Question

At a total cost of $6,300,000, Herrera Corporation acquired 195,000 shares of Tran Corp. common stock as a long-term investment. Herrera Corporation uses the equity method of accounting for this investment. Tran Corp. has 750,000 shares of common stock outstanding, including the shares acquired by Herrera Corporation.

Required:

A.	Journalize the entries by Herrera Corporation on December 31 to record the following information (refer to the Chart of Accounts for exact wording of account titles): 1. Tran Corp. reports net income of $928,000 for the current period. 2. A cash dividend of $0.26 per common share is paid by Tran Corp. during the current period.
B.	Why is the equity method appropriate for the Tran Corp. investment?

CHART OF ACCOUNTSHerrera CorporationGeneral Ledger

	ASSETS
110	Cash
111	Petty Cash
120	Accounts Receivable
121	Allowance for Doubtful Accounts
131	Notes Receivable
132	Interest Receivable
141	Merchandise Inventory
145	Office Supplies
146	Store Supplies
151	Prepaid Insurance
161	Investment in Tran Corp. Stock
165	Valuation Allowance for Trading Investments
166	Valuation Allowance for Available-for-Sale Investments
181	Land
191	Store Equipment
192	Accumulated Depreciation-Store Equipment
193	Office Equipment
194	Accumulated Depreciation-Office Equipment

	LIABILITIES
210	Accounts Payable
221	Notes Payable
231	Interest Payable
241	Salaries Payable
251	Sales Tax Payable

	EQUITY
311	Common Stock
312	Paid-In Capital in Excess of Par-Common Stock
321	Preferred Stock
322	Paid-In Capital in Excess of Par-Preferred Stock
331	Treasury Stock
332	Paid-In Capital from Sale of Treasury Stock
340	Retained Earnings
350	Unrealized Gain (Loss) on Available-for-Sale Investments
351	Cash Dividends
352	Stock Dividends
390	Income Summary

	REVENUE
410	Sales
611	Interest Revenue
612	Dividend Revenue
621	Income of Tran Corp.
631	Gain on Sale of Investments
641	Unrealized Gain on Trading Investments

	EXPENSES
511	Cost of Merchandise Sold
512	Bad Debt Expense
515	Credit Card Expense
516	Cash Short and Over
520	Salaries Expense
531	Advertising Expense
532	Delivery Expense
533	Repairs Expense
534	Selling Expenses
535	Rent Expense
536	Insurance Expense
537	Office Supplies Expense
538	Store Supplies Expense
561	Depreciation Expense-Store Equipment
562	Depreciation Expense-Office Equipment
590	Miscellaneous Expense
710	Interest Expense
721	Loss of Tran Corp.
731	Loss on Sale of Investments
741	Unrealized Loss on Trading Investments

A. Journalize the entries by Herrera Corporation on December 31 to record the following information. Refer to the Chart of Accounts for exact wording of account titles.

PAGE 10

JOURNAL

ACCOUNTING EQUATION

	DATE	DESCRIPTION	POST. REF.	DEBIT	CREDIT	ASSETS	LIABILITIES	EQUITY
1
2
3
4

B. Why is the equity method appropriate for the Tran Corp. investment?

Herrera’s investment in Tran Corp. represents of the outstanding shares of Tran Corp. An investment amount between     and     of the outstanding common stock of the investee is presumed to represent significant influence. The equity method is when the investor can exercise significant influence over the investee.

Answer 1

According to the requirement of the question, we have to record Journal Entries.

Requirement A. Journalize the entries by Herrera Corporation on December 31 to record the following information.

Solution:-

Transaction	Account Tittles and Explanation	Debit ($)	Credit ($)
1.	Investment in Tran Corp. Stock (Working Note)	$241,280
	Investment Income of Tran Corp.		$241,280
	(To record 26% of Tran Corp. net income)
2.	Cash (195,000 * $0.26)	$50,700
	Investment in Tran Corp. Stock		$50,700
	(To record the dividends paid)

Working Note:- Calculation of Income

= Net Income * Shares acquired / shares outstanding

= $928,000 * (195,000 / 750,000)

= $928,000 * 26%

= $241,280

Requirement B. Why is the equity method appropriate for the Tran Corp. investment?

Solution:- Herrera’s investment in Tran Corp. represents 26% (195,000 / 750,000) of the outstanding shares of Tran Corp. An investment amount between 15% and 40% of the outstanding common stock of the investee is presumed to represent significant influence. The equity method is Appropriate when the investor can exercise significant influence over the Investee.

Thank you..

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