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Cornerstones of Financial Accounti...

4th Edition
Jay Rich + 1 other
ISBN: 9781337690881

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Cornerstones of Financial Accounti...

4th Edition
Jay Rich + 1 other
ISBN: 9781337690881
Textbook Problem
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Accounting for Investments in Equity Securities

On January 1, 2019, Stem Corporation purchased 100 shares of common stock issued by Milstein Inc. (representing 12% of the total shares outstanding) for $6,000 and 500 shares of Heifetz Inc. (representing 25% of the total shares outstanding) for $20,000. Assume that the acquisition cost of each investment equals the book value of the related stockholders’ equity on the records of the investee. During 2019, Milstein declared and paid cash dividends to Stem of $500, and Heifetz declared and paid cash dividends to Stem of $1,700. Milstein reported 2019 net income of $12,000, and Heifetz reported 2019 net income of $15,000. On December 31, 2019, the market value of 100 shares of Milstein was $6,450, and the market value of 500 shares of Heifetz was $19,720.

Required:

Answer the following questions for both investments:

Milstein Heifetz

1. Which accounting method is applicable?

2. What amount is recorded in the investment account on the date of acquisition?

3. What amount is recorded in Stern’s net income from the investment?

4. What amount is reported for the investment on the balance sheet at December 31, 2019?

To determine

Concept introduction:

Fair Value Method: Fair market value method is applied when there is less than 20% share in company. In fair market value method we value the investment on its market value and difference is recorded in the income statement as a profit or loss.

Equity Method: In equity method we value the investment on the basis of their proportionate share in the assets of the investee company. Equity method applies when there is at least 20% share holding in the company. When there is 20% holding in any company then we have a significant control over the company.

To find:

Answer the following:

Explanation

Fair Value Method: Fair market value method is applied when there is less than 20% share in company. In fair market value method we value the investment on its market value and difference is recorded in the income statement as a profit or loss.

Net Income = Cash dividend+ Increases in value of Investment

500+ 450

= 950

Amount in balance Sheet = Fair market value = 6450

Equity Method: In equity method we value the investment on the basis of their proportionate share in the assets of the investee company...

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