Guaranteed

Instruments
Sheet 2
2020 - 2021

Adapted by
Dr Selim

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 Chapter 1 P1

Accounting for Investments

What is Investment?
Investments: are treated as assets for the firm, where the company (investor)
purchases bonds or shares of other company (investee) for either to increase its
profits or to increase control on certain company.

Investments are classified into;

Investment in Debt Securities Investment in Equity Securities
 Where the firm (Bondholder)  Where the firm (Shareholder)
investment through acquiring investment through acquiring
(purchasing) bonds of other (purchasing) shares of other
company. company.
 Such investment has a maturity  Such investment has no maturity
date. date.
 The firm receiving interest in  The firm receiving dividend in
exchange of such investment. exchange of such investment.
○ Investment in Debt Securities are ○ Investment in Equity Securities
classified to: are classified to:
1. Investment in Held-for collection- 1. Ownership Percentage less than
Securities. 20%.
2. Investment in Available-for- Sale 2. Ownership Percentage between
Securities. 20% & 50%.
3. Investment in Trading Securities. 3. Ownership Percentage More than
50%.
What is Bonds?
Def.: Bonds: is a form of interest-bearing notes receivable, which is considered
as an agreement (Bond contract known as a bond indenture) between the
corporation and the creditors.
(1) The creditor (Bond holders) lend money to the corporation in return the
creditor will receive interest periodically.
(2) At the end of the period of the bond, the creditor (Bond holders) will
recollect the principal amount of the bonds. Bonds are called “Debt
instrument”.
(3) Represents a promise to receive:
 Sum of money at designated maturity date, plus

1 Adapted By Dr Selim
  Periodic interest at a contractual (stated) rate on the maturity amount
(face value).
(4) The major advantage resulting from the use of bonds are: That interest
must be received, and principal re-collected.

Bond Financing offers the following advantaged over equity Financing.

a- Issuance of bonds does not affect shareholders Control. Because
bondholders do not have voting rights Shareholders retain full control of
the corporation.
b- Issuance of bonds results in some tax savings Because bond interest
expense is deductible for tax Purposes.
c- Earnings per common share often is higher under Bond financing because
no additional shares are issued.

TYPES OF BONDS
Secured and  Secured bonds: have specific assets of the issuing
Unsecured Bonds company pledged as collateral. A mortgage bond, for
example, is secured by a real estate.
 Unsecured bonds: also called debenture bonds, are not
backed by collateral.
Term and Serial  Term bonds: are those bonds that mature – are due for
Bonds Payment – on a single date.
 Serial bonds: that mature in Installments.
Convertible and  Convertible bonds: can be converted into common
Callable Bonds (ordinary) shares of the issuing company at the option
of the bondholder.
 Callable bonds: give the issuing company the right to
call and retire the bonds at a stated dollar amount prior
to maturity.
Registered and  Registered bonds: issued in the name of the owner,
Bearer Bonds Interest payments on registered bonds are made by
checks to bondholders reported on the company’s
records.
 Bearer or coupon bonds: Not recorded in the name of
the owner, transferred from one owner to another by
mere delivery. To receive interest payments, holders of
bearer bonds must send in coupons.
Deep-Discount  Also called zero-interest debenture bonds: sold at a
Bonds discount that provides the buyer’s total interest payoff at
maturity.

2 Adapted By Dr Selim
Valuation of Bonds
 The investment community determines the price of a Bond at the present
value of its future cash flows, which Consist of both the principal and
interest payments.
 The Rate used to compute the present value of these cash Flows is the
market rate of interest.
 The market interest Rate is the rate that investors accept for loaning funds to
The corporation.

1
[1− ]
B0 = I × (1+r d ) n + M × ¿
rd
Bo = Value of the bond at time zero (The issue price of the bonds)
I = annual interest paid
n = number of years to maturity
M= par value (Principal)
rd= market rate

rd > I The bond value will be lower than the par value and we say that
the bond is selling at a discount.
rd = I The bond value will be equal to the par value and we say that
the bond is selling at par.
rd < I The bond value will be higher than the par value and we say that
the bond is selling at premium.

