Exam 1: The Equity Method of Accounting for Investments

On January 3, 2013, Austin Corp. purchased 25% of the voting common stock of Gainsville Co., paying $2,500,000. Austin decided to use the equity method to account for this investment. At the time of the investment, Gainsville's total stockholders' equity was $8,000,000. Austin gathered the following information about Gainsville's assets and liabilities: For all other assets and liabilities, book value and fair value were equal. Any excess of cost over fair value was attributed to goodwill, which has not been impaired. What is the amount of goodwill associated with the investment?

On January 4, 2013, Bailey Corp. purchased 40% of the voting common stock of Emery Co., paying $3,000,000. Bailey properly accounts for this investment using the equity method. At the time of the investment, Emery's total stockholders' equity was $5,000,000. Bailey gathered the following information about Emery's assets and liabilities whose book values and fair values differed: Any excess of cost over fair value was attributed to goodwill, which has not been impaired. Emery Co. reported net income of $400,000 for 2013, and paid dividends of $200,000 during that year. What is the amount of the excess of purchase price over book value?

An investee company incurs an extraordinary loss during the period. The investor appropriately applies the equity method. Which of the following statements is true?

For each of the following numbered situations below, select the best letter answer concerning accounting for investments: (A.) Increase the investment account. (B.) Decrease the investment account. (C.) Increase dividend revenue. (D.) No adjustment necessary. (1.) Income reported by 40% owned investee. (2.) Income reported by 10% owned investee. (3.) Loss reported by 40% owned investee. (4.) Loss reported by 10% investee. (5.) Change from fair-value method to equity method. Prior income exceeded dividends. (6.) Change from fair-value method to equity method. Prior income was less than dividends. (7.) Change from equity method to fair-value method. Prior income exceeded dividends. (8.) Change from equity method to fair-value method. Prior income was less than dividends. (9.) Dividends received from 40% investee. (10.) Dividends received from 10% investee. (11.) Purchase of additional shares of investee. (12.) Unrealized ending intra-entity inventory profits using the equity method.

Aqua Corp. purchased 30% of the common stock of Marcus Co. by paying $500,000. Of this amount, $50,000 is associated with goodwill. Required: Prepare the journal entry to record Aqua's investment.

Dodge, Incorporated acquires 15% of Gates Corporation on January 1, 2013, for $105,000 when the book value of Gates was $600,000. During 2013 Gates reported net income of $150,000 and paid dividends of $50,000. On January 1, 2014, Dodge purchased an additional 25% of Gates for $200,000. Any excess cost over book value is attributable to goodwill with an indefinite life. The fair-value method was used during 2013 but Dodge has deemed it necessary to change to the equity method after the second purchase. During 2014 Gates reported net income of $200,000 and reported dividends of $75,000. Which adjustment would be made to change from the fair-value method to the equity method?

Charlie Co. owns 30% of the voting common stock of Turf Services Inc. Charlie uses the equity method to account for its investment. On January 1, 2013, the balance in the investment account was $624,000. During 2013, Turf Services reported net income of $120,000 and paid dividends of $30,000. What is the balance in the investment account as of December 31, 2013?

On January 1, 2013, Anderson Company purchased 40% of the voting common stock of Barney Company for $2,000,000, which approximated book value. During 2013, Barney paid dividends of $30,000 and reported a net loss of $70,000. What is the balance in the investment account on December 31, 2013?

On January 1, 2012, Mehan, Incorporated purchased 15,000 shares of Cook Company for $150,000 giving Mehan a 15% ownership of Cook. On January 1, 2013 Mehan purchased an additional 25,000 shares (25%) of Cook for $300,000. This last purchase gave Mehan the ability to apply significant influence over Cook. The book value of Cook on January 1, 2012, was $1,000,000. The book value of Cook on January 1, 2013, was $1,150,000. Any excess of cost over book value for this second transaction is assigned to a database and amortized over five years. Cook reports net income and dividends as follows. These amounts are assumed to have occurred evenly throughout the years: On April 1, 2014, just after its first dividend receipt, Mehan sells 10,000 shares of its investment. How much income did Mehan report from Cook during 2013?

Wathan Inc. sold $180,000 in inventory to Miller Co. during 2012, for $270,000. Miller resold $108,000 of this merchandise in 2012 with the remainder to be disposed of during 2013. Required: Assuming Wathan owns 25% of Miller and applies the equity method, prepare the journal entry Wathan should have recorded at the end of 2012 to defer the unrealized intra-entity inventory profit.

