Solution xManual xFor xAll xChapters
SOLUTION MANUAL FOR x x
ADVANCED ACCOUNTING 15TH EDITION BY JOE BEN HOYLE, THOMAS
x x x x x x x x
SCHAEFER AND TIMOTHY DOUPNIK
x x x x
CHAPTER 1-19 x
CHAPTER 1 x
THE EQUITY METHOD OF ACCOUNTING FOR INVESTMENTS
x x x x x x x
Chapter xOutline
I. Four xmethods xare xprincipally xused xto xaccount xfor xan xinvestment xin xequity xsecurities
xalong xwith xa xfair xvalue xoption.
A. Fair xvalue xmethod: xapplied xby xan xinvestor xwhen xonly xa xsmall xpercentage xof
xa xcompany‘s xvoting xstock xis xheld.
1. The xinvestor xrecognizes xincome xwhen xthe xinvestee xdeclares xa xdividend.
2. Portfolios xare xreported xat xfair xvalue. xIf xfair xvalues xare xunavailable, xinvestment
xis xreported xat xcost.
B. Cost xMethod: xapplied xto xinvestments xwithout xa xreadily xdeterminable xfair xvalue.
xWhen xthe xfair xvalue xof xan xinvestment xin xequity xsecurities xis xnot xreadily
xdeterminable, xand xthe xinvestment xprovides xneither xsignificant xinfluence xnor xcontrol,
xthe xinvestment xmay xbe xmeasured xat xcost. xThe xinvestment xremains xat xcost xunless
1. A xdemonstrable ximpairment xoccurs xfor xthe xinvestment, xor
2. An xobservable xprice xchange xoccurs xfor xidentical xor xsimilar xinvestments xof xthe
xsame xissuer.
The xinvestor xtypically xrecognizes xits xshare xof xinvestee xdividends xdeclared xas
xdividend xincome.
C. Consolidation: xwhen xone xfirm xcontrols xanother x(e.g., xwhen xa xparent xhas xa
xmajority xinterest xin xthe xvoting xstock xof xa xsubsidiary xor xcontrol xthrough xvariable
xinterests, xtheir xfinancial xstatements xare xconsolidated xand xreported xfor xthe
xcombined xentity.
D. Equity xmethod: xapplied xwhen xthe xinvestor xhas xthe xability xto xexercise
xsignificant xinfluence xover xoperating xand xfinancial xpolicies xof xthe xinvestee.
1. Ability xto xsignificantly xinfluence xinvestee xis xindicated xby xseveral xfactors
xincluding xrepresentation xon xthe xboard xof xdirectors, xparticipation xin xpolicy-
making, xetc.
2. GAAP xguidelines xpresume xthe xequity xmethod xis xapplicable xif x20 xto x50 xpercent xof xthe
2-1
© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
, outstanding xvoting xstock xof xthe xinvestee xis xheld xby xthe xinvestor.
Current xfinancial xreporting xstandards xallow xfirms xto xelect xto xuse xfair xvalue xfor xany xnew
xinvestment xin xequity xshares xincluding xthose xwhere xthe xequity xmethod xwould xotherwise
xapply. xHowever, xthe xoption, xonce xtaken, xis xirrevocable. xThe xinvestor xrecognizes xboth
xinvestee xdividends xand xchanges xin xfair xvalue xover xtime xas xincome.
II. Accounting xfor xan xinvestment: xthe xequity xmethod
A. The xinvestor xadjusts xthe xinvestment xaccount xto xreflect xall xchanges xin xthe xequity xof
xthe xinvestee xcompany.
B. The xinvestor xaccrues xinvestee xincome xwhen xit xis xreported xin xthe xinvestee‘s
xfinancial xstatements.
C. Dividends xdeclared xby xthe xinvestee xcreate xa xreduction xin xthe xcarrying xamount xof
xthe xInvestment xaccount. xThis xbook xassumes xall xinvestee xdividends xare xdeclared
xand xpaid xin xthe xsame xreporting xperiod.
