Equity Investments PREPARATION TEST
2026 QUESTIONS AND CORRECT ANSWERS
GRADED A+
● What are the two ways to earn a return from equity investments?
Answer: Capital gains from selling the stock for more than you paid, and
dividends from regular payments of the company's profits.
● Why study equity investments? Answer: They represent roughly 9-
10% of total financial assets held by U.S. nonfinancial firms and provide
foundational knowledge for understanding consolidation.
● When should the equity method be used in accounting? Answer: The
equity method should be used when the investor can exercise 'significant
influence' over the investee's operations.
● What is 'significant influence' in the context of equity investments?
Answer: It is generally assumed if an investor owns 20% or more of the
investee's voting stock, but it depends on specific facts and
circumstances.
● What are indicators of significant influence? Answer: Representation
on the board, participation in policy-making, ownership relative to other
shareholders, material transactions, and managerial movements between
companies.
, ● What are signs that significant influence might not exist? Answer:
Disputes over influence, agreements giving up rights, majority
shareholder control, and unsuccessful attempts to gain board
representation.
● What happens when an investor gains control of an investee? Answer:
The investor must consolidate the financial statements of both
companies, replacing the Equity Investment account with the investee's
assets and liabilities.
● How is an equity investment recorded when acquired? Answer: The
investor records the Equity Investment based on the purchase price,
which may include cash and stock issuance.
● What is the equivalence of equity investment and stockholders'
equity? Answer: If the acquisition is made at book value, the Equity
Investment account matches the percentage of the investee's equity
owned by the investor.
● How is profit from the investee accounted for after the investment?
Answer: The investee's profit is treated as a return 'on' investment, while
dividends are treated as a return 'of' investment.
2026 QUESTIONS AND CORRECT ANSWERS
GRADED A+
● What are the two ways to earn a return from equity investments?
Answer: Capital gains from selling the stock for more than you paid, and
dividends from regular payments of the company's profits.
● Why study equity investments? Answer: They represent roughly 9-
10% of total financial assets held by U.S. nonfinancial firms and provide
foundational knowledge for understanding consolidation.
● When should the equity method be used in accounting? Answer: The
equity method should be used when the investor can exercise 'significant
influence' over the investee's operations.
● What is 'significant influence' in the context of equity investments?
Answer: It is generally assumed if an investor owns 20% or more of the
investee's voting stock, but it depends on specific facts and
circumstances.
● What are indicators of significant influence? Answer: Representation
on the board, participation in policy-making, ownership relative to other
shareholders, material transactions, and managerial movements between
companies.
, ● What are signs that significant influence might not exist? Answer:
Disputes over influence, agreements giving up rights, majority
shareholder control, and unsuccessful attempts to gain board
representation.
● What happens when an investor gains control of an investee? Answer:
The investor must consolidate the financial statements of both
companies, replacing the Equity Investment account with the investee's
assets and liabilities.
● How is an equity investment recorded when acquired? Answer: The
investor records the Equity Investment based on the purchase price,
which may include cash and stock issuance.
● What is the equivalence of equity investment and stockholders'
equity? Answer: If the acquisition is made at book value, the Equity
Investment account matches the percentage of the investee's equity
owned by the investor.
● How is profit from the investee accounted for after the investment?
Answer: The investee's profit is treated as a return 'on' investment, while
dividends are treated as a return 'of' investment.
