Question

On January 1, 2007, Rotor Corporation acquired 30 percent of Stator Company's stock for $150,000. On the acquisition date, Stator reported net assets of $450,000 valued at historical cost and $500,000 stated at fair value. The difference was due to the increased value of buildings with a remaining life of 15 years. During 2007 and 2008 Stator reported net income of $25,000 and $15,000 and paid dividends of $10,000 and $12,000, respectively. Rotor uses the equity method.

1. Based on the preceding information, what amount of differential will be amortized annually?
A. $0
B. $750
C. $1,000
D. $2,000

*I know the answer is $1000 but if you can please show computations for that answer.

2. Based on the preceding information, what will be the balance in the investment account on Dec 31, 2007?
A. $150,000
B. $157,500
C. $154,500
D. $153,500

*I know the answer is $153,000 but if you can please show computations for that answer.

3. Based on the preceding information, what amount of investment income will be reported by Rotor for the year 2007?
A. $6,500
B. $7,500
C. $7,000
D. $25,000

*I know the answer is $6,500 but if you can please show computations for that answer.

4. Based on the preceding information, what amount will Rotor report as the balance in the investment account on Dec 31, 2008?
A. $150,000
B. $157,500
C. $153,400
D. $153,500

*I know the answer is $153,400 but if you can please show computations for that answer.

5. Based on the preceding information, what amount of investment income will be reported by Rotor for 2008?
A. $6,500
B. $7,500
C. $3,500
D. $4,500

*I know the answer is $3,500 but if you can please show computations for that answer.

6. Based on the preceding information, had Rotor Corporation used the cost method, what would have been the balance in the investment account on Dec 31, 2008?
A. $150,000
B. $157,500
C. $153,400
D. $153,500

*I know the answer is $150,000 but if you can please show computations for that answer.

Answer 1

ANSWER

As per relevant provisions of the applicable GAAP, Rotor Corporation acquired 30% Stock of Stator on 01January 2007. Therefore, Stator is an associate of Rotor Corporation since the later has significant influence on the former.

Therefore, accounting shall be done using Equity method in the Consolidated Financial Statements of Rotor Corporation.

Solution to required question

1. Refer note 1
2. Refer note 2
3. Refer note 3
4. Refer note 4
5. Refer note 5
6. Refer note 6

Statement showing value of Investments
Particulars	Note	$	$
Initial recognition of Investment in Stator (at cost) as on 01.01.2007	6		150,000
Post acquistion adjustments during 2007
Add: Share in post profits of Stator Company		7,500
( $ 25,000 x 30% )
Less: Depreciation adjusted due to increased fair value	1	1,000
( $ 500,000 - $ 450,000)/15 Years x 30%
	3		6,500
Less: Dividends paid by stator during 2007			-3,000
( $ 10,000 x 30% )
Closing Value of Investments in Stator as on 31.12.2007	2		153,500
Particulars	Note	$	$
Opening value of Investments as on 01.01.2008			153,500
Post acquistion adjustments during 2008
Add: Share in post profits of Stator Company		4,500
( $ 15,000 x 30% )
Less: Depreciation adjusted due to increased fair value		1,000
( $ 500,000 - $ 450,000)/15 Years x 30%
	5		3,500
Less: Dividends paid by stator during 2008			-3,600
( $ 12,000 x 30% )
Closing Value of Investments in Stator as on 31.12.2008	4		153,400