Q. 7RQ - Horngren'S Financial And Managerial Accounting

Question

What method is used for investments in equity securities when the investor has significant influence and typically 20% to 50% ownership? Briefly describe how dividends declared and received and share of net income are reported.

Step-by-Step Solution

Answer

When the investor has ownership between 20% to 50%, the equity method is used for accounting purposes. Declaration of dividends will decrease the investment while net income increases the investment value.

Step 1: Definition of Net income

After adjusting all the sacrifices made, the benefits calculated for the business entity are known as net income. It includes adjustment of tax expenses as well.

Step 2: Accounting for investment

The investor has significant influence over the business entity and has ownership of 20% to 50%; therefore,the equity method will be used for accounting for such investment. 

Under Equity accounting:

1. Declaration and receipt of dividends will reduce the investment value.
2. Share of net income will increase the investment value.