CHAPETR 12: INVESTMENTS

Learning Objectives
1.Demonstrate how to identify and account for investments classified for reporting
purposes as held-to-maturity.
2. Demonstrate how to identify and account for investments classified
for reporting purposes as trading securities.
3.Demonstrate how to identify and account for investments classified for reporting
purposes as available-for-sale securities.
8. Discuss the primary differences between U.S. GAAP and IFRS with
respect to investments.
NOT COVERED
4. Explain what constitutes significant influence by the investor over the
operating and financial policies of the investee.
5. Demonstrate how to account for investments accounted for under the
equity method.
6. Explain the adjustments made in the equity method when the fair value
of the net assets underlying the investment exceeds their book value.
7. Explain how electing the fair value option affects accounting for
investments.

12-2

Nature of Investments
Bonds
Bonds and
and notes
notes
(Debt
(Debt securities)
securities)

Common
Common and
and
preferred
preferred stock
stock
(Equity
(Equity securities)
securities)

Investments can be accounted for in a

variety of ways, depending on the nature
of the investment relationship.

Reporting Categories for Investments

12-3

Investor Lacks Significant Influence

12-4

Securities to Be Held to Maturity

12-5

Securities are investments in bonds or other debt security that

have a specified maturity date. The bonds or other debt are
initially recorded at cost. The investor may have the positive
intent and ability to hold the securities to maturity and
can therefore be classified as held-to-maturity (HTM).
They are reported on the balance sheet at amortized cost.

Amortized cost (Face amount less unamortized

discount, or plus unamortized premium).

Balance
Sheet

Securities to Be Held to
Maturity

12-6

On January 1, 2013, Matrix Inc. purchased as an investment

$1,000,000, of 10%, 10-year bonds, interest paid semiannually. The market rate for similar bonds is 12%. Lets look
at the calculation of the present value of the bond issue.

Amount

$
Interest 50,000

Present

PV
Factor

Value

11.469
$573,49
92
=
6

Principa 1,000,00 0.3118

PV of ordinaryl annuity of
0 $1, n = 20,i0= 6%
= 311,805
Present value of
$885,30
PV of $1, n = 20, i = 6%
bonds

Securities to Be Held to
Maturity
Partial Bond Amortization Table

January 1, 2013
Investment in bonds
Discount on bond investment
Cash
June 30, 2013
Cash (stated rate face amount)
Discount on bond investment
Investment revenue

1,000,000
114,699
885,301
50,000
3,118
53,118

12-7

Securities to Be Held to
Maturity
This investment would appear on the
June 30, 2013, balance sheet as follows:

$114,699
$114,699 -- $3,118
$3,118 == $111,581
$111,581 unamortized
unamortized discount
discount

Unrealized holding gains and losses are not

recognized for HTM investments.

12-8

Securities to Be Held to
Maturity
On December 31, 2013, after interest is received by Matrix, all the bonds
are sold for $900,000 cash.

December 31, 2013

Cash
Discount on bond investment
Investment revenue

50,000
3,305

December 31, 2013

Cash
900,000
Discount on bond investment
108,276
Investment in bonds
Gain on sale of investment

53,305

1,000,000
8,276

12-9

Trading Securities

1210

Investments in debt or equity securities acquired

principally for the purpose of selling them in the near
term.
Adjustments to fair value are recorded
1.in a valuation account called fair value adjustment, or as a
direct adjustment to the investment account.

2.as a net unrealized holding gain/loss on the income

statement.

Unrealized Gain

Unrealized Loss

Income
Statement

Trading Securities
Matrix Inc. purchased securities classified as Trading
Securities (TS) on December 22, 2013. The fair value
amounts for these securities on December 31, 2013,
are shown below. Prepare the journal entries for Matrix
Inc. to show the purchase of the securities, and adjust
the securities to fair value at 12/31/13.

Trading Securities
December 22, 2013
Investment in Mining Inc. stock
Investment in Toys and Things stock
Cash

1212

42,000
22,500
64,500

Reported
Reported on
on the
the balance
balance sheet
sheet as
as
aa adjunct
adjunct account
account to
to the
the investment.
investment.

December 31, 2013

Net unrealized holding gains and losses I/S
Fair value adjustment

The
The Net
Net Unrealized
Unrealized Holding
Holding Loss
Loss is
is
reported
reported on
on the
the Income
Income Statement.
Statement.

