Gerken Company concluded at the beginning of 2013 that the company's ownership interest in DillCo had increased to the point that it became appropriate to begin using the equity method to account for the investment. The balance in the investment account is $50,000 at the time of the change, and accountants working with company records determined that the balance would have been $75,000 if the account had been adjusted for investee net income and dividends as prescribed by the equity method. After implementing the change to the equity method, if financial statements were prepared:
A)Net income and retained earnings will be higher by $25,000.
B)Net income will be unchanged, and retained earnings will be higher by $25,000.
C)Net income and retained earnings will be higher by $75,000.
D)The accounts will be unchanged, because no adjustment is necessary.

Question

Quizplus · Accepted Answer

The adjustment to the equity method affects retained earnings, not net income, for prior periods. The $25,000 difference is adjusted directly to retained earnings.

Gerken Company Concluded at the Beginning of 2013 That the Company's