AUDITING PROBLEM - From Audit of Investment

AUDIT OF INVESTMENTS
Investments are assets held by an entity for the accretion of wealth through distribution such as
interest, royalties, dividends and rentals, for capital appreciation or for other benefits to the
investing entity such as those obtained through trading relationships. (International Accounting
Standards Board)
 FINANCIAL INSTRUMENT
PAS 32, paragraph 11
Financial instrument is any contract that gives rise to a financial asset of one
entity and a financial liability or an equity instrument of another entity.
 FINANCIAL ASSET
Any asset that is cash, a contractual right to receive cash or another financial asset
from another entity, a contractual right to exchange financial instrument with another
entity under conditions that are potentially favorable, and an equity instrument of another
entity.
 NOT FINANCIAL ASSET
 Intangible Assets
 Physical Assets
 Prepaid Expenses
 Leased Assets
 CLASSIFICATION OF FINANCIAL ASSETS
PFRS 9, paragraph 4.1.1
1. Financial Assets at fair value through profit or loss (equity securities and debt
securities)
2. Financial Assets at fair value through other comprehensive income (equity
securities and debt securities)
3. Financial Assets at amortized cost (debt securities)
The classification depends on the business model for managing financial assets which
may be:
a) To hold investments in order to realize fair value changes
b) To hold investments in order to collect contractual cash flows
 EQUITY SECURITY
 Any instrument representing ownership shares and right, warrants or options to
acquire or dispose of ownership shares at a fixed or determinable price.
 Do not include redeemable preference shares, treasury shares and convertible
debt.
 DEBT SECURITY
 Any security that represents a creditor relationship with an entity.
 Has maturity date and a maturity value
FINANCIAL ASSET AT FAIR VALUE
 INITIAL MEASUREMENT OF FINANCIAL ASSET
PFRS 9, paragraph 5.1.1, provides that at initial recognition, an entity shall measure a
financial asset at fair value plus, in the case of financial asset not at fair value through profit
or loss, transaction costs that are directly attributable to the acquisition of the financial asset.
o If the financial asset is held for trading or if the financial asset is measured at
FVPL, transaction costs are expensed outright.
 SUBSEQUENT MEASUREMENT
PFRS 9, paragraph 5.2.1, provides that after initial recognition, an entity shall measure a
financial asset at:
a. Fair value through profit or loss (FVPL)
b. Fair value through other comprehensive income (FVOCI)
c. Amortized Cost
 FINANCIAL ASSETS AT FAIR VALUE THROUGH PROFIT OR LOSS
1. Financial assets held for trading or popularly known as “trading securities”.
Required by the standard (by requirement).
2. All other investments in quoted equity instruments.
Application Guidance B5.1.14 of PFRS 9 (by consequence).
3. Financial assets that are irrevocably designated on initial recognition as at FVPL.
Paragraph 4.1.5 of PFRS 9 (irrevocable designation or by option).
4. All debt investments that do not satisfy the requirements for measurement at
amortized cost and at FVOCI.
PFRS 9, paragraph 4.1.4 (by default).
 FINANCIAL ASSETS HELD FOR TRADING
Appendix A of PFRS 9 provides that a financial asset is held for trading if
a. It is acquired principally for the purpose of selling or repurchasing it in near term.
b. On initial recognition, it is part of a portfolio of identified financial assets that
managed together and for which there is evidence of a recent actual pattern of short-
term profit taking.
c. It is a derivative, except for a derivative that is a financial guarantee contract or a
designated and an effective hedging instrument.
Trading securities are debt and equity securities that are purchased with the intent of
selling them in the “near term” or very soon.
 EQUITY INVESTMENT AT FAIR VALUE THROUGH OCI
At initial recognition, an entity may make an irrecoverable election to present in
other comprehensive income or OCI subsequent changes in fair value of an investment in
equity instrument that is not held for trading.
o The amount recognized in OCI is NOT RECLASSIFIED to profit or loss under
any circumstances but may be transferred to equity or RE on derecognition.
o If held for trading election to present gain or loss in OCI is NOT ALLOWED and
the subsequent changes in FV are ALWAYS included in P/L.
 DEBT INVESTMENT AT AMORTIZED COST
A financial asset shall be measured at amortized cost if both of the following
conditions are met:
a. The business model is to hold the financial asset in order to collect contractual cash
flows on specified date.
b. The contractual cash flows are solely payments of principal and interest on the
principal amount outstanding.
 DEBT INVESTMENT AT FAIR VALUE THROUGH OCI
PFRS 9, paragraph 4.1.2A
A financial asset shall be measured at FVOCI if both of the following conditions
are met:
a. The business model is achieved both by collecting contractual cash flows and
by selling the financial asset.
b. The contractual cash flows are solely payments of principal and interest on the
principal outstanding.
o On derecognition, the cumulative gain and loss recognized in other
comprehensive income shall be reclassified to P/L.
Equity Investments Measurement Debt Investments Measurement

Held for Trading FVPL Held for Trading FVPL
Not held for Trading FVPL Held for collection of Amortized cost
contractual cash flows
Not held for Trading FVOCI – Irrevocable Held for collection of FVPL by
election contractual cash flows irrevocable
designation or
fair value option
All other investments FVPL Held for collection of FVOCI
in quoted equity contractual cash flows
instruments and for sale of
financial asset
Investments in Cost Held for collection of FVPL by
unquoted equity contractual cash flows irrevocable
instruments and for sale of designation or
financial asset fair value option
Investments of 20% to Equity method of
50% accounting
Investments of more Consolidation method
than 50%
 FAIR VALUE
Appendix A of PFRS 9 in conjunction with PFRS 13 provides new definition of fair value
Fair value of an asset is the price that would be received to sell an asset in an orderly
transaction between market participants at the measurement date.
o The best evidence of FV in descending hierarchy is the quoted price of identical
asset in an active market, the quoted price of similar asset in an active market
and the quoted price of identical and similar asset in an inactive market.
 GAIN AND LOSS – FINANCIAL ASSET AT FAIR VALUE

PFRS 9, paragraph 5.7.1, gain and loss on financial asset measured at fair value shall be
presented in profit or loss, except:
a. When the financial asset is part of a hedging relationship.
b. When the financial asset is an investment in non-trading equity instrument and the entity
has irrevocably elected to present unrealized gain and loss in other comprehensive
income.
c. When the financial asset is a debt investment that is measured at fair value through other
comprehensive income.
o Unrealized gain and loss on financial asset held for trading and other financial
asset measured at fair value are reported in the income statement.
 GAIN AND LOSS – FINANCIAL ASSET AT AMORTIZED COST
o Unrealized gain and loss on financial asset at amortized cost are not recognized.
PFRS 9, paragraph 5.7.2, provides that gain and loss on financial asset measured at
amortized cost and is not part of a hedging relationship shall be recognized in profit or
loss when the financial asset is derecognized, sold, impaired or reclassified, and through
the amortization process.
 SALE OF TRADING SECURITIES
PFRS 9, paragraph 3.2.12, provides that on the derecognition of a financial asset “the
difference between the carrying amount and the consideration received, including any
new asset obtained less any new liability assumed, shall be recognized in profit and loss”
 SALE OF EQUITY INVESTMENT – FVOCI
PFRS 9, paragraph 5.7.1b
Gain or loss on disposal of equity investment measured at fair value through other
comprehensive income is recognized in retained earnings.
PFRS 9 Application Guidance, paragraph 5.7.1
The cumulative gain or loss previously recognized in other comprehensive income is also
transferred to retained earnings.
 RECLASSIFICATION
PFRS 9, paragraph 4.4.1, provides that an entity shall reclassify financial assets only
when it changes its business model for managing the financial assets.
Paragraph 5.6.1 provides that where reclassification occurs, an entity shall apply
the reclassification prospectively from the reclassification date.
o The entity shall not restate any previously recognized gais, losses and interest.
Appendix A of PFRS 9, the “reclassification date” is the first day of the reporting period
following the change in business model that results in an entity reclassifying financial asset.
 EXEMPTIONS FROM RECLASSIFICATION
a. Equity investment held for trading or measured at FVPL
b. Equity investment measured at FVOCI by irrevocable election
c. Debt investment measured at FVPL by irrevocable election
o Only debt investment can be reclassified.
 RECLASSIFICATION FROM FVPL TO AMORTIZED COST
PFRS 9, paragraph 5.6.3, provides the following if a financial asset is reclassified from
FVPL to amortized cost.
a. The fair value at the reclassification date becomes the new carrying amount of the
financial asset at amortized cost
b. The difference between the new carrying amount of the financial asset at amortized
cost and the face value of the financial asset shall be amortized through P/L.
c. An effective interest rate must be determined based on the new carrying amount or
fair value at reclassification date.
 RECLASSIFICATION FROM AMORTIZED COST TO FVPL
PFRS 9, paragraph 5.6.2, provides that when an entity reclassifies a financial asset from
amortized cost to fair value through profit or loss, the fair value is determined at
reclassification date.
 RECLASSIFICATION FROM AMORTIZED COST TO FVOCI
amortized cost to FVOCI:
a. The financial asset is measured at FV at reclassification date.
b. The difference between the amortized cost carrying amount and the fair value at
reclassification date is recognized in OCI.
c. The original effective interest rate is not adjusted.
 RECLASSIFICATION FROM FVOCI TO AMORTIZED COST
FVOCI to amortized cost.
a. The fair value at reclassification date becomes the new amortized cost carrying
amount.
b. The cumulative gain or loss previously recognized in other comprehensive income is
eliminated and adjusted against the fair value at reclassification date.
o The investment is reverted back to amortized cost.
c. The original effective rate is not adjusted.
 RECLASSIFICATION FROM FVPL to FVOCI
PFRS 9, paragraph 5.6.6, provides the following if a financial asset is reclassified from FVPL
to FVOCI.
a. The financial asset continues to be measured at fair value.
b. The fair value at reclassification date becomes the new carrying amount.
c. An effective interest rate must be determined based on the new carrying amount or fair
value at reclassification date.
 RECLASSIFICATION FROM FVOCI to FVPL
FVOCI to FVPL.
a. The financial asset continues to be measured at fair value.
b. The fair value at reclassification date becomes the new carrying amount.
c. The cumulative gain or loss previously recognized in other comprehensive income is
reclassified to profit or loss at reclassification date.
 IMPAIRMENT- EQUITY INVESTMENTS AT FAIR VALUE
For financial assets measured at FV, ALL gains and losses are either presented in P/L or
in OCI depending on whether the election to present gains or losses on equity
investments in OCI is taken or not.
 IMPAIRMENT DEBT INVESTMENTS
PFRS 9, paragraph 5.5.1, provides that an entity shall recognize a loss allowance for
expected credit losses on:
a. Debt investment measured at amortized cost
b. Debt investment measured at fair value through other comprehensive income
PFRS 5.5.3 provides that an entity shall measure the loss allowance for a financial instrument
at an amount equal to the lifetime expected credit losses if the credit risk on that financial
instrument has increased significantly since initial recognition.
o PFRS 9 does not prescribe particular method of measuring expected credit
losses.
INVESTMENT IN EQUITY SECURITIES
 ACQUISITION OF EQUITY INVESTMENTS
Acquisition of  Transaction Costs that are directly attributable to acquisition of
Equity financial asset shall be capitalized as cost of the financial asset.
Investments  Transaction Costs that are directly attributable to the attributable to the
acquisition of financial asset held for trading or financial asset at FVPL
shall be expensed immediately.
Acquisition by a. FV of asset given
exchange b. FV of asset received
c. Carrying amount of asset given
Lump Sum  Single cost is allocated to the securities acquired on the basis of their
Acquisition fair value.
 If only one security has a known market value, an amount is allocated
to the security with a known market value equal to its market value.
 The remainder is allocated to the other security with no known market
value.
 INVESTMENT IN UNQUOTED EQUITY INSTRUMENTS

