The Equity Method of Accounting for Investments
Multiple Choice Questions
1. Gaw Company owns 15% of the common stock of Trace Corporation and used the fair-value method to account for this investment. Trace reported net income of $110,000 for 2011 and paid dividends of $60,000 on October 1, 2011. How much income should Gaw recognize on this investment in 2011? A. $16,500.
2. Yaro Company owns 30% of the common stock of Dew Co. and uses the equity method to account for the investment. During 2011, Dew reported income of $250,000 and paid dividends of $80,000. There is no amortization associated with the investment. During 2011, how much income should Yaro recognize related to this investment? A. $24,000.
3. On January 1, 2011, Pacer Company paid $1,920,000 for 60,000 shares of Lennon Co.'s voting common stock which represents a 45% investment. No allocation to goodwill or other specific account was made. Significant influence over Lennon was achieved by this acquisition. Lennon distributed a dividend of $2.50 per share during 2011 and reported net income of $670,000. What was the balance in the Investment in Lennon Co. account found in the financial records of Pacer as of December 31, 2011? A. $2,040,500.
4. A company should always use the equity method to account for an investment if: A. it has the ability to exercise significant influence over the operating policies of the investee. B. it owns 30% of another company's stock.
C. it has a controlling interest (more than 50%) of another company's stock. D. the investment was made primarily to earn a return on excess cash. E. it does not have the ability to exercise significant influence over the operating policies of the investee.
5. On January 1, 2009, Dermot Company purchased 15% of the voting common stock of Horne Corp. On January 1, 2011, Dermot purchased 28% of Horne's voting common stock. If Dermot achieves significant influence with this new investment, how must Dermot account for the change to the equity method? A. It must use the equity method for 2011 but should make no changes in its financial statements for 2010 and 2009. B. It should prepare consolidated financial statements for 2011. C. It must restate the financial statements for 2010 and 2009 as if the equity method had been used for those two years. D. It should record a prior period adjustment at the beginning of 2011 but should not restate the financial statements for 2010 and 2009. E. It must restate the financial statements for 2010 as if the equity method had been used then.
6. During January 2010, Wells, Inc. acquired 30% of the outstanding common stock of Wilton Co. for $1,400,000. This investment gave Wells the ability to exercise significant influence over Wilton. Wilton's assets on that date were recorded at $6,400,000 with liabilities of $3,000,000. Any excess of cost over book value of Wells' investment was attributed to unrecorded patents having a remaining useful life of ten years. In 2010, Wilton reported net income of $600,000. For 2011, Wilton reported net income of $750,000. Dividends of $200,000 were paid in each of these two years. What was the reported balance of Wells' Investment in Wilson Co. at December 31, 2011? A. $1,609,000.
7. On January 1, 2011, Bangle Company purchased 30% of the voting common stock of Sleat Corp. for $1,000,000. Any excess of cost over book value was assigned to goodwill. During 2011, Sleat paid dividends of $24,000 and reported a net loss of $140,000. What is the balance in the investment account on December 31, 2011? A. $950,800.
8. On January 1, 2011, Jordan Inc. acquired 30% of Nico Corp....
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