Advanced Financial Accounting, 7E Thomas H Beechy Test Bank

Type:

Test Bank

Resource:

Advanced Financial Accounting

Edition:

7th Edition

Author(s):

Thomas H. Beechy V. Umashanker Trivedi Kenneth E. MacAulay

TEST ITEM FILE Betty Wong Ingrid McLeod-Dick

Advanced Financial Accounting Seventh Canadian Edition Thomas H. Beechy York University V. Umashanker Trivedi York University Kenneth MacAulay St. Francis Xavier University

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition

Chapter 1: Setting the Stage Chapter 2: Intercorporate Equity Investments: An Introduction Chapter 3: Business Combinations Chapter 4: Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Chapter 5: Consolidation of Non-Wholly Owned Subsidiaries Chapter 6: Subsequent-Year Consolidations: General Approach Chapter 7: Segment and Interim Reporting Chapter 8: Foreign Currency Transactions and Hedges Chapter 9: Reporting Foreign Operations Chapter 10: Financial Reporting for Non-for-Profit Organizations Chapter 11: Public Sector Financial Reporting Appendix 3A: Income Tax Allocation Appendix 4A: Income Tax Allocation Subsequent to Acquisitions Appendix 4B: Goodwill Impairment Test Online Appendix 5A: Step Purchases Online Appendix 5B: Decreases in Ownership Interest Online Appendix 6A: Preferred and Restricted Shares of Investee Corporation Online Appendix 6B: Intercompany Bond Holdings Appendix 10A: Fund Accounting

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage

1) What do business enterprises have that NFPs do not have?

A) Specified products or services B) Identifiable customers or clients C) Employees D) Boards of directors Answer: B Page Ref: 3 Learning Obj.: 1.1 Difficulty: Easy 2) Which of the following statements about the adoption of IFRS is true?

A) Many European countries adopted IFRS prior to 2011.

B) Canada adopted IFRS in 2012.

C) All European and North American countries adopted IFRS in 2011.

D) All European, Asian, and African countries adopted IFRS in 2011.

Answer: A Page Ref: 3 Learning Obj.: 1.1 Difficulty: Easy 3) Why has the reputation of U.S. accounting standards decreased in recent years?

A) The U.S. deficit is at a record high.

B) Many U.S. businesses have declared bankruptcy.

C) There have been some notable American accounting scandals, such as Enron.

D) Lengthy prison sentences have been given to unethical American executives, such as Bernie Madoff.

Answer: C Page Ref: 4 Learning Obj.: 1.2 Difficulty: Easy 4) Which of the following is true about the standards for publicly accountable enterprises in the CICA Handbook, Part I? A) The standards are similar to U.S. GAAP. B) The standards are adaptations of IFRS that have been tailored to Canadian circumstances.

C) The standards are similar to ASPE. D) The standards are identical, word for word, to IFRS. Answer: D Page Ref: 5 Learning Obj.: 1.2 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 5) Which of the following private companies is required to use IFRS? A) Investment companies B) Import/export companies C) Manufacturing companies D) Accounting firms Answer: A Page Ref: 5 Learning Obj.: 1.2 Difficulty: Moderate 6) What accounting standards are private banks and investment funds required to follow for their consolidated, general-purpose, publicly issued financial statements?

A) IFRS B) ASPE C) NFP accounting standards D) PSAB recommendations Answer: A Page Ref: 5 Learning Obj.: 1.2 Difficulty: Moderate 7) Which of the following Canadian accounting standards are not included in the CICA Handbook?

A) Publicly accountable enterprises B) Private enterprises C) Not-for-profit organizations D) Government Answer: D Page Ref: 5-6 Learning Obj.: 1.2 Difficulty: Easy 8) What accounting standards should government NFP organizations follow?

A) CICA Handbook, Part III only B) CICA Public Sector Accounting Handbook only C) Choice of CICA Handbook, Part III or CICA Public Sector Accounting Handbook D) Choice of CICA Handbook, Part III; CICA Public Sector Accounting Handbook; or IFRS Answer: C Page Ref: 5, 7 Learning Obj.: 1.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 9) What accounting standards are contained in the CICA Handbook, Part III? A) IFRS B) ASPE C) NFP D) Government Answer: C Page Ref: 6 Learning Obj.: 1.2 Difficulty: Easy 10) NFP organizations can choose among reporting approaches contained within the framework provided by the CICA Handbook. Which of the following is not a consideration in choosing the approach?

A) Nature of the NFP's operations B) Sources of the NFP's funding C) The NFP's reporting objectives D) Whether or not the NFP uses the restricted fund method of accounting Answer: D Page Ref: 6 Learning Obj.: 1.2 Difficulty: Moderate 11) Which of the following is true about Canadian governmental reporting standards?

A) PSAB standards are recommendations only.

B) PSAB standards are rules that must be followed.

C) PSAB standards must be applied to all provincial public utilities.

D) PSAB standards were developed by the OSC. Answer: A Page Ref: 6 Learning Obj.: 1.2 Difficulty: Easy 12) A private company that is closely held and internally financed is most likely to report under ________.

A) IFRS B) ASPE C) NFP D) PSAB recommendations Answer: B Page Ref: 6 Learning Obj.: 1.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 13) Assume that a nation has fully adopted IFRS. Which of the following statements is true?

A) Since the nation has fully adopted IFRS, all standards will be applied in the same way as other nations that have fully adopted IFRS. B) Since the nation has fully adopted IFRS, IFRS must be applied to all business enterprises in the nation.

C) Although the nation has fully adopted IFRS, standards may be applied in different ways to suit the local environment.

D) Although the nation has fully adopted IFRS, business enterprises can choose to opt out as long as they have government approval to do so.

Answer: C Page Ref: 8 Learning Obj.: 1.3 Difficulty: Easy 14) Which nation does not require a cash flow statement in its financial reporting?

A) United States B) United Kingdom C) Australia D) Japan Answer: D Page Ref: 8 Learning Obj.: 1.3 Difficulty: Easy 15) When the International Accounting Standards Board amends a standard, what must a code-law country do to adopt the amendment?

A) The country's securities regulators must approve the amendment.

B) The country's professional accounting body must approve the amendment.

C) The country must pass new legislation to adopt the amendment.

D) The country's financial institution regulators must approve the amendment.

Answer: C Page Ref: 9 Learning Obj.: 1.3 Difficulty: Moderate 16) Which of the following statements about the adoption of IFRS is true?

A) Code-law countries that adopt IFRS must adopt it completely, but common-law countries can choose to partially adopt IFRS. B) Common-law countries that adopt IFRS must adopt it completely, but code-law countries can choose to partially adopt IFRS. C) Both code-law and common-law countries can choose to partially adopt IFRS. D) Both code-law and common-law countries that choose to adopt IFRS must adopt it in its entirety.

Answer: C Page Ref: 9 Learning Obj.: 1.3 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 17) Which of the following statements is true about common-law countries?

A) Common-law countries must completely adopt IFRS. B) Amendments to IFRS by common-law countries must be done legislatively.

C) Amendments to IFRS by common-law countries must be done by government regulation.

D) In common-law countries, the local non-government standard setting authority can decide which international standards to adopt.

Answer: D Page Ref: 9 Learning Obj.: 1.3 Difficulty: Easy 18) One of the components that a nation must have to effectively apply international standards is quality auditing. Which of the following statements about auditing is true?

A) Audit quality is consistently high around the world due to the implementation of International Auditing Standards.

B) Most audits around the world are conducted by the Big Four, which ensures consistency.

C) Audit quality is consistent around the world as smaller countries import well-educated auditors to ensure expertise.

D) Audit quality is inconsistent around the world.

Answer: D Page Ref: 10 Learning Obj.: 1.3 Difficulty: Easy 19) A Hong Kong—based company is listed on the Toronto Stock Exchange, but not on the Hong Kong Stock Exchange. If there are any issues about the company's reporting, the primary enforcement rests ________.

A) in Hong Kong B) with the OSC C) with the SEC D) with an international tribunal Answer: A Page Ref: 11 Learning Obj.: 1.3 Difficulty: Moderate 20) For international standards to be applied effectively, a country does not require ________.

A) professional financial preparers B) quality auditors C) an independent enforcement agency D) companies with ethical managers Answer: C Page Ref: 9-11 Learning Obj.: 1.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 21) What is one of the primary reasons why securities commissions are often ineffective enforcement agencies for accounting standards?

A) Lack of knowledge B) Lack of financing C) Lack of independence D) Lack of support from professional accounting bodies Answer: B Page Ref: 11 Learning Obj.: 1.3 Difficulty: Moderate 22) Both Canada and Japan have adopted IFRS even though the two countries differ in many ways. What is one area in which the two countries differ?

A) Corporate structure B) Issuance of consolidated financial statements C) Use of common law D) Ability to select accounting policies Answer: A Page Ref: 13 Learning Obj.: 1.3 Difficulty: Difficult 23) In Germany, what does a company that has no debt indicate?

A) It is a superior company with stable earnings.

B) It is a safer company to invest in than a company with debt.

C) It is highly supported by financial markets.

D) The banks do not have any faith in the company.

Answer: D Page Ref: 13 Learning Obj.: 1.3 Difficulty: Moderate 24) What is the effect of a nation's high inflation on its business enterprises?

A) There would not be any impact on the long-term earnings of companies.

B) It could cause a revaluation of assets.

C) It could decrease companies' reliance on net monetary liabilities.

D) It could lead companies to hold more monetary investments.

Answer: B Page Ref: 13 Learning Obj.: 1.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 25) Which of the following statements is not true about private companies?

A) Private companies usually have easily identifiable user groups.

B) User groups of a private company are not permitted to request additional information, outside of the issued financial statements, from the company.

C) Private companies are not required to issue "general-purpose" financial statements.

D) Private companies often report to specific user groups for specific purposes.

Answer: B Page Ref: 14 Learning Obj.: 1.3 Difficulty: Easy 26) Which GAAP approach for private companies would smaller countries that do not have wellestablished standard-setting processes be most likely to use?

A) IFRS for SMEs B) Full IFRS C) Disclosed basis of accounting D) Code law requirement Answer: A Page Ref: 14-15 Learning Obj.: 1.3 Difficulty: Moderate 27) Why might a large private company choose to use full IFRS? A) Its assets exceed $10,000,000.

B) It only uses debt financing.

C) It only uses equity financing.

D) It competes with public companies for financing.

Answer: D Page Ref: 14-15 Learning Obj.: 1.3 Difficulty: Moderate 28) Which financial reporting approach has Canada decided to take with respect to private enterprises?

A) IFRS B) Special adaptation of IFRS for small and medium enterprises C) Canadian GAAP for private enterprises D) Disclosed basis of accounting Answer: C Page Ref: 14-15 Learning Obj.: 1.3 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 29) If a country uses a disclosed basis of accounting for private companies, which of the following statements is true?

A) Private companies can create their own GAAP as long as it is disclosed and the spirit of the country's GAAP standards has been followed.

B) Private companies can pick and choose which aspects of GAAP to follow.

C) Private companies must report using fair value.

D) Private companies must report using both historical and fair value.

Answer: B Page Ref: 15 Learning Obj.: 1.3 Difficulty: Easy 30) In Canada, who developed the accounting standards for private enterprises?

A) International Accounting Standards Board B) Accounting Standards Board C) Financial Accounting Standards Board D) Ontario Securities Commission Answer: B Page Ref: 17 Learning Obj.: 1.3 Difficulty: Easy 31) In Canada, there are many types of business and non-business organizations and four different reporting standards that might be applicable.

Required: What types of organizations are required to follow IFRS? What types of organizations may follow IFRS if they choose to do so, and how is this choice made?

Answer: Public companies and those entities that have a fiduciary responsibility must follow IFRS. Government business enterprises must follow IFRS since they are competing with profit-oriented businesses.

Private enterprises that are not publicly accountable enterprises have a choice to follow IFRS or ASPE. The choice will depend on management's reporting objectives and users' objectives. Not-for-profit entities in Canada also have a choice of following IFRS. Again, this choice will depend on users' and management's objectives in preparing the financial reports.

Page Ref: 5-6 Learning Obj.: 1.2 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 32) In Canada, we have business and non-business organizations.

Required: Explain the difference between these two types of organizations. Why should they be allowed to follow different accounting policies?

Answer: Business organizations, whether private or public, are driven by profit. They sell identifiable goods and services to identifiable customers, who pay for these goods and services. There is a link between revenue and costs.

In contrast, non-business organizations include NFP and government organizations. These types of entities are not motivated by profit. In these types of organizations, services and products are not as well defined as in business enterprises. The customers or clients who use these products and services are also not identifiable. Finally, the customer (or client) often does not directly pay for the services as they are used, so the link between revenue and costs does not exist.

For business enterprises, where profit motivation is key, standards will be written with this in mind, ensuring that revenue and expense items are properly recognized as incurred.

Non-business enterprises generally have unique types of stakeholder relationships and transactions that never occur in business enterprises. For example, how should donations and government grants be recognized? How and when should costs be recognized when revenue is not "earned" through normal business activities? These types of issues require a different set of financial reporting standards.

Page Ref: 2-3 Learning Obj.: 1.1 Difficulty: Difficult 33) Countries establish their accounting standards using one of two methods. They can be either code-law countries or common-law countries.

Required: Explain these two separate methods used to establish reporting standards and why IFRS might not be adopted completely under either method. Provide examples of each type.

Answer: Code-law countries are countries that establish their accounting standards by law or government regulation. Examples of these counties are most European countries, the EU, and China.

IFRS may not be fully adopted in these countries because it requires time to get legislation passed. The process may be slow, or there may be some aspects of IFRS that are never even legislated.

Common-law countries are countries that have standards set by the domestic accounting profession or some other independent non-government authority. Canada, the United States, Japan, and the United Kingdom are common-law countries. In common-law countries, local authorities that have responsibility for setting the accounting standards may decide not to adopt certain aspects of IFRS, since it does not "fit" properly with domestic business related activities. The standard setters may also disagree with the guidance in a standard and therefore not fully adopt it.

Page Ref: 8-9 Learning Obj.: 1.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 34) High Traders Inc. is a private Canadian company. The company adopted accounting standards for private enterprises in 2011. However, a new CFO has just been hired and is now suggesting that the company consider adopting IFRS in the near future.

Required: Outline four possible reasons that a private company in Canada might choose to adopt IFRS. Answer: A private company might decide to adopt IFRS for the following reasons: 1. The company is considering going public in the near future. As a public company in Canada, IFRS must be followed.

2. The company may want to attract investors and creditors from investment funds, pension funds, and other suppliers of private debt and equity. These users may require IFRS prepared statements, or may assess the risk as higher for companies following accounting standards for private enterprises. A higher assessment of risk would result in higher interest rates on loans.

3. The company may be considering expansion outside of Canada and want to raise either debt or equity in this other country. The potential investor or creditor may be familiar with IFRS and require it for the company's reports.

4. The company may want to be acquired by a larger public company. In this case, IFRS prepared statements would be easier for a potential acquirer to analyze and to forecast consolidated results if the acquisition is accomplished.

Page Ref: 6 Learning Obj.: 1.2 Difficulty: Difficult 35) Management prepares the company's financial statements. Consequently, management's objectives will dominate the selection of accounting policies.

Required: Give examples of users that might have the power to influence the accounting policy choices made by preparers.

Answer: The following are examples of users that might have the power to influence accounting policy choices used by management to prepare financial statements: • Canada Revenue Agency has its own set of rules for determining taxable income. If CRA is the main user of the financial statements, management may decide to adopt accounting policies that are similar to the tax rules for revenue and expense recognition.

• Major shareholders sitting on a board of directors and/or an audit committee may influence the policies chosen to ensure that shareholders' objectives are also being considered.

• Security analysts and the financial press may have the ability to influence accounting policy choices by providing unfavourable coverage for a company if they disagree with the reporting of certain transactions and events by a company.

• Major lenders have the ability to influence accounting policy choices, particularly if the loan has certain covenants that must be maintained. Bankers could state how they wish to have certain transactions and events reported.

Page Ref: 7 Learning Obj.: 1.2 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 36) Many countries around the world have adopted International Financial Reporting Standards as their accounting standards. As a result, companies competing in the same industry, but operating in different countries, should use the same accounting policies. This, in turn, makes interpretation and analysis of peers' statements listed on different exchanges far easier than in the past.

Required: Is the above statement true? Explain.

Answer: This statement is true but to a limited extent. Full comparability is actually an illusion. Although IFRS has been adopted by many countries, analysis of the statements prepared by companies operating in different countries will still be difficult for the following reasons: • IFRS is not accepted to the same extent in every country. Some countries modify IFRS for their own national use, resulting in possibly different accounting policies.

• Local circumstances may cause similar transactions to be accounted for in different ways.

• The ways of doing business in a country or the types of legal contracts that can be prepared may be different, resulting in similar transactions being recorded differently.

• The quality of auditing and professional expertise may be limited in some countries, resulting in statements not being presented fairly in accordance with IFRS. • Enforcement bodies may be underfunded, again resulting in poor quality financial statements being prepared and issued, since there are no penalties.

• Economic factors such as inflation rates and foreign exchange rates could vary significantly from country to country. This could result in assets being revalued or lower amounts of monetary assets being held for some companies and not others.

All of these potential differences could impact the amounts reported for assets, liabilities, revenues, and expenses, resulting in differences in ratio and trend analyses.

Page Ref: 8-13 Learning Obj.: 1.3 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 37) XY Co. is a Canadian company that recently received approval for a loan from a bank in Europe. The bankers require statements prepared "in accordance with IFRS as adopted by the EU." The CEO recently stated that now that Canada has adopted IFRS, the company only needs to prepare one set of financial statements for issuance.

Required: As the CFO, reply to this CEO's statement. Why might this not be the case in this situation? In what areas might there be differences? How would this report have to be prepared and issued?

Answer: The EU is an example of a "country" that sets its accounting standards by law and government regulation. Therefore, it may be that only certain aspects of the International Financial Reporting Standards have actually been accepted and "amended." IFRS standards are used within the EU. Canada adopted IFRS without any amendments. As a result, preparing the statements under "IFRS adopted by the EU" may require some different measurement, recognition, and reporting requirements that have been amended by the EU in comparison to the IFRS adopted by Canada. A detailed review of these amendments would be required to see where the differences were and what changes are required. Likely, the CFO would prepare the report for general purposes using Canadian IFRS. He or she might then either prepare a full restatement using IFRS as adopted by the EU or provide note disclosure on where the items were different. It would depend on the complexity of the differences.

