Question

Newman Corporation purchases an investment in Paul, Inc. at a purchase price of $6 million cash, representing 25% of the book value of Paul, Inc. During the year, Paul, Inc. reports net income of $700,000 and pays $120,000 of cash dividends. At the end of the year, the fair value of Newman’s investment is $6.4 million.

Required: What is the year-end balance of the equity investment account? What amount of equity earnings would be reported by Newman Corporation? How are dividends treated in equity method accounting? What amount in dividends is reported? What is the amount of the unrealized gain or loss to be reported for the year?

Answer 1

Ans:

25% stock Investment in Paul Inc. value : $6,000,000

Net income Reported by Paul Inc.: $700,000

Proportion of Net Income in Investment : 25% * $700,000 = $175,000

Dividend Declared by Paul Inc. : $120,000

Proportion of Dividend from Paul. Inc : 25% * $120,000 = $30,000

1.

Dividends in equity investments reduces the value of investment and net income will add the value of Investment.

Year end equity investment balance : $6,000,000 + $175,000 - $30,000 = $6,145,000

2.

Equity Earnings : 25% * $700,000 = $175,000

3.

Dividends in equity investments reduces the value of investment.

4.

Amount reported in Dividends : 25% * $120,000 = $30,000

5

Amount of Unrealised gain is the Proportion of Net income reported by Paul Inc.

$175,000.

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