Application Guidance B5.4.14 of PFRS 9
All investments in equity instruments must be measured at fair value.
Investments in unquoted equity instruments are measured at cost if the fair value cannot
be measured reliably.
 SALE OF EQUITY SECURITIES
PFRS 9, paragraph 3.2.12, provides that on the recognition of a financial asset measured at fair
value through profit or loss, the difference between the consideration received and the carrying
amount of the financial asset shall be recognized in profit or loss.
o When equity securities are of the same class acquired on different dates at
different costs, a problem will arise as to the determination of cost of securities
sold only a portion of the securities is subsequently sold.
 CASH DIVIDENDS
Equity Securities @FVPL or @FVOCI – dividends earned are considered INCOME.
o Cash dividends do not affect the investment account.
o Dividends shall be recognized as revenue when the shareholder’s right to receive
payment is established (date of declaration).
 PROPERTY DIVIDENDS or DIVIDENDS IN KIND
o Considered as income and recorded at fair value.
 LIQUIDATING DIVIDENDS
o Represent return of invested capital, and therefore, not income
o When dividends are received from wasting asset corporation, the dividends are
designated as partly income and partly return of capital.
 SHARE DIVIDENDS or STOCK DIVIDENDS
o IAS term is “bonus issue”.
o Issuing entity’s own shares
o Not income
Share dividends of SAME class – Recorded only by means of memorandum entry.
Share dividends do not affect the total cost of the investment but reduce the cost of
investment per share.
Share dividends different from those held – Original cost of the investment is
apportioned between the original shares and the share dividends on the basis of
market value of each at the date of receipt.
Shares received in lieu of cash dividends – income at fair value of shares received or
in the absence, equal to the cash dividends that would have been received.
Cash received in lieu of share dividends – not income and “as if” approach is
followed which means that share dividends are assumed to be received and
subsequently sold at the cash received.
BIR Approach – All cash received is recognized as income.
 SHARE SPLIT
 Does not affect total cost of investment
 Memorandum entry only
1. Split up – Outstanding shares are called in and replaced by a larger number,
accompanied by a reduction in the par or stated value of each share.
2. Split down – reverse of split up.
 SPECIAL ASSESSMENTS
 On the part of the shareholder, special assessments are recorded as additional cost
of the investment while on the part of the entity as share premium.
 STOCK RIGHT or SHARE RIGHT
 IAS term for stock right is “right issue”.
 ACCOUNTING FOR STOCK RIGHTS
PFRS 9 does not address this accounting issue categorically.
1. Stock rights are accounted for separately
 A portion of carrying amount of the original investment in equity securities is
allocated to the stock rights at an amount equal to the fair value of the stock rights
at the time of acquisition.
 Classified as Current Asset
2. Stock rights are not accounted for separately
 Stock rights are recognized as embedded derivative but not a “stand-alone”
derivative.
 PFRS 9, paragraph 4.3.3, provides that an embedded derivative shall be separated
from the host contract and accounted for separately under certain conditions.
Paragraph 4.3.3 further provides that if the host contract is within the scope of
PFRS 9, the classification requirements of PFRS 9 are applied to the combined
host contract in its entirety.
 PFRS 9, paragraph 4.3.4, states that this standard does not address whether an
embedded derivative shall be presented separately in the statement of financial
position.
Between the date of declaration and date of record – selling right-on (share and right are
inseparable)
Between the date of record and expiration date – Selling ex-right (can be sold separately)
If the stock rights do not have a market value, the THEORETICAL or PARITY VALUE of
stock rights is used in measuring the fair value of the stock rights.
 EXERCISE OF STOCK RIGHTS
 The cost of the new investment includes the subscription price and the cost of the
stock rights exercised.
 EXPIRATION OF STOCK RIGHTS
 Stock rights can be exercised only up to a certain date after which the stock rights
become worthless.
 If not exercised but sold, no gain or loss.
 If not exercised but expired, only memorandum entry.
 THEORITY OR PARITY VALUE OF STOCK RIGHT
When the share is selling right-on

MV of share ¿−on minus Subscription Price ¿ purchase one share+1 ¿ = Value
¿ of rights ¿
of one right
When the share is selling ex-right
MV of share ex −¿ minus Subscription Price
purchase one share ¿ = Value of one right
¿ of rights ¿
INVESTMENT IN ASSOCIATE
 INTERCORPORATE SHARE INVESTMENT
PAS 28, paragraph 5
Investor holds directly or indirectly 20% or SIGNIFICANT INFLUENCE
more of voting power
Investor holds directly or indirectly less than NO SIGNIFICANT INFLUENCE
20% of voting power
PAS 28, paragraph 6
(evidence of the existence of significant influence)
 Representation in the BOD
 Participation in policy making process
 Material transactions between the investor and the investee
 Interchange of managerial personnel
 Provision of essential technical information
 POTENTIAL VOTING RIGHTS
PAS 28, paragraph 7, provides that the existence of such potential voting rights is considered
in assessing whether an entity has significant influence.
 Potential voting rights should be currently exercisable or convertible EXCEPT
when it cannot be exercised or converted until a future date or until the occurrence
of a future event.
 Share of profit or loss and of changes in the investee’s equity is determined on the
basis of “present ownership interest”
 EQUITY METHOD
 Based on economic relationship between the investor and the investee.
 Applicable when an investor has significant influence over the investee.
 Investment is initially recognized at COST.
 Carrying amount is increased by the investor’s share in profit and decreased if
loss. It is recognized as investment income.
 Distributions or dividends received from an equity investee reduce the Carrying
Amount of the investment.
 Investment must be in ORDINARY SHARES (Investment in Associate).
 Noncurrent Asset
 EXCESS OF COST OVER CARRYING AMOUNT
May be attributed to the following:
a. Undervaluation of the investee’s assets, such as building, land and inventory
 Depreciable asset – amortized over its remaining life
 Land – expensed when sold
 Inventory – expensed when sold
 Goodwill – included in the Carrying Amount of Investment and not amortized
b. Goodwill (fairly valued)
 EXCESS OF NET FAIR VALUE OVER COST
Any excess of the investor’s share of the net fair value of the associate’s identifiable
assets and liabilities over the cost of the investment is included as income in the
determination of the investor’s share of the associate’s profit or loss in the period in which
the investment is acquired.
Appropriate adjustments to the investor’s share of the associate’s profit or loss after
acquisition are also made to account.
 INVESTEE WITH HEAVY LOSSES
Investors share of losses = or > Carrying amount of investment – investor discontinues
recognizing its share of further losses.
 Investment is reported at nil or zero value.
 Additional losses are provided for or a liability is recognized, to the extent that the
investor has incurred legal or constructive obligations or made payments on behalf of
the associate.
 IMPAIRMENT LOSS
Impairment loss shall be recognized “whenever the carrying amount of the investment in
associate exceeds its recoverable amount”.
The value in use of an investment in associate is the investor’s share in either of the
following:
a. Present value of estimated future cash flows expected to be generated by the investee
including cash flows from operations of the investee and the proceeds on the ultimate
disposal of the investment.
b. Present value of estimated future cash flows expected to arise from dividends to be
received from the investment and from its ultimate disposal.
Impairment loss recognized is applied to the investment as a whole.
The recoverable amount of an investment in associate is assessed for each individual
associate. An exception is when an individual associate does not generate cash inflows from
continuing use that are largely independent of those from other assets of the reporting entity.
Investee with cumulative P/S Compute share of earnings or losses after deducting the
preference dividends whether or not such dividends
declared.
Investee with noncumulative Compute share of earnings or losses after deducting the
P/S preference dividends only when declared
 OTHER CHANGES IN EQUITY
The Investor’s share of those changes is recognized directly in equity of investor.
 ADJUSTMENT OF INVESTEE’S OPERATIONS
a. The most recent available financial statements of the associate are used by the investor in
applying the equity method.
b. If the associate uses accounting policies other than those of the investor, adjustments
shall be made to conform the associate’s accounting policies to those of the investor.
c. Profits and losses resulting from upstream and downstream transactions between an
investor and an associate are recognized in the investor’s financial statements only to the
extent of the unrelated investor’s interest in the associate.
Investor’s share in the associate’s P/L resulting from these transactions is eliminated.
 UPSTREAM TRANSACTIONS
Unrealized profit must be eliminated in determining the Investor’s share in the associate’s P/L.
 DOWNSTREAM TRANSACTIONS
Unrealized profit must be eliminated.
 DISCONTINUANCE OF EQUITY METHOD – change from equity
PAS 28, paragraph 22, provides that an investor shall discontinue the use of the equity
method from the date that it ceases to have a significant influence over an associate.
PAS 28, Basis for Conclusion 18
Requires an investor to apply equity method if continue to have significant influence.
Significant influence must be lost before the equity method ceases to be applicable.
 MEASUREMENT AFTER LOSS OF SIGNIFICANT INFLUENCE
On the date the significant influence is lost, the investor shall measure any retained
investment in associate at Fair value.
Paragraph 22 further provides that the fair value of the investment at the date it ceases to
be an associate shall be regarded as the fair value on initial recognition as a financial asset.
 EQUITY METHOD NOT APPLICABLE
PAS 28, paragraph 17, provides that an investment in associate shall not be accounted for
using the equity method if the Investor is a parent that is exempt from preparing consolidated
financial statements or if all the following apply:
a. Investor is a wholly-owned subsidiary or partially-owned subsidiary of another
entity and the other owners do not object to the investor not applying the equity
method.
b. Investor’s debt and equity instruments are not traded in a public market or OTC
market.
c. Investor did not file or it is not in the process of filing financial statements with
the SEC for the purpose of issuing any class of instruments in a public market.
d. Ultimate or any intermediate parent of the investor produces consolidated FS
available for public use that comply with PFRS.
 ASSOCIATE HELD FOR SALE
Investment in Associate classified as held for sale is in accordance with PFRS 5,
measured at lower of carrying amount and fair value less cost of disposal.
 ACCOUNTING FOR INVESTMENT OF LESS THAN 20%
a. Fair value Method –FVPL & FVOCI
b. Cost Method – Investment in Unquoted equity instrument or nonmarketable equity
investment.
The investor and the investee are independent of the other.
 INVESTMENT IN ASSOCIATE ACHIEVED IN STAGES
PFRS 3, paragraph 42
Acquirer shall remeasure the previously held equity interest at fair value and recognize
the resulting gain or loss in profit or loss.
Fair value approach
a. The existing interest in the associate is remeasured at fair value with any change in fair
value included in P/L.
b. However, if the existing interest is accounted for at fair value through OCI, any
unrealized gain or loss at the date the investee becomes an associate is reclassified to
retained earnings.
c. The fair value of the existing interest plus the cost of the additional interest acquired
constitutes the total cost of the investment for the initial application of the equity method.
d. The total cost of the investment for the initial application of the equity method minus the
carrying amount of the net assets acquired at the date significant influence is obtained
equals excess of cost over carrying amount or excess net fair value.
FINANCIAL ASSET AT AMORTIZED COST

