BUSINESS ADMINISTRATION
FINANCIAL ACCOUNTING
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Question
[CLICK ON ANY CHOICE TO KNOW THE RIGHT ANSWER]
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Only the fair value method may be used.
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Only the equity method may be used.
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Either the fair value method or the equity method may be used, depending upon the relationship between the companies.
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Neither the fair value method nor the equity method may be used, regardless of the level of ownership.
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Detailed explanation-1: -When a company holds approximately 20% to 50% of a company’s stock, it is considered to have significant influence. Companies with less than 20% interest in another company may also hold significant influence, in which case they also need to use the equity method.
Detailed explanation-2: -Which method of accounting will generally be used when one company purchases less than 20% of the outstanding stock of another company? Either the fair value method or the equity method may be used, depending upon the relationship between the companies.
Detailed explanation-3: -A purchasing company that owns less than 20% of the outstanding stock of the investee company, and does not exercise significant influence over it, uses the cost method.
Detailed explanation-4: -If less than 20% of the stock is acquired and no significant influence or control exists, the investment is accounted for using the cost method. If 20–50% of the stock is owned, the investor is usually able to significantly influence the company it has invested in.
Detailed explanation-5: -If, however, the investor has less than 20% of the investee’s shares but still has a significant influence in its operations, then the investor must still use the equity method and not the cost method.