Question

On June 1, 2011, Blue Co. distributed to its common stockholders 200,000 outstanding common sharesof its investment in Red, Inc., an unrelated party. The carrying amount on Blue's books of Red's $1 parcommon stock was $2 per share. Immediately after the declaration, the market price of Red's stock was$2.50 per share.

In its income statement for the year ended June 30, 2011, what amount should Blue report as gain before income taxes on disposal of the stock?

A) $0
B) $50,000
C) $100,000
D) $200,000

Answer 1

Blue Co. should report a gain of $100,000 before income taxes on the disposal of the Red Inc. stock, as the market value exceeded the carrying amount by $0.50 per share for 200,000 shares.

Step-by-step explanation:

The student asked what amount should Blue Co. report as gain before income taxes on the disposal of Red Inc.'s stock, given that the carrying amount was $2 per share and the market price was $2.50 per share at the time of distribution. To calculate this, you take the market value of the stock at the time of distribution and subtract the carrying amount on Blue Co.'s books. The difference between the market value and the carrying amount represents the gain on disposal.

The calculation would be as follows: (Market Price - Carrying Amount) x Number of Shares = Gain before Income Taxes. So, ($2.50 - $2.00) x 200,000 = $0.50 x 200,000 = $100,000.

Therefore, Blue Co. should report a gain of $100,000 before income taxes on the disposal of the stock, which corresponds to option C.