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Learning Objective 1
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Subsidiarys books
Remember:
The parents investment account is based on the actual acquisition price. The subs books contain only historical book values.
Balance Sheet, and Income Statement accounts. No goodwill No undervalued assets at the time of creation
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Basic Concepts: Income Statement Impacts Big Picture: Essentially, we switch the subs books
from BV to FMV in the consolidation process.
Patent
Goodwill
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When Acquisition Price > Book Value Related Expense (as the asset expires) Depreciation Expense Income Statement Effect Too Low (understated)
Asset
Equipment Inventory Patent
If expenses are UNDERSTATED, then income is too high (OVERSTATED). Goodwill To fix the problem, Parent needs to INCREASE expenses.
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Book value element Common Stock Retained Earnings Under- or Over-valuation Inventory Land Equipment Covenant-not-to-compete Goodwill element Total Cost
Life remaining $130,000 117,000 (6,500) 39,000 85,000 52,000 26,000 $442,500 2 months Indefinite 10 years 4 years Indefinite
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+ 26,000
Consolidation: Equity Method The Parents initial investment in a sub is based on the FMV of the subs net assets (+/- GW).
They should be based on the same FMV basis. Problem: Sub reports income based on BOOK VALUES
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78,000
To record 100% of Salts dividends declared: Dividend Receivable Investment in Salt 45,500 45,500
3.
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Ending Balance
460,000
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A parent charges the amortization of its cost in excess of book value to: a. Goodwill expense. b. Excess cost expense. c. Excess cost & goodwill expense. d. Income from subsidiary. e. None of the above.
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Learning Objective 2
Understand and explain how consolidation procedures differ when there is a differential.
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Chapter 2
Chapter 3
No Differential
Chapter 4
No NCI Shareholders
Chapter 5
NCI Shareholders
Differential
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Simple Example
Assume the BV of Subs net assets is $800 and that the FMV of the net assets is $1,000. Finally, assume that the acquisition price was $1,500. The acquisition price consists of three parts:
Goodwill = $500
Excess value of identifiable assets = $200 Book value of net assets = $800
Stock
Sub Shareholders
S
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Acquisition Price =
FMV of Assets
FMV of Assets
Acquisition Price =
Extra Value
BV
+ Goodwill
Key: We need to keep track of each element of the purchase price separately! Why??
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The Consolidation Process When a subsidiary is acquired (instead of created), the consolidation process is more complicated:
Must eliminate intercompany items (same) Must update Subs assets and liabilities to FMV Must recognize goodwill
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XX
This entry reclassifies the equity method amortization of cost in excess of book from Income from Sub to the appropriate expense accounts where the costs would have been had the sub used FMV instead of BV. 4. The accumulated depreciation elimination entry: Accumulated Depreciation Buildings and Equipment XX XX
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Learning Objective 3
Make calculations and prepare elimination entries for the consolidation of a wholly owned subsidiary when there is a complex positive differential at the acquisition date.
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Buildings and equipment net of $98,000 accumulated depreciation. Goodwill is from a prior acquisition.
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Analysis of the Investment account -- excess cost elements: Under- or (over-) valuation of identifiable net assets Inventory 50,000 Notes Receivable (60,000) Land 130,000 Buildings & Equipment 110,000 Patent 90,000 Goodwill (110,000) Long-term Debt 70,000 280,000 Goodwill 340,000
Investment in Sub
340,000 280,000 1,600,000
Goodwill
1,600,000
980,000
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1,600,000
1. The basic elimination entry:
120,000 480,000 380,000 980,000 50,000 130,000 110,000 90,000 70,000 340,000 60,000 110,000 620,000
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980,000 620,000
1.
Inventory Land Buildings and Equipment Patent Long-term Debt Goodwill (new) Notes Receivable Goodwill (old) Investment in Sub
1.
1.
Accumulated Depreciation
98,000
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130,000 117,000
Under-valuation Element: Inventory (6,500) Land 39,000 Equipment 85,000 Covenant N-T-C 52,000 Goodwill 26,000
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Investment in Salt
+ EB 442,500
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An account of the acquired company that cannot be revalued to its current value under acquisition accounting is: a. Notes receivable. b. Bonds payable. c. Investment in marketable securities. d. Patents. e. None of the above.
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Learning Objective 4
Make calculations and prepare elimination entries for the consolidation of a wholly owned subsidiary when there is a complex bargain-purchase differential.
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Bargain purchase
the acquisition-date fair values of the consideration given, any equity interest already held by the acquirer, and any noncontrolling interest
is less than the amounts at which the identifiable net assets must be valued at the acquisition date as specified by FASB 141R. The acquirer recognizes a gain for the difference.
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Basic Concepts
Income Statement Effects
When Acquisition Price < BV Related Expense (as the asset expires) Depreciation Expense Income Statement Effect Too High (overstated)
Asset
Equipment Inventory Patent
If expenses are OVERSTATED, then income is too low (UNDERSTATED). Goodwill To fix the problem, Parent needs to DECREASE expenses.
