Question 1

Company B has 40,000 shares of its common stock outstanding.Company A owns 15,000 shares of Company B's stock.What method should Company A use to account for its investment in Company B?

Accepted Answer

Since Company A owns less than 20% of Company B's outstanding shares, it is not considered a significant influence or controlling interest. Therefore, the equity method is appropriate for Company A to account for its investment in Company B. The equity method records the investment at cost and adjusts the investment account for Company A's share of Company B's earnings or losses.

Question 2

Consolidated financial statements combine the books of two or more ________ into one set of financial statements.

Accepted Answer

Consolidated financial statements combine the financial information of separate legal entities, typically a parent company and its subsidiaries, into one set of financial statements.

Question 3

An investor in available-for-sale securities has the following information available at December 31,2012:  How does the investor report the change in market value on the available-for-sale securities at December 31,2012?

Accepted Answer

C

Question 4

Vince Company purchased common stock in Sanchez Company.During the current year,Sanchez Company earned $4,000,000 and paid dividends of $1,000,000.Assume that Vince Company owns 30% of the outstanding shares of Sanchez Company.Sanchez Company's dividend will affect Vince Company by ________.

Accepted Answer

Since Vince Company owns only 30% of Sanchez Company, it will receive only 30% of the dividends paid by Sanchez Company. Thus, the dividend received by Vince Company will be $1,000,000 x 30% = $300,000. This will increase its cash balance by $300,000, but decrease its investment in Sanchez Company by the same amount. Therefore, the correct answer is C: increasing cash and decreasing investments by $300,000.

Question 5

Rocky Company acquired 40% of the voting stock of Boulder Company for $40 million.At the end of Year 1,Boulder Company reports net income of $15 million and pays cash dividends of $5 million.At the end of Year 1,the market value of Rocky Company's investment in Boulder Company is $44 million.The ________ method should be used by Rocky Company to account for the investment.

Accepted Answer

The equity method should be used by Rocky Company to account for the investment, as they own 40% of the voting stock of Boulder Company. Under the equity method, the investment is initially recorded at cost, and then adjusted for the investor's share of the investee's net income or loss and dividends declared. Since the market value of the investment at the end of Year 1 is not relevant under this method, choices A and C can be eliminated. The consolidated method is used when one company owns a controlling interest (more than 50%) in another company, so choice B is not applicable in this situation.

Question 6

Jeff Company purchased common stock in Garcia Company.Jeff Company treats the investment as available-for-sale securities.During the current year,Garcia Company earned $4,000,000 and paid dividends of $1,000,000.Assume that Jeff Company owns 10% of the outstanding shares of Garcia Company.Garcia Company's net income will affect Jeff Company by ________.

Accepted Answer

Since Jeff Company treats the investment as available-for-sale securities, Garcia Company's net income does not directly affect Jeff Company's financial statements. Only the dividends received would affect Jeff Company's cash and income.

Question 7

Herman Company acquired 10 percent of the voting stock of Hudson Company for $10 million.Herman Company plans to keep the investment for several years.At the end of Year 1,Hudson Company reports net income of $15 million and pays cash dividends of $5 million.At the end of Year 1,the market value of Herman Company's investment in Hudson Company is $11 million.What entry is necessary at the end of Year 1 to account for the change in market value of Herman Company's investment in Hudson Company?

Accepted Answer

Since Herman Company owns less than 20% of Hudson Company, it should use the fair value method. The investment increased in market value from $10 million to $11 million, so an adjustment of $1 million is needed to reflect this change.

Question 8

Company B has 40,000 shares of its common stock outstanding.Company A owns 5,000 shares of Company B's stock.What method should Company A use to account for its investment in Company B?

Accepted Answer

Company A owns 12.5% (5,000 out of 40,000) of Company B's stock, which is typically not enough to exert significant influence. Therefore, the market-value method is appropriate for accounting for this level of investment.

Question 9

Company B has 40,000 shares of its common stock outstanding.Company A owns 35,000 shares of Company B's stock.What method should Company A use to account for its investment in Company B?

Accepted Answer

The answer of Company B has 40,000 shares of its...

Question 10

Vince Company purchased common stock in Gill Company.During the current year,Gill Company earned $4,000,000 and paid dividends of $1,000,000.Assume that Vince Company owns 40 percent of the outstanding shares of Gill Company.Gill Company's net income will affect Vince Company by ________.

Accepted Answer

Vince Company owns 40% of Gill Company, which means it has a significant influence on Gill's operations. As such, Vince Company should record its share of Gill's net income, which would be $1,600,000 (40% x $4,000,000). The dividends paid by Gill Company do not affect Vince Company's investment in Gill Company. Therefore, the correct answer is A, which indicates that the net income would increase Vince Company's investment by $1,600,000.

