Question

C2-1A   Choice of Accounting Method

Understanding

Slanted Building Supplies purchased 32 percent of the voting shares of Flat Flooring Company in March 20X3. On December 31, 20X3, the officers of Slanted Building Supplies indicated they needed advice on whether to use the equity method or cost method in reporting their ownership in Flat Flooring.

Required

a. What factors should be considered in determining whether equity-method reporting is appropriate?

b. Which of the two methods is likely to show the larger reported contribution to Slanted’s earnings in 20X4? Explain.

c. Why might the use of the equity method become more appropriate as the percentage of ownership increases?

Can I please have an original answer?

Answer 1

( A ). The APB 18 ' Significant influence ' says 20% rule , an investor holding 20% or more of an investee's voting stock is presumed to have the ability to exercise some influence over the investees. Since slanted building supplies purchased 32% of the voting shares of flat flooring company , as it is morethan 20% it should be reported under equity method. As, the control over the company , equity method is used when an investor has a substancial portion of the shares but not complete controland equity method is used when the investment is between 20 to 50%.

( B ). The two methods are equity method and cost method . Equity method shows a change in the investee's income or losses and payments , whereas , cost method only records income in the investee company when dividends are paid . In the equity method , the carrying amount of the investment usually is not the same as the original cost to the investor. If the earnings of thr investee subsequent to investment by the investor exceed the investee's dividends during that time, the carrying amount of the investment will be greater than its original cost.

( C ). Under the quity method, the investor records its investment at the original cost. This amount is adjusted periodically for changes in the investee's stockholders'equity occasioned by the investee's profits, losses , and dividend declarations . The effect of the investee's income, losses, and dividend on the investor's investment account and other accounts can be increase , such as net income.