(Solution Manual) Advanced Financial Accounting

Christensen,Cottrell,Budd, 13

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Solution Manual

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Solution Manual for Advanced Financial Accounting, The downloadable file consists of 1130 pages, and the total size of the file is 11.23 MB. Purchase now only for highly discounted price.

Author(s): Christensen, Cottrell, Budd

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Advanced Financial Accounting 13e Theodore Christensen, David Cottrell, Richard Baker (Solutions Manual All Chapters) 1-1 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. CHAPTER 1 INTERCORPORATE ACQUISITION S AND INVESTMENTS IN OTHER ENTITIES ANSWERS TO QUESTIONS Q1-1 Complex organization al structures often result when companies do business in a complex business environment. New subsidiaries or other entities may be formed for purposes such as extending operations into foreign countries, seeking to protect existing assets from risks associat ed with entry into new product lines, separating activities that fall under regulatory controls, and reducing taxes by separating certain types of operations. Q1-2 The split -off and spin -off result in the same reduction of reported assets and liabilities. Only the stockholders’ equity accounts of the company are different. The number of shares outstanding remains unchanged in the case of a spin -off and retained earnings or paid -in capital is reduced. Shares of the parent are exchanged for share s of the subsidiary in a split -off, thereby reducing the outstanding shares of the parent company. Q1-3 Enron ’s management used special -purpose entities to avoid reporting debt on its balance sheet and to create fictional transactions that resulted in r eported income. It also transferred bad loans and investments to special -purpose entities to avoid recognizing losses in its income statement. Q1-4 (a) A statutory merger occurs when one company acquires another company and the assets and liabilities o f the acquired company are transferred to the acquiring company; the acquired company is liquidated, and only the acquiring company remains. The acquiring company can give cash or other assets in addition to stock. (b)A statutory consolidation occurs wh en a new company is formed to acquire the assets and liabilities of two combining companies . The combining companies dissolve, and the new company is the only surviving entity. (c)A stock acquisition occurs when one company acquires a majority of the common stock of another company and the acquired company is not liquidated; both companies remain as separate but related corporations. Q1-5 A noncontrolling interest exists w hen the acquiring company gains control but does not own all the shares of the acquired company. The non -controlling interest is made up of the shares not owned by the acquiring company. Q1-6 Goodwill is the excess of the sum of (1) the fair value given by the acquiring company , (2) the fair value of any shares already owned by the parent and (3) the acquisition -date fair value of any noncontrolling interest over the acquisition -date fair value of the net identifiable assets acquired in the business combination. Q1-7 A differential is the total difference at the acquisition date between the sum of (1) the fair value given by the acquiring company, (2) the fair value of any shares already owned by the parent and (3) the acquisition -date fair value of any noncontrolling interest and the book value of the net identifiable assets acquired is referred to as the differential . Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-2 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. Q1-8 The purchase of a company is viewed in the same way as any other purchase of assets . The acquired company is owned by the acquirin g company only for the portion of the year subsequent to the combination . Therefore, earnings are accrued only from the date of purchase forward . Q1-9 None of the retained earnings of the subsidiary should be carried forward under the acquisition method . Thus, consolidated retained earnings immediately following an acquisition is limited to the balance reported by the acquiring company . Q1-10 Additional paid -in capital reported following a business combination is the amount previousl y reported on the acquiring company's books plus the excess of the fair value over the par or stated value of any shares issued by the acquiring company in completing the acquisition less any sock issue costs . Q1-11 When the acquisition method is used, all costs incurred in bringing about the combination are expensed as incurred . None are capitalized . However, costs associated with the issuance of stock are recorded as a reduction of additional paid -in capital. Q1-12 When the acquiring company issues shares of stock to complete a business combination, the excess of the fair value of the stock issued over its par value is recorded as additional paid -in capital. All costs incurred by the acquiring company in issuing the securitie s should be treated as a reduction in the additional paid -in capital. Items such as audit fees associated with the registration of the new securities, listing fees, and brokers' commissions should be treated as reductions of additional paid -in capital when stock is issued. Q1-13 If the fair value of a reporting unit acquired in a business combination exceeds its carrying amount, the goodwill of that reporting unit is considered unimpaired. On the other hand, if the carrying amount of the reporting unit exceeds its fair value, impa irment of goodwill is implied. An impairment must be recognized if the carrying amount of the goodwill assigned to the reporting unit is greater than the implied value of the carrying unit ’s goodwill. The implied value of the reporting unit ’s goodwill