Stock dividends on common stock should be recorded at
their fair value by the investor when the related investment is
accounted for under which of the following methods?
Cost Equity Fair value
(d) Regardless of the accounting method used, no dividend
revenue is recognized when an investor receives a proportional stock dividend, because the investor continues to own the same proportion of the investee as before the stock dividend. In
addition, the investee has not distributed any assets to the investor.
Therefore, no entry is prepared to record the receipt of a
stock dividend. The investor simply makes a memo entry to
record the additional number of shares owned, while leaving the
balance in the investment account unchanged. The balance is
then spread over the total number of shares (Previous holdings +
Stock dividend) to determine the new per share cost of the stock.
On March 4, year 1, Evan Co. purchased 1,000 shares of
LVC common stock at $80 per share. On September 26, year 1,
Evan received 1,000 stock rights to purchase an additional 1,000
shares at $90 per share. The stock rights had an expiration date
of February 1, year 2. On September 30, year 1, LVC’s common
stock had a market value, ex-rights, of $95 per share and the stock
rights had a market value of $5 each. What amount should Evan
report on its September 30, year 1 balance sheet as the cost of its
investment in stock rights?
(a) When stock rights are received, the cost of the
investment (1,000 × $80 = $80,000) is allocated between the
stock and the rights based on the relative fair market value of
each, as calculated below.
FMV of stock 1,000 × $95 = $ 95,000
FMV of rights 1,000 × $ 5 = 5,000
Total FMV $100,000
The cost allocated to the stock is $76,000 ($80,000 × 95/100)
and the cost allocated to the rights is $4,000 ($80,000 × 5/100).