Deck 9: Accounting for Associates and Joint Ventures: the Equity Method

Question 1

The equity accounting method must be applied by all applicable reporting entities.

Answer 1

True

Question 2

It is possible that different entities can respectively exert control and significant influence over an investee entity.

Answer 2

True

Question 3

The holding of 20% or more of the voting power in an investee entity by an investor is a presumptive test that the investee is an associate of the investor.The application of this presumptive test means that:

A) where an investor acquires a 20% equity stakeholding in an investee, the investee is an associate of the investor.
B) where an investor acquires a 20% equity stakeholding in an investee, in the absence of evidence to the contrary, the investor has significant influence over the investee.
C) an investor must have an equity stakeholding in an investee of at least 20% before the investee can be treated as an associate of the investor.
D) none of the above.

Answer 3

B

Question 4

An investee is considered to be an associate of an investor if:

A) the investor has the power to participate in the financial and operating decisions of the investee.
B) the investor has the power to participate in either or both the financial and operating decisions of the investee.
C) the investor has the power to participate in or jointly control the financial and operating decisions of the investee.
D) all of the above.

Question 5

What is the rationale for the extensive note disclosure requirements under AASB 128?

Question 6

Accounting for investment in associates by parent entities using the equity method will be done:

A) in the parent entity's financial statements.
B) in the consolidated financial statements.
C) in either the parent entity's or consolidated financial statements.
D) none of the above.

Question 7

The use of the equity method primarily provides information to the investor in relation to:

A) profit performance of the investee.
B) valuation of the investment.
C) dividend policy of the investee.
D) none of the above.

Question 8

When preparing the equity accounting adjustments in the consolidated financial statements,losses on the investment will:

A) be accounted for in the current year only.
B) be accounted for in all prior years.
C) be accounted for in the current year and all prior years.
D) not be accounted for.

Question 9

If A has significant influence over B but does not have any share ownership in B:

A) B is an associate of A.
B) B is not an associate of A.
C) B is a subsidiary of A.
D) none of the above.

Question 10

Indicia of the position that an investor does NOT have the power to significantly influence the operating,investment and financial policies of an investee include:

A) representation on the investee's board of directors by the investor or by a party nominated by the investor through which the investor is able to directly or indirectly participate in investee policy decision making.
B) operational interrelationships between the investor and the investee.
C) technological interrelationships between the investor and the investee.
D) none of the above.

Question 11

If an investment in an associate entity were to be accounted for using the cost method,the investment is initially recognised at its cost of acquisition and:

A) all dividends declared in the post-acquisition period are treated as a recovery of the investment.
B) if the shares in the associate are traded in an active market, market value increments or decrements are recognised as gains or losses at each reporting date.
C) dividends declared from pre-acquisition profits are deducted from the carrying amount of the investment, even if these dividends are declared subsequent to acquisition.
D) none of the above.

Question 12

Indicia of an investor's incapacity to exert significant influence over the policy-making decisions of an investee include:

A) the existence of a small group of 'non-investor' shareholders representing the majority of voting power in the investee.
B) the investor attempting to gain, but not gaining, board representation.
C) the investor attempting to gain, but not gaining, the financial information necessary to calculate its equity in the fair value of the investee's net assets at the date of acquisition, or its equity in the post-acquisition earnings of the investee.
D) all of the above.

Question 13

Ownership of 20% or more of voting shares leads to a presumption of significant influence.

Question 14

What is the correct entry to recognise the equity of Dragon Ltd in Lagoon Industries when Lagoon records a profit of $85 000 and Dragon holds 35% of Lagoon's ordinary shares?

A) Debit Investment in Associates and Joint Ventures $29,750 Credit Share of Profit of Associates and Joint Ventures $29,750
B) Debit Investment in Associate and Joint Ventures $85 000 Credit Retained Earnings $85 000.
C) Debit Investment in Associates and Joint Ventures $29 500 Credit Retained Earnings $29 500.
D) None of the above.

Question 15

Discuss the basis of the equity carrying amount of the investment.

Question 16

The equity carrying amount of an investment will always be equal to the investor's proportional share of the net assets of the investee.

Question 17

Even though an investee may be an associate of an investor,if the shares of that associate are traded in an active market,AASB 128 Investment in Associates and Joint Ventures requires the application of the:

A) market valuation.
B) consolidation method.
C) valuation made by an independent evaluator.
D) equity method.

Question 18

A owns 40% of B and 30% of C.Both B and C own 15% of D each.There is a presumption of significant influence by A over:

A) B and C.
B) B only.
C) B, C and D.
D) no significant influence over any of B,C and D.