is d etermined as the excess of the fair value of the reporting unit over the fair value of its net identifiable assets. Q1-14 A bargain purchase occurs when the fair value of the consideration given in a business combination, along with the fair value of any equity interest in the acquiree already held and the fair value of any noncontrolling interest in the acquiree, is less than the fair value of the acquiree’s net identifiable assets . Q1-15 The acquirer should record the clarification of the acquisiti on-date fair value of buildings as a reduction to buildings and addition to goodwill . . Q1-16 The acquirer must revalue the equity position to its fair value at the acquisition date and recognize a gain . A total of $250,000 ($25 x 10,000 shares) would be recognized in this case assuming that the $65 per share price is the appropriate fair value for all shares (i.e. there is no control premium for the new shares purchased) . Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-3 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. SOLUTIONS TO CASES C1-1 Assignment of Acquisition Costs MEMO To: Vice-President of Finance Troy Company From: , CPA Re: Recording Acquisition Costs of Business Combination Troy Company incurred a variety of costs in acquiring the ownership of Kline Company and transferri ng the assets and liabilities of Kline to Troy Company. I was asked to review the relevant accounting literature and provide my recommendations as to what was the appropriate treatment of the costs incurred in the Kline Company acquisition. Current accoun ting standards require that acquired companies be valued under ASC 805 at the fair value of the consideration given in the exchange, plus the fair value of any shares of the acquiree already held by the acquirer, plus the fair value of any noncontrolling i nterest in the acquiree at the combination date [ASC 805]. All other acquisition -related costs directly traceable to an acquisition should be accounted for as expenses in the period incurred [ASC 805]. The costs incurred in issuing common or preferred stock in a business combination are required to be treated as a reduction of the recorded amount of the securities (which would be a red uction to additonal paid -in capital if the stock has a par value or a reduction to common stock for no par stock). A total of $720,000 was paid in completing the Kline acquisition. Kline should record t he $200,000 finders’ fee and $90,000 legal fees for t ransferring Kline’s assets and liabilities to Troy as acquisition expense in 20X7 . The $60,000 payment for stock registration and audit fees should be recorded as a reduction of paid -in capital recorded when the Troy Company shares are issued to acquire th e shares of Kline. The only cost potentially at issue is the $370,000 legal fees resulting from the litigation by the shareholders of Kline. If this cost is considered to be a direct acquisition cost, it should be included in acquisition expense . If, on th e other hand, it is considered to be related to the issuance of the shares , it should be debited to paid-in capital. Primary citation ASC 805 C1-2 Evaluation of Merger a. AT&T had a vast cable customer base, but felt that TimeWarner’s content would greatly enhance the demand for its cable services. b. AT&T provided TimeWarner shareholders with AT&T stock and an equal value of cash. c. The cash portion of the merger was fu nded primarily with debt. d. This would be a statutory merger since (1) the AT&T name survived through the merger and (2) the acquisition was formalized when AT&T gave both stock and cash. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-4 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. C1-3 Business Combinations It is very difficult to develop a single explanation for any serie s of events. Merger activity in the United States is impacted by events both within the U.S. economy and those around the world. As a result, there are many potential answers to the questions posed in this case. a. One factor that may have prompted the gr eater use of stock in business combinations in the middle and late 1990s is that many of the earlier combinations that had been effected through the use of debt had unraveled. In many cases, the debt burden was so heavy that the combined companies could no t meet debt payments. Thus, this approach to financing mergers had somewhat fallen from favor by the mid -nineties. Further, with the spectacular rise in the stock market after 1994, many companies found that their stock was worth much more than previously. Accordingly, fewer shares were needed to acquire other companies. b. Two of major factors appear to have had a significant influence on the merger movement in the mid-2000s . First, interest rates were very low during that time, and a great amount of unemployed cash was available worldwide . Many business combinations were effected through significant borrowing . Second, private equity funds pooled money from various institutional investors and wealthy individuals and used much of it to acquire companies . Many of the acquisitions of this time period involved private equity funds or companies that acquired other companies with the goal of making quick changes and selling the companies for a profit . This differed from prior merger periods where acquiring c ompanies were often looking for long-term acquisitions that would result in synergies. In late 200 8, a mortgage crisis spilled over into the credit markets in general, and money for acquisitions became hard to get . This in turn caused many planned or poss ible mergers to be canceled . In addition, the economy in general faltered toward the end of 200 8 and into 200 9. Since that time, companies have turned their attention to global expansion. c. Establishing incentives for corporate mergers is a controversial issue. Many people