III. Special xaccounting xprocedures xused xin xthe xapplication xof xthe xequity xmethod
A. Reporting xa xchange xto xthe xequity xmethod xwhen xthe xability xto xsignificantly xinfluence
xan xinvestee xis xachieved xthrough xa xseries xof xacquisitions.
1. Initial xpurchase(s) xwill xbe xaccounted xfor xby xmeans xof xthe xfair xvalue xmethod x(or
xat xcost) xuntil xthe xability xto xsignificantly xinfluence xis xattained.
2. When xthe xability xto xexercise xsignificant xinfluence xoccurs xfollowing xa xseries xof
xstock xpurchases, xthe xinvestor xapplies xthe xequity xmethod xprospectively. xThe
xtotal xfair xvalue xat xthe xdate xsignificant xinfluence xis xattained xis xcompared xto xthe
xinvestee‘s xbook xvalue xto xdetermine xfuture xexcess xfair xvalue xamortizations.
B. Investee xincome xfrom xother xthan xcontinuing xoperations
1. The xinvestor xrecognizes xits xshare xof xinvestee xreported xother
xcomprehensive xincome x(OCI) xthrough xthe xinvestment xaccount xand xthe
xinvestor‘s xown xOCI.
2. Income xitems xsuch xas xdiscontinued xoperations xthat xare xreported xseparately xby
xthe xinvestee xshould xbe xshown xin xthe xsame xmanner xby xthe xinvestor. xThe
xmateriality xof xthese xother xinvestee xincome xelements x(as xit xaffects xthe xinvestor)
xcontinues xto xbe xa xcriterion xfor xseparate xdisclosure.
C. Investee xlosses
1. Losses xreported xby xthe xinvestee xcreate xcorresponding xlosses xfor xthe xinvestor.
2. A xpermanent xdecline xin xthe xfair xvalue xof xan xinvestee‘s xstock xshould xbe
xrecognized ximmediately xby xthe xinvestor xas xan ximpairment xloss.
3. Investee xlosses xcan xpossibly xreduce xthe xcarrying xvalue xof xthe xinvestment
xaccount xto xa xzero xbalance. xAt xthat xpoint, xthe xequity xmethod xceases xto xbe
xapplicable xand xthe xfair-value xmethod xis xsubsequently xused.
D. Reporting xthe xsale xof xan xequity xinvestment
1. The xinvestor xapplies xthe xequity xmethod xuntil xthe xdisposal xdate xto xestablish xa
xproper xbook xvalue.
2. Following xthe xsale, xthe xequity xmethod xcontinues xto xbe xappropriate xif xenough
xshares xare xstill xheld xto xmaintain xthe xinvestor‘s xability xto xsignificantly xinfluence xthe
xinvestee. xIf xthat xability xhas xbeen xlost, xthe xfair-value xmethod xis xsubsequently
xused.
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© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
,Solution xManual xFor xAll xChapters
IV. Excess xinvestment xcost xover xbook xvalue xacquired
A. The xprice xan xinvestor xpays xfor xequity xsecurities xoften xdiffers xsignificantly xfrom
xthe xinvestee‘s xunderlying xbook xvalue xprimarily xbecause xthe xhistorical xcost
xbased xaccounting xmodel xdoes xnot xkeep xtrack xof xchanges xin xa xfirm‘s xfair xvalue.
B. Payments xmade xin xexcess xof xunderlying xbook xvalue xcan xsometimes xbe xidentified
xwith xspecific xinvestee xaccounts xsuch xas xinventory xor xequipment.
C. An xextra xacquisition xprice xcan xalso xbe xassigned xto xanticipated xbenefits xthat xare
xexpected xto xbe xderived xfrom xthe xinvestment. xIn xaccounting, xthese xamounts xare
xpresumed xto xreflect xan xintangible xasset xreferred xto xas xgoodwill. xGoodwill xis
xcalculated xas xany xexcess xpayment xthat xis xnot xattributable xto xspecific xidentifiable
xassets xand xliabilities xof xthe xinvestee. xBecause xgoodwill xis xan xindefinite-lived xasset,
xit xis xnot xamortized.
