Investment Risk and Portfolio Management Paper 9

(c) The equity method is used when accounting for investments in which the investor has the ability to exercise significant influence over the operating and financial policies of the investee. Ownership of 20% or more of the outstanding common stock demonstrates this ability. In this case, Pulham Corp. owns 30% of Angles and properly uses the equity method. Under the equity method intercompany profits and losses are eliminated. However, receivables and payables are not eliminated as they are in the case of consolidated financial statements. On the December 31, year 1 balance sheet, Pulham should separately disclose the total amount of the receivable. Additionally, this receivable should be shown separately from other receivables.

(a) When a company insures the lives of employees and names itself the beneficiary, the cash surrender value of the policies is considered an asset. During the first few years of a policy, no cash surrender value may accrue. If no increase in cash surrender value (CSV) occurs, the journal entry to record a premium paid would be Insurance expense xxx Cash xxx However, if cash surrender value increases, part of the cash paid is recorded as an increase in the CSV. The entry is Insurance expense xx Cash surrender value xx Cash xxx Therefore, the increase in CSV decreases insurance expense because the same amount of cash paid must be allocated between the two accounts. The increase in CSV does not affect investment income or deferred charges.

(b) When a company insures the lives of employees and names itself as the beneficiary, the cash surrender value (CSV) of the policy is considered an asset. Premiums paid are debited to CSV for the increase in CSV that year and to insurance expense for the excess of cash paid over increase in CSV. Upon the death of the insured employee, the company recognizes a gain for the excess of proceeds received over CSV.

(d) Stock dividends are not income to the recipient, but rather, are an adjustment of the per share basis of the investment. Answer (c) is incorrect because no change in the total investment cost is made when an investor receives stock dividends. Answer (d) is correct because some companies make a memorandum journal entry to note the receipt of the stock dividend and the adjustment of the per share basis of the investment.

(d) The requirement is to identify how the gain is reported. Answer (d) is correct because IFRS requires that if an asset is classified as fair value through profit or loss, it is remeasured to fair value and any profit or loss is recorded in the period. Therefore, Acadia should recognize a $3,000 gain in current earnings of the period. Answers (a), (b), and (c) are incorrect

(a) The requirement is to identify for an investment to be accounted for using fair value through profit and loss. Answer (a) is correct because the investment must be traded in an active market to be accounted for using fair value through profit and loss.

(c) The requirement is to identify the item that does not represent a category of investments under IFRS. Answer (c) is correct because IFRS includes the classifications of fair value through profit and loss, held to maturity, and available for sale. It does not include tradable.

(c) The requirement is to identify how changes in fair value are recognized for an investment accounted for under IFRS. Answer (c) is correct because gains or losses are recognized in profit and loss of the period.

(b) The requirement is to identify the percentage of ownership that indicates significant influence under IFRS. Answer (b) is correct because like US GAAP the percentage is from 20 to 50%.

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