in our society view mergers as not being in the best interests of society because they are seen as lessening competition and often result in many people losing their jobs. On the other hand, many mergers result in companies that are mor e efficient and can compete better in a global economy; this in turn may result in more jobs and lower prices. Even if corporate mergers are viewed favorably, however, the question arises as to whether the government, and ultimately the taxpayers, should b e subsidizing those mergers through tax incentives. Many would argue that the desirability of individual corporate mergers, along with other types of investment opportunities, should be determined on the basis of the merits of the individual situations rat her than through tax incentives. Perhaps the most obvious incentive is to lower capital gains tax rates. Businesses may be more likely to invest in other companies if they can sell their ownership interests when it is convenient and pay lesser tax rates. Another alternative would include exempting certain types of intercorporate income. Favorable tax status might be given to investment in foreign companies through changes in tax treaties. As an alternative, barriers might be raised to discourage foreign investment in United States, thereby increasing the opportunities for domestic firms to acquire ownership of other companies. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-5 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. d. In an ideal environment, the accounting and reporting for economic events would be accurate and timely and would not influence the economic decisions being reported. Any change in reporting requirements that would increase or decrease management's ability to "manage" earnings could impact management's willingness to enter new or risky business fields and affect the level of business combinations. Greater flexibility in determining which subsidiaries are to be consolidated, the way in which intercorporate income is calculated, the elimination of profits on intercompany transfers, or the process used in calculating earnings per share could impact such decisions. The processes used in translating foreign investment into United States dollars also may impact management's willingness to invest in domestic versus international alternatives. C1-4 Determination of Goodwill Impa irment MEMO TO: Chief Accountant Plush Corporation From: , CPA Re: Determining Impairment of Goodwill Once goodwill is recorded in a business combination, it must be accounted for in accordance with current accounting literature . Goodwill is carried forward at the original amount without amortization, unless it becomes impaired. The amount determined to be goodwill in a business combination must be assigned to the reporting units of the acquiring entity that are expected to benefit from the synergies of the combination. [ ASC 350 -20-35-41] This means the total amount assigned to goodwill may be divided amon g a number of reporting units. Goodwill assigned to each reporting unit must be tested for impairment annually and between the annual tests in the event circumstances arise that would lead to a possible decrease in the fair value of the reporting unit belo w its carrying amount [ ASC 350 -20-35-30, ASU 2017 - 04]. As long as the fair value of the reporting unit is greater than its carrying value, goodwill is not considered to be impaired. If the fair value is less than the carrying value, an impairment loss must be reported for the amount by which the carrying amount of reporting unit exceeds its fair value. However, the impairment cannot exceed the amount of goodwill originally recognized for that reporting unit [ASC 350 -20-35-11, ASU 2017 -04] At the date of acquisition, Plush Corporation recognized goodwill of $20,000 ($450,000 - $430,000) and assigned it to a single reporting unit. Even though the fair value of the reporting unit increased to $485,000 at December 31, 20X5, Plush Corporation must test for imp airment of goodwill if the carrying value of Plush’s investment in the reporting unit is above that amount. That would be the case if the carrying value were determined to be $500,000. If the carrying value of the reporting unit’s net assets exceeds the fa ir value of the reporting unit’s net assets, an impairment is recorded for the amount by which the carrying amount exceeds the fair value (but the impairment is limited to the amount of goodwill reported by that unit). If the carrying amount were $500,000 and the fair value of the reporting unit were $ 485,000 , The impairment would be $15,000 ($500,000 - $485,000). On the other hand, if the fair value were greater than the carrying value, there would be no goodwill impairment. For example, if the carrying va lue of the reporting unit were determined to be $470,000, there would be no impairment. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-6 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. With the information provided, we do not know if there has been an impairment of the goodwill involved in the purchase of Common Corporation . However, Plush must foll ow the procedures outlined here in testing for impairment at December 31, 20X5. Primary citations ASC 350 -20-35-11 ASC 350 -20-35-30 ASC 350 -20-35-41 ASU 2017 -04 C1-5 Risks Associated with Acquisitions Alphabet discloses on page s 9-10 of its 10 -K that acquisitions, investments, and divestitures are an important part of its corporate strategy. The company goes on to discuss relevant risks associated with these activities . The specific risk areas identified include: • The use of management time on acquisitions -related activities may temporarily divert management’s time and focus from normal operations. • After acquiring companies, there is a risk that Alphabet may not successfully develop the business and technologies