Question

Pegory Inc. acquired 20% of the outstanding common stock of sunderson inc. on 1/1/18. The purchase price paid was $1,250,000 cash for 50,000 shares. Sunderson declared adn paid a cash dividend of $0.80 per share on June 30, 2018. Sunderson reported net income of $730,000 for 2018.

Instructions:

A) Prepare the journal entries for Pegory in 2018, assuming Pegory cannot exercise significant influence over Sunderson and Sunderson is not an actively traded stock. (Cost Method)

B) Prepare the journal entries for Pegory in 2018, assuming Pegory cannot excercise significant influence over Sunderson and the fair value of Sunderson stock in the active market is $27 per share on 12/31/18. The sescurities should be calssified as available-for-sale. (Cost Method)

C) Prepare the journal entries for Pegory in 2018, assuming Pegory can exercise significant influence over Sunderson. (Equity Method)

Answer 1

A. Under cost method of accounting, investor records the purchase of stocks in it's books of accounts under historical cost method i.e at the purchase price and the same is not subject to fair value at the closing date. Moreover, dividends declared by the investee are recorded as dividend income and retained earnings of investee company are not recorded in investor company books.

JOURNAL ENTRY

Date	Particulars	Debit	Credit
01/01/18	Investment in Sunderson TO Cash	1,250,000	1,250,000
30/06/18	Cash (50,000 x 0.80) TO Dividend Income	40,000	40,000
31/12/18	No entry for income
31/12/18	No entry for fair value

B. Undet cost method, securities are recorded at fair value only if the fair value of such stocks falls below the purchase price of investments. In the given case purchase price was $25 (1,250,000 / 50,000) which has now increased to $27 per share as on 12/31/18. Therefore, no journal entry will be required for such upward increase. Journal entries are same as in part A above.

JOURNAL ENTRY

Date	Particulars	Debit	Credit
01/01/18	Investment in Sunderson TO Cash	1,250,000	1,250,000
30/06/18	Cash (50,000 x 0.80) TO Dividend Income	40,000	40,000
31/12/18	No entry for income
31/12/18	No entry for fair value

C. Journal Entries under equity method

Date	Account	Debit	Credit
Jan 1	Investment in sunderson TO Cash (Being shares purchased)	1,250,000	1,250,000
30-Jun	Cash TO Investment in Sunderson (Being dividends received)	40,000	40,000
Dec 31	Investment in sunderson TO Equity in Sunderson (Being share in income earned) (730,000 x 20%)	146,000	146,000