KLM purchased some shares of one of its suppliers, XYZ Co., as an investment. KLM paid $140,186 for the shares. Although management plans to hold this investment for the long-term, the company may need to sell it in the future for liquidity purposes. Jack and Jim also think that making investments in some of their other suppliers can be a good way to ensure quality and consistency in the components they buy from these suppliers. Because many of its suppliers are public companies, it should be fairly easy for KLM to buy shares on the open market.
Jack and Jim mention that they might go so far as to buy 10-15% of the common stock of one of their main suppliers and up to 30%- 80% of the common stock of another supplier of routers, which are a critical piece in the KLM system. They want you to help them understand whether it makes a difference if they buy just 10-15% or if they buy 30%-80% of these suppliers' shares. Both these suppliers have been around for a while, and with very few exceptions, the parts ordered from them have been of high quality and delivered on time; Jack and Jim tell you that if they do buy these stocks, they anticipate holding them for a long time.
Instructions Use the investment in XYZ Co. to illustrate the accounting and financial reporting implications of an equity investment in a supplier. While the growth prospects for XYZ are quite good, in the current year it reported a net loss of $120,000 and paid cash dividends of $24,000. The fair value of the XYZ shares is $150,000 at year-end. Prepare journal entries for the XYZ investment, assuming:
1. KLM's investment represents 10% of XYZ shares.
2. KLM's investment represents 30% of XYZ shares.
3. KLM's investment represents 80% of XYZ shares. Indicate the differential effect on income and balance sheet between the accounting for the conditions under assumptions 1,2 and 3.
Indicate Is it better for the company KLM to invest 10% or 30% or 80% in short- time or long time and why? II. Jack and Jim have heard that as long as they do not hold more than 20% of the shares of one of these suppliers, they are able to recognize the unrealized gains on these equity investments in income. Prepare a memorandum to Jack and Jim with references to the authoritative literature on the accounting for equity investments of less than 20% ownership. Discuss other factors beyond the percentage of shares owned that should be considered in determining the accounting for investments if they hold at least 20% but less
than or equal to or greater than 50% of the stock of another company. Support your answer from FASB statement(s), List all URL used and follow APA style. Gide for part one solution
(a) Stock investment in XYZ of 10% of the outstanding voting stock:
DR For investment 1, Is any effect on income statement or not For investment 2, above, there would be any effect on net income. CR