Direct Method

CanGold Inc. and BigRock Diamonds Ltd. agreed to form Mineral Mining Company (“MMC”) on January 1, 20X4. MMC’s 10-year mission is to explore for and exploit mineral deposits in Canada’s Northwest Territories (NWT). According to its shareholders’ agreement, all of MMC’s strategic and major operational decisions require the approval of both CanGold and BigRock.
On January 1, 20X4 CanGold transferred to MMC mining equipment with a fair value of $10,000,000; the depreciated value of this equipment on CanGold’s books was $6,000,000. The equipment had an estimated remaining useful life of 5 years.

On the same date, BigRock transferred to MMC the legal title to approximately 500,000 hectares of undeveloped and unexplored land in the western part of the NWT. At that time the land’s estimated fair value was $20,000,000. CanGold and BigRock recorded these transfers in their general ledgers on January 1, 20X4.

On January 2, 20X4, MMC used the mining equipment and land as collateral to obtain a loan of $25,000,000 from Canadian Western Bank, using $5,000,000 of the proceeds to purchase an additional 100,000 hectares of land for mineral exploration and retaining $11,000,000 for working capital purposes. MMC transferred the remaining $9,000,000 of the loan proceeds to CanGold and BigRock in the same proportion as their respective ownership interests.

At the end of its start-up year, on December 31, 20X4, MMC reported a net loss of $9,000,000, which included a gross margin of $500,000 recorded on its sale to CanGold of minerals that remained in CanGold’s inventory at year-end.

(a) What effect, in dollars, does its investment in MMC have on the consolidated income statement of CanGold for its year ended December 31, 20X4?
(b) Assuming that, on December 31, 20X4, CanGold’s general ledger reflects a net book value of $5,000,000 of equipment and no land, prepare a partial consolidated balance sheet for that company as at December 31, 20X4, showing consolidating adjustments using the direct method.

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