3,500
3,500

1213

Trading Securities
On January 3, 2014, Matrix sold all trading securities for
$65,000 cash. Lets record the entry for the sale and the
adjustment to the fair value adjustment account.
January 3, 2014
Cash
Investment in Mining, Inc. stock T/S
Investment in Toys and Things stock T/S
Gain on sale of investment

December 31, 2014

Fair value adjustment
Net unrealized holding gains or losses I/S

65,000
42,000
22,500
500

3,500
3,500

Financial Statement
Presentation
Trading securities are presented on the financial

1214

statement as follows:

1. Income Statement and Statement of Comprehensive

Income: Fair value changes are included in the income statement
in the periods in which they occur, regardless of whether they are
realized or unrealized. Investments in trading securities do not
affect other comprehensive income.
2. Balance Sheet: Securities are reported at fair value, typically as
current assets, and do not affect accumulated other
comprehensive income in shareholders equity.
3. Cash Flow Statement: Cash flows from buying and selling
trading securities typically are classified as operating
activities, because the investors that hold trading securities
consider them as part of their normal operations.

Financial Statement
Presented below are the partial financial statements showing the accounting for TS
Presentation
owned by Matrix:

1215

Securities Available-forSale
Investments in debt or equity securities that are not for active trading and not
1216

to be held to maturity are classified as available-for-sale (AFS).

Adjustments to fair value are recorded
1.in a valuation account called fair value adjustment, or as a direct
adjustment to the investment account.
2.as a net unrealized holding gain/loss in other comprehensive income
(OCI), which accumulates in accumulated other comprehensive income
(ACOI).

Unrealized
Unrealized Gain
Gain

Unrealized
Unrealized Loss
Loss

Other Comprehensive
Income (OCI)

Other Comprehensive Income

(OCI)

1217

When we add other comprehensive income to net income

we refer to the result as comprehensive income.

Accumulated Other Comprehensive

Income

1218

Unrealized holding gains and losses on available-forsale securities are accumulated in the shareholders
equity section of the balance sheet. Specifically, the
account is included in accumulated other
comprehensive income (AOCI).

Net unrealized
holding gains
and losses.

Shareholders Equity
Common stock
Paid-in capital in excess of par
Accumulated other comprehensive
income
Retained earnings
Total shareholders equity

Securities Available for Sale

Example

1219

Assume the same information for our T/S

example for Matrix Inc., except that the
investments are classified as available-forsale securities rather than trading securities.

December 31, 2013

Net unrealized holding gains and losses OCI
Fair value adjustment

3,500
3,500

Financial Statement
Presentation
AFS securities are
presented on the financial statement as
follows:

1220

Income Statement and Statement of Comprehensive Income:

Realized gains and losses are shown in net income in the period in
which securities are sold. Unrealized gains and losses are shown in OCI
in the periods in which changes in fair value occur, and reclassified out
of OCI in the periods in which securities are sold.
Balance Sheet: Investments in AFS securities are reported at fair
value. Unrealized gains and losses affect AOCI in shareholders equity,
and are reclassified out of AOCI in the periods in which securities are
sold.
Cash Flow Statement: Cash flows from buying and selling AFS
securities typically are classified as investing activities.

U. S. GAAP vs. IFRS

1221

Until recently, IFRS did not allow transfers out of their Fair Value
through Profit and Loss (FVTPL) classification.

U.S. GAAP also allows

transfers out of the trading
security category.
Reclassifications under U.S.
GAAP are rare.

IAS No. 39 now allows

transfer of debt investments
out of the fair value category
into AFS or HTM in rare
circumstances.
The current financial crisis
qualified as one of those
circumstances.

U. S. GAAP vs. IFRS

1222

IFRS No. 9 eliminates the HTM and AFS classifications, replaced by new classifications
that are more restrictive. This has the general effect of pushing more investments into
being accounted for at Fair Value Through Profit & Loss (FVTPL), and thus having
unrealized gains and losses included in net income.

U.S. GAAP permits classification

as HTM, AFS, and TS.

No significant tests are

required to classify a debt
investment.

There is no comparable
FVTPL or FVTOCI
classification.

Investments in debt securities are

classified as either Amortized
Cost or FVTPL.
To be classified as a debt
investment, two important
tests must be met. The current
financial crisis qualified as one of
those circumstances.
Investments in equity securities
are classified as either FVTPL
or FVTOCI (Fair Value through
Other Comprehensive Income).

Transfers Between Reporting Categories

Any unrealized holding gain or loss at reclassification should be accounted for in a manner
consistent with the classification into which the security is being transferred. Securities are
transferred at fair market value on the date of transfer.

