Reading 8 Intercorporate Investments

Evergreen Brothers is a large producer of bedding plants and shrubs that are sold to various
retail nurseries and home improvement stores located across the western coast of the
United States with approximately $85 million in annual sales. Evergreen grows its products
at two facilities, one in Northern California and the other in the Southern part of the state.
Each production facility currently distributes its products within an approximate 150 mile
radius of its location. All aspects of the shipping and delivery of products have historically
been provided by an independent, third-party distribution company.
Because of impressive growth in the company's sales over the past several years,
management has decided to pursue plans to bring "in-house" the distribution of the
company's products. They believe that the projected decreased freight costs as well as the
increased efficiencies in more actively managing the distribution of their production should
immediately yield increased profit margins. As an initial step, Evergreen has negotiated the
price for ten delivery trucks, which could provide all distribution capacity needed for the
company's Northern production facility for the upcoming season. Current plans are to
continue the use of the independent distribution company for the needs of the firm's
Southern facility for at least the next several years.
Under advice from the company's CFO, Evergreen has created a new special purpose entity
(SPE), QuickTime, Inc., which will serve as the entity that will purchase the trucks from the
dealer. The purchase will be financed through a combination of debt and equity, with the
dealer lending 75% of the total cost. The loan is collateralized by both the trucks and
Evergreen's guarantee of the debt, as required by the dealer.
Evergreen has arranged for an outside investor to provide the remaining 25% of the upfront
costs of the equipment in exchange for 100% of QuickTime's nonvoting stock. In addition,
the outside investor is guaranteed an 8% annual return for the life of the financing term. At
the end of seven years, QuickTime will be liquidated and Evergreen will have the option of
purchasing the equipment for its fair value at that time. The proceeds of the liquidation will
be used to repurchase the outside investor's stock at par value. In the event that the
liquidation value is insufficient to buy back the outside investor's stock, Evergreen has
committed to fund the shortfall.
Management has given its tentative approval of the project and the proposed structure.
Questions remain, however, as to the effect of the creation of QuickTime on Evergreen's
financial statements. With the relatively recent issuance of FASB Interpretation No. 46(R),
"Consolidation of Variable Interest Entities" (FIN 46(R)), the management of Evergreen has
not had prior experience with the new consolidation requirements for SPEs.
Question #1 - 4 of 84 Question ID: 1586042
Which of the following statements regarding special purpose entities (SPEs) is least accurate?
An SPE can be established as one of several legal forms, such as corporations,

A) partnerships, or trusts, but must establish separate management from that of the
sponsor.
In general, the equity investors in an SPE can expect to receive a limited rate of
B)
return on their investment in exchange for limited risk exposure.
An SPE can be formed to isolate specific assets from the sponsor, thus lowering the
C) cost of capital by protecting the assets of the SPE in the event the sponsor
experiences financial distress.
According to US GAAP, if an SPE is to be considered a variable interest entity (VIE), it must

meet which of the following conditions?
The equity investors in the VIE must bear all of the SPE's risk up to a pre-determined
A)
level as outlined in the governing documents.
The SPE must be consolidated by the primary beneficiary, whose status as primary
B)
beneficiary is defined by the level of the firm's percentage of voting control.
The total at-risk equity of the SPE is not sufficient to finance the entity's activities
C)
without additional subordinated financial support.
As outlined in FIN 46(R), the primary beneficiary of a VIE is that entity which meets which of
the following conditions?
Holds the majority voting control of the VIE and has separate management from the
A)
VIE.
Has exposure to the majority of the loss risks or receives the majority of the residual
B)
benefits of the VIE.
C) Holds the majority voting control of the VIE and shares management with the VIE.
Assuming that QuickTime is considered a VIE in accordance with FIN 46(R), which of the
following statements regarding the consolidation of QuickTime on Evergreen's financial
statements is most accurate?
The truck dealer is supplying the financing for the majority (75%) of QuickTime's
A)
debt, so Evergreen may not consolidate QuickTime on its financial statements.
Evergreen is exposed to the majority of QuickTime's risks and rewards, so Evergreen
B)
must consolidate QuickTime on its financial statements.
Because the outside investor holds only nonvoting stock, Evergreen holds the
C) majority controlling financial interest in QuickTime and must consolidate QuickTime
on its financial statements.
Question #5 of 84 Question ID: 1472379
Under IFRS rules, which of the following accounting treatments is most preferred for joint
ventures where there is shared control?
A) Acquisition method.
B) Proportionate consolidation method.
C) Equity method.
Milburne Company purchased 1,000 shares of Marino Co. for $20 per share on January 1
classified as FVPL. By December 31, shares of Marino were trading at $15 per share in the
open market. Marino Co. has 100,000 shares outstanding with a dividend yield of 2% at year
end. The impact of the Marino holding on the Milburne income statement is:
A) −$5,300.
B) −$4,700.
C) −$5,000.
Harter Company recently acquired a 40% stake in Compton Corp. for $40 million in cash by
borrowing at 10%. Harter will account for this acquisition using which of the following
methods:
A) Acquisition Method.
B) Held to maturity debt securities method.
C) Equity method.
Barrett Inc. is advised by its banker to create a special purpose entity (SPE) to convert its
existing $15 million loan off-balance sheet. Under the terms of the deal, SPE would obtain a
loan for $15 million from the bank with Barrett providing loan guarantee. Barrett would then
sell $15 million of accounts receivable to the SPE and use the proceeds to pay off the current
loan. Barrett prepares its financial statements under U.S. GAAP. Which of the following
statements is most accurate regarding the impact of such an arrangement on Barrett's
ratios?
A) Barrett’s leverage would decrease and receivable turnover would increase.

