Question

A few years ago, Calvin had purchased a 45% equity interest in Hobbes for $12 million, when Calvin already had an 80% stake in Moe. At the time of this purchase, the identifiable net assets of Hobbes had a fair value of $34 million. This acquisition gave Calvin the right to appoint one of the five directors on the board of Hobbes. Calvin has always used the equity method of accounting for this

investment in its consolidated financial statements. On September 1, 2016, Calvin disposed of 70% of its 45% investment in Hobbes for $17 million, when the identifiable net assets had a fair value of $40 million. From this date onwards, Calvin lost its right to appoint one director to the board of Hobbes. The fair value of the remaining equity interest in Hobbes was $4.2 million on the date of disposal. Calvin has shown no intention to sell its remaining shares in Hobbes.

Required:

Draft an explanatory note to the directors of Calvin, discussing the following:

a. Is equity accounting the appropriate treatment of Hobbes in the consolidated financial statement of Calvin up to the date of disposal of 70% of its shares?

b. What would the carrying amount of the investment in Hobbes be in the

balance sheet of Calvin just prior to its disposal?

c. How and at what amount should the gain or loss on disposal be recorded in

the consolidated financial statements?

d. How should the investment in Hobbes be accounted for after the part

disposal?

Answer 1

a) yes equity accounting is appropriote treatment ,as equity accounting is usually applied when an investor entity hold 20-50% of voting stock of associate company,as Calvin has purchased only 45% equity aacounting is the appropriote treatment,

b) carrying amount in investment in HOBBES

purchase of 45% hobbes $12million

share of asset in Hobbes $34m*45% $15.3m

carrying amount in investment    $27.3million

c) The amount from disposal is recorded as cash in finacial statement 17million

loss from the disposal is recorded in profit and loss and so affect the retained earnings so 23million is deducted from the retained earning as the loss from disposal.

d)Investment in Hobbes is accounted in asset of Calvin as financial instrument 4.2million.