1、On both December 31, Year 1, and December 31, Year 2, Kopp Co.'s only marketable equity security had the same market value, which was below cost. Kopp considered the decline in value to be temporary in Year 1 but other than temporary in Year 2. At the end of both years the security was classified as an available-for-sale asset. Kopp could not exercise significant influence over the investee. What should be the effects of the determination that the decline was other than temporary on Kopp's Year 2 net available-for-sale assets and net income?

 

　　a. No effect on net available-for-sale assets and decrease in net income.

 

　　b. Decrease in net available-for-sale assets and no effect on net income.

 

　　c. Decrease in both net available-for-sale assets and net income.

 

　　d. No effect on both net available-for-sale assets and net income.

 

　　Explanation

 

　　Choice "a" is correct. In Year 1, the security would be written down to fair value. The unrealized holding loss would be reported in other comprehensive income. In Year 2, the unrealized holding loss would be removed from accumulated other comprehensive income and recognized in earnings as a realized loss since the decline is classified as other than temporary in Year 2. This Year 2 entry has no effect on available-for-sale assets and decreases net income by the amount of the realized loss.

 

　　Choice "d" is incorrect. In Year 2, the unrealized holding loss would be removed from accumulated other comprehensive income and recognized in earnings as a realized loss.

 

　　Choice "b" is incorrect. In Year 1, the security would be written down to fair value. The unrealized holding loss would be reported in other comprehensive income. In Year 2, the unrealized loss would be removed from accumulated other comprehensive income and recognized in earnings as a realized loss.

 

　　Choice "c" is incorrect. In Year 1, the security would be written down to fair value.
       2、　Penn, Inc., a manufacturing company, owns 75% of the common stock of Sell, Inc., an investment company. Sell owns 60% of the common stock of Vane, Inc., an insurance company. In Penn's consolidated financial statements, should consolidation accounting or equity method accounting be used for Sell and Vane?

 

　　a. Equity method used for both Sell and Vane.

 

　　b. Consolidation used for both Sell and Vane.

 

　　c. Equity method used for Sell and consolidation used for Vane.

 

　　d. Consolidation used for Sell and equity method used for Vane.

 

　　Explanation

 

　　Choice "b" is correct, in Penn's consolidated financial statements, consolidation accounting should be used for both Sell and Vane.

 

　　Rule: In a vertical chain, where parent co. owns more than 50% of subsidiary co., and subsidiary owns more than 50% of a third company, consolidate:

 

　　1. Third co. into subsidiary co.

 

　　2. Subsidiary co. (now consolidated with third co.) into parent co.