Page Ref: 8-9 Learning Obj.: 1.3 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 38) France, Germany, Japan, and Canada are four countries that have adopted International Financial Reporting Standards. As a result, auto companies from these nations have similar statements, statement components, disclosures, and measurement methods.

Required: Discuss the "invisible differences" that may cause statements from these countries to be less comparable, and give examples.

Answer: "Invisible differences" refers to differences in the economic, political, legal, and environmental systems within each country as well as the way of doing business.

Legal factors: One example of a legal factor is that in some countries, taxable income and accounting net income must be the same. This may motivate management to choose accounting policies that reduce earnings. Another difference in legal factors is that in countries where Islamic principles are followed, interest cannot be charged and therefore investors cannot lend money to companies and can only take an equity stake.

Ways of doing business: In Germany, employees and bankers are both represented on boards of directors.

For companies that have high debt balances, this is seen as favourable since the bankers must believe that the company will be profitable and be able to repay these high levels of debt. In contrast, companies with low debt are seen to be unsuccessful, since the bank is unwilling to lend them any money.

In Japan, the corporate structure is very different from that in North America. In Japan, there is no parent company in a conglomerate structure, and instead the holdings in other companies may be no more than 3%. The majority of the shares are held by a group, rather than a single corporation. Consequently, consolidated statements do not show all of the assets and liabilities of the entire group of companies.

Economic and political factors: Inflation rates and foreign exchange rates may vary from country to country. The amount of inflation in a country may influence the amount of monetary assets and liabilities that a company chooses to have.

State control and regulations within a country can also differ. For rate regulated companies, there may be motivation to capitalize as many costs as possible and use more debt to finance operations.

Page Ref: 12-13 Learning Obj.: 1.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 39) Private companies in Canada may follow either IFRS or accounting standards for private companies.

Required: Why did Canada adopt accounting standards for private companies? What is different about private companies and public companies that require a different set of accounting standards?

Answer: Canadian standard-setters decided to adopt another set of accounting standards for private companies because private companies are very different from public companies. Private companies have a smaller number of users, which are generally identifiable. Creditors are usually bankers, and shareholders are usually few in number. Both these users have access to management (or are management) and are in a position to demand more information if they have questions about the financial statements. This is not the case for public companies, which are held by many investors. Since the users are easily identified and their needs are specific, there is no need for "general purpose" statements with full disclosure to be prepared. Additionally, the transactions for private enterprises are usually less complex than for the public companies, and therefore standards can be simplified.

Page Ref: 15 Learning Obj.: 1.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 1 Setting the Stage 40) Private companies have different users and user needs than public companies. As a result, many countries have decided to have a separate set of accounting standards that can be followed by private enterprises.

Required: Describe the five different possible sets of GAAP that a country might adopt for private companies and briefly explain how each might be implemented. Discuss any advantages or disadvantages for these methods.

Answer: The five possible sets of GAAP are described below, along with how they might be implemented: 1. Full IFRS must be used by private enterprises. In this method, the country has decided against two GAAPs and requires private and public companies to follow the same standards. In practice, this is usually not the case, but rather, private companies have a choice of adopting IFRS. If there is a choice, then there will also be another set of standards that can be used by these private enterprises as determined by one of the other methods described below.

2. IFRS for SMEs: The IASB has a set of standards for non-public entities entitled IFRS for SMEs. This is a simplified version of IFRS that eliminates some of the more complex reporting requirements. These standards are adopted in countries that do not have their own established accounting standards board– usually smaller nations. The advantage of adopting IFRS is that the country does not need to fund a separate accounting standard setting mechanism. But the main disadvantage is that any issues that are unique to domestic business transactions may not be adequately dealt with under IFRS for SMEs. 3. The country designs a domestic set of accounting standards that can be used by private companies.

These standards are usually less complex with less disclosure requirements. This is the method adopted in Canada. It allows Canadian standard-setters to provide additional guidance on special industries that are prevalent in the country. For example, in Canada, there are many small mining companies, and this is one area where IFRS is not well developed. It also allows Canada to design standards that are relevant for business done in Canada. The disadvantage is that resources are required to finance these standardsetting boards. Another disadvantage is that although IFRS and ASPE are similar in many areas, as IFRS becomes updated, these changes may not flow through immediately (if ever) to ASPE. 4. A country may legislate by code law the reporting requirements for private enterprises. This would have similar advantages and disadvantages as described above for point 3, where different laws can be regulated that would differ from IFRS. 5. Finally, a country may allow private enterprises to follow different accounting policies as long as the basis is disclosed. It can choose to follow only certain aspects of the standards, simplifying the reporting requirements. For example, a country may allow companies to use the taxes payable method or the historical basis of accounting. Again, advantages and disadvantages are similar to those discussed point 3.

Page Ref: 14-15 Learning Obj.: 1.3 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 1) Passive investments can be classified as fair value through profit or loss (FVTPL) or as fair value through other comprehensive income (FVTOCI). Which of the following statements is true?

A) Under both FVTPL and FVTOCI, changes in the fair value of the investment are reported as other comprehensive income on the statement of comprehensive income.

B) Under both FVTPL and FVTOCI, changes in the fair value of the investment are reported under the net income section on the statement of comprehensive income.

C) Under both FVTPL and FVTOCI, dividends received from the investee are reported under the net income section on the statement of comprehensive income.

D) Under both FVTPL and FVTOCI, dividends received from the investee are reported as other comprehensive income on the statement of comprehensive income.

Answer: C Page Ref: 28 Learning Obj.: 2.2 Difficulty: Moderate

2) Rudd Ltd. has a passive investment in Burke Ltd. Rudd has elected to treat Burke as a fair value through other comprehensive income (FVTOCI) investment under IFRS 9 Financial Instruments. Which of the following statements is true?

A) Dividends from Burke are reported as other comprehensive income in Rudd's statement of comprehensive income (SCI).

B) Dividends from Burke are reported as a line item on Rudd's statement of financial position.

C) Year-to-year changes in the fair value of the investment in Burke are reported as net income in Rudd's SCI. D) Accumulated gains and losses in the fair value of investment in Burke should be reported as a separate component in Rudd's shareholders' equity on the statement of financial position.

Answer: D Page Ref: 28 Learning Obj.: 2.2 Difficulty: Moderate

3) Townsend Ltd. has the following shareholders: Palermo Co.—60% Nix Ltd.—30% Riley Ltd.—10% Nix does not conduct any business with Townsend; nor has it been able to secure a seat on the board of directors. Which of the following statements is true?

A) Nix has significant influence over Townsend.

B) Nix should consider Townsend to be a special purpose entity.

C) Nix should consider Townsend to be an associated company.

D) Nix should treat Townsend as a non-strategic investment.

Answer: D Page Ref: 30-32, 35 Learning Obj.: 2.1 Difficulty: Moderate

4) O'Reilly Ltd. incorporated O'Reilly R&D Co. to conduct research and development activities. O'Reilly .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction R&D is a(n) ________.

A) associated company B) joint venture C) structured entity D) passive investment Answer: C Page Ref: 32-33 Learning Obj.: 2.1 Difficulty: Easy

5) What is securitization?

A) It is the process of issuing long-term debt for financing.

B) It is the process of issuing preferred and common shares for financing.

C) It is the process of transferring long-term liabilities to a structured entity.

D) It is the process of transferring receivables to a structured entity and issuing securities to finance those receivables.

Answer: D Page Ref: 33 Learning Obj.: 2.2 Difficulty: Easy

6) In Canada, what entities must be included in consolidated financial statements?

A) Subsidiaries only B) All subsidiaries, except for ones in unrelated industries C) All domestic subsidiaries D) All subsidiaries and structured entities Answer: D Page Ref: 33-34 Learning Obj.: 2.2 Difficulty: Moderate

7) Bela Ltd. has invested in several domestic manufacturing corporations. Which of the following investments would most likely be accounted for under the equity method on Bela's financial statements?

A) A holding of 15,000 of the 50,000 outstanding common shares of Earthwise Co. B) A holding of 3,000 of the 10,000 outstanding preferred shares of Earthbent Co. C) A holding of 5,000 of the 60,000 outstanding common shares of Earth-Kind Co. D) A holding of 20,000 of the 25,000 outstanding common shares of Earth-Clean Co. Answer: A Page Ref: 35-36 Learning Obj.: 2.1 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 8) On January 1, 20X1, Best Décor Ltd. started Chic Styles Ltd. by contributing $500,000 and received 100% of the common shares of Chic Styles. Chic Styles reported net income of $50,000 in 20X1 and $75,000 in 20X2 and paid out 40% of its net income as dividends in each year. Under the equity method, what amount should be reported as Investment in Chic Styles and Investment Income on Best Décor's separateentity 20X2 financial statements?

A) Investment in Chic Styles Investment Income $500,000 $30,000 B) Investment in Chic Styles $575,000

Investment Income $75,000

C) Investment in Chic Styles $625,000

Investment Income $30,000

D) Investment in Chic Styles $625,000

Investment Income $75,000

Answer: B Page Ref: 36 Learning Obj.: 2.2 Difficulty: Moderate

9) Townsend Ltd. has the following shareholders: Palermo Co.—60% Nix Ltd.—30% Riley Ltd.—10% Nix has two seats on Townsend's five-person board of directors. Which of the following statements is true?

A) Nix has significant influence over Townsend.

B) Nix has control over Townsend.

C) Townsend is a special purpose entity to Nix. D) Nix should treat Townsend as a passive investment.

Answer: A Page Ref: 35 Learning Obj.: 2.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 10) Which of the following is not an indicator of significant influence?

A) The investor has representation on the investee's board of directors.

B) There are material transactions between the investor and the investee.

C) The investor and the investee share office space and use the same accounting firm.

D) The investor provides computing services to the investee.

Answer: C Page Ref: 35 Learning Obj.: 2.1 Difficulty: Easy

11) How do joint ventures differ from private corporations?

A) The joint venturers must share the risks and profits of the joint venture equally.

B) There can only be two parties in a joint venture.

C) A joint venture does not have a board of directors.

D) Venturers cannot make unilateral decisions.

Answer: D Page Ref: 37 Learning Obj.: 2.1 Difficulty: Moderate

12) On whose books are the consolidating adjusting entries recorded?

A) In the general journal of both the parent and subsidiary companies B) In the general journal of the parent company and on the consolidated worksheet C) In the general journal of both the parent and subsidiary companies and on the consolidated worksheet D) Only on the consolidated worksheet Answer: D Page Ref: 38 Learning Obj.: 2.3 Difficulty: Easy

13) How are most significant influence investments in equity securities actually recorded on the investors' books?

A) Using the cost method B) Using the equity method C) Using proportionate consolidation D) On a fully consolidated basis Answer: A Page Ref: 38 Learning Obj.: 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 14) Which of the following statements about the direct approach to consolidation is true?

A) It can be used for both simple and complex consolidations.

B) It is a more methodical and less intuitive approach than the worksheet approach.

C) The starting point for preparing the consolidated financial statements is the financial statements for each of the parent and subsidiary companies.

D) The starting point for preparing the consolidated financial statements is the trial balance for each of the parent and subsidiary companies.

Answer: C Page Ref: 39 Learning Obj.: 2.3 Difficulty: Moderate

15) Carr Co. owns 100% of the common shares of Ice Tops Ltd. Carr records its investment in Ice Tops using the cost method. Carr and Ice Tops have transactions with each other. In preparing Carr's consolidated financial statements, which of the following should be done?

A) Ice Tops's retained earnings should be deducted from Carr's retained earnings.

B) Ice Tops's share capital should be added to Carr's share capital.

C) Dividends received by Carr from Ice Tops should be deducted from Carr's dividend income.

D) Carr's receivable from Ice Tops should be netted with Carr's accounts receivable.

Answer: C Page Ref: 43-45 Learning Obj.: 2.3, 2.4 Difficulty: Moderate

16) Forest Ltd. accounts for its investment in Leeds Co. using the cost method. During the year, Forest received $10,000 in dividends from Leeds. How should Forest report these dividends on its separateentity financial statements?

A) As an increase to the "Investment in Leeds Co." account on its statement of financial position B) As a decrease to the "Investment in Leeds Co." account on its statement of financial position C) As dividend income on its statement of changes in equity-retained earnings section D) As dividend income in its statement of comprehensive income Answer: D Page Ref: 43 Learning Obj.: 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 17) At the beginning of 20X1, Anwar Ltd. acquired 15% of the voting shares of Cruz Co. for $150,000.

Anwar does not have any significant influence over Cruz. Anwar reports the investment using the cost method. In 20X1, Cruz earned net income of $70,000 and paid dividends of $40,000. In 20X2, Cruz earned net income of $80,000 and paid dividends of $100,000. At the end of 20X2, what journal entry should Anwar make to record its share of Cruz's net income?

A) DR Investment in Cruz 12,000 CR Investment income 12,000 B) DR Investment in Cruz 18,000 CR Investment income 18,000 C) DR Investment in Cruz 80,000 CR Investment income 80,000 D) No entry is required Answer: D Page Ref: 29, 43 Learning Obj.: 2.2 Difficulty: Moderate

18) At the beginning of 20X1, Anwar Ltd. acquired 15% of the voting shares of Cruz Co. for $150,000.

Anwar does not have any significant influence over Cruz. Anwar reports the investment using the cost method. In 20X1, Cruz earned net income of $70,000 and paid dividends of $40,000. In 20X2, Cruz earned net income of $80,000 and paid dividends of $100,000. At the end of 20X2, what journal entry should Anwar make on its books to record the dividends from Cruz?

A) DRCash 12,000 CR Investment in Cruz 12,000 B) DRCash 15,000 CR Investment in Cruz 15,000 C) DRCash 15,000 CR Investment income 15,000 D) No entry is required Answer: C Page Ref: 29, 43 Learning Obj.: 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 19) At the beginning of 20X1, Anwar Ltd. acquired 15% of the voting shares of Cruz Co. for $150,000.

Anwar does not have any significant influence over Cruz. Anwar reports the investment using the cost method. In 20X1, Cruz earned net income of $70,000 and paid dividends of $40,000. In 20X2, Cruz earned net income of $80,000 and paid dividends of $100,000. At the end of 20X2, what is the balance of Anwar's "Investment in Cruz" account?

A) $150,000 B) $150,150 C) $154,500 D) $172,500 Answer: A Page Ref: 29, 43, 45 Learning Obj.: 2.2 Difficulty: Moderate

20) On January 1, 20X1, Belle Ltd. purchased 100% of the common shares of Dominique Corporation for $700,000. Dominique's net income was $30,000 for 20X1 and $50,000 for 20X2. Dominique paid dividends of $20,000 on its common shares during 20X1 and $100,000 during 20X2. As such, total dividends paid by Dominique exceeded income earned by Dominique since it was acquired by Belle. What is the balance in the investment in Dominique's account at the end of 20X2 under the cost and equity methods?

A) Cost Equity $660,000 $700,000 B) Cost $660,000

Equity $660,000

C) Cost $700,000

Equity $660,000

D) Cost $700,000

Equity $700,000

Answer: C Page Ref: 43, 45, 48-50 Learning Obj.: 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 21) Rally Ltd. owns 70% of Neily Ltd. and records it using the cost method. Neily did not have any transactions with Rally with the exception of the payment of dividends. On its separate-entity financial statements, Rally plans to report its investment in Neily using the equity method. To this end, Rally has prepared a worksheet with adjustments to eliminate the dividends and recognize its share of Neily's current income. To recognize Rally's share of Neily's unremitted income in prior years, the following adjustments should be made: A) Debit the Investment in Neily account and credit the Retained Earnings account.

B) Debit the Retained Earnings account and credit the Investment in Neily account.

C) Debit the Investment in Neily account and credit the Equity in Earnings of Neily account.

D) No entry is required at this time.

Answer: A Page Ref: 49 Learning Obj.: 2.2, 2.4 Difficulty: Difficult

22) At the beginning of 20X1, Rally Ltd. acquired 18% of Neily Co. for $90,000. Rally has significant influence over Neily. Rally records the investment in Neily using the cost method. Rally's share of Neily's income was $29,000 for 20X1 and $33,000 for 20X2. Rally received dividends from Neily of $25,000 in 20X1 and $35,000 in 20X2. For reporting purposes in 20X2, what adjustment must be made to recognize Rally's share of Neily's 20X2 income?

A) DR Income receivable from Neily 33,000 CR Equity in earnings of Neily 33,000 B) DR Income receivable from Neily CR Investment in Neily

33,000 33,000

C) DR Investment in Neily CR Equity in earnings of Neily

33,000 33,000

D) No entry is required Answer: C Page Ref: 49 Learning Obj.: 2.2 Difficulty: Moderate

23) Forest Ltd. reports its investment in Leeds Co. on an equity basis. During the year, Forest received $10,000 in dividends from Leeds. How should Forest report these dividends?

A) As an increase to the "Investment in Leeds Co." account on its statement of financial position B) As a decrease to the "Investment in Leeds Co." account on its statement of financial position C) As dividend income on its statement of changes in equity-retained earnings section D) As dividend income in its statement of comprehensive income Answer: B Page Ref: 49 Learning Obj.: 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 24) Jarrett Corporation uses the equity method to account for its 25% investment in Polo Corporation and receives $15,000 in dividends. How should Jarrett account for these dividends?

A) An increase in assets B) A decrease in the investment C) An increase in income D) A decrease in income Answer: B Page Ref: 49 Learning Obj.: 2.2 Difficulty: Easy

25) Which methods will result in the same income and shareholders' equity?

A) Equity and consolidation B) Cost and consolidation C) Cost and equity D) Each method results in different income and shareholders' equity amounts.

Answer: A Page Ref: 50-52 Learning Obj.: 2.5 Difficulty: Moderate

26) Gunnar Ltd. owns 100% of the common shares of Ivy Ltd. During the year, Gunnar reported net income of $108,000, including its income from its investment in Ivy accounted for under the cost method.

Ivy reported net income of $20,000 and paid dividends of $8,000 during the year. What net income will be reported by Gunnar on its separate-entity financial statements under the equity method and on its consolidated financial statements?

A) Equity Method Consolidated Financial Statements $112,000 $112,000 B) Equity Method $112,000

Consolidated Financial Statements $120,000

C) Equity Method $120,000

Consolidated Financial Statements $112,000

D) Equity Method $120,000

Consolidated Financial Statements $120,000

Answer: D Page Ref: 50-52 Learning Obj.: 2.2, 2.3, 2.4, 2.5 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 27) In changing from the cost method to consolidation, which of the following is not required?

