Question

On January 1, 2020, Mehan, Incorporated purchased 15,000 shares of Cook Company for $150,000 giving Mehan a 15% ownership of Cook. The fair value of the 15% investment was the same as the carrying value of the investment when, on January 1, 2021, Mehan purchased an additional 25,000 shares (25%) of Cook for $300,000. This last purchase gave Mehan the ability to apply significant influence over Cook. The book value of Cook on January 1, 2020 was $1,000,000. The book value of Cook on January 1, 2021, was $1,100,000. Any excess of cost over book value for this second transaction is assigned to a database and amortized over four years. Cook reports net income and dividends as follows. These amounts are assumed to have occurred evenly throughout the years: Net Income Dividends 2020 $200,000 $50,000 2021 225,000 50,000 2022 250,000 60,000 On April 1, 2022, just after its first dividend receipt, Mehan sells 10,000 shares of its investment How much of Cook's net income did Mehan report for the year 2022?
a) $72,500
b) $81.250.
c) $59 250.
d) $75,000,
e) 61.750.

Answer 1

Answer: b) $81.250.

Explanation:

Cook Net income was $250,000 in 2022.

In the first quarter of 2022 (Jan to March), Mehan owned 40% of Cook as they had purchased 15% and then 25%.

Share of net income is:

= 250,000 * 40% * 3/12 months

= $25,000

In the remaining months, they owned 30% of Cook because the 10,000 shares sold were 10% of equity as 15,000 shares are 15%.

Their share of net income would be:

= 250,000 * 30% * 9/12 months

= $56,250

Total income recognized:

= 25,000 + 56,250

= $81,250