Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2-9
DESCRIPTIONS OF CASES, EXERCISES, AND PROBLEMS
C2-1A
20 min.
LO 2-2,
LO 2-3
E
Choice of Accounting Method
The criteria used in determining significant influence are reviewed. Students also
must specify when investment income will be greater under the cost method and
when it will be greater under the equity method. They should also explain why
the use of the equity method becomes more appropriate as the percentage of
ownership increases.
C2-2
30 min.
LO 2-2,
LO 2-3
M
Intercorporate Ownership
Students are required to research current authoritative pronouncements and
develop a memorandum to management supporting the use of either the cost or
equity method in accounting for the company’s investment. They should support
their findings with citations and quotations from the appropriate literature.
C2-3A
30 min.
LO 2-2,
LO 2-3
M
Application of the Equity Method
Students must review authoritative pronouncements to determine whether the
company should utilize the cost or equity method subsequent to the sale of part of
its investment. Students must prepare a memorandum to the controller and
outline and support their opinion.
C2-4
25 min.
LO 2-6,
LO 2-7
M
Need for Consolidation Process
An effective answer to this case requires an understanding of which balances
must be eliminated in order to avoid misstating the consolidated balance sheet
totals.
C2-5
25 min.
LO 2-1
M
Account Presentation
Students must research authoritative literature to determine the proper way of
combining account balances from different subsidiaries. A memorandum that
reports findings and provides the necessary supporting references is required.
C2-6
25 min.
LO 2-6,
LO 2-7
M
Consolidating an Unprofitable Subsidiary
An unprofitable venture is currently consolidated with a profitable entity without
separately disclosing the loss. Students must research the issue to determine if
disclosure is necessary, and describe what type of disclosures will be necessary in
the financial statement notes or the management discussion. Reference to
authoritative literature must be included in a memorandum to the treasurer.
E2-1
15 min.
LO 2-2,
LO 2-3
E
Multiple-Choice Questions on Use of Cost and Equity Methods
[AICPA Adapted]
Six multiple-choice questions deal with basic applications of the cost and equity
methods and when each should be used.
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–10
E2-2
5 min.
LO 2-4
M
Multiple Choice Questions on Intercorporate Investments
Two multiple-choice questions deal with conceptual issues related to the cost and
equity methods.
E2-3
15 min.
LO 2-3
M
Multiple-Choice Questions on Applying Equity Method
[AICPA Adapted] Four multiple-choice questions focus primarily on the
computation of equity method income.
E2-4
20 min.
LO 2-4
E
Cost versus Equity Reporting
Students must compute the income to be reported for three years under the (a)
cost method and (b) the equity method. Liquidating dividends exist for the cost
method.
E2-5
10 min.
LO 2-2,
LO 2-3
E
Acquisition Price
Given the net income and dividend payments of an investee for a three-year
period and the ending balance in the investment account on the investor’s books,
the acquisition price paid by the investor is computed under cost and equity
method reporting.
E2-6
20 min.
LO 2-2,
LO 2-3
M
Investment Income
The investor’s income is computed for a four-year period using both the cost and
equity methods. Journal entries for the final year are recorded under both
methods. Dividends in excess of earnings are paid in the third year.
E2-7
15 min.
LO 2-3
E
Investment Value
Calculation of the investment account balance is required for three consecutive
years.
E2-8A
5 min.
LO 2-2,
LO 2-3
E
Income Reporting
Separate recognition of an extraordinary gain reported by the investee is required
on an investor’s books.
E2-9
15 min.
LO 2-4,
LO 2-5
M
Fair Value Method
Net income has to be calculated under three methods – cost, equity, and fair
value methods.
E2-10
15 min.
LO 2-3,
LO 2-5
M
Fair Value Recognition
Journal entries are required for all transactions occurring during the year of
purchase assuming that the investor utilizes (1) the equity method and (2) the fair
value method.
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–11
E2-11A
15 min.
LO 2-3,
LO 2-5
M
Investee with Preferred Stock Outstanding
Journal entries must be given for the investor under the equity method. Preferred
stock information is provided.
E2-12A
15 min.
LO 2-2,
LO 2-3
M
Other Comprehensive Income Reported by Investee
Journal entries must be given for the investor. Operating income and other
comprehensive income reported by the investee is provided.
E2-13A
10 min.
LO 2-2,
LO 2-3
E
Other Comprehensive Income Reported by Investee
The investee records an operating loss in the first year and a gain in the second
year. Dividends are paid in both years. It also reports other comprehensive
income in the second year. The balance in the investor’s equity-method
investment account is given at the end of the second year. The purchase price
must be calculated.
E2-14
20 min.
LO 2-7
M
Basic Consolidation Entry
Consolidation entry is required assuming acquisition of 100% of an investee’s
stock.
E2-15
25 min.
LO 2-6,
LO 2-7
E
Balance Sheet Worksheet
A simple balance sheet worksheet following the business consolidation is
required. An entry for elimination of the investment account and the
stockholders’ equity balances of the subsidiary is needed.
E2-16
40 min.
LO 2-3,
LO 2-7
M
Consolidation Entries for Wholly Owned Subsidiary
Students must prepare journal entries for an acquisition using the equity method.
Consolidation entries to prepare consolidated financial statements are required.
E2-17
15 min.
LO 2-3,
LO 2-7
E
Basic Consolidation Entries for Fully Owned Subsidiary
Journal entries recorded by the parent company and the consolidation entries
needed to prepare consolidated statements at the end of the first year of
ownership are required for a fully-owned subsidiary.
