SolutioniManualiForiAlliChapters
SOLUTION MANUAL FOR
ADVANCED ACCOUNTING 15TH EDITION BY JOE BEN
HOYLE, THOMAS SCHAEFER AND TIMOTHY DOUPNIK
CHAPTER 1-19
CHAPTERi1i
THEiEQUITYiMETHODiOFiACCOUNTINGiFORiINVESTMENTS
ChapteriOutline
I. Fourimethodsiareiprincipallyiuseditoiaccountiforianiinvestmentiiniequityisecuritiesialongiwit
hiaifairivalueioption.
A. Fairivalueimethod:iappliedibyianiinvestoriwhenionlyiaismallipercentageiofiaico
mpany‘sivotingistockiisiheld.
1. Theiinvestorirecognizesiincomeiwhenitheiinvesteeideclaresiaidividend.
2. Portfoliosiareireportediatifairivalue.iIfifairivaluesiareiunavailable,iinvestmentiisire
portediaticost.
B. CostiMethod:iapplieditoiinvestmentsiwithoutiaireadilyideterminableifairivalue.iWhenithe
ifairivalueiofianiinvestmentiiniequityisecuritiesiisinotireadilyideterminable,ianditheiinvest
mentiprovidesineitherisignificantiinfluenceinoricontrol,itheiinvestmentimayibeimeasure
diaticost.iTheiinvestmentiremainsiaticostiunless
1. Aidemonstrableiimpairmentioccursiforitheiinvestment,ior
2. Aniobservableipriceichangeioccursiforiidenticaliorisimilariinvestmentsiofitheisameiiss
uer.
Theiinvestoritypicallyirecognizesiitsishareiofiinvesteeidividendsideclarediasidividendiin
come.
C. Consolidation:iwhenioneifirmicontrolsianotheri(e.g.,iwheniaiparentihasiaimajorityiinte
restiinitheivotingistockiofiaisubsidiaryioricontrolithroughivariableiinterests,itheirifinanci
alistatementsiareiconsolidatediandireportediforitheicombinedientity.
D. Equityimethod:iappliediwhenitheiinvestorihasitheiabilityitoiexerciseisignificantiinf
luenceioverioperatingiandifinancialipoliciesiofitheiinvestee.
1. Abilityitoisignificantlyiinfluenceiinvesteeiisiindicatedibyiseveralifactorsiincludingire
presentationionitheiboardiofidirectors,iparticipationiinipolicy-making,ietc.
2. GAAPiguidelinesipresumeitheiequityimethodiisiapplicableiifi20itoi50ipercentiofithe
2-1
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
, outstandingivotingistockiofitheiinvesteeiisiheldibyitheiinvestor.
Currentifinancialireportingistandardsiallowifirmsitoielectitoiuseifairivalueiforianyinewiinv
estmentiiniequityisharesiincludingithoseiwhereitheiequityimethodiwouldiotherwiseiapply
.iHowever,itheioption,ionceitaken,iisiirrevocable.iTheiinvestorirecognizesibothiinvesteei
dividendsiandichangesiinifairivalueioveritimeiasiincome.
II. Accountingiforianiinvestment:itheiequityimethod
A. Theiinvestoriadjustsitheiinvestmentiaccountitoireflectiallichangesiinitheiequityiofitheiinv
esteeicompany.
B. Theiinvestoriaccruesiinvesteeiincomeiwheniitiisireportediinitheiinvestee‘sifinancialist
atements.
C. DividendsideclaredibyitheiinvesteeicreateiaireductioniinitheicarryingiamountiofitheiInve
stmentiaccount.iThisibookiassumesialliinvesteeidividendsiareideclarediandipaidiinitheis
ameireportingiperiod.
III. Specialiaccountingiproceduresiusediinitheiapplicationiofitheiequityimethod
A. Reportingiaichangeitoitheiequityimethodiwhenitheiabilityitoisignificantlyiinfluenceianiinv
esteeiisiachievedithroughiaiseriesiofiacquisitions.
1. Initialipurchase(s)iwillibeiaccountediforibyimeansiofitheifairivalueimethodi(oriatico
st)iuntilitheiabilityitoisignificantlyiinfluenceiisiattained.
2. Whenitheiabilityitoiexerciseisignificantiinfluenceioccursifollowingiaiseriesiofistockipu
rchases,itheiinvestoriappliesitheiequityimethodiprospectively.iTheitotalifairivalueiatit
heidateisignificantiinfluenceiisiattainediisicompareditoitheiinvestee‘sibookivalueitoid
etermineifutureiexcessifairivalueiamortizations.
