Lecture 4 - Investments

Accounting for Investements

We approach investments from the point of view of how a company accounts for their investments in other companies.

The accounting rules depend on whether the investments are debt or equity and whether we classify them as current and non-current. They're broken down this way on the balance sheet. If there are plans to sell the investment within the next year, it's classified as current. Otherwise, it's non-current.

Current investments are assumed to be less than 20% ownership in the investee. Such investments are divided into 2 categories: Trading securities and Available for Sale securities.

Trading Securities are those investments that the company holds to make a short-term profit. Available for Sale were purchases for more long-term investment, but they have now been "marked for market", i.e. to be sold within the next year.

Investments are recorded at market rate. Since there are plans to sell them soon, the market price is the most relevant value. Investments can be written down and then written back up if the price goes back up.

At purchase, debit Investment, credit Cash.

At the end of year, if the value of the investment goes up, debit Allowance to Adjust Securities to Market (a revenue account) and credit Unrealized Gain on Securities.

If the investment value decreases, debit Unrealized Loss on Securities and credit Allowance to Adjust Securities to Market (an expense account).

This is a very controversial topic, perhaps the most controversial, in Financial Accounting today.