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Chapter 13: Q8P (page 658)

(Fair Value and Equity Methods) Brooks Corp. is a medium-sized corporation specializing in quarrying stonefor building construction. The company has long dominated the market, at one time achieving a 70% market penetration. Duringprosperous years, the company’s profits, coupled with a conservative dividend policy, resulted in funds available for outside

investment. Over the years, Brooks has had a policy of investing idle cash in equity securities. In particular, Brooks has made periodicinvestments in the company’s principal supplier, Norton Industries. Although the firm currently owns 12% of the outstandingcommon stock of Norton Industries, Brooks does not have significant influence over the operations of Norton Industries.

Cheryl Thomas has recently joined Brooks as assistant controller, and her first assignment is to prepare the 2017 year-endadjusting entries for the accounts that are valued by the “fair value” rule for financial reporting purposes. Thomas has gatheredthe following information about Brooks’ pertinent accounts.

1. Brooks has equity securities related to Delaney Motors and Patrick Electric. During 2017, Brooks purchased 100,000 shares of

Delaney Motors for \(1,400,000; these shares currently have a fair value of \)1,600,000. Brooks’ investment in Patrick Electrichas not been profitable; the company acquired 50,000 shares of Patrick in April 2017 at \(20 per share, a purchase that currentlyhas a value of \)720,000.

2. Prior to 2017, Brooks invested \(22,500,000 in Norton Industries and has not changed its holdings this year. This investmentin Norton Industries was valued at \)21,500,000 on December 31, 2016. Brooks’ 12% ownership of Norton Industries has acurrent fair value of \(22,225,000 on December 2017.

Instructions

(a) Prepare the appropriate adjusting entries for Brooks as of December 31, 2017, to reflect the application of the “fairvalue” rule for the securities described above.

(b) For the securities presented above, describe how the results of the valuation adjustments made in (a) would be reflectedin the body of Brooks’ 2017 financial statements.

(c) Prepare the entries for the Norton investment, assuming that Brooks owns 25% of Norton’s shares. Norton reportedincome of \)500,000 in 2017 and paid cash dividends of $100,000.

Short Answer

Expert verified

Unrealized loss in trading securities is $80,000 and unrealized gain on available-for-sale securities is $725,000.

Step by step solution

01

Entry for the fair value adjustment

Date

Particulars

Debit

Credit

December 31, 2017

Unrealized holding loss

$80,000

Fair value adjustment

$80,000

(Being entry of fair value adjustment)

December 31, 2017

Fair value adjustment

$725,000

Unrealized holding gain

$725,000

(Being entry for fair value adjustment)

02

Treatment of unrealized gains and losses.

The unrealized loss on the trading securities will be represented in ‘other expenses and loses’.

The unrealized gain of available securities will be represented in ‘other comprehensive income.

03

Entry for the investment income and dividend

Date

Particulars

Debit

Credit

December 31, 2017

Equity Investment

$125,000

Investment Revenue

$125,000

(Entry for the investment revenue)

December 31, 2017

Cash

$25,000

Equity Investment

$25,000

(Entry for the dividend received)

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Most popular questions from this chapter

Question: In accounting for short-term debt expected to be refinanced to long-term debt:

  1. GAAP uses the authorization date to determine classification of short-term debt to be refinanced.
  2. IFRS uses the authorization date to determine classification of short-term debt to be refinanced.
  3. IFRS uses the financial statement date to determine classification of short-term debt to be refinanced.
  4. GAAP uses the date of issue, but only for secured debt, to determine classification of short-term debt to be refinanced.

Eddie Zambrano Corporation began operations on January 1, 2017. During its first 3 years of operations, Zambrano reported net income and declared dividends as follows.

Net Income Dividends Declared

2014 \( 40,000 \) –0–

2015 125,000 50,000

2016 160,000 50,000

The following information relates to 2017.

Income before income tax \(240,000

Prior period adjustment: understatement of 2015 depreciation expense (before taxes) \)25,000

Cumulative decrease in income from change in inventory methods (before taxes) \(35,000

Dividends declared (of this amount, \)25,000 will be paid on Jan. 15, 2018) \(100,000

Effective tax rate 40%

Instructions

  1. Prepare a 2017 retained earnings statement for Eddie Zambrano Corporation.
  2. Assume Eddie Zambrano Corporation restricted retained earnings in the amount of \)70,000 on December 31, 2017. After this action, what would Zambrano report as total retained earnings in its December 31, 2017, balance sheet?

Question: At what amount should trading, available-for-sale, and held-to-maturity debt securities be reported on the balance sheet?

Assume the same information as in IFRS 17-12 except that Roosevelt has an active trading strategy for these bonds.

The fair value of the bonds at December 31 of each end-year is as follows.

2017 \(534,200 2020 \)517,000

2018 \(515,000 2021 \)500,000

2019 $513,000

Instructions

(a) Pepare the journal entry at the date of the bond purchase.

(b) Prepare the journal entries to record the interest revenue and recognition of fair value for 2017.

(c) prepare the journal entry to record the recognition of fair value for 2018.

E13-5 (L01) (Adjusting Entry for Sales Tax) During the month of June, Rowling Boutique recorded cash sales of \(233,200 and credit sales of \)153,700, both of which include the 6% sales tax that must be remitted to the state by July 15.

Instructions

Prepare the adjusting entries that should be recorded to fairly present the June 30 financial statements.
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