V. Deferral xof xintra-entity xgross xprofit xin xinventory
A. The xinvestor‘s xshare xof xintra-entity xprofits xin xending xinventory xare xnot xrecognized
xuntil xthe xtransferred xgoods xare xeither xconsumed xor xuntil xthey xare xresold xto xunrelated
xparties.
B. Downstream xsales xof xinventory
1. ―Downstream‖ xrefers xto xtransfers xmade xby xthe xinvestor xto xthe xinvestee.
2. Intra-entity xgross xprofits xfrom xsales xare xinitially xdeferred xunder xthe xequity
xmethod xand xthen xrecognized xas xincome xat xthe xtime xof xthe xinventory‘s
xeventual xdisposal.
3. The xamount xof xgross xprofit xto xbe xdeferred xis xthe xinvestor‘s xownership
xpercentage xmultiplied xby xthe xmarkup xon xthe xmerchandise xremaining xat xthe
xend xof xthe xyear.
C. Upstream xsales xof xinventory
1. ―Upstream‖ xrefers xto xtransfers xmade xby xthe xinvestee xto xthe xinvestor.
2. Under xthe xequity xmethod, xthe xdeferral xprocess xfor xintra-entity xgross xprofits xis
xidentical xfor xupstream xand xdownstream xtransfers. xThe xprocedures xare
xseparately xidentified xin xChapter xOne xbecause xthe xhandling xdoes xvary xwithin xthe
xconsolidation xprocess.
Answers xto xDiscussion xQuestions
The xtextbook xincludes xdiscussion xquestions xto xstimulate xstudent xthought xand xdiscussion. xThese
xquestions xare xalso xdesigned xto xallow xstudents xto xconsider xrelevant xissues xthat xmight xotherwise
xbe xoverlooked. xSome xof xthese xquestions xmay xbe xaddressed xby xthe xinstructor xin xclass xto
xmotivate xstudent xdiscussion. xStudents xshould xbe xencouraged xto xbegin xby xdefining xthe xissue(s)
xin xeach xcase. xNext, xauthoritative xaccounting xliterature x(FASB xASC) xor xother xrelevant xliterature
xcan xbe xconsulted xas xa xpreliminary xstep xin xarriving xat xlogical xactions. xFrequently, xthe xFASB
xAccounting xStandards xCodification xwill xprovide xthe xnecessary xsupport.
Unfortunately, xin xaccounting, xdefinitive xresolutions xto xfinancial xreporting xquestions xare xnot
xalways xavailable. xStudents xoften xseem xto xbelieve xthat xall xaccounting xissues xhave xbeen
xresolved xin xthe xpast xso xthat xaccounting xeducation xis xonly xa xmatter xof xlearning xto xapply
xhistorically xprescribed xprocedures. xHowever, xin xactual xpractice, xthe xonly xreal xanswer xis xoften
xthe xone xthat xprovides xthe xfairest xrepresentation xof xthe xfirm‘s xtransactions. xIf xan xauthoritative
xsolution xis xnot xavailable, xstudents xshould xbe xdirected xto xlist xall xof xthe xissues xinvolved xand xthe
xconsequences xof xpossible xalternative xactions. xThe xvarious xfactors xpresented xcan xbe xweighed
xto xproduce xa xviable xsolution.
The xdiscussion xquestions xare xdesigned xto xhelp xstudents xdevelop xresearch xand xcritical xthinking
xskills xin xaddressing xissues xthat xgo xbeyond xthe xpurely xmechanical xelements xof xaccounting.
2-3
© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
, Did xthe xCost xMethod xInvite xManipulation?