A) Replacement of the "Investment in Subsidiary" account with the assets and liabilities of the subsidiary B) Elimination of intercompany transactions and balances C) Elimination of the subsidiary's share capital account D) Elimination of the subsidiary's retained earnings since acquisition Answer: D Page Ref: 55 Learning Obj.: 2.2, 2.3, 2.4, 2.5 Difficulty: Moderate

28) Under which method does the statement of comprehensive income show "Equity in earnings of Subsidiary"?

A) Cost method B) Equity method C) Modified equity D) Consolidation Answer: B Page Ref: 49 and 51 Learning Obj.: 2.2, 2.3 Difficulty: Easy

29) Under the equity method, the purchase price discrepancy (PPD) is ________.

A) the difference between the carrying value of the investment in the books of the investee and the purchase price paid by the investor B) the difference between the market value of the investment in the books of the investee and the purchase price paid by the investor C) the difference between the implied cost of the investment in the books of the investee and the purchase price of the investor D) the difference between the net present value of the investment in the books of the investee and the purchase price paid by the investor Answer: A Page Ref: 55 Learning Obj.: 2.3 Difficulty: Moderate

30) Diaz Ltd. acquired 35% of Saturn Ltd. many years ago. At first, Saturn was profitable, but recently, it has been posting losses. Diaz believes that Saturn will be profitable again and has no plans to dispose of it, even though Diaz's share of the losses has exceeded its investment interest. Diaz uses the equity method. Which of the following statements is true?

A) Diaz should continue to decrease its "Investment in Saturn" account.

B) Diaz should put its share of Saturn's losses in a contra-account to its "Investment in Saturn" account, to be reduced by Saturn's future profits.

C) Diaz should reduce its retained earnings directly by its share of Saturn's losses.

D) Diaz should stop recognizing its share of Saturn's losses and not recognize Saturn's future profits until they exceed the unrecognized losses.

Answer: D Page Ref: 56 Learning Obj.: 2.3, 2.5

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Difficulty: Difficult

31) Jonas Co. owned 60% of Kara Co.'s voting shares and 25% of Lynn Ltd.'s voting shares. Kara owns 30% of Lynn's voting shares. Which of the following statements is true?

A) Kara is the only subsidiary of Jonas.

B) Both Kara and Lynn are subsidiaries of Jonas.

C) Lynn is a subsidiary of both Kara and Jonas.

D) Lynn is the only subsidiary of Kara.

Answer: B Page Ref: 57-58 Learning Obj.: 2.3 Difficulty: Moderate

32) Bud Ltd. owns 100% of Calla Co. Calla owns 55% of Daisy Ltd., and Daisy owns 90% of Fern Ltd. Which of the following statements is true?

A) Only Bud has to prepare consolidated financial statements.

B) Only Bud and Calla have to prepare consolidated financial statements.

C) Only Bud and Daisy have to prepare consolidated financial statements.

D) Bud, Calla, Daisy, and Fern have to prepare non-consolidated financial statements.

Answer: D Page Ref: 58 Learning Obj.: 2.2, 2.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 33) Ritva Co purchased a 38% interest in Saron Ltd on October 1, 20X9, for $795,000. Management at Ritva is now preparing the first set of financial statements since the acquisition and is unsure of how to report the investment.

A) If Ritva is a publicly traded company following IFRS, can the investment be reported on an equity basis? On a cost basis? At fair market value through profit or loss? Under what circumstances would each of these be appropriate for reporting purposes? What would be the impact on net earnings under each method? What is the impact on the investment account under each method?

B) If Ritva is a privately held corporation following ASPE, can the investment be reported on an equity basis? On a cost basis? At fair market value through profit or loss? Under what circumstances would each of these be appropriate for reporting purposes?

Answer: Part A) Equity: Under IFRS, the equity basis is used when an investment has been purchased for strategic reasons and the investor has significant influence. Significant influence is the ability to participate in the operating and financing policy decisions of the investee. In this case, Ritva owns 38% of Saron, which may indicate that Ritva has the ability to participate in decisions since this is greater than the 20% normally indicated.

If there was evidence available to indicate that this was not the case, then the investment would have to be recorded as a passive investment. Provided Ritva plans to hold this investment and influence the decisions, the equity basis must be used. Under this method, Ritva would report in earnings (and OCI) its proportionate share of earnings (and OCI) from Saron each year. The investment account will represent the initial investment cost plus Ritva's proportionate share of Saron's earnings since the acquisition date, less any dividends received from Saron since the acquisition date.

Cost: The cost basis is not allowed for equity investments for reporting purposes under IFRS. It may be used for recording purposes only, and then adjustments would be required at the end of the year to adjust the investment account to an equity basis (or consolidated, if this was appropriate). Under the cost basis, dividends received from Saron during the year would be reported in Ritva's net income. Under this method, the investment account would remain unchanged at $795,000.

FVTPL: If Ritva purchased the investment in Saron to actively trade for short-term profits or to strictly earn dividends, then the investment is a passive investment. In addition, if there was evidence to indicate that Ritva could not significantly influence the decisions of Saron, even though it owned more than 20% of the voting shares, then the investment would also be reported as a passive investment. Passive equity investments under IFRS must be reported as a financial instrument and at fair value at each reporting period. Under this method, dividend income and the changes in fair value are reported in Ritva's net earnings. The investment account would be the fair value of the shares owned in Saron at each reporting period.

Part B) Under ASPE, Ritva has a choice to using either the equity or the cost method when it has significant influence in the investment. However, once the choice is made, all equity investments that the company has significant influence in must be reported in the same manner. Significant influence is the ability to exercise influence over the strategic operating, investing, and financing policy decisions of the investee.

In this case, Ritva owns 38% of Saron, which may indicate that Ritva has this ability to influence decisions since this is greater than the 20% normally indicated. If there was evidence available to indicate that this .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction was not the case, then the investment would have to be recorded as a passive investment.

Assuming that this is Rita’s only equity investment with significant influence, it will have a choice of using either the equity or the cost basis.

Equity: Under ASPE, the equity basis may be used when an investment has been purchased for strategic reasons and the investor has significant influence. Under this method, Ritva would report in earnings its proportionate share of earnings from Saron each year. The investment account will represent the initial investment cost plus Ritva's proportionate share of Saron's earnings since the acquisition date, less any dividends received from Saron since the acquisition date.

Cost: The cost basis is also allowed for equity investments with significant influence. If the shares of Saron are not publicly traded, and there is evidence of no significant influence, Ritva could still use the cost basis under ASPE for these shares. Under the cost basis, dividends received from Saron during the year would be reported in Ritva's net income. Under this method, the investment account would remain unchanged at $795,000. This method is not allowed if Saron’s shares are publicly traded.

FVTPL: Under ASPE, a company has the choice of using fair value for equity investments that are passive investments. In addition, if there was evidence to indicate that Ritva could not significantly influence the decisions of Saron, even though it owned more than 20% of voting shares, then the investment would also be reported as a passive investment. Under ASPE, if the shares of Sharon are not publicly traded, then Ritva has a choice of using either the cost method (above) or the fair value method. If the shares of Saron are publicly traded, then ASPE requires these shares be reported at fair value at each reporting period. Under this method, dividend income and the changes in fair value are reported in Ritva's net earnings. The investment account would be the fair value of the shares owned in Saron at each reporting period.

Page Ref: 28-31 and 35-36 Learning Obj.: 2.1, 2.2 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 34) On February 1, 20X5, Peter Co. purchased 20% of the outstanding shares of Mary Inc. at a cost of $275,000. During the next two fiscal years, Mary Inc. reported the following:

January 31, 20X6 January 31, 20X7

Net income $42,000 $35,000

Dividends $20,000 $15,000

The fair value of the investment in Mary shares was $310,000 and $260,000, on January 31, 20X6 and 20X7, respectively.

Required: A) If Peter uses the FVTOCI for recording its investment in Mary, what would the balance in the investment account be at January 31, 20X7? What would be reported on the statement of comprehensive income with respect to this investment for 20X6 and 20X7?

B) If Peter uses the equity method for recording its investment in Mary, what would the balance in the investment account be at January 31, 20X7? What would be reported on the statement of comprehensive income with respect to this investment for 20X6 and 20X7?

Answer: A) The FVTOCI method will result in the investment in the Mary account being measured at fair value at each reporting period. The balance will be $310,000 on January 31, 20X6, and $260,000 on January 31, 20X7.

For the year ended January 31, 20X6: Dividend income of $4,000 ($20,000 × 20%) will be reported in the net income and a holding gain of $35,000 ($310,000 - $275,000) will be reported in other comprehensive income.

For the year ended January 31, 20X7: Dividend income of $3,000 ($15,000 × 20%) will be reported in the profit or loss and a holding loss of $50,000 ($260,000-$310,000) will be reported in other comprehensive income.

B) The equity method will result in the investment in the Mary account as follows:

Opening balance Feb 1, 20X5 Jan 20X6: Equity in earnings of Mary 20% × $42,000 Dividends received during 20X6 20% × $20,000 Balance Jan 31, 20X6 Jan 20X7: Equity in earnings of Mary 20% × $35,000 Dividends received during 20X7 20% × $15,000 Balance Jan 31, 20X7

$ 275,000 8,400 (4,000) 279,400 7,000 (3,000) 283,400

The amount showing on the statement of comprehensive income for each year is: For the year ended January 31, 20X6: Equity in earnings of Mary $8,400 For the year ended January 31, 20X7: Equity in earnings of Mary $7,000 Page Ref: 28-30 and 36 Learning Obj.: 2.1, 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 35) On January 1, 20X8, XZ Co. purchased 3,000 shares, representing 30% of AR Limited, for $390,000. XZ is a publicly traded company. AR's total net income was $86,000 for the year ended December 31, 20X8.

AR also paid dividends in total of $25,000 during 20X8. At year end, each share of AR was trading at $150 per share.

Required: A) Based on the information above, show the journal entries that XZ would have used to report its original purchase and any related investment income from AR for 20X8 assuming that XZ reports its investment in AR using FVTPL. What is the investment account balance at the end of December 31, 20X8?

B) Based on the information above, show the journal entries that XZ would have used to report its original purchase and any related investment income for AR for 20X8 assuming that XZ reports its investment in AR as a significantly influenced investment. What is the investment account balance at the end of December 31, 20X8?

Answer: Part A–FVTPL method Journal entries during 20X8 would be for the investment recorded at FVTPL January 1, 20X8–To record initial investment in AR Dr. Investment in AR (SFP) Cr. Cash

390,000 390,000

To record receipt of dividends during the year from AR Dr. Cash (30% × $25,000) 7,500 Cr. Dividend income (SCI)

7,500

December 31, 20X8–To adjust the investment to fair value at year-end report date Dr. Investment in AR ($150 × 3,000) - $390,000 (SFP) Cr. Holding gain on investment in AR (SCI)

60,000 60,000

The balance in the investment in AR account is $450,000 at December 31, 20X8.

Part B–Equity method Journal entries during 20X8 would be for the investment recorded at FVTPL. January 1, 20X8–To record initial investment in AR Dr. Investment in AR (SFP) Cr. Cash

390,000 390,000

To record receipt of dividends during the year from AR Dr. Cash (30% × $25,000) 7,500 Cr. Investment in AR (SFP) 7,500 December 31, 20X8–To record portion of earnings from AR for the year Dr. Investment in AR (30% × $86,000) (SFP) Cr. Share of earnings of AR (SCI)

25,800 25,800 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction

The balance in the investment in AR account is $408,300 (390,000 + 25,800 - 7,500) at December 31, 20X8.

Page Ref: 29 and 36 Learning Obj.: 2.1, 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 36) On January 1, 20X2, Soho Co. purchased 4,000 shares, representing 12%, of Rico Inc., for $78,000. Soho is a publicly traded company. During the next two years, the following information was available for Rico.

20X2 20X3

Net income (loss) Dividends declared $65,000 $55,000 $35,000 $10,000

Share price December 31 $22.20 $15.70

Soho sold all of its 4,000 shares in Rico on December 31, 20X3.

Required: A) Assuming Soho classifies this investment as FVTPL, prepare the journal entries for the next two years related to this investment, and the carrying value of the investment at the end of 20X2 and 20X3.

B) Assuming Soho classifies this investment as FVTOCI, prepare the journal entries for the next two years related to this investment, and the carrying value of the investment at the end of 20X2 and 20X3.

Answer: Part A) Assuming the FVTPL classification, journal entries are as follows: January 1, 20X2–To record initial investment Dr. Investment in Rico Cr. Cash

78,000 78,000

December 31, 20X2–To record the dividend income received during 20X2 Dr. Cash (12% × $55,000) Dividend Income (SCI)

6,600 6,600

December 31, 20X2–To adjust to the fair value of the investment at year end 20X2.

Dr. Investment in Rico ((4,000 × $22.20) - 78,000) 10,800 Cr. Holding gain on investment in Rico (SCI)

10,800

Investment account balance at December 31, 20X2 is: $78,000 + $10,800 = $88,800. This is equal to 4,000 shares × $22.20 per share.

December 31, 20X3–To record the dividend income received during 20X3 Dr. Cash (12% × $10,000) Dividend Income (SCI)

1,200 1,200

December 31, 20X3–To record sale of 4,000 shares Dr. Cash Dr. Loss on sale of investment in Rico (SCI)

62,800 26,000 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Cr. Investment in Rico Loss on sale is calculated as: (4,000 × $15.70) - 88,800

88,800

Part B) Assuming the FVOCI classification, journal entries are as follows: January 1, 20X2–To record initial investment Dr. Investment in Rico Cr. Cash

78,000 78,000

December 31, 20X2–To record the dividend income received during 20X2 Dr. Cash (12% × $55,000) Dividend Income (SCI)

6,600 6,600

December 31, 20X2–To adjust to the fair value of the investment at year end 20X2 Dr. Investment in Rico ((4,000 × $22.20) - 78,000)) 10,800 Cr. OCI - Holding gain on investment of Rico

10,800

Investment account balance at December 31, 20X2 is: 78,000 + 10,800 = 88,800. This is equal to 4,000 shares × $22.20 per share.

December 31, 20X3–To record the dividend income received during 20X3 Dr. Cash (12% × $10,000) Dividend Income (SCI)

1,200 1,200

December 31, 20X3–To record sale of 4,000 shares for $62,800 (4,000 × $15.70) Dr. Cash Dr. OCI–Loss on sale of investment in Rico Cr. Investment in Rico

62,800 26,000 88,800

Investment account balance at December 31, 20X3 is: Loss on sale is: 88,800 - 62,800= 26,000 Page Ref: 29-30 Learning Obj.: 2.1, 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 37) Hattrick Corp. is a wholly owned, parent-founded subsidiary of Bobby Inc. Both Bobby and Hattrick report under IFRS. The unconsolidated statements of comprehensive income and part of the statement of changes in equity—retained earnings for the two companies for the year ended December 31, 20X6, are as follows (in 000s): Statements of Comprehensive Income Year Ended December 31, 20X6

Revenues: Sales Interest, dividend, & lease income

Bobby

Hattrick

$265,000 13,000 278,000

$121,000 600 121,600

133,000 26,000 39,000 17,800 12,900 228,700 49,300

63,000 11,600 13,000 11,700 400 99,700 21,900

Expenses: Cost of goods sold Amortization expense Administrative expense Income tax expense Other expenses Net income

Statement of Changes in Equity—Retained Earnings Section Year Ended December 31, 20X6 Retained earnings, January 1, 20X6 Net income Dividends declared Retained earnings, December 31, 20X6

19,200 49,300 (13,300) $55,200

15,200 21,900 (10,000) $27,100

Additional information: • Bobby sells some of its output to Hattrick. During 20X6, intercompany sales amounted to $25,000,000, all of which had been sold by Hattrick to outside customers by year-end. Hattrick has accounts payable owing to Bobby of $200,000 at December 31, 20X6.

• Bobby owns the land on which Hattrick's building is located. Bobby leases the land to Hattrick for $30,000 per month.

• Bobby accounts for its investment in Hattrick under the cost method.

Required: Prepare a consolidated statement of comprehensive income and consolidated statement of changes in equity—retained earnings section for Bobby Inc. for the year ended December 31, 20X6.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Answer: Bobby Inc. Consolidated Statement of Comprehensive Income Year Ended December 31, 20X6 (in 000s) Revenues: Sales (265 + 121 - 25) Interest (13 + 0.6 - 10 - 0.36) Expenses: Cost of goods sold (133 + 63-25) Amortization expense (26 + 11.6) Administrative expense (39 + 13-0.36) Income tax expense (17.8 + 11.7) Other expenses (12.9 + 0.4) Net income

$361,000 3,240 364,240 171,000 37,600 51,640 29,500 13,300 303,040 61,200

Bobby Inc. Consolidated Statement of Changes in Equity– Retained Earnings Section Year Ended December 31, 20X6 (in 000s) Retained earnings, January 1, 20X6 (19.2 + 15.2) 34,400 Net income 61,200 Dividends declared (13.3 + 10-10) (13,300) Retained earnings, December 31, 20X6 $82,300 Eliminations required: 1. $25,000,000 intercompany sales (sales and cost of goods sold) 2. $360,000 intercompany lease revenue (lease income and other expenses) 3. $10,000,000 intercompany dividends (dividend income and dividends declared) Page Ref: 42-48 Learning Obj.: 2.3, 2.4 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 38) Hattrick Corp. is a wholly owned, parent-founded subsidiary of Bobby Inc. The unconsolidated statements of income and the statement of changes of retained earnings for the two companies for the year ended December 31, 20X6, are as follows (in 000s): Statements of Income and Retained Earnings Year Ended December 31, 20X6 Bobby

Hattrick

$265,000 13,000 278,000

$121,000 600 121,600

Net income Retained earnings, January 1, 20X6

133,000 26,000 39,000 17,800 12,900 228,700 49,300 19,200

63,000 11,600 13,000 11,700 400 99,700 21,900 15,200

Dividends declared Retained earnings, December 31, 20X6

(13,300) $55,200

(10,000) $27,100

Revenues: Sales Interest, dividend, & lease income

Expenses: Cost of goods sold Amortization expense Administrative expense Income tax expense Other expenses

Additional information: • Bobby sells some of its output to Hattrick. During 20X6, intercompany sales amounted to $25,000,000, all of which had been sold by Hattrick to outside customers by year-end. Hattrick has accounts payable owing to Bobby for $200,000 at December 31, 20X6.

• Bobby owns the land on which Hattrick's building is located. Bobby leases the land to Hattrick for $30,000 per month.

