Solution manual financial accounting 9th harrison ch08

3 ASSETS Long-term available-for-sale investments, STOCKHOLDERS‘ EQUITY Accumulated other comprehensive income: Req.. 1 Equity method is appropriate because the investor Western Mot

Chapter 8

Long-Term Investments &

the Time Value of Money

Allowance to Adjust Investment

(continued) (10-15 min.) S 8-1 Req 3

ASSETS

Long-term available-for-sale investments,

STOCKHOLDERS‘ EQUITY

Accumulated other comprehensive income:

Req 2

This gain on sale of investment is a realized gain The loss recorded at December 31, 2012, was unrealized because it resulted from a change in

(10-15 min.) S 8-3

Req 1

Equity method is appropriate because the investor (Western Motors)

holds a 35% investment in the investee company (Phase Motors)

To record investment revenue

(5 min.) S 8-4

Millions

(10 min.) S 8-5

1 A parent company is a corporation that owns a controlling (more than 50%) interest in another company A subsidiary company is a

company that is controlled by another corporation

2 Consolidated financial statements combine the balance sheets,

income statements, and cash-flow statements of a parent company with those of its subsidiaries as if the parent and its subsidiaries were one company

statements To consolidate, the parent company must own more than

(10 min.) S 8-6

1 Goodwill is an intangible asset Goodwill is the excess of the

purchase price to acquire a subsidiary company over the sum of the market value of the subsidiary‘s net assets (assets minus liabilities) Only the parent company reports the goodwill Goodwill appears as

an intangible asset on the consolidated balance sheet Goodwill must

be written down when its value is deemed to be impaired

2 Noncontrolling interest arises when a parent company owns less than

the subsidiaries‘ stock that is owned by stockholders other than the parent company The parent company can report noncontrolling

equity

(10-15 min.) S 8-7

1 Paid $816,000 ($800,000 × 1.02); will collect $800,000 at maturity

2 Annual cash interest = $56,000 ($800,000 × 07)

3 Annual interest revenue will be less than the amount of cash interest

received each year because the investor bought the bonds at a premium The investor will collect only the face amount of the bonds

at maturity The difference between the purchase price paid and the face amount collected (the premium) is a reduction in interest revenue over the life of the bonds

$816,000 − $800,000

To receive face value at maturity

2 Purchase of investment (or acquisition of other companies)

Sale of investment (or sale of other companies)

(10 min.) S 8-12 DATE: Early in 2012

TO: The XYZ Company Stockholders

FROM: Chief Executive Officer

RE: Investing Activities During 2012

year principally due to the increase in purchases of property, plant, and equipment and acquisitions and investments The cash used for investing activities was partially offset by an increase in cash flow from the disposal of investments and from the disposal of property, plant, and equipment

Investing activities for XYZ were financed mainly with cash provided by operating activities, which was significantly higher than the previous year As you can see, issuances of debt and stock were significantly lower than the previous year Because of the large increase from the previous year in net positive cash flow from operations, XYZ was able to invest in the additional assets and investments without additional borrowing

Student responses may vary

Exercises

(10-15 min.) E 8-13A Journal

Allowance to Adjust Investment to

Sweden (1,600 × $78.00) = 124,800 (1,600 × $70.00) = 112,000

Total……… $317,270 ……… $266,500

Statement of Other Comprehensive Income (partial):

Other comprehensive income:

Balance Sheet (partial):

ASSETS

STOCKHOLDERS‘ EQUITY

Accumulated other comprehensive income:

(10-15 min.) E 8-15A Journal

To record investment revenue

To receive cash dividend on equity-method investment

Ending balance in the investment account:

$1,880,000 ($1,800,000 + $264,000 − $184,000)

Proceeds from sale of investment $2,900,000

Carrying amount of investment (1,880,000)

Gain on sale of investment $1,020,000

(15-20 min.) E 8-17A

Req 1

The equity method is appropriate for a 35% investment in another

company‘s common stock Equity method is used for 20-50% investments

Req 2

Balance sheet (partial):

ASSETS

Income statement (partial):

Share of net income Share of dividends

($210,000 × 0.35) 73,500 ($135,000 × 35) 47,250 Balance 536,250

(20-25 min.) E 8-18A

Req 1 (consolidation work sheet and balance sheet)

Juliet ELIMINATION CONSOLIDATED ASSETS Zeta, Inc Corp DEBIT CREDIT BALANCE SHEET

Req 2

Sept 30 Long-Term Investment in Bonds

($15,000 × 99) 14,850

To purchase bond investment

Dec 31 Interest Receivable

($15,000 × 055 × 3/12) 206

To accrue interest revenue

31 Long-Term Investment in Bonds

(15-20 min.) E 8-22A

Sprinkle Donuts Statement of Cash Flows (partial)

