1.

When an investor uses the equity method to account for investments in common stock, cash dividends received
by the investor from the investee should be recorded as
A deduction from the investors share of the investees profits.
Dividend income.
A deduction from the stockholders equity account, dividends to stockholders.
A deduction from the investment account.
2. Which of the following does not indicate an investor companys ability to significantly influence an
investee?
Material intra-entity transactions.
Technological dependency.
Interchange of managerial personnel.
The investor owns 30 percent of the investee but another owner holds the remaining 70 percent.
3. Sisk Company has owned 10 percent of Maust, Inc., for the past several years. This ownership did not allow Sisk
to have significant influence over Maust. Recently, Sisk acquired an additional 30 percent of Maust and now will
use the equity method. How will the investor report this change?
Sisk has the option to choose the method to show this change.
No change is recorded; the equity method is used from the date of the new acquisition.
A cumulative effect of an accounting change is shown in the current income statement.
A retrospective adjustment is made to restate all prior years presented using the equity method.
4. Under the fair-value option, which of the following affects the income the investor recognizes from its ownership
of the investee?
Changes in the fair value of the investors ownership shares of the investee.
Intra-entity profits from upstream sales.
The investees reported income adjusted for excess cost over book value amortizations.
Extraordinary items reported by the investee.
5.When an investor elects the fair-value option for a significant influence investment, cash dividends received by
the investor from the investee should be recorded as
Dividend income.
A deduction from the investors share of the investees reported income.
A deduction from the investment account.
A reduction from accumulated other comprehensive income reported in stockholders equity.
6. On January 1, Puckett Company paid $1.6 million for 50,000 shares of Harrisons voting common stock, which
represents a 40 percent investment. No allocation to goodwill or other specific account was made. Significant
influence over Harrison is achieved by this acquisition and so Puckett applies the equity method. Harrison

distributed a dividend of $2 per share during the year and reported net income of $560,000. What is the balance in
the Investment in Harrison account found in Pucketts financial records as of December 31?
$1,784,000.
$1,884,000.
$1,724,000.
$1,844,000.
Acquisition price
Equity income ($560,000
40%)
Dividends (50,000 shares
$2.00)
Investment in Harrison
Corporation as of December
31

1,600,000
224,000
(100,000)

1,724,000

7. In January 2010, Wilkinson, Inc., acquired 20 percent of the outstanding common stock of Bremm, Inc., for
$700,000. This investment gave Wilkinson the ability to exercise significant influence over Bremm. Bremms
assets on that date were recorded at $3,900,000 with liabilities of $900,000. Any excess of cost over book value of
the investment was attributed to a patent having a remaining useful life of 10 years.
In 2010, Bremm reported net income of $170,000. In 2011, Bremm reported net income of $210,000. Dividends
of $70,000 were paid in each of these two years. What is the equity method balance of Wilkinsons Investment in
Bremm, Inc., at December 31, 2011?
$728,000.
$756,000.
$748,000.
$776,000.
Acquisition price
Income accruals:
2010$170,000 20%
2011
$210,000 20%
Amortization (see
below): 2010
Amortization: 2011
Dividends: 2010
$70,000 20%
2011
$70,000 20%
Investment in Bremm,
December 31, 2011

700,000
34,000
42,000
(10,000)
(10,000)
(14,000)
(14,000)

728,000

Acquisition price
Bremms net
assets acquired
($3,000,000
20%)

700,000
(600,000)

Excess cost to
patent

100,000

Annual
amortization (10
year life)

10,000

8. Ace purchases 40 percent of Baskett Company on January 1 for $500,000. Although Ace did not use it, this
acquisition gave Ace the ability to apply significant influence to Basketts operating and financing policies. Baskett
reports assets on that date of $1,400,000 with liabilities of $500,000. One building with a seven-year life is
undervalued on Basketts books by $140,000. Also, Basketts book value for its trademark (10-year life) is
undervalued by $210,000. During the year, Baskett reports net income of $90,000 while paying dividends of
$30,000. What is the Investment in Baskett Company balance (equity method) in Aces financial records as of
December 31?
$513,900.
$504,000.
$507,600.
$516,000.
Lif
e
Purchase
price of
Baskett
stock
Book value
of Baskett
($900,000
40%)
Cost in
excess of
book value
Payment
identified
with
undervalued
Building
($140,000
40%)
Trademar
k ($210,000

