Solution Manual Advanced Accounting 12e Beams Ch 2
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Advanced Accounting (AKK301)
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Airlangga University
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Advanced Accounting
Solution manual for questions, exercises, and problems of Advanced Accounting 12e by Floyd A. Beams, Joseph H. Anthony, Bruce Bettinghaus, and Kenneth A. Smith.
Solutions Manual for Advanced Accounting, 13th Edition By Floyd A. Beams,
Test Bank For Advanced Accounting 12th Edition Beams et al.
Solution Manual Advanced Accounting 12e Beams Ch 1
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Chapter 2
STOCK INVESTMENTS — INVESTOR ACCOUNTING AND REPORTING
Answers to Questions
1 Investor should use the equity method when it has the ability to exercise significant influence over the investee.
Twenty percent ownership test is used to determine the significant influence. Investment of more than 20 percent of
the investee’s voting stock shall lead to a presumption that the investor has the ability to exercise significant
influence over the investee otherwise there is predominant evidence in the contrary. On the other hand, Investment
of less than 20 percent investee’s voting stock shall lead to a presumption that the investor doesn’t have the ability to
exercise significant influence over the investee unless such ability can be demonstrated. If the latter condition is met,
investor should use the fair value method.
2 Goodwill arising from an equity investment of 20 percent or more is not recorded separately from the investment
account. Under the equity method, the investment is presented on one line of the balance sheet in accordance with
the one-line consolidation concept.
3 Under the fair value method, investments are recorded at cost and adjust it to the fair value at the end of the
reporting period. Dividends received are treated as dividend income, except dividends received in excess of investor
share of earnings are considered as return on of capital (liquidating dividend). Liquidating dividend is treated as a
deduction of investments account.
Under the equity method, investments are recorded at cost, but at the end of the reporting period it is not adjusted to
the fair value. Investments are adjusted with the profit or loss and the dividends of the investee. Investor increases
the investments account based on the share of the investee’s profit or decrease the investments account based on the
share of the investee’s loss. Dividends are always treated as a disinvestments and always decrease the investments
account.
4 The equity method of accounting for investments increases the investment account for the investor’s share of the
investee’s income and decreases it for the investor’s share of the investee’s losses and for dividends received from
the investee. In addition, the investment and investment income accounts are adjusted for amortization of any
investment cost-book value differentials related to the interest acquired. Adjustments to the investment and
investment income accounts are also needed for unrealized profits and losses from transactions between the investor
and investee companies. A fair value adjustment is optional under SFAS No. 159.
5 The equity method is referred to as a one-line consolidation because the investment account is reported on one line
of the investor’s balance sheet and investment income is reported on one line of the investor’s income statement
(except when the investee has extraordinary gain/loss or discontinued operations). In addition, the investment
income is computed such that the parent company’s income and stockholders’ equity are equal to the consolidated
net income and consolidated stockholders’ equity that would result if the statements of the investor and investee
were consolidated.
6 If the equity method of accounting is applied correctly, the income of the parent company will generally equal the
controlling interest share of consolidated net income.
7 If overvalued assets are identified during the acquisition, it will increase the income from investment recorded by
the investor because the expenses associated with the overvalued assets are overvalued. The overvaluation will be
eliminated periodically and charged to the income from investment. However, if the overvalued assets had indefinite
life feature, the overvaluation will not be eliminated periodically such as land and intangible assets having an
indefinite life. Thus the overvaluation of these assets will not affect the income from investment, unless the assets
are disposed or impaired.
8 The investment account balance of the investor will equal underlying book value of the investee if (a) the equity
method is correctly applied, (b) the investment was acquired at book value which was equal to fair value, the
pooling method was used, or the cost-book value differentials have all been amortized, and (c) there have been no
,2-2 Stock Investments — Investor Accounting and Reporting
intercompany transactions between the affiliated companies that have created investment account-book value
differences.
9 The investment account balance must be converted from the cost to the equity method when acquisitions increase
the interest held to 20 percent or more. The amount of the adjustment is the difference between the investment
income reported under the cost method in prior years and the income that would have been reported if the equity
method of accounting had been used. Changes from the cost to the equity method of accounting for equity
investments are changes in the reporting entity that require restatement of prior years’ financial statements when the
effect is material.
10 The one-line consolidation is adjusted when the investee’s income includes extraordinary items and gains or losses
from discontinued operations. In this case, the investor’s share of the investee’s ordinary income is reported as
investment income under a one-line consolidation, but the investor’s share of extraordinary itemsand gains and
losses from discontinued operations is combined with similar items of the investor.
11 The remaining 15 percent interest in the investee is accounted for under the fair value/cost method, and the
investment account balance immediately after the sale becomes the new cost basis.
12 Yes. When an investee has preferred stock in its capital structure, the investor has to allocate the investee’s income
to preferred and common stockholders. Then, the investor takes up its share of the investee’s income allocated to
common stockholders in applying the equity method. The allocation is not necessary when the investee has only
common stock outstanding.
13 Goodwill impairment losses are calculated by business reporting units. For each reporting unit, the company must
first determine the fair values of the net assets. The fair value of the reporting unit is the amount at which it could be
purchased in a current market transaction. This may be based on market prices, discounted cash flow analyses, or
similar current transactions. This is done in the same manner as is done to originally record a combination. The first
step requires a comparison of the carrying value and fair value of all the net assets at the business reporting level. If
the fair value exceeds the carrying value, goodwill is not impaired and no further tests are needed. If the carrying
value exceeds the fair value, then we proceed to step two. In step two, we calculate the implied value of goodwill.
Any excess measured fair value over the net identifiable assets is the implied fair value of goodwill. The company
then compares the goodwill’s implied fair value estimate to the carrying value of goodwill to determine if there has
been an impairment during the period.
14 Yes. Impairment losses for subsidiaries are computed as outlined in the solution to question 13. Companies compare
fair values to book valuesfor equity method investments as a whole. Firms may recognize impairments for equity
method investments as a whole, but perform no separate goodwill impairment tests.
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