Cost vs Equity Method.doc

8/12/2019 Cost vs Equity Method.doc

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Acct 415/515 Prof. Teresa Gordon

Accounting for Investments under FASB No. 115 A Review

For commercial enterprises(nonprofit entities follow SFAS No.124)

Presentation onFinancial Statements

!an"e in Fair #al$e

Temporar%&t!er t!anTemporar%

'ossoes t!e in estor !a e s$*stantial infl$ence or

control+

,n estor owns 2- to 5- of stoc and !assi"nificant infl$ence *$t not control of t!ecorporation

Use Equity et!od

&n 0S at !istorical cost pl$s s!are of earnin"ssince ac $isition lessdi idends recei ed(amorti ation ma% also

*e re $ired)

N/A

3eali edloss on ,Snew *asis

on 0S

,n estor owns o er 5- of stoc or ot!erwisecontrols t!e corporation

"onso#id$tion required

onsolidated financialstatements

N/A N/A

oes a readil% determina*le fair al$e e ist+

If not% use "ost et!od&n 0S at !istorical cost N/A

3eali edloss on ,Snew *asis

on 0S

For de*t sec$rities does t!e enterprise !a e t!e positi e intent and a*ilit% to !old to mat$rit%+

"#$ssify $s !e#d&to&m$turity

&n 0S at amorti edcost

,S incl$des

amorti ation of premi$ms 6 disco$nts

isclose fair al$e innotes

N/A

3eali edloss on ,Snew cost

*asis on 0S

,s t!e in estment o*7ecti e to "enerate profits ons!ort8term differences in price+

"#$ssify $s 'r$ding Securities

&n 0S at fair al$e

,S reports $nreali ed"ain/loss for period

3eco"ni edon ,S and

incl$ded in39

Noadditional

entriesneeded

All ot!er de*t and e $it% sec$rities are classifiedas

Av$i#$(#e&for&S$#e Securities

&n 0S at fair al$e

S , reports !oldin""ain/loss for period

3eportedon S , andincl$ded in

A& ,

3eali edloss on ,Snew cost

*asis on 0S

0S : *alance s!eet; ,S : income statement; S , : statement of compre!ensi e income;A& , : acc$m$lated ot!er compre!ensi e income (owners< e $it% acco$nt); F# : fair al$e;

N/A : not applica*le since in estments are not carried at fair al$e

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Accounting for investment on )$rent*s (oo+s"ost et!od versus Equity et!od

Cost Method T!e ori"inal cost of t!e in estment is recorded on t!e parent


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Equity Method At ac $isition t!e in estment is recorded at cost.

S$*sidiar% earnin"s after ac $isition increase t!e in estment acco$ntand increase earnin"s on t!e income statement.

S$*sidiar% losses after ac $isitions decrease t!e in estment acco$nt anddecrease earnin"s on t!e income statement.

i idends recei ed from t!e s$*sidiar% red$ce t!e in estment acco$nt.

!en t!e fair al$e of identifia*le assets e ceeds t!eir carr%in" al$e ont!e s$*sidiar%


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Equity et!od on ,$rent*s Boo+s

,n estment in s$*sidiar% (*alance s!eet acco$nt)Distorical cost of in estment S!are of reported losses of

s$*sidiar%

S!are of reported earnin"s ofs$*sidiar%

i idends recei ed froms$*sidiar%

Amorti ation of e cess al$eof identifia*le assets ofs$*sidiar%

9arnin"s of s$*sidiaries (income statement acco$nt)

S!are of reported losses ofs$*sidiar%

S!are of reported earnin"s ofs$*sidiar%

Amorti ation of e cess al$eof identifia*le assets ofs$*sidiar%

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Bot! met!ods $re wide#y used (ut e$c! !$s $dv$nt$ges$nd dis$dv$nt$ges

ost Eet!od 9 $it% Eet!odFinancial anal%sis complicated

*eca$se amo$nts needed m$st *e trac ed on wor in" papersrat!er t!an t!ro$"! t!e "eneralled"er

Facilitates financial anal%siss$c! as ret$rn on in estment fors$*sidiaries

'ess *oo eepin" is in ol ed Parent compan% financialstatements are more $sef$l forinternal mana"ement p$rposes

No self8c!ec in" feat$re Self8c!ec in" feat$re $sef$lw!en consolidated financialstatements are prepared

NoteCT!e consolidated financial statements will *e identical re"ardless ofw!ic! *oo eepin" met!od is $sed internall% *% t!e parent compan%.

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The COMPLETE EQUITY method gives rise to a

ONE LINE CONSOLIDATION THEORY.

L W Y S

Consolidated Net Income = Parents Net Income

Consolidated RetainedEarnings

= Parents Retained Earnings

Consolidated StockholdersEquity

= Parents Stockholders Equity(if 1 ! Su"sidiary#

Consolidated StockholdersEquity

= Parents Stockholders Equity$ minority interest

(if % 1 ! Su"sidiary#

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Parent $ses 9 $it% Eet!od

"onso#id$tion wor+s!eet entries needed-$ssumes non&)us!down $ccounting

1. 0asic elimination entr% (s$*sidiar% net assets *oo al$e at *e"innin" of %ear pl$s earnin"s and di idends for %ear)

2. 9liminate e cess cost element (at end of period al$es)

=. Amorti ation of t!e allocated differential.

4. 9liminate acc$m$lated depreciation at ac $isition5. 9limination of intercompan% transactions

Parent $ses ost Eet!od

onsolidation wor s!eet entries needed

(ass$mes non8p$s!down acco$ntin"1. 0asic elimination entr% (*oo al$e of net assets at ac $isition t!is

entr% is alwa%s t!e same)

2. 3ecord e cess cost elements (amo$nts at ac $isition t!is entr% isalwa%s t!e same)

=. Amorti ation of t!e differential (prior periods affect on retainedearnin"s c$rrent affect on income statement and *alance s!eet)

4. 9liminate di idend income .

5. 9liminate acc$m$lated depreciation at ac $isition

?. 9limination of intercompan% transactions

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Inde/ to "onso#id$tion E/$m)#es

,oo cre$tes Soo "re$ted 100 &owned su(sidi$ryAt ac $isition pl$s wor papers for two %ears costand e $it% met!ods

,e((#e 2 Stone "re$ted su(sidi$ry wit! noncontro##ing interestA. Pe**le sells 2-

or papers for cost and e $it% met!ods =%ears eac!

0. Stone iss$es more stoc or papers for cost and e $it% met!ods =

%ears eac!

Business "om(in$tions3 ,A $nd Sun

E/$m)#es

I##ustr$tions of $cquisition of $ssets% $cquisition of

stoc+% st$tutory merger% st$tutory conso#id$tion% etc.

Also s!ort e amples of parent compan% acco$ntin"$nder Parent o and 9conomic Bnit approac!es

,#$te 2 S$ucer 100 &owned $cquired su(sidi$ryAt ac $isition pl$s t!ree %ears cost and e $it%met!od wor papers.

,#$y 2 Swing 4ess t!$n 100 owned $cquired su(sidi$ryAt ac $isition pl$s t!ree %ears cost and e $it%met!od wor papers. Bses GAAP 9conomic Bnit

approac!.,ound 2 Sound ownstre$m s$#es to w!o##y&owned cre$ted su(sidi$ry

,u) 2 Su) U)stre$m s$#es from )$rti$##y&owned cre$tedsu(sidi$ry

6t!er fi#es $v$i#$(#e -notesost s. 9 $it% Eet!od.docreated partiall% owned s$*.doc

0$s om*.docAc $ired S$* wit! N ,.doc

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Cost vs Equity Method.doc

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