B) Barrett’s leverage would remain the same while receivable turnover would increase.
C) Barrett’s leverage as well as receivables turnover would remain the same.
Cosmo Inc. (Cosmo) invests in two portfolios – Portfolio 1 and Portfolio 2. Portfolio 1
contains securities classified as fair value through P&L. Portfolio 2 contains equity securities
classified as fair value through OCI. Which of the following treatments of Cosmo's reporting
of the investments in Portfolios 1 and 2, respectively, is most accurate?
Portfolio 1 Portfolio 2
Unrealized
amounts Assets
A) reported on reported at
income cost.
statement.
Unrealized
amounts Assets
B) reported on reported at fair
income value.
statement.
Unrealized
Assets
amounts
C) reported at fair
reported on
value.
balance sheet.
When comparing companies that hold equity investments in other corporations, which of
the following statements is most accurate? All else being equal, return on asset measures for
a firm using the acquisition method will appear:
A) less favorable than those for a comparable firm using the equity method.
B) more favorable than those for a comparable firm using the equity method.
C) same as for a comparable firm using the equity method.
Under which of the following is a minority interest account most likely to appear on the
consolidated balance sheet?
I. The acquisition method.

II. Equity method.
A) II only.
B) Both I and II.
C) I only.
Which of the following methods of accounting for investments will reflect the highest net
income on a company's income statement?
A) Both methods report the same net income.

B) Acquisition method.
C) Equity method.
When comparing companies that hold equity investments in other corporations, which of
the following statements is most accurate? All else being equal, leverage measures for a firm
using consolidation will appear:
A) less favorable than those for a comparable firm using the equity method.
B) more favorable than those for a comparable firm using the equity method.
C) more or less favorable depending on the leverage of the investee company.
Under U.S. GAAP rules, where an investor owns 41% of the voting shares of an investee and
is able to control the investee, which of the following methods of accounting is most
appropriate to use?
B) Equity method.
C) Proportionate consolidation method.
On January 9, 20X6, Company X, reporting under IFRS, purchased $1,000,000 of government
bonds at par and 100,000 shares of stock in Company S for $2,000,000. The stock
investment was held at fair value through OCI while the bonds were held at amortized cost.
As of December 31, the bonds were valued at $900,000, and the stocks were valued at
$2,200,000. The bonds paid $50,000 of interest and the stocks paid $20,000 of dividends. In
2006, Company S had earnings per share of $0.90.
The marketable securities balance amount shown on the balance sheet is:
A) $3,000,000.00.
B) $3,100,000.00.
C) $3,200,000.00.
In late 20X6, Company X decided to reclassify the investments in stock. What classification
can the company classify the investment in stocks to?
A) Fair value through profit or loss or amortized cost.

B) Reclassification would not be allowed.
C) Fair value through profit or loss only.
The appropriate classification for the investment in government bonds would be:
A) amortized cost, fair value through OCI, or fair value through profit or loss.
B) amortized cost or fair value through OCI.
C) amortized cost or fair value through profit or loss.
Assuming that the investments were initially classified as fair value through profit or loss.
The company can reclassify:
A) debt security only if the business model has changed.

B) equity security but only into fair value through OCI.
C) both debt and equity securities into fair value through OCI.
Milburne Company purchased 1,000 shares of Marino Co. for $20 per share on January 1. By
December 31, shares of Marino were trading at $15 per share in the open market. Marino
Co. has 100,000 shares outstanding with a dividend yield of 2% at year end. Milburne choose
FVOCI classification for these shares. The impact of the Marino holding on the Milburne
income statement is:
A) $300.
B) -$4,700.
C) -$5,000.
On January 9, 2006, Company X paid $2,000,000 for 100,000 shares of stock in Company S.
Originally the company classified the shares as fair value through OCI. As of December 31,
the stocks were valued at $2,200,000. In 2006, Company S had earnings per share of $0.90
and paid dividends per share of $0.20. In late December 2006 the company wonders what
would be the change if the company had classified the shares as fair value through P&L.
What is the impact if the company had originally classified the shares as fair value through
P&L on the value of the assets of Company X?
A) $200,000.00
B) $0.00
C) $70,000.00
If the shares were classified as fair value through P&L, what would have been the impact on
the income and the stockholders' equity of Company X?
A) Income and stockholder's equity will rise by $200,000.

B) Stockholders' equity will rise by $200,000, but income will not change.
C) Income will rise by $200,000, but stockholders' equity will not change.
Sawbuck Corporation recently acquired a 60% stake in Rawboard Inc. for $70 million in
newly issued common stock. Given this information, which of the following methods should
be used to account for the acquisition of Rawboard?
A) The pooling of interest method.

B) Proportionate consolidation.
C) Acquisition.
According to U.S. GAAP, goodwill is most likely to be considered impaired if the reporting
unit's:
A) implied value of goodwill is less than book value of goodwill.

B) carrying value (including goodwill) is greater than its fair value.
C) tangible assets acquired in a business combination decrease in value.

Which of the following statements about variable interest entities (VIE) are correct or
incorrect?
One potential benefit of a VIE is a lower cost of capital since the assets
Statement #1: and liabilities of the VIE are isolated in the event the sponsor experiences
financial difficulties.
The organizational form of a VIE must be either a partnership or a joint

Statement #2: venture and it is necessary for the VIE to have separate management and
employees.
A) Only one is correct.

B) Both are incorrect.
C) Both are correct.
The consolidation method results in:
A) same net income as the equity method but different shareholders' equity.
B) same equity as the cost method.
C) same net income and shareholders' equity as the equity method.
Company X owns 15% of company S and exerts significant influence over the operations of
the company. The book value of the investment on December 31, 2008, is $48,000. In 2009,
company S earned $100,000 and paid dividends of $20,000. The impact of the investment on
the income statement of company X is:
A) $15,000.
B) $12,000.
C) $3,000.
Accounting standards for intercorporate investments establish different categories of

securities with distinct ways of treating them on the financial statements of the company.
One category requires the securities to be carried at fair value on the balance sheet with
unrealized gains and losses excluded from the income statement. This category of security
classification is called debt:
A) and equity securities classified as fair value through OCI.

