Significant Influence - Equity Method

Question 1

When do you use the Equity Method of Accounting?

Answer 1

When you have significant influence

Which is typically >20% <50% of ownership

Question 2

What are the criteria for exerting significant influence?

Answer 2

Typically >20% agreement exists

Question 3

What are the Component Parts of Equity Method Accounting?

Answer 3

1) Original Cost
2) ProRata Share of Income
3) ProRata Share of Investee Dividends
4) Amortization of FV > BV

Equity Method T-Account
\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_
Original cost     |
                          |  Pro-Rata Share of Investee dividends
Pro-Rata share |
of Investee       |
Income              |
                          |  Amortization of FV > BV

Question 4

What is Net Book Value?

Answer 4

= Assets - Liabilities

ie=Equity

Question 5

How do you determine what an investor is receiving from an investment when Equity method is used?

Answer 5

Steps:
1) Determine Net Book Value
2) Revalue Plant Assets to FMV to Determine Net Book Value @ FMV
3) Compare Price paid to Net book Value @ FMV
this equals goodwill

Goodwill

Plant Assets

Net BV (Assets - Liabilities)
-------------------------------------------

Question 6

Why is it called the Equity Method?

Answer 6

Because it reflects changes in Investee’s Retained Earnings
The components of the Equity Method is the Mirror of Parent’s Books

Retained Earnings T-Account
\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_
                        |    Beginning Balance
                        |    Net Income
Dividends       |
                        | 
\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_\_
                              Ending Balance