Question

Equity Method

1. JE to record investment at cost (FV of consideration + legal fees)
2. JE to record increase in investment by investor's share of earnings of the investee
3. JE to record decrease in investment by investor's share of cash dividends from the investee

Answer 1

1. Journal Entry to Record Investment at Cost:

Debit Investment in Investee (at cost)

Credit Cash/Other assets (fair value of consideration + legal fees)

2. Journal Entry to Record Increase in Investment by Investor's Share of Investee's Earnings:

Debit Investment in Investee (increase)

Credit Equity in Earnings of Investee

3. Journal Entry to Record Decrease in Investment by Investor's Share of Cash Dividends:

Debit Cash/Other assets (dividends received)

Credit Investment in Investee (decrease)

Step-by-step explanation:

Initial Investment Recording (Journal Entry 1): This entry records the acquisition of the investment at cost. The debit side reflects the investment account at the initial value, including the fair value of consideration paid and any related legal fees. The credit side records the cash or other assets used to acquire the investment.

Recognition of Increased Investment (Journal Entry 2): When the investee generates earnings, the investor increases its investment. The debit side reflects the increase in the investment account, representing the investor's share of the investee's profits. The credit side recognizes this increase as equity in the earnings of the investee.

Adjustment for Decreased Investment (Journal Entry 3): If the investee issues cash dividends, the investor's share of these dividends reduces the investment. The debit side records the cash or other assets received as dividends. The credit side decreases the investment account to reflect the reduction in the investor's stake due to the dividends received from the investee.

These journal entries under the equity method ensure accurate representation of the investor's ownership stake in the investee's earnings and the impact of dividends on the investor's investment balance.

Answer 2

In Equity Method

The initial journal entry (JE) to recognize the investment involves recording it at cost, which includes the fair value of consideration along with legal fees. Subsequent JE accounts for the increase in the investment based on the investor's proportional share of the investee's earnings. Another JE is made to reflect a decrease in the investment, considering the investor's share of cash dividends received from the investee.

Step-by-step explanation:

These entries follow the equity method of accounting, providing a comprehensive approach to capturing the investment's initial recognition, growth, and decrease.

• JE for Investment Recognition: The first step is to record the investment at its cost. This includes not only the fair value of consideration but also any legal fees associated with the acquisition. This initial entry establishes the investment on the balance sheet.

• JE for Increase in Investment: As the investee generates earnings, the investor's ownership stake increases. The accounting entry reflects this growth by recognizing the investor's share of the investee's earnings. This aligns with the equity method, which accounts for the investment as if it were the investor's own.

• JE for Decrease in Investment: When the investee distributes cash dividends, the investor's ownership stake decreases. The corresponding journal entry reduces the investment to reflect the decrease caused by the dividends received.