of the acquired firms. • It can be difficult to implement controls, procedures, and policies appropriate for a public company that were not already in place in the acquired company . • Integrating the accounting, management information, human resources, and other administrativ e systems can be challenging . • The company sometimes encounters d ifficulties in transitioning operations, users, and customers into Alphabet ’s existing platforms. • Government “red tape” in obtaining necessary approvals c an reduce the potential strategic bene fits of acquisitions. • There are many difficulties associated with foreign acquisitions due to differences in culture, language, economics, currencies, politic, and regulation . • Since corporate cultures can vary significantly, there are p otential difficult ies in integrating the employees of an acquired company into the Google organization . • It can be difficult to retain employees who worked for companies that Alphabet acquires . • There may be legal liabilities for activities of acquired companies. • Litigation of claims against acquired companies or as a result of acquisitions can be problematic. • Anticipated benefits of acquisitions may not materialize. • Acquisitions through equity issuances can result in dilution to existing shareholders. Similarly, t he issuance of debt can result in other costs. Impairments, restructuring charges, and other unfavorable results can result . C1-6 Leveraged Buyouts a. A leveraged buyout (LBO) involves acquiring a company in a transaction or series of planned transactions that include using a very high proportion of debt, often secured by the assets of the target company . Normally, the investors acquire all of the stock or assets of the target company . A management buyout (MBO) occurs when the existing manageme nt of a company acquires all or most of the stock or assets of the company . Frequently, the investors in LBOs include management, and thus an LBO may also be an MBO Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-7 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. b. The FASB has not dealt with leveraged buyouts in either current pronouncements or expos ure drafts of proposed standards . The Emerging Issues Task Force has addressed limited aspects of accounting for LBOs . In EITF 84 -23, “Leveraged Buyout Holding Company Debt,” the Task Force did not reach a consensus . In EITF 88 -16, “Basis in Leveraged Buyo ut Transactions,” the Task Force did provide guidance as to the proper basis that should be recognized for an acquiring company’s interest in a target company acquired through a leveraged buyout. c. Whether an LBO is a type of business combination is not clear and probably depends on the structure of the buyout . The FASB has not taken a position on whether an LBO is a type of business combination . The EITF indicated that LBOs of the type it was considering are similar to business combinations . Most LBOs ar e effected by establishing a holding company for the purpose of acquiring the assets or stock of the target company . Such a holding company has no substantive operations . Some would argue that a business combination can occur only if the acquiring company has substantive operations . However, neither the FASB nor EITF has established such a requirement . Thus, the question of whether an LBO is a business combination is unresolved. d. The primary issue in deciding the proper basis for an interest in a company acquired in an LBO, as determined by EITF 88 -16, is whether the transaction has resulted in a change in control of the target company (a new controlling shareholder group has been established) . If a change in control has not occurred, the transaction is t reated as a recapitalization or restructuring, and a change in basis is not appropriate (the previous basis carries over) . If a change in control has occurred, a new basis of accounting may be appropriate. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-8 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. SOLUTIONS TO EXERCISES E1-1 Multiple -Choice Questions on Complex Organizations 1. b – As companies grow in size and respond to their unique business environment, they often develop complex organizational and ownership structures. (a) Incorrect . The need to avoid legal liability is not a direct result of increased complexity. (c) Incorrect . Part of the reason the business environment is complex is due to the increased number and type of divisions and product lines in companies . (d) Incorrect. This statement is false . There has been an impact on organizational structure and management. 2. d – A transfer of product to a subsidiary does not constitute a sale for income purposes and as such would not increase profit for the parent . (a) Incorrect . Shifting risk is a common reason for establishing a subsidiary. (b) Incorrect . Corporations often establish subsidiaries in other regulatory environments so that the parent company is not explicitly affected by the regulatory control. (c) Incorrect. Corporations will often establish subsidiaries to take advantage of tax benefits that exist in different regions. 3. a – When a merger occurs , all the assets and liabilities are transferred to the purchasing company and any excess of the purchase price over the fair value of the net assets is recorded as goodwill on the purchaser’s books. (b) Incorrect . This combination results in a parent -subs idiary relationship in which an investment in Spade would be recorded. In the event that goodwill were present in this transaction, it would be reported on the consolidated books and not Poker’s books . (c) Incorrect . In a spin -off, no change to net assets occurs, and consequently no goodwill is recorded . (d) Incorrect. In a split -off, no change to net assets occurs, and consequently no goodwill is recorded. 