Principles of Accounting: Chapter Nine

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Chapter Summary

Chapter 9 covers the fundamental principles applicable to accounting for long-term investments. The specific method of accounting for a particular investment is largely governed by the intent of the investment. Investments may be acquired for their cash flow yields, to establish influence or control, and other reasons. The table presented near the beginning of the chapter summarizes the various scenarios and the applicable accounting. This table is followed by a detailed discussion of the accounting methods for the various alternatives. Be aware that entities may elect to apply a fair-value measurement option for many of their investments.

The final portion of the chapter introduces accounting for business combinations. A combination occurs when one company obtains a controlling ownership interest over another. The financial statements of both enterprises must be "consolidated" into a single set of financial statements. These statements frequently reflect goodwill and revised values for the subsidiary's assets and liabilities, based on the fair value of the acquired company as of the acquisition date.

To aid in your understanding of this chapter, exercises with solutions are available for free download at Bookboon.com. You will find these exercises very helpful in providing models and guidelines for solving all of the problems at principlesofaccounting.com.

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Objectives: Chapter Nine

The following learning objectives for this chapter map to the curriculum design for our online university-level courses. These courses are offered through Utah State University, and result in the awarding of up to 6 hours of highly transferrable college credit. To learn more, check out the classroom link.

How intent influences the accounting for investments.

What are the general rules for deciding which method is used to account for an investment in the stock of another company?

Understand how intent influences the accounting technique for a particular investment.

Describe the basic accounting approaches and guidelines for assessment relating to different types of investments.

Know about the fair value option for measuring and reporting investments.

The accounting for "available for sale" securities.

Recall the accounting for trading securities from an earlier chapter.

Understand the nature of Other Comprehensive Income.

Have a broad concept of income reporting principles, as comprehended by the "all inclusive" approach.

Describe the method of accounting for available-for-sale securities, and be able to provide a comprehensive illustration.

Be able to describe how available-for-sale securities impact the financial statements, especially with changes in value.

Accounting for securities that are to be "held to maturity."

How should an initial investment in a bond be recorded?

What is meant by the amortized cost method?

Know the meaning of bond terminology, including "issue price," "face (or par)," "premium," and "discount."

Note that the recorded bond investment account includes the amount of premium or discount (a separate account is not used).

Be able to record bond interest income.

Understand why it is necessary to amortize a premium or discount on a bond investment.

Be able to apply the straight-line method of amortization.

Be able to account for the full life cycle of a bond investment, including situations involving premiums and discounts.

Special accounting for certain investments that require use of the "equity method."

Describe the equity method of accounting for an investment in stock, and be able to provide a comprehensive illustration.

What is the rationale for the equity method?

Investments that result in consolidated financial statements.

Know when and why consolidation is necessary.

Know that the purchase price for a subsidiary may differ from the subsidiaries recorded equity.

Know that the excess of the fair value of an acquired entity, over its recorded equity, is know as "purchase differential."

Understand why purchase differential arises, and how it is handled in the consolidation framework.

Be able to explain goodwill?

What accounts appear in a consolidated balance sheet, and how is the reported amount for each account determined?

Have a basic knowledge of the consolidating worksheet.

Have a basic understanding of the nature of amounts reported in a consolidated income statement.

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