 CLASSIFICATION OF BOND INVESTMENTS
a. Financial asset held for trading
b. Financial asset at amortized cost
c. Financial asset at FVOCI
d. Financial asset at FVPL by irrevocable designation or by fair value option
 INITIAL MEASUREMENT
Bond investments are recognized initially at fair value plus transaction costs that are
directly attributable to the acquisition.
 SUBSEQUENT MEASUREMENT
a. FVPL
b. Amortized cost
c. FVOCI
 ACQUISITION OF BOND INVESTMENTS
Bonds may be acquired on interest date or between interest dates.
 INVESTMENT IN BONDS AT AMORTIZED COST (noncurrent investment)
PFRS 9, paragraph 4.1.2, provides that a financial asset shall be measured at amortized cost if
both of the following conditions are met:
a. The business model is to hold the financial asset in order to collect contractual cash flows
on specified dates.
b. The contractual cash flows are solely payments of principal and interest on the principal
amount outstanding.
 CALLABLE BONDS
 Those which may be called in or redeemed by the issuing entity prior to their date
of maturity.
 CONVERTIBLE BONDS
 Those which give the bondholders the right to exchange their bonds for share
capital of the issuing entity at any time prior to maturity.
 Investment in convertible bonds can be classified as financial assets measured at
fair value.
 SERIAL BONDS
- those which have a series of maturity dates or those bonds which are payable in
installments.
 TERM BONDS
 Those bonds that mature on a single date.
 METHOD OF AMORTIZATION
 Amortization may be made on interest dates or at the end of the reporting period.
a. Straight line Method
b. Bond outstanding Method
c. Effective Interest Method
The straight line method and bond outstanding method are acceptable only when the
computation will result in PERIODIC INTEREST INCOME that is NOT MATERIALLY
DIFFERENT from the amount that would be computed using the effective interest method.
PFRS 9, Bond investments shall be classified as financial assets measured at amortized cost
using effective interest method.
EFFECTIVE INTEREST METHOD
Amortized Cost, FVOCI and FVPL
ER < NR = Premium
ER > NR = Discount
Interest Earned/Income = ER x CA of the bond investment
Interest received = NR x Face Amount of the bond
 BOND INVESTMENT-FVOCI
PFRS 9, paragraph 4.1.2A
Financial asset shall be measured at FVOCI if
a. The business model is achieved both by collecting contractual cash flows and by selling
the financial asset.
b. The contractual cash flows are solely payments of principal and interest on the principal
outstanding.
It also mandates that Interest Income for bond investment measured at FVOCI must be
calculated using the effective interest method and included in P/L.
 Fair Value Option
Irrevocably designate FVPL
 Transaction Cost – outright expense
 All changes in fair value are recognized in P/L
 Interest Income is based on the nominal interest rate rather than effective interest
rate
MARKET PRICE OF BONDS
Computation of effective interest rate
Market price of bonds – equal to PV of the principal plus the PV of future interest payments
using effective rate.
Procedures for the Computation of the Purchase Price of the Bonds:
1. Find PVOA of 1
2. NR x Face amount of the bonds for 1 interest period.
ER x Face amount of the bonds for 1 interest period.
Get the difference.
3. Difference in #2 x PV factor = Discount or premium
4. Face amount of the bonds + premium or – discount = purchase price of the bond
INVESTMENT PROPERTY
PAS 40 prescribes the accounting treatment for investment property and related disclosure
requirements.
Investment Property is defined as property (land or building or part of a building or both)
held by an owner or by the lessee under a finance lease to earn rentals or for capital
appreciation or both.
 Only LAND and BUILDING can qualify as investment property.
OWNER-OCCUPIED PROPERTY
 The property held by an owner or by the lessee under a finance lease for use in the
production or supply of goods or services or for administrative purposes.
EXAMPLES OF INVESTMENT PROPERTY
a) Land held for long-term capital appreciation.
b) Land held for currently undetermined use.
c) Building owned by the reporting entity, or held by the entity under a finance lease, and
leased out under an operating lease.
d) Building that is vacant but is held to be leased out under an operating lease.
e) Property that is being constructed or developed for future use as investment property.
PAS 40 has been amended to bring property that is being constructed or developed for future
use as investment property.
 INVESTMENT IN PROPERTY HELD BY LESSEE
IFRS 16, the new standard on leases, requires a lessee to recognize a “right of use asset” and a
lease liability.
Initial measurement of RIGHT OF USE ASSET is at COST.
a. The PV of the lease payment
b. Lease payment made to the lessor at or before commencement date less any lease
incentive
c. Initial direct cost incurred by the lessee
d. Estimate of cost of dismantling and restoring the underlying asset for which the lessee
has a present obligation.
Subsequent Measurement
IFRS 16, paragraph 34, provides that if a lessee applies the Fair Value model in measuring
investment property, the lessee shall also apply the fair value model to the right of use of asset
that meets the definition of investment property.
 PARTLY INVESTMENT AND PARTLY OWNER-OCCUPIED
o If sold or leased out separately – account separately
o Not sold separately – IP if only an insignificant portion is held for manufacturing or
administrative purposes.
o Not sold separately – If services provided are more significant component of the
arrangement, the property is treated as owner-occupied property.
 PROPERTY LEASED TO AN AFFILIATE
o Perspective of individual entity – Investment property
o Perspective of group – Owner-occupied property
 RECOGNITION OF INVESTMENT PROPERTY
Investment Property shall be recognized as an asset when:
a. It is probable that the future economic benefits that are associated with the investment
property will flow to the entity.
b. The cost of the investment property can be measured reliably.
 INITIAL MEASUREMENT OF INVESTMENT PROPERTY
 At cost, Transaction Costs included
 If payment is deferred, cost is the cash price equivalent
 COST EXCLUDED
 Start-up costs, unless they are necessary to bring the property to the condition necessary
for its intended use.
 Operating losses incurred before the investment property achieves the planned level of
occupancy.
 Abnormal amounts of wasted material, labor or other resources incurred in constructing
or developing the property.
 SUBSEQUENT MEASUREMENT OF INVESTMENT PROPERTY
a. Fair value model
b. Cost model
 FAIR VALUE HIERARCHY
PFRS 13, paragraph 72
1. Level 1 inputs are the quoted prices in an active market for identical assets.
2. Level 2 inputs include quoted prices for similar assets in an active market and
quoted prices for identical or similar assets in a market that is not active.
3. Level 3 inputs are unobservable inputs for the asset.
 INABILITY TO DETERMINE FV RELIABLY
PAS 40, paragraph 53, mandates that the entity shall measure such investment property using
cost method until the disposal of the investment property. The residual value is to be assumed
ZERO.
PAS 40, paragraph 54, states that an entity uses the fair value model shall continue to measure
other investment property at Fair value.
 TRANSFERS OF INVESTMENT PROPERTY
Transfers to and from investment property shall made when and only when there is a change of
use evidenced by:
a. Commencement of owner occupation – IP to OOP
b. Commencement of development with a view to sale – IP to Inventory
c. End of owner occupation - OOP to IP
d. Commencement of an operating lease to another entity. – OOP to IP
MEASUREMENT OF TRANSFERS
Cost Model IP, OOP, Inventory Carrying Amount
Fair Value IP, OOP, Inventory Fair Value
Fair Value OOP to IP FV-CA = Revaluation of PPE
Fair Value Inventory to IP Remeasurement included in P/L
Fair Value IP under construction FV-CA = included in P/L
 DERECOGNITION OF INVESTMENT PROPERTY

a. On disposal
b. When investment property is permanently withdrawn from use
c. When no future economic benefits are expected from the investment property
 DISCLOSURES RELATED TO INVESTMENT PROPERTY
General Disclosures
 Model used
 Amount of rental income w/ related expense
 Restrictions on the IP
 Contractual obligations to purchase or construct IP
FV Model is used
 Detailed reconciliation
 Method of determining FV of IP
 Net gains or losses
 Whether significant fixtures within an investment property have been separately
recognized.
Cost Model is used
 Depreciation method
 Detailed reconciliation
 FV of IP
FUND AND OTHER INVESTMENTS
FUND
Cash and other assets set aside for a specific purpose either by reason of the action of
management or by virtue of a contract or legal requirement.
Specific purpose may be current or noncurrent
CURRENT PURPOSES NONCURRENT PURPOSES
Petty Cash Fund Sinking Fund/ Redemption Fund – set aside
for liquidation of Long-term debt.
 Fund under administration of the
entity – entity records the fund
transactions CURRENTLY and thus
makes a distinction whether the fund
is in the form of cash, securities and
other assets.
 Fund under administration of the
trustee - entity records the fund
transactions NOT CURRENTLY and
no distinction is made whether the
fund is in the form of cash, securities
and other assets.
SINKING FUND CONTRIBUTION
1. Voluntary
2. Mandatory
Payroll Fund P/S Redemption Fund
Interest Fund Plant Expansion Fund/ Replacement Fund –
cash set aside in anticipation of future
replacement of depreciable asset.
Dividend Fund Contingency Fund – cash set aside for the
purpose of meeting obligations that may arise
from contingencies
Tax Fund Insurance Fund - cash set aside for the
purpose of meeting obligations that may arise
from certain risks not insured against.
 MEASUREMENT OF FUND
 Cash + cost of securities adjusted for discount or premium amortization and other
assets in fund.
 CASH SURRENDER VALUE
 If the beneficiary is the officer insured or any person other than the entity – No
accounting problem.
 If the beneficiary is the entity itself – There is an accounting problem.
 Amount which the insurance firm will pay upon the surrender and cancelation of
the life insurance policy.
Requisites:
a. The policy is a life policy.
b. Premiums for 3 full years must have been paid.
c. Policy is surrendered at the end of the third year or anytime thereafter.
LOAN VALUE – amount which the insured can borrow from the insurance firm with the cash
surrender value as collateral security.
PROBLEMS:
PROBLEM 1
CHERRY, INC. received dividends from its investments in ordinary shares during the year
ended December 31,2018, as follows:
(a) A cash dividend of P720,000 is received from JJ Corporation. (Cherry, Inc. owns a 2%
interest in JJ)
(b) A cash dividend of P3,600,000 is received from VV Corporation. (Cherry, Inc. owns a 30%
interest in VV)
(c) A stock dividend of 18,000 shares from YY Company was received on December 15, 2018,
on which date the quoted market value of YY’s shares was P20 per share. Cherry, Inc. owns less
than 1% of YY’s ordinary shares.
What amount of dividend income should be reported by Cherry, Inc. in its 2018 income
statement?
A. P1,080,000 C. P4,320,000
B. P4,680,000 D. P720,000
Source: Roque, G. (2018). Auditing Problems (2018-2019 ed.,). Manila: GIC Enterprises & Co.,
Inc.
Solution:
Cash dividend received from JJ Corporation P 720,000
The amount of dividend income that should be reported by Cherry, Inc. in its 2018
income statement is P720,000, as Cherry, Inc. owns a 30% interest in VV Corporation and it is
presumed that it has the ability to exercise significant influence in the financial and operating
policy decisions of VV Corporation. Therefore, Cherry, Inc. shall account for this investment
using the equity method in accordance with PAS 28: Accounting for Investments in Associates
where, under this method, distributions of earnings (dividends) reduce the carrying amount of the
investment. Additionally, the stock dividend received from YY Company should not be
recognized as income since the stock dividends increase the number of shares owned by an
investor but do not affect the total cost of the investment.
PROBLEM 2
JEFF COMPANY owns a 5% interest in ST Corporation, which declared a cash dividend of
P3,720,000 on November 27, 2018, to shareholders of record on December 20,2018, payable on
January 15, 2019. In addition, on October 15, 2018, Jeff Company received a liquidating
dividend of P100,000 from VG Corporation. Jeff Company owns 6% of VG Corporation.
What amount of dividend income should be included in Jeff Company’s income statement
for the year ended December 31, 2018?
A. P 186,000 C. P191,000
B. P3,720,000 D. P181,000
Source: Roque, G. (2018). Auditing Problems (2018-2019 ed.,). Manila: GIC Enterprises & Co.,
Inc.
Solution:
Cash dividend received from ST Corporation (P3,720,000 x 5%) P 186,000
Letter A, P186,000 is the amount of dividend income that should be included in Jeff
Company’s income statement for the year ended December 31, 2018, because dividends shall be
recognized as income when the investor’s right to receive payment is established, i.e., upon
declaration by the issuer of the equity instrument. In addition, liquidating dividends are not
recognized as income. They represent return of invested capital.
PROBLEM 3
The following transactions of the Lucena Company were completed during the year 2010:
Jan. 2 Purchased 20,000 shares of Pasig Auto Co. for P40 per share plus brokerage costs of
P4,500. These shares were classified as held for trading.
Feb. 1 Purchased 20,000 shares of Taytay Company common stock at P125 per share plus
brokerage fees of P19,000. Lucena classifies these shares as available for sale.
Apr. 1 Purchased P2,000,000 of RP Treasury 7% bonds, paying 102.5 plus accrued interest of
P35,000. In addition, the company paid brokerage fees of P18,000. Lucena classified these
bonds as held for trading.
Jul. 1 Received semiannual interest on the RP Treasury Bonds.
Aug. 1 Sold P500,000 of RP Treasury 7% bonds at 103 plus accrued interest.
Oct. 1 Sold 3,000 shares of Taytay at its fair value of P132 per share.
The market values of the stocks and bonds on December 31, 2010, are as follows:
Pasig Auto Co. P45 per share
Taytay Company P130 per share
RP Treasury 7% bonds 102
Based on the above and the result of your audit, disregarding income taxes, reclassification
adjustment for other comprehensive income on the sale of P 3,000 Taytay shares on
October 1, 2010
a. P18,150 b. P (18,150) c. P21,000 d. (P21,000)
SOLUTION:
Fair value (20,000 shares x P132) P 2,640,000
Less CA [(20,000 x P125) + P19,000] 2,519,000
Total gain from change in fair value (OCI) P 121,000
Reclassification adjustment (P 121,000 x 3/20) (P 18,150)
Source: Ocampo, R. (2010). Auditing Problems (2010 ed.,).
EXPLANATION:
The computation above is based on PAS 39. Available-for-sale financial assets are
initially measured at fair value plus transaction costs and subsequently measured at fair value
unless not reliably determinable in which case cost or amortized cost. Changes in fair value is
recognized in other comprehensive income (OCI) and accumulated in equity. Additionally,
reclassification adjustments are amounts reclassified to profit or loss in the current period that
were recognized in other comprehensive income in the current or previous period. P18,150 had
been previously added to other comprehensive income when the gain occurred. This amount
needs to be deducted in other comprehensive income to avoid counting the gain twice. The gain
was realized on the sales of shares so it will now be reported in profit or loss.
PROBLEM 4
You were engaged by Baltazar Company to audit its financial statements for the year 2010.
During the course of your audit, you noted that the following trading securities were properly
reported as current assets at December 31, 2009:
Cost Fair value
Marie Corporation, 5,000 shares, P 450,000 P 487,500
Convertible preference shares
Char, Inc. 30,000 ordinary shares 675,000 742,500
Jane Co., 10,000 ordinary shares 618,750 450,000
P 1,743,750 P1,680,000
The following sale and conversion transactions transpired during 2010:

