary, you're allowing for it to come back and go back and forth. The next bullet here, it says, "Any unrealized gain or loss goes on the income statement. Realized gains and losses are always on the income statement. The acquisition or disposal is normally operating on the statement of cash flows, although..." it says, "per SFAS 159, trading securities can be classified as either operating or investing based on the nature and purpose for which the securities were acquired." Normally, if current, then they're normally operating. So, you could have a non-current trading. It's rare, but you could. Again, normally, it's going to be an operating activity. Alright, let's look at available for sale. Look at the bottom of page 2...3. It says, "Available for sale securities debt or equity, current or non-current there include both debt and equity initially recorded at cost, but you're going to carry it at fair market value." Circle the next bullet. "Any unrealized gains or losses appear on the balance sheet as part of comprehensive income. The cumulative amount is called accumulated other comprehensive income which are..." I'll show you in a minute. "...Realized gains and losses are always on the income statement as well as interest and dividends. The acquisition or disposal of AVS investments in an investing activity on the statement of cash flows." So, that's the journal entries right there. You'll see on page 3 to purchase it, fair market value goes to 140, fair market value goes down to 90. So, those are the amounts there. Then it says, "Note: the unrealized gain x1 is 40 is called other comprehensive income, OCI, and in x2, 50; however, the net unrealized loss in x2 on the balance sheet is only 10. Since it is a balance sheet account we're concerned with the cumulative balance..." and this amount is called what? Accumulated other comprehensive income. So, then I added kind of an income statement there. So, let me kind of set up this income statement right here so we can understand what it looks like. And here's my GAAP income statement. Now, remember, I had GAAP income statement. I said, what is it? I like to go surfing ON the TIDE N OC, which is operating, non-operating, taxes, discontinued, extraordinary net income, other comprehensive income, comprehensive income. So, I've got operating, non-operating, taxes gives you income from continuing, discontinued extraordinary gives you net income. Then I've got OCI. What's OCI? DENT. Other comprehensive income which gives you your comprehensive income. So, let's say we're looking at this gap income statement, and let's say we're looking at here's x1, here's x2. So, let's go through and look at this to compare it. Alright, so the first one, I'm going to do this example. So, just from here back, remember this example, here back, which is for trading. So, for trading, you buy an investment 100, then it goes up to 140, allowance, unrealized, then it goes down. So, where do these 2 numbers go? Income statement. Where would they go on the income statement? They would go up here as n other non-operating. So, in x1, I have a gain of how much? I have a gain of 40 dollars. In x2, I have a loss of how much? I have a loss of 50 dollars. So, notice, they go up here as part of your gap income statement in here. Mmm hmm... and that's the picture I've put in there. It says if trading goes here. Now, instead, let's pretend it is available for sale. If it's available for sale, it doesn't go here, it goes down here as part of comprehensive income because comprehensive income is what? Comprehensive final in school was what? Scary. All-inclusive. Comprehensive income is what? All-inclusive. So, its net income plus more. So, that's why your comprehensive income is net income plus or minus OCI, which gives you co...so, it's plus more. So, let's come over here and look at this example. Now, when we look at this, we've got available for sale, debit investment, credit cash, then debit allowance, credit unrealized, then debit unrealized, credit allowance. Where does this unrealized gain or loss go? Balance sheet as part of what? OCI, other comprehensive income. So, let's see how this differs. Let's say, for example, in x1, so instead of trading, it goes down here. Available for sale 40 and 50. Let's say in x1, we had 100 dollars of net income, and in x2, we had 200 dollars of net income. So, what is other comprehensive income? For x1, it's going to be 100 as net income because this didn't show up there because it was available for sale. Then we've got 40 dollars of OCI gives me 140. Over here, x2, 200 of income minus 50 is 150 of comprehensive income. Now, what does this word comprehensive income? It shows up only on a comprehensive income statement because the way we can show comprehensive income as part of an income, it could say statement of income and comprehensive income or it could be a comprehensive income statement. I'm just starting with net income and going to this. But here's where it shows up in the financial statements. Watch this. Net income plus net income is 300. That goes to where? Retained earnings. That's where income gets closed out into. We've got OCI of 40 minus 50 is 10 negative. Where does that go? That also goes to the balance sheet as part of stockholder's equity, as part of accumulated other comprehensive income, or what we call accumulated OCI. So, notice that. Then the net of that is your 290. Now, in reality, this 290, that doesn't really show up anywhere. However, the 300 minus 10, these show up separately. Retained earnings is 300. Other comprehensive income is minus 10. The net is 