Please help me figure this one out: Investment in De Soto: Ownership 30% Cost Basis $125 Market Value $160 Reported Net Income $85 Dividends $5 Question: If the control is lost over De Soto due to litigation, what will be the effect on parent’s book value? Essentially this comes down to reclassification of the investment from Equity to Cost basis (specifically - to available for sale, because it is an equity investment and because the Parent does not classify any equity securities as “trading”). My calculation is as follows: Pre-loss-of-control book value of investment in De Soto (Equity basis): $125+0.3*$85 = $150.5 (minus any dividends) Post-loss-of-control book value of investment in De Soto(reclassification as available-for-trading) $160, because available for sale securities are recorded into equity at market value. Result: Book value increases. CFAI says: The litigation will preclude ACI from using the equity method. If De Soto is then classified under available-for-sale, book value per share could decrease because equity will not be increased by ACI’s share of De Soto’s income in excess of dividends. What gives?
The change in market value would be recorded either way. When transferred to available-for-sale, you would only record dividends and not the proportionate share of income.
uff, this part of the question was impossible…to conclude that bc the litigation i had to change to the AFS method was by far impossible
ChicagoPMA Wrote: ------------------------------------------------------- > The change in market value would be recorded > either way. When transferred to > available-for-sale, you would only record > dividends and not the proportionate share of > income. Why would you record the change in market value “either way”? I was under the impression that investments with significant influence are classified as equity and recorded on the books as: cost + share of income - share of dividends.
I agree with you. Book value should be 160 which > 145.5. I think CFAI is wrong on this one. Unless there are some rules hiding somewhere says unrealized gain is not part of book value. I never read this. Schweser says treat unrealized gain and loss as a separate component of shareholder’s equity.
I might actually be wrong on my reasoning. I got the question right on the mock but when I review my notes I think I see some discrepancy.
It should be recorded at market value of $160.
CFAI - I would like a $1 refund due to this bogus question you set up for me…
while were on mock 1 topic, should I have somehow known that in question 14 (same item set), when they were asking about reclassificagtion to debt securities, they meant debt to AFS, rather than debt to Trading?
Yes, they state in the vignette, that the firm does not classify any securities as trading securities.
they sure do, thanks!
if a security is transferred to HTM than it should be transferred to market value, any unrealised gains will be transferred to equity and subsequently amortised over the remaining life of the equity.