Mar. 1 Sold 12,500 shares of Char for P33.75 per share.
April 1 Sold 2,500 shares of Jane for P45 per share.
Sept. 21 Converted 2,500 shares of Marie’s preference shares into 7,500 ordinary shares of
Marie, when the market price was P80.25 per share for the preference shares and P40.50 per
share for the ordinary shares.
The following 2010 dividend information pertains to stocks owned by Baltazar:

Jan. 2 Jane issued a 10% stock dividend when the market price of Jane’s ordinary share was
P49.50 per share.
March 31 and Sept. 30 Marie paid dividends of P2.50 per share on its preference shares to
stockholders of record on March 15 and September 15, respectively. Marie did not pay
dividends on its ordinary shares during 2010.
106
July 1
Ces paid a P2.25 per share dividend
on its common
stock.
Market prices per share of the securities
were as follows:
12/31/2006
12/31/2005
France Corp., preferred
92.25
97.50
France Corp., common
42.75
38.25
Ces, Inc., common
22.50
24.75
Coo Co., common
40.50
45.00
All of the foregoing stocks are listed
in the Philippine Stock Exchange.
Declines in market value from cost
would not be considered permanent.
You were engaged by Balagtas
Company to audit its financial
statements
for the year 2006. During the
course of your audit, you noted that
the
following trading securities were
properly reported as current assets at
December 31, 2005:
Cost
Market
France Corporation, 5,000 shares,
convertible preferred shares
P 450,000
P 487,500
Ces, Inc., 30,000 shares of common
stock
675,000
742,500
Coo Co., 10,000 shares of common
stock
618,750
450,000
P1,743,750
P1,680,000
The following sale and conversion
transactions transpired during 2006:
Mar. 1
Sold 12,500 shares of Ces for P33.75 per
share.
April 1
Sold 2,500 shares of Coo for P45 per
share.
Sept. 21
Converted 2,500 shares of France’s
preferred stock into
7,500 shares of France’s common
stock, when the
market price was P78.75 per share
for the preferred
stock and P47.25 per share for the
common stock.
The following 2006 dividend
information pertains to stocks owned
by
Balagtas:
Jan. 2
Coo issued a 10% stock dividend when
the market price
of Coo’s common stock was P49.50 per
share.
March 31
and Sept. 30
France paid dividends of P2.50 per share
on its preferred
stock, to stockholders of record on
March 15 and
September 15, respectively. France
did not pay
dividends on its common stock during
2006.
July 1 Char paid a P2.25 per share dividend on its ordinary shares.
Market prices per share of the securities were as follows:
12/31/2010 12/31/2009
Marie Corp., preference 92.25 97.50
Marie Corp., ordinary 42.75 38.25
Char, Inc., ordinary 22.50 24.75
Jane, Co., ordinary 40.50 45.00
All of the foregoing stocks are listed in the Philippine Stock Exchange. Declines in market
value from cost would not be considered permanent.
Based on the above and the result of your audit, how much is the gain or loss on conversion
of 2,500 Marie preference shares into 15,000 ordinary shares?
a. P43,125 loss c. P60,000 gain
b. P78,750 gain d. P 0
SOLUTION:
Fair value of ordinary shares received (7,500 shares x P40.50) P 303,750
Less CA of preference shares converted (P487,500 x 2.5/5) 243,750
Gain on conversion of 2,500 Marie preference shares P 60,000
EXPLANATION:
Answer C, P 60,000 is correct, which is the difference of the fair value of ordinary shares
received and the carrying amount of preference shares converted, as PAS 39 par. 43 requires that
financial assets should be measured on initial recognition at its fair value. Application guidance
par. 64 of PAS 39 states that the fair value of a financial instrument on initial recognition is
normally the transaction price, such as the fair value of the consideration given or received.
However, both the fair value of the consideration given and received are available. The
conversion of the preference shares into ordinary shares involves derecognition (the preference
shares) and recognition (the ordinary shares) of financial assets at the holder’s point of view.
PAS 39 par. 25 provides that if, as a result of a transfer, a financial asset is derecognized in its
entirety but the transfer results in the entity obtaining a new financial asset or assuming a new
financial liability, or a servicing liability, the entity shall recognize the new financial asset,
financial liability or servicing liability at fair value. Thus, the ordinary shares received in
exchange for the preference shares should be measured at the fair value of the ordinary shares
received.
PROBLEM 5
The Guava Corporation had acquired interest in a promising local company, the Apple
Company. During your audit of the company’s accounts for the year 2010, which was a first
audit, you obtained the following:
Investment in Apple Company
1/2/08 30,000 sh. P1,050,000 7/15/10 50,000 sh. P2,000,000
7/2/09 90,000 sh. 5,400,000
3/2/10 30,000 sh. 2,100,000
Investment in Orange Company

8/10/10 P10,000
Dividend Income
2/2/10 P120,000
4/1/10 150,000
8/10/10 10,000
12/20/10 100,000
The investments are classified as available-for-sale. Prior to 2010, the fair value of the
investment in Apple Company cannot be reliably measured.
The transactions pertaining to the foregoing for 2010 were as follows:
Jan. 2 Received cash dividend (declared on December 1) of P1 per share.
Mar. 2 Bought 30,000 shares at P70 per share.
Apr. 1 Received cash dividend (declared on March 1 to shareholders of record as of March 10)
of P1 per share.
July 15 Sold 50,000 shares at P40 per share
Aug. 10 Received an “extra” dividend in shares of one share of Orange Company for every ten
shares of Apple Company. The share dividend had a market value of P3 per share and its
carrying amount on the ledger of Apple Company was P1 per share.
Dec.20 Received cash dividend of P1 per share, declared December 1, out of Apple Company’s
“Reserve for Depletion”.
Dec. 29 Sold 10,000 Apple Company shares at P70. Cash was received on January 5, 2011.
Market prices per share of the securities as of December 31,2010 are as follows:
Apple Company P70.00
Orange Company 2.50
Based on the above and the result of your audit (use the FIFO cost flow assumption), the
net unrealized loss on AFS at December 31, 2010 in accumulated other comprehensive
income in equity to be reported by the entity is
a. P715,000 c. P685,000
b. P625,000 d. P595,000
SOLUTION:
2008
Shares Cost/share Total Cost
Balance, 1/1/2010 30,000 P35.00 P1,050,000
Sale, 7/15/10 (30,000) 35.00 (1,050,000)
Balance, 12/31/2010 - -
2009
Balance, 1/1/2010 90,000 P60.00 P5,400,000
Sale, 7/15/10 (20,000) 60.00 (1,200,000)
Balance 70,000 60.00 4,200,000
Liquidating - (70,000)
Dividend, 12/1/10
Balance 70,000 59.00 4,130,000
Sale, 12/29/10 (10,000) 59.00 (590,000)
Balance, 12/31/2010 60,000 59.00 P3,540,000
2010
Acquisition, 3/2/2010 30,000 P70.00 P2,100,000
Purchased dividend - (30,000)
Balance 30,000 69.00 2,070,000
Liquidating dividend, - (30,000)
12/1/10
Balance, 12/31/2010 30,000 68.00 P2,040,000
Investment in Apple Company

From 2009 (60,000 shares x P70) P4,200,000
From 2010 (30,000 shares x P70) 2,100,000 P6,300,000
(10,000 shares x P2.50) 25,000
Carrying Amount of AFS, 12/31/10 P 6,325,000
Fair value of AFS, 12/31/10 P6,325,000