B. Investeeiincomeifromiotherithanicontinuingioperations
1. Theiinvestorirecognizesiitsishareiofiinvesteeireportediothericomprehensiveiin
comei(OCI)ithroughitheiinvestmentiaccountianditheiinvestor‘siowniOCI.
2. Incomeiitemsisuchiasidiscontinuedioperationsithatiareireportediseparatelyibyitheiinv
esteeishouldibeishowniinitheisameimanneribyitheiinvestor.iTheimaterialityiofithesei
otheriinvesteeiincomeielementsi(asiitiaffectsitheiinvestor)icontinuesitoibeiaicriterionif
oriseparateidisclosure.
C. Investeeilosses
1. Lossesireportedibyitheiinvesteeicreateicorrespondingilossesiforitheiinvestor.
2. Aipermanentideclineiinitheifairivalueiofianiinvestee‘sistockishouldibeirecognizediim
mediatelyibyitheiinvestoriasianiimpairmentiloss.
3. Investeeilossesicanipossiblyireduceitheicarryingivalueiofitheiinvestmentiaccountitoia
izeroibalance.iAtithatipoint,itheiequityimethodiceasesitoibeiapplicableianditheifair-
valueimethodiisisubsequentlyiused.
D. Reportingitheisaleiofianiequityiinvestment
1. Theiinvestoriappliesitheiequityimethodiuntilitheidisposalidateitoiestablishiaiproperibo
okivalue.
2. Followingitheisale,itheiequityimethodicontinuesitoibeiappropriateiifienoughisharesiar
eistillihelditoimaintainitheiinvestor‘siabilityitoisignificantlyiinfluenceitheiinvestee.iIfitha
tiabilityihasibeenilost,itheifair-valueimethodiisisubsequentlyiused.
2-24
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
,SolutioniManualiForiAlliChapters
IV. Excessiinvestmenticostioveribookivalueiacquired
A. Theipriceianiinvestoripaysiforiequityisecuritiesioftenidiffersisignificantlyifromitheiin
vestee‘siunderlyingibookivalueiprimarilyibecauseitheihistoricalicostibasediaccount
ingimodelidoesinotikeepitrackiofichangesiiniaifirm‘sifairivalue.
B. Paymentsimadeiiniexcessiofiunderlyingibookivalueicanisometimesibeiidentifiediwithisp
ecificiinvesteeiaccountsisuchiasiinventoryioriequipment.
C. Aniextraiacquisitionipriceicanialsoibeiassigneditoianticipatedibenefitsithatiareiexpecte
ditoibeiderivedifromitheiinvestment.iIniaccounting,itheseiamountsiareipresumeditoirefl
ectianiintangibleiassetireferreditoiasigoodwill.iGoodwilliisicalculatediasianyiexcessipay
mentithatiisinotiattributableitoispecificiidentifiableiassetsiandiliabilitiesiofitheiinvestee.i
Becauseigoodwilliisianiindefinite-livediasset,iitiisinotiamortized.
V. Deferraliofiintra-entityigrossiprofitiiniinventory
A. Theiinvestor‘sishareiofiintra-
entityiprofitsiiniendingiinventoryiareinotirecognizediuntilitheitransferredigoodsiareieitheri
consumedioriuntilitheyiareiresolditoiunrelatediparties.
B. Downstreamisalesiofiinventory
1. ―Downstream‖irefersitoitransfersimadeibyitheiinvestoritoitheiinvestee.
2. Intra-
entityigrossiprofitsifromisalesiareiinitiallyideferrediunderitheiequityimethodiandithe
nirecognizediasiincomeiatitheitimeiofitheiinventory‘sieventualidisposal.
3. Theiamountiofigrossiprofititoibeideferrediisitheiinvestor‘siownershipipercentageim
ultipliedibyitheimarkupionitheimerchandiseiremainingiatitheiendiofitheiyear.
C. Upstreamisalesiofiinventory
1. ―Upstream‖irefersitoitransfersimadeibyitheiinvesteeitoitheiinvestor.
2. Underitheiequityimethod,itheideferraliprocessiforiintra-
entityigrossiprofitsiisiidenticaliforiupstreamiandidownstreamitransfers.iTheiprocedu
resiareiseparatelyiidentifiediiniChapteriOneibecauseitheihandlingidoesivaryiwithinit
heiconsolidationiprocess.
