Chapter 7, Problem 7.23AE

a

To determine

Modified equity method and cost method: When investments were accounted for using the modified equity method, the proportionate share of subsidiary income and dividends are recorded in the same manner as under the fully adjusted equity method. However, the share of unrealized profits from intercompany transactions is not different, instead, these unrealized gains or losses are removed from the parent’s retained earnings in the period after the intercompany sale, and in that case, the parent’s net income is usually not equal to the amount of consolidated net income allocated to the controlling interest.

The journal entries recorded in P’s books related to investment and all consolidation entries needed, assuming P uses the modified equity method.

Explanation of Solution

1. Entries recorded by P related to his investment in SS in 20X4

Particulars	Debit $	Credit $
Investment in SS Company	45,500
Income from SS Company		45,500
(Income from Subsidiary recognized)
Cash	13,000
Investment in SS Company		13,000
(Received cash on account of dividends from subsidiary)

2. Elimination entries

Particulars	Debit $	Credit $
Common stock	300,000
Retained earnings	145,000
Income from SS company	45,500
Non-controlling interest in net income of SS Company	27,300
Dividends declared		20,000
Investment in SS company		321,750
Non-controlling interest in net assets of SS company		176,050
(Elimination of beginning investment in SS)
Investment in SS company	11,000
Land		11,000
(Elimination of gain on purchase of land)
Investment in SS Company	26,000
Non-controlling interest in net assets of SS	14,000
Equipment		40,000
(Elimination of gain on equipment)
Accumulated depreciation	8,000
Depreciation expenses		8,000
(Recognition of depreciation expense)

1. P’s share of income in SS for 20X4 is recognized

  $\mathrm{\$}45,500=\mathrm{\$}70,000\times .65$

2. Dividends from SS recognized $\mathrm{\$}13,000=\mathrm{\$}20,000\times .65$

Elimination entries

3. Elimination of beginning investment
Retained earnings $\mathrm{\$}145,000=(\mathrm{\$}100,000+50,000-5,000\mathrm{d}\mathrm{i}\mathrm{v}\mathrm{i}\mathrm{d}\mathrm{e}\mathrm{n}\mathrm{d}\mathrm{s})$

Income from SS Company $\mathrm{\$}45,500=\mathrm{\$}70,000\times .65$

Non-controlling interest of Net income from SS $\mathrm{\$}27,300=(\mathrm{\$}70,000+8,000\text{}\mathrm{e}\mathrm{x}\mathrm{t}\mathrm{r}\mathrm{a}\mathrm{d}\mathrm{e}\mathrm{p}\mathrm{r}\mathrm{e}\mathrm{c}\mathrm{i}\mathrm{a}\mathrm{t}\mathrm{i}\mathrm{o}\mathrm{n})\times .35$

Investment in SS Company (P’s share of book value)

Common stock	$300,000
Retained earnings January 1 20X3	145,000
Book value at 20X3	$445,000
Add net income 20X4	70,000
Less: dividends 20X4	(20,000)
Book value at 20X4	$495,000

P share of book value $\mathrm{\$}321,750=\mathrm{\$}495,000\times .65$

Non-controlling interest in Net assets of SS Company $\mathrm{\$}176,050=(\mathrm{\$}495,000\times .35)+(.35\text{}\times \mathrm{\$}8,000\text{}\mathrm{e}\mathrm{x}\mathrm{t}\mathrm{r}\mathrm{a}\mathrm{d}\mathrm{e}\mathrm{p}\mathrm{r}\mathrm{e}\mathrm{c}\mathrm{i}\mathrm{a}\mathrm{t}\mathrm{i}\mathrm{o}\mathrm{n})$

4. Gain on purchase of land eliminated $11,000 = ($41,000 − $30,000)
5. Gain on sale of equipment eliminated recognized and extra depreciation recorded.

b

To determine

Modified equity method and cost method: When investments were accounted for using the modified equity method, the proportionate share of subsidiary income and dividends are recorded in the same manner as under the fully adjusted equity method. However, the share of unrealized profits from intercompany transactions is not different, instead, these unrealized gains or losses are removed from the parent’s retained earnings in the period after the intercompany sale, and in that case, the parent’s net income is usually not equal to the amount of consolidated net income allocated to the controlling interest.

The journal entries recorded in P’s books related to investment and all consolidation entries needed, assuming P uses the cost method.

Explanation of Solution

1. Entries recorded by P related to his investment in SS in 20X4

Particulars	Debit $	Credit $
Cash	13,000
Dividend income		13,000
(Received cash on account of dividends from subsidiary)

3. Elimination entries

Particulars	Debit $	Credit $
Common stock	300,000
Retained earnings	100,000
Investment in SS company		260,000
Non-controlling interest in net assets of SS company		140,000
(Elimination of beginning investment in SS)
Dividend income	13,000
Non-controlling interest in net income of SS	7,000
Dividend declared		20,000
(Declared dividends eliminated)
Non-controlling interest in net income of SS	20,300
Retained earnings	15,750
Non-controlling interest in net assets of SS Company		36,050
(Prior undistributed income assigned to non-controlling interest)
Investment in SS company	11,000
Land		11,000
(Elimination of gain on purchase of land)
Investment in SS Company	26,000
Non-controlling interest in net assets of SS	14,000
Equipment		40,000
(Elimination of gain on equipment)
Accumulated depreciation	8,000
Depreciation expenses		8,000
(Recognition of depreciation expense)

1. Dividends from SS recognized $\mathrm{\$}13,000=\mathrm{\$}20,000\times .65$<

Elimination entries

2. Beginning investment eliminated by reversal.
3. Dividends declared in 20X4 eliminated by reversal.
4. Prior year undistributed earning eliminated.
5. Gain on purchase of land eliminated $11,000 = ($41,000 − $30,000).
6. Gain on sale of equipment eliminated recognized and extra depreciation recorded.