Financial Accounting, 10e (Libby)
Appendix A Reporting and Interpreting Investments in Other Corporations
1) The extent of influence and control over another company is a critical factor in determining
the proper method of accounting for an investment in the common stock of another company.
2) All investments other than held-to-maturity bond investments are reported on the balance
sheet at their fair value as of the balance sheet date.
3) Investments in bonds intended to be sold before they reach maturity should be reported under
the fair value method.
4) Management must have the intent and ability to hold a bond investment until maturity if it is
to be classified as a held-to-maturity security.
5) Held-to-maturity bond investments must be reported on the balance sheet at fair value.
6) Passive debt investments other than held-to-maturity investments are reported on the balance
sheet at fair value.
7) A realized gain or loss is reported on the income statement when an equity investment account
is adjusted to reflect changes in fair value.
8) An unrealized holding gain is reported on the income statement when the fair value of an
available-for-sale debt security exceeds its fair value reported in the prior period.
9) A decline in the fair value of the available-for-sale debt securities portfolio reduces assets and
net income.
10) The equity investment portfolio is adjusted to fair value at the end of each period with the
offsetting effect reported on the income statement as a realized gain or loss.
11) For all periods in which a debt security is held in the available-for-sale securities portfolio,
the only income reported on the income statement is interest revenue
12) An unrealized holding gain is reported within other comprehensive income when the fair
value of a trading debt security exceeds its fair value reported in the prior period.
13) An unrealized holding loss is reported on the income statement when the fair value of a debt
trading security is less than its fair value reported in the prior period.
14) When a trading security is sold, three journal entries are required: one to adjust the security
to fair value, another to record the sale, and a third to adjust retained earnings.
15) An increase in the fair value of the debt trading securities portfolio increases both assets and
net income.
16) The equity method is required to be used when an investor has the ability to exert significant
influence over the affiliate.
17) Use of the equity method is required for investments between 20 and 50% of a company’s
voting common stock regardless of the investor’s ability to influence the affiliate.
18) Under the equity method, dividends received are recognized by increasing the Investment
Revenue account.
19) Ocean Corporation owns 30% of Woods Corp. for which it paid $5.5 million and uses the
equity method to account for the investment. Woods Corp. paid stockholders a $100,000
dividend. Therefore, the Investment in Woods Corp. account will decrease by Ocean’s $30,000
proportionate share of the Woods. Corp. dividend.
20) Barnum Company owns an investment and uses the equity method of accounting. Under the
equity method of accounting, Barnum would decrease the Investment account for the
proportionate share of the affiliate’s reported net loss.
21) For an investment accounted for under the equity method, the Investment account along with
an investment income account would be increased for an amount equal to the investor’s
proportionate share of the affiliate’s reported net income.
22) An investment accounted for under the equity method is reported on the balance sheet at fair
value.
23) When an investment accounted for under the equity method is sold, the gain or loss reported
on the income statement is the difference between the selling price and the original cost of the
investment.
24) Madison Inc. acquires 100% of the voting stock of Allison Corp. for $10.0 million. Allison’s
total assets at fair value equaled $12.5 million and Allison had liabilities at fair value equal to
$3.4 million. Madison will report goodwill of $0.9 million.
25) On the date that one company acquires 100% of the voting stock of another company, the
book value of the acquired assets and liabilities will be combined with book values of the assets
and liabilities of the acquiring company.
26) Subsequent to a merger, the assets and liabilities of the acquired company will continue to be
accounted for within the acquired company’s books.
27) Goodwill is reported on a consolidated balance sheet only if it was acquired in a merger or
acquisition.
28) The assets of a subsidiary are depreciated and amortized over their remaining useful lives as
a part of the consolidation process.
29) Any unrealized gains or losses on debt trading securities would have to be added back to or
subtracted from net income on the statement of cash flows under the indirect method of
determining cash flows from operating activities.
30) The accounting for passive investments in equity securities is similar to the accounting for
trading debt securities.