Acker Inc. bought 40% of Howell Co. on January 1, 2012 for $576,000. The equity method of accounting was used. The book value and fair value of the net assets of Howell on that date were $1,440,000. Acker began supplying inventory to Howell as follows: Howell reported net income of $100,000 in 2012 and $120,000 in 2013 while paying $40,000 in dividends each year. What is the Equity in Howell Income that should be reported by Acker in 2012?

When should an investor not use the equity method for an investment of 21% in another corporation?

In a situation where the investor exercises significant influence over the investee, which of the following entries is not actually posted to the books of the investor? 1) Debit to the Investment account, and a Credit to the Equity in Investee Income account. 2) Debit to Cash (for dividends received from the investee), and a Credit to Dividend Revenue. 3) Debit to Cash (for dividends received from the investee), and a Credit to the Investment account.

Renfroe, Inc. acquires 10% of Stanley Corporation on January 1, 2012, for $90,000 when the book value of Stanley was $1,000,000. During 2012, Stanley reported net income of $215,000 and paid dividends of $50,000. On January 1, 2013, Renfroe purchased an additional 30% of Stanley for $325,000. Any excess of cost over book value is attributable to goodwill with an indefinite life. During 2013, Renfroe reported net income of $320,000 and paid dividends of $50,000. How much is the adjustment to the Investment in Stanley Corporation for the change from the fair-value method to the equity method on January 1, 2013?

On January 2, 2012, Hull Corp. paid $516,000 for 24% (48,000 shares) of the outstanding common stock of Oliver Co. Hull used the equity method to account for the investment. At the end of 2012, the balance in the investment account was $620,000. On January 2, 2013, Hull sold 12,000 shares of Oliver stock for $12 per share. For 2013, Oliver reported income of $118,000 and paid dividends of $30,000. Required: (A.) Prepare the journal entry to record the sale of the 12,000 shares. (B.) After the sale has been recorded, what is the balance in the investment account? (C.) What percentage of Oliver Co. stock does Hull own after selling the 12,000 shares? (D.) Because of the sale of stock, Hull can no longer exercise significant influence over the operations of Oliver. What effect will this have on Hull's accounting for the investment? (E.) Prepare Hull's journal entries related to the investment for the rest of 2013.

On January 4, 2012, Trycker, Inc. acquired 40% of the outstanding common stock of Inkblot Co. for $2,400,000. This investment gave Trycker the ability to exercise significant influence over Inkblot. Inkblot's assets on that date were recorded at $8,000,000 with liabilities of $2,000,000. There were no other differences between book and fair values. During 2012, Inkblot reported net income of $500,000 and paid dividends of $300,000. The fair value of Inkblot at December 31, 2012 is $7,000,000. Trycker elects the fair value option for its investment in Inkblot. How are dividends received from Inkblot reflected in Trycker's accounting records for 2012?

On January 4, 2012, Trycker, Inc. acquired 40% of the outstanding common stock of Inkblot Co. for $2,400,000. This investment gave Trycker the ability to exercise significant influence over Inkblot. Inkblot's assets on that date were recorded at $8,000,000 with liabilities of $2,000,000. There were no other differences between book and fair values. During 2012, Inkblot reported net income of $500,000 and paid dividends of $300,000. The fair value of Inkblot at December 31, 2012 is $7,000,000. Trycker elects the fair value option for its investment in Inkblot. At what amount will Inkblot be reflected in Trycker's December 31, 2012 balance sheet?

On January 3, 2013, Roberts Company purchased 30% of the 100,000 shares of common stock of Thomas Corporation, paying $1,500,000. There was no goodwill or other cost allocation associated with the investment. Roberts has significant influence over Thomas. During 2013, Thomas reported income of $300,000 and paid dividends of $100,000. On January 4, 2014, Roberts sold 15,000 shares for $800,000. What is the gain/loss on the sale of the 15,000 shares?

A company has been using the fair-value method to account for its investment. The company now has the ability to significantly control the investee and the equity method has been deemed appropriate. Which of the following statements is true?

On January 1, 2013, Jordan Inc. acquired 30% of Nico Corp. Jordan used the equity method to account for the investment. On January 1, 2014, Jordan sold two-thirds of its investment in Nico. It no longer had the ability to exercise significant influence over the operations of Nico. How should Jordan have accounted for this change?