• Bobby accounts for its investment in Hattrick under the cost method Assume that Bobby is a private corporation that reports under ASPE. Prepare the statement of income and retained earnings for Bobby for the year 20X6 using the equity method.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Answer: Bobby Inc. Statement of Income and Retained Earnings Year Ended December 31, 20X6 (in 000s) Revenues: Sales Interest and lease income–Note 1 Expenses: Cost of goods sold Amortization expense Administrative expense Income tax expense Other expenses Net income from operations Equity in earnings of Hattrick–Note 2 Net income Retained earnings, January 1, 20X6 Dividends declared Retained earnings, December 31, 20X6

$265,000 3,000 268,000 133,000 26,000 39,000 17,800 12,900 228,700 39,300 21,900 61,200 34,400 (13,300) $82,300

Note 1: Dividend income is reported against the investment account under the equity method, and therefore $10,000 has been removed.

Note 2: 100% × $21,900 = 21,900. There are no adjustments to net income required.

Page Ref: 48-50 Learning Obj.: 2.3 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 39) Ying Corporation formed a new subsidiary, Zang Limited, in 20X2. Ying is mainly involved in the manufacturing, distribution, and retailing of dog food and Zang manufacturers and distributes cat food.

At that time, Ying provided all of the start-up capital to Zang in the form of equity, purchasing all of Zang's shares for $1.5 million. The unconsolidated statements for the two companies at December 31, 20X7, are shown below.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction

During 20X7, the following transactions took place (all dollars are in thousands): • Ying provided a loan to Zang and charged interest totalling $80.

• Zang sold merchandise to Ying totalling $3,270, which was all subsequently sold to outside third parties by the end of the year.

• Included in Zang's receivables is $270 still owed by Ying for these sales.

• Ying charged management fees of $900 to Zang during the year.

Required: Using the direct approach, prepare the consolidated statements of comprehensive income; statement of changes in equity—retained earnings section; and statement of financial position at December 31, 20X7.

Show details of all of your work to arrive at the consolidated balances. Provide the consolidating journal entries required.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction

Page Ref: 42-48 Learning Obj.: 2.3, 2.4 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 40) In 20X5, Bing created a wholly owned subsidiary called Bango Limited. Bing is a private company and reports under ASPE. Bing is currently using the cost method to record its investment in Bango, but is trying to decide if it should report using the equity method or the consolidation method. This is the only subsidiary that Bing has.

Separate Statements of Earnings and Retained Earnings for Bing and Bango Year Ended December 31, 20X5.

Sales of merchandise Other revenues Total revenues

Bing $6,000,000 200,000 $6,200,000

Bango $1,000,000 20,000 $1,020,000

Cost of goods sold Depreciation expense Interest expense Other expenses (including income tax) Total expenses Net income Retained earnings, January 1, 20X5 Dividends declared Retained earnings, December 31, 20X5

$2,500,000 500,000 400,000 1,300,000 $4,700,000 $1,500,000 4,200,000 (200,000) $5,500,000

$400,000 80,000 20,000 190,000 $690,000 $330,000 0 (50,000) $280,000

Other Information During the year, the following transactions occurred between the two companies: 1. Bing sold merchandise to Bango for $560,000. At the end of the year, Bango still owed Bing $25,000 for this merchandise, although Bango had sold this entire inventory to outside customers.

2. Bango charged rent of $20,000 to Bing for office space.

3. Licensing fees were paid by Bango to Bing in the amount of $150,000.

Required: (a) Prepare the statement of earnings and retained earnings for Bing using the equity method of reporting its investment in Bango. (b) Prepare the consolidated statement of earnings and retained earnings for Bing. (c) Compare the equity method and the consolidation method and discuss any similarities and differences. (d) If Bing had other subsidiary investments, what other factors would be considered in trying to decide if the consolidation or equity method should be used?

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Answer: Part A—Equity method Under the equity method, Bing will include in its net earnings its proportionate share of the earnings from Bango. Any dividends received from Bango during the year would be reported as a reduction of the investment account and not as income.

The proportionate share of earnings will be: 100% × $330,000 = $330,000.

Dividends of $50,000 must be eliminated from Other Revenue.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Part B—Consolidation method

Part C The consolidation and equity methods will result in the same net earnings and retained earnings of the parent as can be seen above. That is why the equity method is often called the single line consolidation: All of the earnings of the subsidiary are reported as a single line item on the statement of earnings for the parent. The consolidation method will combine the revenues and expenses of the parent and its subsidiaries on a line-by-line basis.

Part D Under ASPE, although there is choice in reporting subsidiaries of using the cost, equity, or consolidation methods, the same method must be used for all similar types of investments. Consequently, if Bing already had some subsidiaries, then the same accounting policy that was currently being used by the company for its other subsidiaries would have to be used for its Bango investment. Alternatively, Bing could make an accounting policy change and apply a different method, but this method would have to be applied for all subsidiaries. As a result, the prior year's statements would have to be restated to show this change in accounting policy.

Page Ref: 35-36 and 40-52 Learning Obj.: 2.2, 2.3, 2.4, 2.5 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 41) Rasor Inc. reports under IFRS and recently invested $50,750 to obtain 40% ownership in Ivan. Tenor owns 60% of Ivan. However, all major strategic decisions require the unanimous consent of both Rasor and Tenor. The agreement stipulates that both Rasor and Tenor have rights over the net assets of Ivan.

The balance of the Rasor's investment in Ivan was $50,750 at January 1, 20X3. During the next three years, Ivan reported the following net earnings (losses) and dividends paid.

20X3 20X4 20X5

Net earnings (loss) $ 135,600 15,700 (103,400)

Dividends paid $ 120,000 120,000 0

Required: A) Explain the two types of joint arrangements discussed in IFRS. How is each of these types of investments recognized in the accounts under IFRS? What type is Rasor's investment in Ivan and why?

What accounting method is used by Rasor to recognize this investment?

B) Calculate the balance of the Investment in Ivan account at December, 31 20X5.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction Answer: A) IFRS discusses two types of joint arrangements: joint operations and joint ventures. In a joint operation the parties have joint control and rights over individual assets and are obligated for the individual liabilities of the joint operation. Joint operators will include their share of the assets and liabilities, revenues, and expenses of the joint operation in their respective financial statements.

A joint venture: The parties have joint control but only rights to the net assets of the joint venture. This investment is reported using the equity method on the joint venturers' respective financial statements.

Ivan is a joint venture, since the Rasor and Tenor only have rights to the net assets of Ivan and there is joint control. Consequently, Rasor should use the equity method to reports its investment in Ivan.

B) The table below shows the calculation of the Investment in Ivan account for each year.

Balance Jan 1, 20X3 Proportionate share of earnings for 20X3 - 135,600 × 40% Dividends received during 20X3 120,000 × 40% Balance Dec 31, 20X3 Proportionate share of earnings for 20X4 - 15,700 × 40% Dividends received during 20X4 120,000 × 40% Balance Dec 31, 20X4 Proportionate share of losses for 20X5 - 103,400 × 40% = 41,360, but there is only $15,270 in account (see note below) Balance Dec 31, 20X5

Balance $ 50,750 54,240 (48,000) 56,990 6,280 (48,000) 15,270 (15,270) 0

Note: In 20X5, Rasor's share of losses in Ivan exceeded the balance in the investment account. Therefore, Rasor must stop recognizing further losses since the account would go into a credit position, representing a liability, which is not the case here. Once the JV resumes making profits, then Rasor will record its portion of the profits once they exceed the losses not recognized previously. In this case, to date, there are $26,090 (41,360-15,270) in losses that have not been recognized. Rasor would not commence reporting its proportionate share of profits until profits of more than $26,090 had been earned.

Page Ref: 36-37; 56 Learning Obj.: 2.2, 2.5 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 2 Intercorporate Equity Investments: An Introduction 42) PCo owns 60% of ACo, 20% of BCo, and 10% of DCo. ACo owns 45% of DCo. Identify the basis that each company is required to use when reporting its equity investments (if any).

Answer:

From the diagram, PCo owns directly control of ACo. PCo also owns 55% control of DCo by owning 10% directly and 45% through ACo. So PCo would be required to prepare consolidated statements consolidating both DCo and ACo. PCo's investment in BCo is significant influence and would therefore record its investment in BCo using the equity method.

ACo owns only 45% of DCo, so ACo would report its investment in DCo on the equity basis.

DCo and BCo do not have any equity investments.

Page Ref: 57-58 Learning Obj.: 2.3 Difficulty: Moderate

43) What is a structured entity? How is control determined in a structured entity? Give one example of how an entity might use a structured entity. How are SEs recognized?

Answer: A structured entity (SE) (or variable interest entity) is a type of entity set up for a specific purpose by a sponsoring corporation. The reporting enterprise has no control, since the SE is not controlled through voting shares. SEs are often used to securitize (sell) receivables in return for funds that have been raised by the SE from public and or private investors. Control is exercised by contractual means or management. Questions used to assess control include, "Who has the rights that provide power over the activities of the SE?" SEs are consolidated when the activities of the SE impact the sponsoring corporation's finances, operations, and financial reports.

Page Ref: 32-33 Learning Obj.: 2.1, 2.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 1) Which of the following is not a business combination?

A) Statutory amalgamation B) Joint venture C) A company's purchase of 100% of another company's net assets D) A company's purchase of 80% of another company's voting shares Answer: B Page Ref: 86-88 Learning Obj.: 3.1, 3.2 Difficulty: Easy

2) Under IFRS 3, Business Combinations, which method must be used to account for business combinations?

A) Purchase method B) Pooling-of-interests method C) Acquisition method D) New entity method Answer: C Page Ref: 88 Learning Obj.: 3.3 Difficulty: Easy

3) After an exchange of shares in a business combination, each group of shareholders held 50% of the voting rights. Which of the following factors should be considered in determining the acquirer?

A) Head office location B) Composition of the board of directors C) If there are material transactions between the combining companies D) Which company initiated the combination Answer: B Page Ref: 90 Learning Obj.: 3.3 Difficulty: Moderate

4) Ha Ltd. and Hee Ltd. exchanged shares in a business combination. After the share exchange, each company held the same number of voting shares. Which of the following statements is true?

A) The company with the highest net assets is considered the acquirer.

B) The companies must ask the courts to decide which company is the acquirer.

C) A number of factors must be considered to determine which company is the acquirer.

D) There is no acquirer as this is not a proper business combination.

Answer: C Page Ref: 90 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 5) How should the transaction costs of issuing shares in an acquisition be recognized?

A) Expensed B) Capitalized as part of the cost of the shares C) Deducted in total from shareholders' equity D) Deducted from shareholders' equity, net of related income tax benefits Answer: D Page Ref: 91 Learning Obj.: 3.3 Difficulty: Moderate

6) How should the cost of issuing debt in an acquisition be recognized?

A) Expensed B) Amortized over the term of the debt C) Deducted from the value of the debt D) Deducted from shareholders' equity Answer: C Page Ref: 91 Learning Obj.: 3.3 Difficulty: Moderate

7) How should accounting fees for an acquisition be treated?

A) Expensed in the period of acquisition B) Capitalized as part of the acquisition cost C) Deferred and amortized D) Deferred until the company is disposed of or wound-up Answer: A Page Ref: 91 Learning Obj.: 3.3 Difficulty: Moderate

8) Thad Ltd. acquired 100% of the common shares of Zoe Co. for $560,000. At the time of acquisition, Zoe had the following:

Identifiable assets Identifiable liabilities

Book Value $1,484,000

Fair Value $1,518,000

980,000

980,000

In this acquisition, how much goodwill has been created?

A) $0 B) $22,000 C) $35,000 D) $56,000 Answer: B Page Ref: 94-96 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 9) Current assets Net capital assets Current liabilities Long-term debt Share capital Retained earnings

Cheers Co. $ 240,000 400,000 $ 640,000 $ 168,000 80,000 360,000 32,000 $ 640,000

Tapp Ltd. $ 40,000 240,000 $ 280,000 $ 140,000 48,000 50,000 42,000 $ 280,000

Cheers acquired 100% of Tapp's shares for $150,000. On the acquisition date, the fair value of the current assets and the net capital assets of Tapp Ltd. were $104,000 and $216,000, respectively. The fair value of the liabilities equalled their book value. What is the amount of goodwill created in this acquisition?

A) $(24,000) B) $ 0 C) $18,000 D) $40,000 Answer: C Page Ref: 94-96 Learning Obj.: 3.3 Difficulty: Moderate

10) What is the most common valuation method used for intangible assets?

A) Market-based B) Income-based C) Cost-based D) Amortized cost Answer: B Page Ref: 94 Learning Obj.: 3.3 Difficulty: Moderate

11) How should negative goodwill be shown on the consolidated financial statements of the acquirer?

A) As a gain on the statement of comprehensive income B) As a loss on the statement of comprehensive income C) As a liability on the statement of financial position D) As a separate amount under shareholders' equity on the statement of financial position Answer: A Page Ref: 96 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 12) Sya Ltd. acquired all the assets and liabilities of Littman Ltd. by issuing common shares to Littman.

After this transaction, Littman owned 30% of Sya's outstanding shares. Which of the following statements is true?

A) Littman is now a subsidiary of Sya. B) This is an intercorporate investment for Sya. C) Sya does not need to prepare consolidated financial statements.

D) Sya should use the equity method to reflect its investment in Littman.

Answer: C Page Ref: 97-99 Learning Obj.: 3.3 Difficulty: Moderate

13) Sya Ltd. acquired all the assets and liabilities of Littman Ltd. by issuing common shares to Littman.

After this transaction, Littman owned 30% of Sya's outstanding shares. How should Sya record Littman's assets and liabilities on its books?

A) At their original cost B) At their net book value C) At their fair market value D) At their fair market value plus an allocated share of goodwill to each item Answer: C Page Ref: 97-99 Learning Obj.: 3.4 Difficulty: Easy

14) Sya Ltd. acquired all the assets and liabilities of Littman Ltd. by issuing common shares to Littman.

After this transaction, Littman owned 30% of Sya's outstanding shares. Which of the following statements is true?

A) Littman Ltd. ceases to exist.

B) Littman must record its receipt of Sya shares using the equity method.

C) Sya must prepare single-entity and consolidated financial statements.

D) Sya should not treat this transaction as an intercorporate investment.

Answer: D Page Ref: 97-99 Learning Obj.: 3.3, 3.4 Difficulty: Moderate

15) Able Ltd. offers to buy shares from the existing shareholders of Wei Co. at a premium price. The current management and board of directors of Wei have let the Wei shareholders know that they do not approve of this. This is an example of a(n) ________.

A) open market purchase B) hostile takeover C) poison pill strategy D) reverse takeover Answer: B Page Ref: 99 Learning Obj.: 3.2 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 16) Perez Co. plans to acquire Roo Co. Roo has substantial depreciable assets that have fair values in excess of their book values. Considering only the income tax impact, which of the following statements is true?

A) Perez would prefer to purchase Roo's assets and Roo would prefer to sell its shares to Perez.

B) Perez would prefer to purchase Roo's shares and Roo would prefer to sell its assets to Perez.

C) Both Perez and Roo would prefer Perez to purchase Roo's shares.

D) Both Perez and Roo would prefer Perez to purchase Roo's assets.

Answer: A Page Ref: 100 Learning Obj.: 3.3, 3.4 Difficulty: Moderate

17) Perez Co. acquired Roo Co. in a business combination. Roo issued new shares to Perez's shareholders in exchange for their outstanding shares. What type of share exchange is this?

A) Direct exchange B) Indirect exchange C) Hostile takeover D) Reverse takeover Answer: D Page Ref: 101-102 Learning Obj.: 3.2 Difficulty: Easy

18) Perez Co. acquired Roo Co. in a business combination. Perez issued new shares to Roo's shareholders in exchange for their outstanding shares. What type of share exchange is this?

A) Direct exchange B) Indirect exchange C) Hostile takeover D) Reverse takeover Answer: A Page Ref: 101 Learning Obj.: 3.2 Difficulty: Easy

19) At December 31, 20X0, Crowe Company has 80,000 common shares outstanding while Dylan Inc. has 40,000 common shares outstanding. Crowe wishes to gain control over Dylan and will enter into a reverse takeover of Dylan to gain Dylan's listing on the stock exchange. In order to facilitate the reverse takeover, which of the following would have to occur?

A) Dylan would have to issue more than 40,000 shares.

B) Dylan would have to issue less than 40,000 shares.

C) Crowe would have to issue less than 80,000 shares.

D) Crowe would have to issue more than 80,000 shares.

Answer: A Page Ref: 102-103 Learning Obj.: 3.3 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 20) Dupuis Ltd. acquired Waul Ltd. through an exchange of shares. How should Waul record this on its books?

A) Waul should debit an "Investment by Dupuis" account and credit its share capital account.

B) Waul should debit an "Investment by Dupuis" account and remove all its asset and liability accounts.

C) Waul should close all its balance sheet accounts.

D) No entry should be made.

Answer: D Page Ref: 103-104 Learning Obj.: 3.3, 3.4 Difficulty: Moderate

21)

Current assets Net capital assets Current liabilities Long-term debt Share capital Retained earnings

Cheers Co Book Value $ 512,000 448,000 $ 960,000 $ 96,000 288,000 320,000 _256,000 $960,000

Tapp Ltd Book Value $ 62,400 97,600 $ 160,000 $ 12,800 35,200 64,000 _48,000 $ 160,000

Tapp Ltd Fair Value $ 65,600 110,400 12,800 40,000

Cheers acquired 100% of Tapp's shares for $144,000. The condensed statements of financial position for Cheers and Tapp are given above, as well as the fair values of Tapp's assets and liabilities on the acquisition date. On Cheers's consolidated statement of financial position at the acquisition date, what is the total shareholders' equity?

A) $576,000 B) $624,000 C) $688,000 D) $11,888,000 Answer: A Page Ref: 105-110 Learning Obj.: 3.5, 3.6 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 22)

Current assets Net capital assets Current liabilities Long-term debt Share capital Retained earnings

Cheers Co Book Value $ 512,000 448,000 $ 960,000 $ 96,000 288,000 320,000 _256,000 $960,000

Tapp Ltd Book Value $ 62,400 97,600 $ 160,000 $ 12,800 35,200 64,000 _48,000 $ 160,000

Tapp Ltd Fair Value $ 65,600 110,400 12,800 40,000

Cheers acquired 100% of Tapp's shares for $144,000. The condensed statements of financial position for Cheers and Tapp are given above, as well as the fair values of Tapp's assets and liabilities on the acquisition date. What is the amount of the goodwill on the acquisition?