1223

Impairment of Investments

1224

Occasionally, an
investments value will
decline for reasons that
are other-thantemporary (OTT).
For HTM and AFS investments, a company recognizes
an OTT impairment loss in earnings. Determining an
other than temporary decline for debt securities can
be quite complex. For both equity and debt
investments, after an OTT impairment is recognized, the
ordinary treatment of unrealized gains and losses is
resumed.

U. S. GAAP vs. IFRS

1225

Until recently, IFRS did not allow transfers out of the fair value
through P&L (FVTPL) classification (which is roughly
equivalent to the trading securities classification in U.S. GAAP).

U.S. GAAP has no

prohibition against
transfers between
categories as long as they
can be reasonably justified.

Under IAS No. 39 transfers of

debt investments out of the
FVTPL category into AFS or
HTM in rare circumstances.
The 2008 financial crisis
qualifies as one of those
rare circumstances.

Financial Statement Presentation

and Disclosure

1226

Aggregate
Fair Value

Gross realized
& unrealized
holding gains &
losses

Maturities of
debt securities

Amortized cost
basis by major
security type

Change in net
unrealized
holding gains
and losses

Inputs to fair
value
estimates

Investor Has Significant Influence

1227

Investor Has Significant

Influence
Extent of Investor Influence

Reporting Method

Lack of significant influence

(usually < 20% equity ownership)

Varies depending on
classification
previously discussed

Significant influence
(usually 20% - 50% equity
ownership)

Equity method

Consolidation
Has control
(usually > 50% equity ownership)

1228

What Is Significant Influence?

1229

IfIf an
an investor
investor owns
owns 20%
20% of
of the
the voting
voting stock
stock of
of an
an investee,
investee, itit is
is presumed
presumed
that
that the
the investor
investor has
has significant
significant influence
influence over
over the financial and operating
operating
policies
policies of
of the
the investee.
investee. The
The presumption
presumption can
can be
be overcome
overcome ifif
1.the
1.the investee
investee challenges the
the investors
investors ability
ability to
to exercise
exercise significant
significant
influence
influence through
through litigation
litigation or
or other
other methods.
methods.
2.the
2.the investor
investor surrenders
surrenders significant
significant shareholder
shareholder rights
rights in
in aa signed
signed
agreement.
agreement.
3.the
3.the investor
investor is
is unable
unable to
to acquire
acquire sufficient
sufficient information
information about
about the
the investee
investee
to
to apply
apply the
the equity
equity method.
method.
4.the
4.the investor
investor tries
tries and
and fails
fails to
to obtain
obtain representation
representation on
on the
the board
board of
of
directors
directors of
of the
the investee.
investee.

A Single Entity Concept

1230

Under
Underthe
theequity
equitymethod
method .. .. ..

1.The
1.Theinvestor
investorrecognizes
recognizesinvestment
investmentincome
incomeequal
equaltotoits
its
percentage
percentageshare
share(based
(basedon
onstock
stockownership)
ownership)ofofthe
thenet
netincome
income
earned
earnedby
bythe
theinvestee
investeerather
ratherthan
thanthe
theportion
portionofofthat
thatnet
net
income
incomereceived
receivedas
ascash
cashdividends.
dividends.

2.Initially,
2.Initially,the
theinvestment
investmentisisrecorded
recordedatatcost.
cost.The
Thecarrying
carrying
amount
amountofofthis
thisinvestment
investmentsubsequently
subsequentlyis:
is:
Increased
Increasedby
bythe
theinvestors
investorspercentage
percentageshare
shareof
ofthe
the
investees
investeesnet
netincome
income(or
(ordecreased
decreasedby
byits
itsshare
shareofofaa
loss).
loss).
Decreased
Decreasedby
bydividends
dividendspaid.
paid.

Equity Method

1231

On January 1, 2013, Wilmer Inc. acquired 45% of

the equity securities of Apex Inc. for $1,350,000.
On the acquisition date, Apexs net assets had a
fair value of $3,000,000. During 2013, Apex paid
cash dividends of $150,000 and reported net
income of $1,750,000.
What amount will Wilmer Inc. report on the balance sheet
as Investment in Apex Inc. on December 31, 2013?

Equity Method

January 1, 2013
Investment in Apex Inc. stock
Cash

2013
Investment in Apex Inc. stock
Investment revenue

2013
Cash

1232

1,350,000
1,350,000

787,500
787,500

67,500
Investment in Apex Inc. stock

67,500

1233

Equity Method
Investment in Apex Inc.
Investment

1,350,000

45% Earnings

787,500

67,500 45% Dividends

Reported amount 2,070,000

If the investee had a loss,
the investment account
would have been
reduced with a credit.

