Sale of Investments

When a company sells an investment, it results in a gain or loss which is recognized in income statement. A gain on sale of investment arises when the (disposal) value of an investment exceeds its cost. Similarly, a capital loss is when the value of investment drops below its cost.

Accounting treatment of a disposal of investment depends on:

1. the nature of the investment i.e. whether it is a share of common stock, preferred stock, a bond, etc.,
2. the extent of the investment i.e. the percentage holding, and
3. the initial recognition and continuing accounting of the investment.

Investments in shares of common stock are accounted for using either the fair value through profit and loss, fair value through other comprehensive income, equity method or consolidation depending on the extent of ownership.

Sale of Investment in Marketable Securities

Investment of up to 20% in common stock of a company are recognized using the fair value method (also called cost method). Such investments are revalued at each reporting date and any associated gains and losses are recognized in income statement. At the time of sale, any gain or loss since the last reporting date is recognized income.

Example 1

Let’s say you purchased 10,000 shares of common stock of Company A on 1 January 2017 at $10. Your company’s year end is 31 June 2017 when the price per share was $11. On 30 September 2017, you disposed of investment at $11.5 per share. In the financial statements for the year ended 30 June 2017, you will recognize a capital gain of $10,000 (=10,000 × ($11 - $10)). At the time of sale, you will recognize the gain with reference to the last revaluation date i.e. $5,000 (=10,000 × ($11.5 - $11)). You will need to make the following journal entry as at 30 September 2017:

Sale of Investments using Equity Method

Investment in the range of 20%-50% of the outstanding common stock of a company are accounted for using the equity method. Under the equity method, the investor adds its proportionate share in income of the investee to the carrying value of its investment and subtracts its proportionate share of dividends. At the time of disposal, the difference between the carrying value and the sale proceeds is recognized as income or expense.

Example 2

Let's assume you purchased 30% stake in Company B on 1 January 2016 for $30 million. After two years when the value of investment using the equity method was $34 million, you sold it for $32 million. This has resulted in a loss on investment of $2 million ($32 million - $34 million). This would be recognized using the following journal entry:

Disposal of Subsidiaries

Investments that result in control i.e. where the investee is a subsidiary which is consolidated, the gain or loss depends on whether the parent uses the fair value method or equity method and whether it retains control after the sale. If the parent retains control even after the sale, the sale has no gain or loss implications and any difference between the cash inflows and adjusted value of investment is recognized in equity. If the parent loses control, it must adjust the carrying value of investment in its individual financial statement and recognize the difference between sale proceeds and adjusted equity method value as gain or loss.

Sale of Investments at FVOCI

If an investment is accounted for using the fair value through other comprehensive income (FVOCI), the accumulated gains or losses are stored directly in equity and routed through income statement in the period in which the investment is sold.

Example 3

Let’s say you purchased 300,000 shares of Company C on 1 January 2018 for $45 million and carried them at fair value through other comprehensive income. On 31 March 2018, you recognized a gain of $3 million in the other comprehensive income. You sold the investment for $50 million on 30 June 2018. You would need to debit the unrealized gain recognized in other comprehensive income, debit the cash proceeds, credit the investment value and recognize the total gain:

Sale of Investment in Debt Securities

Debt securities which are carried at fair value through profit and loss are adjusted to their fair value at each reporting date and hence gain or loss on sale is recognized only since the last revaluation date.

Any gain or loss on debt securities which are carried at amortized cost equals the difference between the sale proceeds and the amortized value.

by Obaidullah Jan, ACA, CFA and last modified on Jun 22, 2018