Parent Company (ParentCo) has sales in excess of $1 billion. Equity Company (EqCo) provides products to ParentCo.

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Question:

Parent Company (ParentCo) has sales in excess of $1 billion. Equity Company (EqCo) provides products to ParentCo. As of the beginning of the year (we’ll say January 1), EqCo’s statement of financial position reflected the following:

Total assets.............................................................................. ...................................................... $100,000,000

Total liabilities.............................................................................. ........................................................... 60,000,000

Total shareholders’ equity.............................................................................. ........................................................... 40,000,000

Number of common shares outstanding.............................................................................. ........................................................... 24,000,000

Effective January 1, ParentCo purchased 6,000,000 shares of EqCo’s common stock from two shareholders, giving ParentCo a 25% ownership interest in EqCo. ParentCo paid $5.00 per share for the stock it purchased. All of the excess value is attributed to goodwill (there are no other intangible assets and the book value of all existing assets is determined to be equal to fair value).

1. Prepare the journal entry that ParentCo should record to recognize its purchase of the EqCo shares.

2. On July 1 (six months after the share purchase), EqCo paid a dividend of $0.50 per share to its shareholders. ParentCo received the cash dividend on July 1.

Prepare the journal entry to record the receipt of the dividend by ParentCo. (Do not prepare a journal entry for EqCo.)

3. At the end of the year (December 31), EqCo reported total net income of $24,000,000, with earnings per share of $1.00.

Prepare the journal entry ParentCo should record to recognize EqCo’s reported net income. If you believe that no journal entry is necessary, respond “NONE.”

4. Soon after you prepared the journal entry in #1, you learn that EqCo owns some land that has dramatically increased in value. As of January 1, when EqCo was acquired, its book value was $2,000,000, and its market value was $20,000,000, and $18,000,000 increase in value.

Revise, if necessary, your journal entry in question #1 and show the revised journal entry below. If no adjustment is necessary, write “No Adjustment.” (Do think carefully before you write “No Adjustment.”)