AnswersitoiDiscussioniQuestions
Theitextbookiincludesidiscussioniquestionsitoistimulateistudentithoughtiandidiscussion.iTheseique
stionsiareialsoidesigneditoiallowistudentsitoiconsiderirelevantiissuesithatimightiotherwiseibeioverlo
oked.iSomeiofitheseiquestionsimayibeiaddressedibyitheiinstructoriiniclassitoimotivateistudentidiscu
ssion.iStudentsishouldibeiencourageditoibeginibyidefiningitheiissue(s)iinieachicase.iNext,iauthorita
tiveiaccountingiliteraturei(FASBiASC)ioriotherirelevantiliteratureicanibeiconsultediasiaipreliminaryis
tepiiniarrivingiatilogicaliactions.iFrequently,itheiFASBiAccountingiStandardsiCodificationiwilliprovid
eitheinecessaryisupport.
Unfortunately,iiniaccounting,idefinitiveiresolutionsitoifinancialireportingiquestionsiareinotialwaysiav
ailable.iStudentsiofteniseemitoibelieveithatialliaccountingiissuesihaveibeeniresolvediinitheipastisoit
hatiaccountingieducationiisionlyiaimatteriofilearningitoiapplyihistoricallyiprescribediprocedures.iHo
wever,iiniactualipractice,itheionlyirealiansweriisioftenitheioneithatiprovidesitheifairestirepresentatio
niofitheifirm‘sitransactions.iIfianiauthoritativeisolutioniisinotiavailable,istudentsishouldibeidirectedit
oilistialliofitheiissuesiinvolvedianditheiconsequencesiofipossibleialternativeiactions.iTheivariousifac
torsipresentedicanibeiweigheditoiproduceiaiviableisolution.
Theidiscussioniquestionsiareidesigneditoihelpistudentsidevelopiresearchiandicriticalithinkingiskillsi
iniaddressingiissuesithatigoibeyonditheipurelyimechanicalielementsiofiaccounting.
2-3
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
, DiditheiCostiMethodiInviteiManipulation?
Theicostimethodiofiaccountingiforiinvestmentsioftenicausediailackiofiobjectivityiinireportediincomeif
igures.iWithiailargeiblockiofitheiinvestee‘sivotingishares,ianiinvestoricouldiinfluenceitheiamountiandi
timingiofitheiinvestee‘sidividendideclarations.iThus,iwhenienjoyingiaigoodiearningsiyear,ianiinvesto
rimightiinfluenceitheiinvesteeitoiwithholdideclaringiaidividendiuntilineedediiniaisubsequentiyear.iAlt
ernatively,iifitheiinvestorijudgedithatiitsicurrentiyeariearningsi―needediaiboost,‖iitimightiinfluenceithe
iinvesteeitoideclareiaicurrentiyearidividend.iTheiequityimethodieffectivelyiremovesimanagers‘iabilit
yitoiincreaseicurrentiincomei(orideferiincomeitoifutureiperiods)ithroughitheiriinfluenceioveritheitimin
giandiamountsiofiinvesteeidividendideclarations.
Atifirstiglanceiitimayiseemithatitheifairivalueimethodiallowsimanagersitoimanipulateiincomeibecausei
investeeidividendsiareirecordediasiincomeibyitheiinvestor.iHowever,idividendsipaiditypicallyiareiacc
ompaniedibyiaidecreaseiinifairivaluei(alsoirecognizediiniincome),ithusileavingireportedinetiincomeiun
affected.
DoesitheiEquityiMethodiReallyiApplyiHere?