The xcost xmethod xof xaccounting xfor xinvestments xoften xcaused xa xlack xof xobjectivity xin xreported
xincome xfigures. xWith xa xlarge xblock xof xthe xinvestee‘s xvoting xshares, xan xinvestor xcould xinfluence
xthe xamount xand xtiming xof xthe xinvestee‘s xdividend xdeclarations. xThus, xwhen xenjoying xa xgood
xearnings xyear, xan xinvestor xmight xinfluence xthe xinvestee xto xwithhold xdeclaring xa xdividend xuntil
xneeded xin xa xsubsequent xyear. xAlternatively, xif xthe xinvestor xjudged xthat xits xcurrent xyear xearnings
x―needed xa xboost,‖ xit xmight xinfluence xthe xinvestee xto xdeclare xa xcurrent xyear xdividend. xThe
xequity xmethod xeffectively xremoves xmanagers‘ xability xto xincrease xcurrent xincome x(or xdefer
xincome xto xfuture xperiods) xthrough xtheir xinfluence xover xthe xtiming xand xamounts xof xinvestee
xdividend xdeclarations.
At xfirst xglance xit xmay xseem xthat xthe xfair xvalue xmethod xallows xmanagers xto xmanipulate xincome
xbecause xinvestee xdividends xare xrecorded xas xincome xby xthe xinvestor. xHowever, xdividends xpaid
xtypically xare xaccompanied xby xa xdecrease xin xfair xvalue x(also xrecognized xin xincome), xthus xleaving
xreported xnet xincome xunaffected.
Does xthe xEquity xMethod xReally xApply xHere?
The xdiscussion xin xthe xcase xbetween xthe xtwo xaccountants xis xlimited xto xthe xreason xfor xthe
xinvestment xacquisition xand xthe xcurrent xpercentage xof xownership. xInstead, xthey xshould xbe
xexamining xthe xactual xinteraction xthat xcurrently xexists xbetween xthe xtwo xcompanies. xAlthough xthe
xability xto xexercise xsignificant xinfluence xover xoperating xand xfinancial xpolicies xappears xto xbe xa
xrather xvague xcriterion, xASC x323 x"Investments—Equity xMethod xand xJoint xVentures," xclearly
xspecifies xactual xevents xthat xindicate xthis xlevel xof xauthority x(paragraph x323-10-15-6):
Ability xto xexercise xthat xinfluence xmay xbe xindicated xin xseveral xways, xsuch xas xrepresentation xon
xthe xboard xof xdirectors, xparticipation xin xpolicy-making xprocesses, xmaterial xintra-entity
xtransactions, xinterchange xof xmanagerial xpersonnel, xor xtechnological xdependency. xAnother
ximportant xconsideration xis xthe xextent xof xownership xby xan xinvestor xin xrelation xto xthe
xconcentration xof xother xshareholdings, xbut xsubstantial xor xmajority xownership xof xthe xvoting xstock
xof xan xinvestee xcompany xby xanother xinvestor xdoes xnot xnecessarily xpreclude xthe xability xto
xexercise xsignificant xinfluence xby xthe xinvestor.
In xthis xcase, xthe xaccountants xwould xbe xwise xto xdetermine xwhether xDennis xBostitch xor xany xother
xmember xof xthe xHighland xLaboratories xadministration xis xparticipating xin xthe xmanagement xof
xAbraham, xInc. xIf xany xindividual xfrom xHighland's xorganization xis xon xAbraham‘s xboard xof xdirectors
xor xis xparticipating xin xmanagement xdecisions, xthe xequity xmethod xwould xseem xto xbe xappropriate.
Likewise, xif xsignificant xtransactions xhave xoccurred xbetween xthe xcompanies x(such xas xloans xby
xHighland xto xAbraham), xthe xability xto xapply xsignificant xinfluence xbecomes xmuch xmore xevident.
However, xif xJames xAbraham xcontinues xto xoperate xAbraham, xInc., xwith xlittle xor xno xregard xfor
xHighland, xthe xequity xmethod xshould xnot xbe xapplied. xThis xpossibility xseems xespecially xlikely xin
xthis xcase xsince xone xstockholder, xJames xAbraham, xcontinues xto xhold xa xmajority x(2/3) xof xthe
xvoting x stock. xThus, xevidence xof xthe xability xto xapply xsignificant xinfluence xmust xbe xpresent xbefore
xthe xequity xmethod xis xviewed xas xapplicable. xThe xmere xholding xof x1/3 xof xthe xstock xis xnot
xconclusive.
