[ijustwant76]

Question: Pare, Inc., purchased 10% of Tot Co.’s 100,000 outstanding shares of common stock on January 2, 20X1, for $50,000. On December 31, 20X1, Pare purchased an additional 20,000 shares of Tot for $150,000. There was no goodwill as a result of either acquisition, and Tot had not issued any additional stock during 20X1. Tot reported earnings of $300,000 for 20X1. What amount should Pare report in its December 31, 20X1, balance sheet as investment in Tot?

Answers:

A. $170,000

B. $200,000

C. $230,000

D. $290,000

Explanation:

Since Pare purchased the additional shares on December 31, Pare records only 10% of Tot’s net income (for the 10% of the shares held during the year). However, because Pare owned a 30% share on December 31, the equity method is used, and the investment in Tot is adjusted for Pare’s share of net income:

Pare’s investment in Tot Co. on December 31, 20X1:

Acquisition cost of first 10,000 shares $ 50,000

Acquisition cost of additional 20,000 shares 150,000

Pare’s share of Tot Co.’s 20X1 earnings

under equity method (10% x $300,000) 30,000

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Total $230,000

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I dont see a reference where we should be using 10% instead of 30% for the Net Income split. Pare owns 30% and that says use Equity Method. Can someone explain??? Thanks in advance.

[Iggy1985]

Not sure if this will help but when you use the equity method you multiply the percentage owned by the net income of the investee and then multiply by the period of time during the year that the investment was on the books, so if they bought the investment on say, October 1, it would be $300,000 x 30% x 3/12

So since they only had the 30% for one day you wouldn't take 30% of the investee's income

FAR - 89 (8/19/14) Wiley TB, Wiley Book, Books from School, Ninja Audio/Notes
AUD - 92 (10/14/14) Wiley TB, Wiley Book, Ninja Audio
BEC - 82 (5/8/15) Mostly Ninja MCQ, sprinkles of Becker lectures and Ninja Audio
REG - (8/14/15)

[Mjganier]

Since for the entire year Pare owned only 10% of the shares, only 10% of the entire years net income is what they're entitled to. They only came to own 30% at the very end of the year. They switch from the fair value method to the equity method at the very end of the year which increases their investment account, but doesn't entitle them to the additional 20% net income.

FAR 8/18/2014--87
AUD 10/18/2014--78
REG 11/24/2014--76
BEC 2/28/2015--76

"If you can't explain it simply, you don't understand it well enough"-Albert Einstein

Study Mats: Cpaexcel study text and EQ, Ninja MCQ, Ninja notes

[tomq04]

i just had that one this morning as well 🙂

Above poster was correct.

They owed 10% of the company for 100% of the year, so their share is 10% of the profits for the whole year ($30,000).

At the end of the year they increased their holding by $150,000, which is immediately reflected in the investment account.

Holding 150k

cash 150k

REG- (1) 76
FAR- (2) 64, (5)74, (7)83 (Over achiever!)
AUD- (3) 70, (4) 75
BEC- (6) 75

[Author]

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