Question

Traynor Corporation reports its 40 percent investment in Victor Company on its December 31, 2020 balance sheet at $14,608,000. Traynor acquired its interest in Victor on January 2, 2018 and uses the equity method to account for the investment. Victor’s assets and liabilities were fairly stated on January 2, 2018 except for unreported technology (5-year life) of $4 million. Victor reported net income of $1.2 million, $1.5 million, and $1.4 million, and paid dividends of $200,000, $250,000, and $230,000 in 2018, 2019, and 2020, respectively. There was no impairment of Traynor’s investment. Required How much did Traynor Corporation pay for its investment in Victor Company on January 2, 2018?

Answer 1

The equity method is a type of accounting used for investments, where the investor holds significance influence over the investee. An investor is deemed to have a significance influence over the investee if it owns between 20% to 50% of the investee's shares .As in this case, investor holds 40%, traynor exercises significant influence over Victor.

The investor will report its proportionate share of the investee's equity as an investment(at cost).

Profit and loss from the investee increases the investment account by an amount proportionate to the investor's share (40% of net income in this case)

Dividends paid out by the investee are deducted from an investment account by an amount proportionate to the investor's share. (40% of dividend in this case)

2018 2019 2020 Income $    12,00,000 $    15,00,000 $    14,00,000 Amortisation for unreported technology* $      8,00,000 $      8,00,000 $      8,00,000 Net Income $      4,00,000 $      7,00,000 $      6,00,000 Traynor's Share (40% in net income) $      1,60,000 $      2,80,000 $      2,40,000

Investment in Victor to be increased by

$      1,60,000

$      2,80,000

$      2,40,000

* Unreported technology has been recognised and amortised over the period of life of an asset.($4million/5 = $0.8 Million)
Dividend Paid	$      2,00,000	$      2,50,000	$      2,30,000
Traynor's Share (40% in dividend Paid)	$ 80,000	$      1,00,000	$ 92,000
Investment in Victor to be Decreased by	$         80,000	$      1,00,000	$ 92,000

Value of investment as at 31st december 2020 in balance sheet of Traynor is $14,608,000.

Value of Investment (at particular date)= cost + Increase in investment(share in net income)- Decrease in investment (Share in dividend)

Putting values in the equation;

$14,608,000= Cost+ $6,80,000- $ 2,72,000

Cost=1,42,00,000

Traynor Corp paid for its investment on Jan 2, 2018 $1,42,00,000