On January 4, Year 1, Barber Company purchased 5,000 shares of Convell Company for $59,500 plus a broker's fee of $1,000. Convell Company has a total of 25,000 shares of common stock outstanding and it is presumed the Barber Company will have a significant influence over Convell. During each of the next two years, Convell declared and paid cash dividends of $0.85 per share, and its net income was $72,000 and $67,000 for Year 1 and Year 2, respectively.
-The January 12, Year 3, entry to record Barber's sale of 3,000 shares of Convell Company stock, which represents 60% of Barber's total investment, for $39,000 cash should be:

Question

On January 4, Year 1, Barber Company purchased 5,000 shares of Convell Company for $59,500 plus a broker's fee of $1,000. Convell Company has a total of 25,000 shares of common stock outstanding and it is presumed the Barber Company will have a significant influence over Convell. During each of the next two years, Convell declared and paid cash dividends of $0.85 per share, and its net income was $72,000 and $67,000 for Year 1 and Year 2, respectively. 
-The January 12, Year 3, entry to record Barber's sale of 3,000 shares of Convell Company stock, which represents 60% of Barber's total investment, for $39,000 cash should be:

Quizplus · Accepted Answer

Barber Company owns 5,000 shares of Convell Company, which represents 20% of the outstanding shares of Convell. Therefore, Barber has significant influence over Convell, and the equity method of accounting should be used.

The initial investment cost is $59,500 + $1,000 = $60,500. The investment account balance at the end of Year 1 is $60,500 + ($72,000 x 20%) - ($0.85 x 5,000 x 20%) = $70,730. The investment account balance at the end of Year 2 is $70,730 + ($67,000 x 20%) - ($0.85 x 5,000 x 20%) = $78,480.

The sale of 3,000 shares represents 12% of the outstanding shares of Convell. Since 20% - 12% = 8%, Barber would still have significant influence over Convell after the sale, but would no longer have the ability to exercise control. Thus, the equity method should still be used.

The proceeds from the sale are $39,000. The carrying value of the 3,000 shares is $47,880 ($78,480 x 60%). Therefore, the loss on sale is $8,880 ($39,000 - $47,880). The journal entry to record the sale is:
Debit Cash $39,000
Debit Loss on Sale of Investment $8,880
Credit Long-Term Investments $47,880

On January 4, Year 1, Barber Company Purchased 5,000 Shares