1. Debt Investments using Amortized Cost [Investment in Held-for-collection

Securities]
 Held-for collection Securities: are Securities that are kept till the maturity
date and will retire at that date. This category of securities is valued at its
BOOK VALUE and is classified as Long-term investments, so there is no
consideration to make an adjustment to its Fair market value, as the security
will be kept till maturity date.
 Classify a debt security as held-for collection only if it has both
(1) the positive intent and,
(2) the ability to hold securities to maturity.
 Accounted for at amortized cost, not fair value. Amortize premium or
discount using the effective-interest method unless the straight-line method
yields a similar result.

3 Adapted By Dr Selim
 Financial ‫ اللي بتتم لما شركة تشتري‬Transactions ‫في الشابتر ده هتعرف ازاي تسجل ال‬
.‫ بتاعت شركة تانية‬Assets

‫ ال‬Financial Assets ‫ لما الشركة بتدخل في استثمار في شركة تانية عن طريق شراء‬.. ً ‫مبدأيا‬
Equity ‫ او‬Debt ‫ سواء‬Investment ‫ و ال‬Cr ‫ ده و بيتسجل‬Asset ‫ بيقل بسعر ال‬Cash
Dr ‫بيتسجل‬

Dr ‫ اللي جالك في‬Cash ‫ في موعد سدادها بتسجل ال‬Debt ‫ عن ال‬Interest ‫و لما تحصل علي ال‬
Debt ‫ و الفرق بيتسجل‬Cr ‫ بتسجله‬Amortization ‫ من جدول ال‬Interest Revenue ‫و ال‬
Cr ‫ او‬Dr ‫ في‬Investment

Interest Revenue ‫ و‬Dr ‫ في ال‬Interest Receivable ‫ بتسجله‬Interest ‫و استحقاق ال‬

Cr ‫ او‬Dr ‫ في‬Debt Investment ‫ و الفرق بيتسجل‬Cr ‫بتسجله‬

A) Purchasing Bond at Face value:

Example 1
On January 1, 2019, Robinson Co. acquired at par 10% bonds having a maturity
value of $1,000,000. They are dated January 1, 2019, and mature January 1,
2024, with interest receivable January 1 of each year. The bonds are classified
in the held-for collection category.

Required:
a-Prepare the journal entries to record the following:
 The Purchasing of the bonds on Jan. 1, 2019.
 The required adjusting entry on Dec. 31, 2019.
 The receipt of interest on Jan. 1, 2020.
b- Show the financial statement presentation on Dec. 31, 2019.

Solution:

Jan. 1, 2020
Collection date

4 Adapted By Dr Selim
 Date Explanation Dr. Cr.
Jan.1, Debt Investments 1,000,00  
2019 0
Cash 1,000,00
0
To record purchase of the Bonds.
Dec. 31, Interest Receivable (1,000,000  10% 12/12) 100,000  
2019
Interest Revenue 100,000
To record the accrued Receiving of interest.

Jan.1, Cash 100,000  

2020
Interest Receivable 100,000
To record the Receiving of interest.

Statement of Financial Position (Balance Sheet)

Current assets:
Interest receivable $ 100,000
Long-term investments:
Debt investments (at book value) $1000,000

Income Statement
Other income and expense
Interest revenue $100,000

B) Purchase Bond at a Discount:

Example 2
Assume that Nokia Corporation purchased $1,000,000 of 8 percent bonds of Robinson Company Jan.
on 1, 2020
January 1, 2015 at a discount of $77,220 (paying $922,780). The bonds mature January 1,2020. and
yield 10%; interest is payable each July l and January 1. Collection date
Required:
1. Prepare a journal entry to record the purchase of the investment.
2. Prepare schedule of Interest Revenue and Discount Amortization using the Effective- interest
Method.
3. Prepare journal entries to record the semiannual interest receipts on July 1, 2015 and on
December, 31, 2015.
4. Show how Nokia reports its investment in Robinson in its December 31, 2015.

