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TL Company bought a $1,000,000 bond at par which trades actively on January 1, 2018. This...

TL Company bought a $1,000,000 bond at par which trades actively on January 1, 2018. This bond’s market value was $900,000 on December 31, 2018 when TL closed its books. The CFO however expected the bond to recover its value before it matured. TL’s 2018 income was $5,000,000 before any adjustments for changes in the market value of this bond. It sold the bond on February 1, 2019 for $1,200,000.

What value would TL show the bond on its Dec 31 balance sheet and what would its 2018 income be after including the change in the bond’s value under each of the following assumptions?

Assume TL bought the bond intending to sell it at a profit during the year.

            Net book value of the bond?____   

            Net income $____                 

Assume TL bought the bond intending to hold it to maturity but would be willing to sell it.

            Net book value of the bond?____     

            Net income $____                             

Assume TL bought the bond for its interest payments and decided to hold the bond until it matured.

            Net book value of the bond?____     

            Net income $____                             

How much gain on sale would TL report under each of the assumptions above?

  1. $____      
  2. $ ____      
  3. $____

Solutions

Expert Solution

Jan 1,2018 Purchase price of the bond 1000000
31-Dec-18 Market value of the bond 900000
31-Dec-18 Net income 5000000
Feb 1,2019 Sale of the bond 1200000
a. Assume TL bought the bond intending to sell it at a profit during the year.
This is an investment in trading security
            Net book value of the bond 900000
            Net income (5000000-(1000000-900000))=                 4900000
(Unrealised holding loss debited to the Income statement of the year)
b.Assume TL bought the bond intending to hold it to maturity but would be willing to sell it.
This is an investment in Available For Sale security
            Net book value of the bond 900000
            Net income         5000000
In this case,
(Unrealised holding loss will be debited to the Other Comprehensive Income(OCI) under Stockholders' Equity ,on the liability side of the Balance sheet & Credit to Fair Value Adjustment of the security)
c.Assume TL bought the bond for its interest payments and decided to hold the bond until it matured.
This is an investment in Held To Maturity security
            Net book value of the bond 1000000
            Net income         5000000
(Held till maturity /sale whichever is earlier . Fair value changes are neither recorded nor reflected.)
a.Gain on sale(1200000-900000) 300000
b.Gain on sale(1200000-900000) 300000
c.Gain on sale(1200000-100000) 1100000

jeff jeffy answered 1 year ago
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