Less cost of investments:
Investment in Apple Company:
From 2009 P3,540,000
From 2010 2,040,000
5,580,000
(10,000 shares x P3) 30,000 5,610,000
Net unrealized gain on AFS, 12/31/10 P715,000
EXPLANATION:
Letter is A is the net unrealized loss on AFS at December 31, 2010 in accumulated other
comprehensive income in equity to be reported by the entity, computed by deducting cost of
investments to fair value of AFS, 12/31/10, because after initial recognition, an entity shall
measure available-for-sale financial assets at their fair values, except for investments in equity
instruments that do not have a quoted market price in an active market and whose fair value
cannot be reliably measured, which shall be measured at cost (PAS 39 par. 46). To add, if a
reliable measure becomes available for financial asset for which such a measure was previously
not available, and the asset is required to be measured at fair value if a reliable measure is
available, the asset shall be remeasured at fair value, and the difference between its carrying
amount and fair value shall be recognized in other comprehensive income. (PAS 39 par. 53)
PROBLEM 6
On December 28, 2010, Partido Company commits itself to purchase a financial asset to be
classified as held for trading for P1,000,000, its fair value on commitment (trade) date. This
security has a fair value of P1,002,000 and P1,005,000 on December 31, 2010 (Partido’s
financial year-end), and January 5, 2011 (settlement date), respectively.
If Partido applies the trade date accounting method to account for regular way purchases
of its securities, how much should be recognized as trading securities on December 31,
2010?
a. P1,000,000 c. P1,005,000
b. P1,002,000 d. P 0
SOLUTION:
Trade date (December 28,2010)
Trading Securities P1,000,000
Due (Payable) to broker P1,000,000
End of reporting period date (December 31,2010)
Trading Securities P2 ,000
Unrealized gain on Trading securities P2,000
EXPLANATION:
If Partido applies the trade date accounting method to account for regular way purchases
of its securities, P1,002,000 should be recognized as trading securities on December 31, 2010.
Based on PAS 39 par.38, a regular way purchase or sale is a purchase or sale of a financial asset
under a contract whose terms require a delivery of the asset within the time frame established
generally by regulation or convention in the marketplace concerned. It shall be recognized and
derecognized, as applicable, using trade date accounting or settlement date accounting.
Additionally, the trade date is the date that an entity commits itself to purchase or sell an asset.
Trade date accounting refers to the recognition of an asset to be received and the liability to pay
for it on the trade date, and derecognition of an asset that is sold, recognition of any gain or loss
on disposal and the recognition of a receivable from the buyer for payment on the trade date.
Generally, interest does not start to accrue on the asset and corresponding liability until the
settlement date when title passes (PAS 39 Application Guidance par.55).
PROBLEM 7
On December 31, 2008, Masipag Co. purchased equity securities as trading securities.
Pertinent data are as follows:
Fair Value
Cost 12/31/2010 12/31/2009
B Company P 900,000 P780,000 P 880,000
S Company 1,100,000 1,240,000 1,120,000
A Company 2,000,000 1,720,000 1,920,000
Total P 4,000,000 P3,740,000 P3,920,000
On December 31,2010, Masipag transferred its investment in security A from trading to
available-for-sale because Masipag intends to retain security A as a long-term investment.
What total amount of gain or loss on its securities should be included in Masipag’s 2010
profit or loss?
a. P20,000 gain c. P180,000 loss
b. P260,000 loss d. P180,000 gain
SOLUTION:
Total fair value, 12/31/10 P3,740,000
Total fair value, 12/31/09 3,920,000
Unrealized loss on trading securities P180,000
EXPLANATION:
The solution is based on amended PAS 39 par.50 to 54, where an entity shall not
reclassify a derivative financial instrument into or out of the FVTPL category while it is held. It
shall not reclassify any financial instrument out of the FVTPL category if upon initial
recognition it was designated by the entity as at fair value through profit or loss; and may, if a
financial asset is no longer held for the purpose of selling it in the near term (notwithstanding
that the financial asset may have been acquired principally for the purpose of selling it in the
near term), reclassify that financial asset out of the FVTPL category only in rare circumstances
(arising from a single event that is unusual and highly unlikely to recur in the near term). If an
entity reclassifies a financial asset out of the FVTPL category, the financial asset shall be
reclassified as its fair value on the date of reclassification. Any gain or loss already recognized in
profit or loss shall not be reversed. The fair value of the financial asset on the date of
reclassification becomes its new cost. An entity shall not reclassify any financial instrument into
the FVTPL category after initial recognition.
Therefore, since the reason for the transfer of the investment from trading to available for sale is
not a rare situation, the investment should be accounted for under its original classification.
PROBLEM 8
On December 31, 2008, Maganda Co. purchased equity securities as available-for-sale secuirites.
Pertinent data are as follows:
Fair Value
Cost 12/31/2010 12/31/2009
A Company P 900,000 P780,000 P880,000
B Company 1,100,000 1,240,000 1,120,000
C Company 2,000,000 1,720,000 1,920,000
Total P4,000,000 P3,740,000 P3,920,000
On December 31,2010, Maganda transferred its investment in security B from available-for-sale
to financial asset at fair value through profit or loss.
How much should be reported as net unrealized loss on AFS in accumulated OCI in equity
as of December 31,2010?
a. P300,000 c. P180,000
b. P260,000 d. P400,000
SOLUTION:
Total fair value, 12/31/10 P3,740,000
Less Total Cost 4,000,000
Net unrealized loss on AFS, 12/31/10 (P260,000)
EXPLANATION:
The net unrealized loss on AFS in accumulated OCI in equity as of December 31,2010 is
(P260,000), because as stated in PAS 39 par 50, an entity shall not reclassify any financial
instrument into the FVTPL category after initial recognition. Thus, it is simply the difference of
Total fair value on December 31, 2010 and the total cost of P4,000,000.
PROBLEM 9
On December 31, 2008, California Co. purchased equity securities as available-for-sale
securities. Pertinent data are as follows:
Fair Value
Cost 12/31/2010 12/31/2009
C Company P 900,000 not available P880,000
P Company 1,100,000 1,240,000 1,120,000
A Company 2,000,000 1,720,000 1,900,000
On December 31,2010, California reclassified security C as nonmarketable equity securities. On
such date, a reliable measure of fair value is no longer available.
How much should be reported as net unrealized loss on AFS in accumulated OCI in equity
as of December 31,2010?
a. P160,000 c. P100,000
b. P140,000 d. P60,000
SOLUTION:
Total fair value of Security P&A, 12/31/10 P2,960,000
Less Total Cost of security P&A, 12/31/10 3,100,000
Net unrealized loss on AFS,(security P&A) 12/31/10 (140,000)
Unrealized loss on security C recognized in OCI (20,000)
On 12/31/09 (P900,000-P880,000)
Net unrealized loss on AFS, 12/31/10 (P160,000)
EXPLANATION:
(P160,000) should be reported as net unrealized loss on AFS in accumulated OCI in
equity as of December 31,2010 because in the rare circumstance that a reliable measure of fair
value is no longer available and it becomes appropriate to carry a financial asset at cost rather
than at fair value, the fair value carrying amount of the financial asset on that date becomes its
new cost. Any previous gain or loss on that asset that has been recognized other comprehensive
income shall remain in equity until the financial asset is sold or otherwise disposed of when it
shall be recognized in profit or loss. If the financial asset is subsequently impaired any previous
gain or loss that has been recognized in other comprehensive income is reclassified from equity
to profit or loss. (PAS 39 par. 54)
PROBLEM 10
The Bulacan Company has the following transactions in the stocks of the Sta. Mesa Corp.
a) On January 2, 2004, Bulacan purchased 4,000 shares of P100 par value ordinary shares of
Sta. Mesa Corp. at P110 per share. Bulacan debited Investment in Stock account.
b) The Sta. Mesa Corp. was expanding and on March 2, 2004, it issued stock rights to
its shareholders. The holder needs four rights to purchase one ordinary share at par. The
best estimate of the fair value of the ordinary share on that date was P140 per share. There was
no quoted price for the rights. No journal entry was made to record the receipt of the rights.
c) On April 2, 2004, Bulacan exercised all its share rights. The Investment in Stock account
was charged for the amount paid.
d) Carlo, Bulacan’s accountant, felt that the cash paid for the new shares was merely an
assessment since Bulacan’s proportionate share in Sta. Mesa was not changed. Hence, he
credited all dividends (5% in December of each year) to the Investment in Stock account
until the debit was fully offset.
e) Bulacan received a 50% stock dividend from Sta. Mesa in December 2008. Because
the shares received were expected to be sold, the company’s president instructed Carlo
not to make any entry for this dividend. The company did sell the dividend shares in
January 2009 for P150 per share. The proceeds from the sale were credited to income.
f) In December 2009, Sta. Mesa’ stocks were split on a two-for-one basis and the new shares
were issued as no par shares. Bulacan found that each new share was worth P10 more than the
P110 per share original acquisition cost. For this reason, Bulacan decided to debit the
Investment in Stock account with the additional shares received at P110 per share and
credited revenue for it.
g) In August 2010, Bulacan sold one half (½) of its holdings in Sta. Mesa at P120 per share.
The proceeds were credited to the Investment in Stock account.
Bulacan uses the average method in recording the sale of its investment in stock. The fair value
of the investment cannot be reliably measured since the shares of Sta. Mesa are not actively
traded. Therefore, Bulacan used cost to measure its investment in Sta. Mesa.
Based on the above and the result of your audit, the cost of investment to be allocated to
share rights received on March 2, 2004 is
a. P 0 c. P31,429
b. P 29,333 d. P25,143
SOLUTION:
Theoretical value of share rights = MV of share ex-rights – subs. Price
Number of rights to purchase 1 share
= (P140 – P100)/4
= P10*
Cost allocated to share rights (P10*/P150 x P440,000) P29,333
4,000 shares x P110 = 440,000
EXPLANATION:
The cost of investment to be allocated to share rights received on March 2, 2004 is P29,
333. Since the market value of the share rights is not available we must compute for the
theoretical value of the share rights. Also, as the market value of the share given is on the date of
issuance of the share rights, the market value is considered “ex-rights”.
PROBLEM 11
On January 1, 2009, Merilyn Company purchased 200,000 ordinary shares of Coral Corporatin at
P100 per share. The shares are classified as available for sale. The following table sets out the
changes in the fair value of the shares and the nature of the change in each year:
Year Fair value change Nature of change
2009 (P 200,000) No objective evidence of impairment
2010 (400,000) Objective evidence of impairment
2011 500,000 Objective evidence of reversal of impairment
How much should be recognized in 2010 profit or loss as a result of the fair value changes?
a. P 600,000 c. P200,000
b. P 400,000 d. P 0
SOLUTION:
Incidentally, the journal entry to record the impairment of the investment on December 31, 2020
is:
Impairment loss (P/L) P 600,000
Available-for-sale securities P400,000
Unrealized loss on AFS (OCI) 200,000
EXPLANATION:
P 600,000 should be recognized in 2010 profit or loss as a result of the fair value
changes. That is because a gain or loss on an available-for-sale financial asset shall be
recognized in other comprehensive income, except for impairment losses and foreign exchange
gains and losses, until the financial asset is derecognized. At that time the cumulative gain or loss
previously recognized in other comprehensive income shall be reclassified from equity to profit
or loss as a reclassification adjustment. (PAS 39 par. 55b) Additionally, based on PAS 39 par.
67, when a decline in the fair value of an available-for-sale financial asset has been recognized in
other comprehensive income and there is objective evidence that the asset is impaired, the
cumulative loss that had been recognized in other comprehensive income shall be reclassified
from equity to profit or loss as a reclassification adjustment even though the financial asset has
not been derecognized.
PROBLEM 12
Quezon Inc. acquired 50,000 ordinary shares of AAA for P5 per share and 125,000 ordinary
shares of BBB for P10 per share on January 2,2009. Both AAA Inc. and BBB Corp. have
500,000 ordinary shares outstanding. Both securities are being held as long term investments.
Changes in retained earnings for AAA and BBB for 2009 and 2010 are as follows:
AAA, Inc. BBB Corp.
Retained earnings (deficit), P1,000,000 (P175,000)
1/1/09
Cash dividends, 2009 (125,000) -
Profit for 2009 200,000 325,000
Retained earnings, December 1,075,000 150,000
31,2009
Cash dividends, 2010 (150,000) (50,000)
Profit for 2010 300,000 125,000
Retained earnings, December P1,225,000 P225,000
31,2010
Market value of share:

12/31/09 P7.00 P12.00
12/31/10 6.50 15.00
Based on the above and the result of your audit, the income from investment in AAA, Inc.
in 2010 is
a. P15,000 c. P12,500
b. P 1,000 d. P 0
SOLUTION:
10% (50,000/500,000)
Dividends paid by AAA, Inc in 2010 P150,000
Multiply by % ownership 10%
Income from Investment in AAA, Inc, in 2010 P15,000
EXPLANATION:
The income from investment in AAA, Inc. in 2010 is P15,000 as Quezon, Inc. owns 10%
of AAA, Inc. shares, therefore, the fair value method is used and the dividend income is
computed by multiplying dividends paid by AAA, Inc in 2010 to the percentage of ownership.
Also, if the investor holds, directly or indirectly such as through subsidiaries, less than 20% of
the voting power of the investee, it is presumed that the investor does not have significant
influence, unless such influence can be clearly demonstrated. (PAS 28 par. 6)
PROBLEM 13
On July 1, 2010, Diaz Company acquired 25% of the outstanding ordinary shares of Llana
Corporation at a total cost of P7,000,000. The underlying equity of the shares acquired by Diaz
was only P6,000,000. Diaz is willing to pay more than the book value for the following reasons:
A.Llana owned depreciable plant assets with a current fair value of P600,000 more than their
carrying amount. The asset has a 10 year remaining economic life.
B.Llana owned land with current fair value of P3,000,000 more than its carrying amount.
C.There are no other identifiable tangible or intangible assets with fair value in excess of book
value. Accordingly, the remaining excess, if any, is to be allocated to goodwill.
Llana earned net income of P5,400,000 evenly over the year-ended December 31, 2010.On
December 31, Llana declared and paid a cash dividend of P1,050,000 to ordinary shareholders.
Market value of Diaz shares at December 31, 2010 is P7,500,000. Both companies close their
accounting records on December 31.
Based on the above and the result of your audit, what is the net investment income from
Investment in Llana Corporation?
a. P675,000 c. P667,500
b. P1,335,000 d. P 662,500
SOLUTION:
Share in net income (P5,400,000 x 6/12 x 25%) P675,000
Amortization of excess-plant asset (7,500)
(P150,000 / 10 x 6/12)
Net Investment Income P667,500
EXPLANATION:
The net investment income from Investment in Llana Corporation is P667,500 which is
the difference of share in net income and the amortization of excess- plant asset. An investment
in an associate is accounted for using the equity method from the date on which it becomes an
associate. Goodwill relating to an associate is included in the carrying amount of the investment.
However, amortization of that goodwill is not permitted and is therefore not included in the
determination of the investor’s share of the associate’s profits or losses. Appropriate adjustments
to the investor’s share of the associate’s profits or losses after acquisition are also made to
account, for example, for depreciation of the depreciable assets based on their fair values at the
acquisition date. Similarly, appropriate adjustments to the investor’s share of the associate’s
profits or losses after acquisition are made for impairment losses recognized by the associate,
such as for goodwill or property, plant and equipment.
PROBLEM 14
Francine Company bought 20% of Eloisa Corporation’s ordinary shares on January 1,2010 for
P11,400,000. Carrying amount of Eloisa’s net assets at purchase date totaled P50,000,000. Fair
value and carrying amounts were the same for all items except for plant and inventory, for which
fair values exceed their carrying amounts by P10,000,000 and P2,000,000 respectively. The plant
has a 5-year life. All inventory was sold during 2010. During 2010, Eloisa reported profit of
P30,000,000 and paid a P10,000,000 cash dividend. Based on the above and the result of your
audit, what amount should Francine report as net income related to this investment in
2010?
a. P5,200,000 c. P5,400,000
b. P6,200,000 d. P4,200,000
SOLUTION:
Share of profit (P30,000,000 x 20%) P6,000,000
Amortization of excess-Inventory (400,000)
Amortization of excess – Plant (P2,000,000/5) (400,000)
Income from acquisition (1,000,000)
Net Investment Income P 6, 200,000
Acquisition Cost P11,400,000

