From Schweser Practice Exam I Volume II Jansen Co, a manufacturer of high-end sports equipment, earned $45 million in net income for the year. The Company paid out $1.30 per share in dividends. Jansen issued 500,000 shares at the beginning of the year at $20 (1 million shares were outstanding before the issuance). The market value of Jansen’s short term investments decreased by $2.4 million. Which of the following is closest to the change in Jansen’s SH Equity? A. Decreased by $50.65 million B. Increased by $50.65 million C. Decreased by $53.05 million D. Increased by $53.05 million Here is there answer: Your answer: B was incorrect. The correct answer was D) Rather than learn all the things that might be included, remember that generally only longer-term adjustments are made to stockholder’s equity. Thus changes in short-term investments are excluded. I thought short-term investments held for trading were included in net income and SH equity and available for sale were included in net income.
Does anybody have an idea on this?
Shares at the beginning of the year: 1M Shares issued during the year:0.5M Dividend paid:1.3*1.5M=1.95M NI=45M, therefore RE=NI-Div paid=45-1.95=43.05M The Equity position also increases by the CFF inflow from the issue of shares: 0.5M*20=10M Total change in the equity position = 43.05+10=53.05M The short-term investments is not a change in Equity, it will be a mezzanine position in the Balance sheet, in between liabilities and equity. It will also appear on the Statement of Changes in Owner’s Equity, most probably also retrieved in the statement of comprehensive income, but not hit the Income statement (if securities are held as available-for-sale, that is, the company has no intention of actively trading these securities, and it certainly does not, since this is a manufacturing, not a financial company).
Thanks for the response. I think you are right in picking up that the company is a manufacturing company. So these investments are either available for sale or held to maturity. Question: But if it is available for sale, wouldn’t the short term investments impact the SH Equity (even though they do not impact the income statement)?
As long as the security is not sold, the gain or loss resulting from the change in the market value of a security is unrealized, only gain or loses on trading securities reflect in the IS, that is under US GAAP.
But isn’t SH equity is a balance sheet item not an income statement item? And SH equity includes other comprehensive income.
Under USGAAP/FASB is reported in the BS on mezzanine, neither liability, nor equity. Under IASB it would be a direct adjustment to equity.
I thought short term investments were a current asset. (e.g., http://en.wikipedia.org/wiki/Asset)