Case 10-7 Impaired Abilities Scenario A On March 31, 20X6, at the end of its first quarter, Company A owned a portfolio of investment-grade, fixed-rate debt securities classified as available for sale. Because of interest rate increases that occurred between the date that certain securities were acquired and March 31, 20X6, a material portion of the portfolio was ?underwater.? Company A has evaluated this decline in fair value to determine whether it is other than temporary and has concluded that the decline is temporary. Company A has provided the auditors with a brief memo documenting its conclusion as of the period-end as follows: M E M O R A N D U M TO: Company A Files FROM: Controller DATE: March 31, 20X6 SUBJECT: Assessment of Impairment As of March 31, 20X6, management has reviewed the investment portfolio and has identified the following investments with a fair value below amortized cost: Investment Acquisition Date Amortized Cost Fair Value Unrealized (Loss) Duration of Impairment Municipal Bonds 9/30/X4 $8,500,000 $7,500,000 ($1,000,000) 18 months Corporate Bonds 7/30/X3 $8,200,000 $6,800,000 ($1,400,000) 32 months We have determined that the debt securities are not other-than-temporarily impaired on the basis of the following facts: ? We do not intend to sell the debt securities at March 31, 20X6. ? We have determined that it is not more-likely-than-not that we will be required to sell the debt securities before recovery of their amortized cost bases. ? The decline is attributable solely to adverse interest rate movements. ? The principal and interest payments have been made as scheduled, and there is no evidence that the debtor will not continue to make them as scheduled. That is, we expect to fully recover the amortized cost bases of these securities. Accordingly, we will not record an impairment loss in earnings. Copyright 2007 Deloitte Development LLC All Rights Reserved. Case 10-7: Impaired Abilities Page 2 In addition, A has provided a written representation to its auditors that as of March 31, 20X6, it does not intend to sell the debt securities and it is not more-likely-than-not that it will be required to sell the debt securities before recovery of their amortized cost bases. On April 30, 20X6, A sold certain of the ?temporarily impaired? debt securities in its portfolio and realized a loss on the sale. Management told the auditors that the reason for the sale was that A?s head trader decided to sell these securities and invest in new securities that would provide A an increased yield. Required: ? You have been asked by the engagement partner to react to the client memo and other related information and provide a supported position regarding the appropriate accounting for these securities as of the March 31, 20X6 balance sheet date. ? Would your position be affected if the fair value of the debt securities declined below historical cost by only 2 percent? Why or why not? Copyright 2007 Deloitte Development LLC All Rights Reserved. Case 10-7: Impaired Abilities Page 3 Copyright 2007 Deloitte Development LLC All Rights Reserved. Scenario B On February 1, 20X6, Company X purchased 100,000 common shares of Company B, a large retailer of designer shoes that also has a wholesale division, for $90 per share. The securities are classified as available for sale. As of December 31, 20X6, X?s year-end, the fair value of X?s investment in B has declined below historical cost. Over the past year, the fair value of the security and related unrealized gain/loss has fluctuated as follows: Period Ended Fair Value ?Company B Unrealized Gain/(Loss) March 31, 20X6 $100 per share $1,000,000 June 30, 20X6 $80 per share ($1,000,000) September 30, 20X6 $85 per share ($500,000) December 31, 20X6 $85 per share ($500,000) Company X has evaluated this decline in fair value to determine whether it is other than temporary and has concluded that the decline is temporary on the basis of the following: ? The duration of the impairment is less than one year. ? Company X forecasts recovery by April 20X7. ? Company B?s share price has experienced temporary declines in the past. ? Company B has a high credit rating. Company X has provided a written representation to its auditors that as of December 31, 20X6, it has the positive intent and ability to hold these impaired securities for a period sufficient to allow for the anticipated recovery in market value. The 20X6 financial statements were issued on March 1, 20X7. On March 15, 20X7, B announced in a press release a plan to dispose of a major segment of its business and restructure the remaining operations to allow the company to leave the retail market and concentrate solely on the wholesale market. The press release further states that the reorganization will result in an initial loss of revenue and significant initial costs but forecasts a return to profitability within a reasonable period. Immediately after reading the press release, X sold the securities and realized a loss on the sale. Required: ? You have been asked by the engagement partner to react to the client conclusion that the decline in value is temporary and other related information and provide a supported position regarding the appropriate accounting for these securities as of the December 31, 20X6, balance sheet date.