B) securities classified at amortized cost.
C) and equity classified as fair value through P&L securities.
A company reports an intercorporate investment using the acquisition method. Which of the
following statements is most accurate?
The use of the acquisition method by a company will generally report the more
A)
favorable results.
The use of the acquisition method by a company will generally report the less
B)
favorable results.
C) The use of the equity method by a company will generally report the same results.
Which of the following statements about special purpose entities (SPE) are correct or
incorrect?
The sponsor usually maintains the decision-making power and voting

Statement #1:
control over the SPE.
The equity owners of an SPE usually receive a rate of return that is tied to
Statement #2:
the performance of the SPE.
A) Only one is correct.

B) Both are correct.
C) Both are incorrect.
Company A acquired a 50% stake in Company T on January 1, 2003 by paying T's

shareholders $100,000 in cash. Pre-acquisition balance sheets for the two firms are
presented below:
Balance Sheet
Company A Company T
Current assets $400,000 $60,000
Fixed assets 600,000 100,000
Total $1,000,000 $160,000
Current liabilities $50,000 $ 30,000
Common stock 350,000 60,000
Retained earnings 600,000 70,000
Total $1,000,000 $160,000
The fair values of company T assets and liabilities was same as the book value. Company A
reports under U.S. GAAP. What are the post-acquisition balance sheet values for total assets
for Company A under the equity and acquisition methods of accounting respectively?
A) $1,060,000 and $1,095,000.

B) $1,000,000 and $1,095,000.
C) $1,000,000 and $1,130,000.
Omricon Capital Associates specializes in making investments in the small cap market
sector. In some cases the firm operates as a supplier of private equity for restructurings. In
this instance, the firm views itself as having a value investment focus. In others, it acts as a
venture capital firm. Here, the investment focus is usually growth. Finally, in some cases it
simply takes passive investment positions in publicly-traded firms. The positions in
marketable securities are sometimes considered trading positions, and other times the view
is to hold for a longer period until valuation parameters are met or exceeded.
Omricon's chief compliance officer, Raymond "Buzz" Richards has recently become
concerned that the firm may not be correctly following the relevant accounting standards for
these investments. To ensure that the rules are being effectively adhered to, he is seeking
advice from the accounting firm of Merz-Brokaw and Associates on the matter. Sally Lee is
the Merz-Brokaw partner heading up the consulting team assigned to review the situation.
The size of the investments ranges from a few percent of the firm's outstanding equity, to
positions of greater than 50%. Richards says that it has always been his understanding that
the percentage of the equity held is the major determinant with respect to which accounting
method applies. Lee reminds him that the firm's intent for its investments also plays a role
in determining how they are accounted for.
Some of the firm's investments have not worked out as planned. Richards has conferred
with the firm's portfolio managers regarding securities being held by the firm that are worth
less than when they were acquired, and has presented a list of these investments to Lee. His
concern is what this implies for the accounting for these investments. Lee tells him that the
issue here is whether or not the security can be considered impaired, and that designating a
security as impaired implies that the decline in value is permanent.
Top managers at Omricon have asked Lee to help them evaluate the impact of the choice of
accounting method on the firm's profitability. Some members of the management team are
of the belief that the accounting method does not affect financial measures because these
are driven by underlying economic factors. Others believe that these measures can be
affected by the accounting method chosen.
Assuming no significant influence exists, which of the following statements concerning

percentage ownership and accounting method is most accurate?
When the ownership is less than 20%, US GAAP requires the investment in financial
A)
assets method, IFRS the equity method.
When the ownership is less than 20%, both US GAAP and IFRS require the equity
B)
method.
When the ownership is less than 20%, both US GAAP and IFRS require the
C)
investment in financial assets method.

For instances in which Omricon holds exactly 50% of the outstanding equity of the investee
firm's equity (i.e., the investee firm is a joint venture), which of the following statements is
most accurate?
A) Both US GAAP and IFRS require that the equity method be used.
IFRS and US GAAP both permit a choice between the equity method and
B)
proportional consolidation.
IFRS requires that the equity method be used; US GAAP permits a choice between
C)
the equity method and proportional consolidation.
Relative to consolidation, using the equity method of accounting for investments results in:
A) ROA being lower and leverage being higher than under consolidation.
B) ROA being higher than under consolidation.
C) ROA being higher and leverage being higher than under consolidation.
Fiduciary Investors held two portfolios of marketable securities:
$50 million in Portfolio A was accounted for as Fair value through profit or loss.
$50 million in Portfolio B was accounted for as amortized cost securities.
Assume that Fiduciary reclassified securities ($10 million carrying value, $8 million market
value) from Portfolio B into Portfolio A. If no previous write downs were made, Fiduciary
must:
A) charge $2 million to its income statement.

