Financial Reporting & Analysis 1: Inter-corporate Investments

Question 1

What are inter-corporate investments?

Answer 1

Inter-corporate investments are investments in other companies, and they effect both the Income Sheet and the Balance Sheet

Question 2

What are the 4 types of inter-corporate investments?

Answer 2

1) Investments in Financial Assets
2) Investments in Associates
3) Business Combinations
4) Joint Ventures

Question 3

How much influence and control does the investor have in the investee under an investment in financial assets?

Answer 3

There is not significant influence, generally equity stake is less than 20%

Question 4

How much influence and control is there under an investment in associates? What method do we report investments in associates?

Answer 4

There is generally significant influence and equity stake is between 20%-50%.

We use the equity method of reporting.

Question 5

How much influence and control is there under a Business Combination? How do we report a Business Combination?

Answer 5

Investor is a controlling member, with ownership > 50%.

We report business combinations using the consolidation method.

Question 6

What is the influence structure in a Joint Venture and how do we classify a Joint Venture?

Answer 6

Influence is shared among investors, and reported using the equity method.

Question 7

For Investments in Financial Assets, we usually consider them (passive or active)because ______

Answer 7

Passive, because we don’t have significant control or ownership

Question 8

For Invesments in Financial Assets, Dividends and Income are reported ______

Answer 8

On the income statements

Question 9

Held to Maturity securities are typically (debt or equity). What are some of their characteristics?

Answer 9

HTM are typically debt securities. They generally will have a fixed or determinable payment schedule and maturity date.

Question 10

When considering how a HTM security is initially recognized, compare IFRS and GAAP

Answer 10

For IFRS, a HTM security is initially recognized at Fair Value.
For GAAP, a HTM security is initially recognized at Price Paid.

These two are generally the same amount

Question 11

When considering how a HTM security is subsequently recognized, compare IFRS and GAAP.

Answer 11

IFRS and GAAP are the same when it comes to subsequent value recognitions. HTM securities are recognized at their amortized cost using the Effective Interest Method.

Question 12

For a HTM security, interest income is reported where?

Answer 12

On the Balance Sheet

Question 13

For a HTM security, how do we recognize unrealized gains and losses?

Answer 13

We don’t recognize them, because we intend to hold the security until maturity, so they should not be consequential.

Question 14

Securities Held for Trading, as well as securities designated as Carried at Fair Value, are broadly classified as _______

Answer 14

Fair Value through Profit and Loss (FVPL)

Question 15

How would you classify debt and equity securities that are held with the intent to sell in the near term?

Answer 15

Held for Trading

Question 16

Held for Trading securities are initially recognized at ______

Answer 16

Fair Value

Question 17

For Held for Trading securities, how do we treat unrealized gains and losses?

Answer 17

They are reported as profit and loss

Question 18

For Held for Trading securities, how do we treat realized gains and losses?

Answer 18

They are reported as Profit and Loss

Question 19

For Held for Trading securities, how do we treat income from interest and dividend payments?

Answer 19

Though Profit and Loss

Question 20

Available For Sale securities are (debt and/or equity) investments that are not classified as ____ or _____

Answer 20

AFS securities are both debt and equity securities that are not classified as HTM or FVPL

Question 21

For AFS securities, we generally initially recognize them at _____

Answer 21

Fair Value

Question 22

For AFS securities, how to we recognize realized gains and losses?

Answer 22

For AFS securities, realized gains and losses go on the income statement

Question 23

For AFS securities, interest and dividend income go on the ______

Answer 23

Income Statement

Question 24

What is the main difference between IFRS and GAAP when it comes to unrealized gains and losses on AFS securities?

Answer 24

The main difference is that for GAAP, ALL unrealized gains and losses flow to OCI. Importantly, ALL includes exchange rate movements for debt securities. Under IFRS, the impacts of FX movements does not flow to OCI, they go straight to the income statement.

Question 25

Under IFRS, for unrealized gains and losses, if there is an impact from FX movements for an AFS debt security, how do we recognize that impact?

Answer 25

It flows directly to the income statement. THis is the main difference between IFRS and GAAP. WHen it comes to unrealized gains and losses on AFS debt. GAAP would say FX impacts are included in OCI. IFRS breaks them out.

Question 26

Under GAAP, for unrealized gains and losses on an AFS debt security, how do we recognize the impact of FX movements.

Answer 26

We do not break away FX movements. GAAP includes ALL unrealized gains and losses as OCI. Under IFRS, FX movements flow directly to the income statement while all other unrealized gains and losses go to OCI.

