The Intermediate Accounting Vol 1,

2019 Edition, Robles and Empleo

Chapter 3: Investments in Debt Securities

and other non-current financial assets
 Nature and Definition of Investments
 Investments are assets not directly identified with the central
revenue producing activities of the enterprise, but are acquired
for any of the ff. purposes:
1.) to earn a return on idle cash balance;
2.) to establish long-term relationship with suppliers and
customers;
3.) to exercise significant influence or control over another entity;
4.) to accumulate funds for future use;
5.) for capital appreciation; or
6.) for future protection

2
 Nature and Definition of Investments
 Investments are classified as either short term or
long term depending on management’s intent.
 Investments include investment in securities, whether
equity or debt securities, funds for long-term use
(e.g. plant expansion fund, equipment acquisition
fund, stock redemption fund and sinking fund,
investment property and cash surrender value of life
insurance policies).

3
 Investments in Securities
 Securities are either equity securities or debt securities.
 Equity securities are those that represent ownership in a
company or rights to acquire ownership interests at an agreed-
upon or determinable price. (e.g. preference shares, ordinary
shares, share warrants or stock rights, call options and put
options)
 Debt securities are instruments representing a creditor
relationship with an enterprise. (e.g. Philippine treasury bills
and warrants, corporate bonds, convertible debt and commercial
papers)

4
 Investments in Debt Securities
 Debt securities are financial instruments issued by a
company that typically have the ff. characteristics:
(a) A maturity value;
(b) Periodic interest payments based on a rate specified in the
instrument; and
(c) A maturity date
 Typical examples of debt securities are bond certificates
and treasury notes. Bond certificates are certificates of
indebtedness issued by a company or government agency
guaranteeing payment of a principal amount plus periodic
interest at a specified future date.
5
 Investments in Debt Securities
 Debt securities, such as bonds, may sell at a price different
from the face value of the instruments. The bond’s market
value is a result of an interaction of a variety of forces such
as the risk relating to the bonds, the credit image of the
issuing corporation, current interest rates, expected future
interest rates, and the stated rate of interest on the
investment.
Stated rate > Market rate Bonds sell at a premium
Stated rate < Market rate Bonds sell at a discount
Stated rate = Market rate Bonds sell at face value

6
 Investments in Debt Securities
 Illustration: Assume a 5-year, P1,000,000, 15% XYZ Company
bonds are purchased. The effective interest rate for similar bonds
is 12%. Interest on the bonds is payable semi-annually.
Present value of maturity value
Face value x PVF of P1 at 6% for 10 periods
1,000,000 x 0.558395 P 558,395
Present value of 10 interest payments
Interest per period x PVAF of P1 at 6% for 10 periods
Interest per period: P1M x 7.5% = 75,000
75,000 x 7.36008 552,006
Total present value/bond price P1,110,401

7
Classification of Investments in Debt Securities

8
 Classification of Investments in Debt Securities
The classification of debt securities shall be made on the basis of
both (according to IFRS 9):
(a) Business Model Test
What is the objective of holding financial assets? Collecting the
contractual cash flows? Selling?
It refers to how an entity manages its financial assets to generate
cash flows. This test is applied at the portfolio level and not on
Instrument-by-instrument approach.
(b) Contractual cash flows’ characteristics test
Are the cash flows from the financial assets on the specified dates
solely payments of principal and interest on the principal
outstanding? Or, is there something else?
9
 Classification of Investments in Debt Securities

An entity’s business model for managing its financial asset may be

any of these:
(a) Collecting cash flows that are solely payment for principal and
interest (SPPI),
(b) Selling financial assets when opportunity from profit taking
arises because of fluctuations in fair values and interest rates, or
(c) Both collecting cash flows that are payment for principal and
interest and selling the asset when opportunity arises.

