Adv. Fin. Accounting - Ch. 3

A parent company, over time, will routinely make which of the following adjustments in applying the equity method to its investment in subsidiary account? Post-acquisition changes in the fair value of the subsidiary. Income as it is earned and reported by the subsidiary. Excess acquisition-date fair over book value amortization. Dividends from the subsidiary.

- Dividends from the subsidiary. - Income as it is earned and reported by the subsidiary. - Excess acquisition-date fair over book value amortization.

As compared to acquisition-date accounting for business combinations, subsequent to an acquisition the parent company must additionally report consolidated (3):

- Revenues - Expenses - Net Income

Which of the following account balances are identical across the parent's records and consolidated totals when the parent applies the equity method for its Investment in Subsidiary account? Amortization expense Net income Retained earnings Sales revenue

Net income Retained earnings

Examples of intercompany transactions (how do you eliminate each? -- adjusting journal entry) 1. Note receivable / payable 2. Interest revenue / expense 3. Interest receivable / payable

1. Dr. N/P (sub.) xxx Cr. N/R (parent) xxx 2. Dr. Int. rev. (parent) xxx Cr. Int. exp. (sub.) xxx 3. Dr. Int./P (sub.) xxx Cr. Int./R (parent) xxx

Determining Consolidation Totals without Consolidation Worksheet: After Acquisition Date Assets: ? Liabilities: ? Stockholders' Equity: ? Revenues: ? Expenses: ? Dividends: ?

Assets: BV Parent + FV Sub - Amortization of Excess Value to Date Liabilities: BV Parent + FV Sub - Amortization of Excess Value to Date Stockholders' Equity: BV Parent (CS + Add PIC + Retained Earnings) Revenues: BV Parent + FV Sub (include fair value adjustments) Expenses: BV Parent + FV Sub (include fair value adjustments) Dividends: BV Parent

When a subsidiary's acquisition-date fair values exceed its book values for its limited-lived assets, the equity method records over time: A. no effect on Equity in Subsidiary Earnings over time B. A reduction in Equity in Subsidiary Earnings for amortization expense C. An increase in Equity in Subsidiary Earnings for amortization expense

B. A reduction in Equity in Subsidiary Earnings for amortization expense

Consolidation Entry A adjusts the subsidiary's assets to their unamortized acquisition-date fair value as of what date?

Beginning of the current reporting period

Which of the following represent components of subsidiary income recognized when the parent applies the partial equity method? A. deferral of unrealized intra entity gains B. amortization of the acquisition date fair over book value C. dividends declared D. the parent's share of the subsidiary's reported income

D. the parent's share of the subsidiary's reported income

Problem: Determining Balances of Consolidated Accounts without Consolidation Worksheet Tyler Company acquired all of Jasmine Company's outstanding stock on January 1, 2019, for $206,000 in cash. Jasmine had a book value of only $140,000 on that date. However, equipment (having an 8‐year remaining life) was undervalued by $54,400 on Jasmine's financial records. A building with a 20‐year remaining life was overvalued by $10,000. Subsequent to the acquisition, Jasmine reported the following: (see ppt. for table) In accounting for this investment, Tyler has used the equity method. Selected accounts taken from the financial records of these two companies as of December 31, 2021, follow: (see ppt. for table) Determine and explain the following account balances as of December 31, 2021: - Investment in Jasmine Company (on Tyler's individual financial records) - Equity Income in Subsidiary Earnings (on Tyler's individual financial records) - Consolidated Net Income - Consolidated Equipment (net) - Consolidated Buildings (net) - Consolidated Goodwill - Consolidated Common Stock - Consolidated Retained Earnings, 12/31/21

