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Consolidated Statements: Subsequent to Acquisition Fundamentals of Advanced Accounting 1 th Edition Fischer, Taylor, a

CHAPTER. Consolidated Statements: Subsequent to Acquisition Fundamentals of Advanced Accounting 1 th Edition Fischer, Taylor, and Cheng . 3. 3. Consolidated Statements Subsequent to Acquisition. Two basic methods to maintain the parent’s investment account:

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Consolidated Statements: Subsequent to Acquisition Fundamentals of Advanced Accounting 1 th Edition Fischer, Taylor, a

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  1. CHAPTER Consolidated Statements:Subsequent to AcquisitionFundamentals of Advanced Accounting 1th EditionFischer, Taylor, and Cheng 3 3

  2. Consolidated Statements Subsequent to Acquisition Two basic methods to maintain the parent’s investment account: • Equity Method (Simple & Sophisticated) • Cost Method Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  3. Equity Method of Accounting for Investments • Equity Method: Parent records income when subsidiary reports income • Parent used percent of ownership time sub’s net income to record investment income • Dividends treated as return of investment – investment account is reduced • Sophisticated Equity Method recognizes amortization on the parent’s ledger for the difference from book value to fair value. Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  4. Cost Method of Accounting for Investments Cost Method: Parent records income when subsidiary declares dividends • Most commonly used method • No adjustments to investment account Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  5. Example – Company P and Subsidiary Company S • Parent purchases 90% of Sub’s stock for $145,000. • Sub has equity accounts: Common Stock $100,000 Retained Earnings 50,000 • 20X1 – Sub: Net Income = $30,000, Dividends = $10,000 • 20X2 – Sub: Net Loss = ($10,000), Dividends = $5,000 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  6. D&D Schedule Example – Company P and Subsidiary Company S Price paid: $ 145,000 Interest acquired: Common stock $ 100,000 Retained earnings 50,000 Total equity 150,000 Ownership interest × 90%135,000 Excess cost 10,000 Annual LifeAmort. Patent …………………………… $10,000 10 $1,000 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  7. Parent Recording of Subsidiary Income (Year 1) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  8. Parent Recording of Subsidiary Income (Year 2) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  9. Worksheet Procedures • The RE of the Sub and the Investment account must be at the same point in time • Eliminate entries during the year to complete alignment • When adjusted to the same point in time, the excess upon elimination will agree with the D&D on purchase date • Sophisticated Equity results in only the amortized balance of the excess • The account adjustments made require amortization for current and prior periods • No entries are made on either firm’s books for worksheet eliminations Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  10. Worksheet Elimination Procedures Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  11. Worksheet Elimination Entries – Simple Equity CY1 Sub Income - Par 27,000 Invest. In Sub - Par 27,000 (Eliminates current year income and creates date alignment) CY2 Invest. In Sub - Par 9,000 Dividends Declared - Sub 9,000 (Eliminates intercompany dividends) EL Common Stock - Sub 90,000 Retained Earnings - Sub 45,000 Invest. In Sub - Par 135,000 (Eliminates investment account against 90% of equity) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  12. Worksheet Elimination Entries – Simple Equity Continued D Patent 10,000 Invest. In Sub - Par 10,000 (Eliminates balance of investment account and distributes to proper accounts) A Patent Amort. Expense 1,000 Patent 1,000 (Amortized excess cost of the patent over its 10 year life) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  13. Simple Equity: Worksheet 3-1 Year 1 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  14. Review of Worksheet Procedures • Elimination of equity income and intercompany dividends returns investment to Jan. 1 for date alignment • Excess is distributed per D&D; amortized for current and prior years • IDS (income distribution schedule) is used to allocate income to P & S • All excess amortizations go to P; only P’s share is recorded initially Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  15. Features of Consolidated Statements • Consolidated net income is total income earned by the entity. • Consolidated net income is distributed to: • Parent • Non-Controlling interest • Retained Earnings statement • Shows only controlling interest • Consolidated Balance Sheet reports NCI as subdivision of equity Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  