10
 Classification of Investments in Debt Securities
SPPI test
 Principal is ‘the fair value of the asset at initial recognition’
(i.e., not the legal principal)
 Interest includes consideration for:
► The time value of money
► Credit risk
► Other components (liquidity risks, admin costs, profit margin)

The contractual cash flows are SPPI, if cash flows are:

► Consistent with a basic lending arrangement
► Do not introduce exposure to risks or volatility unrelated to a
basic lending arrangement
11
 Classification of Investments in Debt Securities

Business model assessment

Key factors that drive the business model assessment
 Objective of the business model as a matter of fact based on
relevant information and reasonably possible scenarios
► Performance evaluation
► Risk management
► Remuneration

12
 Classification of Investments in Debt Securities
Based on the two tests, financial assets can be classified in the ff
categories:
1. Debt investments at amortized cost
A financial asset falls into this category if BOTH of the following
conditions are met:
o Business model test is met, i.e. you hold the financial assets only
to collect contractual cash flows (not to sell them), and
o Contractual cash flows’ characteristics test is met, i.e. the cash
flows from the asset are only the payments of principal and
interest.
Examples: Trade receivables, Loan receivables, Investments in
Government bonds that are not held for trading, Investments in term
deposits at standard interest rates

13
 Classification of Investments in Debt Securities
2. Debt investments at fair value through profit or loss
o Those that are held in the business model of selling financial
assets when opportunity from profit taking arises because of
fluctuations in fair values and interest rates.
o Thus, these debt investments are primarily held for trading
purposes.
3. Debt investments at fair value through other comprehensive
income
o If the entity intends to both collect the contractual cash flows
that are payment for principal and interest and sell the assets
when opportunity arises.

14
 Guidance for Classifying Debt Investments
Debt Securities
Business Model A Business Model B
For collection based For collection based Business Model C
on contractual CF on contractual CF For trading
consisting SPPI consisting SPPI and
for Selling

Exercise irrevocable choice of

measuring FV to reduce or eliminate
measurement inconsistencies? YES
NO NO
Classify as Debt Classify as Debt Classify as Debt
Investments at Investments at Investments at
Amortized Cost FV Thru OCI FV through P&L
15
 DEBT INVESTMENTS AT
AMORTIZED COST
Initial measurement
Financial asset at amortized cost shall be measured at purchase
price plus transaction costs that are directly attributable to
acquisition. This total amount is the original cost of the investment.
 If the original cost exceeds the face value of the debt instrument,
the investment is acquired at a premium.
 If the original cost is less than the face value of the debt
instrument, the investment is acquired at a discount.
* The premium or discount is not recognized separately, but is
included as part of the investment cost, or netted against the
purchase price. The resulting premium or discount is amortized
over the term of the debt instrument using the effective interest
method.
16
 DEBT INVESTMENTS AT
AMORTIZED COST
For bonds purchased at a discount, the ff entries shall be prepared
every interest date:
Cash (Nominal Interest) xx
Interest Revenue xx
Collected the periodic interest

Debt Investments xx
Interest Revenue xx
Amortization of the discount
The two entries may be compounded as follows:
Cash (Nominal Interest) xx
Debt Investments (Amortization of discount) xx
Interest Revenue (Effective interest) xx
17
 DEBT INVESTMENTS AT
AMORTIZED COST
For bonds purchased at a premium, the ff entries shall be prepared
every interest date:
Cash (Nominal Interest) xx
Interest Revenue xx
Collected the periodic interest

Interest Revenue xx
Debt Investments xx
Amortization of premium
The two entries may be compounded as follows:
Cash (Nominal Interest) xx
Debt Investments (Amortization of discount) xx
Interest Revenue (Effective interest) xx
18
 DEBT INVESTMENTS AT
AMORTIZED COST

Illustration: Assume a bond investment (XYZ Bonds) with face

value of P1,000,000 and stated interest rate of 15%, was purchased
by ABC Corporation on January 1, 2019 for P1,110,401, a price to
yield 12%, with interest payable semiannually every June 30 and
December 31.

The entry to record the acquisition is:

Debt Investments at Amortized Cost – XYZ Bonds 1,110,401
Cash 1,110,401
Acquired P1M face value bonds of XYZ.