A) $0 B) $11,200 C) $20,800 D) $32,000 Answer: C Page Ref: 105-110 Learning Obj.: 3.5, 3.6 Difficulty: Moderate

23) There are a number of possible approaches to reporting consolidated financial statements after one company acquires control over another. Which of the following methods reports the consolidated amounts by adding together the carrying values of the assets and liabilities of the parent and the subsidiary?

A) Pooling-of-interests method B) Acquisition method C) Purchase method D) New entity method Answer: A Page Ref: 105-106 Learning Obj.: 3.5 Difficulty: Easy

24) What type of business combination is accounted for in a manner that is essentially the same as the pooling-of-interests method?

A) Statutory amalgamation B) Corporate restructuring C) Reverse takeover D) Hostile takeover Answer: B Page Ref: 107 Learning Obj.: 3.5 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 25) Which of the following is not a reason why a private enterprise may be acquired as a bargain purchase?

A) It is a family business and the next generation does not want to continue the business.

B) The owner has health problems and does not have a successor.

C) The business only has equity financing and has no debt financing.

D) The owner is no longer interested in the business.

Answer: C Page Ref: 111 Learning Obj.: 3.6 Difficulty: Moderate

26) How is negative goodwill reported on financial statements?

A) On the consolidated SFP as "an excess of fair value over cost of assets acquired" under shareholders' equity B) On the consolidated SFP as "negative goodwill" between the liabilities and shareholders' equity C) On the consolidated SCI as "negative goodwill" D) On the consolidated SCI as a "gain on bargain purchase" Answer: D Page Ref: 110-111 Learning Obj.: 3.6 Difficulty: Moderate

27) Which of the following statements is not true about revaluation accounting?

A) Revaluation must be done regularly.

B) Revaluation can be applied to tangible assets whose fair values can be reliably measured.

C) Revaluation can be applied to intangible assets if the assets have an active market.

D) Revaluation is applied to individual assets.

Answer: D Page Ref: 116 Learning Obj.: 3.8 Difficulty: Moderate

28) What does push-down accounting refer to?

A) Writing down assets where value is impaired B) Applying the lower of cost or market approach C) Recording fair values on a subsidiary's books after a business combination D) Recording all consolidation adjustments on the books of the subsidiary Answer: C Page Ref: 116 Learning Obj.: 3.8 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 29) Which accounting method yields the same results as push-down accounting?

A) Equity method B) Cost method C) Consolidation D) Revaluation Answer: D Page Ref: 116 Learning Obj.: 3.8 Difficulty: Moderate

30) Nashman Ltd. is a private enterprise with five subsidiaries. Which of the following statements is true?

A) Nashman must prepare consolidated financial statements.

B) Nashman should report all subsidiaries on the same basis.

C) Nashman must use the cost basis to report all subsidiaries.

D) Nashman can choose the subsidiaries it wishes to include in its consolidated financial statements.

Answer: B Page Ref: 117-118 Learning Obj.: 3.5 Difficulty: Moderate

31) How is negative goodwill treated in accounting for a joint venture in the year of acquisition?

A) Included in the investor's equity in the earnings of the investee B) Included in the carrying value of the investment C) Allocated among the assets and liabilities D) Shown as a line item on the SFP Answer: A Page Ref: 117 Learning Obj.: 3.9 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 32) On December 31, 20X5, CI Co. purchased 100% of the outstanding common shares of SA Ltd. for $1,500,000 in cash; 80% of the cash was obtained by issuing a five-year note payable. The statements of financial position of CI and SA immediately before the acquisition and issuance of the notes payable were as follows (in 000s): CI

Cash Accounts receivable Inventory Property, plant, and equipment

Current liabilities Long-term liabilities Common shares Retained earnings

Book Value $360 520 800 1,820 $3,500

Fair Value $360 500 880 2,000

$ 380 1,200 500 1,420 $3,500

$380 1,200

SA ____ Book Fair Value Value $200 $200 380 380 400 450 1,420 1,520 $2,400 $260 1000 600 540 $2,400

$260 1030

Required: Prepare the journal entry that CI will post to record the acquisition of CI. Prepare the consolidated statement of financial position for CI immediately following the acquisition of SA.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Answer: Measurement: Calculation of goodwill (in 000s) Consideration given Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Current liabilities Long-term liabilities Goodwill

$1,500

$200 380 450 1,520 (260) (1,030)

1,260 $ 240

CI would have made the following entry to record the acquisition: Dr. Investment in SA 1,500 Cr. Cash 1,500 × 20% 300 Cr. Note payable 80% × 1,500 1,200 CI Co. Consolidated Statement of Financial Position December 31, 20X5 (in 000s) Cash (360 - 300 + 200) Accounts receivable (520 + 380) Inventory (800 + 450) Property, plant, and equipment (1,820 + 1,520) Goodwill

$ 260 900 1,250 3,340 240 $5,990

Current liabilities (380 + 260) Long-term liabilities (1,200 + 1,200 + 1,030) Common shares Retained earnings

$ 640 3,430 500 1,420 $5,990

Page Ref: 108-112 Learning Obj.: 3.6 Difficulty: Moderate

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3-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 33) On December 31, 20X5, CI Co. purchased 100% of the outstanding common shares of SA Ltd. for $1,100,000 in cash; 80% of the cash was obtained by issuing a five-year note payable. The statements of financial position of CI and SA immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

Cash Accounts receivable Inventory Property, plant, and equipment

Current liabilities Long-term liabilities Common shares Retained earnings

CI Book Fair Value Value $360 $360 520 500 800 880 1,820 2,000 $3,500

Book Value $200 380 400 1,420 $2,400

Fair Value $200 380 450 1,520

$ 380 1,200 500 1,420 $3,500

$260 1000 600 540 $2,400

$260 1030

$380 1,200

SA

Required: Prepare the journal entry that CI will post to record the acquisition of SA. Prepare the consolidated statement of financial position for CI immediately following the acquisition of SA. Answer: Measurement: Calculation of goodwill (in 000s) Consideration given Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Current liabilities Long-term liabilities Goodwill

$1,100

$200 380 450 1,520 (260) (1,030)

1,260 $ (160)

This negative goodwill will be reported as a gain on bargain purchase and recognized in the consolidated statement of comprehensive income issued by CI. CI would have made the following entry to record the acquisition: Dr. Investment in SA 1,100 Cr. Cash 1,100 × 20% 220 Cr. Note payable 80% × 1,100 880

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3-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations

CI Co. Consolidated Statement of Financial Position December 31, 20X5 (in 000s) Cash (360 - 220+ 200) $ 340 Accounts receivable (520 + 380) 900 Inventory (800 + 450) 1,250 Property, plant, and equipment (1,820 + 1,520)3,340 $5,830 Current liabilities (380 + 260) $ 640 Long-term liabilities (1,200 + 880 + 1,030) 3,110 Common shares 500 Retained earnings 1,420 + 160 1,580 $5,830 Page Ref: 103-105, 108-110 Learning Obj.: 3.6 Difficulty: Moderate

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3-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 34) On December 31, 20X6, the statements of financial position of the Power Company and the Pro Company are as follows: (in 000s)

Cash Accounts receivable Inventories Property, plant, and equipment (net) Total assets

Power $ 500 1,500 2,000 2,500 $6,500

Pro $ 800 1,700 1,500 4,000 $8,000

Current liabilities Long-term liabilities Common shares Contributed surplus Retained earnings Total liabilities and equities

$ 700 800 2,500 800 1,700 $6,500

$ 400 500 1,000 1,500 4,600 $8,000

(FV)

$4,300

$ 550

Power Company has 100,000 shares of common stock outstanding. Pro Company has 45,000 shares outstanding. On January 1, 20X7, Power issued an additional 90,000 shares of common stock in exchange for all the outstanding shares of Pro. All assets and liabilities have book values equal to fair values, except as noted above. In addition, Pro has a patent that has an appraised fair value of $450.

Market value of the new shares issued was $95 per share at the date of acquisition.

Required: What is the amount of goodwill to be recorded for this business combination? Prepare the journal entry that Power would record on January 1, 20X7, related to this acquisition. Prepare the consolidated statement of financial position at January 1, 20X7.

Answer: Calculation of goodwill (in 000s): Fair value of consideration (90,000 shares @ $95) Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Patent Current liabilities Long-term liabilities Goodwill

$8,550

$800 1,700 1,500 4,300 450 (400) (550)

7,800 $ 750

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3-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Journal entry recorded by Power to record the acquisition: Dr. Investment in Pro 8,550 Cr. Common shares 8,550 Power Company Consolidated Statement of Financial Position January 1, 20X7 (in 000s) Cash (500 + 800) Accounts receivable (1,500 + 1,700) Inventories (2,000 + 1,500) Property, plant, and equipment (2,500 + 4,300) Patent Goodwill Total assets

$ 1,300 3,200 3,500 6,800 450 750 $16,000

Current liabilities (700 + 400) Long-term liabilities (800 + 550) Common shares 2,500 + 8,550 Contributed surplus Retained earnings Total liabilities and equities

$ 1,100 1,350 11,050 800 1,700 $16,000

Page Ref: 13-105 and 108-110 Learning Obj.: 3.4, 3.6 Difficulty: Moderate

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3-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 35) On December 31, 20X6, the statements of financial position of the Power Company and the Pro Company are as follows: (in 000s)

Cash Accounts receivable Inventories Property, plant, and equipment (net) Total assets

Power $ 500 1,500 2,000 2,500 $6,500

Pro $ 800 1,700 1,500 4,000 $8,000

Current liabilities Long-term liabilities Common shares Contributed surplus Retained earnings Total equities

$ 700 800 2,500 800 1,700 $6,500

$ 400 500 1,000 1,500 4,600 $8,000

(FV)

$4,300

$ 550

Power Company has 100,000 shares of common stock outstanding. Pro Company has 45,000 shares outstanding. On January 1, 20X7, Power issued an additional 90,000 shares of common stock in exchange for all the net assets of Pro. All assets and liabilities have book value equal to fair values, except as noted.

In addition, Pro has a patent that has an appraised fair value of $450.

Market value of the new shares issued was $95 per share at the date of acquisition.

Required: A) What is the amount of goodwill to be recorded for this business combination? Prepare the journal entry that Power would record on January 1, 20X7, related to this acquisition. In this case, who are the shareholders, and what are their percentage holdings on January 1, 20X7? Prepare the statement of financial position for Power as at January 1, 20X7.

B) How would your answer differ if Power had purchased the shares rather than the net assets of Pro Company? In this case, who are the shareholders and what are their percentage holdings on January 1, 20X7?

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3-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Answer: Part A Calculation of goodwill (in 000s): Fair value of consideration (90,000 shares @ $95) Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Patent Current liabilities Long-term liabilities Goodwill

$8,550

$800 1,700 1,500 4,300 450 (400) (550)

Journal entry recorded by Power to record the acquisition: Dr. Cash $800 Accounts receivable 1,700 Inventories 1,500 Property, plant, and equipment 4,300 Patent 450 Goodwill 750 Cr. Current liabilities Long-term liabilities Common shares

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3-17

7,800 $ 750

400 550 8,550

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations The shareholders of Power Company at January 1, 20X7: The original shareholders of Power hold 100,000 common shares, representing 52.6% (100,000/190,000), and Pro Company owns 90,000 shares, representing 47.3%. In effect, Power is now an investee of Pro. Power Company Statement of Financial Position At January 1, 20X7 (in 000s) Cash (500 + 800) Accounts receivable (1,500 + 1,700) Inventories (2,000 + 1,500) Property, plant, and equipment (2,500 + 4,300) Patent Goodwill Total assets

$ 1,300 3,200 3,500 6,800 450 750 $16,000

Current liabilities (700 + 400) Long-term liabilities (800 + 550) Common shares 2,500 + 8,550 Contributed surplus Retained earnings

$ 1,100 1,350 11,050 800 1,700 $16,000

Part B If Power purchased the shares rather than the net assets of Pro Company, the journal entry prepared by Power would be: Journal entry recorded by Power to record the acquisition: Dr. Investment in Pro 8,550 Cr. Common shares 8,550 The assets and liabilities would remain on Pro's books and only on consolidation would the assets and liabilities of Pro be added to the assets and liabilities of Power.

In this case, the shares of Power Company are owned as follows on January 1, 20X7: The original shareholders of Power hold 100,000 common shares, representing 52.6% (100,000/190,000), and the original shareholders of Pro own 90,000 shares, representing 47.3%. Pro is a subsidiary of Power.

Page Ref: 87; 97-100; 103-104; 109-110 Learning Obj.: 3.2, 3.4, 3.6 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 36) Hurricane Inc. wants to acquire 100% of the net assets of Flood Inc. using all cash consideration. From Flood's shareholders' point of view, what are the advantages and disadvantages of Hurricane purchasing shares rather than net assets of Flood?

Answer: The advantages of a purchase of shares are the following: 1. Flood's shareholders may ask for a premium to be paid on the price of the shares, since Hurricane wants to gain 100% ownership and wants to entice all of Flood's shareholders to accept the offer.

2. The proceeds will go directly to Flood's shareholders and they can then use the cash for whatever reasons they wish.

The disadvantages of a purchase of shares are the following: 1. Flood's shareholders will be subject to capital gains tax on the proceeds of disposal of these shares.

2. If Hurricane cannot get all 100% of the shareholders to agree to sell, then the deal may fall through unless Hurricane will settle for something less than 100% ownership.

The advantage of a net asset purchase is the following: 1. With a net asset purchase, since the sale is made by Flood itself, it may be easier to get full support from the board of directors to have the deal go through, rather than trying to convince the individual shareholders.

The disadvantages of a net asset purchase are the following: 1. Proceeds from the sale will go to the company rather than the individual shareholders. In this case, it will be up to the board of directors to decide what should happen with the proceeds. The board could decide to issue a dividend for the amount, wind up the company, and issue a liquidating dividend; or reinvest the proceeds in some other business.

2. Gains will be subject to tax at higher rates in Flood. Higher taxes can result if part of the gains are taxed as recaptured CCA, sale of inventory, or a sale of intangible assets. This may leave less net proceeds available to be paid out to Flood's shareholders.

Page Ref: 99-101 Learning Obj.: 3.2, 3.3 Difficulty: Difficult

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3-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 37) On January 1, 20X7, Falcon acquired the net assets of Intra for $3,400,000 with the issue of shares. The statement of financial position for Intra at the date of acquisition is shown below, together with estimates of the fair values of Intra's recorded assets and liabilities.

Intra Corp Statement of Financial Position as at December 31, 20X6 Book value Fair value $ 000's $ 000's Assets Cash Accounts receivable Inventories Property, plant, and equipment Development projects Other investments Total assets Liabilities Accounts payable and accrued liabilities Long-term debt Common shares Retained earnings Total liabilities and shareholders' equity

350 180 330 3,465 150 20 4,495

350 170 310 3,155 565 45

180 680 1,525 2,110

180 660

4,495

Required: What is the amount of goodwill to be recorded for this business combination?

Prepare the journal entry that Falcon will use to record the business combination. Prepare the statement of financial position for Intra on January 1, 20X7, directly after the transaction is completed. Reconcile the book value of the retained earnings for Intra on December 31, 20X6, to its balance on January 1, 20X7.

Explain any differences.

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3-20

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Answer: Calculation of goodwill (in 000s): Fair value of consideration paid Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Development projects Other investments Current liabilities Long-term liabilities Goodwill

$3,400

$350 170 310 3,155 565 45 (180) ( 660)

3,755 $ (355)

The "negative goodwill" is a gain in bargain purchase.

The journal entry used by Falcon to record the business combination is as follows: Dr. Cash $350 Accounts receivable 170 Inventories 310 Capital assets 3,155 Development projects 565 Other investments 45 Cr. Current liabilities 180 Cr. Long-term liabilities 660 Cr. Gain on bargain purchase (income statement) 355 Cr. Common shares 3,400

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations

Intra Corp Statement of Financial Position as at January 1, 20X7 Post-transaction (in thousands of $'s) $ Assets Cash Accounts receivable Inventories Capital assets Development projects Other investments Investment in Falcon Total assets

3,400 3,400

Liabilities Accounts payable and accrued liabilities Long term debt Common shares Retained earnings Total liabilities and shareholders' equity

1,525 1,875 3,400

Note: Proof of retained earnings: Book value amount before transaction Excess of fair value over book values: 3,755 - (1,525 + 2,110) Discount on sale (gain on bargain purchase) Retained earnings after transaction

2,110 120 (355) 1,875

Page Ref: 103-105 Learning Obj.: 3.4, 3.6 Difficulty: Difficult

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3-22

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 38) Sugar Corp and Syrup Limited have reached an agreement in principle to combine their operations as of October 1, 20X9. However, the board of directors cannot decide on the best way to accomplish the combination. Below are the alternatives being considered.

1. Sugar acquires the net assets of Syrup for $1,700,000 cash.

2. Sugar acquires only the assets for $2,650,000 cash.

3. Sugar acquires all of the outstanding shares of Syrup by issuing shares with a fair market value of $1,700,000.

Syrup has the following assets and liabilities at October 1, 20X9 (in thousands of dollars).

Cash Accounts receivable Inventory Property, plant, and equipment, net Total assets

$ 50 230 470 1,750 2,500

Accounts payable Loan payable Common shares Retained earnings Total liabilities and shareholders' equity

360 650 800 690 2,500

The only item that has a fair value different from its carrying value is the property, plant, and equipment, which has a fair value of $1,900.

Required: Explain how each transaction is different from the acquirer's point of view. Prepare the journal entry that would be recorded by Sugar for each these alternatives.

Answer: Alternative 1—This transaction is a purchase of net assets and therefore qualifies as a business combination. As a result, goodwill (if any) may arise on this transaction and be recorded. Sugar will record all of the assets and liabilities purchased in its books.

Alternative 2—This transaction is a purchase of an asset group only and does not qualify as a business combination. An asset group can have no goodwill. Therefore, this is a "basket purchase" and the price paid will be allocated to the specific assets purchased.

Alternative 3—This transaction is the purchase of shares and therefore qualifies as a business combination. Goodwill may arise on this transaction but will be recorded only on consolidation. Sugar will only record the investment in Syrup on its books. Only on consolidation will the individual assets and liabilities of Syrup be shown on Sugar's statement of financial position.

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3-23

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Calculation of goodwill (in 000s): Fair value of consideration paid Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Property, plant, and equipment Accounts payable Long-term liabilities Goodwill

$1,700

$50 230 470 1,900 (360) ( 650)

1,640 $ 60

Alternative 1–Journal entry to record the purchase of the net assets of Syrup (in 000s).

Dr. Cash $50 Accounts receivable 230 Inventories 470 Property, plant, and equipment 1,900 Goodwill 60 Cr. Accounts payable 360 Long-term liabilities 650 Cash 1,700 Alternative 2–Journal entry to record the purchase of the assets of Syrup (in 000s).