B) do nothing to its income statement or equity section of its balance sheet.
C) charge $2 million to the equity section of its balance sheet.
Alpha Inc. owns 70% of the outstanding shares of Beta Inc. Compared to the debt-to-equity
ratio under the partial goodwill method, Alpha's debt-to-equity ratio under the full goodwill
method is most likely be:
A) the same.
B) lower.
C) higher.
Birch Corporation is a large conglomerate based in the U.S. that has grown primarily
through acquisition. On the first day of this reporting year, January 1, 2012, Birch acquired
1,500,000 shares of the common stock of TRQ Inc. TRQ Inc. produces high quality fabrics for
use in the fashion industry. Exhibit 1 shows key numbers from TRQ Inc.'s accounts.
Exhibit 1 - TRQ Financial Statement Extracts
TRQ Inc
Income – year ending 31 Dec 12 $700,000
Dividend paid $210,000
Number of common shares in issue 6,000,000
Number preferred shares in issue 3,000,000
Total number of shares in issue 9,000,000
Both Birch and TRQ prepare their accounts using US GAAP.
Dan Fitzroy is the CFO of Birch, and is currently preparing with a meeting with the auditors
to discuss the correct treatment of the TRQ investment in Birch's group accounts. Fitzroy is
of the opinion that the equity method of accounting should be used for the following
reasons:
1. The proportion of TRQ's common shares owned by Birch suggests that Birch has
significant influence over TRQ's operations
2. The lack of ownership of preferred shares suggests that Birch has no significant
influence over TRQ's operations
3. The proportion of TRQ's total shares owned by Birch suggests that Birch has
significant influence over TRQ's operations
Assuming the equity method of accounting is used, what will be the reported investment
income for Birch?
A) $60,000.00.
B) $175,000.00.
C) $115,000.00.
Assuming the equity method of accounting is used, what will be the cash flow received by
Birch, due to their investment in TRQ?
A) $65,400.
B) $227,500.
C) $52,500.
If the consolidation method is used, how much of TRQ's net income will Birch recognize in
the group income statement?
A) $122,500.
B) $175,000.
C) $700,000.
Which of Fitzroy's reasons would most likely support the equity accounting method being
appropriate for TRQ?
A) Reason 2.
B) Reason 1.
C) Reason 3.
Mustang Corporation formed a special purpose entity (SPE) for purposes of providing
research and development. An unrelated firm absorbs the expected losses of the SPE and
the independent shareholders of the SPE receive the expected residual returns. Is the SPE
considered a variable interest entity (VIE) according to FASB Interpretation No. 46(R) and is
consolidation required by Mustang, respectively?
A) Yes ; Yes.
B) No ; No.
C) Yes ; No.
Regarding accounting for joint ventures using the equity method or using proportionate
consolidation, it would be most accurate to state that:
the equity method results in a single line item on the income statement, and a
A)
single line item on the balance sheet.
both IFRS and US GAAP require the proportionate consolidation method be used to
B)
account for joint ventures.
total net assets of the investor will differ between proportionate consolidation and
C)
the equity method.
Assume that on the balance sheet date shown below TME Corporation acquires 70% of
Abcor, Inc. common stock for $25,000 in cash.
Pre-acquisition Balance Sheets
December 31, 2001

TME Corp. Abcor, Inc.
Current assets $80,000 $38,000
Other assets 28,000 15,000
Total assets $108,000 $53,000
Current liabilities $60,000 $32,000
Common stock 15,000 14,000
Retained earnings 33,000 7,000
Total liabilities and equity $108,000 $53,000
What will be the post-acquisition current ratio, using both the acquisition method and the
equity method, respectively, for TME? The choices below represent Acquisition and Equity,
respectively.
A) 1.01, 0.92.
B) 1.21, 1.02.
C) 1.04, 1.11.
Using the acquisition method to account for the acquisition, what will be the post-acquisition
current assets of TME?
A) $93,000.
B) $118,000.
C) $105,000.