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© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
SOLUTION MANUAL FOR x x
ADVANCED ACCOUNTING 15TH EDITION BY JOE BEN HOYLE, THOMAS
x x x x x x x x
SCHAEFER AND TIMOTHY DOUPNIK
x x x x
CHAPTER 1-19 x
CHAPTER 1 x
THE EQUITY METHOD OF ACCOUNTING FOR INVESTMENTS
x x x x x x x
Chapter xOutline
I. Four xmethods xare xprincipally xused xto xaccount xfor xan xinvestment xin xequity xsecurities
xalong xwith xa xfair xvalue xoption.
A. Fair xvalue xmethod: xapplied xby xan xinvestor xwhen xonly xa xsmall xpercentage xof
xa xcompany‘s xvoting xstock xis xheld.
1. The xinvestor xrecognizes xincome xwhen xthe xinvestee xdeclares xa xdividend.
2. Portfolios xare xreported xat xfair xvalue. xIf xfair xvalues xare xunavailable, xinvestment
xis xreported xat xcost.
B. Cost xMethod: xapplied xto xinvestments xwithout xa xreadily xdeterminable xfair xvalue.
xWhen xthe xfair xvalue xof xan xinvestment xin xequity xsecurities xis xnot xreadily
xdeterminable, xand xthe xinvestment xprovides xneither xsignificant xinfluence xnor xcontrol,
xthe xinvestment xmay xbe xmeasured xat xcost. xThe xinvestment xremains xat xcost xunless
1. A xdemonstrable ximpairment xoccurs xfor xthe xinvestment, xor
2. An xobservable xprice xchange xoccurs xfor xidentical xor xsimilar xinvestments xof xthe
xsame xissuer.
The xinvestor xtypically xrecognizes xits xshare xof xinvestee xdividends xdeclared xas
xdividend xincome.
C. Consolidation: xwhen xone xfirm xcontrols xanother x(e.g., xwhen xa xparent xhas xa
xmajority xinterest xin xthe xvoting xstock xof xa xsubsidiary xor xcontrol xthrough xvariable
xinterests, xtheir xfinancial xstatements xare xconsolidated xand xreported xfor xthe
xcombined xentity.
D. Equity xmethod: xapplied xwhen xthe xinvestor xhas xthe xability xto xexercise
xsignificant xinfluence xover xoperating xand xfinancial xpolicies xof xthe xinvestee.
1. Ability xto xsignificantly xinfluence xinvestee xis xindicated xby xseveral xfactors
xincluding xrepresentation xon xthe xboard xof xdirectors, xparticipation xin xpolicy-
making, xetc.
2. GAAP xguidelines xpresume xthe xequity xmethod xis xapplicable xif x20 xto x50 xpercent xof xthe
2-1
© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
, outstanding xvoting xstock xof xthe xinvestee xis xheld xby xthe xinvestor.
Current xfinancial xreporting xstandards xallow xfirms xto xelect xto xuse xfair xvalue xfor xany xnew
xinvestment xin xequity xshares xincluding xthose xwhere xthe xequity xmethod xwould xotherwise
xapply. xHowever, xthe xoption, xonce xtaken, xis xirrevocable. xThe xinvestor xrecognizes xboth
xinvestee xdividends xand xchanges xin xfair xvalue xover xtime xas xincome.
II. Accounting xfor xan xinvestment: xthe xequity xmethod
A. The xinvestor xadjusts xthe xinvestment xaccount xto xreflect xall xchanges xin xthe xequity xof
xthe xinvestee xcompany.
B. The xinvestor xaccrues xinvestee xincome xwhen xit xis xreported xin xthe xinvestee‘s
xfinancial xstatements.
C. Dividends xdeclared xby xthe xinvestee xcreate xa xreduction xin xthe xcarrying xamount xof
xthe xInvestment xaccount. xThis xbook xassumes xall xinvestee xdividends xare xdeclared
xand xpaid xin xthe xsame xreporting xperiod.
III. Special xaccounting xprocedures xused xin xthe xapplication xof xthe xequity xmethod
A. Reporting xa xchange xto xthe xequity xmethod xwhen xthe xability xto xsignificantly xinfluence
xan xinvestee xis xachieved xthrough xa xseries xof xacquisitions.
