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FINANCIAL ACCOUNTING AND REPORTING

BOND INVESTMENT

The amount at which the financial asset or financial liability is measured at initial
Amortized cost of a recognition minus the principal repayments, plus or minus the cumulative
financial asset or amortization using the effective interest method of any difference between
financial liability that initial amount and the maturity amount and, for financial assets, adjusted
for any loss allowance.

Derecognition The removal of a previously recognized financial asset or financial liability from
an entity‟s statement of financial position.

Amortization method where the amount of the discount amortization (added to

Effective interest carrying amount) or premium amortization (deducted from the carrying amount)
method is equal to the difference between the effective interest and nominal interest
(interest received) calculated every interest date.

The rate that exactly discounts estimated future cash payments or receipts
through the expected life of the financial asset or financial liability to the gross
Effective interest rate
carrying amount of a financial asset or to the amortized cost of a financial
liability.

Reclassification date The first day of the first reporting period following the change in business
model that results in an entity reclassifying financial assets.

Solely payments of Returns consistent with a basic lending arrangement, interest may include
principal and interest return not only for the time value of money and credit risk but also for other
(SPPI) components such as a return for liquidity risk, amounts to cover expenses and a
profit margin.

Transaction costs Incremental costs that is directly attributable to the acquisition, issue or disposal
of a financial asset or financial liability. An incremental cost is one that would
not have been incurred if the entity had not acquired, issued or disposed of the
financial instrument.

INITIAL MEASUREMENT OF FINANCIAL ASSETS

At fair value, plus for those financial assets and liabilities not classified at fair value through profit or loss,
directly attributable transaction costs.

 Fair value - is the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date

 Directly attributable transaction costs - incremental costs that are directly attributable to the
acquisition, issue or disposal of a financial asset or financial liability.

In other words transaction cost would immediately be recognized as an expense if the financial asset or
liability is classified at fair value through profit or loss.

DEBT INSTRUMENTS CLASSIFICATIONS

A. Amortized Cost

Requisites for a) The entity‟s business model to collect its contractual cash flows and
Classification b) The asset‟s contractual cash flows represent „solely payments of
principal and interest‟

Profit or Loss a) Effective interest income

Implications b) Impairments losses and reversal gains
c) Gain or loss on derecognition

Statement of a) Measured at amortized cost

financial b) Classified as a non-current asset unless maturity is within 12 months
position after the end of the reporting period

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B. Financial Assets at Fair Value Through Other Comprehensive Income

Requisites a) The entity‟s business model is achieved both by collecting contractual

for cash flows and selling financial assets, and
Classification b) The asset‟s contractual cash flows represent SPPI.

Profit or Loss a) Effective interest (income)

Implications b) Impairments losses and reversal gains
c) Gain or loss on derecognition including reclassification adjustments (PAS
1)

OCI a) Changes in fair value due to subsequent measurement

Statement of a) Measured at fair value after amortization for the effective interest
Financial b) Cumulative gain or loss on fair value in SHE
Position c) Since PFRS 5 excludes the scope for financial assets, FVOCI are non-
current asset unless maturity is within 12 months after the end of the
reporting period

C. Financial Assets at Fair Value Through Profit Or Loss

Requisites for a) This is a “residual category”. If none of the two previously mentioned (AC and
Classification FVOCI) business models apply FVPL is used or

b) If the AC or FVOCI business model is met BUT the contractual cash flows are
NOT SPPI (for example if interest will include a profit participation).

c) Also, if the two requisites (business model test and cash flow test) for the AC
and FVOCI category are met but the entity elects (irrevocable option) to
measure debt instruments at FVPL to eliminate an “accounting mismatch”
because financial liabilities are measured at FVPL.

Profit or Loss  Nominal interest (income)

Implications  Direct transaction cost incurred on acquisition
 Gain or loss on changes in fair value on subsequent measurement
 Gain or loss on derecognition

Statement of  Measured at fair value

Financial  Under the assumption the Financial asset is held for trading, FVPL shall be
Position classified as a current asset (PAS 1)

RECLASSIFICATION OF DEBT INSTRUMENT FINANCIAL ASSETS

Under PFRS 9, reclassification of financial assets is required if, and only if, the objective of the entity‟s
business model for manages those financial assets changes.

If the entity determines that its business model has changed in a way that is significant to its operations, then
it reclassifies all affected assets prospectively from the first day of the next reporting period (the
reclassification date). Prior periods are not restated.

Original Category New Category Accounting Impact

Fair value is measured at

reclassification date. Difference from
Amortized cost FVPL
carrying amount should be
recognized in profit or loss.

