CASE 101 Investment Classification

Qtip Corp. owns stock in Maxey Corp. The investment represents a 10 percent interest, and Qtip is unable to exercise significant influence over Maxey.

The Maxey stock was purchased by Qtip on January 1, 2016, for $23,000. The stock consistently pays an annual dividend to Qtip of $2,000. Qtip classifies the stock as available for sale. Its fair value at December 31, 2016, was $21,600. This amount was properly reported as an asset in the balance sheet. Owing to the development of a new Maxey product line, the market value of Qtips investment rose to $27,000 at December 31, 2017.

The Qtip management team is aware of the provisions of SFAS No. 115. The possibility of changing the classification from available for sale to trading is discussed. This change is justified, the managers say, because they intend to sell the security at some point in 2017 so they can realize the gain.

Required:

1. Discuss the role that managerial intention plays in the accounting treatment of equity securities that have a readily determinable fair value under SFAS No. 115.
2. What income statement effect, if any, would the change in classification have for Qtip?
3. Discuss the ethical considerations of this case.
4. Opponents of SFAS No. 115 contend that allowing a change in classification masks effects of unrealized losses and results in improper matching of marketvalue changes with accounting periods. Describe how the accounting treatment and the proposed change in classification would result in this sort of mismatching.