Less carrying amount of net assets acquired (10,000,000)
(P50,000,000 x 20%)
Excess 1,400,000
Attributed to:
Undervalued plant asset (P10,000,000 x 20%) (2,000,000)
Undervalued inventory (P2,000,000 x 20%) (400,000)
Negative goodwill (Income from acquisition) (P1,000,000)
EXPLANATION:
Francine should report net income related to this investment in 2010 for the amount of
P6,200,000. As stated in PAS 28, par 23, any excess of the investor’s share of the net fair value
of the associate’s identifiable assets, liabilities and contingent liabilities over the cost of the
investment is excluded from the carrying amount of the investment and is instead included as
income in the determination of the investor’s share of the associate’s profit or loss in the period
in which the investment is acquired.
PROBLEM 15
On January 2, 2008, Buko Company acquired 20% of the 400,000 ordinary shares of Pie
Corporation for P30 per share. The purchase price was equal to Pie’s underlying book value.
Buko plans to hold this stock to influence the activities of Pie. The following data are applicable
for 2008 and 2009:
2008 2009
Pie dividends (Paid Oct. 31) P 40,000 P 48,000
Pie Profit 140,000 160,000
Pie share market price at 32 31
year-end
On January 2, 2010, Buko company sold 20,000 shares of Pie at their quoted price of P31 per
share. During 2010, Pie reported profit of P120,000 and on October 31, 2010, Pie paid dividends
of P20,000. At December 31, 2010, after a significant stock decline, which is expected to be
temporary, Pie’s stock was selling for P22 per share. After selling the 20,000 shares, Buko does
not expect to exercise significant influence over Pie, and the shares are classified as available for
sale.
Based on the above and the result of your audit, what is the total amount to be recognized
in profit or loss on January 2,2010
a. P9,400 c. P33,000
b. P37,600 d. P27,000
SOLUTION:
Acquisition cost (400,000 x 20% x P30) P2,400,000
Dividends received in 2008 (P40,000x20%) (8,000)
Share of profit (P140,000 x 20%) 28,000
Carrying amount, 12/31/08 P2,420,000

Dividends received in 2009 (P48,000x20%) (9,600)
Share of profit (P160,000 x 20%) 32,000
Fair value and sales proceeds (80,000 x P31) P2,480,000

Less CA of investment, 1/2/10 2,442,400
Amount to be recognized in profit or loss P37,600
EXPLANATION:
An investor shall discontinue the use of equity method from the date when it ceases to
have significant influence over an associate and shall account for the investment in accordance
with PAS 39 from that date, provided the associate does not become a subsidiary or a joint
venture. On the loss of significant influence, the investor shall measure at fair value any
investment the investor retains in the former associate. The investor shall recognize in profit or
loss any difference between: the fair value of any retained investment and any proceeds from
disposing of the part interest in the associate; and the carrying amount of the investment at the
date when significant influence is lost. (PAS 28 par 18). Therefore, the total amount to be
recognized in profit or loss on January 2,2010 is P37,600.
PROBLEM 16
On January 3, 2008, Zebra Company purchased for P1,500,000 cash a 10% interest in Lion Corp.
On that date the net assets of Lion had a book value of P11,250,000. The excess of cost over the
underlying equity in net assets is attributable to undervalued depreciable assets having a
remaining life of 10 years from the date of Zebra’s purchase. The investment in Lion Corp. is not
intended for trading.
The fair value of Zebra’s investment in Lion securities is as follows: December 31, 2008,
P1,710,000; December 31, 2009, P1,575,000; and December 31, 2010, P6,600,000.
On January 2, 2010, Zebra purchased an additional 30% of Lion’s stock P4,525,000 cash when
the carrying amount of Lion’s net assets was P12,450,000. The excess was attributable to
depreciable assets having a remaining life of 8 years.
During 2008, 2009, and 2010 the following occurred:
Lion Profit Dividends Paid by Lion to Zebra
2008 P1,050,000 P45,000
2009 1,200,000 60,000
2010 1,650,000 210,000
Based on the above and the result of your audit, the adjustment to retained earnings as of
January 1, 2010 to as a result of the acquisition of the additional 30% interest in Lion
Corp. is
a. P120,000 c. P45,000
b. P75,000 d. Nil
SOLUTION:
Incidentally, the journal entry to record the reclassification of the investment on January 2, 2010
is:
Investment in Associate P1,575,000
Unrealized gain on AFS (OCI) 75,000
Available-for-sale securities P1,575,000
Gain on derecognition of AFS (P/L) 75,000
EXPLANATION:
The problem actually involves investing in an associate in stages which is the accounting
that is not covered in PAS 28. But, based on PAS 28 par. 20, many of the procedures appropriate
for the application of the equity method are similar to the consolidation procedures described in
PAS 27. The concepts underlying the procedures used in accounting for the acquisition of a
subsidiary are also adopted in accounting for the acquisition of an investment in an associate.
Therefore, because of the lack of accounting guidance in PAS 28, we can refer to PFRS 3 in
accounting for business combinations achieved in stages. In a business combination achieved in
stages, the acquirer shall remeasure its previously held equity interest in the acquiree at its
acquisition-date fair value and recognize the resulting gain or loss, if any, in profit or loss. In
prior reporting periods, the acquirer may have recognized changes in the value of the equity
interest in the acquiree in other comprehensive income for example, because the investment was
classified as available for sale). If so, the amount that was recognized in other comprehensive
income shall be recognized on the same basis would be required if the acquirer had disposed
directly of the previously held equity interest (Revised IFRS 3 par. 42). Therefore, no
adjustment to retained earnings as of January 1, 2010 is necessary. Thus, the answer is
letter D.
PROBLEM 17
You were able to gather the following in connection with your audit of Ben, Inc. On December
31,2009. Ben reported the following available for sale securities:
Cost Fair value Unrealized loss
ABC Corp., 10,000 P 250,000 P 220,000 P 30,000
ordinary shares (a 1%
interest)
EFG Corp., 20,000 320,000 300,000 20,000
ordinary shares (a 2%
interest)
HIJ Corp., 50,000 1,400,000 1,350,000 50,000
ordinary shares (a
10% interest)
Total P1,970,000 P1,870,000 P100,000
Additional Information:
On April 1, 2010, ABC issued 10% share dividend when the market price of its share was P24
per share.
On September 15, 2010, ABC paid cash dividend of PO.75 per share.
On August 30, 2010, EFG issued to all shareholders, share rights on the basis of one right per
share. Market prices at date of issue were P13.50 per share and P1.50 per right. Ben sold all
rights on December 1, 2010 for net proceeds of P37,600.
On July 1, 2010, Ben paid P3,000,000 for 100,000 additional shares of HIG Corp.'s ordinary
shares which represented a 20% investment in HIG. The fair value of all of HIG's identifiable
assets net of liabilities was equal to their carrying amount of P12,700,000. As a result of this
transaction, Ben owns 30% of HIG and can exercise significant influence over HIG's operating
and financial policies. The fair value of the entity's previously held equity interest in HIG Corp.
on this date was P1,300,000.
Ben's initial 10% interest in HIG was acquired on January 2, 2009 for P1,400,000. At that date,
the net assets of HIG totaled P11,600,000 and the fair values of HIG's identifiable assets net
liabilities were equal to their carrying amount.
Market prices per share of the securities which are all listed in the Philippine Stock Exchange,
are as follows:
12/31/2010 12/31/2009
ABC Corp. –ordinary P 23 P22
EFG Corp. – ordinary 14 15
HIG Corp. – ordinary 31 27
HIG reported profit and paid dividends of
Profit Dividend per share
Year ended December 31,2009 P 700,000 None
Six months ended June 30,2010 400,000 None
Six months ended December 31, 2010
(dividend was paid on 10/1/10) 740,000 P1.30
There were no other intercompany transactions between Ben and HIG.
Based on the above and the result of your audit, what is the net investment income from
HIG Corp. for year ended December 31,2010
a. P27,000 c. P262,000
b. P222,000 d. P305,000
SOLUTION:
Share of profit from 7/1/10 to 12/31/10
(P740,000 x 30%) P222,000
EXPLANATION:
The net investment income from HIG Corp. for year ended December 31,2010 is
P222,000 because based on PAS 28, par 23, an investment in associate is accounted for using the
equity method from the date on which it becomes an associate. The excess of cost over the
carrying amount of the net assets acquired will be attributed to goodwill. Therefore, the excess
will not affect the share of profit and the carrying amount of the investment since goodwill is not
amortized. That is why the profit of P740,000 is simply multiplied to the percentage of
ownership of Ben on HIG.
PROBLEM 18
The following transactions appear on the Investment in Presentacion, account of Caramoan
Corporation:
Date Particulars Debit Credit
01/02/09 Purchased 10,000 shares P2,000,000
12/31/09 Purchased 15,000 shares P3,000,000
04/30/11 Sold 12,500 shares @232 P2,900,000
Your audit revealed the following additional information:
 On January 2,2009 Caramoan, Inc. acquired a 10% interest in Precentacion Corp. by
paying P2,000,000 for 10,000 ordinary shares. The shares were purchased as long term
investment.
 On December 31, 2009, Caramoan paid P3,000,000 for 15,000 additional ordinary shares
of Precentacion, which represents a 15% interest in Precentacion.
 The acquisitions on January 2 and December 31 were made at prices proportionate to the
value assigned to Precentacion’s net assets which equaled their carrying amounts
 Caramoan uses the average method in recording disposals of its investments
 From Precentacion’s financial statements, you were able to obtain the following
information:
2009 2010 2011
Profit P 2,000,000 P3,000,000 P1,500,000
Dividend 1,000,000 P1,500,000 600,000
s paid on
July 1
 Closing market quotations for the shares of Precentacion:
Bid Asked
December 31, 2009 P212 P214
December 31, 2010 216 218
December 31, 2011 220 221
Based on the above and the result of your audit, what is the income from investment in
Precentacion that should have been recognized in 2009?
a. P 500,000 c. P 200,000
b. P100,000 d. P 0
SOLUTION:
Dividend Income in 2009 (P 1,000,000 x 10%) P100,000
EXPLANATION:
The income from investment in Precentacion that should have been recognized in 2009 is
P100,000 which was computed by multiplying the dividends paid on July 1, 2009 amounted to
1,000,000, to the percentage of ownership of Caramoan in Precentacion Corp. To add, the
solution is based on PAS 28 par. 23 which states that an investment in associate is accounted for
using the equity method from the date on which it becomes an associate.
PROBLEM 19
On July 1, 2006, Caro Corporation acquired 25% of the shares of Ling, Inc. for P1,000,000. At
that date, the equity of Ling was P4,000,000, with all the identifiable assets and liabilities being
measured at amounts equal to fair value. The table below shows the profits and losses made by
Ling during 2006 to 2010:
Year Profit (loss)
2006 P 200,000
2007 (2,000,000)
2008 (2,500,000)
2009 160,000
2010 300,000
Based on the above and the result of your audit, what is the amount to be recognize in 2008
profit or loss related to the investment in Ling, Inc. is
a. P550,000 c. P625,000
b. 525,000 d. P 0
SOLUTION:
Acquisition Cost P1,000,000
Share of profit for 2006 (P200,000 x 6/12 x 25%) 25,000
Carrying amount, 12/31/03 1,025,000
Share of loss for 2007 (P2,000,000 x 25%) (500,000)
Carrying amount, 12/31/07 P 525,000
Share of loss for 2008 (P2,500,000 x 25%) P625,000

Carrying amount of investment, 12/31/07 P525,000
Amount to be recognized in 2008 profit or loss P525,000
(limited to the carrying amount of investment)
EXPLANATION:
The amount to be recognize in 2008 profit or loss related to the investment in Ling, Inc.
is P525,000. If an investor's share of losses of an associate equals or exceeds its interest in the
associate, the investor discontinued recognizing its share of further losses. The interest in an
associate is the carrying amount of the investment in the associate under the equity method
together with any long-term interests that, in substance, form part of the investor's net investment
in the associate (PAS 28 par. 29). To add, according to PAS 28, par 30, after the investor's
interest is reduced to zero, additional losses are provided for, and a liability is recognized, only to
the extent that the investor has incurred legal or constructive obligations or made payments on
behalf of the associate.
PROBLEM 20
Your audit of BTS Corporation disclosed that the company owned the following securities on
December 31,2009:
Trading Securities:
Security Shares Cost Fair value
Twic Inc. 4,800 P72,000 P92,000
Blink, Inc. 8,000 216,000 144,000
10%, P100,000 face 79,200 81,720
value, Vanguard
bonds (interest
payable semiannually
on Jan 1 and Jul 1)
Total P367,200 P317,720
Available for sale
securities:
Security Shares Cost Fair value
Score Products 16,000 P 688,000 P 720,000
Txt Inc 120,000 3,120,000 2,.920,000
Hypen Inc 40,000 480,000 640,000
Total P4,288,000 P4,280,000
Held to maturity:
Cost Carrying Amount
12%, 1,000,000 face P950,000 P963,000
value, Discoverer
bonds (interest
payable annually
every Dec. 31)
During 2010, the following transactions occurred:
Jan. 1 Receive interest on the Vanguard bonds.
Mar. 1 Sold 4,000 shares of Blink Inc. for P76,000.
May. 15 Sold 1,600 shares of Hypen, Inc. for P15 per share.
July. 1 Received interest on the Vanguard bonds.
Dec. 31 Received interest on the Discoverer bonds
31 Transferred the Discoverer bonds to the available-for-sale portfolio. The bonds were
selling at 101 on this date. The bonds were purchased on January 2, 2009. The discount was
amortized using the effective interest method.
The quoted prices of the shares and bonds on December 31, 2010, are as follows:
Twic, Inc. P 22 per share

