Question: Octavio Corp. prepares financial statements
Octavio Corp. prepares financial statements annually on December 31, its fiscal year end. The company follows IFRS. At December 31, 2020, the company has the account Investments in its general ledger, containing the following debits for investment purchases, and no credits:
The fair values of the individual securities on December 31, 2020, were:
Instructions
(Round amounts to the nearest dollar.)
a. Prepare the entries necessary to correct any errors in the Investments account, assuming that the Government of Canada bonds were being managed for their yield to maturity, and that the Monet bonds were acquired with the hope of gaining from falling interest rates. The Chiang Corp. shares were acquired with the hope of ensuring the supply of raw materials from this company in the future. Octavio tracks interest income for all debt investments.
b. Prepare the entries required to record any accrued interest, amortization of any premium or discount, and recognition of fair values on December 31, 2020.
c. During 2021, the following transactions took place:
1. The note was sold on February 1, 2021, for $59,600.
2. The Government of Canada bonds were sold on July 1, 2021, for $109,200 plus accrued interest. Prepare entries to record these transactions.
d. Using the information from parts (a) and (b), assume that the note was not sold on February 1, 2021 , but instead was held until it matured. Provide the proper entry to record the disposal of the note at maturity.
e. Assume that Octavio Corp. is a private entity and applies ASPE. Identify which, if any, of your answers to parts (a) to (d) would change under this assumption. Explain briefly.
f. Can Octavio's management choose which standards to follow, or is it restricted by the type of company it is? Explain.
Answer:
a. It is first necessary to determine the proper accounting treatment for each individual investment. The Chiang Corp. common shares are an investment in an equity instrument that is not held for trading purposes and thus would likely be accounted for using the FV-OCI model.
The Government of Canada bonds and the note investment should be accounted for at cost/amortized cost since they are being managed for their yield to maturity. The Government of Canada bonds would be accounted for at cost, since there is no difference between the stated interest rate and the market rate. The purchase price of the bonds was the same as their face value so there is no need to amortize any premium or discount. The note investment should be accounted for at amortized cost since it is being managed for its yield to maturity. Although the note says that it is non-interest-bearing, it was purchased to yield 10% interest, and the resulting discount from its face value must be amortized over the life of the note using the effective interest method. Be aware that the accounting standards refer to both the cost and amortized cost valuation methods as “at amortized cost.â€
The Monet bonds should be accounted for using the FV-NI model (with interest not reported separately according to the company policy) as they are being managed based on their fair value in the hopes of trading them when their market value increases as interest rates fall.
Interest Receivable
($50,000 X 1.08) – ($56,000)   2,000
FV-OCI Investments 37,400
Bond Investment at Amortized Cost 100,000
FV-NI Investments 54,000
Note Investment at Amortized Cost 57,143
Investments 250,543
The investment in Monet Corp. bonds is corrected to separate the interest purchased from the price of the bond. The Interest Income account could have been debited instead of the Interest Receivable as long as it was also credited later when the full interest is received.
e. If Octavio Corp. was a private entity following ASPE, then the Chiang Corp. common shares would have to be accounted for using fair value through net income (since ASPE does not have an FV-OCI option), or at cost, if the Chiang shares do not trade in an active market.
Under ASPE, the straight-line method of determining interest could be used instead of the effective interest method, and the interest income on the Monet bonds would have to be accounted for and reported separately from other types of investment income.
f. A public company must follow IFRS. However, a private company can choose to follow either IFRS or ASPE.
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