Dr. Cash Accounts receivable Inventories Property, plant, and equipment Cr. Cash

$50 230 470 1,900 2,650

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3-24

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations Alternative 3–Journal entry to record the purchase of shares in Syrup (in 000s).

Dr. Investment in Syrup Cr. Cash

1,700 1,700

Page Ref: 101-103 Learning Obj.: 3.1, 3.4, 3.6 Difficulty: Moderate

39) Slade Co. has 1,000,000 shares outstanding and is traded on the TSX. On October 1, 20X6, Slade purchased all of the outstanding shares of Print Co. (a private company) by issuing 1,200,000 shares at $50 per share.

Required: Explain the legal form of this transaction. What is the transaction in substance? How will this transaction be accounted for? Why might the transaction have been accomplished in this manner?

Answer: This is a reverse takeover. The legal parent, Slade, issued the shares and now legally owns all the shares of Print Co. However, after the combination, Print Co.'s former shareholders now own 1.2 million of Slade's shares, giving them 54.5% voting control (1.2/2.2 million shares) of Slade. The substance of this transaction is that control resides with Print Co.'s former shareholders even though the legal form of the combination is that Slade acquired Print. After the reverse takeover, the consolidated statements will be prepared under the legal parent's name (in this example Slade). But the statements will be consolidated from the perspective of Print being the acquirer in substance. So Print is the legal subsidiary, but the acquirer in substance. Slade is the legal parent, but the in-substance acquiree.

Likely the reason that a reverse takeover was performed was to allow Print to obtain a stock exchange listing. This saves Print the trouble and expense of applying to the Ontario Securities Commission and the TSX in order to obtain a new listing.

Page Ref: 102-103 Learning Obj.: 3.2, 3.3 Difficulty: Difficult

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3-25

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 40) Ski Ltd. has 500,000 shares outstanding. On July 1, 20X7, Ski purchased all of the outstanding shares of Snow Ltd. The consideration paid by Ski was in the form of 500,000 shares, valued at $20 per share, which was premium of 10% over the market value prior to the announcement. It has been decided that the CEO of the combined company will come from Ski, but the CFO and the COO will come from Snow.

The chairman of the board of directors will come from Snow. The board will have six other directors, three from Ski and three from Snow.

Required: Define what the acquirer is in a business combination. How would you identify the acquirer in the above transaction?

Answer: An acquirer in a business combination is the corporation whose shareholders control the combined entity. In this case, after the combination, the ownership of Ski is as follows: The former shareholders of Ski own 500,000 shares and the former shareholders of Snow also own 500,000. As a result, voting control is evenly split at 50% for each group. No one group has the voting control of the new combined entity. It is necessary to examine other factors to determine who the acquirer is. The other factors include: • Representation on the board—In this case, the chairman is from Snow, and there is equal representation from Ski and Snow for the remaining six directors • Management team—The management team is made up of the CEO from Ski, but the CFO and the COO both come from Snow.

Given the above analysis of factors, it would appear that Snow might have control since Snow has majority on the board of directors, including the chairman, and also has two of the three managers on the senior management team. Consequently, Snow would be the acquirer in this combination.

Note: This answer will be a judgment call, and students may argue for Ski to have majority, since the CEO is from Ski. Page Ref: 90 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 41) On September 1, 20X7, Spike Limited decided to buy 100% of the outstanding shares of Volley Inc. for $1,200,000, paid for with the issuance of shares. Acquisition costs for the deal totaled $30,000: $20,000 related to the issue of the shares and the remaining amount for legal, valuation, and administrative costs.

All of these costs were paid in cash. In addition Spike has agreed to pay an additional $250,000 if the revenues of Volley have a 5% growth over the next two years from the date of the acquisition. It has been determined that the fair value of this contingent consideration is $175,000.

The balances showing on the statement of financial position for the two companies at August 31, 20X7, are as follows: Spike $

Volley $

Assets Cash 45,000 Accounts receivable 65,000 Inventory 50,000 Marketable securities 0 Property, plant, and equipment—net 3,590,000 3,750,000

20,000 35,000 80,000 45,000 1,020,000 1,200,000

Liabilities Current liabilities Accounts payable Bonds payable

665,000 1,350,000

280,000 620,000

950,000 785,000 3,750,000

250,000 50,000 1,200,000

Shareholders' equity Common shares Retained earnings

After a review of the financial assets and liabilities, Spike determines that some of the assets of Volley have fair values different from their carrying values. These items are listed below: Property, plant, and equipment: fair value is $1,350,000 Patent: fair value is $255,000 Brand name: fair value is $135,000 Required: Determine the amount of goodwill that will be recorded on the business combination.

Prepare the consolidated statement of financial position as at September 1, 20X7.

Answer: Calculation of goodwill: Fair value of consideration: Issuance of shares Contingent consideration Total consideration paid or payable

$1,200,000 175,000 $1,375,000

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3-27

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations The acquisition costs are not part of the acquisition. Instead, the costs to issue the shares of $20,000 are deducted from shares issued, and the other costs of $10,000 are expensed. Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Marketable securities Property, plant, and equipment Patent Band name Current liabilities Long-term liabilities Goodwill

$20,000 35,000 80,000 45,000 1,350,000 255,000 135,000 (280,000) (620,000)

1,020,000 $ 355,000

Spike Limited Consolidated Statement of Financial Position September 1, 20X7 $ Assets Cash (45 + 20 - 30) Accounts receivable (65 + 35) Inventory (50 + 80) Marketable securities (45) Property, plant, and equipment—net (3,590 + 1,350) Patent Brand name Goodwill Total assets

35,000 100,000 130,000 45,000 4,940,000 255,000 135,000 355,000 5,995,000

Liabilities Current liabilities Accounts payable (665 + 280) Bonds payable (1,350 + 620) Contingent payable

945,000 1,970,000 175,000

Shareholders' equity Common shares (950 + 1,200 - 20) Retained earnings (785-10) Total liabilities and shareholders' equity

2,130,000 775,000 5,995,000

Page Ref: 90-92, 99, 108-110 Learning Obj.: 3.3, 3.4, 3.6 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 42) Explain how a business combination could occur with no transfer of consideration. Using the two scenarios below, explain how PCo could gain control of SCo with no transfer of consideration.

Scenario 1: SCo currently has 1,000,000 common shares outstanding, and PCo owns 300,000.

Scenario 2: SCo currently has 1,000,000 common shares outstanding. Although PCo owns 510,000 of these shares, PCo is unable to exert control due to regulatory restrictions.

Answer: A business combination occurs when the acquirer gains control of an acquiree. Examples of how control can be gained with no consideration are as follows: • The acquirer is a minority shareholder. However, the acquiree repurchases enough shares from other shareholders in order that the acquirer now owns more than 50% of the outstanding shares. Using the information from Scenario 1 above, this is how PCo could gain control: SCo repurchases 411,000 shares from shareholders other than PCo. SCo now has 589,000 (1,000,000 - 411,000) shares outstanding. After this transaction, PCo will own 300,000/589,000, giving PCo 51% ownership and therefore control over SCo. • A second method for a company to gain control is in situations where regulations or contracts restrict the acquirer from voting its majority shares. If the restrictions are lifted due to changes in the regulations or contract, the acquirer can then have majority votes and exercise control. Using the information from Scenario 2 above, if the regulatory restrictions are lifted or amended, PCo could then vote its shares and have 51% voting power, which would give it control.

Page Ref: 92-93 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 3 Business Combinations 43) A company is often purchased for its identifiable intangible assets, which must be measured at fair value at the date of acquisition. Discuss the three methods that are used to determine the fair value of identifiable intangibles. Why are these measurements subjective, and what is the ethical challenge relating to the determination of these values?

Answer: Fair value measurements require a lot of judgment. This is particularly true for intangible assets, which are unique for each company. Methods used to determine fair value are as follows: 1. Market-based approach: This valuation uses prices in an active market (if available) and prices for similar assets. In the case of many intangibles, these prices are not available.

2. Income-based approach: This valuation method determines the fair value of the intangible asset by forecasting future economic benefits that will arise from the ownership of this asset. This is the most commonly used approach.

3. Cost-based approach: This method uses the cost base of the intangible. The problem with this approach is that the cost of the intangible likely has no relationship to its fair value.

The market-based approach is the most certain. The income-based approach requires many assumptions be made about the future and therefore will be very subjective with a range of fair values that might be ultimately determined.

The ethical challenge is that the more value of the consideration that is allocated to the identifiable intangible assets, the lower the goodwill, and vice versa. Goodwill is not amortized, whereas intangible assets with definite lives will be. Consequently, subsequent years' profits will be impacted by the amount of amortization that is recorded on these assets. The more of the consideration that is allocated to goodwill, the higher future earnings will be. From auditors' perspective, because there are ranges of values that might be reasonable, it may be difficult to challenge management on the fair values that have been used to determine goodwill.

Page Ref: 94-96 Learning Obj.: 3.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation 1) Foster Ltd. acquired 100% of Benson Ltd. The carrying values of Benson's capital assets differed from their fair values and their fair values differed from their tax bases. Which of the following statements is true?

A) The difference between Benson's carrying values and its fair values created a deferred tax asset or liability that is part of the allocation of the acquisition cost.

B) The difference between Benson's fair values and its adjusted cost bases for tax purposes creates a deferred tax asset or liability that is part of the allocation of the acquisition cost.

C) The difference between Benson's carrying values and its adjusted cost bases for tax purposes created a deferred tax asset or liability that is part of the allocation of the acquisition cost.

D) No deferred tax asset or liability arises from the above situation.

Answer: B Page Ref: 1 Difficulty: Moderate

2) O'Ball Ltd. wants to acquire Kiro Ltd. to take advantage of its tax losses and credit carryforwards. In what way can O'Ball accomplish this?

A) O'Ball can purchase Kiro's net assets.

B) O'Ball can do a share exchange with Kiro.

C) O'Ball can either purchase Kiro's net assets or purchase Kiro's shares.

D) O'Ball can either purchase Kiro's net assets or do a share exchange with Kiro.

Answer: B Page Ref: 4 Difficulty: Moderate

3) Castle Ltd. acquired 100% of Bello Ltd. At the time of acquisition, Bello had assets with a tax value of $700,000, carrying value of $800,000, and fair value of $950,000. Both Castle and Bello are subject to a tax rate of 40%. What is the amount of the deferred tax liability on Castle's consolidated SFP? A) $40,000 B) $60,000 C) $100,000 D) $280,000 Answer: C Page Ref: 2-3 Difficulty: Moderate

4) Castle Ltd. acquired 100% of Bello Ltd. At the time of acquisition, Bello had assets with a tax value of $700,000, carrying value of $800,000, and fair value of $950,000. Both Castle and Bello are subject to a tax rate of 40%. What is the effect of recognizing the deferred tax in accounting for the acquisition?

A) Increase in liabilities and goodwill B) Decrease in liabilities and goodwill C) Decrease in liabilities and increase in goodwill D) Increase in liabilities and decrease in goodwill Answer: A Page Ref: 2-3 Difficulty: Moderate

5) On January 1, 20X7, Falcon acquired 100% of the outstanding shares of Intra for $3,600,000. Both are mining companies involved in nickel and copper production. The balance sheet for Intra at the date of .

3A-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation acquisition is shown below, together with estimates of the fair values and tax values of Intra's recorded assets and liabilities.

Intra Corp Statement of Financial Position December 31, 20X6 Book value $ 000s Assets Cash Accounts receivable Inventories Property, plant, and equipment Development projects Other investments Total assets Liabilities Accounts payable and accrued liabilities Deferred income taxes Long-term debt Common shares Retained earnings Total liabilities and shareholders' equity

Fair value $ 000s

Tax basis $ 000s

353 178 329 3,465 150 20 4,495

353 178 308 3,154 565 45 4,603

353 185 329 2,795 130 20

177 157 680 1,523 1,958

177

177

657

680

4,495

The tax rate for Intra and for Falcon is 30%.

Required: What is the amount of goodwill to be recorded for this business combination?

.

3A-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation Answer: Fair value $ 000s

Tax basis $ 000s

Difference

Assets Cash Accounts receivable Inventories Property, plant. and equipment Development projects Other investments

353 178 308 3,154 565 45

353 185 329 2,795 130 20

0 (7) (21) 359 435 25

Liabilities Accounts payable and accrued liabilities Long term debt Total

(177) (657) 3,769

(177) (680) 2,955

0 23 814

Deferred income taxes Temporary difference × tax rate = $814 × 30% = 244 Calculation of goodwill (in 000s): Fair value of consideration paid Consideration received: Fair value of net assets acquired: Cash $353 Accounts receivable 178 Inventories 308 Property, plant, and equipment3,154 Development projects 565 Other investments 45 Current liabilities (177) Deferred income taxes (244) Long-term liabilities ( 657) Goodwill

$3,600

3,525 $ 75

Page Ref: 1-4 Difficulty: Difficult

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3A-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation 6) On September 1, 20X7, CanAir Limited decided to buy 100% of the shares outstanding of SkyAir Inc. for $1,215,000. CanAir will pay for this acquisition by cashing in all of its marketable securities and issuing share capital for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X7, are as follows: CanAir $

SkyAir $

Assets Cash Accounts receivable Inventory Marketable securities Property, plant and equipment – net Total assets

45,000 65,000 50,000 480,000 3,110,000 3,750,000

80,000 35,000 20,000 45,000 1,020,000 1,200,000

Liabilities Current liabilities Accounts payable Bonds payable

665,000 1,350,000

280,000 620,000

950,000 785,000

250,000 50,000

3,750,000

1,200,000

Shareholders' equity Common shares Retained earnings Total liabilities and shareholders' equity

After a review of the financial assets and liabilities, CanAir determines that some of the assets of SkyAir have fair values different from their carrying values. These items are listed below: Property, plant, and equipment: Fair value is $1,350,000 Internet domain name: Fair value is $55,000 Customer lists: Fair value is $35,000 In addition, SkyAir has tax losses available for carryforward that have a fair value of $225,000 and it is probable that they will be realized in the future.

Required: Determine the amount of goodwill that will be recorded on the business combination.

Prepare the consolidated statement of financial position as at September 1, 20X7.

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3A-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation Answer: Calculation of goodwill: Fair value of consideration paid Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Marketable securities Capital assets Internet domain name Customer lists Deferred tax assets Current liabilities Long-term liabilities Goodwill

$1,215,000

$80,000 35,000 20,000 45,000 1,350,000 55,000 35,000 225,000 (280,000) (620,000)

945,000 $ 270,000

CanAir Limited Consolidated Statement of Financial Position September 1, 20X7 $ Assets Cash (45+ 80) Accounts receivable (65 + 35) Inventory (50 +20) Marketable securities (480 + 45 - 480*) Property, plant, and equipment – net (3,110 + 1,350) Internet domain name Customer list Deferred tax asset Goodwill Total assets

125,000 100,000 70,000 45,000 4,460,000 55,000 35,000 225,000 270,000 5,385,000

Liabilities Current liabilities Accounts payable (665 + 280) Bonds payable (1,350 + 620)

945,000 1,970,000

Shareholders' equity Common shares (950 + 735*) Retained earnings Total liabilities and shareholders' equity

1,685,000 785,000 5,385,000

*Note: The purchase price of $1,215,000 is paid with cash from the marketable securities of $480,000 and .

3A-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 3A Income Tax Allocation an issue of shares totalling $735,000.

Page Ref: 1-4 Difficulty: Moderate

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3A-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 1) Inventory was acquired as part of a business combination at the end of 20X1. The inventory was sold in 20X2. How should the fair value increment for the inventory at acquisition be treated for consolidation at the end of 20X2?

A) It should be added to inventory.

B) It should be added to sales.

C) It should be added to the cost of goods sold.

D) It should be added to retained earnings.

Answer: C Page Ref: 148 Learning Obj.: 4.1 Difficulty: Moderate

2) Fair value increments on depreciable assets ________.

A) should be amortized in accordance with the subsidiary's depreciation policies B) should be amortized in accordance with the parent company's depreciation policies C) should always be recorded on the subsidiary's books D) should be expensed immediately Answer: A Page Ref: 149 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

3) DC Company purchased 100% of the outstanding common shares of FA Company on December 31, 20X3, for $170,000. At that date, FA had $100,000 of outstanding common shares and retained earnings of $30,000. It was agreed that the net assets were fairly valued except that the fair value of the capital assets exceeded their net book value by $20,000 and the carrying value of the inventory exceeded its fair value by $10,000. The capital assets had a remaining useful life of eight years as of the acquisition date and have no residual value. Inventory turns over four times a year. What adjustment should be made to the consolidated financial statements for the year ended December 31, 20X4, with respect to the $10,000 fair value adjustment to inventory?

A) An adjustment should be made through opening retained earnings.

B) An adjustment should be made to cost of sales.

C) No adjustment is required as an adjustment would have already been made to inventory at the time of sale.

D) No adjustment is required as an adjustment would have already been made to cost of sales at the time of sale.

Answer: B Page Ref: 148-149 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

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4-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 4) DC Company purchased 100% of the outstanding common shares of FA Company on December 31, 20X3, for $170,000. At that date, FA had $100,000 of outstanding common shares and retained earnings of $30,000. It was agreed that the net assets were fairly valued except that the fair value of the capital assets exceeded their net book value by $20,000 and the carrying value of the inventory exceeded its fair value by $10,000. The capital assets had a remaining useful life of eight years as of the acquisition date and have no salvage value. Inventory turns over four times a year. What adjustment should be made to the consolidated financial statements for the year ended December 31, 20X6, for the fair value increment related to the capital assets?

A) The retained earnings at January 1, 20X6, will be increased by $20,000.

B) Amortization expense on the capital assets for 20X6 will be increased by $2,500.

C) Amortization expense on the capital assets for 20X6 will be increased by $7,500.

D) Retained earnings at the end of 20X6 will be increased by $12,500.

Answer: B Page Ref: 148-149 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

5) Mitzi's Muffins Ltd. purchased a commercial baking system for $150,000 at the beginning of 20X1. The estimated economic life of the system is 10 years and Mitzi's uses straight-line amortization. At the beginning of 20X3, Delicious Bakeries Ltd. acquired Mitzi's in a business combination. At the time of acquisition, Mitzi's baking system had a fair value of $140,000. At the end of 20X3, how much amortization expense should Mitzi report?