19
 Table of Premium Amortization (Effective Interest Method)
Date Nominal Interest Effective Interest Premium Carrying Value of
(A) (B) Amortization investment, end
P1M x 7.5% Previous D x 6% (C) (D)
A-B Previous D-C
01/01/19 1,110,401
06/30/19 75,000 66,624 8,376 1,102,025
12/31/19 75,000 66,122 8,878 1,093,147
06/30/20 75,000 65,589 9,411 1,083,736
12/31/20 75,000 65,024 9,976 1,073,760
06/30/21 75,000 64,426 10,574 1,063,186
12/31/21 75,000 63,791 11,209 1,051,977
06/30/22 75,000 63,119 11,881 1,040,096
12/31/22 75,000 62,406 12,594 1,027,502
06/30/23 75,000 61,650 13,350 1,014,152
12/31/23 75,000 60,848* 14,152* 1,000,000
20
*adjusted; difference is due to rounding off.
 DEBT INVESTMENTS AT
AMORTIZED COST

The entry on June 30, 2019, the first interest collection date, is
Cash 75,000
Interest Revenue 66,624
Debt Investments at Amortized Cost – XYZ Bonds 8,376

The entry on December 31, 2019 is

Cash 75,000
Interest Revenue 66,122
Debt Investments at Amortized Cost – XYZ Bonds 8,878

21
 DEBT INVESTMENTS AT
AMORTIZED COST
Illustration 2: Assume that the XYZ bonds in the preceding example
were dated March 1, 2019 and mature on March 1, 2024. Interest is
payable by XYZ every March 1 and September 1 and ABC acquired
the bonds on March 1, 2019. ABC reports its financial statements on a
calendar year basis.
Date Nominal Interest Effective Interest Premium Carrying value of
(A) (B) Amortization investment, end
P1M x 7.5% Previous D x 6% (C) (D)
A-B Previous D-C
03/01/19 1,110,401
09/01/19 75,000 66,624 8,376 1,102,025
03/01/20 75,000 66,122 8,878 1,093,147
09/01/20 75,000 65,589 9,411 1,083,736
03/01/21 75,000 65,024 9,976 1,073760
22
 DEBT INVESTMENTS AT
AMORTIZED COST
The entries in the books of ABC for the year 2019 are:
2019
Mar. 1 Debt Investments at Amortized Cost – XYZ Bonds 1,110,401
Cash 1,110,401

Sept. 1 Cash 75,000

Interest Revenue 66,624
Debt Investments at Amortized Cost
– XYZ Bonds 8,376

Dec 31 Interest Receivable 50,000

Interest Revenue 44,081
Debt Investments at Amortized Cost 5,919
– XYZ Bonds 23
 DEBT INVESTMENTS AT
AMORTIZED COST
The entries in the books of ABC for the year 2020 are:
2020
Mar. 1 Cash 75,000
Interest receivable 50,000
Interest Revenue 22,041
Debt Investments at Amortized Cost
– XYZ Bonds 2,959

Sept. 1 Cash 75,000

Interest Revenue 65,589
Debt Investments at Amortized Cost
– XYZ Bonds 9,411

Dec 31 Interest Receivable 50,000

Interest Revenue 43,349
Debt Investments at Amortized Cost 6,651
– XYZ Bonds 24
 Purchase of bonds between interest payment dates
If a bond investment is purchased between interest payment dates,
the buyer should pay, in addition to the purchase price of the bonds,
the amount of accrued interest from the last interest payment date to
date of purchase.

Illustration: Assume that on March 1, 2019, A Corporation

purchased P300,000 of 8% C Company bonds for P277,870 plus
accrued interest. The bonds pay interest annually every December 31
and mature on December 31, 2023. A Corporation has to pay a total
of P281,870 to acquire the bonds.
The entry to record this acquisition is:
Debt Investments at Amortized Cost – C Co. Bonds 277,870
Interest receivable 4,000
Cash 281,870
5/12/2019 Purchased C Company
Intermediate Accounting, 10th Edition,bonds
Ch. 18 (Kieso et al.) 25
 Purchase of bonds between interest payment dates

Date Nominal Effective Interest Discount Carrying value

Interest (B) Amortization of investment,
(A) Previous D x (C) end
300,000 x 8% 10% B-A (D)
Previous D+C
03/01/19 277,870
12/31/19 20,000* 23,156* 3,156 281,026
12/31/20 24,000 28,103 4,103 285,129
12/31/21 24,000 28,513 4,513 289,642
12/31/22 24,000 28,964 4,964 294,606
12/31/23 24,000 29,394** 5,394** 300,000

*The computation is based on 10 months only (Mar. 1 – Dec. 31)

