Question

Washington Company issued rights to subscribe to its stock, the ownership of 4 shares entitling the shareholders to subscribe for 1 share at P100. Wellington Company owns 50,000 shares of Washington Company with total cost of P5,000,000. The stock rights are accounted for separately and measured initially at fair value. What is the cost of the new investment if all of the stock rights are exercised by Wellington Company and the share is quoted ex-right at P125? What is the cost of the new investment if all of the stock rights are exercised by Wellington

Company and the share is quoted right-on at P125?

Answer 1

The cost of the new investment is P6,250,000 when the share is quoted ex-right at P125 and P5,000,000 when it is quoted right-on at P125.

Step-by-step explanation:

To determine the cost of the new investment, we need to calculate the total cost of exercising all the stock rights and add it to the initial cost of the shares. First, let's calculate the total cost of exercising the stock rights:

1. For every 4 shares of Washington Company, Wellington Company is entitled to subscribe to 1 additional share at P100.
2. Wellington Company owns 50,000 shares, so it is entitled to subscribe to 12,500 shares (50,000/4).
3. The cost of exercising the stock rights would be P100 multiplied by 12,500, which equals P1,250,000.

Now, let's calculate the cost of the new investment in two scenarios: when the share is quoted ex-right at P125 and when it is quoted right-on at P125.

1. Ex-right at P125:
2. The initial cost of the 50,000 shares owned by Wellington Company is P5,000,000.
3. The cost of the new investment when the stock rights are exercised at P125 would be P5,000,000 + P1,250,000 = P6,250,000.
4. Right-on at P125:
5. In this scenario, the right to subscribe to new shares is already included in the quoted price of P125.
6. The cost of the new investment when the stock rights are exercised would be P5,000,000.

Therefore, the cost of the new investment is P6,250,000 when the share is quoted ex-right at P125 and P5,000,000 when it is quoted right-on at P125.