290. So, what I want you to realize is this, is what shows up. Why does the net show up? Because it's cumulative. Balance sheets are cumulative, cumulative, cumulative. Income statement is this year only, this year only. So, that's the real difference between the two as you go through it. So, you'll kind of see that example I put in there. So, when you're doing problems, you've got to read them carefully. Are they asking for OCI for x1, OCI for x2 or accumulated OCI for x2? That would be the -10. So, this is OCI x1, OCI x2, accumulated OCI. What number shows up? Accumulated OCI shows up. Where? In the balance sheet as part of stockholder's equity. Okay. So, again, I understand that's a little confusing. So, make sure we understand that. Alright, then it says, sale of AVS securities, it says when an investment in AVS is sold, the difference between the cost and the proceeds is treated as a realized gain or loss. So, when you sell an AVS, obviously, it says here, realized. Now, when we sell it, we ignore the allowance account and adjust to the new target balance without the security that was just sold, unless it is the last investment then the allowance and the unrealized gain or loss must both be eliminated. So, what they're kind of saying there is that when you sell an investment, what we need to do is, we need to see how that affected it, and basically, if it's not your last investment, nor the allowance account because in a sense, the allowance account is self-adjusting. So, what I want us to do is I want us to understand that concept, and basically, what we're saying is, if I have...let's come over here and look, let's do an example. Let's say, for example, back over here, my AVS, I'm selling the AVS. So, I bought an AVS and let's say, for example, I had more than one. So, here's an investment. I had 100, and then I bought another for 50. That's 150. And let's say the value was 180. So, how do I get that? I'm going to allow, boom, boom, here's 30. 150 plus 30 is 180. Ok. Now, let's say I sell just this one investment. Now, normally, for AVS, as we just covered for available for sale. Normally, what's happening? Normally when you sell or when you have it available for sale, an unrealized gain or loss goes to where? Balance sheet. Comprehensive income. This says that when you sell it, when you sell the security, and here my example is AVS, available for sale, when you sell the security, you're going to debit cash. Let's say I sold it for 60. You're going to credit investment for cost 50. Your difference is a gain or a loss. Now, what kind of gain is this? You sold it, it's called a what? Realized gain. It's a realized gain, you realized it. You sold it. But what about the allowance? Let's say they told you that of the 50, 10 of this was allowance. Guess what? You ignore it. Huh? You ignore the allowance. Why? Because the allowance is self-adjusting because what you'll do then is, you'll say, "Okay, I got rid of 50, I'm left with what? 100." How much is that 100 dollar security worth? Let's say it's worth 125. How much do I have? 100 plus 30 is 130. I want 125. I better take out 5 to get me to 25. How do I do that? Credit allowance, debit unrealized loss. So, when you do this, notice it's self-adjusting. How is it self-adjusting? Because it adjusts because you only have that one security left, therefore it self-adjusts. Now, obviously if I sold it, and it was my last security, then you have to offset the allowance, but if it's not your last security, then this unrealized gain or loss, you ignore the allowance, you ignore it until you sell it. Let's read that sentence again. It says, "When the investment in AVS is sold, the difference between the cost in the proceeds is treated as a realized gain or loss. Ignore the allowance account and adjust to the new target without the security that was just sold, unless it's the last investment, then the allowance and the unrealized gain or loss must both be eliminated." Alright. So, let's do a couple of questions in the back of this section, and actually, before we do, let me just show you a little bit about where this stuff shows up. If you look first of all on page 3 dash 3, on 3 dash 3, that's where we went through and we looked at our balance sheet. So, let's go ahead and look back again at page 3 dash 3. So, on 3 dash 3, let me kind of put a little mark here...3 dash 3...mmm mmm mmm...here we go...balance sheet...you'll see there it says short term investments, marketable securities, trading, that's an asset. Then we've got non-current assets, available for sale, held to maturity. So, you can see those there, see how they show up The other thing I want to show you is, if you jump to page 17 dash 6, you'll see an example of a statement of comprehensive income. On 17 6, it says Roger Co., statement of comprehensive income, net income, then you have your OCI. What's OCI? Other comprehensive income. There's that mnemonic going down the page, DENT, which is derivative cash flow hedges, which is excess adjustment o pension PBO over fair value. That's for pensions...we haven't learned yet...net unrealized gain or loss on AVS. That's the one we're talking about. Yellow that in. And translation adjustment is comprehensive income. So, that is called your OCI, other comprehensive income. If you look at page 15 dash 1, 15 1, that's stockholder's equity. Let me show you what your balance sheet or stockholder's equity looks like. Remember, your balance sheet is assets, mmm hmm, liabilities, mmm hmm and equity. What does equity look like? Preferred stock, common stock, APIC, non-controlling interest, that's