** Adjusted; difference is due to rounding off.
5/12/2019 Intermediate Accounting, 10th Edition, Ch. 18 (Kieso et al.) 26
 Purchase of bonds between interest payment dates

The following are the pertinent entries to record the receipt of the annual
Interest and the amortization of discount during 2019 and 2020.
2019
Dec. 31 Cash 24,000
Debt Investments at Amortized Cost
– C Co. Bonds 3,156
Interest receivable 4,000
Interest revenue 23,156
2020
Dec. 31 Cash 24,000
Debt Investments at Amortized Cost
– C Co. Bonds 4,103
Interest revenue 28,103
5/12/2019 Intermediate Accounting, 10th Edition, Ch. 18 (Kieso et al.) 27
 Disposal of Debt Investments at Amortized Cost

When an investment measured at amortized cost is sold

before maturity date, the investor shall update the amount of
premium or discount amortization. Amortization should be
take up until the date of sale to update the carrying value of
the investment sold.

Illustration: Assume that on March 1, 2023, ABC

Corporation sells the bond investments @ 101 plus accrued
interest. ABC Corporation appropriately made adjustments
for the premium amortization on December 31, 2022.

28
 Table of Premium Amortization (Effective Interest Method)

Date Nominal Effective Interest Premium Carrying Value

Interest (B) Amortization of investment,
(A) Previous D x 6% (C) end
P1M x 7.5% A-B (D)
Previous D-C
06/30/22 75,000 63,119 11,881 1,040,096
12/31/22 75,000 62,406 12,594 1,027,502
06/30/23 75,000 61,650 13,350 1,014,152
12/31/23 75,000 60,848* 14,152* 1,000,000

*adjusted; difference is due to rounding off.

29
 Disposal of Debt Investments at Amortized Cost

The following entries will be made on March 1, 2023.

Interest receivable 25,000
Interest revenue 20,550
Debt investments at amortized cost
- XYZ bonds 4,450

Cash 1,035,000
Loss on Sale of Debt Investments 13,052
Debt investments at amortized cost
- XYZ bonds 1,023,052
Interest receivable 25,000
30
 Debt Investments at Fair Value
through Profit or Loss
 An enterprise shall classify debt securities
purchased as at fair value through profit or
loss when it intends to speculate on
fluctuations of interest rate or fair value rather
than to collect contractual cash flows that are
payments for principal and interest.

31
 Debt Investments at Fair Value
through Profit or Loss
Initial recognition, interest earned, change in fair value
and disposal
 Debt investments at fair value through profit or loss are
initially recognized at purchase price, which is the fair
value at the date of acquisition.
 Transaction costs are taken to profit or loss.
 Discount and premium are not amortized; hence, the
interest revenue is based on the stated interest rate.
 At reporting date, the debt investments are measured at fair
value and the unrealized gains and losses are taken to
profit or loss
32
 Debt Investments at Fair Value
through Profit or Loss
Illustration: On March 1, 2019, ABC Corporation purchased
15%, P1,000,000 face value bonds of XYZ Corporation for
P1,110,401. These bonds mature on March 1, 2024 and pay
interest semiannually on March 1 and September 1. At the
date of acquisition, the securities were designated by ABC as
at fair value through profit or loss. On December 31, 2019,
the bonds are quoted @112. On May 1, 2020, ABC sold the
bonds at 111.5 plus accrued interest.

33
 Debt Investments at Fair Value
through Profit or Loss
The following are the entries that reflect ABC Corporation’s
transactions for the years 2019 and 2020.
2019
Mar. 1 Debt investments at FVPL – XYZ Bonds 1,110,401
Cash 1,110,401
Sept. 1 Cash 75,000
Interest revenue 75,000
Dec. 31 Interest receivable 50,000
Interest revenue 50,000
31 Debt investments at FVPL – XYZ Bonds 9,599
Unrealized gains/losses on
Debt investments at FVPL 9,599
34
 Debt Investments at Fair Value
through Profit or Loss
The following are the entries that reflect ABC Corporation’s
transactions for the years 2019 and 2020.
2020
Mar. 1 Cash 75,000
Interest receivable 50,000
Interest revenue 25,000

May 1 Cash 1,140,000

Loss on Sale of Debt Investments 5,000
Debt investments at FVPL – XYZ Bonds 1,120,000
Interest revenue 25,000

35
 Purchase between interest payment dates

 If a debt security is purchased between two interest

payment dates, the buyer pays, in addition to the purchase
price, the amount of interest accrued from last interest date
to the date of purchase. Such accrued interest is charged to
Interest Receivable.
 Illustration: Assume that X Corporation purchased on
May 1, 2019, P200,000, 12% face value bonds of Y
Company @ 102 plus accrued interest. These bonds pay
interest every March 1 and September 1.