Theidiscussioniinitheicaseibetweenitheitwoiaccountantsiisilimiteditoitheireasoniforitheiinvestmentia
cquisitionianditheicurrentipercentageiofiownership.iInstead,itheyishouldibeiexaminingitheiactualiint
eractionithaticurrentlyiexistsibetweenitheitwoicompanies.iAlthoughitheiabilityitoiexerciseisignificantii
nfluenceioverioperatingiandifinancialipoliciesiappearsitoibeiairatherivagueicriterion,iASCi323i"Inves
tments—
EquityiMethodiandiJointiVentures,"iclearlyispecifiesiactualieventsithatiindicateithisileveliofiauthority
i(paragraphi323-10-15-6):
Abilityitoiexerciseithatiinfluenceimayibeiindicatediiniseveraliways,isuchiasirepresentationionitheiboa
rdiofidirectors,iparticipationiinipolicy-makingiprocesses,imaterialiintra-
entityitransactions,iinterchangeiofimanagerialipersonnel,ioritechnologicalidependency.iAnotheriim
portanticonsiderationiisitheiextentiofiownershipibyianiinvestoriinirelationitoitheiconcentrationiofiothe
rishareholdings,ibutisubstantialiorimajorityiownershipiofitheivotingistockiofianiinvesteeicompanyibyi
anotheriinvestoridoesinotinecessarilyiprecludeitheiabilityitoiexerciseisignificantiinfluenceibyitheiinve
stor.
Inithisicase,itheiaccountantsiwouldibeiwiseitoidetermineiwhetheriDennisiBostitchiorianyiotherimemb
eriofitheiHighlandiLaboratoriesiadministrationiisiparticipatingiinitheimanagementiofiAbraham,iInc.iIfia
nyiindividualifromiHighland'siorganizationiisioniAbraham‘siboardiofidirectorsioriisiparticipatingiiniman
agementidecisions,itheiequityimethodiwouldiseemitoibeiappropriate.
Likewise,iifisignificantitransactionsihaveioccurredibetweenitheicompaniesi(suchiasiloansibyiHig
hlanditoiAbraham),itheiabilityitoiapplyisignificantiinfluenceibecomesimuchimoreievident.
However,iifiJamesiAbrahamicontinuesitoioperateiAbraham,iInc.,iwithilittleiorinoiregardiforiHighland,i
theiequityimethodishouldinotibeiapplied.iThisipossibilityiseemsiespeciallyilikelyiinithisicaseisinceion
eistockholder,iJamesiAbraham,icontinuesitoiholdiaimajorityi(2/3)iofitheivotingistock.iThus,ievidencei
ofitheiabilityitoiapplyisignificantiinfluenceimustibeipresentibeforeitheiequityimethodiisiviewediasiappli
cable.iTheimereiholdingiofi1/3iofitheistockiisinoticonclusive.
2-44
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
SOLUTION MANUAL FOR
ADVANCED ACCOUNTING 15TH EDITION BY JOE BEN
HOYLE, THOMAS SCHAEFER AND TIMOTHY DOUPNIK
CHAPTER 1-19
CHAPTERi1i
THEiEQUITYiMETHODiOFiACCOUNTINGiFORiINVESTMENTS
ChapteriOutline
I. Fourimethodsiareiprincipallyiuseditoiaccountiforianiinvestmentiiniequityisecuritiesialongiwit
hiaifairivalueioption.
A. Fairivalueimethod:iappliedibyianiinvestoriwhenionlyiaismallipercentageiofiaico
mpany‘sivotingistockiisiheld.
1. Theiinvestorirecognizesiincomeiwhenitheiinvesteeideclaresiaidividend.
2. Portfoliosiareireportediatifairivalue.iIfifairivaluesiareiunavailable,iinvestmentiisire
portediaticost.
B. CostiMethod:iapplieditoiinvestmentsiwithoutiaireadilyideterminableifairivalue.iWhenithe
ifairivalueiofianiinvestmentiiniequityisecuritiesiisinotireadilyideterminable,ianditheiinvest
mentiprovidesineitherisignificantiinfluenceinoricontrol,itheiinvestmentimayibeimeasure
diaticost.iTheiinvestmentiremainsiaticostiunless
1. Aidemonstrableiimpairmentioccursiforitheiinvestment,ior
2. Aniobservableipriceichangeioccursiforiidenticaliorisimilariinvestmentsiofitheisameiiss
uer.
Theiinvestoritypicallyirecognizesiitsishareiofiinvesteeidividendsideclarediasidividendiin
come.
C. Consolidation:iwhenioneifirmicontrolsianotheri(e.g.,iwheniaiparentihasiaimajorityiinte
restiinitheivotingistockiofiaisubsidiaryioricontrolithroughivariableiinterests,itheirifinanci
alistatementsiareiconsolidatediandireportediforitheicombinedientity.
D. Equityimethod:iappliediwhenitheiinvestorihasitheiabilityitoiexerciseisignificantiinf
luenceioverioperatingiandifinancialipoliciesiofitheiinvestee.
