MINI EXERCISES

M7-11 (10 minutes) a. Pfizer reports available-for-sale securities at their market value on the balance sheet. For 2005, this is equal to the original cost ($270 million) plus unrecognized gains ($189 million) and less unrealized losses ($12 million), or $447 million. b. Pfizer reports the net unrealized gains on available-for-sale securities as a component of Accumulated Other Comprehensive Income in the stockholders equity section of its balance sheet. There is no effect to current period net income.

M7-12 (15 minutes) a. If the investment is accounted for as available-for-sale, Wasley will report the dividends received of $6,600 (6,000 shares $1.10 per share) as income. The increase in the market price of the stock will not be recognized as income until the stock is sold. The unrealized gain of $6,000 is included in Accumulated Other Comprehensive Income in the stockholders equity section of the balance sheet. b. If the investment is accounted for as trading, Wasley will report $12,600 as income: $6,600 of dividend income plus $6,000 of income relating to the increase in the stocks market price [$13 ($12 x 6,000 shares)]. M7-13 (10 minutes) Abbott Laboratories is accounting for its investment in marketable equity securities as available-for-sale. We know this because the unrealized gains and losses on these marketable equity securities are reported in comprehensive income (not reported in net income as with trading securities). Abbott Labs unrealized losses of $9,219,000 are not recognized in current period net income. Instead, they are reported as a decrease in Other Comprehensive Income (OCI). Abbott Labs stockholders equity (Accumulated Other Comprehensive Income) is decreased by the unrealized losses for 2005. However, net income and retained earnings are not impacted by these unrealized losses.
Cambridge Business Publishers, 2008 Solutions Manual, Module 7 7-3

M7-14 (20 minutes) a. Given the 30% ownership, significant influence is presumed and the investment must be accounted for using the equity method. The yearend balance of the investment account is computed as follows: Beginning balance ...................................... $1,000,000 % Lang income earned ............................... 30,000 ($100,000 0.3) % Dividends received ................................. (12,000) ($40,000 0.3) Ending balance ............................................ $1,018,000 b. Stober reports income from investments of $30,000 ($100,000 0.3). Equity-method earnings are computed as the reported net income of the investee (Lang Company) multiplied by the percentage of the outstanding common stock owned by the investor (30%). c. (1) In contrast to the market method, the equity method of accounting does not report investments at market value. Neither the balance sheet nor the income statement reflects the unrealized gain of $200,000.

M7-15 (10 minutes) Equity income on this investment is computed as Pennos earnings multiplied by the 40% percent that Kross owns. In this case, equity earnings equal: $600,000 40% = $240,000 Note that dividends are treated as a return of investment. Kross reduces the investment balance by $80,000, computed as $200,000 40%. Dividends are not income to Kross. Also, Kross records the investment at adjusted cost, not at market value, and unrealized gains (losses) are neither recognized on the balance sheet nor in the income statement. M7-16 (15 minutes) a. Merck reports its equity method investments at $3 billion on its 2005 balance sheet. Equity method investments are reported at adjusted cost, not at current market value. Adjusted cost is the original purchase price plus (minus) Mercks proportionate share of investee companies profits (losses), less dividends received. b. Merck accounts for dividends received on equity method investments as a reduction of the investment balance, not as income.
Cambridge Business Publishers, 2008 7-4 Financial Accounting for MBAs, 3rd Edition

M7-17 (10 minutes) The $600,000 investment in Hirst Company appearing on Philipich Company's balance sheet and the $300,000 common stock and $450,000 retained earnings of Hirst Company would be eliminated. In addition, a $150,000 minority interest [20% ($300,000 + $450,000)] would appear on the consolidated balance sheet. Many analysts treat the minority interest as an equity account, and FASB has issued an exposure draft (proposing new GAAP) requiring presentation as such.

M7-18 (10 minutes) Benartzi Company net income ............................................................ 90% of $150,000 Liang Company net income .................................... Consolidated net income ..................................................................... $600,000 135,000 $735,000

M7-19 (10 minutes) Consolidated earnings under the pooling-of-interest method would be higher because pooling-of-interest does not recognize current market values of assets and goodwill. As a result, consolidated earnings will not be reduced by the depreciation and/or amortization of those additional asset values, nor will subsequent income statements be burdened by the charges for permanent impairment of goodwill.

