In the equity method, when we allocate the excess of purchase price to amortization, we record this excess both in the balance sheet and income statement. For example, lets assume that we (investor) own 25% of ABC and we paid $150,000 for the purchase price. ABC’s book value and fair value are equal except that its PPE is worth an additional $40,000 in the market. ABC’s book value is $80,000 and fair value is $120,000.ABC’s net income is $200,000 and pays dividends of $10,000. The PPE is depreciated over 5 years.
In the income statement, we record an investment revenue of $50,000, but we also need to record the amortization of the excess price for the PPE. We paid an additional of $40,000, so the $40,000 depreciated over 5 years is $8,000. Now my question is if we are responsible for the extra $40,000, why do record an amortization expense of $2000 (0.25*$8,000) per year rather than $8,000?
We record in the balance sheet an initial cost of $150,000+ $50,000 ( our portion of NI= 200,000+0.25) - $2500 (our portion of dividends= $10,000*0.25) -$2,000= $195,500. However, why does the depreciation of $2000 affect the investment value on our balance?
If the book value of ABC was $120,000, and the fair value was $80,000, would we record the excess of $40,000 on our balance sheet and income statement? If so, why if the ABC is already fully depreciating $120,000?
Thanks for your help