Question 27

Under both IFRS and GAAP, unrealized gains and losses on AFS equities are recognized _____

Answer 27

In OCI

Question 28

Under IFRS And GAAP, how do we classify unrealized gains and losses on debt securities classified as AFS?

Answer 28

TRICK QUESTION, BE CAREFUL. IFRS and GAAP recognize unrealized gains and losses as OCI, but IFRS recognizes unrealized gains and losses as a result of FX movements separately, they flow directly to the income statement. GAAP groups all unrealized gains and losses as OCI and does not differentiate.

Question 29

Under IFRS and GAAP, realized gains and losses on an AFS security (it was sold), how do we recognize?

Answer 29

Remember, unrealized gains and losses would have been flowing to OCI (except FX on debt under IFRS, not GAAP). So, once the security is sold (gains/losses are realized), we will reverse those out of OCI and report it as a Profit or Loss under a reclassification adjustment.

Question 30

What are Loans and Receivables?

Answer 30

Loans and Receivables are non derivative financial assets with fixed or determinable payments.

Question 31

Contrast the differences in how IFRS and GAAP come to the classification of Loans and Receivables.

Answer 31

IFRS:
Has a specific definition for loans and receivables. They do not rely on a legal form for classification.
GAAP:
Relies on a legal form for classification. Can be classified as HFT, AFS, HTM.

Question 32

What is the broad difference in how IFRS and GAAP consider if a company may reclassify an Investment in Financial Assets. What is something they both have in common?

Answer 32

IFRS is more strict. You can’t reclassify Designated at FV, HFT. You may reclassify HTM to AFS, and AFS to HTM, but rules are again more strict.

GAAP is less strict, and generally allows for the reclassification when it is deemed justified.

They both have in common the fact that if you reclassify a HTM security, you may be barred from using the HTM designation in the future.

Question 33

Under IFRS, can you reclassify HTM debt as AFS debt?

Answer 33

You may reclassify HTM debt to AFS debt if there is a change in intention of ability to HTM. But, you may be prohibited from using HTM in the future if you do so.

Question 34

Under IFRS, if we choose to reclassify a HTM debt security to an AFS debt security, how will we recognize the reclassification?

Answer 34

The newly classified AFS debt security will be remeasured at fair value, because AFS securities are required to be measured at FV. Any difference between the FV and the actual carrying cost will be amortized in OCI.

Question 35

Under IFRS, can we reclassify a Designated at Fair Value Security? What about under GAAP?

Answer 35

Remember IFRS is more strict. Under IFRS, you generally are prohibited from reclassifying a DFV security. Under GAAP, you are generally allowed if it is justified.

Question 36

Under IFRS, can you reclassify a HFT security? What about under GAAP?

Answer 36

Remember, IFRS is more strict when it comes to reclassifications. Under IFRS, you are restricted from reclassifying a HFT security. GAAP generally allows it if it is justified.

Question 37

Under IFRS, can we reclassify an AFS debt security? What about GAAP?

Answer 37

Under IFRS, you may only reclassify two types, HTM and AFS, to and from. You may reclassify an AFS debt security to HTM if your intent or ability changes. GAAP generally allows it.

Question 38

Under IFRS, when an AFS debt security is reclassified as a HTM debt security, how do we recognize it?

Answer 38

At the time of the reclassification, the FV of the AFS security becomes the new cost of the HTM security. Any unrealized gains and losses that were previously recognized in OCI are amortized to P&L over the maturity of the security using the EIM.

Question 39

Under IFRS, can we reclassify debt from HFT or AFS to Loans and Receivables?

Answer 39

Remember, while GAAP uses a legal form to determine wether and asset can be classified as L&R, IFRS uses a definition. If the definition is met, a HFT or AFS debt security may be reclassified as a L&R.

Question 40

If there is no reliable way to come to a FV estimate for an AFS security, what do we do?

Answer 40

In the case that there is no way to come to a FV, and there is no evidence of impairment, we will measure the AFS security at cost.

Question 41

Under GAAP, when you reclassify a HFT security to an AFS security, how do we treat the unrealized gains and losses?

Answer 41

Remember, a HFT security has its unrealized gains and losses recognized in P&L, because we are holding it for trading. So, the difference between Fair Value and carrying value (the unrealized gain or loss) has already been recognized.

Question 42

Under GAAP, when a security is reclassified as HFT, how do we recognize unrealized gains and losses?