Question 19

Investor Ltd holds 25% of the voting shares of Investee Ltd.If another company holds the remaining 75%:

A) Investee Ltd is an associate of Investor Ltd.
B) Investee Ltd is not an associate of Investor Ltd.
C) it is probable that Investee Ltd is not an associate of Investor Ltd.
D) none of the above.

Question 20

There is no formal definition of terms 'investor' and 'investee' under current accounting standards.

Question 21

A gain on bargain purchase of an equity investment will be excluded from the investor's share of profit or loss of the associate.

Question 22

On 1 July 20X3,Heroic Ltd acquired a 30% interest in Manfred Ltd,and the power to exert significant influence over that company,for a cash consideration of $2 000 000.At the date of acquisition,the net assets of Manfred Ltd approximated fair value.At respective dates,the shareholders' equity of Manfred Ltd was as follows (amounts in thousands): $\begin{array}{lrr}&30 \text { June } & 30 \text { June } \\&20X3 & 20X8\\\text { Shareholders' equity }\\\text { Share capital } & \$ 2000 & \$ 2000 \\\text { Retained earnings } & 3000 & 2000\\\text { Total shareholders' equity }&\$5000&\$4000\end{array}$ Other information
I.Heroic Ltd was not a parent entity
II.At 30 June 20X7,Heroic Ltd had held inventories that had been supplied by Manfred Ltd at a markup of $50 000.The income tax rate was 30%.
III.Due to worsening operating difficulties in Manfred Ltd,at 30 June 20X8,the recoverable amount of the investment was estimated to be $1 200 000.
In the balance sheet of Heroic Ltd at 30 June 20X8,the carrying amount of the investment in Manfred Ltd would be:

A) $1 700 000.
B) $1 200 000.
C) $1 215 000.
D) none of the above.

Question 23

Where an associate makes profits subsequent to the investor's acquisition of the equity investment,a deferred tax liability will be required to be recognised.

Question 24

Investors that are not parent entities must record all equity entries in their own records.

Question 25

Goodwill arising on an equity investment is not required to be separately tested for impairment.

Question 26

On 1 January 20X7,a parent entity,Emborough Ltd,acquired 20% of the share capital of Bernborough Ltd and the power to significantly influence the operating and financial policies of that company for $4 500 000 cash.In the period from the date of acquisition to 30 June 20X7,Bernborough Ltd earned a profit for the period of $400 000 (after tax of $200 000),recognised a post-acquisition asset revaluation increment of $500 000 (deferred tax liability $100 000)and declared a dividend of $200 000.At 30 June 20X7,Emborough Ltd recognised its equity in the dividend. In the consolidated balance sheet at 30 June 20X7 of the group controlled by Emborough Ltd,the investment in the associate would be reported at an amount of:

A) $4 620 000.
B) $4 500 000.
C) $4 680 000.
D) none of the above.

Question 27

Discuss whether equity accounting profits are realise' from the viewpoint of the investor.

Question 28

On 1 January 20X7,a parent entity,Emborough Ltd,acquired 20% of the share capital of Bernborough Ltd and the power to participate in the operating and financial policies of that company for $4 500 000 cash.In the period from the date of acquisition to 30 June 20X7,Bernborough Ltd earned a profit for the period of $400 000 (after tax of $200 000),recognised a post-acquisition asset revaluation increment of $500 000 (deferred tax liability $100 000)and declared a dividend of $200 000.At 30 June 20X7,Emborough Ltd recognised its equity in the dividend. In respect of the increase in the investment recognised in the consolidated balance sheet at 30 June 20X7 of the group controlled by Emborough Ltd,a deferred tax liability would be recognised of:

A) $36 000.
B) $60 000.
C) zero because the increase is not a temporary difference.
D) none of the above.

Question 29

An investment in an associate company will initially be recorded at fair value.

Question 30

Explain the following statement:
'When reconciling the investor's interest in an associate's net assets to the equity accounted carrying amount of the investment in the investor's financial statements,the unimpaired balance of goodwill will be a reconciling item.'

Question 31

Which of the following is NOT an indication that an investor has the power to exert significant influence over an investee company?

A) Representation of the investor on the investee's board of directors
B) Participation by the investor in the investee's policy-making processes
C) The investee's technological dependency on the investor involving the investor providing the investee with essential technical information
D) None of the above

Question 32

Which of the following statements more adequately reflects the current accounting position in regards to accounting for an associate entity?