Fair value allocation of acquisition cost, 1.1.19: Consideration transferred $206,000 Less: Book value, 1.1.19 $140,000 Less: Excess value, 1.1.19 Equipment $54,400 - Building (10,000) = 44,400 206,000 - 140,000 - 44,400 = 21,600 Goodwill Yearly Amortization = (54,400/8) + ((10,000)/20) = $6,300/year Investment in Jasmine: 206,000 (Beg. Bal. 1/1/19) + 140,000 (Reported inc. for '19-'21) - 70,000 (Dividends dec'd for '19-'21) - 18,900 (Amortization from '19-'21) = 257,100 Bal. at 12/31/21 Equity Inc.: Sub's reported net income 2021 $30,000 Less: Add. depreciation expense (6,300) (annual amortization) Sub's adjustment net income $23,700 (= Equity Income) Consolidated Net Income: Parent's net income (not including Equity Income) $112,000 (= 310K - 198K) + Equity Income 23,700 Parent's net income = Consolidated Net Income $135,700 - Alternative method: Combined revenues (310K + 104K) $414,000 - Combined expenses (198K + 74K) (272,000) - Additional depreciation expense/amortization of excess value (6,300) = Consolidated Net Income $135,700 Consolidated Equipment (net): Parent's BV $320,000 + Sub's BV 50,000 + Excess Value as of acquisition date 54,400 - Amortization 2019-2021 (20,400) (6,800*3) = $404,000 Consolidated Buildings (net): Parent's BV $220,000 + Sub's BV 68,000 - Excess Value as of acquisition date (10,000) + Amortization 2019-2021 1,500 (500*3) = $279,500 Consolidated Goodwill: $21,600 (as of acquisition date unless impaired) Consolidated Common Stock: $290,000 = Parent's reported common stock Consolidated Retained Earnings, 12/31/21: $410,000 = Parent's reported retained earnings

Problem: Consolidation Subsequent to Year of Acquisition Patton Corporation acquired all of Sutton Company's outstanding stock on January 1, 2019, for $600,000 cash. Sutton's accounting records showed net assets on that date of $470,000, although equipment with a 10‐year remaining life was undervalued on the records by $90,000. Any recognized goodwill is considered to have an indefinite life. Sutton reports net income in 2019 of $90,000 and $100,000 in 2020. The subsidiary declared dividends of $20,000 in each of these two years. Patton is preparing a consolidation worksheet for the year ended December 31, 2021. 2019: $90,000 (Net Income); $20,000 (Dividends dec'd) 2020: $100,000 (Net Income); $20,000 (Dividends dec'd) 2021: ? Financial figures for the year ending December 31, 2021, follow. Patton applies the equity method to maintain its investment account. Credit balances are indicated by parentheses. (see slide on ppt.) Requirement 1: Show all postings made to the Investment in Sub from the acquisition date until December 31, 2021. Requirement 2: Prepare consolidation worksheet entries as of December 31, 2021. Requirement 3: Determine the balances of the consolidated financial statements as of December 31, 2021.

Fair value allocation of acquisition cost, 1.1.19: Consideration transferred = $600,000 - Sub's book value = $470,000 - Sub's excess value = $90,000 - Goodwill = $40,000 Annual amortization of Equipment's excess value = 90,000/10 years = $9,000 Req. 1: Investment in Sutton (T-account) -- 600,000 (Purchase Cost 1/1/19) + 90,000 (Income reported in '19) - 20,000 (Dividends dec'd in '19) - 9,000 (Amortization) = 661,000 (Bal. at 12/31/19) + 100,000 (Income reported in '20) - 20,000 (Dividends dec'd in '20) - 9,000 (Amortization) = ***732,000 (End bal. for 12/31/20) + 100,000 (Income reported in '21) - 20,000 (Dividends dec'd in '21) - 9,000 (Amortization)*** = 803,000 (End bal. at 12/31/21) ***To be eliminated with consolidation entries*** Req. 2: - Entry S and A are to eliminate the beginning balance. - Entry I will eliminate the impact of the subsidiary's reported income and annual amortization. - Entry D will eliminate the impact of the subsidiary's dividends. Components of beginning balance: - Book value, 1/1/21: 620,000 [Sub's book value = 300,000 (CS) + 320,000 (RE 1/1/21)] *ENTRY S* - Excess value, 1/1/21: 72,000 [= 90,000 on 1/1/19 - 18,000 (2 years of amortization, 2019 and 2020)] *ENTRY A* - Goodwill: 40,000 [not amortized, value will not change unless it is impaired] *ENTRY A* ENTRY S: Dr. Common Stock 300,000 Dr. Retained Earnings 320,000 Cr. Investment 620,000 ENTRY A: Dr. Equipment 72,000 Dr. Goodwill 40,000 Cr. Investment 112,000 *620,000 + 112,000 = 732,000 (Beg. Bal. of investment in 1/1/21) Entry I: Dr. Equity Income 91,000 (= 100K - 9K) Cr. Investment 91,000 (Closing the balance of Equity Income in Parent's) Entry D: Dr. Investment 20,000 Cr. Dividends Declared (Sub) 20,000 Entry E: Dr. Depreciation Expense 9,000 Cr. Equipment 9,000 Requirement 3: (work on a blank page for this step; check work via ppt.)