Using the acquisition method to account for the acquisition, which of the following is closest
to the post-acquisition amount that will be recorded as the minority interest under US
GAAP?
A) $6,300.
B) $10,700.
C) $21,000.
Luna Life Insurance is a publicly traded corporation with total assets in excess of $500
million. Joy Manning, CFA, has served as Luna's chief investment officer for the past decade.
Recent poor performance of Luna investment portfolio has led to the formation of a special
task force to review Luna's investment holdings as well as its operating policies. The task
force is composed of two current Luna board members (who are not employees of Luna)
and three independent investment professionals. Their assignment is to thoroughly review
Luna's financial statements for evidence of impropriety or mishandling of corporate assets.
The task force is expected to complete their review within one month and report back to
Luna's board of directors shortly thereafter.
Luna's most recent financial statements reflect approximately $200 million in various equity
holdings and $100 million in debt instruments. A broad classification of the portfolio (in
millions of $) as of December 31, 2006 is as follows:
Held-to-Maturity Available-for-Sale Trading
Equity $0 $125 $75
Debt $50 $25 $25
In the footnotes, there is a reference to $10 million of available-for-sale securities that were
transferred to the held-to-maturity portfolio last year. The securities were transferred at fair
market value, and an unrealized loss of $1 million was included in that period's income.
Several members of the task force believe the transaction deserves further analysis to
determine if the securities' transfer between portfolios was executed in accordance with
SFAS 115, "Accounting for Certain Investments in Debt and Equity Securities" as Manning has
represented.
Also, in 2006, Luna transferred $5 million of shares in ABC Corp from the available-for-sale
portfolio to the trading portfolio. In association with this transaction, $1 million in unrealized
gains were included in the year's income. The task force observes that after the transfer,
there are $2.5 million of ABC Corp remaining in the available-for-sale portfolio. Manning has
stated that the firm's desire to reduce exposure to the equity market was the reason for
selling only a portion of the position in ABC Corp.
In addition, the group is performing its own analysis on the impact of last year's acquisition
of a 20% stake in Instate, a regional provider of commercial insurance. Instate reported $15
million in earnings for the year ending December 31, 2006, and paid approximately $1
million in dividends. Manning directed Luna's accountants to record the purchase using the
equity method, and thus has included a proportional share of Instate's net income for the
year. The acquisition was effective as of January 1st of 2006, and operating results for the
investment stake in Instate are incorporated into Luna's 2006 financial statements. The
group will perform basic analysis both with and without the operating results of Instate in
order to better evaluate what financial impact the inclusion of Luna's results had on Instate's
overall performance.
Which of the following investments would most likely be reported under the equity method?
An investment in 80% of the equity of an entity that gives the owner control over
A)
that entity.
An investment in 40% of the equity of an entity that gives the owner control over
B)
that entity.
An investment in 5% of the equity of an entity that gives the owner significant
C)
influence over that entity.
Luna has recorded its investment in Instate utilizing the equity method of accounting for
intercorporate investments. According to FASB, which of the following statements most
accurately reflects the impact on an investor's financial statements by using the equity
method?
The investing firm can include a proportionate share of the investee’s income in its
A)
earnings, regardless of whether or not there are actual cash flows (i.e. dividends).
Market values can be compared with the carrying amount for analysis purposes, but
B)
only market values may be used in the financial statements.
The investing firm will not make any adjustments to its financial statements to
C) reflect its proportionate share of the investee’s net assets, but will reference the
investment in the footnotes.
The Anderson Company acquired 100,000 shares of the Birschbach Company on January 1,
2012, at $25 per share. The market price of a share of Birschbach stock on December 31,
2012, was $35 per share. During 2012, Birschbach paid dividends of $1.50 per share and had
earnings of $2.50 per share.
The Anderson Company did not buy or sell any additional shares in 2013. The market price
of Birschbach stock on December 31, 2013 was $42.50 per share. During 2013 Birschbach
paid dividends of $1.75 per share and had earnings of $2.25 per share.
If Anderson Company accounts for the Birschbach Company shares as classified as fair value
through OCI, the carrying amount of these shares on Anderson's balance sheet at the end of
2012 is:
A) $3.5 million.
B) $2.5 million.
C) $2.6 million.
If Anderson Company accounts for the Birschbach Company shares using the equity
method, the carrying amount of these shares on Anderson's balance sheet at the end of
2012 is closest to:
A) $2.8 million.
B) $2.6 million.
C) $3.5 million.
For the year 2012, the investment income that Anderson Company reports on its investment
in Birschbach Company shares, if Anderson classifies the shares as fair value through OCI, is:
A) $250,000.
B) $150,000.
C) $100,000.
If Anderson Company accounts for the Birschbach Company shares using the equity
method, the change in carrying value from 2012 to 2013 is closest to:
A) +$2,650,000.
B) +$50,000.
C) +$225,000.
Prior to 2007, Company X (reporting under U.S. GAAP) had never made any acquisitions of
other companies. However, on January 2, 2007, it went on a buying spree, purchasing 10% of
Company A for $10,000; 30% of Company B for $20,000; 40% of Company C for $80,000; and
70% of Company D for $168,000.
Below are the balance sheets for the five companies (in thousands) just prior to the
purchase.
Company X A B C D
Cash 400 10 20 30 40
Other assets 1,600 90 180 270 360
Total assets 2,000 100 200 300 400
Liabilities 300 40 80 120 160
Equity 1,700 60 120 180 240
Total 2,000 100 200 300 400
During 2007, the companies generated the following sales, income, and dividends:
Company X A B C D
Revenue 2,000 100 200 300 400
Net income 200 10 20 30 40
Dividends 4 8 12 16
The company accounts for the acquisitions based on typical ownership proportion
guidelines. Investment in financial assets are classified as FVOCI.
After the acquisitions, the liabilities reported by Company X will be:
A) $300,000.
B) $480,000.
C) $460,000.
After the acquisitions, minority interest reported by Company X will be:
A) $168,000.
B) $0.
C) $72,000.
Company X will report revenue for 2007 of:
A) $2,280,000.
B) $2,000,000.
C) $2,400,000.
The change in the investment in the associates account (the account that reflects all non-
consolidated investments in other companies) between January 3 and December 31 is:
A) $11,400.
B) $10,800.
C) $27,600.
GTH Corporation has just purchased 18% of the common stock of Pittor Corporation, one of
their major suppliers, making GTH the largest single shareholder in Pittor. The primary
motivation for the purchase is that managerial problems at Pittor have resulted in quality
control difficulties, thereby affecting the reliability of several critical component parts for
GTH products. At the time of the purchase, GTH management announced they plan to be an
active investor and exercise significant influence on Pittor so the quality problems can be
resolved. Given these circumstances, the accounting method used to record the
intercorporate investment will most likely be the:
A) equity method.
B) acquisition method.
C) investment in financial assets method.
Which of the following statements regarding special purpose entities (SPEs) is least accurate?
According to U.S. GAAP, if a SPE is considered a VIE, it must be only consolidated by

A)
the primary beneficiary.
According to U.S. GAAP, a special purpose entity is classified as a variable interest
B) entity (VIE) if it has at-risk equity that is sufficient to finance its own activities without
additional financial support.
Under IFRS, a special purpose entity must be consolidated by the entity which
C)
exercises control over that entity.
Which of the following methods of accounting for investments will reflect the highest assets
and liabilities on a company's balance sheet?
B) Equity method.
C) Both methods result in reporting the same balances for assets and liabilities.
Acme Corporation purchases a 3% interest in Bandy Company to become the single largest
shareholder of Bandy. Acme will hold a seat on the Board of Directors of Bandy. Acme will
account for its investment in Bandy using the:
A) equity method.
B) lower of cost or market method.
C) acquisition method.
Under IFRS, where an investor owns a significant number (39%) of the voting shares of an
investee but has no involvement in policy making and no Board of Directors' representation,
which of the following investment classifications is most appropriate to characterize the
situation?
A) Investment in financial assets.

B) Significant influence.
C) Investment in associates.

Equity method is:
A) required under IFRS and under U.S. GAAP for jointly controlled entities.
recommended under U.S. GAAP for jointly controlled entities, but is not normally
B)
permitted under IFRS.
C) recommended under IFRS and U.S. GAAP for jointly controlled entities.
Firm A recently leased equipment used in its manufacturing plant. If the leased asset is
worth less than $100,000 at the end of the lease, Firm A will pay the lessor the difference.
Firm B provided debt financing to an unrelated entity. The debt has a provision whereby
Firm B cannot be repaid until all other senior debt is satisfied.
Do Firm A and Firm B have a variable interest?
A) Both have a variable interest.

