Question

Using the FASB Codification System as your reference, why do you think there are different ways to report investments in other companies? Do you consider it necessary? What role does ethics play in financial reports?

Answer 1

Solution:

Q1: Using the FASB Codification System as your reference, why do you think there are different ways to report investments in other companies

There are two different ways to report investments in other companies and the two methods are different on the basis of the significance of power and control in other company through investments.

(1) The cost method: This method is used when the investment does not result in the influence over the other companies in term of power and control i.e the investment is less than 20% in shares.

Accounting treatment: Such investments are treated in the following manner:-

(a) They are treated on the asset side of the company as non-current assets

(b) They are treated at historical cost.

(c) A dividend is treated as income in the income statement

(2) Equity Method: This method is used when the investment result in the influence over the other companies in term of power and control i.e the investment is more than 20% in shares.

Accounting treatment: Such investments are treated in the following manner:-

(a) They are treated on the asset side of the company as non-current assets

(b) They are treated at historical cost.

(c) A dividend is treated as a return on investments.

Q2: Do you consider it necessary?

Solution: Yes, it is necessary because the financial statement user can come to know about the active and passive investments of the company through cost and equity method. It supports the principle of materiality, full disclosure, and relevancy in the financial statements.

Q3: What role does ethics play in financial reports?

Solution: Ethics plays a very important role in ensuring the validity and accuracy of the financial statements which are in favor of the investor's interest before examining the financial statements and making investments in the company. The ethics ensure the fact that the company should prepare financial records, reports, and statements under the purview of accounting principles and laws.