1. ACCOUNTING FOR VARIOUS INVESTMENTS
Investment in
Debt Securities
Investment in
Equity Securities
Classification
Control-greater than 50%
ownership of voting stock
Not applicable
Consolidation
Significant influence - 20% to
50% ownership of voting stock
Not applicable
Equity method
Debt securities classified as held
to maturity, and equity securities
for which fair value is not readily
determinable
Amortized cost method
Cost method
Debt and equity securities
classified as trading securities
Fair value method, with unrealized holding gain or loss
included in earnings
Debt and equity securities
classified as available for sale
Fair value method, with unrealized holding gain or loss
included as a component of comprehensive income/
stockholders’ equity

2. Size (of the Investment) Matters!!!
1-2
Size (of the Investment) Matters!!!
Investor Ownership of the Investee’s Shares Outstanding
Fair Value
Equity Method
Consolidated Financial Statements { 0%
20%
50%
100%
In some cases, influence or control may exist with less than 20% ownership. 8

3. The Significance of the Size of the Investment
1-3
The Significance of the Size of the Investment
Investor Ownership of the Investee’s Shares Outstanding
Fair Value
Equity Method
Consolidated Financial Statements { 0%
20%
50%
100%
Significant influence is generally assumed with 20% to 50% ownership. 9

4. The Significance of the Size of the Investment
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The Significance of the Size of the Investment
Investor Ownership of the Investee’s Shares Outstanding
Fair Value
Equity Method
Consolidated Financial Statements { 0%
20%
50%
100%
Financial Statements of all related companies must be consolidated. 9

5. 1-5
Criteria for Determining Whether There is “Significant” Influence (APB Opinion 18)
Representation on the investee’s Board of Directors
Participation in the investee’s policy-making process
Material intercompany transactions.
Interchange of managerial personnel.
Technological dependency.
Extent of ownership in relationship to other investor ownership percentages. 6

6. 1-6
Equity Method
Requires that the investor has the potential for “significant” influence.
Generally used when ownership is between 20% and 50%.
Significant Influence might be present with much smaller ownership percentages. (The accountant must consider the particulars!!!) 5

7. No actual influence need have been applied!!
1-7
Remember:
The ability to exert significant influence is the determining factor in applying the equity method
No actual influence need have been applied!!

8. EQUITY METHOD Evidence against Significant Influence
Investee opposition
Investor/investee agreement
Closely held majority
stockholder
Lack of information
Lack of board representation

9. Step 1: The investor records its investment in the investee at cost.
1-9
Equity Method
Step 1: The investor records its investment in the investee at cost.
Journal entry:
Debit – Investment in Investee
Credit – Cash (or other Assets/Stock)
Cost can be defined by cash paid or the Fair Market Value of Stock or Assets given up. 10

10. 1-10
Equity Method
Step 2: The investor recognizes its proportionate (pro rata) share of the investee’s net income (or net loss) for the period.
Journal entry at end of period:
Debit – Investment in Investee
Credit – Equity in Investee Income
This will appear as a separate line-item on the investor’s income statement. 11

11. 1-11
Equity Method
Step 3: The investor reduces the investment account by the amount of cash dividends received from the investee.
Journal entry when cash dividends received:
Debit – Cash
Credit – Investment in Investee 13

12. Excess of Cost Over BV Acquired
1-12
When Cost > BV acquired, the difference must be identified and accounted for.
When Cost > BV acquired, the difference must be identified and accounted for. 21

13. Excess of Cost Over BV Acquired
1-13
Excess of Cost Over BV Acquired
The amortization of the difference associated with the undervalued assets is recorded as a reduction of both the Investment account and the Equity in Investee Income account. 22

14. Special Procedures for Special Situations
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Special Procedures for Special Situations
Reporting a change to the equity method.
Reporting the sale of an equity investment.
Reporting investee income from sources other than continuing operations.
Reporting investee losses.

15. Reporting a Change to the Equity Method. (Retroactive Adjustment)
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Reporting a Change to the Equity Method. (Retroactive Adjustment)
An investment that is too small to have significant influence is accounted for using the fair-value method.
When ownership grows to the point where significant influence is established . . .
. . . all accounts are restated so that the investor’s financial statements appear as if the equity method had been applied from the date of the first [original] acquisition. - - APB Opinion 18 ?

16. Reporting Investee Losses
1-16
Reporting Investee Losses
A permanent decline in the investee’s fair market value is recorded as an impairment loss and the reduction of the investment account to the fair value.
A temporary decline is ignored!!!

17. Possibility of “off-balance sheet financing”
1-17
Possible Criticisms:
Over-emphasis on possession of 20-50% voting stock in deciding on “significant influence” vs. “control”
Possibility of “off-balance sheet financing”
Potential manipulation of performance ratios