Advanced accounting, 5th edition international student version ch05

Slide 5-3 When consolidated financial statements are prepared, asset and liability values must be adjusted by allocating the difference between implied and book values to specific rec

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Allocation and Depreciation of Differences Between Implied and Book Values Acquisition

Advanced Accounting, Fifth Edition

5

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1 Calculate the difference between implied and book values and allocate to the subsidiary’s assets and liabilities.

2 Describe FASB’s position on accounting for bargain acquisitions.

3 Explain how goodwill is measured at the time of the acquisition.

4 Describe how the allocation process differs if less than 100% of the subsidiary

is acquired.

5 Record the entries needed on the parent’s books to account for the investment under the three methods: the cost, the partial equity, and the complete equity methods.

6 Prepare workpapers for the year of acquisition and the year(s) subsequent to the acquisition, assuming that the parent accounts for the investment using the cost, the partial equity, and the complete equity methods.

7 Understand the allocation of the difference between implied and book values

to long-term debt components.

8 Explain how to allocate the difference between implied and book values when some assets have fair values below book values.

9 Distinguish between recording the subsidiary depreciable assets at net versus gross fair values.

10 Understand the concept of push down accounting.

Learning Objectives

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When consolidated financial statements are prepared,

asset and liability values must be adjusted by allocating

the difference between implied and book values to

specific recorded or unrecorded tangible and intangible assets and liabilities.

value of the subsidiary equals the acquisition price

Allocation of Difference Between

Implied

and Book Values: Acquisition Date

Implied

LO 1 Computation and Allocation of Difference.

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Allocation of difference between implied and book

Step 1: Difference used first to adjust the individual assets

and liabilities to their fair values on the date of acquisition

Step 2: Any residual amount:

 Implied value > aggregate fair values = goodwill.

 Implied value < aggregate fair values = bargain Bargain

is recognized as an ordinary gain

Implied

LO 1 Computation and Allocation of Difference.

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Bargain Rules under prior GAAP (before 2007

standard):

1 Acquired assets, except investments accounted for by the

equity method, are recorded at fair market value.

2 Previously recorded goodwill is eliminated.

3 Long-lived assets (including in-process R&D and excluding

long-term investments) are recorded at fair market value minus an adjustment for the bargain.

4 Extraordinary gain recorded if all long-lived assets are reduced

Implied

LO 2 FASB’s position on accounting for bargain acquisitions.

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Bargain Rules : When a bargain acquisition occurs,

under FASB ASC paragraph 805-30-25-2, the negative

(or credit) balance should be recognized as an ordinary gain in the year of acquisition No assets should be

recorded below their fair values.

situations where nonquantitative factors play a role.

Implied

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In the event of a bargain acquisition (after carefully

considering the fair valuation of all subsidiary assets

and liabilities) the FASB requires the following

accounting:

a an ordinary gain is reported in the financial

statements of the consolidated entity

b an ordinary loss is reported in the financial

statements of the consolidated entity.

c negative goodwill is reported on the balance

Implied

.

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E5-1: On January 1, 2010, Pam Company purchased an 85%

interest in Shaw Company for $540,000 On this date, Shaw

Company had common stock of $400,000 and retained

earnings of $140,000 An examination of Shaw Company’s

assets and liabilities revealed that their book value was equal

to their fair value except for marketable securities and

equipment:

Book Value Fair Value Diff erence

Marketable securities $ 20,000 $ 45,000 $ 25,000 Equipment 120,000 140,000 20,000

Allocation of Difference

Case 1: Implied Value “in Excess of” Fair Value

LO 4 Allocation of difference in a partially owned subsidiary.

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E5-1: A Prepare a Computation and Allocation Schedule for

the difference between book value of equity acquired and the value implied by the purchase price

Book value of equity acquired:

Difference between implied and book value 81,000 14,294 95,294

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Difference between Implied and Book 95,294

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E5-1 (variation): On January 1, 2010, Pam Company

purchased an 85% interest in Shaw Company for $470,000 On this date, Shaw Company had common stock of $400,000 and retained earnings of $140,000 An examination of Shaw

Company’s assets and liabilities revealed that their book value was equal to their fair value except for marketable securities

and equipment:

Marketable securities $ 20,000 $ 45,000 $ 25,000 Equipment 120,000 140,000 20,000

Case 2: Acquisition Cost “Less Than” Fair Value

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Common stock 340,000 60,000 400,000 Retained earings 119,000 21,000 140,000 Total book value 459,000 81,000 540,000 Difference between implied and book value 11,000 1,941 12,941 Marketable securities (21,250) (3,750) (25,000) Equipment (17,000) (3,000) (20,000) Balance (excess of FV over implied value) (27,250) (4,809) (32,059) Pam's gain 27,250

Increase noncontrolling interest to fair

value of assets 4,809

Total allocated gain 32,059

E5-1 (variation): (variation): Prepare a

Computation and Allocation

Schedule

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When any portion of the difference between implied

and book values is allocated to depreciable and

amortizable assets, recorded income must be

adjusted in determining consolidated net income in

current and future periods

Adjustment is needed to reflect the difference

between the amount of amortization and/or

depreciation recorded by the subsidiary and the

appropriate amount based on consolidated carrying

values.

