You are enjoying a very rewarding internship position with Ernest and Young, LLC

Question

You are enjoying a very rewarding internship position with Ernest and Young, LLC. You were assigned to work in the accounting department, specifically on the team that is responsible for the preparation of financial statement at year-end. Today, you encountered a very interesting situation.

Your immediate supervisor, Mark Stallman, and the CFO, Dave Holtz, are disagreeing about the accounting for the portfolio of equity and debt securities included in the company’s investment portfolio.

For the past several years, the company has built a rather large investment portfolio of debt and equity securities. It has been determined that at year end, January 31, 2019, the cost of the total portfolio is greater than its fair value.   As expected, some securities have increased in value above their original cost while others have decreased in value below their original cost.    It is now time to resolve the disagreement between Stallman and Hotlz and determine how the portfolio should be reported on the December 31, 2018 balance sheet.

Your supervisor, Mark Stallman, indicates that those securities that have increased in value above cost should be classified as trading securities.   Alternative, she wants to classify the securities that have decreased in value as long-term available-for-sale securities.

The CFO, Dave Hotlz, says that classifying the securities that have decreased in value as trading securities and those that have increased in value as long-term available-for-sale securities is the correct approach. Holtz' argument is that since EY is having a very good year, recognizing losses now will make income look less volatile    Moreover, built-in gains will be there in the future if the company is not so profitable.

You are asked to express your opinion/recommendation as to how the portfolio should be reported on the balance sheet.     Both Stallman and Holtz agree that since you are up-to-date on the latest accounting rules, you are the best person to resolve their conflict.

Write a letter addressed to both individuals, Mark Stallman and Dave Holtz.   Your letter should recommend the proper approach for reporting the portfolio on the balance sheet.

From an ethical standpoint, you should also express what is good and what is not good about the argument of both parties.

From an accounting standpoint, you should express what I good and what is not good about the argument of both parties.

Explanation / Answer

Answer ) For accounting stahdard point of view both category of securities have different importance for the adjustment of earned profit and calculation of tax. The accounting standards necessitate that investors classify his investments either in debt or equity category at time of purchase as held to maturity, held for trading or available for sale.
An available-for-sale security (AFS) is a security purchased with the thought of selling any time before maturity or holding it untill get matured.In general time, the accounting for AFS securities is very much similar to the accounting for trading securities,however changes in the value of AFS securities can be recorded as an unrealized gain or loss with other available comprehensive income (OCI).

Here in the above situtaion of comapny , the approach taken by the supervisor, Mark Stallman, is more appropraite that will decrease the net income as company had a very good year.this will alsoreduce the net tax liability of the firm.

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