1. Initial xpurchase(s) xwill xbe xaccounted xfor xby xmeans xof xthe xfair xvalue xmethod x(or
xat xcost) xuntil xthe xability xto xsignificantly xinfluence xis xattained.
2. When xthe xability xto xexercise xsignificant xinfluence xoccurs xfollowing xa xseries xof
xstock xpurchases, xthe xinvestor xapplies xthe xequity xmethod xprospectively. xThe
xtotal xfair xvalue xat xthe xdate xsignificant xinfluence xis xattained xis xcompared xto xthe
xinvestee‘s xbook xvalue xto xdetermine xfuture xexcess xfair xvalue xamortizations.
B. Investee xincome xfrom xother xthan xcontinuing xoperations
1. The xinvestor xrecognizes xits xshare xof xinvestee xreported xother
xcomprehensive xincome x(OCI) xthrough xthe xinvestment xaccount xand xthe
xinvestor‘s xown xOCI.
2. Income xitems xsuch xas xdiscontinued xoperations xthat xare xreported xseparately xby
xthe xinvestee xshould xbe xshown xin xthe xsame xmanner xby xthe xinvestor. xThe
xmateriality xof xthese xother xinvestee xincome xelements x(as xit xaffects xthe xinvestor)
xcontinues xto xbe xa xcriterion xfor xseparate xdisclosure.
C. Investee xlosses
1. Losses xreported xby xthe xinvestee xcreate xcorresponding xlosses xfor xthe xinvestor.
2. A xpermanent xdecline xin xthe xfair xvalue xof xan xinvestee‘s xstock xshould xbe
xrecognized ximmediately xby xthe xinvestor xas xan ximpairment xloss.
3. Investee xlosses xcan xpossibly xreduce xthe xcarrying xvalue xof xthe xinvestment
xaccount xto xa xzero xbalance. xAt xthat xpoint, xthe xequity xmethod xceases xto xbe
xapplicable xand xthe xfair-value xmethod xis xsubsequently xused.
D. Reporting xthe xsale xof xan xequity xinvestment
1. The xinvestor xapplies xthe xequity xmethod xuntil xthe xdisposal xdate xto xestablish xa
xproper xbook xvalue.
2. Following xthe xsale, xthe xequity xmethod xcontinues xto xbe xappropriate xif xenough
xshares xare xstill xheld xto xmaintain xthe xinvestor‘s xability xto xsignificantly xinfluence xthe
xinvestee. xIf xthat xability xhas xbeen xlost, xthe xfair-value xmethod xis xsubsequently
xused.
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© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
,Solution xManual xFor xAll xChapters
IV. Excess xinvestment xcost xover xbook xvalue xacquired
A. The xprice xan xinvestor xpays xfor xequity xsecurities xoften xdiffers xsignificantly xfrom
xthe xinvestee‘s xunderlying xbook xvalue xprimarily xbecause xthe xhistorical xcost
xbased xaccounting xmodel xdoes xnot xkeep xtrack xof xchanges xin xa xfirm‘s xfair xvalue.
B. Payments xmade xin xexcess xof xunderlying xbook xvalue xcan xsometimes xbe xidentified
xwith xspecific xinvestee xaccounts xsuch xas xinventory xor xequipment.
C. An xextra xacquisition xprice xcan xalso xbe xassigned xto xanticipated xbenefits xthat xare
xexpected xto xbe xderived xfrom xthe xinvestment. xIn xaccounting, xthese xamounts xare
xpresumed xto xreflect xan xintangible xasset xreferred xto xas xgoodwill. xGoodwill xis
xcalculated xas xany xexcess xpayment xthat xis xnot xattributable xto xspecific xidentifiable
xassets xand xliabilities xof xthe xinvestee. xBecause xgoodwill xis xan xindefinite-lived xasset,
xit xis xnot xamortized.
