ACCY 593

EXAM I SOLUTION

Fall 2004 UIUC

Question 1 (45 points):

On January 1, 20X1, Parent Company purchased 80% of the common stock of Subsidiary
Company for $316,000. On this date, Subsidiary had common stock, other paid-in capital,
and retained earnings of $40,000, $120,000, and $190,000, respectively. Net income and
dividends for 2 years for Subsidiary Company were as follows:

Net income.................................
Dividends..................................

20X1
$50,000
10,000

20X2
$90,000
20,000

On January 1, 20X1, the only tangible assets of Subsidiary which were undervalued were
inventory and building. Inventory, for which FIFO is used, was worth $5,000 more than
cost. The inventory was sold in 20X1. Building, which was worth $15,000 more than book
value, has a remaining life of 8 years, and straight-line depreciation is used. Patent, if any,
is to be amortized over 10 years.

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Fall 2004 UIUC

Required:
1. Suppose Parent Company keeps its books under the sophisticated equity method, show
the investment account in Parents book for year 20X1 and 20X2 (20 points).
Investment in S (P's Books, Sophisticated Equity method)
1/1/x1

Investment in S

316,000

12/31/x1 Sub Income

32,500 112/31/x1

1/1/x2

340,5003

Beg Bal

12/31/x2 Sub Income

68,500412/31/x2

1/1/x3

393.000

Beg Bal

Dividends

8,000 2

Dividends 16,0005

(1) $40,000 (80% of $50,000 net income) $ 7,500 (amortization excess in 20X1)
Amortization:
20X1
20X2
Retained Earnings, January 1..........
$7,500*
Inventory--to Cost of Goods Sold......
$4,000
Building--to Operating Expenses.......
1,500
1,500
Patent--to Operating Expenses.........
2,000
2,000
*Adjustment for prior years amortization
(2) 80% of $10,000 dividends
(3) $316,000 + 32,500 8,000 = $340,500.
(4) $72,000 (80% of $90,000 net income) 3,500 (amortization excess in 20X2) =
$68,500.
(5) 80% of $20,000 dividends
2. Prepare the adjusting entries in the consolidated books in 20X2 (year 2) (10 points).
1) To eliminate parents share of subsidiary earnings for the current year
CY1
Subsidiary Income.........................................................68.500

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ACCY 593

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Fall 2004 UIUC

Investment in Subsidiary Company..........................................

68,500

2) To eliminate parents share of dividends for the current year.

CY2
Investment in Subsidiary Company...............................16,000
Dividends Declared...................................................................
16,000
............................................................................
3) To eliminate pro rata share of the beginning-of-the-year Subsidiary equity
balances
EL Common Stock Subsidiary................................................32,000
OPIC Subsidiary................................................................96,000
Retained Earnings Subsidiary ......................................184,000*
Investment in Subsidiary Company.................................................
312,000
* Subsidiary RE 1/1/20X2....................................................$230,000
Parents share
....................................................................x 0.8
.............................................................$184,000
4) To distribute excess per determination and distribution of excess schedule
D Building
.................................................................12,000
Patent
...............................................................18,000
Investment in Subsidiary Company.................................................
28,500
Accumulated Depreciation (Building).............................................
1,500
5) To amortize excess for the current year
A Operating Expense................................................................3,500*
Accumulated Depreciation...............................................................
Patent Amortization..........................................................................

1,500
2,000

3. Compute the amount for the

a) consolidated Net Income in 20X2 (year 2) (5 points).
Consolidated NI = Parent NI + NI distributed to non-controlling interest + NI distributed to
controlling interest = Parent NI + Sub Net Income Excess depreciation and amortization

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ACCY 593

EXAM I SOLUTION

Fall 2004 UIUC

= Parent NI + 90,000 - 1,500 (depreciation expense of building for 20X2) 2,000

(amortization expense of patent for 20X2) = Parent NI + 86,500.

b) NCI as of 12/31/20X2 (5 points).

NCI = 460,000 [Subs Ending OE ] * .2 = $92,000
c) controlling RE as of 12/31/20X2 (5 points).
Beginning RE Parent in 1/1/20X2*
+Controlling NI in 20X2 (see part 3a)
- Dividend declared Parent
Controlling RE as of 12/31/20X2
*Beginning Parents R/E in the trial balance $7,500 amortization excess in the prior year
(4,000+1,500+2,000)

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ACCY 593

EXAM I SOLUTION

Fall 2004 UIUC

Question 2 (20 points):

On July 1, 20X1, the Crawford Company has the following balance sheet:
Assets
Cash................
Other assets........

$ 17,000
157,000

Total assets........

$174,000

Liabilities and Capital

Accounts payable......... $ 32,000
Due to Palmer............
12,000
Other liabilities........
70,000
Palmer, capital..........
(2,000)*
Lake, capital............
62,000
Total liabilities and
capital................
$174,000

Note: * indicates a deficit.

As of July 1, 20X1, the partners have personal net worth as follows:

Assets....................................
Liabilities...............................

