A parent company owns a controlling interest in a subsidiary whose stock has a book value of $27 per share. The last day of the year, the subsidiary issues new shares entirely to outside parties at $33 per share. The parent still holds control over the subsidiary. Which of the following statements is true?
A) Since the sale was made at the end of the year, the parent's investment account is not affected.
B) Since the shares were sold for more than book value, the parent's investment account must be increased.
C) Since the shares were sold for more than book value, the parent's investment account must be decreased.
D) Since the shares were sold for more than book value but the parent did not buy any of the shares, the parent's investment account is not affected.
E) None of these.

Question

Quizplus · Accepted Answer

Since the subsidiary issued new shares to outside parties at a price higher than the book value of its shares, it indicates that the subsidiary's fair value has increased. As the parent company holds a controlling interest in the subsidiary, the parent's investment account must be increased to reflect the subsidiary's increased fair value. Therefore, choice B is correct. Choice A is incorrect because the timing of the sale does not affect the parent's investment account. Choices C, D, and E are also incorrect as they do not reflect the correct accounting treatment of the transaction.

A Parent Company Owns a Controlling Interest in a Subsidiary