Rock Company acquired 40% of the voting stock of Hudson Company for $40 million. In year 1, Hudson Company reports net income of $15 million and pays cash dividends of $5 million. At the end of the year the market value of Rock Company's investment in Hudson Company is $44 million. What accounts would be affected on Rock Company's books at the time Hudson Company paid its dividends and by how much?
A) Cash would increase by $2 million and Stockholders' Equity would increase by $2 million.
B) Cash would increase by $2 million and Investments would decrease by $2 million.
C) Cash would increase by $5 million and Stockholders' Equity would increase by $5 million.
D) There is no entry and no effect.

Question

Quizplus · Accepted Answer

Rock Company owns 40% of Hudson Company, so it receives 40% of the dividends paid. Hudson pays $5 million in dividends, so Rock receives $2 million (40% of $5 million). Cash increases by $2 million, and the investment account decreases by $2 million as dividends reduce the carrying amount of the investment under the equity method.

Rock Company Acquired 40% of the Voting Stock of Hudson