36
 Purchase between interest payment dates

 On May 1, 2019, X Corporation will record the transaction

as follows:
Debt Investments at FVPL – Y Company 204,000
Interest Receivable 4,000
Cash 208,000
 The receipt of interest on September 1 will be as follows:
Cash 12,000
Interest Receivable 4,000
Interest Revenue 8,000

37
 Debt Investments at Fair Value through Other
Comprehensive Income
Initial recognition, interest earned, change in fair value and
disposal
 Investments designated as at fair value through other
comprehensive income are initially recognized at purchase
price plus transaction costs.
 Interest earned and recognized on these investments is based
on effective interest, computed in a similar manner for
investments that are measured at amortized cost.
 Any change in fair value from date of acquisition or from
beginning to end of the reporting period is taken as an
unrealized gain or loss in other comprehensive income.

38
 Debt Investments at Fair Value through Other
Comprehensive Income
Illustration: Assume that XYZ Bonds with a face value of
P1,000,000 and stated interest rate of 15%, was purchased by
ABC Corporation on January 1, 2019 for P1,110,401, a price to
yield 12%, with interest payable semiannually every June 30
and December 31. The XYZ bonds were quoted at 114 and 110
on December 31, 2019 and 2020, respectively.

39
 Table of Premium Amortization (Effective Interest Method)
Date Nominal Interest Effective Interest Premium Carrying Value of
(A) (B) Amortization investment, end
P1M x 7.5% Previous D x 6% (C) (D)
A-B Previous D-C
01/01/19 1,110,401
06/30/19 75,000 66,624 8,376 1,102,025
12/31/19 75,000 66,122 8,878 1,093,147
06/30/20 75,000 65,589 9,411 1,083,736
12/31/20 75,000 65,024 9,976 1,073,760
06/30/21 75,000 64,426 10,574 1,063,186
12/31/21 75,000 63,791 11,209 1,051,977
06/30/22 75,000 63,119 11,881 1,040,096
12/31/22 75,000 62,406 12,594 1,027,502
06/30/23 75,000 61,650 13,350 1,014,152
12/31/23 75,000 60,848* 14,152* 1,000,000
40
*adjusted; difference is due to rounding off.
 Debt Investments at Fair Value through Other
Comprehensive Income
The following are the entries for year 2019.
January 1, 2019
Debt Investments at Fair Value through
OCI – XYZ Bonds 1,110,401
Cash 1,110,401
Acquired P1M face value bonds of XYZ.
June 30, 2019
Cash 75,000
Interest Revenue 66,624
Debt Investments at FV through OCI
– XYZ Bonds 8,376

41
 Debt Investments at Fair Value through Other
Comprehensive Income
The following are the entries for year 2019.
December 31, 2019
Cash 75,000
Interest Revenue 66,122
Debt Investments at FV through OCI
– XYZ Bonds 8,878

FV Adjustment – Debt Investments 46,853

Unrealized Gains/Losses on Debt
Investments at Fair Value through OCI 46,853

42
 Debt Investments at Fair Value through Other
Comprehensive Income
The following are the entries for year 2020.
June 30, 2020
Cash 75,000
Interest Revenue 65,589
Debt Investments at FV through OCI
– XYZ Bonds 9,411
December 31, 2020
Cash 75,000
Interest Revenue 65,024
Debt Investments at FV through OCI
– XYZ Bonds 9,976

43
 Debt Investments at Fair Value through Other
Comprehensive Income
The following are the entries for year 2019.
December 31, 2020
Unrealized Gains/Losses on Debt
Investments at Fair Value through OCI 20,613
FV Adjustment – Debt Investments 20,613

44
 Debt Investments at Fair Value through Other
Comprehensive Income
Derecognition
 Upon sale of debt investments designated as at fair value
through other comprehensive income, the accumulated
amount in equity (Unrealized Gains/Losses on Debt
Investments at FV through OCI) shall be transferred to Profit
or Loss.
 Illustration: Assume that the foregoing bonds of XYZ were
sold by ABC at the fair value of P1,000,000 on December 31,
2020.

