Company P owns a 30% interest in Company S and accounts for the investment under the sophisticated equity method.The investment was purchased at underlying book value, and there is no excess of cost or book value.Company S sells merchandise to Company P at cost plus 25%.Intercompany sales during 20X1 were $100,000.There were $20,000 worth of such goods in Company P's beginning inventory and $30,000 worth of such goods in Company P's ending inventory.Company S's reported income for 20X1 is $40,000, and no dividends were paid.What amount will Company P record as investment income in 20X1?
A)$12,000
B)$11,400
C)$9,750
D)$4,500

Question

Company P owns a 30% interest in Company S and accounts for the investment under the sophisticated equity method.The investment was purchased at underlying book value, and there is no excess of cost or book value.Company S sells merchandise to Company P at cost plus 25%.Intercompany sales during 20X1 were $100,000.There were $20,000 worth of such goods in Company P's beginning inventory and $30,000 worth of such goods in Company P's ending inventory.Company S's reported income for 20X1 is $40,000, and no dividends were paid.What amount will Company P record as investment income in 20X1?
A)​$12,000
B)​$11,400
C)​$9,750
D)​$4,500

Quizplus · Accepted Answer

The investment income to be recorded by Company P will be computed as follows:

Company P's share in Company S's income = 30% x $40,000 = $12,000

Intercompany sales that affect consolidated net income = ($100,000 - $20,000 + $30,000) x 25% = $27,500

Elimination entry for intercompany sales:

- Sales revenue (Company S) = $100,000
- Cost of goods sold (Company P) = $77,500
- Investment income (Company P) = $11,400 ($12,000 - $27,500)

Therefore, the answer is B) $11,400.

Company P Owns a 30% Interest in Company S and Accounts