Blink, Inc. P 15 per share
10% Vanguard bonds P75,600
Score Products P42 per share
Txt, Inc P28 per share
Hypen, Inc P18 per share
Based on the above and the result of your audit, what is the amount to be recognized in
other comprehensive regarding transfer of Discoverer bonds to available-for-sale securities
a. P47,000 c. P61,820
b. P32,180 d. P 0
SOLUTION:
Sales proceeds P 76,000
Less carrying amount of investment sold 72,000
(P144,000 x 4/8)
Gain on sale of 4,000 Explorer Inc. shares P 4,000
Sales proceeds (1,600 shares x P15) P 24,000

Less cost of shares sold (P480,000 x 1.6/40) 19,200
Gain on sale of 1,600 Midas Inc. shares P 4,800
Vanguard bonds (P100,000 x 10%) P 10,000

Discoverer bonds (P963,000 x 14%) 134, 820
Total interest income for 2010 P 144, 820
*Computation of effective interest rate:
Carrying amount, 12/31/09 P963,000
Less carrying amount, 1/2/09 (cost) 950,000
Discount amortization for 2009 13,000
Add nominal interest (P1,000,000 x 12%) 120,000
Effective interest for 2009 133,000
Divide by carrying amount, 1/2/09 950,000
Effective interest rate 14%
Fair value of Discoverer bonds, 12/31/10 P 1,010,000

(P1,000,000 x 1.01)
Less carrying amount, 12/31/10
Carrying amount, 12/31/09 963,000
Add discount amortization
Effective interest (P963,000 x 14%) P134,820
Nominal Interest (P1,000,000 x 12%) 14,820
(120,000)
977,820
Unrealized gain on transfer of securities to be P 32,180
recognized in OCI
EXPLANATION:
The amount to be recognized in other comprehensive regarding transfer of Discoverer
bonds to available-for-sale securities is P32,180 because, PAS 39, par. 51 states that if, as a
result of a change in intention or ability, it is no longer appropriate to classify an investment as
held to maturity, it shall be reclassified as available for sale and remeasured at fair value, and the
difference between its carrying amount and fair value shall be recognized in other
comprehensive income until the financial asset is derecognized.
PROBLEM 21
Puto Corporation purchased P200,000 8% bonds for P184,557 on January 1, 2008. Puto
classified the bonds as available for sale. The bonds were purchased to yield 10% interest.
Interest is payable semiannually on July 1 and January 1. The bonds mature on January 1, 2013
Puto uses the effective interest method to amortize premium or discount. On January 2, 2010, the
fair value of the bonds did not change from the previous reporting period end. On this date, Puto
sold the bonds for its fair value after receiving interest to meet its liquidity needs.
The market values of the bonds are as follows:
December 31,2008 P 190,449
December 31,2009 186, 363
Based on the above and the result of your audit, what is the interest income for the year
2008
a. P14,869 c. P18,517
b. P16,000 d. P18, 456
SOLUTION:
Date Effective Nominal Interest Discount Amortized cost
Interest (10%) (8%) Amortization
01/01/08 P 184, 557
07/01/08 P9,228 P8,000 1,228 185,785
12/31/08 9,289 8,000 1,289 187,074
07/01/09 9,354 8,000 1,354 188,428
12/31/09 9,421 8,000 1,421 189,849
07/01/10 9,492 8,000 1,492 191,341
12/31/10 9,567 8,000 1,567 192,908
07/01/11 9,645 8,000 1,645 194,553
12/31/11 9,728 8,000 1,728 196,281
07/01/12 9,814 8,000 1,814 198,095
12/31/12 9,905 8,000 1,905 200,000
1/1/08 to P 9,228
6/30/08
7/1/08 to 9,289
12/31/08
Total Interest P18,517
Income for 2008

EXPLANATION:
The interest income for the year 2008 is P18,517 which is the sum of interest income of
1/1/08 to 6/30/08 and interest income of 7/1/08 to 12/31/08. A gain or loss on an available for
sale financial asset shall be recognized in other comprehensive income, except for impairment
losses and foreign exchange gains and losses until the financial asset is derecognized. At that
time the cumulative gain or loss previously recognized in other comprehensive income shall be
reclassified from equity to profit or loss as a reclassification adjustment. But, interest calculated
using the effective interest method is recognized in profit or loss. Dividends on an available for
sale equity instrument are recognized in profit or loss when the entity’s right to receive payment
is established (PAS 39 par 55b).
PROBLEM 22
In auditing the books of Grande Corporation as of December 31, 2010, you find the following
investment in bonds:
Investment in 5-year 10% ED bonds
Date Particulars Debit Credit Balance
2009
Jan. 2 Acquired P1,855,760 P1,855,760
P2,000,000 face
value bonds
including broker’s
commission of
P20,000. The
effective interest
rate is 12%.
Dec. 31 Interest received 200,000 1,655,760
2010
Jul. 1 Total proceeds 1,120,000 535,760
from sale of
P1,000,000 bonds
Dec. 31 Interest received 100,000 435, 760
You noted the following in connection with your audit:
The bonds mature on December 31, 2013. Grande intends to hold the bonds indefinitely and
stands ready to sell the bonds in response to changes in market interest rates.
The prevailing market interest rates of the bonds are 11% and 9% respectively, as of December
31, 2009 and 2010.
Based on the above and the result of your audit, the December 31, 2009 carrying amount of
the investment in bonds is understated by
a. P 222,691 c. P270,420
b. P282,120 d. P589, 570
SOLUTION:
PV of principal (P 2,000,000 x 0.6587) P 1,317,400
PV of interest (P 2,000,000 x 10% x 3.1024) 620,480
Fair value, 12/31/09 1,937,880
Balance per books 1,655,760
Understatement P 282,120
EXPLANATION:
The investment should be classified as available for sale because the entity intends to
hold the bonds indefinitely and stands ready to sell the bonds in response to changes in market
interest rates. Therefore, the investment should be carried at fair value (i.e. the present value of
remaining cash flow as of December 31, 2009 discounted at the prevailing rate of 11% for 4
periods). The December 31, 2009 carrying amount of the investment in bonds is understated by
P282,120, as the balance per books is 1,655,760 and the fair value on 12/31/09 is 1,937,880.
PROBLEM 23
On May 1, 2007, Madilyn Corporation acquired P1,600,000 of J & B Corporation 9% bonds at
97 plus accrued interest. Interest on bonds is payable semiannually on March 1 and September 1,
and bonds mature on September 1, 2010. Madilyn intends to hold these bonds until they matured.
Due to an isolated event that in beyond Madilyn control, is non-recurring and could not have
been reasonably anticipated by Madilyn, the company sold bonds of P480,000 for 103 plus
accrued interest on May 1, 2008.
On July 1, 2009, bonds of P640,00O0 were exchanged for 90,000 ordinary shares of J & B
Corporation, no par value, quoted on the market on this date at P8 per share. Interest was
received on bonds to date of exchange
On September 1, 2010, remaining bands were redeemed and accrued interest was received.
Based on the above and the result of your audit, the gain on sale of the bonds on May 1,
2008 is
a. P 0 c. P57,920
b. P86,720 d. P 24,480
SOLUTION:
Selling price (P 480,000 x 1.03) P 494,400
Less carrying amount of the bonds sold
Face value P 480,000
Less unamortized bond discount, 5/1/08 10,080 469,920
To 9/1/10 (P48,000 x 480/1600 x 28/40)
Gain on sale of investment in bonds P 24,480
EXPLANATION:
PAS 39 par. 9 states that an entity shall not classify any financial assets as held to
maturity if the entity has, during the current financial year on during the two preceding financial
years, sold or reclassified more than an insignificant amount of held-to-maturity investments
before maturity more than insignificant in relation to the total amount of held-to-maturity
investments) other than sales or reclassifications that: (i) are so close to maturity or the financial
assets call date (for example, less than three months before maturity) that changes in the market
rate of interest would not have a significant effect on the financial asset's fair value; (ii) occur
after the entity has collected substantially all of the financial asset's original principal through
scheduled prepayments; or iii) are attributable to an isolated event that is beyond the entity's
control, is non-recurring and could not have been reasonably anticipated by the entity. Whenever
sales or reclassifications of more than an insignificant amount of held-to-maturity investments do
not meet any of the conditions in PAS 39 par. 9, any remaining held-to-maturity investments
shall be reclassified as available for sale (PAS 39 par. 52). Thus, since the sale of the bonds on
May 1, 2008 is due to an isolated event that is beyond Madilyn's control, is non-recurring
and could not have been reasonably anticipated by Madilyn, the investment is not required
to be reclassified as available for sale. Therefore, the gain on sale of the bonds on May 1,
2008 is P24, 480 which is the difference between the selling price and the carrying amount
of the bonds sold.
PROBLEM 24
On January 1, 2009, Paras Corporation purchased P1,000,000 10% bonds designated as held-to-
maturity. The bonds were purchased to yield 12%. Interest is payable annually every December
31, The bonds mature on December 31, 2013. On December 31, 2009 the bonds were selling at
99. On December 31, 2010, Paras sold P500,000 face value bonds at 101. The bonds were selling
at 103 on December 31, 2013.
Based on the above and the result of your audit, how much is the net unrealized gain in
accumulated other comprehensive income in equity as of December 31,2010?
a. P39,034 c. P 31,917
b. P29,033 d. P 0
SOLUTION:
Date Effective Nominal Interest Discount Amortized Cost
Interest (12%) (10%) Amortization
1/1/09 927,880
12/31/09 111,346 100,000 11,346 939,226
12/31/10 112,707 100,000 12,707 951,933
12/31/11 114,232 100,000 14,232 966,165
Carrying Amount (P951,933 x 1/2) 475,966
Fair value of the remaining bonds (P 500,000 x 1.01) 12/31/10 P 505,000

Amortized cost of remaining bonds (P951,933-P475,966) 12/31/10 475,967
Unrealized gain, 12/31/10 P29,033
EXPLANATION:
The net unrealized gain in accumulated other comprehensive income in equity as of
December 31,2010 is P29,033 which is the difference of the fair value of the remaining bonds
and the amortized cost of remaining bonds. Whenever sales or reclassification of more than an
insignificant amount of held-to-maturity investments do not meet any of the conditions in PAS
39 paragraph 9 any remaining held-to-maturity instruments shall be reclassified as available for
sale. On such reclassification, the difference between its carrying amount and fair value shall be
recognized in other comprehensive income until the financial asset is derecognized (PAS 39 par.
52).
PROBLEM 25
On January 1, 2009, Bangtan Corporation purchased P4,000,000 10% bonds for P3,711,520 and
designated as available for sale. The bonds were purchased to yield 12%. Interest is payable
annually every December 31. The bonds mature on December 31, 2013. The bonds were selling
at 99 and 98 on December 31, 2009 and 2010, respectively. Because of the change in intention
and ability, Bangtan reclassified the investment to held-to-maturity on December 31, 2011 On
the date of reclassification, the prevailing market interest rate is 9%.
Based on the above and the result of your audit, how much is the net unrealized gain in
accumulated other comprehensive income in equity as of December 31,2011?
a. P205,780 c. P93,500
b. P358,900 d. P 0
SOLUTION:
Effective Interest Nominal interest Discount Amortized
Date (12%) (10%) amortization Cost
1/1/2009 3,711,520
12/31/200
9 445,382 400,000 45,382 3,756,902
12/31/201
0 450,828 400,000 50,828 3,807,730
12/31/201
1 456,928 400,000 56,928 3,864,658
12/31/201
2 463,759 400,000 63,759 3,928,417
12/31/201
3 471,583 400,000 71,583 4,000,000
Present value of principal (P 4,000,000 x 0.8417) P 3,366,800