Fair value at the reclassification date

FVPL Amortized Cost becomes its new gross carrying
amount

Fair value is measured at

reclassification date. Difference from
amortized cost should be recognized
Amortized cost FVOCI
in OCI. Effective interest rate is not
adjusted as a result of the
reclassification.

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Fair value at the reclassification date

becomes its new amortized cost
carrying amount. Cumulative gain or
FVOCI Amortized cost
loss in OCI is adjusted against the
fair value of the financial asset at
reclassification date.

Fair value at reclassification date

FVPL FVOCI
becomes its new carrying amount.

Fair value at reclassification date

becomes carrying amount.
FVOCI FVPL Cumulative gain or loss on OCI is
reclassified to profit or loss at
reclassification date

SAMPLE PROBLEM FOR RECLASSIFICATION

Let us assume the following amounts for cost, fair value and amortization from 2016 to 2018.

All amounts have no basis for computation and have been simplified for expediency.

The original cost of the financial asset is 4,600,000 with a face value of 5,000,000

The following information has been gathered at the end of the year on December 31, 2016, 2017
and 2018.

12/31/16 12/31/17 12/31/18

Fair Value 5,200,000 5,400,000 5,500,000
Amortization on original cost 50,0000 70,000 90,000
Amortization on 12/31/2017 FV 100,000

KEY OBSERVATIONS

 The financial asset was acquired at a 400,000 discount (5,000,000 – 4,600,000) therefore
the amortization of 50,000, 70,000 and 90,000 (total of 210,000) shall be added to the
carrying amount of the asset if AC or FVOCI was the classification used.

 Let us assume that the business model changes in 2017, therefore the financial asset
shall be accounted for using the rules for the original classification until 12/31/2017 because
the reclassification date shall be 1/1/2018.

 We will also forego the entry for the nominal interest and the entire effective interest and
journalized the amortization only in the succeeding examples.

 If the FVPL category is used on acquisition, all unrealized gains were already recognized in
profit or loss. Therefore the amortization shall be based on the current carrying amount of
P5,400,000 hence the P100,000 provided in the sample problem. This 100,000 take note is
a premium amortization.

AMORTIZED COST TO FVPL FVPL TO AMORTIZED COST

12/31/2016 12/31/2016
FA at AC 50,000 FA at FVPL 600,000
Interest Income 50,000 Unrealized gain 600,000
12/31/2017 12/31/2017
FA at AC 70,000 FA at FVPL 200,000
Interest Income 70,000 Unrealized gain 200,000

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1/1/2018 1/1/2018
FA at FVPL 5,400,000 FA at AC 5,400,000
FA at AC 4,720,000 FA at FVPL 5,400,000
Unrealized Gain (P/L) 680,000
12/31/2018
Interest Income 100,000
FA at AC 100,000

AMORTIZED COST TO FVOCI FVOCI TO AMORTIZED COST

12/31/2016 12/31/2016
FA at AC 50,000 FA at FVOCI 50,000
Interest Income 50,000 Interest Income 50,000

FA at FVOCI 550,000
Unrealized gain – OCI 550,000
12/31/2017 12/31/2017
FA at AC 70,000 FA at FVOCI 70,000
Interest Income 70,000 Interest Income 70,000

FA at FVOCI 130,000
Unrealized gain – OCI 130,000
1/1/2018 1/1/2018
FA at FVOCI 5,400,000 FA at AC 5,400,000
FA at AC 4,720,000 FA at FVOCI 5,400,000
Unrealized Gain - OCI 680,000
Unrealized gain - OCI 680,000
FA at AC 680,000
12/31/2018 12/31/2018
FA at FVOCI 90,000 FA at AC 90,000
Interest Income 90,000 Interest Income 90,000
FA at FVOCI 10,000
Unrealized gain - OCI 10,000
(5,500,000 – (5,400,000 + 90,000) = 10,000

FVPL TO FVOCI FVOCI TO FVPL

12/31/2016 12/31/2016

FA at FVPL 600,000 FA at FVOCI 50,000

Unrealized gain 600,000 Interest Income 50,000

FA at FVOCI 550,000
Unrealized gain – OCI 550,000

12/31/2017 12/31/2017

FA at FVPL 200,000 FA at FVOCI 70,000

Unrealized gain 200,000 Interest Income 70,000

FA at FVOCI 130,000
Unrealized gain – OCI 130,000

1/1/2018 1/1/2018

FA at FVOCI 5,400,000 FA at FVPL 5,400,000

FA at FVPL 5,400,000 FA at FVPL 5,400,000

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Unrealized gain - OCI 680,000
Gain on FVPL 680,000
12/31/2018 12/31/2018
Interest Income 100,000 FA at FVPL 100,000
FA at FVOCI 100,000 Unrealized gain (P/L) 100,000

FA at FVOCI 200,000
Unrealized gain - OCI 200,000

(5,500,000 – (5,400,000 – 100,000) = 200,000

PRACTICE LONG PROBLEM FOR (A) TO (I)

1. On January 1, 2019, Hershey Company purchased bonds with face value of P5,000,000 at a cost of
P4,500,000 plus transaction cost of P139,400.