1. Abilityitoisignificantlyiinfluenceiinvesteeiisiindicatedibyiseveralifactorsiincludingire
presentationionitheiboardiofidirectors,iparticipationiinipolicy-making,ietc.
2. GAAPiguidelinesipresumeitheiequityimethodiisiapplicableiifi20itoi50ipercentiofithe
2-1
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
, outstandingivotingistockiofitheiinvesteeiisiheldibyitheiinvestor.
Currentifinancialireportingistandardsiallowifirmsitoielectitoiuseifairivalueiforianyinewiinv
estmentiiniequityisharesiincludingithoseiwhereitheiequityimethodiwouldiotherwiseiapply
.iHowever,itheioption,ionceitaken,iisiirrevocable.iTheiinvestorirecognizesibothiinvesteei
dividendsiandichangesiinifairivalueioveritimeiasiincome.
II. Accountingiforianiinvestment:itheiequityimethod
A. Theiinvestoriadjustsitheiinvestmentiaccountitoireflectiallichangesiinitheiequityiofitheiinv
esteeicompany.
B. Theiinvestoriaccruesiinvesteeiincomeiwheniitiisireportediinitheiinvestee‘sifinancialist
atements.
C. DividendsideclaredibyitheiinvesteeicreateiaireductioniinitheicarryingiamountiofitheiInve
stmentiaccount.iThisibookiassumesialliinvesteeidividendsiareideclarediandipaidiinitheis
ameireportingiperiod.
III. Specialiaccountingiproceduresiusediinitheiapplicationiofitheiequityimethod
A. Reportingiaichangeitoitheiequityimethodiwhenitheiabilityitoisignificantlyiinfluenceianiinv
esteeiisiachievedithroughiaiseriesiofiacquisitions.
1. Initialipurchase(s)iwillibeiaccountediforibyimeansiofitheifairivalueimethodi(oriatico
st)iuntilitheiabilityitoisignificantlyiinfluenceiisiattained.
2. Whenitheiabilityitoiexerciseisignificantiinfluenceioccursifollowingiaiseriesiofistockipu
rchases,itheiinvestoriappliesitheiequityimethodiprospectively.iTheitotalifairivalueiatit
heidateisignificantiinfluenceiisiattainediisicompareditoitheiinvestee‘sibookivalueitoid
etermineifutureiexcessifairivalueiamortizations.
B. Investeeiincomeifromiotherithanicontinuingioperations
1. Theiinvestorirecognizesiitsishareiofiinvesteeireportediothericomprehensiveiin
comei(OCI)ithroughitheiinvestmentiaccountianditheiinvestor‘siowniOCI.
2. Incomeiitemsisuchiasidiscontinuedioperationsithatiareireportediseparatelyibyitheiinv
esteeishouldibeishowniinitheisameimanneribyitheiinvestor.iTheimaterialityiofithesei
otheriinvesteeiincomeielementsi(asiitiaffectsitheiinvestor)icontinuesitoibeiaicriterionif
oriseparateidisclosure.
C. Investeeilosses
1. Lossesireportedibyitheiinvesteeicreateicorrespondingilossesiforitheiinvestor.
2. Aipermanentideclineiinitheifairivalueiofianiinvestee‘sistockishouldibeirecognizediim
mediatelyibyitheiinvestoriasianiimpairmentiloss.
3. Investeeilossesicanipossiblyireduceitheicarryingivalueiofitheiinvestmentiaccountitoia
izeroibalance.iAtithatipoint,itheiequityimethodiceasesitoibeiapplicableianditheifair-
valueimethodiisisubsequentlyiused.
D. Reportingitheisaleiofianiequityiinvestment
1. Theiinvestoriappliesitheiequityimethodiuntilitheidisposalidateitoiestablishiaiproperibo
okivalue.
2. Followingitheisale,itheiequityimethodicontinuesitoibeiappropriateiifienoughisharesiar
eistillihelditoimaintainitheiinvestor‘siabilityitoisignificantlyiinfluenceitheiinvestee.iIfitha
tiabilityihasibeenilost,itheifair-valueimethodiisisubsequentlyiused.
2-24
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
,SolutioniManualiForiAlliChapters
IV. Excessiinvestmenticostioveribookivalueiacquired
A. Theipriceianiinvestoripaysiforiequityisecuritiesioftenidiffersisignificantlyifromitheiin
vestee‘siunderlyingibookivalueiprimarilyibecauseitheihistoricalicostibasediaccount
ingimodelidoesinotikeepitrackiofichangesiiniaifirm‘sifairivalue.
