Question

Questions 17–20 are based on the following information:

As part of a hostile takeover attempt, Carl Icahn, Inc. purchased 15% of TWA’s outstanding

common stock amounting to 200,000 shares. In response to Icahn’s actions, TWA restructured

and became profitable once again. Consequently, Icahn decided not to purchase any

additional shares and to continue to keep its ownership in TWA at 15% for the long term.

Icahn purchased the shares on the open market at an average price of $55/share. In addition

to this, brokerage fees amounting to $400,000 were incurred in the purchase. For the

first year after the purchase, TWA reported net income of $30,000 in the wake of fierce

price competition. Dividends were paid according to TWA’s policy—70% of the net income

reported for the year will be paid to the stockholders as dividends.

17. Assuming Icahn’s purchase entitles its president to sit on the board of directors (and

exert significant influence), an invitation that will certainly be accepted, what will be

the balance of the account Investment in Long-Term Stock TWA at the end of the first

year?

A. $11,000,000 C. $11,401,350

B. $11,400,000 D. $11,404,500

18. If instead of paying out 70% of net income as dividends TWA’s top management

decided to retain all net income (and therefore pay no dividends), what would be the

balance in the Investment account at the end of the first year?

A. $11,000,000 C. $11,401,350

B. $11,400,000 D. $11,404,500

19. If Icahn accounted for the 15% investment in TWA under the cost method, what would

be the general ledger entry to record the stock purchase?

A. Long-Term Investment — TWA $11,400,000

Cash $11,400,000

B. Long-Term Investment — TWA $11,000,000

Cash $11,000,000

C. Long-Term Investment — TWA $ 1,650,000

Cash $ 1,650,000

D. Long-Term Investment — TWA $11,000,000

Brokerage Fee Expense $ 400,000

Cash $11,400,000

20. At the end of the first year, what would be the balance of the Long-Term Investment —

TWA account if the cost method were applied?

A. $11,401,350 C. $11,000,000

B. $11,400,000 D. $0

Answer 1

No. of Shares	200,000
Perice per Share	55
Purchase cost	11,000,000
Brokerage	400,000
Total Investment	11,400,000

17. The answer is C - 11,401,350

Total Investment	11,400,000
Share in Profit(30000*15%)	4,500
Dividend received(30000*70%*15%)	(3,150)
Investment at the 1st Year End	11,401,350

18. The answer is D - 11,404,500

Total Investment	11,400,000
Share in Profit	4,500
Dividend received
Investment at the 1st Year End	11,404,500

19. The answer is A.

A. Long-Term Investment — TWA $11,400,000 Cash $11,400,000

19. The answer is B- 11,400,000

If cost method is followed then the Investment value in the Balance sheet doesn't change. It is carried at initial purchase cost.

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