Case 13-7

You are an accountant for Davanzo Company. The president of the company calls you into her office and says, I want to ask you about two issues. First, we need to sell one of our investments to raise $1 million because I think I have found a better investment. We could sell the shares of Company X, which are currently worth $1 million even though they originally cost us $400,000. But I don't want to sell them because the company seems to be getting better all the time. Or we could sell the shares in that dog, Company Z. These shares are also worth $1 million, but they cost us $1.5 million, and I hate to admit we made such a big mistake. And then there's that loss. I don't want to report that. I am going to use the $1 million to buy about 20% of the shares of Company M, but I seem to remember that there is some accounting rule that might affect how much we buy. I was also wondering about buying some of Company M's convertible preferred stock so we can convert that into a large ownership position in the future. Let me know what you think. You are aware that Company M is a new company that is not yet listed on the stock market, has been making losses, and is expected to continue making losses for a few more years.

Required:

1. From financial reporting and ethical perspectives, discuss the issues raised by this situation.