V. Deferral xof xintra-entity xgross xprofit xin xinventory
A. The xinvestor‘s xshare xof xintra-entity xprofits xin xending xinventory xare xnot xrecognized
xuntil xthe xtransferred xgoods xare xeither xconsumed xor xuntil xthey xare xresold xto xunrelated
xparties.
B. Downstream xsales xof xinventory
1. ―Downstream‖ xrefers xto xtransfers xmade xby xthe xinvestor xto xthe xinvestee.
2. Intra-entity xgross xprofits xfrom xsales xare xinitially xdeferred xunder xthe xequity
xmethod xand xthen xrecognized xas xincome xat xthe xtime xof xthe xinventory‘s
xeventual xdisposal.
3. The xamount xof xgross xprofit xto xbe xdeferred xis xthe xinvestor‘s xownership
xpercentage xmultiplied xby xthe xmarkup xon xthe xmerchandise xremaining xat xthe
xend xof xthe xyear.
C. Upstream xsales xof xinventory
1. ―Upstream‖ xrefers xto xtransfers xmade xby xthe xinvestee xto xthe xinvestor.
2. Under xthe xequity xmethod, xthe xdeferral xprocess xfor xintra-entity xgross xprofits xis
xidentical xfor xupstream xand xdownstream xtransfers. xThe xprocedures xare
xseparately xidentified xin xChapter xOne xbecause xthe xhandling xdoes xvary xwithin xthe
xconsolidation xprocess.
Answers xto xDiscussion xQuestions
The xtextbook xincludes xdiscussion xquestions xto xstimulate xstudent xthought xand xdiscussion. xThese
xquestions xare xalso xdesigned xto xallow xstudents xto xconsider xrelevant xissues xthat xmight xotherwise
xbe xoverlooked. xSome xof xthese xquestions xmay xbe xaddressed xby xthe xinstructor xin xclass xto
xmotivate xstudent xdiscussion. xStudents xshould xbe xencouraged xto xbegin xby xdefining xthe xissue(s)
xin xeach xcase. xNext, xauthoritative xaccounting xliterature x(FASB xASC) xor xother xrelevant xliterature
xcan xbe xconsulted xas xa xpreliminary xstep xin xarriving xat xlogical xactions. xFrequently, xthe xFASB
xAccounting xStandards xCodification xwill xprovide xthe xnecessary xsupport.
Unfortunately, xin xaccounting, xdefinitive xresolutions xto xfinancial xreporting xquestions xare xnot
xalways xavailable. xStudents xoften xseem xto xbelieve xthat xall xaccounting xissues xhave xbeen
xresolved xin xthe xpast xso xthat xaccounting xeducation xis xonly xa xmatter xof xlearning xto xapply
xhistorically xprescribed xprocedures. xHowever, xin xactual xpractice, xthe xonly xreal xanswer xis xoften
xthe xone xthat xprovides xthe xfairest xrepresentation xof xthe xfirm‘s xtransactions. xIf xan xauthoritative
xsolution xis xnot xavailable, xstudents xshould xbe xdirected xto xlist xall xof xthe xissues xinvolved xand xthe
xconsequences xof xpossible xalternative xactions. xThe xvarious xfactors xpresented xcan xbe xweighed
xto xproduce xa xviable xsolution.
The xdiscussion xquestions xare xdesigned xto xhelp xstudents xdevelop xresearch xand xcritical xthinking
xskills xin xaddressing xissues xthat xgo xbeyond xthe xpurely xmechanical xelements xof xaccounting.
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© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
, Did xthe xCost xMethod xInvite xManipulation?
The xcost xmethod xof xaccounting xfor xinvestments xoften xcaused xa xlack xof xobjectivity xin xreported
xincome xfigures. xWith xa xlarge xblock xof xthe xinvestee‘s xvoting xshares, xan xinvestor xcould xinfluence
xthe xamount xand xtiming xof xthe xinvestee‘s xdividend xdeclarations. xThus, xwhen xenjoying xa xgood
xearnings xyear, xan xinvestor xmight xinfluence xthe xinvestee xto xwithhold xdeclaring xa xdividend xuntil
xneeded xin xa xsubsequent xyear. xAlternatively, xif xthe xinvestor xjudged xthat xits xcurrent xyear xearnings
x―needed xa xboost,‖ xit xmight xinfluence xthe xinvestee xto xdeclare xa xcurrent xyear xdividend. xThe
xequity xmethod xeffectively xremoves xmanagers‘ xability xto xincrease xcurrent xincome x(or xdefer
xincome xto xfuture xperiods) xthrough xtheir xinfluence xover xthe xtiming xand xamounts xof xinvestee
xdividend xdeclarations.
