Chapter 1 Advanced Accounting Answers

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Maria Marrocchi

Chapter 1

6. The equity method has come under criticism for the following theoretical issues
-Emphasizing the 20-50 percent of voting stock in determining significant influence versus control
-Allowing off-balance sheet financing
-Potentially biasing performance rations
Over the years firms have learned ways to control other firms despite owning less than 50 percent of voting shares. These tow companies should therefore be consolidated. However, in contrast to consolidated financial statements when applying the equity method, the investee’s assets and liabilities are not combined in the investors accounts, and are therefore kept off their books.

7. When moving from the fair value method to the equity method there must be a retrospective change on all prior financial statements to the equity method. This insures comparability of current and past financial statements.

8. The extraordinary gain should be reported as a percentage of the stock ownership and be accounted for as an extraordinary gain from the investee. This will increase the overall equity in investment income.

9. A permanent drop in market value must be recorded by the investor. The impairment loss will reduce the asset to fair value.

10. If the loss is significant and through the recognition of reported losses, the investment account can eventually be reduced to a zero balance. Regardless of the reasons, the carrying value of this investment account could conceivably be eliminated to zero. When the investment account is reduced to zero, the investor should discontinue using the equity method rather than establish a negative balance.

11. Paying an amount equal to book value is rare. Specific investee assets and liabilities have book values that may differ from their present values. The excess payment- can be identified directly with individual accounts such as inventory, equipment, franchise rights ect. These are accounted for in subsequent years using...
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