Solutions - Financial Accounting for Decision Makers, 4e DeFond
Appendix D
Accounting for Investments and
Consolidated Financial Statements
QUESTIONS
1. The investment categories for debt security investments are trading securities, available-
for-sale securities, and held-to-maturity securities.
2. The investment categories for equity security investments are little or no-influence
(passive) securities, securities with significant influence, and controlling securities.
3. The Caldwell Company bonds belong in the available-for-sale investment category.
Accordingly, the bond premium should be amortized as an adjustment of interest income.
The bonds should be reported at their fair value in the year-end balance sheet.
4. Trading debt securities are reported at their fair value in the balance sheet. Available-for-
sale debt securities are reported at their fair value in the balance sheet. Held-to-maturity
debt securities are reported at their amortized cost in the balance sheet.
5. An unrealized gain is an increase in the fair value of an asset (in this case, an investment
security) that is still owned. An unrealized loss is a decrease in the fair value of an asset
(in this case, an investment security) that is still owned.
6. Unrealized gains and losses related to trading debt securities are reported in the current
year income statement. Unrealized gains and losses related to available-for-sale debt
securities are reported as a separate component of stockholders' equity titled Unrealized
Gain/Loss on Investments.
7. An equity investment that results in significant influence is an investment that gives the owner of
the stock the ability to influence significantly the operating and financing activities of the
company whose stock is owned. Normally, this is accomplished with a 20 to 50 percent
ownership of the company's voting stock.
The equity method is used to account for influential investments. Such an investment is
initially recorded at cost; the investment and investment income accounts are increased
by the proportionate share of the investee company's net income; the investment account
is decreased by dividends received on the investment; and the investment account is
reported in the balance sheet at its book value.
© 2027
Solutions Manual, Appendix D D-1
, 8. Mower Company's investment in Starr Company is an equity investment that results in
significant influence. At year-end, the investment should be reported in the balance sheet
at $258,000 [$250,000 + (40% ´
$80,000) ‒ (40% x $60,000)].
9. A stock investment representing more than 50 percent of the investee company's voting
stock is classified within the controlling securities category. As such, the equity method is
used to account for the investment—initially, the investment is recorded at cost, the
investment and investment income accounts are increased by the proportionate share of
the investee company's net income; and the investment account is decreased by
dividends received on the investment. When financial statements are prepared, the
investment account balance is eliminated as part of the consolidation procedures.
10. Consolidated financial statements portray the financial position, operating results, and
cash flows of affiliated companies as a single economic unit so that the scope of the group
enterprise is more realistically conveyed.
11. Limitations of consolidated statements include the possibility that the performances of
poor companies in a group may be "masked" in consolidation. Likewise, rates of return,
other ratios, and trend percentages calculated from consolidated statements might prove
deceptive because they are composite calculations. Consolidated statements also
eliminate detail about product lines, divisional operations, and the relative profitability of
various business segments. (Some of this information may be available for certain public
firms.) Finally, shareholders and creditors of subsidiary companies find it difficult to isolate
amounts related to their legal rights by inspecting only consolidated statements.
© 2027
D-2 Financial Accounting for Decision Makers, 4th Edition
, EXERCISES
ED-1. Accounting for Debt Securities—Trading
(LO2)
Assets = Liabilities + Stockholders' Equity Revenues − Expenses = Net Income
Year 1
Oct. 1
Dec. 31
Unrealized gain
Dec. 31
Year 2
Mar. 31
Apr. 1
Retained earnings
© 2027
Solutions Manual, Appendix D D-3
, ED-2. Accounting for Debt Securities—Available for Sale
(LO2)
Assets Stockholders' Equity Revenues
Year 1
Jan. 1
Jun. 30
Dec. 31
Dec. 31
Year 2
Jun.30
Jul. 1
Dec. 31
© 2027
D-4 Financial Accounting for Decision Makers, 4th Edition
Appendix D
Accounting for Investments and
Consolidated Financial Statements
QUESTIONS
1. The investment categories for debt security investments are trading securities, available-
for-sale securities, and held-to-maturity securities.
2. The investment categories for equity security investments are little or no-influence
(passive) securities, securities with significant influence, and controlling securities.
3. The Caldwell Company bonds belong in the available-for-sale investment category.
Accordingly, the bond premium should be amortized as an adjustment of interest income.
The bonds should be reported at their fair value in the year-end balance sheet.
4. Trading debt securities are reported at their fair value in the balance sheet. Available-for-
sale debt securities are reported at their fair value in the balance sheet. Held-to-maturity
debt securities are reported at their amortized cost in the balance sheet.
5. An unrealized gain is an increase in the fair value of an asset (in this case, an investment
security) that is still owned. An unrealized loss is a decrease in the fair value of an asset
(in this case, an investment security) that is still owned.
6. Unrealized gains and losses related to trading debt securities are reported in the current
year income statement. Unrealized gains and losses related to available-for-sale debt
securities are reported as a separate component of stockholders' equity titled Unrealized
Gain/Loss on Investments.
7. An equity investment that results in significant influence is an investment that gives the owner of
the stock the ability to influence significantly the operating and financing activities of the
company whose stock is owned. Normally, this is accomplished with a 20 to 50 percent
ownership of the company's voting stock.
The equity method is used to account for influential investments. Such an investment is
initially recorded at cost; the investment and investment income accounts are increased
by the proportionate share of the investee company's net income; the investment account
is decreased by dividends received on the investment; and the investment account is
reported in the balance sheet at its book value.
© 2027
Solutions Manual, Appendix D D-1
, 8. Mower Company's investment in Starr Company is an equity investment that results in
significant influence. At year-end, the investment should be reported in the balance sheet
at $258,000 [$250,000 + (40% ´
$80,000) ‒ (40% x $60,000)].
9. A stock investment representing more than 50 percent of the investee company's voting
stock is classified within the controlling securities category. As such, the equity method is
used to account for the investment—initially, the investment is recorded at cost, the
investment and investment income accounts are increased by the proportionate share of
the investee company's net income; and the investment account is decreased by
dividends received on the investment. When financial statements are prepared, the
investment account balance is eliminated as part of the consolidation procedures.
10. Consolidated financial statements portray the financial position, operating results, and
cash flows of affiliated companies as a single economic unit so that the scope of the group
enterprise is more realistically conveyed.
11. Limitations of consolidated statements include the possibility that the performances of
poor companies in a group may be "masked" in consolidation. Likewise, rates of return,
other ratios, and trend percentages calculated from consolidated statements might prove
deceptive because they are composite calculations. Consolidated statements also
eliminate detail about product lines, divisional operations, and the relative profitability of
various business segments. (Some of this information may be available for certain public
firms.) Finally, shareholders and creditors of subsidiary companies find it difficult to isolate
amounts related to their legal rights by inspecting only consolidated statements.
© 2027
D-2 Financial Accounting for Decision Makers, 4th Edition
, EXERCISES
ED-1. Accounting for Debt Securities—Trading
(LO2)
Assets = Liabilities + Stockholders' Equity Revenues − Expenses = Net Income
Year 1
Oct. 1
Dec. 31
Unrealized gain
Dec. 31
Year 2
Mar. 31
Apr. 1
Retained earnings
© 2027
Solutions Manual, Appendix D D-3
, ED-2. Accounting for Debt Securities—Available for Sale
(LO2)
Assets Stockholders' Equity Revenues
Year 1
Jan. 1
Jun. 30
Dec. 31
Dec. 31
Year 2
Jun.30
Jul. 1
Dec. 31
© 2027
D-4 Financial Accounting for Decision Makers, 4th Edition