for consolidations, retained earnings, accumulated other comprehensive income. There's your DENT. What is it? D-E-N-T, derivatives, excess amortization, net unrealized gain or loss on AVS and foreign currency and then treasury stock. So, notice that's the accumulated. So, in this example, remember the 10,000 negative? That's the cumulative. That shows up where? On your balance sheet. That shows up on your balance sheet as part of stockholder's equity. Hopefully lights are going on. Alright, let's look at a couple of questions. Mmm hmm...let's go back to chapter 5. Let's look at question number 1, 1 and 2. Question number 1, 1 and 2. Alright, question number 1 says, "NOLA has a portfolio of marketable equity securities that it does not intend to sell in the near-term. How should NOLA classify these securities, and how should it report unrealized gains and losses from these securities." Now, it says marketable securities, it doesn't intend to sell near-term. So, that sounds like non-current. So, over here, and let's look at our chart. What does that sound like? Non-current. Sounds like current, non-current. Sounds like available for sale. Sounds like unrealized gains or losses go where? Balance sheet versus income statement. Okay, let's look back. Classified as trading? No. Classified as available? Yes. And separate component other comprehensive income? Yes, OCI, other comprehensive income goes where? On your balance sheet as part of equity. Trading? No. Available component of income. No. Best answer is B. Number 2. Last sentence first...Ball's x3 other comprehensive income would be...so, how much is their other comprehensive income? How much is their OCI? It says, "Data regarding Ball Corp.'s available for sale securities are as follows: December 31st, cost 150, went down to 130, x3 150, went up to 160. The differences between cost and market are considered temporary." Why do we care? Because if it's called non-temporary or permanent, then you would write down the security. But usually we consider them all to be what? Temporary, because there's a chance we could recover it. So, it says here, they want to know...now, here's the tricky question...are they asking for this or this? This or this? What's the difference? This is called OCI. OCI, accumulated OCI. So, what are they asking for? Hmmm? Sounds like OCI. So, let's see our journal entries. In x1, we bought it for 150, went down to 130. In x2, x3 went up to 160. So, let's set up over here again. Bought it for 150. By the end of the year, it went down to 130. I have a 20 dollar credit. How do I get it there? Let's see...credit allowance, debit unrealized loss. 20. Where does that go? It goes to the balance sheet. The next year, the value goes to 160. 160. What's my new target, my target? I want it to be 10, therefore I need to hit this for 30. Journal entry, debit allowance, 30, credit unrealized gain, 30. Now, where does the unrealized loss, unrealized gain go? Go to the balance sheet. So, if I were looking over here, what do I have? In the first year, I would have a loss of 20, and the next year I would have a gain of 30. The cumulative would be 10. Look at your choices...30 uh huh, 20 uh huh, 10 uh huh, 0. Oh my gosh, every choice is there. You better know what they're asking for. It says, again, Ball's x3 other comprehensive income. They want to know your OCI for the second year, for x3. So, your 2nd year OCI would be what? That would be x3's OCI, 30. If they ask for accumulated OCI, then the answer would be 10. But keeping in mind they're asking for this. Okay, they're asking for this. Okay? So, that's what we're looking at as far as those 2 questions. Alright, let's turn back in our notes, and let's talk about impairment loss. Now, here it says impairment loss other-than-temporary. What does that mean? It means that all the losses, we said they're temporary, they're temporary, they're temporary. Well anytime it is other-than-temporary, that means we don't think we're going to recover it. Now, they had to come up with reasons and rules. It said in debt or equity securities classified as trading available are held to maturity or under the equity method experience a loss. So, it could be the equity method as well, which we talked about in the last chapter. This is considered other-than-temporary. Then the security must be written down to the new cost bases and treated as a realized loss. Now, remember, I haven't sold it yet, but what happened is, we don't expect to recover this loss, therefore, you write it down. For example, they just did a study and found out Mountain Dew causes cancer. Mmmm. Let's pretend. So, if that's the case, what do you expect the value of the stock amount do to Dew? To drop, right? Unless it's cigarettes. Somehow, they go up, right? William Morris just keeps going up. So, the thing is, that would be a loss other than temporary because it's not just a fluctuation in the day-to-day market. We think it's a loss we're not going to recover. You don't do this unless they tell you in the problem it's permanent or non-temporary. So, that's called permanent, non-temporary or an impairment loss. It says here the securities written down at fair market value, the loss is treated as a realized lost on the income statement. The remaining balance is considered the new cost basis. So, that would be the new cost basis. Debit loss, credit investment. It says the street...3-step process to determine the adjustment is 1: determine whether an investment is impaired. So, in other words, is the value impaired? Is the fair value less than the cost? Step 2, determine whether it's