Fiscal Year 2012

Millions

Cash flows from investing activities:

is growing Acquisitions of long-term assets and investments are

greater than the sales of long-term assets and other businesses

Ireland (1,000 × $73) = 73,000 (1,000 × $68.00) = 68,000

Total……… $209,550 ……… $186,800

Statement of Other Comprehensive Income (partial):

Other comprehensive income:

Balance Sheet (partial):

ASSETS

STOCKHOLDERS‘ EQUITY

Accumulated other comprehensive income:

To record investment revenue

c Cash ($400,000 × 30)……… 120,000

To receive cash dividend on equity-method investment

Ending balance in the investment account:

$1,178,000 ($1,100,000 + $198,000 − $120,000)

Proceeds from sale of investment $1,300,000

Carrying amount of investment (1,178,000)

Gain on sale of investment $ 122,000

(15-20 min.) E 8-28B

Req 1

The equity method is appropriate for a 45% investment in another

company‘s common stock Equity method is used for 20-50%

investments

Req 2

Balance sheet (partial):

ASSETS

Income statement (partial):

Share of net income Share of dividends

($240,000 × 0.45) 108,000 ($125,000 × 45) 56,250

Balance 581,750

E8-29B

Req 1 (consolidation work sheet and balance sheet)

Tempest ELIMINATION CONSOLIDATED ASSETS Alfa, Inc Corp DEBIT CREDIT BALANCE SHEET

Req 2

DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT

Sept 30 Long-Term Investment in Bonds

To purchase bond investment

Dec 31 Interest Receivable

To accrue interest revenue

31 Long-Term Investment in Bonds

(10-20 min.) E 8-31B

(10-15 min.) E 8-32B Spanish Subsidiary:

EUROS

EXCHANGE RATE DOLLARS

(15-20 min.) E 8-33B

Capitol Cupcakes Statement of Cash Flows (partial)

Fiscal Year 2012

Millions

Cash flows from investing activities:

Based on Capitol‘s investing activities, it appears that the company is

growing Acquisitions of long-term assets and investments are

greater than the sales of long-term assets and other businesses

Problems

(20-30 min.) P 8-47A

Req 1

Current fair value is used to account for the available-for-sale

investment in Detroit, Inc., because the investor expects to sell the

decisions about this investment

Fair value is not used for the equity-method investment in Brentwood

Corp., because the investor holds the stock to influence the operations

of the investee company, not to sell the stock

(continued) P 8-47A

Req 2

Balance sheet:

ASSETS

STOCKHOLDERS‘ EQUITY

Accumulated other comprehensive income:

Unrealized (loss) on investment

Statement of other comprehensive income:

_

*Long-Term Investment in Brentwood Stock Purchase 390,000

(1,600 × $12.00)

19,200 Cash 19,200 Purchased investment

May 21 Cash (1,600 × $.75) 1,200

Dividend Revenue 1,200 Received cash dividend

Aug 17 Cash 81,000

Received cash dividend on equity-method investment

Dec 31 Long-Term Investment in Reading

($560,000 × 29) 162,400

To record investment revenue

31 Allowance to Adjust Investment to Market

($26,000 − $19,200) 6,800

Adjusted investment to market value

(continued) P 8-48A

Req 2

Long-Term Investment in Reading Software

Req 3

(a) $13.9

Note receivable from

Bookstore

(20-25 min.) P 8-52A

Req 1

Investment Opportunity A Year

PV of Cash Flow

(20-25 min.) P 8-53A

Req 1

This situation will generate a positive translation adjustment, which is

like a gain The gain occurs because the yen‘s current exchange rate,

which is used to translate the subsidiary‘s net assets, is greater than

the historical exchange rates at which Goss invested in the Japanese

The translation adjustment ―belongs‖ to Goss, the parent company

Therefore, the translation adjustment will be reported on Goss‘s

consolidated balance sheet

(20-30 min.) P 8-54B

Current fair value is used to account for the available-for-sale

investment in Sydney, Inc., because the investor expects to sell the

decisions about this investment

Fair value is not used for the equity-method investment in Portland

Corp., because the investor holds the stock to influence the operations

of the investee company, not to sell the stock

(continued) P 8-54B

Req 2

Balance sheet:

ASSETS

STOCKHOLDERS‘ EQUITY

Accumulated other comprehensive income:

Unrealized (loss) on investment

Income statement and Statement of other comprehensive income:

Other revenue:

Other comprehensive income:

(45-60 min.) P 8-55B

Req 1

Journal

DATE ACCOUNT TITLES AND EXPLANATION DEBIT CREDIT

Mar 16 Long-Term Available-for-Sale Investment

(1,800 × $12.50)

22,500

Received cash dividend on equity-method

investment

Dec 31 Long-Term Investment in LPC Software

($510,000 × 28) 142,800

To record investment revenue

31 Allowance to Adjust Investment to Market

($26,400 − $22,500) 3,900

Adjusted investment to market value

(continued) P 8-55B

Req 2

Long-Term Investment in LPC Software

Req 3

14.0

of their financing subsidiaries because that makes their debt ratio appear too high However, GAAP requires consolidation unless the subsidiary‘s operations are significantly different from the parent‘s, as

in this situation

Income statement for the year ended October 31, 2012:

Other revenues:

Interest revenue ($115,000 − $40,250 + $76,667 − $26,833) $124,584

(15-20 min.) P 8-59B

Req 1

Investment Opportunity X Year

PV of Cash Flow

(20-25 min.) P 8-60B

Req 1

This situation will generate a positive translation adjustment, which is

like a gain The gain occurs because the yen‘s current exchange rate, which is used to translate the subsidiary‘s net assets, is greater than the historical exchange rates at which Mattson invested in the Japanese subsidiary

YEN

EXCHANGE RATE DOLLARS

Challenge Exercises and Problem

(20 min.) E 8-62

Req 1

Two components of accumulated other comprehensive income are:

1 Unrealized gains (losses) on available-for-sale investments

2 Foreign-currency translation adjustments

Req 2

An unrealized gain (loss) on available-for-sale investments produces a positive (negative) balance

A foreign-currency translation adjustment is positive when the assets of

a foreign subsidiary are translated into more dollars than the equities (liabilities plus stockholders‘ equity)

The foreign-currency translation adjustment is negative when the

equities of a foreign subsidiary are translated into more dollars than the assets

If the interest rate is 10%, you should choose the one payment of

$100,000 rather than the five payments over five years The present value of the single payment, $100,000, is higher than the present value

of the five payments, $90,855

(continued) P 8-63

Req 3

Amount of Cash Flow

10% Factor from Table

Decision Cases

(15-20 min.) Decision Case 1

1 The parentheses signify losses (similar to expenses)

3 These items are not included in net income or in retained earnings

For 2012, Infografix reported net income of $1.8 billion ($26.6 − $24.8)

4 These items should probably not scare you away from investing in

Infografix stock After all, the foreign-currency translation adjustment and the unrealized loss on investments haven‘t been realized yet There is still time for the unrealized losses to turn into gains

Student responses will vary

(20-30 min.) Decision Case 2

1 The Ohio Office Systems investment cannot be used to generate the needed income because the appropriate way to account for this investment is the equity method Under the equity method, Barham records dividends received not as income, but as a decrease in the investment carrying amount

2 The bond investment cannot be used to generate the needed income because a sale of the bonds would increase net income by only

$6,200, computed as follows:

Amortized carrying amount of the

bond investment

3 The Microsoft stock can be used to generate the needed income, as follows:

Sale price of the investment in Microsoft stock

Ethical Issue

Req 1

The issue: Should Cohen have used his power to influence Web Talk to pay a large cash dividend when they have to borrow to do so?

Req 2 and Req 3

The stakeholders are Cohen, other shareholders of Media One, Web Talk, its shareholders,

The immediate economic consequences of the decision for Web Talk to pay a large dividend to Cohen are positive, to the detriment of Web Talk and its other shareholders

There is apparently nothing illegal about this action Cohen is acting within his authority to influence Web Talk to pay large cash dividends The board of directors has the authority to declare and pay dividends

The ethics of Cohen‘s actions are questionable As the president of Media One, Cohen is responsible for stewardship of company resources

As a member of Web Talk‘s board of directors, Cohen is also responsible for the careful stewardship of Web Talk‘s resources It appears that Cohen is using his position to pad his own bonus, even if it hurts Web Talk His actions could also hurt Web Talk‘s creditors if Web Talk fails to pay its debts, especially because of the need to borrow in order to pay the dividend

(continued) Ethical Issue

Under the market value method, receipts of dividends increase investor

income — and his own bonus — by having Web Talk pay high dividends

to Media One

Investment income under the equity method depends on the investee company‘s net income, which in turn depends on many factors beyond the investor‘s control Therefore, it is more difficult for the investor

bonus — under the equity method than under the market-value method