Annual
Amortization

500,000

(360,000)

140,000

56,000

7
yrs

84,000

10
yrs

8,000
8,400

 40%)
Total

Cost of investment
Basic income
accrual ($90,000
40%)
Amortization
(above)
Dividend
collected ($30,000
40%)

16,400

500,000
36,000
(16,400)
(12,000)

Investment in Baskett
$
as of December 31

507,600

9. Goldman Company reports net income of $140,000 each year and pays an annual cash dividend of $50,000. The
company holds net assets of $1,200,000 on January 1, 2010. On that date, Wallace purchases 40 percent of the
outstanding stock for $600,000, which gives it the ability to significantly influence Goldman. At the purchase date,
the excess of Wallaces cost over its proportionate share of Goldmans book value was assigned to goodwill. What
is the Investment in Goldman Company balance (equity method) in Wallaces financial records on December 31,
2012?
$708,000.
$660,000.
$600,000.
$690,000.
The 2010 purchase is reported using the equity method.

Purchase price of
Goldman stock
Book value of
Goldman stock
($1,200,000
40%)
Goodwill
Life of goodwill
Annual
amortization

600,000

(480,000)

120,000
indefinite
0

Cost on
January 1, 2010
2010 Income
accrued
($140,000
40%)
2010 Dividend
collected
($50,000 40%)
2011 Income
accrued
($140,000
40%)
2011 Dividend
collected
($50,000 40%)
2012 Income
accrued
($140,000
40%)
2012 Dividend
collected
($50,000 40%)
Investment in
Goldman,
12/31/12

600,000

56,000

(20,000)

56,000

(20,000)

56,000

(20,000)

708,000

10. Perez, Inc., applies the equity method for its 25 percent investment in Senior, Inc. During 2011, Perez sold
goods with a 40 percent gross profit to Senior. Senior sold all of these goods in 2011. How should Perez report the
effect of the intra-entity sale on its 2011 income statement?
Sales and cost of goods sold should be reduced by the amount of intra-entity sales.
Sales and cost of goods sold should be reduced by 25 percent of the amount of intra-entity sales.
Investment income should be reduced by 25 percent of the gross profit on the amount of intra-entity
sales.
No adjustment is necessary.
11.Panner, Inc., owns 30 percent of Watkins and applies the equity method. During the current year, Panner buys
inventory costing $54,000 and then sells it to Watkins for $90,000. At the end of the year, Watkins still holds only
$20,000 of merchandise. What amount of unrealized gross profit must Panner defer in reporting this investment
using the equity method?
$8,000.
$2,400.
$10,800.
$4,800.
Gross profit rate (GPR): $36,000
$90,000 = 40%

Inventory remaining at year-end

GPR

20,000
40%

Unrealized gain
Ownership

8,000
30%

2,400

Intra-entity unrealized gain

deferred

Alex, Inc., buys 40 percent of Steinbart Company on January 1, 2010, for $530,000. The equity method of
accounting is to be used. Steinbarts net assets on that date were $1.2 million. Any excess of cost over book value is
attributable to a trade name with a 20-year remaining life. Steinbart immediately begins supplying inventory to
Alex as follows:

Year
2010
2011

Cost to Steinbart
$70,000
96,000

Transfer Price
$100,000
150,000

Amount Held by Alex

at Year-End
(at Transfer Price)
$25,000
45,000

Inventory held at the end of one year by Alex is sold at the beginning of the next.
Steinbart reports net income of $80,000 in 2010 and $110,000 in 2011 while paying $30,000 in dividends each
year. What is the equity income in Steinbart to be reported by Alex in 2011?
$38,020.
$46,230.
$34,050.
$51,450.
Purchase price of
Steinbart shares
Book value of
Steinbart shares
($1,200,000 40%)

530,000
(480,000)

Trade name
Life of trade name

50,000
20 years

Annual amortization

2,500

44,000

2010 Gross profit rate

= $30,000 $100,000
= 30%
2011 Gross profit rate
= $54,000 $150,000
= 36%
2011Equity income
in Steinbart:
Income accrual
($110,000 40%)

Amortization (above)
Recognition of 2010
unrealized gain
($25,000 30%
GPR 40%
ownership)
Deferral of 2011
unrealized gain
($45,000 36%
GPR 40%
ownership)
Equity income in
Steinbart2011

(2,500)

3,000

(6,480)

38,020