On December 31, 2019, Akron, Inc., purchased 5 percent of Zip Company's common shares on the...

On December 31, 2019, Akron, Inc., purchased 5 percent of Zip Company's common shares on the open market in exchange for $17,100. On December 31, 2020, Akron, Inc., acquires an additional 25 percent of Zip Company's outstanding common stock for $95,000.

During the next two years, the following information is available for Zip Company:

	Income	Dividends Declared	Common Stock Fair Value (12/31)
2019			$313,000
2020	$68,000	$6,600	380,000
2021	85,000	14,400	470,000

At December 31, 2020, Zip reports a net book value of $280,000. Akron attributed any excess of its 30 percent share of Zip's fair over book value to its share of Zip's franchise agreements. The franchise agreements had a remaining life of 10 years at December 31, 2020.

Assume Akron applies the equity method to its Investment in Zip account:

What amount of equity income should Akron report for 2021?
On Akron’s December 31, 2021, balance sheet, what amount is reported for the Investment in Zip account?

Assume Akron uses fair-value accounting for its Investment in Zip account:

What amount of income from its investment in Zip should Akron report for 2021?
On Akron’s December 31, 2021, balance sheet, what amount is reported for the Investment in Zip account?

Expert Solution

Data in Question	Acron's book
Year	Stake	Cost	Income	Dividend	FV	Dividend	Income	Carrying Value
2019	5%	17100
2020	25%	95000	68000	6600	380000	330		16,770
2021			85000	14400	470000	4320	25500	132,950

Case: On 31st December 2019 Akron Inc. (“Akron”) purchased 5% shares of Zip Company (“Zip”) for Rs. 17,100/- hence the Company will book this on cost. On 31st December 2020 The Akron additionally acquired 25% stake of the Zip and Zip declared dividend of Rs. 6600/-. Akron is following “Equity Method” of Accounting.

The equity method of accounting should generally be used when an investment results in a 20% to 50% stake in another company, unless it can be clearly shown that the investment doesn't result in a significant amount of influence or control.

Under the equity method, the investment is initially recorded in the same way as the cost method. However, the amount is subsequently adjusted to account for your share of the company's profits and losses. Dividends are not treated as income under this method. Rather, they are considered a return of investment, and reduce the listed value of your shares.

Therefore the on 31st December 2020 only amount of Dividend will be reduced from the carrying value, however on 31st December 2021 Dividend will be deducted and proportionate income for the year will be recorded in books and added to Carrying Value to arrive at Fair Value as on 31st December 2021.

ekkarill92 answered 2 years ago

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