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Unformatted text preview: Chapter 12 - Reporting and Interpreting Investments in Other Corporations Chapter 12 Reporting and Interpreting Investments in Other Corporations ANSWERS TO QUESTIONS 1. A short-term investment is one that meets the two tests of (1) ready marketability and (2) management intention to convert it to cash in the short run. In contrast, a long-term investment is one that does not meet both of these tests. Most long- term investments are marketable securities, either stocks or bonds. A short-term investment is classified as a current asset on the balance sheet, while long-term investments are reported as noncurrent assets. 2. For passive investments in bonds, companies may report the investment at unamortized cost if the intent is to hold the bonds until maturity. Otherwise, the investments in bonds are to be accounted for using the same fair value method as is used for passive investments in equity securities. Each year end, the investments are adjusted to fair value. Passive equity investments are those in which the investor has less than 20% of the outstanding shares of voting common stock, unless there is evidence to the contrary. When a company can exert significant influence over the investing and financing decisions of another company, the equity method is used to account for and report the investment. In applying the equity method, considered a one-line consolidation, dividends received from the affiliate company reduce the investment account; the investors percentage share of the affiliates net income or loss is included as income or loss on the investors income statement with a corresponding change in the investment account. The ability to exert significant influence over an affiliate company is presumed if the investor owns between 20% and 50% of the outstanding shares of voting common stock. When an investor owns over 50% of the outstanding shares of voting common stock, the investor has control over the affiliate. Consolidated statements are prepared. 3. Only bonds that management has the plans and ability to hold until maturity can be reported in the held-to-maturity portfolio. The investment in held-to-maturity bonds is reported on the balance sheet at unamortized cost, not fair value, at the end of each year. 12-1 Chapter 12 - Reporting and Interpreting Investments in Other Corporations 4. When shares of capital stock of another company are purchased as an investment, they are measured and recorded at cost in accordance with the cost principle. Cost is defined as the total expenditures incurred in obtaining the other shares. The total outlay includes the market price plus all commissions and other buying costs. 5. Under the fair value method, revenues are measured by the investor company in periods during which the other company declares a cash dividend. Unrealized gains and losses are recorded when the stock price increases or decreases....
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- Fall '08
- Financial Accounting