Cambridge Business Publishers, 2008 Solutions Manual, Module 7 7-5

E7-21 (30 minutes) a. Investments classified as trading Balance Sheet

Transaction
MS 80,000 Cash 80,000 1. Ohlson Co.
MS 80,000 Cash 80,000

Income Statement
Revenues Expenses = Net Income

Cash Asset

Noncash LiabilContrib. Earned = + + Assets ities Capital Capital

purchases 5,000 common -80,000 shares of Freeman Co. at $16 per share

Investment

+80,000 =

Cash DI

6,250 6,250
Cash

6,250 DI 6,250

2. Ohlson Co. receives a cash dividend of $1.25 per common share from Freeman

+6,250

+6,250 =
Retained Earnings

+6,250
Dividend Income

+6,250

MS 7,500 3. Year-end UG 7,500

MS 7,500 UG 7,500

market price of Freeman common stock is $17.50 per share

+7,500
Investment

+7,500 =

+7,500 =

Retained Unrealized Earnings Gain

+7,500

Cash LS MS

66.900 600 67,500

Cash 86,400 LS 1,100 MS 87,500

4. Ohlson Co. sells all 5,000 +86,400 common shares of Freeman for $86,400 cash

-87,500
Investment

-1,100
Retained Earnings

+1,100
Loss on sale

1,100

Cambridge Business Publishers, 2008 7-8 Financial Accounting for MBAs, 3rd Edition

E7-21continued. b. Investments classified as available-for-sale Balance Sheet

Transaction
MS 80,000 Cash 80,000 1. Ohlson Co.
MS 80,000 Cash 80,000

Income Statement
Revenues Expenses = Net Income

Cash Asset

Noncash LiabilContrib. Earned = + + Assets ities Capital Capital

purchases 5,000 common -80,000 shares of Freeman Co. at $16 per share 2. Ohlson Co. receives a cash dividend of $1.25 per common share from Freeman 3. Year-end market price of Freeman common stock is $17.50 per share

Investment

+80,000 =

Cash DI

6,250 6,250
Cash

6,250 DI 6,250

+6,250

+6,250 =
Retained Earnings

+6,250
Dividend Income

+6,250

MS 7,500 AOCI 7,500

MS 7,500 AOCI 7,500

+7,500
Investment

+7,500
AOCI

Cash 86,400 AOCI 7,500 GN 6,400 MS 87,500

Cash 86,400 AOCI 7,500 GN 6,400 MS 87,500

4. Ohlson Co. sells all 5,000 + 86,400 common shares of Freeman for $86,400 cash

-87,500
Investment

-7,500
AOCI

+6,400
Gain on Sale

+6,400
Retained Earnings

+6,400

Cambridge Business Publishers, 2008 Solutions Manual, Module 7 7-9

E7-26 (30 minutes) a. Market method accountingAvailable-for-sale securities Balance Sheet

Transaction
MS 150,000 Cash 150,000
MS 150,000 Cash 150,000

Income Statement
Revenues Expenses = Net Income

Cash Asset

Noncash LiabilContrib. Earned + = + + Assets ities Capital Capital

1. Ball purchased 10,000 common shares of -150,000 Leftwich at Cash $15 per share; which is a 15% ownership in Leftwich 2. Leftwich reported NO annual net ENTRY income of $80,000 3. Received a cash dividend +11,000 of $1.10 per Cash common share from Leftwich

Investment

+150,000 =

Cash DI

11,000 11,000

Cash 11,000 DI 11,000

+11,000 +11,000
Retained Earnings Dividend Income

+11,000

MS 40,000 4. AOCI 40,000

MS 40,000 AOCI 40,000

Year-end market price of Leftwich common stock is $19 per share

+40,000
Investment

+40,000
AOCI

Cambridge Business Publishers, 2008 7-14 Financial Accounting for MBAs, 3rd Edition

E7-30continued g. Following the merger with Bell South, AT&T will own 100% of Cingular and, therefore, will control that company. Cingular must then be consolidated with its parent, rather than accounted for as an equity method investment. E7-31 (20 minutes)
Healy Miller Consolidating adjustments Consolidated

Current assets.............. $1,700,000 Investment in Miller..... 500,000 Plant assets, net .......... 3,000,000 Goodwill ........................ Total assets .................. $5,200,000 Liabilities ...................... $ 700,000 Contributed Capital ..... Retained earnings ....... Total liabilities &
stockholders equity

$120,000 (500,000) 410,000

.

$1,820,000 0 3,425,000 45,000 $5,290,000 $ 790,000

15,000 45,000

$530,000 $ 90,000 400,000 40,000 $530,000 (400,000) (40,000)

3,500,000 1,000,000 $5,200,000

3,500,000 1,000,000 $5,290,000

E7-32 (30 minutes)

Rayburn Kanodia Consolidating adjustments Consolidated

Investment in Kanodia. $ 600,000 Other assets .................. 2,300,000 Goodwill ......................... Total assets ................... $2,900,000
.

$700,000
.

(600,000) 20,000 40,000

$ 0 3,020,000 40,000 $3,060,000 $1,060,000

$700,000 $160,000 300,000 240,000 $700,000 (300,000) (240,000)

Liabilities........................ $ 900,000 Contributed Capital ...... Retained earnings ........ 1,400,000 600,000

1,400,000 600,000 $3,060,000

Total liabilities & stockholders equity..... $2,900,000

Cambridge Business Publishers, 2008 7-20 Financial Accounting for MBAs, 3rd Edition