Question 11

Dividends received from trading securities are reported by the investor as ________.

Accepted Answer

Dividends received from trading securities are considered as dividend revenue on the income statement of the investor. They are not recorded as an increase or decrease in the investment account or as equity in earnings of the investee as these are typically associated with other types of investments.

Question 12

Rocky Company acquired 40% of the voting stock of Boulder Company for $40 million.At the end of Year 1,Boulder Company reports net income of $15 million and pays cash dividends of $5 million.At the end of Year 1,the market value of Rocky Company's investment in Boulder Company is $44 million.At the time of the acquisition,what accounts would be affected on the books of Rocky Company?

Accepted Answer

When Rocky Company acquired 40% of the voting stock of Boulder Company for $40 million, they paid cash for the investment. Therefore, the accounts affected on the books of Rocky Company are:
- Cash: decreased by $40 million
- Investments: increased by $40 million

So, the correct choice is A.

Question 13

Jeff Company purchased common stock in Gonzalez Company.Jeff Company treats the investment as available-for-sale securities.During the current year,Gonzalez Company earned $4,000,000 and paid dividends of $1,000,000.Assume that Jeff Company owns 10% of the outstanding shares of Gonzalez Company.Gonzalez Company's dividend will affect Jeff Company by ________.

Accepted Answer

Jeff Company will receive 10% of the dividends paid by Gonzalez Company, which amounts to $100,000. This will increase Jeff Company's cash and stockholders' equity by $100,000.

Question 14

Dividends received from available-for-sale securities are reported by the investor as ________.

Accepted Answer

Dividends received from available-for-sale securities are reported as dividend revenue on the investor's income statement. They do not affect the investment account or equity in earnings of the investee.

Question 15

An investor in trading securities has the following information available at December 31,2012:  How does the investor report the change in market value on the trading securities at December 31,2012?

Accepted Answer

The increase in market value would result in an unrealized gain, which should be reported on the income statement under "Gain on Trading Securities." Therefore, the best choice is B, unrealized gain of $1,000 on income statement. The other choices are incorrect because an unrealized loss would result in subtraction, not addition, from comprehensive income, and it would also be reported on the income statement, not the balance sheet.

Question 16

Marketable securities that the investor company buys only with the intent to resell them shortly are called ________.

Accepted Answer

Trading securities are those that are bought with the short-term goal of reselling them for a profit. Available-for-sale securities are held for a longer period of time and their value may fluctuate. Underpriced securities are not necessarily bought with the intent of reselling them shortly. Options are financial contracts that give the holder the right, but not the obligation, to buy or sell an underlying asset at a specific price on or before a certain date.

Question 17

Changes in the market value of trading securities are reflected in the ________ account.Changes in the market value of available-for-sale securities are reflected in the ________ account.

Accepted Answer

Changes in the market value of available-for-sale securities are reflected in the other comprehensive income or loss account. The retained earnings account is not affected by changes in the market value of securities. The equity in earnings of investment account is relevant for investments in associates or joint ventures where the investor has significant influence over the investee.

Question 18

Bobby Company purchased 40% of the outstanding shares of Wilson Company as a long-term investment.At the end of the year,the market value of the shares increased.The increase in market value of Wilson Company's shares will affect Bobby Company by ________.

Accepted Answer

Since Bobby Company owns 40% of Wilson Company, it likely uses the equity method for accounting. Under the equity method, changes in market value do not affect the financial statements.

Question 19

Brian Company purchased 10% of the outstanding shares of Wilson Company.Brian Company classifies the investments as trading securities.At the end of the year,the market value of the shares increased.The increase in market value of Wilson Company's shares will affect Brian Company by ________.

Accepted Answer

As per the question, Brian Company classifies the investment as trading securities, therefore any increase in the market value of the shares will affect the company by increasing its investments and increasing stockholders' equity. There will be no direct impact on cash as the shares haven't been sold yet. Therefore, option C is the correct answer.

Question 20

Marketable securities that the investor company does not intend to sell in the near future are called ________.

Accepted Answer

Available-for-sale securities are investments that the investor company does not intend to sell in the near future. Trading securities are securities that are bought and held with the intention of selling them in the near term to generate profits from short-term price fluctuations. Options are financial derivatives that give the buyer the right, but not the obligation, to buy or sell an underlying asset at a specific price on or before a certain date. Marketable securities is a general term used to refer to any security that can be readily bought and sold in a market.

Quiz 17: Understanding and Analyzing Consolidated Financial Statements