The stated or nominal interest rate is 10% and payable annually every December 31. The bonds
mature in 5 years or on January 1, 2024.

The bond‟s effective yield including the transaction cost is 12%.

The fair value of the bonds on December 31, 2019 is P5,200,000 while the fair value of the bonds on
December 31, 2020 is P5,393,500 with an effective yield of 7%.

Lastly the bonds had a fair value of P5,500,000 on December 31, 2021. Answer each requirement based
on the given classification.

A. Assume the bonds are held for the purpose of trading and to realized changes in fair value.

1. What is the 2019 interest income?

a. 556,728
b. 500,000
c. 600,000
d. 563,535

2. What is the unrealized gain to be recognized in the 2019 income statement?

a. 700,000
b. 560,600
c. 500,000
d. 200,000

3. What is the unrealized gain to be recognized in the 2020 income statement?

a. 393,500
b. 200,000
c. 193,500
d. 893,500

B. Assume the bonds are held to collect contractual cash flows only and the cash flows are solely
payments of principal and interest.

1. What is the 2019 interest income?

a. 556,728
b. 600,000
c. 500,000
d. 589,478

2. What is the December 31, 2019 carrying amount?

a. 4,639,400
b. 5,200,000
c. 5,000,000
d. 4,696,128

3. What is the 2020 interest income?

a. 563,535
b. 571,160
c. 579,699
d. 556,728

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4. What is the December 31, 2020 carrying amount?
a. 5,000,000
b. 5,193,500
c. 4,759,663
d. 4,830,823

C. Assume the business model for bonds is both to collect contractual cash flows and to sell
financial assets while the cash flows are solely payments of principal and interest.

1. What is the 2019 interest income?

a. 600,000
b. 500,000
c. 556,728
d. 563,535

2. What amount of unrealized gain in other comprehensive income shall be recognized in shareholders‟
equity in 2019?
a. 503,872
b. 560,600
c. 200,000
d. 639,400

3. What is the cumulative unrealized gain in shareholders‟ equity at the end of 2020?
a. 893,500
b. 633,837
c. 129,965
d. 500,000

4. What is the unrealized gain to be recognized in the statement of comprehensive income for the
year ended December 31, 2020?
a. 633,837
b. 500,000
c. 129,965
d. 193,500

D. If the bonds are reclassified from FVPL to FVOCI due to a change in business model in 2020

1. What is the 2021 interest income?

a. 377,545
b. 368,973
c. 500,000
d. 359,801

2. What is the unrealized gain to be recognized in other comprehensive income in 2021?

a. 106,500
b. 228,955
c. 393,500
d. 200,000

E. If the bonds are reclassified from FVPL to Amortized Cost due to a change in business model in
2020

1. What is the 2022 interest income?

a. 377,545
b. 368,973
c. 500,000
d. 359,801

2. What is the carrying amount on December 31, 2021?

a. 5,000,000
b. 4,830,823
c. 5,271,045
d. 4,910,522

F. If the bonds are reclassified from FVOCI to FVPL due to a change in business model in 2020

1. What is the gain to be recognized in profit or loss as a result of the reclassification?

a. 129,065
b. 633,837
c. 503,872
d. 0

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2. What is the unrealized gain to be recognized in profit or loss for the year ended December 31, 2021?
a. 106,500
b. 500,000
c. 139,400
d. 129,065

G. If the bonds are reclassified from FVOCI to Amortized Cost due to a change in business model in
2020

1. What is the 2021 interest income?

a. 563,535
b. 571,160
c. 579,699
d. 556,728

2. What is the carrying amount on December 31, 2021?

a. 5,000,000
b. 5,193,500
c. 4,759,663
d. 4,830,823

H. If the bonds are reclassified from Amortized Cost to FVPL due to a change in business model in
2020

1. What is the gain to be recognized in profit or loss as a result of the reclassification?

a. 129,065
b. 633,837
c. 503,872
d. 0

2. What is the unrealized gain to be recognized in profit or loss for the year ended December 31, 2021?
a. 106,500
b. 500,000
c. 139,400
d. 129,065

I. If the bonds are reclassified from Amortized Cost to FVOCI due to a change in business model in
2020

1. What is the 2021 interest income?

a. 571,660
b. 377,545
c. 579,699
d. 500,000

2. What is the cumulative unrealized gain in OCI for the year ended December 31, 2021?
a. 669,177
b. 633,837
c. 35,340
d. 589,478

END

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