LAB 1 CHAPTER 1

In 2014, Babcock Industries, a calendar year corporation, acquired a 10% interest in Caraway, Inc. for $100,000. Babcock used the fair value method to account for the investment which it classified as available for sale. At the beginning of 2017, Babcock acquired an additional 25% of the outstanding common stock of Caraway for $250,000. The following additional information is available at the date of purchase related to Caraways activity for the years 2014-2016:

Cumulative dividends paid by Caraway $150,000

Cumulative income reported by Caraway $400,000

Cumulative fair value adjustment in Babcocks balance sheet $ 35,000

Caraways balance sheet on the date of the additional purchase is as follows:

Accounts receivable $100,000 Mortgage payable $200,000

Inventories 200,000

Building 400,000 Stockholders equity 500,000

Total assets $700,000 Total liabilities and equity $700,000

Babcock based its price for the additional 25% investment on the fact that Caraway has a patent that Babcock estimates is worth $500,000. The patent will expire in 10 years.

Subsequent to the investment, Caraway reports earnings of $200,000 and pays $90,000 in dividends. In addition, Babcock sells inventories to Caraway that cost $50,000 for a sales price of $80,000. At the end of 2017, 60% of the inventories are still held by Caraway.

REQUIRED:

Provide all journal entries needed to record each of the following

Change from fair value method to equity method for the original investment (since the change occurs in 2017, the provisions contained in ASU 2016-07 will apply)

Caraway reports total earnings of $200,000 for 2017

Babcock adjusts Caraways earnings for amortization of the patent

Babcock adjusts Caraways earnings for deferral of gross profit on the intercompany inventory sale

Caraway pays total dividends of $90,000

Indicate the amounts that will appear in Babcocks income statement and balance sheet related to its investment in Caraway