Question
In: Accounting
On January 2, 2018, Baltimore Company purchased 18,000 shares of the stock of Towson Company at...
On January 2, 2018, Baltimore Company purchased 18,000 shares of the stock of Towson Company at $12 per share. Baltimore obtained significant influence as the purchase represents a 35% ownership stake in Towson Company. On August 1, 2018, Towson Company paid cash dividends of $19,000. Baltimore Company intended this investment to a long-term investment. On December 31, 2018, Towson Company reported $55,000 of net income for FY 2018. Additionally, the current market price for Towson Company's stock increased to $18 per share at the end of the year. Use this information to determine, how much Baltimore Company should report for its investment in Towson Company on December 31, 2018. (Round to the nearest dollar.)
Solutions
Expert Solution
Equity method is used by companies to assess the profits earned by their investments in other companies. The company reports the income earned on the investment on its income statement, & the reported value is based on the company's share of the company assets. It is proportional to the size of the equity investment.
When a company holds approximately 20% or more of another company's stock, it is considered to have significant control. This method is used when investor holds significant influence over investee, but it does not exercise full control over investee, as in the relationship between a parent and its subsidiary companies.
1. When Baltimore Company purchases 35% of Towson Company Common Stock for $216,000 (18000*12), it records the following entry.
Dr. Investment in Associates $ 216,000
Cr. Cash $ 216,000
2. When Baltimore Company receives Dividend, it records a reduction in their investment account. Entry will be like this as entered below.
Dr. Cash $ 6,650 ($19,000 * 35%)
Cr. Investment in Associates $ 6,650
3. Finally, Baltimore Company records the net income from Towson Company as an increase to its Investment account.
Dr. Investment in Associates $ 19,250 ($55,000 * 35%)
Cr. Investment Revenue $ 19,250
Conclusion: Hence $228,600 should be reported as investment income.
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