Question

In: Accounting

Tanner-UNF Corporation acquired as a long-term investment $320 million of 4% bonds, dated July 1, on...

Tanner-UNF Corporation acquired as a long-term investment $320 million of 4% bonds, dated July 1, on July 1, 2021. Company management has the positive intent and ability to hold the bonds until maturity, but when the bonds were acquired Tanner-UNF decided to elect the fair value option for accounting for its investment. The market interest rate (yield) was 6% for bonds of similar risk and maturity. Tanner-UNF paid $290 million for the bonds. The company will receive interest semiannually on June 30 and December 31. As a result of changing market conditions, the fair value of the bonds at December 31, 2021, was $300 million.

Required:
1. How would this investment be classified on Tanner-UNF's balance sheet?
2. to 4. Prepare the journal entry to record Tanner-UNF’s investment in the bonds on July 1, 2021, interest on December 31, 2021, at the effective (market) and fair value changes as of December 31, 2021.
5. At what amount will Tanner-UNF report its investment in the December 31, 2021, balance sheet?
6. Suppose Moody's bond rating agency downgraded the risk rating of the bonds motivating Tanner-UNF to sell the investment on January 2, 2022, for $280 million. Prepare the journal entries to record the sale.

Solutions

Expert Solution

Answer :

1) In the question it is provided that management has the positive intent and ability to hold the bonds until maturity, but when the bonds were acquired Tanner-UNF decided to elect the fair value option for accounting for its investment. When fair value option method is used for accounting of Investments the concerned asset will be Classified as Trading securities.

So this investment will be classified as Trading Securities on Tanner-UNF's balance sheet.

2) to 4) Journal entries to record Tanner-UNF’s investment in the bonds on July 1, 2021, interest on December 31, 2021, and fair value changes as of December 31, 2021.   

Date Journal Debit Credit
July 1,2021 Investment in bonds $        320,000,000
Discount on bond investment $          30,000,000
Cash $        290,000,000
(To record the Investmet in bonds)
December 31,2021 Cash $             6,400,000
Discount on bond investment $             2,300,000
Interest revenue $             8,700,000
( To record the Interest on December 31,2021)
December 31,2021 Fair value adjustment $             7,700,000
Net unrealized holding gains $             7,700,000
( To record fair value changes as of December 31,2021)

Notes : a) Calculation of Interest revenue earned and Interest received as on December 31,2021

Interest revenue on Investment= $ 290,000,000 x 6/2% = 8,700,000

Cash received for interest = $ $ 320,000,000 x 4/2% = 64,000,000

b) Calculation of Fair value adjustment and Net unrealized holding gains as on December 31,2021

Fair value of bond as on December 31,2021 = $300,000,000

Carrying value of bond as on December 31,2021 = $320,000,000 - 30,000,000 + 2,300,000 = $ 292,300,000

Net unrealized holding gains = $ 300,000,000 - $ 292,300,000 = $ 7,700,000

5) On December 31, 2021, Tanner-UNF report its investment at Fair value which is $ 300 million

6) Journal entries to record the sale of bonds.

Date Journal Debit Credit
January 2,2022 Cash $        280,000,000
Loss on sale of investments $          12,300,000
Discount on bond investment $          27,700,000
Investment in bonds $        320,000,000
( To record the sale of bonds)
January 2,2022 Net unrealized holding gains $             7,700,000
Fair value adjustment $             7,700,000
( to record fair value adjustment)

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