True or false: The balances reported in consolidated financial statements will differ depending on the parent's selection of an investment accounting method (e.g., equity, initial value, or partial equity).

False *The selection of a particular investment accounting method does not affect the consolidated totals. In all cases the parent's investment and subsidiary income accounts are brought to a zero balance

Problem: First Year Consolidation Parent Inc., a calendar-year reporting company, acquired 100% of Sub Inc.'s outstanding common stock at a cost of $397,000 on 12/31/20. The parent uses the equity method to maintain its investment account. The analysis of the parent's investment account as of the acquisition date shows: Book value: Common Stock $130,000 Retained Earnings 117,000 Under-valuation (book value < fair value): Land 39,000 (Remaining life: indefinite) Equipment 85,000 (Remaining life: 10 years) Goodwill 26,000 (Remaining life: Indefinite) Total Acquisition Cost $397,000 *Info. previously mentioned occurs on 12/31/20 (acquisition date) *Current task is to prepare consolidation for 12/31/21 (1 year after acquisition) (See ppt. slide of 12/31/21 financial statements for further info.) Additional info.: - Sub's reported net income in 2021 is 78,000 - Sub's dividends declared total 45,500 - The investment account in the parent's book has a balance of 421,000 by the end of 2021 (changed from $397,000) Req. 1: Determine the fair value allocation of the acquisition cost as of the acquisition date. Determine the amortization of excess value. Req. 2: What would be Sub's income in 2021 based on fair values? Req. 3: Determine the entries made to Investment in Sub in 2021 by showing the t‐account. Show the beginning balance, all postings made during the period, and the ending balance. Req. 4: Prepare consolidation worksheet entries as of December 31, 2021. Req. 5: Prepare the 2021 consolidation worksheet and determine the balances of the consolidated financial statements.

Req. 1: Fair value allocation on the acquisition date, 12.31.20 Acquisition cost (consideration transferred): $397,0000 (initial investment bal. on 1/1/21) Components of acquisition cost: Book value of Sub's net assets (130K + 117K) $247,000 Excess value: Land $39,000 Equipment 85,000 Total excess value $124,000 Goodwill: 397,000 - 247,000 - 124,000 = 26,000 Amortization of the excess value of equipment: 85,000/10 years = 8,500/year Req. 2: Subsidiary's reported income in 2021: $78,000 Less: Additional depreciation expense (8,500) Subsidiary's adjusted income in 2021 $69,500 Req. 3: 397,000* + 78,000** - 45,500*** - 8,500**** = 421,000 as of 12/31/21 *Initial investment as of 1/1/21; eliminated using entry A and S **Sub's net income; eliminated using entry I Dr. Investment 78,000 Cr. Equity Inc. 78,000 ***Sub's dividends; eliminated using entry D ****Amortization of excess value; eliminated using entry I Dr. Equity Inc. 8,500 Cr. Investment 8,500 COMBINED (Sub's adjusted inc.) Dr. Investment 69,500 Cr. Equity Inc. 69,500 Req. 4: Entry S: Dr. Common Stock (Sub) 130,000 Dr. Retained Earnings (Sub, 1.1.21) 117,000 Cr. Investment 247,000 Entry A: Dr. Land 39,000 Dr. Equipment 85,000 Dr. Goodwill 26,000 Cr. Investment 150,000 *NOTE: 247,000 + 150,000 = 397,000 (beg. bal.) Entry I: Dr. Equity Income 69,500 Cr. Investment 69,500 *NOTE: Entry I simply reverses the original entries made in the previous slide. Entry I also removes the balance of equity income because the equity income is also an intra‐entity account. Entry D: Dr. Investment 45,500 Cr. Dividends Declared (Sub) 45,500 *NOTE: Dividends Declared is an intra‐entity account Entry E: Dr. Depreciation (Amortization) Expense 8,500 Cr. Equipment 8,500 Req. 5: (Reflect each elimination entry from the previous req. in order to calculate the consolidated totals) *NOTE: Recall that Entry S and Entry A are made to remove the beginning balance of the investment account as of 1.1.21. Therefore, Entry S debits the balance of Retained Earnings on 1.1.21, 117,000 (see financial statement listing from ppt slides) *NOTE: Following the accounting cycle, ^the net income figure is transferred to the statement of retained earnings to obtain the ending balance of retained earnings. ^The ending balance is then reported under the balance sheet. ^^For this reason, do not add net income and the ending balance of retained earnings across the columns to obtain their consolidated totals. The balance of the equity income is equal to the subsidiary's net income adjusted for amortization ($147,500). The consolidation process eliminates the equity income balance because it is no longer needed once the subsidiary's income statement accounts are added to the parent's to obtain the consolidated total. Similarly, the ending balance of the parent's retained earnings, 498,500, is equal to the consolidated ending balance of retained earnings.^

