PROFESSOR: Now, let's practice several CPA-related questions about the Lesson 2. The first case-- let's take a look at the first question. A parent company received a cash dividend from a commerce investment. And the question is, should the parent report an increased investment count if it carries the investment at fair value or if it uses the equity method accounting?

So the question is then, how to recognize the dividend received from the subsidiary company investing. So as you learn, as we discussed, as you know, in the case of fair value, dividend is considered dividend income, whereas equity method is that according to equity method, the dividend is the consider the decrease of the investment. So fair value is that dividend income. And in the case of equity, that's a decrease in investment.

So the question, what is the question? The question is whether the investment count increases. So basically, the answer is the fair value method is no. And the equity method as well, it does not increase.

The reason is because in the case of fair value, it has no effect. It has basically no effect in the investment because they are just the individual income. In the case of equity method, that's also no because it does not increase, but instead in whether that dividend decreases investment. So the answer is both of them are no.

 

PROFESSOR: Now, let's take a look at a second question together. So in this question, the question is about, What's the ending balance of investment? Again, this is also related to the active method of accounting.

So January 2, 20x3, the parent company purchased 40% interest in Senn Company for $300,000. That is the purchase. And the Senn Company reported income 100,000 and declared and paid dividend $110,000 and used this-- the parent company, the Penn Company, used [INAUDIBLE] to count for this investment. And the balance, what's the balance, ending balance, of the investment?

So again, you can, also, based on this one, you should be able to generate the journal entry price, so purchase, the share of income, and share of dividend. The purchase is that debit investment, credit, cash. And income is that share of income, debit investment, and credit investment or income, income from Senn. And dividend is considered reduction of the investment, so debit cash and credit investment.

As a result, you should be able to deduce entries. But to answer the question, I think that this T-account is extremely useful and important. So that's the investment. So the debit balance starting from the action price, the action cost initially, $300,000, and we add the share of income. Share of income, the SS Company reported $100,000, which is 100% income, and [INAUDIBLE] reports 40% as income from subsidiary and debt increase, the investment.

The percentage income is 40% 100,000. That's the $40,000. And dividend, the share of dividend from the subsidiary, Senn Company, decrease investment, which is 40% of $10,000, the 40% of the $10,000. So that's the $4,000. So as a reserve, the ending balance of investment should be $336,000.

 

PROFESSOR: So the third question says that a company uses the equity method accounting for its investment in a 40% owned investee. And this investee earned $20,000 of income and paid a $5,000 dividend. And based on the information, the parent company recorded this entry based on it, and they used this equity method.

So the first entry relates to the share of income. 40% of the $20,000, so that's $8,000. Share of income, $8,000, $20,000.

Total income times 40%, that's $8,000. And according to equity method, we debit investment and credit income from investing, which is the correct. This is the correct entry.

The second one, this is the dividend So notice that in the case of equity method, dividend from the subsidiary is considered the return of capital, reduction of the investment. So this entry is actually incorrect based on equity method.

The cash, which is the $5,000 times 40%, that's $2,000. So debit cash $2,000 is correct, but dividend revenue is not correct. So this is not correct. It should have been investment. So that decreases investment in investing.

So that is the that's the correct one. And this, dividend revenue, is the incorrect one. So as a consequence, what will be the effect on the investor's statement or financial position?

So investment in the investee, what is that? So it should decrease the $2,000 investment. But because this is an incorrect entry, investment amount is overstated or understated. This is actually overstated.

How about the retained earnings? Will it be [INAUDIBLE] retained earnings effect? Retained earnings actually should have been just the income from investing, which is an $8,000 effect.

But because of the incorrect dividend revenue, its written [INAUDIBLE] as well is also overstated. So therefore, the second answer is also overstated. I think that's about it for these practice questions.