Question

Tanner-UNF Corporation acquired as a long-term investment $240 million of 6% bonds, dated July 1, on July 1, 2018. The market interest rate (yield) was 8% for bonds of similar risk and maturity. Tanner-UNF paid $200 million for the bonds. The company will receive interest semiannually on June 30 and December 31. Company management has classified the bonds as available-for-sale investments. As a result of changing market conditions, the fair value of the bonds at December 31, 2018, was $210 million.

Required:

4. Suppose Moody’s bond rating agency downgraded the risk rating of the bonds motivating Tanner-UNF to sell the investment on January 2, 2019, for $190 million. Prepare the journal entries necessary to record the sale, including updating the fair-value adjustment, recording any reclassification adjustment, and recording the sale

Journal entry worksheet

Record the entry for fair-value adjustment, AFS investment.

Record the entry for reclassification adjustment

Record the sale of the investment by Tanner-UNF

Answer 1

Unrealized holding loss on AFS investments—OCI	20,000,000
Fair value adjustment		20,000,000
Fair value adjustment (account balance)	11,632,000
Reclassification adjustment—OCI		11,632,000
Cash	190,000,000
Loss on AFS investments—NI (to balance)	11,632,000
Discount on bond investment (account balance)	38368000
Investment in Masterwear bonds (account balance)		240,000,000

Cash received	Interest revenue	Discount amortization	Book value
			200
7.2	8	0.8	200.8
7.2	8.032	0.832	201.632
	January 2 2019
				Necessary Fair Value
	Security	Amortized Cost	Fair Value	Adjustment Balance
	Bonds	$                                                             201,632,000	$      190,000,000	$                (11,632,000)
			Fair Value Adjustment
		Balance as of 12/31/2018	$          8,368,000
		± Adjustment needed to update fair value	$      (20,000,000)
		Balance needed as of date of sale	$      (11,632,000)