Why does Consolidation Entry S remove the subsidiary's stockholders' equity accounts?

Subsidiary ownership accounts are not relevant, because consolidated statements are prepared for the parent company owners.

Which of the following is a characteristic of the partial equity method of accounting for a parent company's investment in a subsidiary company? The parent records subsidiary dividends as an increase in the investment account. The parent recognizes the income effect of amortizing excess subsidiary acquisition-date fair over book value. The parent company accrues income as reported by the subsidiary. Unrealized gains on intra-entity transactions are deferred from income.

The parent company accrues income as reported by the subsidiary.

When the parent applies the equity method on its internal records, what account balances are removed on the consolidated worksheet? The parent's share of subsidiary dividends declared Equity in subsidiary earnings The parent's common stock Investment in subsidiary

The parent's share of subsidiary dividends declared Equity in subsidiary earnings Investment in subsidiary

True or false: Worksheet consolidation entries are not posted to the books of either the parent or the subsidiary.

True *Consolidation entries are only used to adjust the parent and subsidiary balances on a worksheet to help prepare consolidated financial statements.

True or false: In the presence of acquisition-date excess fair over book values for subsidiary assets, both consolidation entries A and E are needed to adjust subsidiary assets to their end-of-the-year proper consolidated balances.

True *Consolidation entry A brings the subsidiary asset to its beginning-of-the-year balance. The consolidation entry E completes the adjustment for the current year.

True or false: The consolidated entry to record goodwill is not accompanied by another consolidation entry to amortize goodwill.

True *Goodwill is periodically tested for impairment but not amortized.

True or false: Consolidation Entry I removes the Equity in Subsidiary Earnings which is then replaced by the inclusion of the subsidiary's individual revenue and expense accounts on the consolidated income statement.

True *Rather than report a one-line amount for subsidiary earnings, consolidation requires the addition of the separate subsidiary revenue and expense accounts with those of the parent.

True or false: Consolidated totals include the unamortized subsidiary acquisition-date excess of fair over book value allocations.

True *The valuation basis for an acquired subsidiary's assets is acquisition-date fair value after amortization.

True or false: Consolidation Entry A may include an adjustment to recognize goodwill created by the business combination.

True *True or false: Consolidation Entry A may include an adjustment to recognize goodwill created by the business combination.

By recognizing subsidiary income as it is earned, rather than when cash is received through a dividend, the equity method embraces the ____________ method of accounting.

accrual

If intercompany payables and receivables are not eliminated, both the consolidated...

assets and liabilities are overstated by an equal amount *From a single‐company viewpoint, a company cannot pay money to itself or receive funds from itself.

Which of the following accounts of both the parent and subsidiary are combined for consolidated financial reporting? dividends declared. common stock. assets and liabilities. revenues and expenses.

assets and liabilities. revenues and expenses.

Regardless of the parent's internal accounting method choice, the initial amount typically recorded in an investment in subsidiary account is the fair value of the ____________ ____________ by the parent

consideration transferred

When the parent applies the equity method for its 100% owned subsidiary, its Equity in Subsidiary Earnings account balance equals the effect of the subsidiary's income on ______________ net income

consolidated

Under the initial value method of accounting for an investment in a subsidiary company, the parent earns the income when the subsidiary: pays a dividend. generates cash flows from its operations. declares a dividend. recognizes income when the subsidiary.

declares a dividend.