B) Only one has a variable interest.
C) Neither have a variable interest.
On December 15, 2009, the Zeisler Company faces a financial crisis. Zeisler's industry has
gone into recession and net income has declined to nearly zero. Jeremiah Welch, the
company's CFO, is extremely concerned that, when the final figures for 2009 come in, the
poor operating results will throw the firm into violation of its debt covenants, which specify
that it must meet a certain return on assets (ROA) and not exceed a certain debt-to-asset
ratio. A violation of either covenant would trigger a provision in the lending agreement
allowing lenders to put Zeisler's debt back to the firm and likely force Zeisler into
bankruptcy.
With only two weeks before the close of the firm's fiscal year on December 31, there is no
way to avoid bankruptcy through improved operations. Welch calls an emergency meeting
with Olivia Dupree, the firm's controller, to come up with a plan of action to keep Zeisler out
of bankruptcy. He explains to Dupree that they need to increase Zeigler's reported ROA and
reduce its reported debt-to-assets ratio relative to the numbers that would otherwise be
reported for 2009.
Dupree suggests that Zeisler's equity investments might be useful in staving off bankruptcy.
Zeisler acquired 100,000 shares of the Market Square Corporation on January 1, 2009, at $25
per share.
Market Square paid dividends during 2009 of $1.50 per share and was expected to have
earnings for 2009 of $2.50 per share. Zeisler also holds 250,000 shares of General Nuclear,
purchased for $72 per share. General Nuclear has no dividends and is expected to report a
loss for 2009. Both securities are classified on the financial statements as FVOCI.
Dupree left the meeting with Welch for a moment to check the stock market. She found that
Market Square was trading at $35 per share and General Nuclear was at $43.
What is the investment income that Zeisler Company will report for the year 2009 on its
investment in Market Square Corporation shares if it continues to account for the shares as
an FVOCI investment?
A) $150,000.
B) $200,000.
C) $250,000.
If Zeisler were to account for the Market Square Corporation shares as FVPL, assuming that
the securities do not change in value between the December 15th meeting and the end of
the year, the carrying amount of these shares on Zeisler's December 31, 2009 balance sheet
would be:
A) $2.50 million.
B) $2.75 million.
C) $3.50 million.

If Zeisler reclassified the common stock of General Nuclear as FVPL, what effect would it
have on Zeisler's 2009 income statement?
Reclassifying the security would have no effect on the income statement because
A)
gains and losses would be recognized in equity.
B) Net income would increase.
C) None, reclassification is prohibited under IFRS 9.
If Zeisler were to account for the Market Square Corporation shares using the equity
method, assuming that the securities do not change in value between the December 15th
meeting and the end of the year, the carrying amount of these shares on Zeisler's December
31, 2009 balance sheet would be:
A) $2.75 million.
B) $2.60 million.
C) $3.50 million.
Last year, Parent Company acquired Sub Company for $2,000,000. On the date of
acquisition, the fair value of Sub's net assets was $1,700,000.
At the end of the year, the fair value of Sub is $1,950,000, and the fair value of Sub's net
assets is $1,775,000. If the carrying value of Sub is $1,980,000, the impairment loss under
U.S. GAAP is closest to:
A) $30,000.
B) $125,000.
C) $0.
Global Life Insurance (GLI) holds a wide range of assets in a range of different portfolios
across its various divisions. Some of these assets are held long term to meet future
liabilities, whereas others are held short term to make profits and meet shorter term
liquidity needs.
GLI set up a small portfolio of U.S. equities in one of its smaller divisions last year. GLI's chief
investment officer has recently contacted the accounting department to discuss the correct
treatment of the portfolio in the group accounts.
Details of the portfolio's transactions and results for the previous period are shown below in
Exhibit 1.
Exhibit 1 - Equity Portfolio Results
2013 Q1 2013 Q2 2013 Q3 2013 Q4
Shares purchased (sold) 1,000 (200) 700 0
Total shares quarter-end 1,000 800 1,500 1,500
Purchase price 50.00 45.00
Sale price 45.00
Quarter-end market price 52.00 43.00 52.00 60.00
Total dividends 500 400 750 750
The chief investment officer's also provides the following extract from the portfolio's
investment policy statement:
IPS Extract
1. The portfolio should consist solely of U.S. mid-cap equities.

2. The number of transactions in the portfolio should be kept to a minimum. Shares
should not be purchased on a speculative basis for short term profits.
3. The anticipated average holding period for securities in the portfolio is 3.5 − 4 years.
4. Securities should only be sold to meet urgent liquidity needs.
Another reporting issue the accounting department is looking at concerns a fixed income
portfolio. An overview of the portfolio is given in Exhibit 2:
Exhibit 2 – Fixed Income Portfolio
Par Value $25,000,000
Coupon rate 5% (paid semi-annually)
Current Market Value $27,000,000