16. Worksheet Elimination Entries – Cost Method CY2 Dividend Income - Par 9,000 Dividends Declared - Sub 9,000 (Eliminates intercompany dividends) EL Common Stock - Sub 90,000 Retained Earnings - Sub 45,000 Invest. In Sub - Par 135,000 (Eliminates investment account against 90% of equity) D Patent 10,000 Invest. In Sub - Par 10,000 (Eliminates balance of investment account and distributes to proper accounts) A Patent Amort. Expense 1,000 Patent 1,000 (Amortized excess cost of the patent over its 10 year life) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  17. Cost Method: Worksheet 3-3 Year 1 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  18. Subsequent years – Cost Method • For periods after the first year, date alignment will not exist. • Balance of parents investment account ≠ sub’s retained earnings. • Calculate simple equity balance for investment account. • Record entry to adjust investment account. DR Investment in Sub – Par CR RE 1/1/20X2 - Par Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  19. Effect of Sophisticated Equity Method on Consolidation • Parent amortizes excess costs of net assets • Investment account includes only unamortized costs Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  20. Worksheet Elimination Entries – Sophisticated Equity Method CY1 Sub Income - Par 26,000 Invest. In Sub - Par 26,000 (Eliminates current year income and creates date alignment) CY2 Invest. In Sub - Par 9,000 Dividends Declared - Sub 9,000 (Eliminates intercompany dividends) EL Common Stock - Sub 90,000 Retained Earnings - Sub 45,000 Invest. In Sub - Par 135,000 (Eliminates investment account against 90% of equity) D Patent 10,000 Invest. In Sub - Par 10,000 (Eliminates balance of investment account and distributes to proper accounts – includes only UNAMORTIZED excess cost) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  21. Sophisticated Equity Method: Year 1 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  22. Disclosure Concerns • Consolidated net income– The net income of the consolidated entity • NCI share of income– This is the NCI share of consolidated net income; it has often (incorrectly) been treated as an expense. • Controlling share of net income– This is the controlling share of consolidated net income; it has often (incorrectly) been treated as consolidated net income (the NCI share having been deducted) • Total NCI– Best theory is to show as aggregated part of total equity • Some have shown it as liability or put it between liabilities and equity Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  23. During-the-Year Purchases Option 1 - Close Books (WS 3-7) D&D includes Sub RE on purchase date WS includes Sub operations for only later part of year Option 2 - Books Open (WS 3-8) D&D has Beginning of year RE and “Purchased Income” WS includes Sub operations for entire year Purchased income is used to remove income prior to purchase Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  24. Goodwill Impairment Losses • If remaining goodwill is estimated to be less book value of goodwill, record a goodwill impairment loss. • Impairment loss is reported on consolidated income statement for period in which it occurs. • Presented before-tax basis. Two options for impairment losses: • Record loss on parent’s books • Record loss on consolidated worksheet. Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  25. Goodwill Impairment Losses - Calculation Company P purchased 80% interest in Company S in 20X2 resulting in $165,000 of Goodwill. 20X4 information is as follows: Invest in Sub (Soph. Equity) $800,000 Estimated fair value of S. Co. 900,000 Est. fair value of net assets 850,000 Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  26. Goodwill Impairment Losses - Calculation • Step one – determine if Goodwill is impaired: Investment in Sub $800,000 Fair value of investment 720,000* *($900,000 total fair value x 80% ownership) If investment account exceeds fair value, calculate impairment. • Impairment calculation: Est. fair value of company $900,000 Est. fair value of net assets 850,000 Est. goodwill 50,000 Parent’s % of goodwill = $50,000 x 80% = $40,000 Original goodwill calculation 165,000 Goodwill Impairment (125,000) Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

  27. Tax Issues: Tax-Free Exchange • Occurs when seller is not taxed; buyer gets book value for future depreciation • Adjustment from market to book accompanied by DTL = tax %  market adjustment • DTL has same priority as the related asset. • DTL is amortized over same period as asset adjustment; increases tax liability in future years • Tax loss carryover is asset recorded in purchase; there are limits on its use in yearof purchase and later years Copyright 2008 by Thomson South-Western, a part of The Thomson Corporation. All rights reserved.

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