Palmer
$52,000
47,000

Lake
$ 76,000
102,000

The personal net worth of each partner does not include any amounts due to or from the
partnership.
Required:
Assume the other assets are sold for $103,000 after incurring liquidation expenses of
$4,000. After liquidation of the partnership, determine how much is available to Lake's
unsatisfied personal creditors based on each of the following independent situations
(assuming the common law applies in both situations):
(Required questions are stated on the next two pages)

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EXAM I SOLUTION

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Fall 2004 UIUC

ACCY 593

EXAM I SOLUTION

Fall 2004 UIUC

1) If the partnership had the right of offset (10 points)

Palmer
Assets
Beginning balance.............
Liquidation expense..........
Loss of Assets....................
Balance..............................
Payment to creditors..........
Payment to partnership......
Absorb debit balances.......
Payment to creditors..........
Ending balance..................

Liab.

Lake
Assets

Liab.

$52,000 $47,000 $76,000 $102,000

Crawford Company________________
Palmers Lakes
Assets
Liab.
Capital
Capital

$52,000 $47,000 $76,000 $102,000

............ ............
(14,970)6 ............ ............ ............

$174,000
(4,000)
(54,000)4
$116,000
(102,000)
14,9706

(37,030)6 (37,030)6 (76,000) (76,000)

$
0 $9,970 $
0 $26,000

$28,970

$102,0001 $10,0002 $62,000

(2,000) 3 (2,000) 3
(27,000) 5 (27,000) 5
$102,000 $(19,000)
$33,000
(102,000)
14,9706
4,0307
(4,030)7
......
$
0 $
0
$28,970

Hence, Lakes unsatisfied personal creditors may attach to 1) the $28,970 of cash in the partnership traceable to Lake; 2) the
$4,030 claim Lake has against Palmer traceable to Palmers debit balance absorbed by Lake.
Notes:
1) Account Payable 32,000 + Other liabilities 70,000 = 102,000
2) Crawfords loan payable to Palmer $12,000 Palmers deficit capital balance 2,000 =10,000
3) Palmer and Lake share the $4,000 liquidation expense equally.
4) Other assets $157,000 Other assets sold for 103,000 = 54,000

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EXAM I SOLUTION

Fall 2004 UIUC

5) Palmer and Lake share the $54,000 loss from the sale of assets
6) Since common law is applied, Palmer's debit balance would share on an equal basis with personal creditors. Therefore,
$14,970 [$52,000 * 19,000 (19,000 + 47,000)] would be contributed to the partnership and the rest of Palmers
personal assets $37,030 would be paid to his creditors.
7) Lake absorb $4,030 (19,000 14,970) debit balance on behalf of Palmer.

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2) If the partnership did not have the right of offset (10 points).
Palmer
Lake
Assets
Beginning balance.............
Liquidation expense..........
Loss of Assets....................
Balance..............................
Payments to creditors........
Payment to creditors..........
Balance..............................
Payment to partnership......
Balance..............................
Absorb debit balances. . .
Ending balance..................

Liab.

Assets

Liab.

$52,000 $47,000 $76,000 $102,000

$52,000
12,000
(47,000)
$17,000
(17,000)
$
0
$

$47,000 $76,000 $102,000

(47,000) (76,000)
$
0
$ 0

(76,000)
$26,000

$
....
$

$26,000

$ 26,000

Crawford Company________________
Palmers Lakes
Assets
Liab.
Capital
Capital
$174,000
(4,000)
(54,000)2
$116,000
(114,000)
$2,000
17,000
$19,000
_______
$19,000

$114,000

$(2,000) $62,000
(2,000) 1 (2,000) 1
(27,000) 2 (27,000) 2
$114,000 $(31,000) $33,000
(114,000)
$0

$(31,000) $33,000
17,000
_______
$0
$(14,000) $33,000
_____
14,0003 (14,000) 3
$0
$0
$19,000

Hence, Lakes unsatisfied personal creditors may attach to 1) the $19,000 of cash in the partnership traceable to Lake; 2) the $14,000
claim Lake has against Palmer traceable to Palmers debit balance absorbed by Lake.
Notes:
1) Palmer and Lake share the $4,000 liquidation expense equally.
2) Other assets $157,000 Other assets sold for 103,000 = 54,000. Palmer and Lake share the $54,000 loss from the sale of assets.
3) Lake absorbs $14,000 debit balance on behalf of Palmer.

Question 3 (35 +10 points):

In one of the readings you learned about different types of mergers and we discussed the
implications for accountants. This question requires you to do two tasks. There is a third,
optional, task for extra credit.
First, identify the principal types of mergers you read about and, in as few words as
possible, cogently identify the central motive for each type of merger (a bullet point style
list will suffice). (15 points)
Second, for any two types of mergers, list critical financial statement items that you would
want to scrutinize closely if you were responsible for accurately reporting the financial
performance and condition of the merged entity. As briefly as possible cogently identify
the key reason why you would want to examine that element. Again, a bullet point style
list will suffice. (20 points)
Optional question for extra credit: identify any accounting "loopholes" in the current rules
that you are aware of regarding the financial statement elements you list in part two. [Try
and be as brief and specific as you can: naming companies and specific real-world cases to
the extent possible will be valued more highly than vague assertions.] (10 points)
(1)
types of mergers
a)
the overcapacity M&A
b)
the geographic roll-up M&A
c) the product or market extension M&A
d) the M&A as research and development (R&D) , and
e) the industry convergence M&A.
For details, please refer to Not All M&As Are Alike--and that Matters by Bower,
Joseph L.