At xfirst xglance xit xmay xseem xthat xthe xfair xvalue xmethod xallows xmanagers xto xmanipulate xincome
xbecause xinvestee xdividends xare xrecorded xas xincome xby xthe xinvestor. xHowever, xdividends xpaid
xtypically xare xaccompanied xby xa xdecrease xin xfair xvalue x(also xrecognized xin xincome), xthus xleaving
xreported xnet xincome xunaffected.
Does xthe xEquity xMethod xReally xApply xHere?
The xdiscussion xin xthe xcase xbetween xthe xtwo xaccountants xis xlimited xto xthe xreason xfor xthe
xinvestment xacquisition xand xthe xcurrent xpercentage xof xownership. xInstead, xthey xshould xbe
xexamining xthe xactual xinteraction xthat xcurrently xexists xbetween xthe xtwo xcompanies. xAlthough xthe
xability xto xexercise xsignificant xinfluence xover xoperating xand xfinancial xpolicies xappears xto xbe xa
xrather xvague xcriterion, xASC x323 x"Investments—Equity xMethod xand xJoint xVentures," xclearly
xspecifies xactual xevents xthat xindicate xthis xlevel xof xauthority x(paragraph x323-10-15-6):
Ability xto xexercise xthat xinfluence xmay xbe xindicated xin xseveral xways, xsuch xas xrepresentation xon
xthe xboard xof xdirectors, xparticipation xin xpolicy-making xprocesses, xmaterial xintra-entity
xtransactions, xinterchange xof xmanagerial xpersonnel, xor xtechnological xdependency. xAnother
ximportant xconsideration xis xthe xextent xof xownership xby xan xinvestor xin xrelation xto xthe
xconcentration xof xother xshareholdings, xbut xsubstantial xor xmajority xownership xof xthe xvoting xstock
xof xan xinvestee xcompany xby xanother xinvestor xdoes xnot xnecessarily xpreclude xthe xability xto
xexercise xsignificant xinfluence xby xthe xinvestor.
In xthis xcase, xthe xaccountants xwould xbe xwise xto xdetermine xwhether xDennis xBostitch xor xany xother
xmember xof xthe xHighland xLaboratories xadministration xis xparticipating xin xthe xmanagement xof
xAbraham, xInc. xIf xany xindividual xfrom xHighland's xorganization xis xon xAbraham‘s xboard xof xdirectors
xor xis xparticipating xin xmanagement xdecisions, xthe xequity xmethod xwould xseem xto xbe xappropriate.
Likewise, xif xsignificant xtransactions xhave xoccurred xbetween xthe xcompanies x(such xas xloans xby
xHighland xto xAbraham), xthe xability xto xapply xsignificant xinfluence xbecomes xmuch xmore xevident.
However, xif xJames xAbraham xcontinues xto xoperate xAbraham, xInc., xwith xlittle xor xno xregard xfor
xHighland, xthe xequity xmethod xshould xnot xbe xapplied. xThis xpossibility xseems xespecially xlikely xin
xthis xcase xsince xone xstockholder, xJames xAbraham, xcontinues xto xhold xa xmajority x(2/3) xof xthe
xvoting x stock. xThus, xevidence xof xthe xability xto xapply xsignificant xinfluence xmust xbe xpresent xbefore
xthe xequity xmethod xis xviewed xas xapplicable. xThe xmere xholding xof x1/3 xof xthe xstock xis xnot
xconclusive.
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© xMcGraw xHill xLLC. xAll xrights xreserved. xNo xreproduction xor xdistribution xwithout xthe xprior xwritten xconsent xof xMcGraw
Hill LLC.
