Cost method

Question 1

used for

Answer 1

external reporting purposes

Question 2

Assumption

Answer 2

no significant influence can be asserted from 0% to 20%

Question 3

If the company owns <20% but exercises significant influence

Answer 3

equity

Question 4

Investment in investee:

Step 1: record at cost

Answer 4

B/S account; original cost = fv of consideration given + legal fees; can be changed in case of a liquidating dividend; adjustment to fv; investee incurs a loss that substantially decreases its worth; shares of stock in the investee are purchased or sold
JE:

Investment in Investee (valuation account)
Cash

Question 5

Step 2: marketable securities adjust to fv

Answer 5

goes to OCI because most likely available for sale security and not trading so:
unrealized loss
investment in investee account

Question 6

Step 3: reduce valuation account for return of capital distribution/ liquidating dividend

Answer 6

NOT STOCK Dividends
Dividends in excess of a investor’s share of RE

Cash
Investment in Investee

Question 7

Stock dividends

Answer 7

memo entry only when you actually receive the stock dividend (example 5); only increase the number of shares owned

Question 8

Income statement: step 1: income or dividends to the parent from the investee are income or earning to the parents

Answer 8

to the extent of the parent’s shares of the sub’s undistributed earnings or retained earnings

dr cash
cr dividend income

Question 9

Step 2: distribution that exceeds the parent’s share of the sub’s undistributed earnings

Answer 9

dr cash
cr investment in investee

return of capital distribution; reduce basis

Question 10

Pass key

Answer 10

1) investment in investee or valuation account is NOT adjusted for investee earnings
2) investment in investee is adjusted to fv (mrk to mkt and thats the oci unrealized adjustment)
3) cash dividends from the investee are reported as income by the investor or the parent

Question 11

if you own 10% company

Answer 11

claim: 10% of dividends and 10% of RE

dividends you get to the extent of re-> dividend income
dividends you get more than your claim to RE-> liquidating dividend

dr cash
cr dividend income
cr investment in investee or valuation account

problem on page f3-13

Question 12

investment account is reduced only if

Answer 12

1) shares of stock are sold
2) cumulative dividends exceed cumulative earnings
3) sub incurs losses that substantially reduced net worth

not adjusted for changes in market value that does not explain the portion of the dividend not recognized in income