31) If a bond is purchased at a discount, then interest revenue using the effective interest method
will be less than the cash interest received.
32) If a bond is purchased at a discount, the amortized book value of the bond investment will
increase as the bond approaches maturity.
33) Which of the following is the best description of investments in trading securities?
A) Investments in bonds that management intends to hold to maturity.
B) Investments in bonds that are held primarily for the purpose of selling them in the near future.
C) Investments in more than fifty percent of the voting stock of another company.
D) Investments that provide the investor significant influence over the investee, but not control
over the investee.
34) Which of the following is the best description of investments in available-for-sale securities?
A) Investments in bonds that management intends to hold to maturity.
B) Investments in bonds that are held primarily for the purpose of selling them in the near future.
C) Investments in more than fifty percent of the voting stock of another company.
D) Investments in debt securities that are passive investments other than trading securities and
held-to-maturity investments and are accounted for under the fair value method.
35) Idaho Company purchased, as a long-term investment, 30% of the outstanding bonds of
Potato Corporation. Which of the following classifications should be used by Idaho Company in
accounting for the investment?
A) Trading securities.
B) Held-to-maturity.
C) Available-for-sale.
D) Consolidation.
36) Chang Corp. purchased $1,000,000 of bonds at par value on April 1, 2019. The bonds pay
interest at the rate of 10%. Chang intends and has the ability to hold these bonds to maturity.
Which of the following statements is false?
A) Since the bonds were issued at par value, the cash interest will be the same as interest
revenue.
B) The bonds will earn $75,000 of interest by December 31, 2019.
C) The bond investment must be accounted for using the fair value method.
D) Since the bonds were classified as held-to-maturity, the company would not recognize
unrealized gains or losses on the bonds during the period held by Chang.
37) On January 1, 2019, Entertainment Company acquired 15% (80,000 shares) of the
outstanding voting stock of Rocker Company as a long-term investment for $1,784,000. During
2019, Rocker Company reported net income of $1,500,000 and dividends were declared and paid
in the amount of $250,000. How much income will be reported during 2019 from the Rocker
investment if the year-end price of the shares is $22.30 per share?
A) $225,000.
B) $37,500.
C) $187,500.
D) $250,000.
38) Which of the following statements is correct?
A) Any unrealized holding gain or loss on debt investments in trading securities is reported on
the income statement.
B) Any unrealized holding gain or loss on debt investments in available-for-sale securities is
reported on the income statement.
C) All unrealized gains and losses on debt investments are reported on the income statement
regardless of the method used to account for the investment.
D) All unrealized holding gains and losses on debt investments are reported as a component of
Other Comprehensive Income regardless of the method used to account for the investment.
39) Lyrical Company purchased debt securities for $500,000 and classified them as trading
securities on September 15, 2019. On December 31, 2019, the current fair value of the securities
was $481,000. How should the investment be reported within the 2019 financial statements?
A) The debt investment in trading securities would be reported in the balance sheet at its
$481,000 fair value.
B) The debt investment in trading securities would be reported in the balance sheet at its
$500,000 cost.
C) A realized holding loss on the debt trading securities would be reported on the income
statement.
D) The investment in debt trading securities would be reported in the balance sheet at its
$481,000 fair value and a realized holding loss on the debt trading securities would be reported
on the income statement.
40) Libby Company purchased debt securities for $100,000 and classified them as available-for-
sale securities on September 15, 2019. At December 31, 2019, the current fair value of the debt
securities was $105,000. How should the investment be reported in the 2019 financial
statements?
A) The debt investment in available-for-sale securities would be reported on the balance sheet at
its $100,000 cost.
B) The $5,000 unrealized gain is reported within the income statement.
C) The $5,000 realized gain is reported within the income statement.
D) The debt investment in available-for-sale securities would be reported in the balance sheet at
its $105,000 fair value and an unrealized holding gain on available-for-sale securities would be
reported in the stockholders’ equity section of the balance sheet.