Case 10-7 Impaired Abilities Scenario A On March 31, 20X6, at the end of its first quarter, Company A owned a portfolio of investment-grade, fixed-rate debt securities classified as available for sale. Because of interest rate increases that occurred between the date that certain securities were acquired and March 31, 20X6, a material portion of the portfolio was \"underwater.\" Company A has evaluated this decline in fair value to determine whether it is other than temporary and has concluded that the decline is temporary. Company A has provided the auditors with a brief memo documenting its conclusion as of the period-end as follows: MEMORANDUM TO: FROM: DATE: SUBJECT: Company A Files Controller March 31, 20X6 Assessment of Impairment As of March 31, 20X6, management has reviewed the investment portfolio and has identified the following investments with a fair value below amortized cost: Investment Municipal Bonds Corporate Bonds Acquisition Amortized Date Cost 9/30/X4 $8,500,000 7/30/X3 $8,200,000 Fair Value $7,500,000 Unrealized (Loss) ($1,000,000) Duration of Impairment 18 months $6,800,000 ($1,400,000) 32 months We have determined that the debt securities are not other-than-temporarily impaired on the basis of the following facts: We do not intend to sell the debt securities at March 31, 20X6. We have determined that it is not more-likely-than-not that we will be required to sell the debt securities before recovery of their amortized cost bases. The decline is attributable solely to adverse interest rate movements. The principal and interest payments have been made as scheduled, and there is no evidence that the debtor will not continue to make them as scheduled. That is, we expect to fully recover the amortized cost bases of these securities. Accordingly, we will not record an impairment loss in earnings. Copyright 2007 Deloitte Development LLC All Rights Reserved. Case 10-7: Impaired Abilities Page 2 In addition, A has provided a written representation to its auditors that as of March 31, 20X6, it does not intend to sell the debt securities and it is not more-likely-than-not that it will be required to sell the debt securities before recovery of their amortized cost bases. On April 30, 20X6, A sold certain of the \"temporarily impaired\" debt securities in its portfolio and realized a loss on the sale. Management told the auditors that the reason for the sale was that A's head trader decided to sell these securities and invest in new securities that would provide A an increased yield. Required: You have been asked by the engagement partner to react to the client memo and other related information and provide a supported position regarding the appropriate accounting for these securities as of the March 31, 20X6 balance sheet date. Would your position be affected if the fair value of the debt securities declined below historical cost by only 2 percent? Why or why not? Copyright 2007 Deloitte Development LLC All Rights Reserved. Case 10-7: Impaired Abilities Page 3 Scenario B On February 1, 20X6, Company X purchased 100,000 common shares of Company B, a large retailer of designer shoes that also has a wholesale division, for $90 per share. The securities are classified as available for sale. As of December 31, 20X6, X's year-end, the fair value of X's investment in B has declined below historical cost. Over the past year, the fair value of the security and related unrealized gain/loss has fluctuated as follows: Period Ended March 31, 20X6 June 30, 20X6 September 30, 20X6 December 31, 20X6 Fair Value Company B $100 per share $80 per share $85 per share $85 per share Unrealized Gain/(Loss) $1,000,000 ($1,000,000) ($500,000) ($500,000) Company X has evaluated this decline in fair value to determine whether it is other than temporary and has concluded that the decline is temporary on the basis of the following: The duration of the impairment is less than one year. Company X forecasts recovery by April 20X7. Company B's share price has experienced temporary declines in the past. Company B has a high credit rating. Company X has provided a written representation to its auditors that as of December 31, 20X6, it has the positive intent and ability to hold these impaired securities for a period sufficient to allow for the anticipated recovery in market value. The 20X6 financial statements were issued on March 1, 20X7. On March 15, 20X7, B announced in a press release a plan to dispose of a major segment of its business and restructure the remaining operations to allow the company to leave the retail market and concentrate solely on the wholesale market. The press release further states that the reorganization will result in an initial loss of revenue and significant initial costs but forecasts a return to profitability within a reasonable period. Immediately after reading the press release, X sold the securities and realized a loss on the sale. Required: You have been asked by the engagement partner to react to the client conclusion that the decline in value is temporary and other related information and provide a supported position regarding the appropriate accounting for these securities as of the December 31, 20X6, balance sheet date. Copyright 2007 Deloitte Development LLC All Rights Reserved