other-than-temporary. In other words, we don't expect to recover it. It says the investor has the ability and intent to hold it for a reasonable period of time to sufficient for the forecasted recovery of the fair value and evidence indicating that the cost is recoverable. So, if you think the value's going to come back, and you expect to hold it that long, then don't hit it, but if you don't know if you're going to hold it that long and/or it's not recoverable, then you would write it down. And then step 3: record the loss. It says the impairment loss is the difference between the cost and its fair value. So, what you would do is, just debit loss, credit investment. Notice, though up until now, every adjustment was what? We had a loss, but we didn't hit the investment. We hit an allowance, allowance, allowance, allowance, allowance. Okay, that's what we've been doing so far. So, stay this way, we're in this, there we go. Okay? So, that's what we're looking at. So, that's this part here, okay. So, that's what we're saying, where it's just a kind of a temporary loss. Here, we're talking about a non-temporary. Alright, next area talks about reclassifications. With reclassifications, that's where we're reclassifying between what? One category and another. So, when reclassifying, here are my 3 categories. For my 3 categories, I have trading, available, held to maturity, held for trading, available for sale, held to maturity. If I go from here to here, here to here, here to here, here to here. So, you may reclassify. Why? Based on management's intention. Management goes, "You know what? I think we're going to do this or this or this." That is called management's intention. Now, when you reclassify, basically if you touch the word trading, you go from here to here, here to here, here to here, here and here, you touched the word trading, fair market value, gain or loss income statement. If you go here to here, here to here, then gain or loss, fair value, balance sheet. So, that's a good cheat sheet, quick way to remember it. If you look in your notes it says reclassifications. It says if you're reclassifying from trading and available between trading available, it says fair market value, the difference is treated as a realized gain or loss on the income statement and eliminate any valuation allowance. Reclassifications between held to maturity and AVS, reclassified fair value, if held to maturity to AVS, then record OCI. If AVS to held to maturity, then the unrealized gain or loss goes on the balance sheet, and then it's amortized over the life of the security. Okay. Held to maturity...I said those are bonds. You have to have the intent and ability to hold it until it matures. There's a whole bunch of things. Non-current, bonds, record at cost, carried at amortized cost, unrealized gains or losses shouldn't happen, realized gain or loss shouldn't happen, but could and so forth. So, again, I'm going to talk much more about this when we hit the bond chapter. Alright, now, let's look back up here one last time at my chart because it's a beautiful chart. I want you to remember this chart. Trading, available, held to maturity. Trading, generally current. It could be stocks or bonds, unrealized gains or losses, go to the income statement, realized gains or losses, income statement, interest dividend goes to the income statement, and of course, it's generally an operating activity on the statement of cash flows. Let's talk about this one. Available for sale. It says current or non-current, stocks or bonds, fair value, but the big difference, this comes up here, which means unrealized gains or losses go on the balance sheet as part of OCI. Same things about what's on the income statement other than unrealized, and generally buying or selling is an investing activity. Held to maturity, current or non-current, usually non-current, bonds only, carried at amortized cost. Buying or selling is generally an investment, investing activities. So, again what you're going to see on the exam most likely is a distinction between these two. So, a little bit of change in between these two, which is training and available for sale. So, that's what I really want to make sure you understand. Alright, finally, fair value accounting. It mentions here for available for sale securities, for held to maturity, for equity securities. It says here any unrealized gain or loss would be reported on the income statement rather than OCI. For held to maturity they would no longer report the investment in amortized cost, instead it would be at fair value, and again, gain or loss would go to the income statement. So, the big difference here is, you debit the investment, credit cash and then every year it goes up, income statement, goes down, income statement, goes up, income statement, goes down, income statement. So, it makes it a lot easier. That's why you could elect fair value. The way they generally test it is this stuff. So, that's why I'd rather have you remember this as far as understanding what and how it all goes together. Alright. Some of the disclosures...remember, we talked about disclosures? Those are disclosures here in the financial statements. We've got fair value, distinguishable between instruments and do not net or aggregate the fair values for the derivatives. So, that's just talking about some of the different accounting for those items. Okay, let's talk about investments in financial instruments other than entities under IFRS. So, this is an important area because there have been a few changes here, different ways that you can value these investments, for