A) $0 B) $14,000 C) $15,000 D) $17,500 Answer: C Page Ref: 149 Learning Obj.: 4.2 Difficulty: Moderate

6) Mitzi's Muffins Ltd. purchased a commercial baking system for $150,000 at the beginning of 20X1. The estimated economic life of the system is 10 years and Mitzi's uses straight-line amortization. At the beginning of 20X3, Delicious Bakeries Ltd. acquired Mitzi's in a business combination. At the time of the acquisition, Mitzi's baking system had a fair value of $140,000 and a remaining useful life of eight years.

With respect to the baking system, how much amortization expense should Delicious Bakeries report on its consolidated financial statements at the end of 20X3?

A) $ 2,500 B) $14,000 C) $15,000 D) $17,500 Answer: D Page Ref: 149 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

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4-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 7) Paranich Co. acquired Crowley Co. in a business combination at December 31, 20X4. Crowley has a capital asset that it has been amortizing at a rate of $10,000 per year. At the time of the acquisition, the asset had a book value of $70,000 and a fair value of $77,000. The asset has a remaining life of seven years.

With respect to this asset, how much amortization expense should Paranich report on its December 31, 20X5, consolidated financial statements?

A) $ 1,000 B) $ 7,700 C) $10,000 D) $11,000 Answer: D Page Ref: 149 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

8) Amber Ltd. acquired Luna Ltd. in a business combination. One of the main reasons for the acquisition is that Amber wanted access to Luna's extensive customer list. The list is not recorded on Luna's books and has an estimated value of $100,000 and an estimated life of seven years. On Amber's consolidated statement of financial position, what value should be shown for Luna's customer list?

A) $0, since it was not recorded on Luna's books B) $100,000 less any impairment losses C) $100,000 less any accumulated amortization (calculated over five years) and any impairment losses D) $100,000 less any accumulated amortization (calculated over seven years) and any impairment losses Answer: D Page Ref: 150 Learning Obj.: 4.1, 4.5 Difficulty: Moderate

9) DC Company purchased 80% of the outstanding common shares of FA Company on December 31, 20X3, for $170,000. At that date, FA had $100,000 of outstanding common stock and retained earnings of $30,000. It was agreed that the net assets were fairly valued except that the fair value of the capital assets exceeded their net book value by $20,000 and the carrying value of the inventory exceeded its fair value by $10,000. The capital assets had a remaining useful life of eight years as of the acquisition date and have no salvage value. Inventory turns over four times a year. It is now 20X6 and DC has been very pleased with how profitable its investment in FA has been. On DC's consolidated financial statements at December 31, 20X6, what balance should be reported for goodwill assuming no impairment has occurred?

A) $0 B) $10,000 C) $52,500 D) $58,500 Answer: C Page Ref: 147-150 Learning Obj.: 4.1 Difficulty: Moderate

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4-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 10) A company has a subsidiary that has an intangible capital asset. It has not been recorded on the subsidiary's books, but at the date of acquisition, the asset had a fair value of $200,000 and an indefinite economic life. How should the company show the asset on its consolidated statement of financial position?

A) $200,000 less any impairment losses B) $200,000 less accumulated amortization (calculated over 10 years) and any impairment losses C) $200,000 less accumulated amortization (calculated over 40 years) and any impairment losses D) The company should not show the asset on the consolidated financial statement as the subsidiary does not do so.

Answer: A Page Ref: 150 Learning Obj.: 4.1 Difficulty: Moderate

11) Goodwill impairment testing can involve comparing the recoverable amount of a cash-generating unit to its ________.

A) carrying value, excluding goodwill B) carrying value, including goodwill C) carrying value of tangible assets and the fair value of its intangible assets D) fair value of tangible assets and the carrying value of its intangible assets Answer: B Page Ref: 150 Learning Obj.: 4.1 Difficulty: Moderate

12) Piri Ltd. acquired 100% of the commons shares of Golden Co. This business combination resulted in $100,000 of goodwill. Piri allocated the goodwill to three cash-generating units. At its year-end, Piri conducts a goodwill impairment test. Which of the following statements about the impairment test is true?

A) The impairment test is applied to Golden Co. as a whole.

B) The impairment test is applied to the business combination as a whole.

C) The impairment test is applied to each of the three cash-generating units to which goodwill has been allocated.

D) Piri is not required to conduct an impairment test unless its circumstances have changed materially from its previous year.

Answer: C Page Ref: 150 Learning Obj.: 4.1 Difficulty: Moderate

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4-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 13) A subsidiary sold goods to its parent company. At its year-end, the parent company still had some of the goods in inventory. Included in the value of these inventories is $15,000 of unrealized profits. What journal entry should be made to eliminate these unrealized profits?

A) DR Sales 15,000 CR Inventory 15,000 B) DR Cost of sales CR Inventory

15,000 15,000

C) DR Selling expenses CR Inventory

15,000 15,000

D) DR Inventory CR Sales

15,000 15,000

Answer: B Page Ref: 151 Learning Obj.: 4.3 Difficulty: Easy

14) Flatt Ltd. is a wholly-owned subsidiary of Franco Ltd. For consolidation purposes, how does the treatment of unrealized profits on upstream sales differ from the treatment of unrealized profits on downstream sales?

A) Unrealized profits must be eliminated on upstream sales, but not on downstream sales.

B) Unrealized profits must be eliminated on downstream sales, but not on upstream sales.

C) Unrealized profits must be eliminated for both upstream and downstream sales.

D) Unrealized profits are not eliminated on either upstream or downstream sales.

Answer: C Page Ref: 151 Learning Obj.: 4.1, 4.3 Difficulty: Moderate

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4-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 15) Coral Ltd. owns 100% of Ambrose Ltd. Coral uses the cost method to record this subsidiary. Coral received $150,000 in dividends from Ambrose. What journal entry should Coral make on its consolidation worksheet with respect to the dividends?

A) DR Dividends declared (Ambrose) 150,000 CR Dividend income (Coral) 150,000 B) DR Dividends declared (Ambrose) CR Investment in Ambrose (Coral)

150,000 150,000

C) DR Dividend income (Coral) CR Dividends declared (Ambrose)

150,000 150,000

D) DR Investment in Ambrose (Coral) CR Dividends declared (Ambrose)

150,000 150,000

Answer: C Page Ref: 154 Learning Obj.: 4.1, 4.2 Difficulty: Moderate

16) Under the direct method, what values should be entered for the assets, liabilities, and shareholders' equity to start the consolidation process?

A) Carrying values for both the parent and the subsidiary companies B) Carrying values for the parent company and fair values for the subsidiary company C) Fair values for the parent company and carrying values for the subsidiary company D) Fair values for both the parent and the subsidiary companies Answer: A Page Ref: 155 Learning Obj.: 4.1 Difficulty: Easy

17) A parent company records an investment in its subsidiary using the equity method. Which of the following statements about consolidated net income is true?

A) Consolidated net income is higher than the net income under the equity method.

B) Consolidated net income is lower than the net income under the equity method.

C) Consolidated net income is higher than the net income under the equity method only if the subsidiary is profitable and has not paid any dividends.

D) Consolidated net income is the same as the net income under the equity method.

Answer: D Page Ref: 162 Learning Obj.: 4.6 Difficulty: Moderate

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4-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 18) Waite Co. is a wholly-earned subsidiary of Star Ltd. During the year, Waite earned net income of $65,000. Star recorded this income on its books using the equity method. What elimination entry does Star have to make in the consolidation process with respect to this income?

A) DR Equity earnings in Waite 65,000 CR Retained earnings 65,000 B) DR Equity earnings in Waite CR Investment in Waite

65,000 65,000

C) DR Investment in Waite CR Equity earnings in Waite

65,000 65,000

D) No entry is required under the equity method.

Answer: C Page Ref: 159-160 Learning Obj.: 4.1, 4.6 Difficulty: Moderate

19) Thivan Ltd. is a wholly owned subsidiary of Bateman Co. Thivan has declared dividends of $100,000.

Under the equity method, what entry should Bateman record on its books?

A) DR Investment in Thivan 100,000 CR Dividend income 100,000 B) DR Investment in Thivan CR Equity in earnings of Thivan

100,000 100,000

C) DR Dividends receivable CR Investment in Thivan

100,000 100,000

D) No entry is required until the dividends are paid.

Answer: C Page Ref: 160 Learning Obj.: 4.6 Difficulty: Moderate

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4-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 20) Thivan Ltd. is a wholly-owned subsidiary of Bateman Co. Thivan has declared dividends of $100,000.

Bateman uses the equity method to record this investment and has properly reflected Thivan's dividend declaration on its books. What journal entry should Bateman make when it receives the dividends?

A) DR Cash 100,000 CR Investment in Thivan 100,000 B) DR Cash CR Dividend revenue

100,000 100,000

C) DR Cash CR Dividends receivable

100,000 100,000

D) No entry is required as the journal entry for dividends declared was already received.

Answer: C Page Ref: 160 Learning Obj.: 4.6 Difficulty: Moderate

21) What does "one-line consolidation" refer to?

A) Cost method B) Equity method C) Direct method of consolidation D) Worksheet method of consolidation Answer: B Page Ref: 162 Learning Obj.: 4.6 Difficulty: Easy

22) DIY Ltd. owns 20 subsidiary companies. Most of the subsidiaries are hardware stores operating in rural areas. One of the subsidiaries has been having financial difficulties and has finally decided to cease operations. Which of the following statements about DIY's consolidated financial statements is true?

A) DIY should report this as a discontinued operation.

B) DIY should report any losses from this as part of its normal operating activities.

C) Whether DIY treats this as a discontinued operation depends on if it used the cost method or the equity method to record the subsidiary.

D) DIY is not required to disclose anything about this closure.

Answer: B Page Ref: 163 Learning Obj.: 4.1, 4.6 Difficulty: Moderate

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4-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 23) On January 1, 20X3, Dwayne Ltd. formed Carlos Co., a 100% owned subsidiary. During 20X6, Dwayne sold Carlos $100,000 in goods. The unrealized profit in Carlos's inventories was $20,000 at December 31, 20X5, and $25,000 at December 31, 20X6. Ignoring income taxes, what accounts should Dwayne debit and credit by $20,000 in preparing its consolidated financial statements for the year ended December 31, 20X6, to reflect the unrealized profit in Carlos's beginning inventory?

Debit A) Cost of sales B) Inventory C) Retained earnings D) Cost of sales Answer: C

Credit Inventory Cost of Sales Cost of sales Retained earnings

Page Ref: 165-166 Learning Obj.: 4.1, 4.3 Difficulty: Difficult

24) On January 1, 20X3, Dwayne Ltd. formed Carlos Co., a 100% owned subsidiary. During 20X6, Dwayne sold Carlos $100,000 in goods. The unrealized profit in Carlos's inventories was $20,000 at December 31, 20X5, and $25,000 at December 31, 20X6. Ignoring income taxes, what accounts should Dwayne debit and credit by $25,000 in preparing its consolidated financial statements for the year ended December 31, 20X6, to reflect the unrealized profit in Carlos's ending inventory?

Debit A) Cost of sales B) Inventory C) Retained earnings D) Cost of sales Answer: A

Credit Inventory Cost of Sales Cost of sales Retained earnings

Page Ref: 155-156 Learning Obj.: 4.1, 4.3 Difficulty: Moderate

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4-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 25) In 20X1, a parent company sold a tract of land to its wholly owned subsidiary for $100,000, resulting in a $30,000 loss. The subsidiary's plans for the land did not materialize and it still owned the land at the end of 20X4. At the end of 20X4, what consolidating journal entry should be made with respect to the loss associated with the sale of land?

A) DR Loss on the sale of land 30,000 CR Land 30,000 B) DR Land CR Loss on the sale of land

30,000 30,000

C) DR Retained earnings CR Land

30,000 30,000

D) DR Land CR Retained earnings

30,000 30,000

Answer: C Page Ref: 170-173 Learning Obj.: 4.1, 4.3 Difficulty: Moderate

26) Franklin Ltd., a subsidiary of Frayer Ltd., sold $500,000 of goods to its parent company in 20X1. At the end of 20X1, some of the goods were not sold and there was $90,000 of unrealized profit associated with these goods. The goods were sold in 20X2. At the end of 20X2, which of the following consolidating entries should be made with respect to the unrealized profits?

A) DR Cost of sales 90,000 CR Inventory 90,000 B) DR Cost of sales CR Retained earnings

90,000 90,000

C) DR Retained earnings CR Cost of sales

90,000 90,000

D) An entry is not required as the goods have been sold to external parties.

Answer: C Page Ref: 165-166 Learning Obj.: 4.1, 4.4 Difficulty: Moderate

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4-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 27) In consolidating parent-founded subsidiaries, what account is used to offset the parent company's "Investment in Subsidiary" account?

A) Retained earnings B) Goodwill C) Paid-in-capital accounts D) No offset is necessary Answer: C Page Ref: 177-178 Learning Obj.: 4.1, 4.2 Difficulty: Moderate

28) Which of the following consolidation adjustments will be required for a subsidiary that was acquired as a going concern, but will not be applicable for a parent-founded subsidiary?

A) Amortization of fair value increments on plant and equipment B) Unrealized profits in ending inventory C) Unrealized profits in beginning inventory D) Future income tax on unrealized profits Answer: A Page Ref: 178 Learning Obj.: 4.1, 4.2 Difficulty: Easy

29) In consolidating a wholly owned parent-founded subsidiary, which of the following adjustments or eliminations is not required?

A) Eliminating any unrealized profits or losses B) Eliminating intercompany payables and receivables C) Adjusting for intercompany transactions D) Adjusting for goodwill impairment Answer: D Page Ref: 178 Learning Obj.: 4.1, 4.2 Difficulty: Moderate

30) Which of the following statements about goodwill impairment testing under IFRS and ASPE is true?

A) Goodwill impairment testing is done at the lowest reporting level under both IFRS and ASPE. B) Goodwill impairment testing is done at the smallest cash-generating unit level under both IFRS and ASPE. C) Goodwill impairment testing is done at the lowest reporting level under IFRS and at the smallest cashgenerating unit level under ASPE. D) Goodwill impairment testing is done at the smallest cash-generating unit level under IFRS and at the lowest reporting level under ASPE. Answer: D Page Ref: 180 Learning Obj.: 4.5 Difficulty: Moderate

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4-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 31) On December 31, 20X1, Dad Ltd. purchased 100% of the outstanding common shares of Sad Ltd. for $9.5 million in cash. On that date, the shareholders' equity of Sad totalled $8 million and consisted of $1 million in no par common shares and $7 million in retained earnings. Both companies use the straightline method to calculate depreciation. Goodwill, if any arises as a result of this business combination, is written down when there is impairment. Both Dad and Sad report under accounting standards for private enterprises.

For the year ending December 31, 20X6, the statements of earnings for Dad and Sad were as follows:

Sales and other revenue Cost of goods sold Amortization expense Other expenses (including taxes) Total expenses (including taxes) Net income

Dad $22,500,000 16,000,000 2,500,000 1,800,000 20,300,000 $2,200,000

Sad $9,800,000 5,000,000 2,000,000 1,200,000 8,200,000 $1,600,000

At December 31, 20X6, the condensed statements of financial position for the two companies were as follows: Dad Sad Total assets $31,000,000 $13,500,000 Liabilities $5,000,000 No par common shares 12,100,000 Retained earnings 13,900,000 Total liabilities andshareholders' equity$31,000,000

$1,200,000 1,000,000 11,300,000 $13,500,000

OTHER INFORMATION: 1. On December 31, 20X1, Sad had a building with a fair value that was $300,000 greater than its carrying value. The building had an estimated remaining useful life of 20 years.

2. On December 31, 20X1, Sad had inventory with a fair value that was $200,000 less than its carrying value. This inventory was sold in 20X3.

3. During 20X6, Dad sold merchandise to Sad for $100,000, a price that includes a gross profit of $40,000.

During 20X6, 40% of this merchandise was resold by Sad to third parties and the other 60% remains in its December 31, 20X6, inventories. On December 31, 20X5, the inventories of Sad contained merchandise purchased from Dad on which Dad had recognized a gross profit in the amount of $20,000.

4. During 20X6, Dad declared and paid dividends of $300,000 while Sad declared and paid dividends of $100,000.

5.

Dad accounts for its investment in Sad using the cost method.

6. The retained earnings of Dad as at December 31, 20X5, was $12,000,000. On that date, Sad had retained earnings of $9,800,000. Sad has not issued any common shares since its acquisition by Dad. .

4-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 7. There were no specific events or circumstances between 20X2 and 20X6 to indicate any impairment of goodwill.

Required: Calculate consolidated net income for the year ending December 31, 20X6. Prepare the consolidated statement of comprehensive income for the year ended December 31, 20X6.

.

4-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Answer:

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4-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

Page Ref: 163-173 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Moderate

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4-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 32) On December 31, 20X1, Dad Ltd. purchased 100% of the outstanding common shares of Sad Ltd. for $9.5 million in cash. On that date, the shareholders' equity of Sad totalled $8 million and consisted of $1 million in no par common shares and $7 million in retained earnings. Both companies use the straightline method to calculate depreciation. Goodwill, if any arises as a result of this business combination, is written down if there is a permanent impairment in its value. Dad records the investment in Sad using the cost method.

For the year ending December 31, 20X6, the statements of comprehensive income for Dad and Sad were as follows:

Sales and other revenue Cost of goods sold Amortization expense Other expenses Net income

Dad $22,500,000 16,000,000 2,500,000 1,800,000 $2,200,000

Sad $9,800,000 5,000,000 2,000,000 1,200,000 $1,600,000

At December 31, 20X6, the condensed statements of financial position for the two companies were as follows: Dad Sad Total assets $31,000,000 $13,500,000 Liabilities $5,000,000 No par common shares 12,100,000 Retained earnings 13,900,000 Total liabilities andshareholders' equity$31,000,000

$1,200,000 1,000,000 11,300,000 $13,500,000

OTHER INFORMATION: 1. On December 31, 20X1, Sad had a building with a fair value that was $300,000 greater than its carrying value. The building had an estimated remaining useful life of 20 years.

2. On December 31, 20X1, Sad had inventory with a fair value that was $200,000 less than its carrying value. This inventory was sold in 20X3.

3. During 20X6, Dad sold merchandise to Sad for $100,000, a price that includes a gross profit of $40,000.

During 20X6, 40% of this merchandise was resold by Sad to third parties and the other 60% remains in its December 31, 20X6, inventories. On December 31, 20X5, the inventories of Sad contained merchandise purchased from Dad on which Dad had recognized a gross profit in the amount of $20,000.

4. During 20X6, Dad declared and paid dividends of $300,000, while Sad declared and paid dividends of $100,000.

5.

