{"id":1303,"date":"2015-06-04T21:16:34","date_gmt":"2015-06-04T21:16:34","guid":{"rendered":"https:\/\/courses.candelalearning.com\/finacct2x10xmaster\/?post_type=chapter&p=1303"},"modified":"2015-06-04T22:24:27","modified_gmt":"2015-06-04T22:24:27","slug":"equity-method","status":"publish","type":"chapter","link":"https:\/\/courses.lumenlearning.com\/clinton-finaccounting\/chapter\/equity-method\/","title":{"raw":"Equity Method","rendered":"Equity Method"},"content":{"raw":"The equity method for long-term investments of between 20 percent and 50 percent<\/strong>\r\n\r\nWhen a company (the investor<\/strong>) purchases between 20% and 50% of the outstanding stock of another company (the investee) as a long-term investment, the purchasing company is said to have significant influence over the investee company. In certain cases, a company may have significant influence even when its investment is less than 20%. In either situation, the investor must account for the investment under the equity method.\r\n\r\nhttps:\/\/youtu.be\/EIoeMEVkoUI\r\n\r\nWhen using the equity method<\/strong> in accounting for stock investments, the investor company must recognize its share of the investee company\u2019s income, regardless of whether or not it receives dividends. The logic behind this treatment is that the investor company may exercise influence over the declaration of dividends and thereby manipulate its own income by influencing the investee\u2019s decision to declare (or not declare) dividends.\r\n\r\nThus, when the investee reports income or losses, the investor company must recognize its share of the investee\u2019s income or losses. For example, assume that Tone Company (the investor) owns 30% of Dutch Company (the investee) and Dutch reports\u00a0$50,000 net income in the current year. Under the equity method, Tone makes the following entry as of the end of year:\r\n\r\n\r\n\r\n\r\n\r\n
\n\n \r\n\r\nInvestment in Dutch Company<\/td>\r\n\n\nDebit\r\n\r\n15,000<\/td>\r\n\n\n\u00a0Credit\r\n\r\n <\/td>\r\n<\/tr>\r\n
\u00a0 Income from Dutch Company ($50,000 x 0.30)<\/td>\r\n<\/td>\r\n15,000<\/td>\r\n<\/tr>\r\n
\u00a0To record 30% of Dutch Company\u2019s Net Income.<\/td>\r\n<\/td>\r\n<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nThe\u00a0$15,000 income from Dutch would be reported on Tone\u2019s\u00a0income statement. The investment account is also increased by\u00a0$15,000.\r\n\r\nIf the investee incurs a loss, the investor company debits a loss account and credits the investment account for the investor\u2019s share of the loss. For example, assume Dutch incurs a loss of\u00a0 $10,000 during the year. Since it still owns 30% of Dutch, Tone records its share of the loss as follows:\r\n\r\n\r\n\r\n\r\n\r\n
Loss from Dutch Company ($10,000 x 0.30)<\/td>\r\n3,000<\/td>\r\n<\/td>\r\n<\/tr>\r\n
\u00a0 Investment in Dutch Company<\/td>\r\n<\/td>\r\n3,000<\/td>\r\n<\/tr>\r\n
\u00a0To recognize 30% of Dutch Company\u2019s loss.<\/td>\r\n<\/td>\r\n<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nTone would report the $3,000 loss on its\u00a0income statement. The\u00a0$3,000 credit reduces Tone\u2019s equity in the investee. Furthermore, because dividends are a distribution of income to the owners of the corporation, if Dutch declares and pays\u00a0$20,000 in dividends, this entry would also be required for Tone:\r\n\r\n\r\n\r\n\r\n\r\n
Cash<\/td>\r\n6,000<\/td>\r\n<\/td>\r\n<\/tr>\r\n
\u00a0 Investment in Dutch Company ($20,000 x 0.30)<\/td>\r\n<\/td>\r\n6,000<\/td>\r\n<\/tr>\r\n
\u00a0To record receipt of 30% of dividends paid by Dutch Company.<\/td>\r\n<\/td>\r\n<\/td>\r\n<\/tr>\r\n<\/tbody>\r\n<\/table>\r\nUnder the equity method just illustrated, the Investment in the Dutch Company account always reflects Tone\u2019s 30% interest in the net assets of Dutch.","rendered":"

The equity method for long-term investments of between 20 percent and 50 percent<\/strong><\/p>\n

When a company (the investor<\/strong>) purchases between 20% and 50% of the outstanding stock of another company (the investee) as a long-term investment, the purchasing company is said to have significant influence over the investee company. In certain cases, a company may have significant influence even when its investment is less than 20%. In either situation, the investor must account for the investment under the equity method.<\/p>\n