CPA Financial Accounting and Reporting (FAR) : Cost Method
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Example Questions
Example Question #1 : Cost Method
Carmen, Inc purchased 15% of Loman's 60,000 outstanding shares of common stock on January 1, Year 2, for $80,000. On December 31, Year 2, Carmen purchased an additional 12,000 shares of common stock for $150,000. Loman reported $75,000 in earnings for Year 2. There was no goodwill as a result of either transaction, and Loman didn't issue any additional shares of stock in Year 2. There was no unrealized holding gain or loss reported in other comprehensive income for this investment. What amount should Carmen report in its investment account at the end of Year 2?
$230,000
$310,000
$242,000
$258,000
$230,000
Carmen will use the cost method to account for this investment in Year 1, meaning that the ending balance in the investment account will just be the cost of the stock purchases ($80K + $150K). Because the second purchase brought Carmen's ownership percentage up from 15% to 35%, they will use the equity method beginning in Year 3, but Year 2 will still be accounted for using the cost method.
Example Question #1 : Cost Method
Which of the following is not true regarding the cost method for investments?
An investor able to exercise significant influence over an investee will not use the cost method, regardless of the percentage owned
An investment accounted for using the cost method could be recorded as a marketable security or as an available-for-sale securities
An investor owning 15% of an investee's outstanding stock, with the ability to exercise significant influence, would use the cost method to report its investment
An investor would use the cost method to account for a short-term investment
An investor owning 15% of an investee's outstanding stock, with the ability to exercise significant influence, would use the cost method to report its investment
If the investor has the ability to exercise significant influence over an investee, it should account for its investment using the equity method, regardless of the percentage of ownership.
Example Question #2 : Cost Method
The Bowman Company purchases 10,000 shares of Dalton Company's 300,000 outstanding shares at January 1, Year 2, for $18.34 per share plus a commission of $640. During Year 2, Dalton pays dividends of $2 per share. How much will Bowman report as its investment in Dalton and as dividend income in Year 2?
$201,400 in its investment account; $0 in dividend income
$184,040 in its investment account; $20,000 in dividend income
$183,400 in its investment account; $20,000 in dividend income
$204,040 in its investment account; $0 in dividend income
$184,040 in its investment account; $20,000 in dividend income
Bowman's investment will be accounted for at cost ($18.34 per share x 10K shares + commission of $640). Under the cost method, they will recognize dividend income of $2 per share x 10K shares.
Example Question #4 : Cost Method
The valuation of goodwill is a calculation in a business calculation:
Of all of the increases in market valuation of the intangible assets acquired
To offset the bargain purchase cost
Of the residual paid above the fair value of the identifiable net assets
Of all of the unlimited life intangible assets
Of the residual paid above the fair value of the identifiable net assets
The amount of goodwill recorded on the balance sheet by an acquiring firm for a business combination represents the excess of the price paid over the fair value of the identifiable net assets acquired.
Example Question #5 : Cost Method
A company has a 24% investment in another firm that it accounts for using the equity method. Which of the following disclosures should be included in the company's annual financial statements?
The reason for the company's decision to invest in the investee company
The names and ownership percentages of the other stockholders in the investee company
Whether the investee company is involved in any litigation
The company's accounting policy for the investment
The company's accounting policy for the investment
A company owning between 20-50% in another firm in which the investment is accounted for using the equity method is considered as having significant influence over the company and is required to disclose the company's accounting policy for the investment.
Example Question #6 : Cost Method
Of the following values, which should be disclosed for the purposes of reporting financial instruments such as debt or equity securities?
Fair value
Neither
Both
Carrying value
Both
Both of these values must be reported for a company that holds financial instruments otherwise users of the statements would not be able to see gain or losses that the company incurs.
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