41) On January 1, 2019, Short Company purchased 20,000 shares (15% of the outstanding voting
shares) of Daniel Corporation’s $1 par value common stock at a cost of $50 per share as a long-
term investment. During November 2019, Daniel declared and paid a cash dividend of $1.25 per
share. At December 31, 2019, end of the accounting period, Daniel’s shares were selling at $48.
What is the net amount reported in the income statement for the year ended December 31, 2019
for Short Company related to this investment?
A) $65,000
B) $25,000
C) ($40,000)
D) ($15,000)
42) On July 1, 2019, as a long-term investment, Wildlife Supply Company purchased 6,000 of
the 18,000 outstanding shares of the nonvoting preferred stock of Nature Company for $30 per
share. The records of Nature Company reflect the following:
2019 net income
$
60,000
Dividends declared and paid during December, 2019
$
6,500
December 31, 2019 market price per share
$
27
The amount reported on the balance sheet by Wildlife Company for its investment at December
31, 2019 would be which of the following?
A) $179,800.
B) $162,000.
C) $182,000.
D) $197,800.
43) On July 1, 2019, Surf Company purchased long-term investments in equity securities as
follows:
Blue Corporation common stock (par $5) 2,000 shares at $16 per share.
Black Company preferred stock (par $20) 1,500 shares at $30 per share.
The quoted market prices per share on December 31, 2019 were as follows:
Blue Corporation stock, $15 per share
Black Company stock, $30 per share
Each of the long-term investments represents 10% of the total shares outstanding. The combined
carrying value of the long-term investments reported in the balance sheet at December 31, 2019
would be which of the following?
A) $77,000.
B) $73,500.
C) $71,500.
D) $75,000.
44) When accounting for investments in trading securities, any decline in fair value below the
cost of the investments is reported in which of the following ways?
A) On the income statement as a realized loss.
B) On the income statement as an unrealized holding loss.
C) On the balance sheet as a realized loss.
D) On the balance sheet as an unrealized holding loss in the stockholders’ equity section.
45) The primary difference in accounting for available-for-sale debt investments and accounting
for trading debt investments is which of the following?
A) Measuring the fair value of the long-term and short-term investment portfolios on the balance
sheet.
B) Determination of the acquisition cost.
C) Reporting of the unrealized holding gain or loss on investments within the financial
statements.
D) Determination of the unrealized holding gain or loss.
46) On July 1, 2019, Carter Company purchased equity securities as follows:
Dark Corporation common stock (par $1) 10,000 shares at $25 per share.
Janin Corporation preferred stock (par $100) 2,000 shares at $105 per share.
The quoted market prices per share on December 31, 2019 were as follows:
Dark Corporation stock, $27 per share
Janin Corporation stock, $104 per share
Each of the investments represented 5% of the total shares outstanding. The carrying value
amount of the investments at December 31, 2019 should be
A) $478,000.
B) $460,000.
C) $458,000.
D) $480,000.
47) Which of the following is true about a passive investment in common stock?
A) The investing company usually owns less than 20% of the voting stock in the affiliate and the
investment is reported on the balance sheet at cost.
B) The investment must not have any voting rights.
C) The fair value method requires unrealized gains and losses to be recognized in the
stockholders’ equity section of the balance sheet.
D) The investing company usually owns less than 20% of the voting stock in the affiliate and the
investment must be reported at fair value on the balance sheet.
48) Phillips Corporation purchased 1,000,000 shares of Martin Corporation’s common stock,
which constitutes 10% of Martin’s voting stock on June 30, 2019 for $42 per share. Phillips’
intent is to keep these shares beyond the current year. On December 20, 2019, Martin paid a
$4,000,000 cash dividend. On December 31, Martin’s stock was trading at $45 per share and
Martin reported 2019 net income of $52 million.
What method of accounting will Phillips use to account for this investment?
A) Amortized cost method.
B) Equity method.
C) Fair value method.
D) Consolidation.