Equity Method
On January 1, 2013, Wilmer Inc. purchased 25% of the
common stock of Apex Inc. for $180,000. At the date of
acquisition, the book value of the net assets of Apex was
$400,000, and the fair value of these assets is $600,000.
During 2013, Apex paid cash dividends of $40,000, and
reported earnings of $100,000.

1234

Equity Method

1235

The excess of the fair value of net assets over book value of
those net assets is 75% attributable to depreciable assets with a
remaining life of 20 years and is 25% attributable to land. Wilmer
uses the straight-line depreciation.

Equity Method
January 1, 2013
Investment in Apex stock
Cash
2013
Cash

1236

180,000
180,000
10,000

Investment in Apex stock

Investment in Apex stock
Investment revenue
December 31, 2013
Investment revenue
Investment in Apex stock

10,000
25,000
25,000
1,875
1,875

Changing From the Equity Method

to Another Method

1237

When the investors level of influence changes, it may

be necessary to change from the equity method to
another method.

At the transfer
date, the
carrying value
of the investment
under the equity
method is
regarded as cost.

Changing from Another Method to

the Equity Method

1238

When the investors ownership level increases to

the point where they can exert significant
influence, the investor should change to the
equity method.
At the transfer date, the recorded value is the
initial cost of the investment adjusted for the
investors equity in the undistributed earnings
of the investee since the original investment.

Changing from Another Method to

the Equity Method

1239

The original cost, the unrealized holding gain or

loss, and the valuation account are closed.
A retroactive change is recorded to recognize
the investors share of the investees
earnings since the original investment.

Fair Value Option

1240

GAAP
GAAP allows
allows companies
companies to
to use
use aa fair
fair value
value option
option for
for HTM,
HTM, AFS,
AFS, and
and
equity
equity method
method investments.
investments.
The
The investment
investment is
is carried
carried at
at fair
fair value.
value.
Unrealized
Unrealized gains
gains and
and losses
losses are
are included
included in
in income.
income.

For
For HTM
HTM and
and AFS
AFS investments,
investments, this
this amounts
amounts to
to classifying
classifying the
the
investments
investments as
as trading.
trading.
For
For equity
equity method
method investments,
investments, the
the investment
investment is
is still
still classified
classified on
on the
the
balance
balance sheet
sheet with
with equity
equity method
method investments,
investments, but
but the
the portion
portion at
at fair
fair
value
value must
must be
be clearly
clearly indicated.
indicated.
The
The fair
fair value
value option
option is
is determined
determined for
for each
each individual
individual investment,
investment, and
and
is
is irrevocable.
irrevocable.

Financial Instruments and

Investment Derivatives

1241

Financial
Financial Instruments:
Instruments:

Investment
Investment Derivatives:
Derivatives:

1.
1.Cash.
Cash.
2.
2.Evidence
Evidence of
of an
an
ownership
ownership interest
interest in
in an
an
entity.
entity.
3.
3.Contracts
Contracts meeting
meeting
certain
certain conditions.
conditions.

1.
1. Value
Value is
is derived
derived from
from
other
other securities.
securities.
2.
2. Derivatives
Derivatives are
are often
often
used
used to
to hedge
hedge (offset)
(offset)
risks
risks created
created by
by other
other
investments
investments or
or
transactions
transactions

Appendix 12A Other

Investments

1242

It is often convenient for companies to set aside money to be

used for specific purposes. In the short-term, funds may be set
aside for
1.Petty cash funds.
2.Payroll accounts.
In the long-run, funds are often set aside to:
1.Pay long-term debt when it comes due.
2.Acquire treasury stock.
Special purpose funds set aside for the long-term are classified
as investments.

Appendix 12A Other

Investments

It is a common practice for companies to purchase

life insurance policies on key officers. The
company pays the premium and is the beneficiary
of the policy. If the officer dies, the company
receives the proceeds from the policy. Some types
of policies build a portion of each premium as cash
surrender value. The cash surrender value of such
a policy is classified as an investment on the
balance sheet of the company.

1243

Appendix 12B Impairment of

Investments
If the fair value of an investment declines to a level below
cost, and that decline is not viewed as temporary, companies
typically have to recognize an other-than-temporary (OTT)
impairment loss in earnings.
We use a three-step process to determine whether an OTT
impairment loss must be recognized: (1) determine if the
investment is impaired, (2) determine whether any
impairment is OTT, and (3) determine where to report the
OTT impairment.