5 Adapted By Dr Selim
Solution:

1. Nokia records the purchase of the investment on January 1, 2015, as follows.

Account Titles and Explanation Dr Cr
Debt Investments 922,780
Cash 922,780

2. The schedule of interest revenue and bond discount amortization is presented below:
Date Cash Received Interest Revenue Debt Carrying Amount of
(Interest Payment (Mkt 5% x Previous Investments Bonds
stated at 4% of Carrying Amount) (Bond Discount
face value) Amortization)

(a) (b) = 5% x (d) (c) = (b) – (a) (d) = (c) + Previous

Carrying Amount
1/1/2015 $922,780
1/7/2015 $40,000 $46,140 $6,140 928,920
1/1/2016 $40,000 46,450 6,450 935,370
1/7/2016 $40,000 46,770 6,770 942,140
1/1/2017 $40,000 47,110 7,110 949,250
1/7/2017 $40,000 47,460 7,460 956,710
1/1/2018 $40,000 47,830 7,830 964,540
1/7/2018 $40,000 48,230 8,230 972,770
1/1/2019 $40,000 48,640 8,640 981,410
1/7/2019 $40,000 49,070 9,070 990,480
1/1/2020 $40,000 49,520 9,520 1,000,000
$400,000 $477,220 $77,220

Interests ‫ أول عمود بيكون فيه تواريخ استالم ال‬.. ‫ الزم تكون األعمدة بالترتيب‬Amortization ‫عشان تعرف تعمل جدول ال‬
Interest‫ في تاريخ استالم ال‬Bondholder ‫ اللي بيحصل عليه ال‬Cash ‫تاني عمود بيكون فيه قيمة ال‬
Interest Revenue ‫ و بتقدر تحسب ال‬Debt Investments ‫ شاملة ال‬Interest Revenue‫تالت عمود بيكون فيه قيمة ال‬
.‫ اللي بتكون موجودة في العمود الخامس‬Bond‫ في اخر قيمة لل‬Market Rate‫ديه عن طريق انك بتضرب ال‬
.‫ اللي في تاني و تالت عمود‬Interest Revenue ‫ و ال‬Cash Received‫ بيكون الفرق مابين ال‬.. ‫رابع عمود‬
.‫ في كل فترة اللي موجودة في العمود الرابع‬Discount Amortization ‫ و بيزيد بقيمة ال‬Bond‫ بيبدأ بسعر بيع ال‬.. ‫خامس عمود األخير‬

3. Nokia records the receipt of the first semiannual interest on July 1, 2015, as follows:
Account Titles and Explanation Dr Cr
Cash 40,000
Debt Investments 6,140
Interest Revenue 46,140

6 Adapted By Dr Selim
Because Nokia’s year - end is December 31, it accrues interest and amortizes the discount at
December 31, 2015, as follows:
Account Titles and Explanation Dr Cr
Interest Receivable 40,000
Debt Investment 6,450
Interest Revenue 46,450
4. Nokia presents its debt investment in Robinson in its December 31, financial statements, as
follows:
Statement of Financial Position (Balance Sheet)
Current assets:
Interest receivable $ 40,000
Long-term investments:
Debt investments $935,370

Income Statement
Other income and expense
Interest revenue ($46,140+$46,450) $ 92,590

C) Purchase Bond at a Premium:

Example 3 Jan. 1, 2020

A corporation purchases L.E. 1,000,000, 10%, 5-year bonds on Jan. 1, 2020,
with interest receivable on Dec. 31. The bonds sold for L.E. 1,050,000 Collection
which date
results in a bond premium of L.E. 50.000 and an effective interest rate of 8%.
The bonds are classified in the held-to-maturity category.
Required:
a-Prepare the journal entries to record the following:
 The Purchasing of the bonds on Jan. 1, 2020.
 The receipt of interest Dec. 31, 2020.
b- Show the financial statement presentation on Dec. 31, 2020.
Solution:

7 Adapted By Dr Selim
a- the journal entries:
Date Explanation Dr. Cr.
Jan.1, 2020 Debt Investments 1,050,00  
Cash 0 1,050,00
To record purchase of the Bonds at a premium. 0

Amortization Schedule
(a) (b)
(c) = (a) – (b)
Cash received Interest revenue
Date Amortized Carrying value
(Face Value × Bond (Book Value × Market
premium
Rate × Period) Rate × Period)
January 1, - - - 1,050,000
2020
Dec 31, 100,000 84000 16000 1,034,000
2020

Date Explanation Dr. Cr.

Dec. 31, Cash 100,000  
2020 Debt Investments 16,000
Interest Revenue 84,000
To record the Receiving of interest.

b- the financial statement presentation on Dec. 31, 2020.

Statement of Financial Position (Balance Sheet)
Current assets:
Cash $ 100,000
Long-term investments:
Debt investments (at book value) $1,034,000

Income Statement
Other income and expense
Interest revenue $84,000

8 Adapted By Dr Selim