Present value of Interest (P4,000,000 x 10%x 1.7591) 703,640
Fair value, 12/31/11 4,070,440
Amortized cost, 12/31/11 (see schedule) 3,864,658
Unrealized gain, 12/31/11 P205, 782
EXPLANATION:
The net unrealized gain in accumulated other comprehensive income in equity as of
December 31,2011 is P205,782. Based on PAS 39 par. 54, if, as a result of a change in intention
or ability, it becomes appropriate to carry a financial asset with a fixed maturity at amortized cost
rather than at fair value, the fair value carrying amount of the financial asset on that date
becomes its new amortized cost. Any previous gain or loss on that asset that has been recognized
in other comprehensive income shall be amortized to profit or loss over the remaining life of the
held-to maturity investment using the effective interest method. Any difference between the new
amortized cost and maturity amount shall also be amortized over the remaining life of the
financial asset using the effective interest method, similar to the amortization of a premium and a
discount. (PAS 39 par. 54) In other words, the net amount to be recognized in profit or loss over
the remaining life of the investment is P135,342 [P205,782 - (P4,070,440 - P4,000,000)].
Actually, that amount is the difference between the face (maturity) amount (P4,000,000) and the
amortized cost as of December 31, 2011 (P3,864,658).
PROBLEM 26
On April 1, 2010, Morada Corporation purchased 5-year P10,000,000 10% bonds dated January
1, 2010. The bonds were purchased to yield 12%. Interest is payable annually every December
31. Morada Corporation has the positive intention and ability to hold these bonds to maturity.
The issuer paid the interest as scheduled in 2010 and 2011. During 2012, the issuer of the bonds
is in financial difficulties and it becomes probable that the issuer will be put into administration
by a receiver. On December 31, 2012, Morada estimated that of the interest will be collected and
only P8,000,000 of the principal will be collected on maturity date. No cash flows are received
during 2013. At the end of 2013, the issuer is released from administration and Morada receives
a letter from the receiver stating that the issuer will be able to meet it remaining obligations,
including interest and repayment of principal.
Based on the above and the result of your audit, how much should be recognized as
impairment loss in 2012?
a. P3,284,046 c. P3,141,700
b. P3,972,000 d. P1,622,400
SOLUTION:
1/1/2010 9,278,800
12/31/201
0 1,113,456 1,000,000 113,456 9,392,256
12/31/201
1 1,127,071 1,000,000 127,071 9,519,327
12/31/201
2 1,142,319 1,000,000 142,319 9,661,646
12/31/201
3 1,159,398 1,000,000 159,398 9,821,044
12/31/201
4 1,178,956 1,000,000 178,956 10,000,000
Carrying amount, 12/31/12 (see schedule) P 9,661,646

Present value of expected cash flow (P8,000,000 x 0.7972) 6,377,600
Impairment loss P3,284, 046
EXPLANATION:
The amount that should be recognized as impairment loss in 2012 is P 3,284,046, because
if there is objective evidence that an impairment loss on held to maturity investments carried at
amortized cost has been incurred, the amount of the loss is measured as the difference between
the asset's carrying amount and the present value of estimated future cash flows (excluding future
credit losses that have not been incurred) discounted at the financial asset’s original effective
interest rate (i.e. the effective interest rate computed at initial recognition). The carrying amount
of the asset shall be reduced either directly or through use of an allowance account. The amount
of the loss shall be recognized in profit or loss (PAS 30 par 63). Additionally, the accounting for
impairment of held to maturity investments is the same as loans and receivables since those
financial assets are carried at amortized cost. Thus, the Present value of expected cash flow is
deducted to Carrying amount, 12/31/12 in order to get the impairment loss.
PROBLEM 27
Haze Company purchased investment in bonds on January 1, 2009. At this date, the cost and fair
value is P1,000,000. The bonds are classified as available-for-sale. On December 31, 2009 the
bonds were selling at 90. Because of the significant financial difficulty of the issuer, the bonds
are considered impaired on December 31, 2010 when the bonds are quoted at 70. On December
31, 2011, the bonds are quoted at 95. The increase in the fair value of the bonds on December 31,
2011 is due to the improvement of the issuer's credit rating. How much should be recognized in
2011 profit or loss as a result of the fair value changes?
a. P250,000 c. P100,000
b. P200,000 d. P 0
SOLUTION:
Fair value, 12/31/10 (P1,000,000 x 0.70) P 700,000
Cost 1,000,000
Impairment loss P300,000
Fair value, 12/31/11 (P1,000,000 x 0.95) P 950,000

Fair value, 12/31/10 (see.no 1) 700,000
Reversal of Impairment loss P250,000
EXPLANATION:
The amount that should be recognized in 2011 profit or loss as a result of the fair value
changes is P250,000 because, as stated in PAS 39 par. 70, if in a subsequent period, the fair
value of a debt instrument classified as available for sale increases and the increase can be
objectively related to an event occurring after the impairment loss was recognized in profit or
loss, the impairment loss shall be reversed, with the amount of the reversal recognized in profit
or loss.
PROBLEM 28
On January 1, 2010, Luis Corporation purchased 4-year P8,000,000 10% bonds dated December
31, 2009. Interest is payable annually every December 31. Luis Corporation designated the
bonds as available-for-sale. The issuer paid the interest as scheduled in 2010. During 2011, the
issuer of the bonds is in financial difficulties end it becomes probable that the issuer will be put
into administration by a receiver. On December 31, 2011, Luis estimated that none of the interest
will be collected and only P6,000,000 of the principal will be collected on maturity date. No cash
flows were received during 2012. At the end of 2012, the issuer is released from administration
and Luis received a letter from the receiver stating that the issuer will be able to meet its
remaining obligations on maturity, including interest and repayment of principal.
The table below provides information regarding the prevailing market interest rate.
Date Rate
January 1, 2010 12%
December 31, 2010 13%
December 31, 2011 14%
December 31, 2012 11%
Based on the above and the result of the audit, what is the impairment loss to be recognized
in 2011 profit or loss
a. P2,124,340 c. P2,946,160
b. P2,930,000 d. P3,112,361
SOLUTION:
1/1/2010 7,513,840
12/31/201
0 901,661 800,000 101,661 7,615,501
12/31/201
1 913,860 800,000 113,860 7,729,361
12/31/201
2 927,523 800,000 127,523 7,856,884
12/31/201
3 943,116 800,000 143,116 8,000,000
Fair value, 12/31/10 (P6,000,000 x 0.7695) P 4,617,000

Amortized Cost,12/31/11 (see schedule) 7,729,361
Impairment loss P3,112,361
EXPLANATION:
The impairment loss to be recognized in 2011 profit or loss is P3,112, 361, because, as
stated in PAS 39 par 67, when a decline in the fair value of an available for sale financial asset
has been recognized in other comprehensive income and there is objective evidence that the asset
in impaired, the cumulative loss that had been recognized in other comprehensive income shall
be reclassified from equity to profit or loss as a reclassification adjustment even though the
financial asset has not been derecognized. Further, PAS 39 par. 68, states that the amount of the
cumulative loss that is reclassified from equity to profit or loss shall be the difference between
the acquisition cost (net of any principal repayment and amortization) and current fair value, less
any impairment loss on that financial asset previously recognized in profit or loss. The difference
between impairment of financial assets carried at amortized cost and financial assets carried at
fair value with fair value changes recognized in other comprehensive income. For loans and
receivables and held to maturity investments, we use the original effective interest rate to
discount the expected cash flows. On the other hand, we use the prevailing interest role for
available for sale investments. Financial assets at fair value through profit or loss are not
subjected to impairment testing since changes in fair value are already recognized in profit or
loss.
PROBLEM 29
Measurement of Investment property
Celine, Inc. completed the construction of a building at the end of 2008 for a total cost of
P100 million. The building is estimated to be economically useful for 25 years. The building was
constructed for the purpose of earning rentals under operating leases. The tenants began
occupying the building after its completion. The company opted to use the fair value model to
measure the building. An independent valuation expert was used by the company to estimate the
fair value of the building on an annual basis. According to the expert the fair values of the
building at the end of 2008, 2009 and 2010 were P105 million, P120 million and 118 million,
respectively.
Based on the above and the result of the audit, how much should be recognized in profit or
loss in 2008 as a result of the completion of the building at the end of 2008?
a. P 20,000,000 c. P5,000,000
b. P 9,000,000 d. P 0
SOLUTION:
Fair value, 12/31/08 P 105,000,000
Cost 100,000,000
Unrealized gain on investment property P5,000,000
EXPLANATION:
P 5,000,000 should be recognized in profit or loss in 2008 as a result of the completion of
the building at the end of 2008 because an investment property shall be measured initially at its
cost and after initial recognition, PAS 40 permits entities to choose between a fair value model
and a cost model. Under the fair value model, investment property is remeasured at fair value. A
gain or loss arising from changes in the fair value of investment property shall be recognized in
profit or loss for the period in which it arises.
PROBLEM 30
Transfers to/ from investment property
Cardo, Inc. completed the construction of a building at the end of 2008 for a total cost of P20
million. The building is estimated to be economically useful for 25 years. The building was
constructed for the purpose of earning rentals under operating leases. The tenants began
occupying the building after its completion. The company opted to use the fair value model to
measure the building. An independent valuation expert was used by the company to estimate the
fair value of the building on an annual basis. According to the expert the fair values of the
building at the end of 2008, 2009 and 2010 were P22 million, P24 million and 25 million,
respectively.
The company’s business expanded in 2009. As a result, the company started to use the building
in its operations on January 1, 2010. Because of the change in use, the company reclassified the
building from investment property to property, plant and equipment.
How much is the carrying amount of the building on December 31, 2010?
a. P 24,000,000 c. P23,000,000
b. P 23,040,000 d. P 21,120,000
SOLUTION:
Fair value, 12/31/09 P 24,000,000
Less accumulated depreciation, 12/31/10 1,000,000
(P24,000,000 x 1/24)
EXPLANATION:
The carrying amount of the building on December 31, 2010 is P23,000,000 which is the
difference of the fair value on 12/31/09 and the Accumulated depreciation on 12/31/10. The
solution is based on PAS 40 par 57 which requires that transfers to or from, investment property
should only be made when there is a change in use, evidenced by: Commencement of owner-
occupation (transfer from investment property to owner-occupied property), Commencement of
development with a view to sale (transfer from investment property to inventories), End of
owner-occupation (transfer from owner-occupied property to investment property), and
Commencement of an operating lease to another party (transfer from inventories to investment
property); or the following rules apply for accounting for transfers between categories:
 For a transfer from investment property carried at fair value to owner-occupied property
or inventories, the fair value at the change of use is the cost of the property under its new
classification
 For a transfer from owner-occupied property to investment property carried at fair value,
PAS 16 should be applied up to the date of reclassification. Any difference arising
between the carrying amount under PAS 16 at that date and the fair value is dealt with as
a revaluation under PAS 16.
 For a transfer from inventories to investment property at fair value, any difference
between the fair value at the date of transfer and its previous carrying amount should be
recognized in profit or loss for the period; and
Further, when the entity uses the cost model for investment property, transfers between
categories do not change the carrying amount of the property transferred, and they do not change
the cost of the property for measurement or disclosure purposes.

AUDITING PROBLEM - From Audit of Investment

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AUDITING PROBLEM - From Audit of Investment

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AUDIT OF INVESTMENTS

Equity Investments Measurement Debt Investments Measurement

 GAIN AND LOSS – FINANCIAL ASSET AT FAIR VALUE

 INVESTMENT IN UNQUOTED EQUITY INSTRUMENTS

When the share is selling right-on

FINANCIAL ASSET AT AMORTIZED COST

 DERECOGNITION OF INVESTMENT PROPERTY

The following sale and conversion transactions transpired during 2010:

The following 2010 dividend information pertains to stocks owned by Baltazar:

Investment in Orange Company

Investment in Apple Company

Fair value of AFS, 12/31/10 P6,325,000

Market value of share:

Acquisition Cost P11,400,000

Carrying amount, 12/31/05 P2,420,000

Fair value and sales proceeds (80,000 x P31) P2,480,000

Share of loss for 2008 (P2,500,000 x 25%) P625,000

Twic, Inc. P 22 per share

Sales proceeds (1,600 shares x P15) P 24,000

Vanguard bonds (P100,000 x 10%) P 10,000

Fair value of Discoverer bonds, 12/31/10 P 1,010,000

Source: Ocampo, R. (2010). Auditing Problems (2010 ed.,).

Carrying Amount (P951,933 x 1/2) 475,966

Fair value of the remaining bonds (P 500,000 x 1.01) 12/31/10 P 505,000

Present value of principal (P 4,000,000 x 0.8417) P 3,366,800

Carrying amount, 12/31/12 (see schedule) P 9,661,646

Fair value, 12/31/11 (P1,000,000 x 0.95) P 950,000

Fair value, 12/31/10 (P6,000,000 x 0.7695) P 4,617,000

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