- CFA Exams
- CFA Level I Exam
- Study Session 5. Financial Reporting and Analysis (1)
- Reading 13. Intercorporate Investments
- Subject 3. Investments in Associates
CFA Practice Question
Southern Corp. purchases an investment in Morton Inc. at a purchase price of $1million, representing 30% of the value of Morton. During the year, Morton reports net income of $100,000 and pay dividends of $40,000. At the end of the year, the market value of Southern's investment is $1.2 million. Southern will report investment income of
A. $40,000
B. $12,000
C. $30,000
Explanation: Equity earnings are computed as the reported net income of the investee company multiplied by the percentage of the outstanding common stock owned.
% investee income earned: 30,000 ($100,000 x 0.3).
User Contributed Comments 6
| User | Comment |
|---|---|
| dimanyc | Not sure why we are not subtracting a proportion of the dividend from this amount. I thought 30-12=18 makes more sense. |
| tany | Hi dymanic, I think it is because of the wording of the question. If they ask for investment income, they want just %income received, if they mention the investment account, then they want %(income-dividend) - i guess.. |
| C2inOC | Sounds logical |
| dblueroom | Actually there shouldn't be such distinction, both dividend and proportionate share of NI are both related to investment income. This is a trick. |
| dblueroom | never mind my previous comment. Quote "Under euqity method, dividends are treated as a return of investment (reduce the investment balance), and NOT as Income." Only for passive investment dividends will be recognized as part of income. So it has nothing to with wording, it's the equity method. |
| LyncKidd | Dividends are a return on investment and impact the investment account on the balance sheet. |