 Hello, and welcome to the session in which we would look at available for sale securities, specifically debt available for sale securities. In the prior sessions, we looked at the type of investments that a company could have, could be a debt investment or an equity investment. And now we are focusing on the debt investments. Under the debt investments, we could have them as held to maturity. And this is what we discuss specifically in the previous recording. In this recording, we'd look at available for sale. In the next recording, we look at trading securities. So what are available for that securities? And specifically here, we are dealing with debt, not equity. Well, these securities are either not held to maturity and not for trading. What does that mean? The two extreme of investment in debt is this. You can either hold them until to mature. Held to maturity, this is what we talked about in the prior session, is you hold them until they mature, until the bond mature, means you hold them till the end. Or you can trade them. Trade and mean you plan to sell them in the near future, like flipping them. Well, guess what? Available for sale, it's not trading. It's not held to maturity. It's some place in between. I'm gonna hold it. I might sell it if the price is right, but I have no plan to hold it forever. And I don't, I'm not intent to sell it in the near future flipping it. Now, how to report these investments? Once you decide it's available for sale, you would report them at fair value. And the most important thing we're gonna be focusing on in this session, and I believe that's the most important thing to learn is how to make the adjustment, how to adjust those securities to market because they are reported at fair value. Since they are reported at fair value, it means we're gonna have unrealized holding gain and losses. And because we have unrealized holding gain and losses, those will be reported in other comprehensive income, OCI, in other words, they are reported on the balance sheet as part of equity. Now, you might be asking why? Well, why is this? Available for sale, you don't plan to sell them in the near future. It means they should not be affecting your income. That's the purpose. You're gonna hold them for multiple period, but through those multiple period, they may go up in value, down in value, up in value again, down in value, more down, so on and so forth. You don't want those fluctuation to affect your income statement as of yet. So you park them in OCI, and once you sell them, well, you'll have to report them on the income statement and make a reclassification, which we'll talk about in a separate recording. But the point to remember is available for sale securities, adjustments are reported in other comprehensive income. Just, I wanna make sure you understand this and we're gonna actually work an example. And since it's a bond, we're gonna amortize the bond, amortize any discount and any premium. The best way to illustrate this concept is to take a look at an example. Adam Corporation purchased Farhat Lectures 100,000, 10% five-year bond on January 1st, 2020 X-Zero. The bond pay interest on July in January, it's semi-annually, Adam paid 108, 11 to yield 8%. Simply put, the bond was sold at a premium because the face value is 100,000. The bond is paying 10%, but 10% it's yielding 8%. What does it mean to yield 8%? It means the market is earning 8%, however, the bond is paying 10 and that's why you paid a premium. So simply put, Adam will debit that investment, which is an asset. Now remember, we are dealing from the investor's perspective, not from the issuer. There's a one-hole recording about when a company issue a bond at a premium or a discount go to my bonds chapter. And Adam will credit cash 108, 111, what we paid for the account, what we paid for the investment. Now what we will do next is create an amortization schedule. We have 8,111 dollars as a premium. So we're gonna have the carrying value of the bond 108, 111. We're gonna have a column for how much cash we're gonna be receiving each period at yielding 10% annually, 5% semi-annually. So the investor would receive $5,000. We have to compute interest revenue. Well, first let's compute the cash. The cash is taking the face value of the bond times the stated rate times one half or six divided by 12 because it pays interest semi-annually. That's where the cash 5,000 is coming from. Interest revenue, how do we compute interest revenue? We'll take the carrying value of the bond as of the beginning of the period times 8% times one half or 612. So the interest revenue is 4,324. The difference between those two is the premium we are going to amortize this period, which is $676. This is gonna reduce the bond carrying value to 107, 435. The difference is 676, the difference between the cash and the interest revenue. Then we reduce the carrying value because a premium bonds starts above, above face value and it will go down as we are amortizing the bond. That the next thing we're gonna do we're gonna start to journalize the entries. Before we journalize the entries, I would like to remind you whether you are a student or a CPA candidate to take a look at my website, farhatlectures.com. Whether you are a student or a CPA candidate, I don't replace your CPA review course or your accounting course. I'm a useful addition to your education. My motto is saving accounting students and CPA candidate one at a time by providing resources such as lectures, multiple choice practice, true false questions. This is a list, a partial list of all my accounting courses, including intermediate, audit, tax, governmental, so on and so forth. My CPA material are aligned with your Rebecca, Roger, Glean and Wiley. I give you access to 1500, previously released actual AI CPA questions with detailed solution in their original format. So if you're studying for the CPA exam, don't, you don't wanna miss those. Also, if you have not connected with me on LinkedIn, please do so, take a look at my LinkedIn recommendations. Like this recording, share it with others. It helps me a lot. Connect with me on Instagram, Facebook, Twitter and Reddit. So let's take a look at the first journal entry when we receive the first $5,000, which will be July 1st, X-Zero. So we would receive $5,000 and this