Investment Accounting

🎯 Investment Accounting: Growing Your Money Garden

The Big Picture: What Are Investments?

Imagine you have a piggy bank full of coins. Instead of letting them sit there doing nothing, what if you could plant them like magic seeds that grow into MORE coins? That’s exactly what investments are!

When a company has extra cash, it doesn’t just leave it in a drawer. It puts that money to work—buying things that can earn MORE money. These are called investments.

Simple Truth: An investment is money you give to someone else, hoping they’ll give you back MORE money later.

🌱 Investment Types and Purposes

Think of investments like different types of pets. Some are small and easy to care for. Others are big and need more attention. Companies choose investments based on what they need:

Why Do Companies Invest?

The Three Main Types

graph TD
    A["💰 Company Has Extra Cash"] --> B{What to do with it?}
    B --> C["🏦 Debt Investments"]
    B --> D["📈 Equity Investments"]
    B --> E["🏠 Other Investments"]
    C --> F["Bonds, Notes, CDs"]
    D --> G["Stocks, Shares"]
    E --> H["Real Estate, Funds"]

Real-Life Example: Your lemonade stand made $100 profit. You could:

• Put $50 in a savings account (debt investment)
• Buy 5 shares of a cookie company (equity investment)

💵 Debt vs Equity Investments

This is like choosing between being a lender or an owner.

Debt Investments: You’re the Banker

When you buy a debt investment, you’re lending your money. The borrower PROMISES to pay you back, plus some extra (interest).

Example: You lend $1,000 to a company. They give you a paper (bond) that says “I’ll pay you $50 every year for 5 years, then give you your $1,000 back.”

Equity Investments: You’re the Owner

When you buy an equity investment, you own a PIECE of that company. If the company does well, you do well. If it struggles, so do you.

Example: You buy 10 shares of a toy company for $100. If the company becomes super popular, your shares might be worth $200! But if nobody buys their toys, your shares might only be worth $50.

graph TD
    A["🤔 Debt or Equity?"]
    A --> B["Debt = You're a LENDER]
    A --> C[Equity = You're an OWNER"]
    B --> D["💰 Get fixed payments"]
    B --> E["✅ Safer, predictable"]
    C --> F["📈 Share in growth"]
    C --> G["⚠️ Riskier, exciting"]

⏰ Short vs Long-term Investments

Investments come in two flavors based on how long you plan to keep them:

Short-term Investments (Current Assets)

These are investments you plan to sell or get back within one year. They’re like a snack—quick to consume!

Example: Your company has $10,000 it needs for bills in 6 months. Instead of letting it sit, you buy a 6-month Treasury bill that earns 4%. Money stays safe AND grows!

Long-term Investments (Non-current Assets)

These are investments you plan to hold for more than one year. They’re like planting a tree—takes time to grow!

Example: A company buys 1,000 shares of a growing tech company, planning to hold them for 5 years as the company expands.

graph TD
    A["📅 How Long to Hold?"]
    A -->|Less than 1 year| B["Short-term"]
    A -->|More than 1 year| C["Long-term"]
    B --> D["Current Assets"]
    C --> E["Non-current Assets"]

✍️ Recording Investment Purchases

When a company buys an investment, it needs to write it down properly. Think of it like keeping a diary of your purchases!

The Simple Rule

Record investments at COST = what you actually paid for them (including any fees)

Example: Buying Bonds

Company ABC buys a $10,000 bond for $9,800 plus $50 broker fee.

What to record:

• Investment amount = $9,800 + $50 = $9,850

The Journal Entry:

Example: Buying Stocks

Company XYZ buys 100 shares at $25 each, plus $75 commission.

What to record:

• Investment amount = (100 × $25) + $75 = $2,575

The Journal Entry:

Golden Rule: Always include ALL costs to get the investment ready. Broker fees, commissions, and transfer costs all go into the investment cost!

💸 Investment Income Recognition

Your investments can earn money in different ways. Let’s see how to record each type!

Interest Income (from Debt Investments)

When you own bonds or notes, you earn interest. It’s like rent the borrower pays for using your money!

Example: You own a $10,000 bond that pays 6% interest annually. Every year, you earn:

• Interest = $10,000 × 6% = $600

Journal Entry when you receive interest:

Dividend Income (from Equity Investments)

When you own stocks, companies may share their profits with you. These payments are called dividends!

Example: You own 200 shares. The company declares a $0.50 dividend per share.

• Dividend = 200 × $0.50 = $100

Journal Entry when you receive dividends:

graph TD
    A["💵 Investment Income"]
    A --> B["From Debt = Interest"]
    A --> C["From Equity = Dividends"]
    B --> D["Record as Interest Income"]
    C --> E["Record as Dividend Income"]

📊 Valuation of Investments

Here’s a tricky question: What’s your investment WORTH right now? The price you paid… or what you could sell it for TODAY?

The Fair Value Method

Most investments get valued at fair value (market value) at the end of each period. This means:

• If your $100 stock is now worth $120, you show it as $120
• If your $100 stock dropped to $80, you show it as $80

Categories and How They’re Valued

Example: You bought stock for $1,000. At year-end, it’s worth $1,200.

If it’s a TRADING investment:

• Increase value by $200
• Show $200 gain on Income Statement

If it’s AVAILABLE-FOR-SALE:

• Increase value by $200
• Show $200 in Other Comprehensive Income (not regular income)

Simple Translation: Fair value = what someone would pay you TODAY if you sold it.

📈📉 Investment Gains and Losses

When you sell an investment, did you make money or lose money? Let’s find out!

The Formula

Gain or Loss = Selling Price − Book Value (what you paid)

• If positive → You made a GAIN 🎉
• If negative → You suffered a LOSS 😢

Example: Selling at a Gain

You bought 50 shares for $2,000. You sell them for $2,800.

Calculation:

• Gain = $2,800 − $2,000 = $800 GAIN

Journal Entry:

Example: Selling at a Loss

You bought bonds for $5,000. You sell them for $4,200.

Calculation:

• Loss = $4,200 − $5,000 = $800 LOSS

Journal Entry:

graph TD
    A["🏷️ Selling Investment"]
    A --> B{Sell Price vs Cost?}
    B -->|Sell > Cost| C["🎉 GAIN"]
    B -->|Sell < Cost| D["😢 LOSS"]
    C --> E["Credit Gain Account"]
    D --> F["Debit Loss Account"]

🎯 Unrealized vs Realized Gains/Losses

There’s an important difference between gains on paper and gains in your pocket!

Unrealized (Paper Gains/Losses)

You still own the investment. The value changed, but you haven’t sold it yet.

Example: You bought stock for $500. It’s now worth $700. You have an unrealized gain of $200 (you haven’t sold yet!)

Realized (Actual Gains/Losses)

You sold the investment. The money is in your hands!

Example: You sell that $700 stock. Now your $200 gain is realized—it’s real money!

🌟 Quick Summary

Let’s bring it all together with our money garden analogy:

🚀 You’ve Got This!

Investment accounting might sound fancy, but it’s really just keeping track of money you’ve planted hoping it will grow. Remember:

1. Debt = You’re a lender (safer, fixed returns)
2. Equity = You’re an owner (riskier, bigger potential)
3. Record at cost (include ALL fees)
4. Track your income (interest or dividends)
5. Know the value (fair value for most)
6. Calculate your wins and losses (selling price minus what you paid)

Now go grow that money garden! 🌻💰