Chartered Financial Analyst (CFA) Practice Exam Level 2

In Inter-Corporate Investment Accounting, which method is used for investments with less than 20% ownership?

1. Equity Method

2. Acquisition Method

3. Cost Method

4. Fair Value Method

The correct answer is: Cost Method

The correct method for accounting for investments with less than 20% ownership is the Cost Method. This approach reflects the initial investment cost on the balance sheet and does not account for fluctuations in the investee's net assets or earnings unless there is an impairment. Under the Cost Method, dividends received from the investment may be recognized as income, but there is typically no adjustment to the carrying amount of the investment unless specific conditions arise, such as impairment. In the context of inter-corporate investments, ownership percentages significantly influence the accounting treatment. When an investor holds less than 20% of the shares, it is typically presumed that they do not exert significant influence over the investee, which is why the Cost Method is employed. The other methods mentioned (Equity Method, Acquisition Method, and Fair Value Method) are appropriate for different ownership levels or scenarios, such as significant influence or control, which is not the case when ownership falls below the 20% threshold.