4. b – In an internal expansion in which the existing company creates a new subsidiary, the assets and liabilities are recorded at the carrying values of the original company. (a) Incorrect . This is not in accordance with GAAP; assets are transferred at the pare nt’s book (carrying) value. (c) Incorrect . Not in accordance with US GAAP; no gain or loss is permitted because the assets are transferred at the parent’s book value . (d) Incorrect. Not in accordance with US GAAP – Goodwill is not created when a company creates a subsidiary through internal expansion . 5. d – This is the proper impairment test required under US GAAP , according to FASB 142/ASC 350. (a) Incorrect . This is not the proper test for impairment under US GAAP. (b) Incorrect . This is not the proper test for impairment under US GAAP. (c) Incorrect. This is not the proper test for impairment under US GAAP. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-9 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-2 Multiple -Choice Questions on Recording Business Combinations [AICPA Adapted] 1. a – Goodwill equals t he excess sum of the consideration given over the sum of the fair value of identifiable assets less liabilities. (b) Incorrect . Assets considered only need be identifiable, not just tangible . For example, patents would be identifiable, but not tangible. (c) Incorrect . Assets considered only have to be identifiable. This includes both tangible and intangible identifiable assets. (d) Incorrect. The calculation of goodwill requires a remeasurement of the assets and liabilities at fair value, not book value. 2. c – “Costs of issuing equity securities used to acquire the acquire are treated in the same manner as stock issue costs are normally treated, as a reducti on in the paid -in capital associated with the securities” A reduction to the paid -in capital account results in a reduction in the fair value of the securities issued. (a) Incorrect . Stock issue costs are not expensed but are charged as a reduction in paid - in capital . (b) Incorrect . Stock issue costs result in a reduction of stockholder’s equity, not an increase. (d) Incorrect. Stock issue costs result in a reduction of equity, and are not capitalized. They are not added to goodwill. 3. d – When a new company is acquired, the assets and liabilities are recorded at fair value. (a) Incorrect . Historical cost is not always reflective of actual value, thus fair values are used. (b) Incorrect . Book value is often different than fair value, thus fair value is the appropriate basis . (c) Incorrect. This method is also unacceptable. Fair value is the appropriate basis. 4. d – This combination would result in a bargain purchase. (a) Incorrect . Deferred credits do not arise as a result of fair value of identifiable assets exceeding fair value of the consideration. (b) Incorrect . The fair value is not reduced, and deferred credits do not arise in this situation. (c) Incorrect. The fair value i s not reduced, and deferred credits do not arise in this situation. 5. c – $875,000 – $800,000 = $75,000. Total consideration given – FV of net assets = Goodwill Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-10 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-3 Multiple -Choice Questions on Reported Balances [AICPA Adapted] 1. d – $2,900,000. New APIC Balance = existing APIC on Poe’s books + APIC from new stock issuance. (200,000*($18 -$10) + $1,300,000 = $2,900,000) 2. d – $600,000. The total balance in the investment account is equal to the total consideration given in the combination. (10,000 *$60 per share = $600,000) 3. c – $150,000. Goodwill = Consideration given – FV of net assets acquired. FV of Net Assets: $80,000 + $190,000 + $560,000 - $180,000 = $650,000. (800,000 – 650,000 = 150,000) 4. c – $4,000,000. The increase in net assets is solely attributable to the FV of the consideration given, the nonvoting preferred stock. (a) Incorrect . This answer only reflects t he book value of Master’s net assets . (b) Incorrect . This answer only reflects the fair value of Master’s net assets. (d) Incorrect. The additional stock related to the finder’s fee is not capitalized, but rather expensed. E1-4 Multiple -Choice Questions Involving Account Balances 1. c – When the parent creates the subsidiary, the equipment is transferred at cost with the accompanying accumulated depreciation (which in effect is the book value) . ($100,000/10 = $10,000 per year * 4 = $40,000. ) (a) Incorrect . When a subsidiary is created internally, the assets are transferred as they were on the parent’s books ( carrying value ). Fair value is not considered. (b) Incorrect . This is the proper carrying value of the asset, but it should be recorded at cost with the accompanying accumulated depreciation. (d) Incorrect. When a subsidiary is created internally, the assets are transferred as they were on the parent’s books ( carry ing value ). 2. c – The assets are transferred at the carrying value on Pead ’s books, and thus no change in reported net assets occurs. (a) Incorrect . No change occurs. (b) Incorrect . No change occurs. (d) Incorrect. No change occurs. 3. b – APIC = $140,000 (BV) – 7,000 * $8 = $84,000. 4. b – $35,000. Since the carrying value of the reporting unit ($330,000) is lower than the fair value of the reporting unit ’s net assets ($350,000) , the goodwill of the reporting unit is not impaired and will remain at its carrying value of $35,000 5. c – $15,000. The carrying value of the reporting unit’s net assets ($575,000) exceeds the estimated fair value of the reporting unit ($560,000). The goodwill should be impaired by the amount by which the carrying value of the unit’s net assets exceeds the estimated fair value of the reporting unit , $15,000 ($575,000 - $560,000). Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-11 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-5 Asset Transfer to Subsidiary a. Journal entry recorded by Pale Company for transfer of assets to Sight Company: Investment in Sight Company Common Stock 408,000 Accumulated Depreciation – Buildings 24,000 Accumulated Depreciation – Equipment 36,000 Cash 21,000 Inventory 37,000 Land 80,000 Buildings 240,000 Equipment 90,000 b. Journal entry recorded by Sight Company for receipt of assets from Pale Company: Cash 21,000 Inventory 37,000 Land 80,000 Buildings 240,000 Equipment 90,000 Accumulated Depreciation – Buildings 24,000 Accumulated Depreciation – Equipment 36,000 Common Stock 60,000 Additional Paid -In Capital 348,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-12 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-6 Creation of New Subsidiary a. Journal entry recorded by Pester Company for transfer of assets to Shumby Corporation: Investment in Shumby Corporation Common Stock 498,000 Allowance for Uncollectible Accounts Receivable 7,000 Accumulated Depreciation – Buildings 35,000 Accumulated Depreciation – Equipment 60,000 Cash 40,000 Accounts Receivable 75,000 Inventory 50,000 Land 35,000 Buildings 160,000 Equipment 240,000 b. Journal entry recorded by Shumby Corporation for receipt of assets from Pester Company: Cash 40,000 Accounts Receivable 75,000 Inventory 50,000 Land 35,000 Buildings 160,000 Equipment 240,000 Allowance for Uncollectible Accounts Receivable 7,000 Accumulated Depreciation – Buildings 35,000 Accumulated Depreciation – Equipment 60,000 Common Stock 120,000 Additional Paid -In Capital 378,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-13 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-7 Balance Sheet Totals of Parent Company a. Journal entry recorded by Phoster Corporation for transfer of assets and accounts payable to Skine Company: Investment in Skine Company Common Stock 66,000 Accumulated Depreciation 28,000 Accounts Payable 22,000 Cash 15,000 Accounts Receivable 24,000 Inventory 9,000 Land 3,000 Depreciable Assets 65,000 b. Journal entry recorded by Skine Company for receipt of assets and accounts payable from Phoster Corporation: Cash 15,000 Accounts Receivable 24,000 Inventory 9,000 Land 3,000 Depreciable Assets 65,000 Accumulated Depreciation 28,000 Accounts Payable 22,000 Common Stock 48,000 Additional Paid -In Capital 18,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-14 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-8 Acquisition of Net Assets Pun Corporation will record the following journal entries: (1) Assets 71,000 Goodwill 9,000 Liabilities 20,000 Cash 60,000 (2) Acquisition Expense 4,000 Cash 4,000 E1-9 Reporting Goodwill a. Goodwill: $120,000 = $310,000 - $190,000 Investment: $310,000 b. Goodwill: $6,000 = $196,000 - $190,000 Investment: $196,000 c. Goodwill: $0; no goodwill is recorded when the purchase price is below the fair value of the net identifiable assets. Investment: $190,000; recorded at the fair value of the net identifiable assets. E1-10 Stock Acquisition Journal entry to record the purchase of Sippy Inc., shares: Investment in Sippy Inc., Common Stock 986,000 Common Stock 425,000 Additional Paid -In Capital 561,000 $986,000 = $58 x 17,000 shares $425,000 = $25 x 17,000 shares $561,000 = ($58 - $25) x 17,000 shares Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-15 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-11 Balances Reported Following Combination a. Stock Outstanding: $200,000 + ($10 x 8,000 shares) $280,000 b. Cash and Receivables: $150,000 + $40,000 190,000 c. Land: $100,000 + $85,000 185,000 d. Buildings and Equipment (net): $300,000 + $230,000 530,000 e. Goodwill: ($50 x 8,000) - $355,000 45,000 f. Additional Paid -In Capital: $20,000 + [($50 - $10) x 8,000] 340,000 g. Retained Earnings 330,000 E1-12 Goodwill Recognition Journal entry to record acquisition of Spur Corporation net assets: Cash and Receivables 40,000 Inventory 150,000 Land 30,000 Plant and Equipment 350,000 Patent 130,000 Goodwill 55,000 Accounts Payable 85,000 Cash 670,000 Computation of goodwill Fair value of consideration given $670,000 Fair value of assets acquired $700,000 Fair value of liabilities assumed (85,000) Fair value of net assets acquired 615,000 Goodwill $ 55,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-16 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-13 Acquisition Using Debentures Journal entry to record acquisition of Sorden Company net assets: Cash and Receivables 50,000 Inventory 200,000 Land 100,000 Plant and Equipment 300,000 Discount on Bonds Payable 17,000 Goodwill 8,000 Accounts Payable 50,000 Bonds Payable 625,000 Computation of goodwill Fair value of consideration given $608,000 Fair value of assets acquired $650,000 Fair value of liabilities assumed (50,000 ) Fair value of net assets acquired 600,000 Goodwill $ 8,000 E1-14 Bargain Purchase Journal entry to record acquisition of Sorden Company net assets: Cash and Receivables 50,000 Inventory 200,000 Land 100,000 Plant and Equipment 300,000 Discount on Bonds Payable 16,000 Accounts Payable 50,000 Bonds Payable 580,000 Gain on Bargain Purchase of Subsidiary 36,000 Computation of Bargain Purchase Gain Fair value of consideration given $564,000 Fair value of assets acquired $650,000 Fair value of liabilities assumed (50,000 ) Fair value of net assets acquired 600,000 Bargain Purchase Gain $ 36,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-17 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-15 Goodwill Impairment a. Goodwill of $80,000 will be reported. The fair value of the reporting unit ($340,000) is greater than the carrying amount of the reporting unit ($290,000). As a result, no impairment loss will be recorded. b. An impairment loss of $ 10,000 ($ 290,000 - $280,000) will be recognized. Therefore, goodwill of $ 70,000 will be reported (80,000 – 10,000 impairment loss) . c. An impairment loss of $ 30,000 ($ 290,000 - $260,000) will be recognized. Therefore, goodwill of $ 50,000 will be reported (80,000 – 30,000 impairment loss) . E1-16 Goodwill Impairment a. No impairment loss will be recognized. The estimated fair value of the reporting unit ($530,000) is greater than the carrying value of the reporting unit’s net assets ($500,000) . b. A goodwill impairment of $15,000 will be recognized ($500,000 - $485,000) . c. A goodwill impairment of $50,000 will be recognized ($500,000 - $450,000) . E1-17 Goodwill Assigned to Reporting Units Goodwill of $1 46,000 ($ 50,000 + $48,000 + $8,000 + $40,000) should be reported, computed as follows: Reporting Unit A: A goodwill impairment of $10,000 should be recognized ($700,000 - $690,000) . Thus, g oodwill of $ 50,000 ($60,000 - $10,000 impairment) should be reported on December 31, 20X7 .. Reporting Unit B: There is no goodwill impairment because the fair value of the reporting unit exceeds the carrying value. Goodwill of $48,000 should be reported on December 31, 20X7 . Reporting Unit C: A goodwill impairment of $ 20,000 should be recognized ($380 ,000 - $370,000) . Thus, goodwill of $ 8,000 ($28,000 - $20,000 impairment) should be reported on December 31, 20X7. Reporting Unit D: There is no goodwill impairment because the fair value of the reporting unit exceeds the carrying value. Goodwill of $ 40,000 should be reported. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-18 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-18 Goodwill Measurement a. The fair value of the reporting unit ($580,000) is greater than the carrying value of the investment ($550,000) . Thus, goodwill is not impair ed Goodwill of $150,000 will be reported. b. The carrying value of the reporting unit ($550,000) exceeds the fair value of the reporting unit ($540,000). Thus, an impairment of goodwill of $10,000 ($ 550,000 - $540,000) must be recognized. Goodwill of $ 140,000 will be reported. c. The carrying value of the reporting unit ($550,000) exceeds the fair value of the reporting unit ($500,000). Thus, an impairment loss of $ 50,000 ($ 550,000 - $500,000) must be recognized. Goodwill of $10 0,000 will be reported. d. The carrying value of the reporting unit ($550,000) exceeds the fair value of the reporting unit ($460,000). Thus, an impairment loss of $90,000 ($ 550,000 - $460,000) must be recognized. Goodwill of $ 60,000 will be reported. E1-19 Computation of Fair Value Amount paid $517,000 Book value of assets $624,000 Book value of liabilities (356,000 ) Book value of net assets $268,000 Adjustment for research and development costs (40,000 ) Adjusted book value $228,000 Fair value of patent rights 120,000 Goodwill recorded 93,000 (441,000 ) Fair value increment of buildings and equipment $ 76,000 Book value of buildings and equipment 341,000 Fair value of buildings and equipment $417,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-19 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-20 Computation of Shares Issued and Goodwill a. 15,600 shares were issued, computed as follows: Par value of shares outstanding following merger $327,600 Paid-in capital following merger 650,800 Total par value and paid -in capital $978,400 Par value of shares outstanding before merger $218,400 Paid-in capital before merger 370,000 (588,400 ) Increase in par value and paid -in capital $390,000 Divide by price per share ÷ $25 Number of shares issued 15,600 b. The par value is $7, computed as follows: Increase in par value of shares outstanding ($327,600 - $218,400) Divide by number of shares issued $109,200 Par value ÷ 15,600 $ 7.00 c. Goodwill of $34,000 was recorded, computed as follows: Increase in par value and paid -in capital $390,000 Fair value of net assets ($476,000 - $120,000) (356,000 ) Goodwill $ 34,000 E1-21 Combined Balance Sheet Pam Corporation and Slest Company Combined Balance Sheet January 1, 20X2 Cash and Receivables $ 240,000 Accounts Payable $ 125,000 Inventory 460,000 Notes Payable 235,000 Buildings and Equipment 840,000 Common Stock 244,000 Less: Accumulated Depreciation (250,000) Additional Paid -In Capital 556,000 Goodwill 75,000 Retained Earnings 205,000 $1,365,000 $1,365,000 Computation of goodwill Fair value of compensation given $480,000 Fair value of net identifiable assets ($490,000 - $85,000) (405,000 ) Goodwill $ 75,000 Computation of APIC Fair value of compensation given ($60 x 8,000 shares) Less par value of shares issued ($8 x 8,000) $480,000 (64,000) Plus existing APIC from Pam’s books 140,000 Additional Paid -In Capital $ 556,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-20 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. E1-22 Recording a Business Combination Acquisition Expense 54,000 Deferred Stock Issue Costs 29,000 Cash 83,000 Cash 70,000 Accounts Receivable 110,000 Inventory 200,000 Land 100,000 Buildings and Equipment 350,000 Goodwill (1) 30,000 Accounts Payable 195,000 Bond s Payable 100,000 Bond Premium 5,000 Common Stock 320,000 Additional Paid -In Capital (2) 211,000 Deferred Stock Issue Costs 29,000 Computation of goodwill Fair value of consideration given (40,000 x $14 ) $560 ,000 Fair value of assets acquired $830,000 Fair value of liabilities assumed (300,000 ) Fair value of net assets acquired (530,000) Goodwill $ 30,000 Computation of additional paid -in capital Number of shares issued 40,000 Issue price in excess of par value ($14 - $8) x $6 Total $240 ,000 Less: Deferred stock issue costs (29,000) Increase in additional paid -in capital $211 ,000 E1-23 Reporting Income 20X2: Net income = $6,028,000 [$2,500,000 + $3,528,000] Earnings per share = $5.48 [$6,028,000 / (1,000,000 + 100,000 *)] 20X1: Net income = $4,460,000 [previously reported] Earnings per share = $4.46 [$4,460,000 / 1,000,000] * 100,000 = 200,000 shares x ½ year Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-21 