Question

Fuzzy Monkey Technologies, Inc., purchased as a long-term investment $80 million of 6% bonds, dated January 1, on January 1, 2018. Management has the positive intent and ability to hold the bonds until maturity. For bonds of similar risk and maturity the market yield was 8%. The price paid for the bonds was $64 million. Interest is received semiannually on June 30 and December 31. Due to changing market conditions, the fair value of the bonds at December 31, 2018, was $70 million.

Required:
1. to 3. Prepare the relevant journal entries on the respective dates (record the interest at the effective rate).
4. At what amount will Fuzzy Monkey report its investment in the December 31, 2018, balance sheet?
5. How would Fuzzy Monkey's 2018 statement of cash flows be affected by this investment?

Answer 1

1. Journal entry for investment on Jan 1

Investment in bond a/c debit 8,00,00,000

To Discount on bond investment 1,60,00,000

To Cash/ Bank a/c     6,40,00,000

(Being long term bond purchases on discounted price)

Date	Interest @ 3% on 8,00,00,000	Effective Interest @ 4%	Discount Amortisation	Balance
Jan-01				6,40,00,000
Jun-30	24,00,000	25,60,000	1,60,000	6,41,60,000
Dec-31	24,00,000	25,66,400	1,66,400	6,43,26,400

2. Journal Entry for Interest received June 30

Cash/Bank a/c debit 24,00,000

Discount on bond investment debit 1,60,000

To Interest revenue a/c credit 25,60,000

(Being interest received semiannually @ 8%)

3. Journal Entry for Interest received Dec 31

Cash/Bank a/c debit 24,00,000

Discount on bond investment debit 1,66,400

To Interest revenue a/c credit 25,66,400

(Being interest received semiannually @ 8%)

4. Fuzzy Monkey will report the investment at its fair value of $70 million. The reason for this is that the investment will be classified as a trading security

Investment in bonds		8,00,00,000
Discount on bonds
Jan-01	1,60,00,000
Jun-30	-1,60,000
Dec-31	-1,66,400	-1,56,73,600
Balance on Dec -31		6,43,26,400
Fair Value on Dec -31		7,00,00,000
Fair Value Adjustment		56,73,600

Fair value adjustment debit 5,673,600

Unrealized holding gain a/c credit 5,673,600

(Being unrealised gain recorded)