A) The reporting by the investor of dividend revenue under the cost method is perceived to be an adequate indicator of investment performance in the case of a significant investment.
B) Even with representation on the associate's board of directors, an investor cannot have the power to manipulate its reported earnings (through participation in the dividend policy decisions of the associate) and thus present a misleading picture of its earnings performance.
C) Because of the varying dividend policies of investees, it is unlikely that dividend income will provide a reliable indicator of the investment performance of any associate.
D) None of the above.

Question 33

On 1 November 20X6,a parent entity,Helios Ltd,acquired 25% (500 000 shares)of the share capital of Havers Ltd and the power to significantly influence the operating and financial policies of that company for $4 000 000 cash.In the period from the date of acquisition to 30 June 20X7,Havers Ltd earned a profit for the period of $500 000 (after tax of $200 000)and declared a dividend of $100 000.At 30 June 20X7,Helios Ltd recognised its equity in the dividend.At 30 June 20X7,the quoted market value of the shares in Havers was $10 per share.At 30 June 20X7,in the separate balance sheet of Helios Ltd and in the consolidated balance sheet of the group controlled by Helios Ltd,the investment in Havers Ltd would be reported as:

A) $4 000 000 and $4 100 000 respectively.
B) $5 000 000 and $4 100 000 respectively.
C) $5 000 000 and $5 100 000 respectively.
D) none of the above.

Question 34

The balance of an investment in an associate account cannot be negative.

Question 35

During the year ended 30 June 20X7,a parent entity,Rimfire Ltd,sold merchandise to its 30% owned associate Neville Ltd at a markup of $100 000.At 30 June 20X7,Neville Ltd still held one-half of this merchandise in inventory.Because of marketing problems,Neville Ltd had written down the merchandise by $20 000.The income tax rate was 30%.In the consolidated financial statements prepared for the year ended 30 June 20X7 of the group controlled by Rimfire Ltd,the effect of the unsold merchandise at June 30 20X7 would be:

A) Rimfire Ltd would recognise an unrealised profit of $21 000 after tax and report merchandise inventory at an amount $30 000 less than that at which the merchandise is carried in the balance sheet of Neville Ltd.
B) Rimfire Ltd would recognise an unrealised profit of $6,300 after tax and report merchandise inventory at an amount $21 000 less than that at which the merchandise is carried in the balance sheet of Neville Ltd.
C) Rimfire Ltd would recognise an unrealised profit of $6,300 after tax and report the inventory of merchandise at an amount $20 000 less than the amount at which the merchandise is carried in the statement of financial position of Neville Ltd.
D) none of the above.

Question 36

On 1 November 20X6,a parent entity,Midstream Ltd,acquired 25% of the share capital of Delta Ltd and the power to significantly influence the operating and financial policies of that company for $5 000 000 cash.In the period from the date of acquisition to 30 June 20X7,Delta Ltd earned a profit for the period of $400 000 (after tax of $200 000)and declared a dividend of $200 000.At 30 June 20X7,Midstream Ltd recognised its equity in the dividend.For the year ended 30 June 20X7,in the separate income statement of Midstream Ltd and in the consolidated income statement of the group controlled by Midstream Ltd,the equity in the profit before tax of Delta Ltd would be reported as:

A) $200 000 and $100 000 respectively.
B) $50 000 and $150 000 respectively.
C) $50 000 and $120 000 respectively.
D) none of the above.

Question 37

The following statements of shareholders' equity were prepared for Harnham Hill Ltd,a 20% owned associate of the parent entity Delville Wood Ltd,at 30 June (amounts in thousands): $\begin{array}{lrrr}&20x3&20x7&20x8\\\text { Shareholders' equity }\\\text { Share capital }&\$ 2000 & \$ 2000 & \$ 2000 \\\text { Revaluation surplus }& & & 1000 \\ \text { Retained earnings }&4000 & 6000 & 6500\\\text { Total shareholders' equity }&\$6000&\$8000&\$9500\end{array}$ Other information:

I.On 1 July 20X3,Delville Wood Ltd acquired its 20% investment for a cash outlay of $2 000 000.
II.During the year ended 30 June 20X8,Harnham Hill Ltd earned a profit of $1 400 000 before tax (income tax expense $400 000)and paid a dividend of $500 000.
III.Any goodwill element in the cost of the investment had not been impaired in the investment period.
At 30 June 20X8,the carrying amount of the investment in the consolidated balance sheet of the group controlled by Delville Wood Ltd was:

A) $2 500 000.
B) $2 000 000.
C) $2 700 000.
D) none of the above.

Question 38

Unrealised profits on both upstream and downstream transactions between an investor and an associate are to be eliminated under accounting standard AASB 128 Investments in Associates and Joint Ventures.