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. SOLUTIONS TO PROBLEMS P1-24 Assets and Accounts Payable Transferred to Subsidiary a. Journal entry recorded by Pab Corporation for its transfer of assets and accounts payable to Sollon Company: Investment in Sollon Company Common Stock 320,000 Accounts Payable 45,000 Accumulated Depreciation – Buildings 40,000 Accumulated Depreciation – Equipment 10,000 Cash 25,000 Inventory 70,000 Land 60,000 Buildings 170,000 Equipment 90,000 b. Journal entry recorded by Sollon Company for receipt of assets and accounts payable from Pab Corporation: Cash 25,000 Inventory 70,000 Land 60,000 Buildings 170,000 Equipment 90,000 Accounts Payable 45,000 Accumulated Depreciation – Buildings 40,000 Accumulated Depreciation – Equipment 10,000 Common Stock 180,000 Additional Paid -In Capital 140,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-22 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. P1-25 Creation of New Subsidiary a. Journal entry recorded by Pagle Corporation for transfer of assets and accounts payable to Sand Corporation: Investment in Sand Corporation Common Stock 400,000 Allowance for Uncollectible Accounts Receivable 5,000 Accumulated Depreciation 40,000 Accounts Payable 10,000 Cash 30,000 Accounts Receivable 45,000 Inventory 60,000 Land 20,000 Buildings and Equipment 300,000 b. Journal entry recorded by Sand Corporation for receipt of assets and accounts payable from Pagle Corporation: Cash 30,000 Accounts Receivable 45,000 Inventory 60,000 Land 20,000 Buildings and Equipment 300,000 Allowance for Uncollectible Accounts Receivable 5,000 Accumulated Depreciation 40,000 Accounts Payable 10,000 Common Stock 50,000 Additional Paid -In Capital 350,000 P1-26 Incomplete Data on Creation of Subsidiary a. The book value of assets transferred was $152,000 ($3,000 + $16,000 + $27,000 + $9,000 + $70,000 + $60,000 - $21,000 - $12,000). b. Plumb Company would report its investment in Stew Company equal to the book value of net assets transferred of $138,000 ($152,000 - $14,000). c. 8,000 shares ($40,000/$5). d. Total assets declined by $14,000 (book value of assets transferred of $152,000 - investment in Stew Company of $138,000). e. No effect. The shares outstanding reported by Plumb Company are not affected by the creation of Stew Company. Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-23 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. P1-27 Acquisition in Multiple Steps Peal Corporation will record the following entries: (1) Investment in Seed Company Stock 85,000 Common Stock - $10 Par Value 40,000 Additional Paid -In Capital 45,000 (2) Acquisition Expense 3,500 Additional Paid -In Capital 2,000 Cash 5,500 P1-28 Journal Entries to Record a Business Combination Journal entries to record acquisition of SKK net assets: (1) Acquisition Expense 14,000 Cash 14,000 Record payment of legal fees. (2) Deferred Stock Issue Costs 28,000 Cash 28,000 Record costs of issuing stock. (3) Cash and Receivables 28,000 Inventory 122,000 Buildings and Equipment 470,000 Goodwill 12,000 Accounts Payable 41,000 Notes Payable 63,000 Common Stock 96,000 Additional Paid -In Capital 404,000 Deferred Stock Issue Costs 28,000 Record purchase of SKK Corporation. Computation of goodwill Fair value of consideration given (24,000 x $22) $528,000 Fair value of net assets acquired ($620,000 - $104,000) (516,000 ) Goodwill $ 12,000 Computation of additional paid -in capital Number of shares issued 24,000 Issue price in excess of par value ($22 - $4) x $18 Total $432,000 Less: Deferred stock issue costs (28,000 ) Increase in additional paid -in capital $404,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-24 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. P1-29 Recording Business Combinations Acquisition Expense 38,000 Deferred Stock Issue Costs 22,000 Cash 60,000 Cash and Equivalents 41,000 Accounts Receivable 73,000 Inventory 144,000 Land 200,000 Buildings 1,500,000 Equipment 300,000 Goodwill 127,000 Accounts Payable 35,000 Short -Term Notes Payable 50,000 Bonds Payable 500,000 Common Stock $2 Par 900,000 Additional Paid -In Capital 878,000 Deferred Stock Issue Costs 22,000 Computation of goodwill Fair value of consideration given (450,000 x $4 ) $1,800,000 Fair value of net assets acquired ($41,000 + $73,000 + $144,000 + $200,000 + $1,500,000 + $300,000 - $35,000 - $50,000 - $500,000) (1,673 ,000) Goodwill $ 127,000 Computation of additional paid -in capital Number of shares issued 450,000 Issue price in excess of par value ($4 - $2) x $2 Total $900,000 Less: Deferred stock issue costs (22,000) Increase in additional paid -in capital $878,000 Chapter 0 1 – Intercorporate Acquisitions and Investments in Other Entities 1-25 © McGraw Hill LLC. All rights reserved. No reproduction or distribution without the prior written consent of McGraw Hill LLC. P1-30 Business Combination with Goodwill a. Journal entry to record acquisition of Sink Company net assets: Cash 20,000 Accounts Receivable 35,000 Inventory 50,000 Patents 60,000 Buildings and Equipment 150,000 Goodwill 38,000 Accounts Payable 55,000 Notes Payable 120,000 Cash 178,000 b. Balance sheet immediately following acquisition: Pancor Corporation and Sink Company Combined Balance Sheet February 1, 20X3 Cash $ 82,000 Accounts Payable $140,000 Accounts Receivable 175,000 Notes Payable 270,000 Inventory 220,000 Common Stock 200,000 Patents 140,000 Additional Paid -In Buildings and Equipment 530,000 Capital 160,000 Less: Accumulated Retained Earnings 225,000 Depreciation (190,000) Goodwill 38,000 $995,000 $995,000 c. Journal entry to record acquisition of Sink Company stock: Investment in Sink Company Common Stock 178,000 Cash 178,000 Computation of goodwill Fair value of consideration given $178,000 Fair value of net assets acquired ($20,000 + $35,000 + $50,000 + $60,000 + $150,000 - $55,000 -$120,000) (140,000) Goodwill $ 38,000