is the information that we need to journalize the entry. We debit cash, 5,000, credit the investment. We don't credit the premium here. We credit the investment to reduce it and we credit interest revenue for the 43-24. Now on December 31st, which is one day before, we receive the payment. We have to accrue the interest. So what do we have to do? We have to accrue 5,000 worth of cash as interest receivable. We have to credit the debt investment, reduce our debt investment, getting value by 703 and we record interest revenue of 42.97. Simply put, the following day, we would receive the cash for this 5,000. We debit cash, credit receivable, but this journal entry takes place December 31st, 20, X-Zero, just to show you how we will accrue the interest. Now it's very important to understand how we make the fair value adjustment, extremely important, like what I'm gonna be doing now, this is the important part about fair value adjustment or adjusting the fair value of the investment or investing the portfolio to fair value or reporting things at fair value, whatever you want to call it. There's a lot of fair value terminology going on here. So this is December 31st, TX1 value of the bond on the books, 106732. You are told the fair value of the bond is 104 and these are available for sale securities. This one is available for sale security. What do we have to do now? So I'm gonna give you a few rules. Please write them down. Please make sure you are aware of this, okay? So I'm gonna show you how to adjust your investment or your portfolio to market. How do you do so? Well, you're gonna have two accounts. You're gonna have two related account, one called fair value adjustment and the other one it's gonna be called unrealized gain slash loss and specifically I'm gonna call it here equity and the word equity is important because this is available for sale and the adjustment goes to equity. So we're gonna have those two accounts. What goes into those two accounts? Please listen to me carefully. What you do, first you compute whether you have a loss or a gain and you should be able to know whether you have a loss or a gain based on what is your fair value and what is the amortized cost. Here the amortized cost is 106732 but if you wanna sell your bond today you're gonna get 104. What does that mean? It means you have a loss of 2732. Simply put, the difference between what you can sell the bond for what you have it reported on the books. How do you adjust this bond? Well, you have those two accounts. If you have an overall loss, listen to me carefully. If you have an overall loss, fair value adjustment should have a credit balance. And I said balance, not adjustment, a credit balance. And the credit balance should be for the amount of the loss. How much is the loss? The loss is 2732. Simply put, you would say my balance, not my entry, my balance should be a credit balance of 2732. This should be my balance. Now what should be my entry? Well, my entry depending on what is my prior balance is because fair value adjustment could be either a contra asset, it could be reducing your asset, it could be an adjunct asset. Sometime it's gonna increase your investment, sometime it's gonna reduce your investment. But the balance should be 2732. Now for this example, we assume that our prior balance is zero because this is year one. So first you start with your fair value. Then from your fair value, after you input whatever you need to infer value, you will determine the other corresponding entry, whether it's a debit or a credit. Let's do the fair value first. Well, if you need the balance of 2732, okay, and you have a zero balance and that account from the beginning, so you need to credit 2732. So you need to credit 2732 because you have a prior zero balance. You will come up with 2732 as a credit balance which is because it's a loss. The corresponding debit or credit to this adjustment is to the unrealized gain. Now remember, losses unrealized gain slash losses. Losses will have a debit balance. So if you credit at fair value, you're gonna debit unrealized loss 2732 and your balance will be 2732. So this is the balance. We should put the balance in a different color just to kind of illustrate the word balance because that's important. So this is the balance 2732. This is your balance and in green is your entry. Therefore, I will credit fair value adjustment 2732, debit unrealized holding gain or loss 2732. Now this is easy because I had no prior balance. Okay, now we're gonna work few examples that I'm gonna show you when you have a prior balance, especially when you have a complete portfolio. Let's take a look at an adjustment for a portfolio of that securities. Portfolio means more than one security whether you have, it happens to be two securities here, but whether you have two, 200 or 2000, it all work the same way. We have an economic integration bond and a YouTube core bond. The economic integration bond has a cost, amortized cost of 90,500, the fair value of 101,300. The YouTube has a cost of 200,000 fair value of 175. So we have a gain on the economic integration forum, a loss on the YouTube. Overall, we have a portfolio loss of 14,200. And we're gonna assume this is a first year adjustment. So there's no prior balance. It means we have to have, remember, this is a loss. What did I tell you? I told you we have a fair value adjustment account and we have unrealized gain slash loss equity account. So since we have a loss of 14,200, we should have a credit of 14,200 as a balance. Then what do we have to do? We have to determine the adjustment. Well, since we have a zero balance, the adjustment will be a credit of 14,200, a debit of 14,200 to have a loss of 14,200. Okay? So this is just basically like the prior example that I just showed you. So notice we debited a loss of 14,200, credited fair value adjustment. Now, make a note of this. But let me show you on a timeline, what does it look like? Simply put, on a timeline, if your portfolio is zero, it means you have no gain and no loss. Now you are standing at negative 14,200. So make a note of this and write this down that you are on a timeline, you are negative 14,200. Let's assume on March 1st, 20X1, we sold this bond. The amortized cost was 91,200. We sold it for 94,000. We actually sold this