Question 39

Discuss the different identification and disclosure requirements for goodwill purchased as part of an investment in a subsidiary and an associate.

Question 40

The following statements of shareholders' equity were prepared for Harnham Hill Ltd,a 20% owned associate of the parent entity Delville Wood Ltd,at 30 June (amounts in thousands): $\begin{array}{lrrr}&20x3&20x7&20x8\\\text { Shareholders' equity }\\\text { Share capital }&\$ 2000 & \$ 2000 & \$ 2000 \\\text { Revaluation surplus }& & & 1000 \\ \text { Retained earnings }&4000 & 6000 & 6500\\\text { Total shareholders' equity }&\$6000&\$8000&\$9500\end{array}$

-Other information:
I.Delville Wood Ltd acquired its 20% investment on 1 July 20X3 for a cash outlay of $2 000 000.
II.During the year ended 30 June 20X8,Harnham Hill Ltd earned a profit of $1,400 000 before tax (income tax expense $400 000)and paid a dividend of $500 000.
III.At 30 June 20X7,Delville Wood Ltd held inventories that had been supplied by Harnham Hill Ltd at a markup of $100 000.
IV.At 30 June 20X8,a subsidiary of Delville Wood Ltd held inventories that had been supplied by Harnham Hill Ltd at a markup of $50 000.
V.During the year ended 30 June 20X8,Delville Wood Ltd charged Harnham Hill Ltd with a management fee of $100 000 for administration services.
VI.The income statement of Harnham Hill Ltd recognised interest revenue of $50 000,which had been earned on a loan made to a subsidiary of Delville Wood Ltd.
VII.The income tax rate was 30%.
VIII.Any goodwill element in the cost of the investment had not been impaired in the investment period.
In preparing the consolidated financial statements for the year ended 30 June 20X8,the journal adjustment to recognise the equity of Delville Wood Ltd in its associate would be:

A) $\begin{array}{lrr}\text { Investment in Associates and Joint Ventures } & \$ 693,000 & \\\text { Retained Earnings 1 July 20X7 } & & \$ 386,000 \\\text { Equity in Profit before Tax of Associates and } && 29,0000\\\text { Joint Ventures }\\\text { Equity in profits after tax } & 207,000 & \\\text { Dividend Revenue } & 100,000 & \\\quad \text { Revaluation surplus } & & 200,000\end{array}$
B) $\begin{array}{lll}\text { Investment in Associates and Joint Ventures }&&\$103,000\\\text { Goodwill } & 800,000 & \\\text { Retained Earnings 1 July 20X7 } & & 400,000 \\\text { Equity in Profit before Tax of Associates and } & 280,000\\\text { Joint Ventures }\\\text { Equity in profits after tax } & 207,000 & \\\text { Dividend Revenue } & 100,000 & \\\quad \text { Revaluation surplus } & & 200,000\end{array}$
C) $\begin{array}{lll}\text { Investment in Associates and Joint Ventures }&\$500,000\\\text {Retained Earnings 1 July \( 20X 7 \) }&\$400,000\\\text {Equity in Profit before Tax of Associates and }&283,000\\\text {Joint Ventures }&\\\text { Equity in profits after tax}&207,000\\\text { dividend revenue}&100,000\\\end{array}$

D) none of the above

Question 41

The following statements of shareholders' equity were prepared for Harnham Hill Ltd,a 20% owned associate of the parent entity Delville Wood Ltd,at 30 June (amounts in thousands): $\begin{array}{lrrr}&20x3&20x7&20x8\\\text { Shareholders' equity }\\\text { Share capital }&\$ 2000 & \$ 2000 & \$ 2000 \\\text { Revaluation surplus }& & & 1000 \\ \text { Retained earnings }&4000 & 6000 & 6500\\\text { Total shareholders' equity }&\$6000&\$8000&\$9500\end{array}$ Other information:
I.On 1 July 20X3,Delville Wood Ltd acquired its 20% investment for a cash outlay of $2 000 000.
II.During the year ended 30 June 20X8,Harnham Hill Ltd earned a profit of $1,400 000 before tax (income tax expense $400 000)and paid a dividend of $500 000.
III.Any goodwill element in the cost of the investment had not been impaired in the investment period.
In preparing the consolidated financial statements for the year ended 30 June 20X8,the adjustment to recognise the equity of Delville Wood Ltd in its associate would be:

A) $\begin{array}{lll}\text {Investment in Associates and Joint Ventures }&\$700,000\\\text { Retained Earnings}&\$400,000\\\text {Equity in Profit before Tax of Associates and }&280,000\\\text { Ventures}&\\\text {Equity in profits after tax }&200,000\\\text {Dividend Revenue }&100,000\\\text {Revaluation surplus }&200,000\\\end{array}$

B) $\begin{array}{lll}\text { Investment in Associates and Joint Ventures }&&\$100,000\\\text { Goodwill } & 800,000 \\\text { Retained Earnings } & & 400,000 \\\text { Equity in Profit before Tax of Associate } && 280,000\\\text { Equity in profits after tax } & 200,000 & \\\text { Dividend Revenue } & 100,000 & \\\quad \text { Revaluation surplus } & & 200,000\end{array}$

C) $\begin{array}{ll}\text { Investment in Associates and Joint Ventures }&\$500,000\\\text { Retained Earnings } && \$ 400,000 \\\text { Equity in Profit before Tax of Associates and } && 280,000 \\\text { Joint Ventures } &\\\text { Equity in profits after tax } & 200,000 \\\text { Dividend Revenue } & 100,000\end{array}$
D) none of the above

Question 42

The following statements of shareholders' equity were prepared for Harnham Hill Ltd,a 20% owned associate of the parent entity Delville Wood Ltd,at 30 June (amounts in thousands): $\begin{array}{lrrr}&20x3&20x7&20x8\\\text { Shareholders' equity }\\\text { Share capital }&\$ 2000 & \$ 2000 & \$ 2000 \\\text { Revaluation surplus }& & & 1000 \\ \text { Retained earnings }&4000 & 6000 & 6500\\\text { Total shareholders' equity }&\$6000&\$8000&\$9500\end{array}$

- Other information:
I.Delville Wood Ltd acquired its 20% investment on 1 July 20X3 for a cash outlay of $2 000 000.
II.During the year ended 30 June 20X8,Harnham Hill Ltd earned a profit of $1 400 000 before tax (income tax expense $400 000)and paid a dividend of $500 000.
III.At 30 June 20X7,Delville Wood Ltd held inventories that had been supplied by Harnham Hill Ltd at a markup of $100 000.
IV.At 30 June 20X8,a subsidiary of Delville Wood Ltd held inventories that had been supplied by Harnham Hill Ltd at a markup of $50 000.
V.During the year ended 30 June 20X8,Delville Wood Ltd charged Harnham Hill Ltd with a management fee of $100 000 for administration services.
VI.In the income statement of Harnham Hill Ltd was interest revenue of $50 000 which had been earned on a loan made to a subsidiary of Delville Wood Ltd.
VII.The income tax rate was 30%.
VIII.Any goodwill element in the cost of the investment had not been impaired in the investment period.
At 30 June 20X8,the carrying amount of the investment in the consolidated balance sheet of the group controlled by Delville Wood Ltd was:

A) $2 500 000.
B) $2 493 000.
C) $2 693 000.
D) none of the above.

Question 43

In preparing the consolidated financial statements of the group controlled by Portia Ltd for the year ended 30 June 20X6,a fair value gain on available-for-sale financial assets would appear:

A) in the consolidated statement of changes in equity.
B) on the consolidated balance sheet.
C) in the consolidated statement of comprehensive income.
D) only in the notes to the consolidated financial statements.

Question 44

On 1 July 20X3,a parent entity,Delta Ltd acquired 20% of the share capital of Rimfire Ltd and the power to exert significant influence over that company's decision-making processes for a cash outlay of $1 800 000.At relevant dates,the shareholders' equity of Rimfire Ltd at 30 June was (amounts in thousands): $\begin{array}{lrr}&200X3&20X7\\\text { Shareholders' equity }\\\text { Share capital } & \$ 2000 & \$ 2000 \\\text { Retained earnings } & 4000 & 6000\\\text { Total shareholders' equity }&\$6000&\$8000\end{array}$
I.No dividends have been paid by Rimfire Ltd out of pre-acquisition profits.
II.At 30 June 20X6,Delta Ltd held inventories that had been supplied by Rimfire Ltd at a markup of $100 000.
III.During the year ended 30 June 20X7,Rimfire Ltd earned a profit for the year of $600 000 (after income tax of $200 000)and paid a dividend of $250 000.
IV.The income tax rate was 30%.
V.Any goodwill on acquisition has not been impaired since acquisition.
In the consolidated balance sheet at 30 June 20X7 of the group controlled by Delta Ltd,the investment in Rimfire Ltd would be reported at an amount of:

A) $2 150 000.
B) $2 164 000.
C) $2 200 000.
D) None of the above.