1244

Appendix 12B Impairment of

Investments

1245

Appendix 12B Impairment of

Investments

1246

Appendix 12B Impairment of

Investments
United Intergroup, Inc., buys and sells both debt and equity securities of

1247

other companies as investments. Uniteds fiscal year-end is December 31.

The following events during 2013 and 2014 pertain to the investment
portfolio.
Purchase Investment: July 1, 2013, $1,000,000 of Bendac common stock.
Adjust Investment to Fair Value:
December 31, 2013: Valued the Bendac stock at $990,000 and
determined that the decline in FV should not be treated as an OTT
impairment.
December 31, 2014 : Valued the Bendac stock at $985,000 and
determined that the decline in FV should be treated as an OTT
impairment
December
31, 2013
The journal entries to record the adjustments of the Bendac stock
Net unrealized
gainsare:
and losses OCI
10,000
investmentholding
to fair value

Fair value adjustment

December 31, 2014

Other-than-temporary impairment loss I/S
Investment in Bendac

10,000

15,000
15,000

Fair value adjustment

10,000
Net unrealized holding gains and losses OCI
10,000

Appendix 12B Impairment of

Investments

1248

United Intergroup, Inc., buys and sells both debt and equity
securities of other companies as investments, and classifies these
investments as AFS. Uniteds fiscal year-end is December 31. The
following events occurred during 2014:
Purchase Investment: July 1, 2014, $1,000,000 of Bendac
bonds, maturing on December 31, 2019.
Adjust Investment to Fair Value: December 31, 2014, valued
the Bendac bonds at $950,000. Of the $50,000, impairment,
$30,000 is credit loss and $20,000 is noncredit loss.
Case 1: United either plans to sell the investment or believes it is
more likely than not that it will have to sell the investment before
fair value recovers.
Case 2: United does not intend to sell the investment and does not
believe it is more likely than not that it will have to sell the Bendac
investment before fair value recovers, but estimates that $30,000 of
Lets look at the necessary journal entries in these two cases.
credit losses have occurred.

Appendix 12B Impairment of

Investments
Case 1
December 31, 2014
OTT impairment loss I/S
Discount on bond investment

50,000
50,000

Case 2
December 31, 2014
OTT impairment loss I/S
Discount on bond investment
OTT impairment loss - OCI
Fair value adjustment Noncredit loss

30,000
30,000
20,000
20,000

1249

U. S. GAAP vs. IFRS

1250

Under IAS No. 39, companies recognize OTT impairments if there exists
objective evidence of impairment. Objective evidence must relate to one or
more events occurring after initial recognition of the asset that affect the future
cash flows that are going to be generated by the asset.

U.S. GAAP recognizes in

OCI any non-credit
losses on debt
investments.

Calculation of the amount of

impairment differs depending on
the classification of an
investment.
Under IFRS, an OTT impairment
for a debt investment is likely to
be larger if it is classified as AFS
than if it is classified as HTM,
because it includes the entire
decline in fair value if classified
as AFS but only the credit loss if
classified as HTM.

Investments:
A Chapter Supplement

1251

Supplement to Chapter 12
The FASB and the IASB are collaborating on several major new standards
designed in part to move U.S. GAAP and IFRS closer together. This Supplement
discusses the FASBs Exposure Draft of a proposed Accounting Standards
Update (ASU) that addresses accounting for financial instruments and tentative
decisions of the Board after receiving feedback
PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA
Cynthia J. Rooney, Ph.D., CPA

Copyright2013byTheMcGrawHillCompanies,Inc.Allrightsreserved.

GAAP vs. Proposed Accounting Standard

Update
1252

Accounting for Equity

Investments
Determining how to account for equity investments in stock under

1253

the proposed ASU is easy. If the investor does not have

significant influence over the investee, the equity investment is
accounted for as FV-NI. If the investor has significant influence
over the investee, but lacks control, the equity method is
used. If the investor has control, the investment is
consolidated.
Under
Under current
current GAAP,
GAAP,
the
the investor
investor accounts
accounts
for
for the
the equity
equity
investment
investment as
as aa
trading
trading or
or as
as an
an AFS
AFS
security.
security.

Under
Under the
the ASU
ASU an
an equity
equity
investment
investment always
always is
is
treated
treated as
as FV-NI
FV-NI
(equivalent
(equivalent to
to being
being
accounted
accounted for
for as
as aa
trading
trading security).
security).

