Question

On January 1, 2017, Alison, Inc., paid $79,100 for a 40 percent interest in Holister Corporation’s common stock. This investee had assets with a book value of $253,000 and liabilities of $117,000. A patent held by Holister having a $5,900 book value was actually worth $38,900. This patent had a six-year remaining life. Any further excess cost associated with this acquisition was attributed to goodwill. During 2017, Holister earned income of $41,750 and declared and paid dividends of $14,000. In 2018, it had income of $64,000 and dividends of $19,000. During 2018, the fair value of Allison’s investment in Holister had risen from $91,900 to $99,000.a. Assuming Alilson uses the equity method, what balance should appeer in the Investment in Holister account as of December 31, 2018 b. Assuming Allson uses fair-value accounting. what income from the investment in Holister should be reported for 2018?

Answer 1

Answer:

1. Equity valuation in 2018/= $108,100

2. Net income based on fair value = $7,900

Answer:

A. Equity valuation

2017 net income:

Net income = 40% x $41,750 = $16,700

Less dividend = 40% x $14,000 = -$5,600

Net transferrable income = $11,100

2018 net income:

Net income = 40% x $64,000 = $25,600

Less dividend = 40% x $19,000 = -$7,600

Net transferrable income = $18,000

Investment Valuation:

Year 0 = $79,100

Year 1 = $79,000 + $11,100 = $90,100

Year 2 = $90,100 + $18,000 = $108,100

B.

Fair Valuation method

Closing valuation = $99,000

Less Opening valuation = $91,900

Income recognized in 2018 = $7,100

Explanation:

The equity method of investment valuation requires that the Net Income accruing to the Investee be added to his investment cost and the dividend thereof (if any) be deducted from the same. This gives an equity valuation of the invested sum

fair value on the other hand is based upon the understanding of the market by the parties to a deal; and it's a value the market is thus willing to give in exchange for the shares in hand.