Question

On January 4, 2011, RTN Industries paid $648,000 for 20,000 shares of Austin Cattle Company common stock. The investment represents a 30% interest in the net assets of Austin and gave RTN the ability to exercise significant influence over Austin’s operations. RTN received dividends of $3.00 per share on December 6, 2011, and Austin reported net income of $320,000 for the year ended December 31, 2011. The market value of Austin’s common stock at December 31, 2011, was $32 per share. The book value of Austin’s net assets was $1,600,000 and:

a. The fair market value of Austin’s depreciable assets, with an average remaining useful life of 8 years, exceeded their book value by $160,000.
b. The remainder of the excess of the cost of the investment over the book value of net assets purchased was attributable to goodwill.
Required:
1. Prepare all appropriate journal entries related to the investment during 2011, assuming RTN accounts for this investment by the equity method.
2. Prepare the journal entries required by RTN, assuming that the 20,000 shares represent a 10% interest in the net assets of Austin rather than a 30% interest, and that RTN anticipates holding their investment in Austin for the foreseeable future.

Answer 1

RTN Industries and Austin Cattle Company

Journal Entries

1. 30% with significant influence:

Jan. 4, 2011: Debit Investment in Austin Cattle Company $648,000

Credit Cash $648,000

To record the cost of the investment by purchasing 20,000 shares or 30% stake in Austin Cattle Company.

December 6, 2011:

Debit Cash $60,000

Credit Investment in Austin $60,000

To record the receipt of dividend.

December 31, 2011:

Debit Investment in Austin Cattle Company $96,000

Credit Investment Income $96,000

To record RTN share of Austin's net income.

2. 10% share:

Jan. 4, 2011: Debit Investment in Austin Cattle Company $648,000

Credit Cash $648,000

To record investment in 10% share of Austin Cattle Company.

Dec. 6, 2011: Debit Cash $60,000

Credit Dividend Income $60,000

To record the receipt of dividend income.

Step-by-step explanation:

a) Data and Calculations:

Cost of investment in Austin Cattle Company = $648,000

Number of shares held in Austin = 20,000

Percentage of shareholding = 30%

Total number of shares in Austin Cattle = 66,667(20,000/30%)

Austin's reported net income for 2011 = $320,000

RTN share of the net income = $96,000 ($320,000 * 30%)

Analysis:

Investment in Austin Cattle Company $648,000 Cash $648,000

Investment in Austin Cattle Company $96,000 Investment Income $96,000

Cash $60,000 Investment in Austin $60,000

2. If the 20,000 shares represent a 10% interest in the net assets of Austin rather than a 30% interest, the cost method is used:

Analysis:

Investment in Austin Cattle Company $648,000 Cash $648,000

Cash $60,000 Dividend Income $60,000