Effect of Allocation and Depreciation of Differences

on Consolidated Net Income: Year Subsequent To Acquisition

Effect of Allocation and Depreciation of Differences

on Consolidated Net Income: Year Subsequent To

Acquisition

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P5-4: On January 1, 2010, Porter Company purchased an 80% interest in Salem Company for $850,000 At that time, Salem Company had capital stock of $550,000 and retained earnings

of $80,000 Differences between the fair value and the book

value of the identifiable assets of Salem Company were as

The book values of all other assets and liabilities of Salem

Company were equal to their fair values on January 1, 2010

The equipment had a remaining life of five years The

inventory was sold in 2010

Year of Acquisitio

n

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P5-4: Salem Company’s net income and dividends declared in

2010 and 2011 were as follows: 2010 Net Income of $100,000; Dividends Declared of $25,000; 2011 Net Income of $110,000; Dividends Declared of $35,000

Entries recorded on the books of Porter to reflect the acquisition

of Salem and the receipt of dividends for 2010 are as follows:

Consolidated Statements – Cost

n

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P5-4: A Prepare a Computation and Allocation Schedule

Method

Book value of equity acquired:

n

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Beg retained earnings - Salem 80,000

Common stock - Salem 550,000

Difference between Cost and Book 432,500

n

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n

P5-4: B 1. Prepare the worksheet entries for Dec 31,

2010.

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Investment in Salem 60,000

Beg Retained Earnings ‑ Porter Co 60,000

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Dividend income ($35,000 x 80%) 28,000

Beg retained earnings - Salem 155,000

Common stock - Salem 550,000

Difference between Cost and Book 432,500

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Noncontrolling interest 8,000

1/1 Retained Earnings – Porter 32,000

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P5-4: D. Prepare a consolidated financial statements

workpaper for the year ended December 31, 2012

Although no goodwill impairment was reflected at the

end of 2010 or 2011, the goodwill impairment test

conducted at December 31, 2012 revealed implied

goodwill from Salem to be only $150,000 The

impairment has not been recorded in the books of the

parent (Hint: You can infer the method being used by the parent from the information in its trial balance.)

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P5-4: D 2012 Year Subsequent of Acquisition

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Consolidated Income Statement Porter Salem Debit Credit NCI Balances Cash $ 70,000 $ 65,000 $ 135,000 Accounts receivable 260,000 190,000 450,000 Inventory 240,000 175,000 415,000 Investment in Sid 850,000 120,000 970,000

Difference (IV & BV) 432,500 432,500

Land 320,000 65,000 385,000 Plant and equipment 360,000 280,000 130,000 78,000 692,000 Goodwill 197,500 47,500 150,000 Total assets $ 1,780,000 $ 1,030,000 $ 2,227,000

Accounts payable $ 132,000 $ 110,000 $ 242,000 Notes payable 90,000 30,000 120,000 Common stock 1,000,000 550,000 550,000 1,000,000 Retained earnings 558,000 340,000 425,100 168,000 7,300 633,600 1/1 NCI in net assets 8,000 242,500 224,100

-10,400

12/31 NCI in net asset 231,400 231,400 Total liab & equity $ 1,780,000 $ 1,030,000 $ 1,938,500 $ 1,938,500 $ 2,227,000

Eliminations

Subseque

nt Year

P5-4: D 2012 Year Subsequent of Acquisition

Method

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Investment in Salem 120,000

Beg Retained Earnings ‑ Porter Co 120,000

Acquisition date retained earnings - Salem $ 80,000

Retained earnings 1/1/12 - Salem 230,000

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Dividend income ($60,000 x 80%) 48,000

Beg retained earnings - Salem 230,000

Common stock - Salem 550,000

Difference between Cost and Book 432,500

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Noncontrolling interest 8,000

Difference between cost and book 432,500

1/1 Retained Earnings – Porter 32,000

Subseque

nt Year

P5-4 D. Worksheet entries for Dec 31, 2012 W

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Method

Depreciation expense ($130,000/5) 26,000

Noncontrolling interest (2 years) 10,400

1/1 Retained Earnings – Porter (2 years) 41,600

Subseque

nt Year

Impairment loss ($197,500 - $150,000) 47,500

To record goodwill impairment

P5-4 D. Worksheet entries for Dec 31, 2012 W

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The equity methods (partial and complete) reflect

the effects of certain transactions more fully than

the cost method on the books of the parent

However consolidated totals are the same

regardless of which method is used by the Parent

company.

LO 5 Recording investment by Parent, partial equity method.

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Notes payable, long-term debt, and other obligations of

an acquired company should be valued for consolidation purposes at their fair values.

 Fair value is the price that would be paid to transfer a liability in

an orderly transaction between market participants at the measurement date A fair value measurement assumes:

 The liability is transferred to a market participant and

 The nonperformance risk relating to the liability is the same before and after its transfer.

Additional Considerations Relating to Treatment of

Difference Between Implied and Book Values

Allocation of Difference between Implied and Book Values to Long-Term Debt

LO 7 Allocating difference to long-term debt.

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then management’s best estimate based on

Allocation of Difference between Implied and Book Values to Long-Term Debt

LO 7 Allocating difference to long-term debt.

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On the date of acquisition, sometimes the

recorded on the books of the subsidiary.

than less than its recorded value on the books of the subsidiary.

Allocating the Difference to Assets

(Liabilities) with Fair Values Less (Greater)

Than Book Values

LO 8 Allocating when the fair value is below book value.

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E5-1 (Variation): (Variation): On January 1, 2010, Pam Company

purchased an 85% interest in Shaw Company for $540,000 On this date, Shaw Company had common stock of $400,000 and retained earnings of $140,000 An examination of Shaw

Company’s assets and liabilities revealed that their book value was equal to their fair value except for marketable securities and equipment:

Marketable securities $ 20,000 $ 45,000 $ 25,000 Equipment (5 year life) 120,000 100,000 (20,000)

Allocating the Difference to Assets

(Liabilities) with Fair Values Less (Greater)

Than Book Values

LO 8 Allocating when the fair value is below book value.

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