Accounting for Debt

Investments

1254

Determining
Determining how
how to
to account
account for
for debt
debt investments
investments under
under the
the
proposed
proposed ASU
ASU is
is more
more complicated
complicated than
than accounting
accounting for
for equity
equity
investments.
investments. Under
Under the
the proposed
proposed ASU
ASU we
we base
base classification
classification of
of
debt
debt investments
investments on
on two
two criteria:
criteria:
1.The
1.The characteristics
characteristics of
of the
the debt
debt instrument.
instrument.
2.The
2.The business
business activity
activity in
in which
which the
the instrument
instrument is
is used.
used.
We
We discuss
discuss each
each of
of the
the criteria
criteria in
in turn.
turn.

Characteristics of a Simple Debt Instrument

1.An amount is transferred to the borrower (debtor) when the debt

instrument is issued that will be returned to the lender (creditor) when the
debt matures or is settled. The amount is the principal or face amount of
the debt adjusted for any discount or premium.
2.The debt cannot be prepaid or settled in such a way that the lender does
not recover substantially all of its original investment, unless the lender
chooses to allow it.
3.The debt instrument is not a derivative.

Accounting for Debt

Investments

Characteristics of a Complex Debt

Instrument
Debt that lacks one or more of the characteristics of
simple debt is considered complex. Under the
proposed ASU, debt that is complex always is
classified as fair value in net income.

1255

Business Purpose of a Debt

Instrument
For simple debt, we next must consider the
business activity that motivates the investor to hold
the debt. The proposed ASU identifies three
primary business activities as
1.lending,
2.long-term investing, or
3.held for sale.

1256

The debt holders purpose is lending

or customer financing with a focus on
collecting cash flows (interest and
principal). The debt holder must have
the ability to renegotiate, sell, or
settle the debt to minimize losses due
to a borrower's deteriorating credit.
The appropriate accounting approach
is amortized cost.

Business Purpose of a Debt

Instrument
For simple debt, we next must consider the
business activity that motivates the investor to hold
the debt. The ASU identifies three primary business
activities as
1.lending,
2.long-term investing, or
3.held for sale.
The debt holder may choose to hold on to
the debt investment or sell it as a way of
either (a) maximizing its return on
investment or (b) managing risk. The
appropriate accounting approach is Fair
Value Other Comprehensive Income
(FV-OCI)

1257

Business Purpose of a Debt

Instrument

For simple debt, we next must consider the

business activity that motivates the investor to hold
the debt. The ASU identifies three primary business
activities as
1.lending,
2.long-term investing, or
3.held for sale.
For the business purpose to be
classified as held for sale, the
debt instrument is either (a) held
for the purpose of being sold or
(b) actively managed internally
on a fair value basis. The
appropriate accounting approach
is Fair Value Net Income.

1258

Summary of Classification
Criteria

The proposed ASU does not allow transfers of

debt from one category to another. After the
debt is initially classified, reclassifications are not
permitted.

1259

Impairments When the Investor

Does Not Exercise Significant
Influence

Because equity investments are reported at FV-NI, no

impairment guidance is necessary. The same is true
for debt investments recorded at FV-NI. Declines in
fair value always are reported in net income.
However, for debt investments reported at
amortized cost or at FV-OCI, impairment losses
are possible. Lets look at the three-bucket
approach currently under consideration.
1
Investments not affected
by observed events.

2
Investments affected by
observed events (but
individual defaults have
not been identified).

3
Individual debt
investments suffering
credit losses.

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Debt Impairment (continued)

1261

Objective: Use expected value (probability-weighted average)

of losses of principal and interest on a discounted basis.
Time horizon of estimated losses:
Bucket 1: over near term (say, 1-2 years).
Buckets 2 and 3: over remaining life of investment.
No impairment upon acquisition of distressed debt (interest
based on expected cash flows rather than contractual cash
flows).

Equity Method
The criteria for applying the equity method are the
same in the ASU as in current GAAP. If a company is
holding an investment for sale that normally would
qualify for the equity method, the investment is
accounted for as FV-NI.
If
If facts
facts indicate
indicate an
an impairment
impairment in
in value
value of
of
an
an equity
equity method
method investment,
investment, the
the investor
investor
recognizes
recognizes an
an amount
amount equal
equal to
to the
the
difference
difference between
between the
the investments
investments
carrying
carrying value
value and
and its
its fair
fair value.
value. If
If fair
fair value
value
increases
increases in
in the
the future,
future, the
the impairment
impairment
cannot
cannot be
be reversed.
reversed.

1262