example. In looking at investments and financial instruments, it says the term investment refers to investments that are either held for trading, HFT, available for sale, or held to maturity, as well as equity investments. A financial instrument should be classified as either fair value through profit or loss. Now, that's kind of weird. Fair value through profit or loss. It says fair value. It says includes any financial assets and held for trading, could include AVS and held to maturity if elected, and there's an active market. So, what it says is, you can only use it if there is what we call an active market, and what we mean by an active market is that you can see in the market what the fair value really is because if we're doing a fair value through profit or loss, you've got to be able to see pretty readily, pretty easily what the fair value is. It says here, held to maturity instruments with fixed indeterminable and fixed maturity dates. You would show at amortized cost, which is what we already do, held to maturity at what? At amortized cost. We already do that. It says here loans and receivables, amortized cost. You break those out separately. Available for sale, financial assets that do not fall in the above 3 categories, we would show at fair value and your gain or loss would go to OCI, kind of like what we did earlier. So, those are, again, some of the big differences there. It says that if an asset is classified as fair value through profit or loss, it is re-measured at fair value at the end of each accounting period. Any profit or loss goes to the income statement. An election can be made to use fair value through profit or loss method for accounting purposes for an asset normally classified as AFS or held to maturity. In order to be done, again, it has to have an active market. So, that's the key. They like to sometimes ask that active market. Once you classify that, you cannot change it. So, once you make that decision, you're stuck fore..it's like marriage, you're stuck forever, and if you try to get out, you'll be paying for it, baby. Alright. It says the fair value profit or loss is not elected. The different rules apply, the investment is classified as held maturity, it's recorded at cost, says re-measured at amortized cost, kind of like what we already do. If classified as loans and receivables, it's accounted for using the amortized cost method. If the investment is classified as available for sale, the asset is measured at fair value, and any income loss goes to where? OCI, which is what we already do. Note that if a debt is classified as AFS, any premium or discount must be amortized using effective interest method, which we have not learned yet. We're going to learn that with bonds in FAR 3. So, what is the overview? It says declines in fair value below cost may result in an impairment loss for IFRS. Generally, only evidence of a credit default would affect your AFS, available for sale. When impairment is recognized through income, the new cost basis is established, and you cannot reverse that. So, when you have an impairment loss, you write it down. That write down is not recovered. So, when you write that down, do not recover. In other words, that is your new base; however, if you have an impairment loss under IFRS, it says here it may be recovered. So, that's a big difference, too, because we talked about an impairment loss, a loss other than temporary, permanent decline, you write it down, you don't write it back up. With IFRS, you write it down, but you could write it back up, unless the fair value option is elected under US GAAP, loans and receivables are classified as either held for investment, which is measured at amortized cost, or held for sale, which is lower of cost or value. Loans and receivables under IFRS are at amortized cost, unless you should choose the fair value through profit or loss or the available for sale category, both of which are carried at fair value. So, again not huge, huge differences but enough where you could easily see a multiple choice question or two. Alright, let's look at a couple questions here. Look at question number 7 about IFRS. It says, "On March 1st, Acadia purchased 1,000 shares of common stock of Marston for 50,000 dollars, and classified the investment as available for sale. On December 31st, the Marston stock had a fair value 53. Acadia prepares its financial statements in accordance with IFRS and they elected the fair value through profit or loss to record its investment in available for sale." Now, remember, normally, where does your AFS go? Available for sale goes where? Normally, it goes here, OCI, balance sheet, part of equity. Okay, that's where it normally goes. However, if you choose the fair value through profit or loss, then that gain or loss goes where? Income statement. It says, "How is the gain on the investment shown?" As 3,000 gain in OCI? No. That's if you did AF...available for sale normally. No gain or loss? No. 3,000 prior period adjustment? No. That's a correction of an error, which we haven't learned. As a 3,000 gain on the current earnings? Yes. In the income statement, answer D. Debit allowance, credit unrealized gain. Alright. Number 8. Under IFRS, the company uses the fair value method for accounting for an investment. Any changes in fair value are recognized where? Well, we just did that. Where? Profit or loss. OCI? No. Retained earnings? No. Profit or loss? Yes. Why? What's it called? Fair value through profit or loss. Alright, what I want to do now is, I'm going to do a simulation problem, but we're going to do that in just a sec.