When a subsidiary's tangible asset has an excess acquisition-date book over fair value, Consolidation Entry E will show a _____________ to depreciation expense

decrease

When the parent uses the equity method, Consolidation Entry D

eliminates the intra-entity subsidiary dividends attributable to the parent company.

Which of the following represent procedures required in preparing consolidated financial statements for a parent company and its subsidiary? - subsidiary assets and liabilities are adjusted to reflect acquisition-date fair values net of post-acquisition amortization. - the parent combines the Equity In Subsidiary Earnings with the subsidiary company's revenues less expenses. - excess acquisition-date fair over book values for limited-life subsidiary assets must be amortized over time. - intra-entity receivables and payables are eliminated.

excess acquisition-date fair over book values for limited-life subsidiary assets must be amortized over time. subsidiary assets and liabilities are adjusted to reflect acquisition-date fair values net of post-acquisition amortization. intra-entity receivable and payables are eliminated.

Consolidation Entry E (2): increases expenses when excess fair over book value acquisition-date allocations are made to depreciable subsidiary assets. increases expenses when excess book over fair value acquisition-date allocations are made to depreciable subsidiary assets. provides current period amortization expense for the acquisition-date fair-value adjustments. provides cumulative amortization expense for the acquisition-date fair-value adjustments.

increases expenses when excess fair over book value acquisition-date allocations are made to depreciable subsidiary assets. provides current period amortization expense for the acquisition-date fair-value adjustments.

Consolidation Entry E: increases expenses when excess fair over book value acquisition-date allocations are made to depreciable subsidiary assets. provides cumulative amortization expense for the acquisition-date fair-value adjustments. increases expenses when excess book over fair value acquisition-date allocations are made to depreciable subsidiary assets. provides current period amortization expense for the acquisition-date fair-value adjustments.

increases expenses when excess fair over book value acquisition-date allocations are made to depreciable subsidiary assets. provides current period amortization expense for the acquisition-date fair-value adjustments.

When a particular asset acquired in a business combination has an acquisition-date fair value in excess of its acquisition-date book value, the asset's carrying amount from the subsidiary's financial records remains the same in consolidated financial statements as its current book value. must be increased in preparing consolidated financial statements. must be reduced in preparing consolidated financial statements.

must be increased in preparing consolidated financial statements.

A parent company controls a subsidiary company through ownership of 100% of the subsidiary's voting stock. How are cash dividends declared by the subsidiary on its voting stock treated in the parent's consolidated financial reports?

not included having been eliminated in the consolidation process

In Consolidation Entry D, the credit to the Dividends Declared account: increases cash. increases the parent's retained earnings. decreases the investment in the subsidiary. reduces the subsidiary's dividends balance.

reduces the subsidiary's dividends balance.

When a particular asset acquired in a business combination has an acquisition-date book value in excess of its fair value, the asset's carrying amount from the subsidiary's financial records ___.

remains the same in consolidated financial statements as its current book value

Consolidation Entry P

removes the balances from intra-entity receivables and payables.

The values assigned to intangible assets with indefinite useful lives are

subject to periodic impairment testing.

Subsequent to acquisition, consolidated depreciation expense is based upon:

the acquisition-date fair values of the subsidiary's depreciable assets.

Using the equity method, which of the following affects the Investment in Subsidiary account on the parent's books? (3) decreases in the parent's equity from dividends paid by the parent the original consideration transferred for the investment decreases in subsidiary equity from subsidiary dividends increases in subsidiary equity from subsidiary net income

the original consideration transferred for the investment decreases in subsidiary equity from subsidiary dividends increases in subsidiary equity from subsidiary net income

Consolidation Entry D debits the "Investment in Subsidiary" account when

the parent employs the equity method in accounting for its investment and the subsidiary has declared a current period cash dividend.

When the parent has applied the equity method in accounting for the earnings of its subsidiary, consolidated retained earnings will equal

the parent's retained earnings balance

Consolidation Entry E recognizes amortization expenses related to

the subsidiary's acquisition-date differences between fair and book values.