Question

Peel Company received a cash dividend from a common stock investment. Should Peel report an increase in the investment account if it carries the investment at fair value or if it uses the equity method of accounting?

Fair Value Equity

a. No No

b. Yes    Yes

c. Yes    No

d. No Yes

An investor uses the equity method to account for an investment in common stock. Assume that (1) the investor owns less than 50 percent of the outstanding common stock of the investee, (2) the investee company reports net income and declares dividends during the year, (3) the fair value of the investee’s stock is unchanged during the year, and (4) the investee’s net income is more than the dividends it declares. How would the investor’s investment in the common stock of the investee company under the equity method differ at year-end from what it would have been if the investor had carried the investment at fair value?

a. The balance under the equity method is higher than it would have been if the investment was carried at fair value.

b. The balance under the equity method is lower than it would have been if the investment was carried at fair value.

c. The balance under the equity method is higher than it would have been if the investment was carried at fair value, but only if the investee company actually paid the dividends before year-end.

d. The balance under the equity method is lower than it would have been if the investment was carried at fair value, but only if the investee company actually paid the dividends before year-end.

Investor Inc. owns 40 percent of Alimand Corporation. During the calendar year 20X5, Alimand had net earnings of $100,000 and paid dividends of $10,000. During 20X5, the market value of Alimand’s stock remained unchanged. Investor mistakenly recorded these transactions by carrying the investment at fair value rather than using the equity method of accounting. What effect would this have on the investment account, net earnings, and retained earnings, respectively?

a. Understate, overstate, overstate.

b. Overstate, understate, understate.

c. Overstate, overstate, overstate.

d. Understate, understate, understate.

Answer 1

Peel Company received a cash dividend from a common stock investment. Should Peel report an increase in the investment account if it carries the investment at fair value or if it uses the equity method of accounting?

a. NO NO

(In equity, dividend will reduce investment and in Fair Value, there is not impact)

An investor uses the equity method to account for an investment in common stock. Assume that (1) the investor owns less than 50 percent of the outstanding common stock of the investee, (2) the investee company reports net income and declares dividends during the year, (3) the fair value of the investee’s stock is unchanged during the year, and (4) the investee’s net income is more than the dividends it declares. How would the investor’s investment in the common stock of the investee company under the equity method differ at year-end from what it would have been if the investor had carried the investment at fair value?

a. The balance under the equity method is higher than it would have been if the investment was carried at fair value.

Investor Inc. owns 40 percent of Alimand Corporation. During the calendar year 20X5, Alimand had net earnings of $100,000 and paid dividends of $10,000. During 20X5, the market value of Alimand’s stock remained unchanged. Investor mistakenly recorded these transactions by carrying the investment at fair value rather than using the equity method of accounting. What effect would this have on the investment account, net earnings, and retained earnings, respectively?

d. Understate, understate, understate.