Question

Olde Corp. accounts for its investment in the common shares of Young Inc. under the equity method. Olde Corp. should record a cash dividend received from Young as ________:

a. a reduction of the carrying value of the investment.
b. additional paid-in capital.
c. an addition to the carrying value of the investment.
d. dividend income.

Answer 1

Under the equity method of accounting, Olde Corp. should treat the cash dividend received from Young Inc. as a reduction of the carrying value of the investment, not as dividend income or capital gains.

Step-by-step explanation:

When Olde Corp. receives a cash dividend from Young Inc. and accounts for its investment under the equity method, the correct treatment is to record the cash dividend as a reduction of the carrying value of the investment. Under the equity method, the investor recognizes their share of the earnings of the investee, which increases the investment's carrying amount. However, when a dividend is received, it is considered a return on the investment rather than income, thereby reducing the investment's carrying amount. This is because the dividend payout is essentially the investee company returning part of the investment back to the shareholder.