Question

At a total cost of $6,290,000, Herrera Corporation acquired 161,000 shares of Tran Corp. common stock as a long-term investment. Herrera Corporation uses the equity method of accounting for this investment. Tran Corp. has 700,000 shares of common stock outstanding, including the shares acquired by Herrera Corporation.

Required:

A.	Journalize the entries by Herrera Corporation on December 31 to record the following information (refer to the Chart of Accounts for exact wording of account titles): 1. Tran Corp. reports net income of $753,000 for the current period. 2. A cash dividend of $0.40 per common share is paid by Tran Corp. during the current period.
B.	Why is the equity method appropriate for the Tran Corp. investment?

Answer 1

A.	No	Account Titles and Explanation	Debit	Credit
	1	Investment in Tran Corp. Stock	$173,190		($753,000 x 161,000/700,000)
		Investment income		$173,190
		(To record income realized from Tran Corp.)
	2	Cash	$64,400		(161,000 x $0.40 per share)
		Investment in Tran Corp. Stock		$64,400
		(To record dividend realized from Tran Corp.)
	Working
	Investment percentage = 161,000 shares/700,000 shares = 23%
B.	An investment amount between 20% to 50% of outstanding common stock of investee company
	represents significant influence. When there is significant influence then equity method is appropriate