bond. So we removed one bond from our portfolio. Well, what do we do? We received cash, 94,000. We removed the bond at amortized cost, 91,400. And we sold it 2,500 more than the amortized cost. Therefore, we have an actual gain. This is a realized gain. This is different than this gain. Now later on in another session, we would learn something about reclassification adjustment, but we'll talk about that later. Simply put, the gain on the sale goes on the income statement versus unrealized gain for available for sale securities goes on the equity section of the balance sheet. Now let's go to year two. In year two, here's what's gonna happen. We still have only one bond and that's the YouTube bond. They have an amortized cost of 200,000, fair value of 193. So over all for that year, we have a real unrealized loss of 7,000. Remember what we have in the prior year. In the prior year, we have available, I'm sorry, fair value adjustment with a balance of 14,200 from the prior year. And we had the unrealized gain slash loss equity and that had a 14,200. Our portfolio has a loss of exactly 7,000. What does that mean? If we have a loss of 7,000, it means we have to adjust our portfolio to show a loss of 7,000. What does that mean once again? It means our fair value should have a balance of 7,000. This is what we're saying. Exactly, this is what we're saying. We should have a balance of 7,000. Well, what did we have in the prior year? Let's go back to that time, the line numbers. We had negative 14,200, negative as a balance, 14,200. What happened now, we still have a loss, but our loss did improve. So we were at negative 14,200. Now, our loss is 7,000. Simply put, we moved to the right. We moved to the right 7,200 unit. What does that mean? It means we have to debit our fair value adjustment. Let me put the adjustment in a different color. We have to debit our fair value adjustment 7,200. The credit goes to the unrealized holding gain or loss. When we do that, we have a balance of 7,000 and fair value and we have a balance of 7,000 under unrealized holding gain or loss. What we did on the number line, we moved to the right. Every time we move to the right, we are going to debit fair value adjustment in credit unrealized holding gain or loss. Simply put, we still have a loss. We are still below zero. This is negative 7,000, but we moved from negative 14,200 to negative 7,000. Therefore, when we move to the right, okay, this is not anywhere in your textbook. We debit fair value adjustment, we credit unrealized holding gain or loss. Now, let me make another scenario. Let's assume in year, this is X1. Let's assume in year X2, X2, our portfolio has a cost of a million dollar worth of portfolios and a fair value of one million and I'm gonna make it $1,000. What does that mean? Why did I use large numbers? Because large numbers are useless. What you're looking for, you are looking for the difference in the overall portfolio. The difference is I have a gain of 1,000. This is what I'm trying to show you. What does that mean if I have a gain of 1,000 in the following year, year X2? It means I moved from negative 7,000, I moved to the right to positive 1,000. Okay, what does that mean from a journal entry perspective? So I'm gonna, again, do the fair value adjustment here. From the prior year, I had 7,000 as my balance. So I'm gonna remove this. This is the balance, it's the same thing. I just keep it up. 7,000 is the balance and unrealized gain and loss, I have a debit of 7,000. This is from the prior year. So the corresponding other account unrealized, holding in or loss, equity, I have a debit balance of 7,000. Now, what do I have to do? Since I have a gain, remember, if I have a gain, I have to have a debit balance and fair value. It means my debit balance should be 1,000. Okay, and my, if the debit balance is 1,000, the credit balance here should be 1,000. Okay, what is the entry that I need to make in 20x2 to make that balance 1,000? Here, what I have to do, I move them more to the right, I'm gonna have to debit fair value, 8,000, and credit unrealized, holding in 8,000. Simply put, in year x2, 8,000 and 8,000. What happened if I do debit fair value, 8,000? I'm gonna be left with 1,000 debit balance, which is it's reflecting my gain of 1,000. And if I credit it unrealized, holding in or loss, 8,000, I'm gonna have an 8,000 credit balance, which is this is what I need to show. I have a 1,000 of a gain. Then again, in year x3, you look at your total portfolio cost, total portfolio fair value. You might, in x3, you might go further to the right. If your portfolio have more than 1,000 in gain, or you might go, for example, from 1,000 back to 200. You would still be positive, but you are worse off than the prior year. Then you will debit unrealized, holding in, or loss credit fair value for 800 for that example. How do we report things on the income statement and balance sheet? On the balance sheet, we're gonna accrue any interest receivable, if there's any interest receivable on the bond. We're gonna report the investment at fair value, for example, 193,000. And we're also going to have under stockholders' equity, other comprehensive loss, which happens to be, in our example, 7,000, sorry, it should be, not 7,200. It should be, the unrealized loss should be 7,000, not 7,200, 7,000, the adjustment is 7,200. On the income statement, we will show any interest received, whether it's cash or a crude. And remember, we sold the economic integration bond, and we had the realized gain of 2,500. This is not all about available for sale securities. For available for sale securities, you also need to learn about reclassification, which is have a separate recording for this. And we need to talk about impairment, when those securities are impaired, how do we record for impairment? What should you do now? You should go to farhatlectures.com and work MCQs, multiple choice questions. Look at additional resources to learn more, available for sale, health to maturities, trading securities. Don't shortchange yourself. My resources will help you do better. Give me a try, give me a month. Give it a try, you like it, you keep it, you don't, you cancel, that's your risk. Invest in yourself, this is a long-term investment. Good luck, study hard, and of course, stay safe.