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Learning Objective 5
Prepare equity-method journal entries, elimination entries, and the consolidation worksheet for a wholly owned subsidiary when there is a complex positive differential.
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Group Exercise 3
Pepper Inc., a calendar-year reporting company, acquired 100% of Salt Inc.s outstanding common stock at a cost of $442,500 on 12/31/X8. The analysis of the parents Investment account as of the acquisition date shows:
Book value element Common Stock Retained Earnings Under- or Over-valuation Inventory Land Equipment Covenant-not-to-compete Goodwill element Total Cost
Life remaining $130,000 117,000 (6,500) 39,000 85,000 52,000 26,000 $442,500 2 months Indefinite 10 years 4 years Indefinite
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Group Exercise 3
1. Update the analyses of the Investment account through 12/31/X9. 1. Prepare all consolidation entries as of 12/31/X9.
3. Prepare a consolidation worksheet at 12/31/X9. (The parents retained earnings as of 1/1/X9 were $455,000.
Pepper, Inc. and Salt, Inc. Consolidated Worksheet as of December 31, 20X9 Elimination Entries Pepper Salt DR DR Income Statement Sales 1,235,000 780,000 Cost of Sales (598,000) (370,500) Depreciation Expense (78,000) (19,500) S&A Expense (481,000) (312,000) Income from Salt 63,000 Net Income 141,000 78,000 Statement of Retained Earnings Balance, 1/1/X9 455,000 117,000 Add: Net Income 141,000 78,000 Less: Dividends (104,000) (45,500) Balance, 12/31/X9 492,000 149,500 Balance Sheet Cash 77,500 32,500 Accounts Receivable 123,500 78,000 Inventory 149,500 156,000 Investment in Salt: Book Value 279,500 Excess Cost 180,500 Land 130,000 91,000 Build & Equip 325,000 291,200 Acc Depreciation (273,000) (76,700) Covenant N-T-C Goodwill Total Assets 992,500 572,000 Payables & Accruals 84,500 97,500 Long-term Debt 26,000 195,000 Common Stock 390,000 130,000 Retained Earnings 492,000 149,500 Total Liab & Equity 992,500 572,000 Consolidated
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Retained = Earnings
Common Stock Retained Earnings, 1/1/X9 Income from Salt Dividends Declared Investment in Salt
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Goodwill 4 years
The Excess Value Reclassification Entry: Land Building & Equipment Covenant N-T-C Goodwill Accumulated Depreciation Investment in Salt
The Amortized Excess Value Reclassification Entry: Depreciation Expense S&A Expense Cost of Sales Income from Salt The Accumulated Depreciation Elimination Entry: Accumulated Depreciation Building & Equipment
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Investment in Salt
BB 442,500 NI 78,000 45,500 Dividend 15,000 Excess Amort. EB 460,000
Goodwill = 26,000
Identifiable Excess = 154,500
Look back at the beginning and ending balances in the two charts you just prepared to find the numbers!
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Investment in Salt
BB 442,500 NI 78,000
45,500 Dividend 15,000 Excess Amort. 15,000 EB 460,000 63,000 Adj. Balance
279,500 Basic
0
78,000
15,000 Excess Amort. 0
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Learning Objective 6
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Intercompany reciprocal accounts (Chapter 4) Inventory transfers (Chapter 6) Fixed asset transfers (Chapter 7)
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A:
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consolidated statements.
We want to report the results of our interactions
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Involving Corporations
With management and other employees. With directors and stockholders. With affiliates (controlled entities).
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consolidated perspective.
Not because they are related-party transactions.
Only transactions with outside unrelated parties
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2 + 2 = 5
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XXX
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Learning Objective 7
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Purchase Price > Book Value What happens if you pay more than the book value of the subsidiarys assets?
Parent
Force Sub to revalue to FMV Account for the extra value separately.
Sub
Non-Push-Down Accounting
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Revaluation Capital X
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Non-Push-Down Accounting:
Dont touch the subsidiarys general ledger (treat like a sacred cow).
Make fair value adjustments and record goodwill in consolidation (on the worksheets).
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Push-down accounting:
Consolidation effort is minimal (has received the Better Book-keeping stamp of approval).
Non-push-down accounting:
The consolidated financial statement amounts are the SAME either way!
ONLY the accounting procedures differ Who does the work parent or sub?
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Non-push-down accounting
Equity Method
Recorded in parents general ledger Maintains built-in checking features Recorded on consolidation worksheets
Cost Method
Push-down accounting
Parent
+ +
= =
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ONLY the subsidiarys postacquisition earnings are reported in the consolidated financial statements.
For a mid-year acquisition, only consolidate earnings after the acquisition date. The same is true for dividends declared.
The subsidiarys preacquisition earnings (included in its retained earnings account) are always eliminated against the parents Investment account in consolidation.
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A parent records amortization of excess value under which method? a. Push-down basis of accounting. b. Non-push down basis of accounting. c. Both A and B. d. None of the above.
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Push-down-accounting can be used: a. Only in a goodwill situation. b. Only in a bargain purchase situation. c. In either a goodwill situation or a bargain purchase situation. d. Only in a cost = book value situation. e. None of the above.
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