Question

In early January 2020, Novak Inc., a private enterprise that applies ASPE, purchased 40% of the common shares of Washi Corp. for $402,000. Novak was now able to exercise considerable influence in decisions made by Washi’s management. Washi Corp.’s statement of financial position reported the following information at the date of acquisition:

Assets not subject to being amortized		$201,000
Assets subject to depreciation (10 years average life remaining)		608,000
Liabilities		113,000

Additional information:

1.		Both the carrying amount and fair value are the same for non-depreciable assets and for liabilities.
2.		The fair value of the assets subject to depreciation is $735,000.
3.		The company depreciates its capital assets on a straight-line basis.
4.		Washi reported net income of $160,000 and declared and paid dividends of $110,000 in 2020.

Prepare the journal entry to record Novak’s investment in Washi Corp. Assume that any unexplained payment is goodwill.

Investment In Associate	402000
Cash		402000

Assuming Novak applies the equity method to account for its investment in Washi, prepare the journal entries to record Novak’s equity in the net income and the receipt of dividends from Washi Corp. in 2020.

Account Titles	Debit	Credit
Cash
Investment in Associate
(To record collection of dividend)
Investment In Associate
Investment Income or Loss
(To record investment income)
(To record depreciation of fair value difference)

Answer 1

Prepare the journal entry to record Novak’s investment in Washi Corp. Assume that any nexplained payment is goodwill.

Assets not subject to being amortized                                                    $201,000

Assets subject to depreciation (10 years average life remaining)              735000 ( at fair value )

Liabilities                                                                                              113,000

Total                             823000

                                                                                                       40%    = 329200

      Amt paid on ACQUISITION = 402000

     Goodwill paid on acquisition = 72800

Journal

Investment In Associate dr.     329200

Goodwill DR.,                              72800

Cash                                                           402000

What is the Equity Method?

The equity method is a type of accounting used for intercorporate investments. This method is used when the investor holds significant influence over the investee but does not exercise full control over it, as in the relationship between a parent company and its subsidiary. In this case, the terminology of “parent” and “subsidiary” are not used, unlike in the consolidation method where the investor exerts full control over its investee. Instead, in instances where it’s appropriate to use the equity method of accounting, the investee is often referred to as an “associate” or “affiliate”.

Although the following is only a general guideline, an investor is deemed to have significant influence over an investee if it owns between 20% to 50% of the investee’s shares or voting rights. If, however, the investor has less than 20% of the investee’s shares but still has a significant influence in its operations, then the investor must still use the equity method and not the cost method.

How does the it work?

Unlike with the consolidation method, in using the equity method there is no consolidation and elimination process. Instead, the investor will report its proportionate share of the investee’s equity as an investment (at cost). Profit and loss from the investee increase the investment account by an amount proportionate to the investor’s shares in the investee. This is known as the “equity pick-up.” Dividends paid out by the investee are deducted from this account.

Investment value as on Jan. , 2020	$402,000
+Share in Net Income ( 160000 * 40 % )	$ 64,000
-Share in Dividend ( 110000 * 40 % )	-$ 44,000
-Adjustment for depreciation ( 735000 – 608000 ) / 10yrs * 40 %	-$ 5,080
Investment value as on Dec. 31,2020	$416,920

For fair value change there is no entry in Equity method

Journal under equity method :

1. Cash                 Dr. 44000

Investment in Associate 44000

(To record collection of dividend)

2. Investment In Associate dr. (160000 * 40%) 64000                      

Investment Income or Loss                    64000

(To record investment income)

3. Investment Income or Loss Dr. 5080

                        Investment In Associate       5080

(To record depreciation of fair value difference)