Question

Tanner-UNF Corporation acquired as a long-term investment $260 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 $220 million for the bonds. The company will receive interest semiannually on June 30 and December 31. Company management is holding the bonds in its trading portfolio. As a result of changing market conditions, the fair value of the bonds at December 31, 2018, was $230 million.

Required:
1. & 2. Prepare the journal entry to record Tanner-UNF’s investment in the bonds on July 1, 2018 and interest on December 31, 2018, at the effective (market) rate.
3. Prepare any additional journal entry necessary for Tanner-UNF to report its investment in the December 31, 2018, balance sheet.
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 $200 million. Prepare the journal entries to record the sale.

1.

1.Investment in Bonds	260
Discount on Bond Investment		40
Cash		220
Cash	7.8
Discount on bond investment	1.0
Interest revenue		8.8

(These two JE boxes are correct). :) See bold box below!

1. Fair Value Adjustment	9.0
Unrealized Holding Gain - NI		9.0

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 $200 million. Prepare the journal entries to record the sale.

1. Unrealized Holding Loss-NI	?????
Fair Value Adjustment		???????
2. Cash	??????
Fair Value Adjustment		????????

Answer 1

The correct journal entries along with amount for requirement no. 4 is as under:

Event	Particulars	Debit	credit
1	Cash	200
	Loss on sale of investment	21
	Discount on bond investment(40- 1)	39
	To Investment in bonds		260
2	Unrealized holding loss NI	9
	To fair value adjustment		9

For Discount on bond investment amount, we have seen in that it has a credit balance of $40 million and debit balance of $1 million. Hence net credit balance of $39. this is to be reversed to close the account. Hence $39 million debit effect is given.

Investment sold at $200 million. Hence cash a/c DR $200 million.

Loss on sale of investment $21 million is a balancing amount.

Next journal entry is also reversal of earlier journal entry i.e. Unrealized holding loss DR and fair value adjustment CR. in order to nullify the effect.

The rest of the journal entries , as stated in the question, are correct.

Hope this helps!