45
 Debt Investments at Fair Value through Other
Comprehensive Income
After adjustment to fair value, the ff are the balances in the ledger
account:
Debt Investments at Fair Value through OCI P1,073,760
FV Adjustment – Debt Investment 26,240
Unrealized Gains/Losses on Debt Investments
At FV through OCI (Credit balance) 26,240
The sale of the investments is appropriately recorded as follows:
Cash 1,100,000
Debt Investments at FV through OCI 1,073,760
FV Adjustment – Debt Investments at
FV through OCI 26,240

46
 Debt Investments at Fair Value through Other
Comprehensive Income
The sale of the investments is appropriately recorded as follows:
Unrealized Gains/Losses on Debt Investments
at FV through OCI 26,240
Gain on Sale of Debt Investments 26,240

47
 Impairment Loss on Debt Investments
The IFRS 9 impairment model for debt securities measures and
cccounts impairments in these stages:
• At initial recognition, an entity recognizes a loss allowance equal
to 12 months expected credit losses (present value of all cash
shortfalls over the remaining life, discounted at the original effective
interest rate).
* 12-month expected credit losses refer to the portion of lifetime
expected credit losses that may arise from default events on the
financial instrument within the 12 months after the reporting date.
* Lifetime expected credit losses are defined as the expected credit
losses that result from all possible default events over the
expected life of the financial instrument.

48
 Impairment Loss on Debt Investments

• After initial recognition, the 3-stage expected credit loss model

applies as follow:
 Stage 1: credit risk has not increased significantly since initial
recognition –entities continue to recognize 12 months expected
losses, updated at each reporting date
 Stage 2: credit risk has increased significantly since initial
recognition – entities recognize lifetime expected losses and
interest is presented on a gross basis
 Stage 3: the financial asset is credit impaired – entities recognize
lifetime expected losses but present interest on a net basis
(based on the gross carrying amount less credit allowance)

49
Impairment Loss on Debt Investments

50
 Reclassification of Debt Investments

 Reclassification of debt investments is expected to be rare, as it

shall be made when and only when an entity changes its business
model for managing its financial assets. A reclassification is
required under the ff circumstances:
• If an entity has a portfolio of commercial loans that it sells in the
short term and then subsequently acquires a company that
manages commercial loans and has a business model that holds
the loans to collect the contractual cash flows (Reclassification
from FVPL to amortized cost).
• If a financial services entity decides to shut down its retail
mortgage business and is now actively trading its portfolio
(Reclassification from amortized cost to FVPL).
51
 Reclassification of Debt Investments

 Reclassification is prohibited under the following circumstances:

• Change in management intention;
• Temporary disappearance of a particular market;
• Transfer of assets between existing models

 Reclassification shall be made prospectively from the

reclassification date.
*Reclassification date is the first day of the first reporting period
following the change in business model.

52
 Funds for Future Use

Funds may be grouped into 2 categories:

1. Used in current operations
Examples: petty cash fund, change fund, payroll fund,
purchasing fund, tax fund, dividend fund and interest fund

2. Set aside for future use

Examples: plant expansion fund, equipment acquisition fund,
sinking fund, preference share redemption fund and employees
retirement fund

53
 Cash Surrender Value of Life
Insurance Policy

 A life insurance policy is taken by some enterprises covering

their officers when the enterprise believes that the loss of its
officer will significantly affect the entity’s operations.
 When the company is the designated beneficiary of an insurance
policy on the life of an officer, any premiums paid on the life
insurance are recorded as life insurance expense.
 The cash surrender value on the policy is a recognized asset of
the company. Any increase in cash surrender value and any
dividends received or receivable on the policy are adjustments to
insurance expense.

54
 Long-Term Advances and Deposits

 Long-term advances and deposits fall under

the category, loans and receivables, which are
measured in the statement of financial position
at amortized cost using the effective interest
method.
 At initial measurement date, they are recorded
at present value and subsequently amortized
until settlement date based on effective
interest method.
55
Thank you for
listening!

QUESTIONS?