B. Paymentsimadeiiniexcessiofiunderlyingibookivalueicanisometimesibeiidentifiediwithisp
ecificiinvesteeiaccountsisuchiasiinventoryioriequipment.
C. Aniextraiacquisitionipriceicanialsoibeiassigneditoianticipatedibenefitsithatiareiexpecte
ditoibeiderivedifromitheiinvestment.iIniaccounting,itheseiamountsiareipresumeditoirefl
ectianiintangibleiassetireferreditoiasigoodwill.iGoodwilliisicalculatediasianyiexcessipay
mentithatiisinotiattributableitoispecificiidentifiableiassetsiandiliabilitiesiofitheiinvestee.i
Becauseigoodwilliisianiindefinite-livediasset,iitiisinotiamortized.
V. Deferraliofiintra-entityigrossiprofitiiniinventory
A. Theiinvestor‘sishareiofiintra-
entityiprofitsiiniendingiinventoryiareinotirecognizediuntilitheitransferredigoodsiareieitheri
consumedioriuntilitheyiareiresolditoiunrelatediparties.
B. Downstreamisalesiofiinventory
1. ―Downstream‖irefersitoitransfersimadeibyitheiinvestoritoitheiinvestee.
2. Intra-
entityigrossiprofitsifromisalesiareiinitiallyideferrediunderitheiequityimethodiandithe
nirecognizediasiincomeiatitheitimeiofitheiinventory‘sieventualidisposal.
3. Theiamountiofigrossiprofititoibeideferrediisitheiinvestor‘siownershipipercentageim
ultipliedibyitheimarkupionitheimerchandiseiremainingiatitheiendiofitheiyear.
C. Upstreamisalesiofiinventory
1. ―Upstream‖irefersitoitransfersimadeibyitheiinvesteeitoitheiinvestor.
2. Underitheiequityimethod,itheideferraliprocessiforiintra-
entityigrossiprofitsiisiidenticaliforiupstreamiandidownstreamitransfers.iTheiprocedu
resiareiseparatelyiidentifiediiniChapteriOneibecauseitheihandlingidoesivaryiwithinit
heiconsolidationiprocess.
AnswersitoiDiscussioniQuestions
Theitextbookiincludesidiscussioniquestionsitoistimulateistudentithoughtiandidiscussion.iTheseique
stionsiareialsoidesigneditoiallowistudentsitoiconsiderirelevantiissuesithatimightiotherwiseibeioverlo
oked.iSomeiofitheseiquestionsimayibeiaddressedibyitheiinstructoriiniclassitoimotivateistudentidiscu
ssion.iStudentsishouldibeiencourageditoibeginibyidefiningitheiissue(s)iinieachicase.iNext,iauthorita
tiveiaccountingiliteraturei(FASBiASC)ioriotherirelevantiliteratureicanibeiconsultediasiaipreliminaryis
tepiiniarrivingiatilogicaliactions.iFrequently,itheiFASBiAccountingiStandardsiCodificationiwilliprovid
eitheinecessaryisupport.
Unfortunately,iiniaccounting,idefinitiveiresolutionsitoifinancialireportingiquestionsiareinotialwaysiav
ailable.iStudentsiofteniseemitoibelieveithatialliaccountingiissuesihaveibeeniresolvediinitheipastisoit
hatiaccountingieducationiisionlyiaimatteriofilearningitoiapplyihistoricallyiprescribediprocedures.iHo
wever,iiniactualipractice,itheionlyirealiansweriisioftenitheioneithatiprovidesitheifairestirepresentatio
niofitheifirm‘sitransactions.iIfianiauthoritativeisolutioniisinotiavailable,istudentsishouldibeidirectedit
oilistialliofitheiissuesiinvolvedianditheiconsequencesiofipossibleialternativeiactions.iTheivariousifac
torsipresentedicanibeiweigheditoiproduceiaiviableisolution.
Theidiscussioniquestionsiareidesigneditoihelpistudentsidevelopiresearchiandicriticalithinkingiskillsi
iniaddressingiissuesithatigoibeyonditheipurelyimechanicalielementsiofiaccounting.
2-3
©iMcGrawiHilliLLC.iAllirightsireserved.iNoireproductionioridistributioniwithoutitheiprioriwritteniconsentiofiMcGrawiHilliLLC.