P2-18
20 min.
LO 2-2,
LO 2-3
H
Retroactive Recognition
Students must show the journal entries to be recorded on an investor’s books
assuming that an increase in the percentage ownership over the past three years
requires retroactive application of the equity method.
P2-19
20 min.
LO 2-4,
LO 2-5
M
Fair Value Method
Investment income and the balances in the investment account are to be
calculated for three years, assuming the cost method, the equity method, and the
fair value method.
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–12
P2-20
15 min.
LO 2-5
M
Fair Value Journal entries
All journal entries made by the investor are required for two years, assuming the
usage of the fair value method.
P2-21A
25 min.
LO 2-5
H
Other Comprehensive Income Reported by Investee
An investee reports other comprehensive income during the period. Students
must compute the equity-method income reported for the year, the increase in the
balance in the investment account for the year, the amount of other
comprehensive income reported by the investee, and the market value of the
securities reported as available-for-sale by the investee at the end of the year.
P2-22A
45 min.
LO 2-3,
LO 2-7
H
Equity-Method Income Statement
An income statement and a retained earnings statement for both the investee and
investor must be prepared. The investee has discontinued operations, an
extraordinary item, and a cumulative adjustment from a change of accounting
principle. This problem presents a good review of income statement disclosures
for the investee and the resulting disclosures needed in the financial statements of
the investor.
P2-23
30 min.
LO 2-3,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the First Year of Ownership (Equity
Method) Students are asked to prepare journal entries on a parent company’s
books at the time of an acquisition and then to prepare a consolidation worksheet
at the end of the first year.
P2-24
30 min.
LO 2-3,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the Second Year of Ownership (Equity
Method) As a continuation of P2-23, students are asked to prepare equity method
journal entries on a parent company’s books related to the subsidiary and then to
prepare a consolidation worksheet at the end of the second year.
P2-25
35 min.
LO 2-3,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the First Year of Ownership (Equity
Method) Students are asked to prepare journal entries on a parent company’s
books at the time of an acquisition and then to prepare a consolidation worksheet
at the end of the first year.
P2-26
35 min.
LO 2-3,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the Second Year of Ownership (Equity
Method) As a continuation of P2-25, students are asked to prepare equity method
journal entries on a parent company’s books related to the subsidiary and then to
prepare a consolidation worksheet at the end of the second year.
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–13
P2-27B
30 min.
LO 2-2,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the First Year of Ownership (Cost
Method) This problem uses the same data as provided in P2-23 except that it
assumes the parent uses the cost method for subsidiary investments. Students are
asked to prepare journal entries on a parent company’s books at the time of an
acquisition and then to prepare a consolidation worksheet at the end of the first
year.
P2-28B
30 min.
LO 2-2,
LO 2-6,
LO 2-7
M
Consolidated Worksheet at End of the Second Year of Ownership (Cost
Method) This problem uses the same data as provided in P2-24 except that it
assumes the parent uses the cost method for subsidiary investments. As a
continuation of P2-27, students are asked to prepare any cost method journal
entries on a parent company’s books related to the subsidiary and then to prepare
a consolidation worksheet at the end of the second year.
OTHER RESOURCES
Level of Ownership and Accounting and Reporting
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–14
Chapter 2
Investment Example
On July 1, 20X8, A Company purchases a 20 percent ownership interest in B Company for $500.
At this date, the book value of B’s assets is $2,000 and the fair value of B’s depreciable assets is
$300 greater than book value. Depreciable assets have a remaining economic life of 10 years.
Goodwill is not amortized.
B Company reports net income of $400 for the year, earned evenly throughout the year.
Dividends of $300 are declared and paid on December 31.
A. Assume that A Company is able to exert significant influence over B Company.
B. Assume that A Company is unable to exert significant influence over B Company.
A. EQUITY METHOD
Changes in Investment Account and Calculation of End of Period Balance:
Income from Equity Investment:
$40
Less: Amortization (3)
$37
Income from Investment
7/1/X8
B’s BOOK VALUE ON 7/1/X8 $2,000
Investment cost $500
Book value ($2,000 x .20) (400)
Excess of Cost over B.V. $100
Revalue asset (300 x 0.20) 60
(Depreciated over 10 years)
Goodwill $40
Original Cost $500
Plus: Income from Investment 40
($400 x 0.20 x 0.5 years)
Less: Amortization (3)
[($60/10years) x 0.5 years]
Less: Dividends (60)
$477
Chapter 02 – REPORTING INTERCORPORATE INTERESTS
2–15
B. COST METHOD
Dividend on December 31:
Total
20%
Income from 7/1 to 12/31
$200
$40
Dividend on December 31
(300)
(60)
Preacquisition earnings distributed
$(100)
$(20)
(Return of Investment Capital)
Changes in Investment Account and Calculation of End of Period Balance:
Original Cost: $500
Less: Return of Capital (20)
Ending Balance $480
Income from Equity Investment:
Dividend Income $40
COMPARISON OF COST AND EQUITY METHODS
Transaction
COST METHOD
EQUITY METHOD
1.) Acquired stock
Investment
500
Investment
500
Cash
500
Cash
500
2.) Investee reports income
— no entry —
Investment
40
Income-Invest.
40
3.) Investee declares cash dividends
Cash
60
Cash
60
Div. Income
40
Investment
60
Investment
20
4.) Amortization of differential
— no entry —
Income-Invest.
3
Investment
3