The portfolio consists of $1000 par value, 5 year bonds issued by RTF Inc. They were
purchased on the date of issue 1st January 2012 for $25,893,577. For the year ending 31st
December the bonds were carried at amortized cost.
The chief investment officer believes a more appropriate classification would be fair value
through profit or loss, as he is not convinced the bonds will be held for the remaining 3
years.
What is the income from the equity portfolio if the securities are classified as FVPL?
A) $19,900.
B) $20,900.
C) –$6,600.
What is the balance sheet carrying value of the securities under each of the classifications at
year-end?
FVPL FVOCI
A) $71,500 $71,500
B) $90,000 $71,500
C) $90,000 $90,000
If the fixed income portfolio outlined in Exhibit 2 is remains classified as amortized cost,
which of the following is closest to the interest income reported in the income statement for
the year ending 31st December 2013?
A) $1,079,000.
B) $1,086,000.
C) $1,088,000.
If the bonds are reclassified as suggested by the chief investment officer, which of the
following statements is most likely correct?
The difference between the amortized cost and fair value will be shown in other
A)
comprehensive income.
The difference between the amortized cost and fair value will be shown in net
B)
income.
The difference between the purchase price and fair value will be shown in other
C)
comprehensive income.
Maverick Incorporated formed a special purpose entity (SPE) to purchase and lease a 50,000
acre ranch. The SPE financed 95% of the purchase price with debt. The remaining 5% was
financed with equity capital received from two separate independent investors. The lender
would not make the loan without Maverick's guarantee. How should Maverick treat the SPE
in its financial statements if Maverick is the lessee?
A) No firm must consolidate the SPE.

B) Maverick must consolidate the SPE.
C) Each equity investor must proportionately consolidate the SPE.

On December 31, 2008 Company P invests $5,000 in Company S in exchange for 25% of the
company. During 2009, Company S earns $2,000 and pays a dividend of $500. If Company P
uses the equity method of accounting, what values will be reported on the balance sheet
and income statement? How much cash will be recognized from the investment?
Income
Balance Sheet Cash
Statement
A) $5,375 $125 $125
B) $5,375 $500 $125
C) $5,500 $0 $0
Mashburn Company acquired 25% of the 100,000 outstanding shares of Humm Co. on
January 1 for $250,000 in cash. Humm Co. earned $1 per share and had a dividend payout
ratio of 40%. As of December 31, Humm Co. shares were trading in the open market at $12
per share. Calculate the income statement treatment of the Humm Co. investment as of
December 31.
A) $10,000.
B) $75,000.
C) $25,000.
Company X owns 15% of company S and exerts significant influence over the operations of
the company. The book value of the investment on December 31, 2001, is $48,000. In 2002,
company S earned $100,000 and paid dividends of $20,000. The value of the investment
account on December 31, 2002, is:
A) $48,000.
B) $60,000.
C) $63,000.
Carter Schmitz, Inc. (Schmitz) purchased 200 shares of Intelismart at $21 a share in June
2006 and classifies 80 shares as fair value through profit or loss securities and holds the
remaining 120 shares as classified as fair value through OCI. Intelismart's closing price was
$26 on December 31, 2006, and Schmitz did not sell any of its shares.
What amount should Schmitz report on this investment under the income statement?
A) $400.
B) $600.
C) $1,000.
Rocky Mountain Air Cargo is a privately held commercial aviation company serving the
western United States. It publishes financial statements in accordance with U.S. GAAP and
uses a fiscal year that matches the calendar year.
Rocky Mountain was in good financial shape heading into 2003, with assets of $50 million at
the beginning of the fiscal year. That year, it earned $3 million in net income and was easily
able to maintain its traditional 50% dividend payout ratio. However, Rocky Mountain had a
very difficult year in 2004, reporting a loss of $800,000. It managed to pay $1 million in
dividends, but the decision to pay dividends in such a weak financial year further
undermined the company's fiscal stability.
Flitenight Air Lines, a publicly-traded aviation firm serving the central and Midwestern
United States, wanted to expand its range of service by coordinating its flight schedule with
airlines serving different geographic regions of North America. One of these airlines was
Rocky Mountain Air Cargo.
To cement the relationship, Flitenight's CEO, John "Bulldog" Basten, decided to make a
significant investment in Rocky Mountain Air Cargo. He was easily able to convince both
boards of the wisdom of the deal, and, in his usual brash style, personally negotiated the
terms with his counterpart at Rocky Mountain, Buck Matthews. Flitenight Air Lines acquired
a 20% stake in Rocky Mountain Air Cargo (with an option to purchase 40% more) for $10
million cash. The deal closed on January 1, 2003 and Flitenight accounted for the investment
using the equity method.
Basten was not happy to find that he had invested right at the peak of Rocky Mountain's
profitability and wound up with a money-losing airline. He had a difficult conversation with
Matthews in early 2005, complaining about the impact of the Rocky Mountain investment on
Flitenight's financials. Basten pointed out that he had a loss on his books: the original $10
million investment in Rocky Mountain was carried at only $9,940,000 on Flitenight's
December 31, 2004 balance sheet. Matthews countered that this was just an accounting
entry: on a cash basis, Flitenight had a gain of 5% on its investment over the two years.
Matthews' insistence that the investment had earned money for Flitenight did not sit well
with Basten. Basten decided that Rocky Mountain was clearly being mismanaged and
concluded it was time to gain control of the company.
Basten notified Matthews and Rocky Mountain's board that Flitenight intended to exercise
its option. At the direction of Basten and Glenn, Flitenight purchased the additional shares
for cash and gained control of Rocky Mountain on December 31, 2004.
In 2003, Flitenight would reflect its investment in Rocky Mountain on its income statement
by recording:
A) $300,000.
B) $600,000.
C) −$200,000.
If Flitenight were to account for its Rocky Mountain investment as an investment in financial
assets instead of the equity method, Flitenight's 2004 income statement would reflect its
investment in Rocky Mountain by including which of the following?
A) Nothing, since the cost of the acquisition is not adjusted until the asset is sold.
B) Only income of $200,000.
C) Only a loss of $160,000.

Under the acquisition method, minority interest is considered:
A) a liability under IFRS and US GAAP.

B) equity under IFRS and a liability under US GAAP.
C) equity under IFRS and US GAAP.
Regarding Basten's and Matthews' statements about the gain/loss that Flitenight had at the
end of 2004 on its investment in Rocky Mountain, which is most accurate?
A) Basten’s statement is correct and Matthews’ statement is incorrect.