Answer 42

Remember, for HFT securities, all unrealized gains and losses are recognized in P&L. So, if something changes to HFT, any unrealized P&L has to go directly to P&L.

Question 43

Under GAAP, when HTM is reclassified as AFS, how do we recognize unrealized gains and losses?

Answer 43

Remember, with AFS securities, unrealized gains and losses flow to OCI (with the exception of FX under IFRS, GAAP doesn’t differentiate). With HTM, unrealized gains and losses are ignored because they theoretically don’t matter since we are holding it to maturity. So when you change from HTM to AFS, all of those unrealized gains and losses need to flow over to OCI.

Question 44

Under GAAP, when we reclassify AFS debt to HTM debt, how do we recognize unrealized gains and losses?

Answer 44

Remember, AFS recognized unrealized gains and losses as OCI. HTM ignored unrealized gains and losses. SO, when we change AFS to HTM, we need to take those unrealized gains and losses are are in OCI and amortize them over the maturity of the security, just as we would with a premium/discount for a HTM security using the EIM.

Question 45

Who is more strict with Impairments, IFRS or GAAP?

Answer 45

IFRS

Question 46

Under IFRS, when it comes to recognizing impairment, compare the difference when it comes to wether or not the asset is classified at Fair Value.

Answer 46

If an asset is classified at Fair Value, any impairment is already reflected because unrealized gains/losses are recognized in P&L. If it is not classified at fair value, any impairment will immediately be recognized in P&L.

Question 47

When it comes to impairments on debt securities under IFRS, at least one ______ event must occur. What type of events do not count as an impairment under IFRS?

Answer 47

At least one loss event has to occur under IFRS to impair a debt security. You may not consider a credit rating downgrade, a loss of marketability, or expected future events of loss (no matter how certain) as an impairment.

Question 48

Under IFRS, an equity security may be considered impaired if …..

Answer 48

Under IFRS, there has been a substantial and extended decline if fair value, below cost basis. Also, if there have been substantial changed in tech/mkt/legal environments that indicate that the initial cost may not be recovered.

Question 49

Under IFRS, how do we calculate the impairment costs on a HTM debt security or a L&R?

Answer 49

Under IFRS, The impairment costs is calculated as the difference between the carrying value and the present value of expected future cash flows discounted at the initial effective interest rate. That new carrying amount will be reduced through an allowance account.

Question 50

Under IFRS, impairment loss for HTM debt and L&R is recognized in ______

Answer 50

P&L

Question 51

Under IFRS, can you reverse a previous impairment cost on a HTM debt or L&R security?

Answer 51

Under IFRS, you may revered a previous impairment cost. However, this will in turn increase the carrying value of the security as well as net income.

Question 52

Under IFRS, for an impairment on an AFS security, how do we recognize the impairment loss?

Answer 52

Remember, for AFS securities, any unrealized gain or loss would have been considered OCI. So, in the case of an impairment, that impairment loss (unrealized loss) will flow out of OCI and onto the income statement as a reclassification adjustment.

Question 53

Under IFRS, can we reverse an impairment charge for AFS securities?

Answer 53

No. Under IFRS, unlike AFS debt, you may NOT reverse an impairment loss on AFS equity

Question 54

How does GAAP determine if there can be an impairment loss?

Answer 54

GAAP is lest strict than IFRS. GAAP considers a security impaired if the decline in its value is “other than temporary”.

Question 55

For AFS and HTM debt securities, under GAAP, how do we come to the new cost?

Answer 55

Under GAAP, the cost basis will be written down to the new Fair Value.

Question 56

For AFS and HTM debt, under GAAP, how to we treat the impairment loss?

Answer 56

Under GAAP, for AFS and HTM debt, the impairment loss is treated as a realized loss on the income statement.

Question 57

Under GAAP, for AFS debt and equity, how do we come to the new cost basis after an impairment?

Answer 57

Under GAAP, the cost basis is written down to the new Fair Value.

Question 58

Under GAAP, for AFS debt and equity, how do we treat the impairment loss?

Answer 58

Under GAAP, an impairment loss on AFS debt and equity is a realized loss on the income statement.

Question 59

Under GAAP, can you reversed an impairment on AFS?

Answer 59

No allowed.

Question 60

After an impairment of an AFS security, under GAAP, how are subsequent changes in fair value recognized?

Answer 60

Remember, unrealized gains and losses for an AFS security flow to OCI. Therefore, once the new FV is determined, any unrealized gains or losses that result in changes of FV will flow through to OCI as usual.