Question

Big owns 30% of the outstanding voting common stock of Little and has the ability to significantly influence the investee's operations and decision making. On January 1, 20X1, the balance in the Investment in Little Co. account was $402,000. There is no amortization associated with the purchase of this investment. During 20X1, Little earned income of $108,000 and paid cash dividends of $36,000. Previously in 20X0, Little had sold inventory costing $28,800 to Big for $48,000. All but 25% of this merchandise was consumed by Big during 20X0. The remainder was used during 20X1. Additional sales were made to Big in 20X1; inventory costing $33,600 was transferred at a price of $60,000. Of this total, 40% was not consumed until 20X2. What amount of equity income would Big have recognized in 20X1 from its ownership interest in Little? What is the correct balance in the Investment in Little account on December 31, 20X1?

Answer 1

Solution:

Part 1

Ownership interest = (Income×Ownership percentage) + Unrealized profit - Additional sales

Ownership interest = ($108000 x 30%) + $1440 - $3168

Ownership Interest = $30672

Where,

Unrealized Profit

= (Selling price of inventory in last year - cost of inventory in last year) x Consumption % in last years x Ownership %

= ($48000 - $28800) x 25% x 30%

= $1440

Additional Sales

= (Transferred price of inventory in current year - Inventory cost this year) x Percentage of inventory not consumed x Ownership %

= ($60000 - $33600) x 40% x 30%

= $3168

Therefore, equity income that big have recognized in in 20X1 from its ownership interest

is $30672

Part 2

Balance in the investment = Investment + Ownership interest − Cash dividends paid

Balance in the investment = $402000 + $30672 - ($36000 x 30%)

Balance in the investment = $421872

Therefore correct balance in the Investment in Little account on December 31, 20X1 is $421872.