B) Basten’s statement is incorrect and Matthews’ statement is correct.
C) Basten’s statement is correct and Matthews’ statement is correct.
Which of the following statements regarding asset securitizations and special purpose
entities (SPEs) is most accurate?
When receivables are securitized, the sponsor reports the cash inflow as an
A)
investing activity in the cash flow statement.
B) The SPE usually issues debt to purchase receivables from the sponsor.
If the sponsor has no recourse, then the transaction is nothing more than a
C)
collateralized borrowing.
Joseph Haggs, CFA, is an analyst working for Garvess Jones, a large publicly traded
investment-banking firm. Haggs covers the internet sector. Recently, one of the more
successful companies Haggs covers, Simpson Corporation, made an aggressive move to
acquire another internet company, Bailey Corporation (BC). BC is a company specializing in
graphics and animation on the World Wide Web and has 1,000,000 shares outstanding.
Simpson also holds minimal investments in other technology companies both public and
private. In 1999 Simpson saw an opportunity to substantially increase its share in BC.
Simpson feels that their sophisticated animation can greatly improve Simpson's market
share and sees an acquisition as an opportunity to expand their business. The relevant
financial data are in the following tables.
Bailey Corporation
Selected Financial Data, Years Ended December 31
(in Thousands)
Item 1998 1999 2000
Sales $50,000 $60,000 $70,000
Less: cost of goods sold

37,000 43,700 47,250
(COGS)
Earnings before interest &

13,000 16,300 22,750
taxes (EBIT)
Less: Interest 10,000 13,000 19,000
EBT 3,000 3,300 3,750
Less: Taxes 1,000 1,100 1,250
Net Income $2,000 $2,200 $2,500
Dividends Paid $1,000 $1,200 $1,500
Total Shares Outstanding 1,000,000
Simpson's Purchase Transactions in BC's Stock
Date January 1, 1998 January 1, 1999 January 1, 2000
Number of Shares 10,000 290,000 700,000
Price per Share 10 11 15
Because this is the largest acquisition in Simpson's history, Mr. Haggs' supervisor has asked
him to prepare a report for Garvess Jones' clients detailing the effects of the acquisition on
Simpson's financial statements.
Haggs wonders which accounting method Simpson uses to calculate the book value of the
BC investment for the year ending December 31, 1999. Which is the correct method?
A) Equity method.
C) Investment in Financial Assets method.
A) Investment in Financial Assets method.

B) Equity method.
C) Acquisition method.
A) Equity method.
C) Proportional consolidation method.
Haggs wants to make sure that he assumes the proper accounting method when he does his
analysis. The acquisition of BC stock will lead to Simpson's total net cash flow equaling which
of the following for the year ending December 31, 1999?
A) $360,000.
B) $−2,830,000.
C) $−3,190,000.

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Evergreen Brothers is a large producer of bedding plants and shrubs that are sold to various

An SPE can be established as one of several legal forms, such as corporations,

Question #2 - 4 of 84 Question ID: 1472432

According to US GAAP, if an SPE is to be considered a variable interest entity (VIE), it must

Question #3 - 4 of 84 Question ID: 1472433

Question #5 of 84 Question ID: 1472379

Question #6 of 84 Question ID: 1472356

Question #8 of 84 Question ID: 1472426

A) Barrett’s leverage would decrease and receivable turnover would increase.

Question #9 of 84 Question ID: 1472346

Question #10 of 84 Question ID: 1472387

Question #11 of 84 Question ID: 1472404

I. The acquisition method.

Question #12 of 84 Question ID: 1472386

A) Both methods report the same net income.

Question #13 of 84 Question ID: 1586039

Question #14 of 84 Question ID: 1586031

Question #15 - 18 of 84 Question ID: 1472348

Question #16 - 18 of 84 Question ID: 1472349

A) Fair value through profit or loss or amortized cost.

Question #17 - 18 of 84 Question ID: 1472350

A) debt security only if the business model has changed.

Question #19 of 84 Question ID: 1472418

Question #20 - 21 of 84 Question ID: 1472353

A) Income and stockholder's equity will rise by $200,000.

Question #22 of 84 Question ID: 1586030

A) The pooling of interest method.

Question #23 of 84 Question ID: 1472419

A) implied value of goodwill is less than book value of goodwill.

Question #24 of 84 Question ID: 1472425

The organizational form of a VIE must be either a partnership or a joint

A) Only one is correct.

Question #25 of 84 Question ID: 1586038

The consolidation method results in:

Question #26 of 84 Question ID: 1472416

Accounting standards for intercorporate investments establish different categories of

A) and equity securities classified as fair value through OCI.

Question #28 of 84 Question ID: 1586033

Question #29 of 84 Question ID: 1472427

The sponsor usually maintains the decision-making power and voting

A) Only one is correct.

Question #30 of 84 Question ID: 1472368

Company A acquired a 50% stake in Company T on January 1, 2003 by paying T's

Current assets $400,000 $60,000

Fixed assets 600,000 100,000

Total $1,000,000 $160,000

Current liabilities $50,000 $ 30,000

Common stock 350,000 60,000

Retained earnings 600,000 70,000

Total $1,000,000 $160,000

A) $1,060,000 and $1,095,000.

Question #31 - 33 of 84 Question ID: 1472373

Assuming no significant influence exists, which of the following statements concerning

Question #32 - 33 of 84 Question ID: 1472374

Question #33 - 33 of 84 Question ID: 1472375

Question #34 of 84 Question ID: 1472355

Fiduciary Investors held two portfolios of marketable securities:

A) charge $2 million to its income statement.

Exhibit 1 - TRQ Financial Statement Extracts

Income – year ending 31 Dec 12 $700,000