, DiditheiCostiMethodiInviteiManipulation?
Theicostimethodiofiaccountingiforiinvestmentsioftenicausediailackiofiobjectivityiinireportediincomeif
igures.iWithiailargeiblockiofitheiinvestee‘sivotingishares,ianiinvestoricouldiinfluenceitheiamountiandi
timingiofitheiinvestee‘sidividendideclarations.iThus,iwhenienjoyingiaigoodiearningsiyear,ianiinvesto
rimightiinfluenceitheiinvesteeitoiwithholdideclaringiaidividendiuntilineedediiniaisubsequentiyear.iAlt
ernatively,iifitheiinvestorijudgedithatiitsicurrentiyeariearningsi―needediaiboost,‖iitimightiinfluenceithe
iinvesteeitoideclareiaicurrentiyearidividend.iTheiequityimethodieffectivelyiremovesimanagers‘iabilit
yitoiincreaseicurrentiincomei(orideferiincomeitoifutureiperiods)ithroughitheiriinfluenceioveritheitimin
giandiamountsiofiinvesteeidividendideclarations.
Atifirstiglanceiitimayiseemithatitheifairivalueimethodiallowsimanagersitoimanipulateiincomeibecausei
investeeidividendsiareirecordediasiincomeibyitheiinvestor.iHowever,idividendsipaiditypicallyiareiacc
ompaniedibyiaidecreaseiinifairivaluei(alsoirecognizediiniincome),ithusileavingireportedinetiincomeiun
affected.
DoesitheiEquityiMethodiReallyiApplyiHere?
Theidiscussioniinitheicaseibetweenitheitwoiaccountantsiisilimiteditoitheireasoniforitheiinvestmentia
cquisitionianditheicurrentipercentageiofiownership.iInstead,itheyishouldibeiexaminingitheiactualiint
eractionithaticurrentlyiexistsibetweenitheitwoicompanies.iAlthoughitheiabilityitoiexerciseisignificantii
nfluenceioverioperatingiandifinancialipoliciesiappearsitoibeiairatherivagueicriterion,iASCi323i"Inves
tments—
EquityiMethodiandiJointiVentures,"iclearlyispecifiesiactualieventsithatiindicateithisileveliofiauthority
i(paragraphi323-10-15-6):
Abilityitoiexerciseithatiinfluenceimayibeiindicatediiniseveraliways,isuchiasirepresentationionitheiboa
rdiofidirectors,iparticipationiinipolicy-makingiprocesses,imaterialiintra-
entityitransactions,iinterchangeiofimanagerialipersonnel,ioritechnologicalidependency.iAnotheriim
portanticonsiderationiisitheiextentiofiownershipibyianiinvestoriinirelationitoitheiconcentrationiofiothe
rishareholdings,ibutisubstantialiorimajorityiownershipiofitheivotingistockiofianiinvesteeicompanyibyi
anotheriinvestoridoesinotinecessarilyiprecludeitheiabilityitoiexerciseisignificantiinfluenceibyitheiinve
stor.
Inithisicase,itheiaccountantsiwouldibeiwiseitoidetermineiwhetheriDennisiBostitchiorianyiotherimemb
eriofitheiHighlandiLaboratoriesiadministrationiisiparticipatingiinitheimanagementiofiAbraham,iInc.iIfia
nyiindividualifromiHighland'siorganizationiisioniAbraham‘siboardiofidirectorsioriisiparticipatingiiniman
agementidecisions,itheiequityimethodiwouldiseemitoibeiappropriate.
Likewise,iifisignificantitransactionsihaveioccurredibetweenitheicompaniesi(suchiasiloansibyiHig
hlanditoiAbraham),itheiabilityitoiapplyisignificantiinfluenceibecomesimuchimoreievident.
However,iifiJamesiAbrahamicontinuesitoioperateiAbraham,iInc.,iwithilittleiorinoiregardiforiHighland,i
theiequityimethodishouldinotibeiapplied.iThisipossibilityiseemsiespeciallyilikelyiinithisicaseisinceion
eistockholder,iJamesiAbraham,icontinuesitoiholdiaimajorityi(2/3)iofitheivotingistock.iThus,ievidencei
ofitheiabilityitoiapplyisignificantiinfluenceimustibeipresentibeforeitheiequityimethodiisiviewediasiappli
cable.iTheimereiholdingiofi1/3iofitheistockiisinoticonclusive.
2-44
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