Dad accounts for its investment in Sad using the cost method.

6. The retained earnings of Dad as at December 31, 20X5, was $12,000,000. On that date, Sad had retained earnings of $9,800,000. Sad has not issued any common shares since its acquisition by Dad. .

4-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 7. There were no specific events or circumstances between 20X2 and 20X6 to indicate any impairment of goodwill.

The retained earnings of Dad as at December 31, 20X5, equalled $12,000,000. On that date, Sad had retained earnings of $9,800,000. Sad has not issued any common shares since its acquisition by Dad. Required: Calculate the consolidated retained earnings at December 31, 20X6. Prepare a condensed statement of financial position as at December 31, 20X6.

Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

Page Ref: 163-173 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Difficult

33) On December 31, 20X2, Pipe Ltd. purchased 100% of the outstanding common shares of Fitter Ltd. for $10.5 million in cash. On that date, the shareholders' equity of Fitter totalled $8 million and consisted of $1 million in no par common shares and $7 million in retained earnings. Both companies use the straightline method to calculate depreciation and amortization. Goodwill, if any arises as a result of this business combination, is written down if there is an impairment in its value. Pipe follows IFRS. For the year ending December 31, 20X6, the income statements for Pipe and Fitter were as follows:

Sales and other revenue Cost of goods sold Depreciation expense Other expenses Total expenses

Pipe Fitter $22,500,000 $9,800,000 16,000,000 5,000,000 2,500,000 2,000,000 1,800,000 1,200,000 20,300,0008,200,000Net income

$2,200,000

$1,600,000

At December 31, 20X6, the condensed balance sheets for the two companies were as follows:

Total assets

Pipe $31,000,000

Fitter $13,500,000

Liabilities $5,000,000 No par common stock 12,100,000 Retained earnings 13,900,000 Total liabilities andshareholders' equity$31,000,000

$1,200,000 1,000,000 11,300,000 $13,500,000

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions OTHER INFORMATION: 1. On December 31, 20X2, Fitter had a building with a fair value that was $500,000 greater than its carrying value. The building had an estimated remaining useful life of 20 years.

2. On December 31, 20X2, Fitter had trademark that was not reported on its balance sheet but had a fair value that was $200,000. The trademark is amortized over 10 years.

3. During 20X6, Fitter sold merchandise to Pipe for $100,000, a price that included a gross profit of $40,000. During 20X6, 20% of this merchandise was resold by Pipe and the other 80% remains in its December 31, 20X6, inventories. On December 31, 20X5, the inventories of Pipe contained merchandise purchased from Fitter on which Fitter had recognized a gross profit in the amount of $50,000.

4. During 20X6, it was determined that the goodwill arising at the date of acquisition was impaired and that an impairment loss of $70,000 should be recorded. No impairment had been charged in earlier years.

5. During 20X6, Pipe declared and paid dividends of $300,000, while Fitter declared and paid dividends of $100,000.

6.

Pipe accounts for its investment in Fitter using the cost method.

The retained earnings of Pipe as at December 31, 20X5, equalled $12,000,000. On that date, Fitter had retained earnings of $9,800,000. Fitter has not issued any common stock since its acquisition by Pipe.

Required: Prepare, in good form, a consolidated statement of comprehensive income for the year ended December 31, 20X6.

Answer:

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Page Ref: 167-171 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 34) On December 31, 20X2, Pipe Ltd. purchased 100% of the outstanding common shares of Fitter Ltd. for $10.5 million in cash. On that date, the shareholders' equity of Fitter totalled $8 million and consisted of $1 million in no par common shares and $7 million in retained earnings. Both companies use the straightline method to calculate depreciation and amortization. Goodwill, if any arises as a result of this business combination, is written down if there is a permanent impairment in its value.

For the year ending December 31, 20X6, the income statements for Pipe and Fitter were as follows:

Sales and other revenue Cost of goods sold Depreciation expense Other expenses Net income

Pipe $22,500,000 16,000,000 2,500,000 1,800,000 $2,200,000

Fitter $9,800,000 5,000,000 2,000,000 1,200,000 $1,600,000

At December 31, 20X6, the condensed balance sheets for the two companies were as follows: Pipe Fitter Total assets $31,000,000 $13,500,000 Liabilities $5,000,000 No par common stock 12,100,000 Retained earnings 13,900,000 Total liabilities and shareholders' equity$31,000,000

$1,200,000 1,000,000 11,300,000 $13,500,000

OTHER INFORMATION: 1. On December 31, 20X2, Fitter had a building with a fair value that was $500,000 greater than its carrying value. The building had an estimated remaining useful life of 20 years.

2. On December 31, 20X2, Fitter had trademark that was not reported on its balance sheet, but had a fair value that was $200,000. The trademark is amortized over 10 years.

3. During 20X6, Fitter sold merchandise to Pipe for $100,000, a price that included a gross profit of $40,000. During 20X6, 20% of this merchandise was resold by Pipe and the other 80% remains in its December 31, 20X6, inventories. On December 31, 20X5, the inventories of Pipe contained merchandise purchased from Fitter on which Fitter had recognized a gross profit in the amount of $50,000.

4. During 20X6, it was determined that the goodwill arising at the date of acquisition was impaired and that an impairment loss of $70,000 should be recorded. No impairment had been charged in earlier years.

5. During 20X6, Pipe declared and paid dividends of $300,000, while Fitter declared and paid dividends of $100,000.

6.

Pipe accounts for its investment in Fitter using the cost method.

The retained earnings of Pipe as at December 31, 20X5, equalled $12,000,000. On that date, Fitter had retained earnings of $9,800,000. Fitter has not issued any common stock since its acquisition by Pipe. .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Required: Calculate the consolidated retained earnings at December 31, 20X5, and December 31, 20X6. Calculate the consolidated net earnings for 20X6. Prepare the consolidated statement of changes equity–partial statement showing the change in retained earnings for December 31, 20X6, for Pipe. Prepare the condensed consolidated statement of financial position for Pipe as at December 31, 20X6.

Answer:

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Page Ref: 167-172 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 35) On December 31, 20X5, Space Co. purchased 100% of the outstanding common shares of Shuttle Ltd. for $1,200,000 in shares and $200,000 in cash. The statements of financial position of Space and Shuttle immediately before the acquisition and issuance of the notes payable were as follows (in 000s): Space Book Fair Value Value Cash $360 $360 Accounts receivable 520 500 Inventory 800 880 Property, plant, and equipment 1,820 2,000 $3,500

Shuttle Book Fair Value Value $200 $200 380 340 400 1,420 1,520 $2,400

Accounts payable Long-term liabilities Common shares Retained earnings

$260 1000 600 540 $2,400

$ 380 1,200 500 1,420 $3,500

$380 1,200

$260 1000

The difference in the carrying value and the fair value of the property, plant, and equipment for Shuttle relates to its office building. This building was originally purchased by Shuttle in January 20X1 and is being depreciated over 30 years.

During 20X6, the year following the acquisition, the following occurred: 1. Shuttle borrowed $350,000 from Space on June 1, 20X6, and was charged interest at 10% per annum, which it paid on a monthly basis. There were no repayments of principal made during the remaining of the year.

2. Throughout the year, Shuttle purchased merchandise of $800,000 from Space. Space's gross margin is 30% of selling price. At December 31, 20X6, Shuttle still owed Space $250,000 on this merchandise; 75% of this merchandise was resold by Shuttle prior to December 31, 20X6.

3. Shuttle paid dividends of $250,000 at the end of 20X6 and Space paid dividends of $500,000.

During 20X7, the following occurred: 1. Shuttle paid $150,000 on the loan payable to Space on May 30, 20X7.

2. Throughout the year, Shuttle purchased merchandise of $1,000,000 from Space. Space's gross margin is 30% of selling price. At December 31, 20X6, Shuttle still owed Space $150,000 on this merchandise; 85% of this merchandise was resold by Shuttle prior to December 31, 20X7.

3. Shuttle paid dividends of $250,000 at the end of 20X7 and Space paid dividends of $500,000.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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4-25

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Required: Space has decided to record its investment in Shuttle using the equity method. Determine the balance in the Investment in Shuttle account at December 31, 20X7, using the equity method.

Prepare the statement of financial position and the statement of comprehensive income for the year ended December 31, 20X7, for Space, assuming it accounts for its investment in Shuttle using the equity method.

Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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4-28

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 36) On December 31, 20X5, Space Co. purchased 100% of the outstanding common shares of Shuttle Ltd. for $1,200,000 in shares and $200,000 in cash. The statements of financial position of Space and Shuttle immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

Cash Accounts receivable Inventory Property, plant, and equipment

Accounts payable Long-term liabilities Common shares Retained earnings

Space Book Fair Value Value $360 $360 520 500 800 880 1,820 2,000 $3,500

Shuttle Book Fair Value Value $200 $200 380 340 400 1,420 1,520 $2,400

$ 380 1,200 500 1,420 $3,500

$260 1000 600 540 $2,400

$380 1,200

$260 1000

The difference in the carrying value and the fair value of the capital assets for Shuttle relates to its office building. This building was originally purchased by Shuttle in January 20X1 and is being depreciated over 30 years.

During 20X6, the year following the acquisition, the following occurred: 1. Shuttle borrowed $350,000 from Space on June 1, 20X6, and was charged interest at 10% per annum, which it paid on a monthly basis. There were no repayments of principal made during the remaining of the year.

2. Throughout the year, Shuttle purchased merchandise of $800,000 from Space. Space's gross margin is 30% of selling price. At December 31, 20X6, Shuttle still owed Space $250,000 on this merchandise; 75% of this merchandise was resold by Shuttle prior to December 31, 20X6.

3. Shuttle paid dividends of $250,000 at the end of 20X6 and Space paid dividends of $500,000.

During 20X7, the following occurred: 1. Shuttle paid $150,000 on the loan payable to Space on May 30, 20X7.

2. Throughout the year, Shuttle purchased merchandise of $1,000,000 from Space. Space's gross margin is 30% of selling price. At December 31, 20X6, Shuttle still owed Space $150,000 on this merchandise; 85% of this merchandise was resold by Shuttle prior to December 31, 20X7.

3. Shuttle paid dividends of $250,000 at the end of 20X7 and Space paid dividends of $500,000.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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4-30

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Required: Prepare the consolidated statement of comprehensive income for the year ended December 31, 20X7, for Space.

Answer:

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Page Ref: 163-171 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Moderate

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4-32

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 37) On December 31, 20X5, Space Co. purchased 100% of the outstanding common shares of Shuttle Ltd. for $1,200,000 in shares and $200,000 in cash. The statements of financial position of Space and Shuttle immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

Cash Accounts receivable Inventory Capital assets

Accounts payable Long-term liabilities Common shares Retained earnings

Space Book Fair Value Value $360 $360 520 500 800 880 1,820 2,000 $3,500

Shuttle Book Fair Value Value $200 $200 380 340 400 1,420 1,520 $2,400

$ 380 1,200 500 1,420 $3,500

$260 1000 600 540 $2,400

$380 1,200

$260 1000

The difference in the carrying value and the fair value of the capital assets for Shuttle relates to its office building. This building was originally purchased by Shuttle in January 20X1 and is being depreciated over 30 years.

During 20X6, the year following the acquisition, the following occurred: 1. Shuttle borrowed $350,000 from Space on June 1, 20X6, and was charged interest at 10% per annum, which it paid on a monthly basis. There were no repayments of principal made during the remainder of the year.

2. Throughout the year, Space purchased merchandise of $800,000 from Shuttle. Shuttle's gross margin is 35% of selling price. At December 31, 20X6, Shuttle still owed Space $250,000 on this merchandise; 60% of this merchandise was resold by Space prior to December 31, 20X6.

3. Shuttle paid dividends of $250,000 at the end of 20X6 and Space paid dividends of $500,000.

During 20X7, the following occurred: 1. Shuttle paid $150,000 on the loan payable to Space on May 30, 20X7.

2. Throughout the year, Space purchased merchandise of $900,000 from Space. Space's gross margin is 35% of selling price. At December 31, 20X6, Shuttle still owed Space $350,000 on this merchandise; 80% of this merchandise was resold by Shuttle prior to December 31, 20X7.

3. The goodwill was tested and found to be impaired, resulting in an impairment loss of $120,000.

4. Shuttle paid dividends of $250,000 at the end of 20X7 and Space paid dividends of $500,000.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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4-34

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Required: Calculate the consolidated retained earnings for Space as at December 31, 20X7.

Prepare the consolidated statement of financial position for the year ended December 31, 20X7, for Space.

Answer:

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Page Ref: 163-173 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Difficulty: Moderate

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4-37

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 38) On September 1, 20X5, CanAir Limited decided to buy 100% of the shares outstanding of SkyAir Inc. for $900,000. CanAir will pay for this acquisition by using cash of $500,000 and issuing share capital for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, CanAir determines that some of the assets of SkyAir have fair values different from their carrying values. These items are listed below: • Land has a fair value of 225,000.

• The building has a fair value of $1,090,000. (The company does not own any equipment.) The remaining useful life of the building is 20 years.

• Internet domain name has a fair value is $55,000. The domain name is estimated to have a useful life of five years.

• Customer lists have a fair value is $35,000. It is estimated that the customer lists will have a useful life of seven years.

During the 20X9 fiscal year, the following events occurred: 1. On March 1, 20X9, SkyAir sold land to CanAir for $390,000, which had a carrying value of $275,000.

CanAir paid for this with $90,000 cash and a note payable for the difference. This note pays interest at 10%, which is paid monthly.

2. CanAir provided management expertise to SkyAir and charged management fees of $890,000.

3. CanAir sold supplies (included in CanAir sales) to SkyAir for $200,000. CanAir charged SkyAir an amount that was 25% above cost. SkyAir still has supplies on hand of $70,000.

4. In 20X8, SkyAir provided seat space on flights to CanAir for a value of $500,000. This amount was included in sales for SkyAir. Profit margin on these sales is 40%. At the end of August, 20X8, CanAir still had an amount of $200,000 in these prepaid seats that had not yet been used. (CanAir includes this in inventory.) .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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4-39

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Required: Prepare the consolidated statement of comprehensive income for the year ended August 31, 20X9.

Answer:

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Page Ref: 163-171 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Moderate

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4-41

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 39) On September 1, 20X5, CanAir Limited decided to buy 100% of the shares outstanding of SkyAir Inc. for $900,000. CanAir will pay for this acquisition by using cash of $500,000 and issuing share capital for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, CanAir determines that some of the assets of SkyAir have fair values different from their carrying values. These items are listed below: • Land has a fair value of $225,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• Internet domain name has a fair value is $55,000. The domain name is estimated to have a useful life of five years.

• Customer lists have a fair value is $35,000. It is estimated that the customer lists will have a useful life of seven years.

During the 20X9 fiscal year, the following events occurred: 1. On March 1, 20X9, SkyAir sold land to CanAir for $390,000, which had a carrying value of $275,000.

CanAir paid for this with $90,000 cash and a note payable for the difference. This note pays interest at 10%, which is paid monthly.

2. CanAir provided management expertise to SkyAir and charged management fees of $890,000.

3. CanAir sold supplies (included in CanAir sales) to SkyAir for $200,000. CanAir charged SkyAir an amount that was 25% above cost. SkyAir still has supplies on hand of $70,000.

4. In 20X8, SkyAir provided seat space on flights to Can Air for a value of $500,000. This amount was included in sales for SkyAir. Profit margin on these sales is 40%. At the end of August, 20X8, CanAir still had an amount of $200,000 in these prepaid seats that had not yet been used. (CanAir includes this in inventory.)

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4-42

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

Required: Calculate the consolidated retained earnings as at August 31, 20X9.

Prepare the consolidated statement of financial position for the year ended August 31, 20X9.

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4-43

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

Page Ref: 163-173 Learning Obj.: 4.1, 4.2, 4.3, 4.4, 4.5 Difficulty: Difficult

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4-46

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions 40) On September 1, 20X5, CanAir Limited decided to buy 100% of the shares outstanding of SkyAir Inc. for $500,000. Can Air will pay for this acquisition by using cash of $500,000. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, CanAir determines that some of the assets of SkyAir have fair values different from their carrying values. These items are listed below: • The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• Internet domain name has a fair value is $55,000. The domain name is estimated to have a useful life of five years.

• Brand name has a fair value is $65,000 and an indefinite life.

During the 20X9 fiscal year, the following events occurred: 1. On March 1, 20X9, SkyAir sold land to CanAir for $390,000, which had a carrying value of $275,000.

CanAir paid for this with $90,000 cash and a note payable for the difference. This note pays interest at 10%, which is paid monthly.

2. CanAir provided management expertise to SkyAir and charged management fees of $890,000.

3. CanAir sold supplies (included in CanAir sales) to SkyAir for $200,000. CanAir charged SkyAir an amount that was 25% above cost. SkyAir still has supplies on hand of $20,000.

4. In 20X8, SkyAir provided seat space on flights to Can Air for a value of $300,000. This amount was included in sales for SkyAir. Profit margin on these sales is 30%. At the end of August, 20X8, CanAir still had an amount of $150,000 in these prepaid seats that had not yet been used. (CanAir includes this in inventory.)

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions

Required: CanAir would like to report this investment in SkyAir using the equity method.

Determine the income from this equity investment for the year.

Determine the balance in the Investment in SkyAir account if the company used the equity method. .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 4 Wholly-Owned Subsidiaries: Reporting Subsequent Acquisitions Answer:

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4-50

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition 1) Morin Co. acquired all the shares of Lightfoot Ltd. Lightfoot has a number of amortizable capital assets and has properly recorded the related deferred income taxes on its books. What deferred income tax adjustment must Morin make for its consolidated financial statements?

A) Adjustment for any changes in temporary differences due to the difference between carrying values and tax bases of Lightfoot's depreciable capital assets B) Adjustment for any changes in temporary differences due to the amortization of fair value increments C) Adjustment for any changes in temporary differences due to the amortization of goodwill D) No adjustment is necessary.

Answer: B Page Ref: 214 Difficulty: Moderate

2) Morin Co. acquired all the shares of Lightfoot Ltd. Lightfoot has a number of amortizable capital assets and has properly recorded the related deferred income taxes on its books. At the time of acquisition, the fair values of these assets were higher than their carrying values and their tax bases. In Morin's consolidation each year, it must adjust for the deferred taxes that resulted from these temporary differences. Which of the following statements is true?

A) The consolidation adjustment will always result in an increase in the deferred tax liability.

B) The consolidation adjustment will always result in a decrease in the deferred tax liability.

C) The consolidation adjustment can result in either an increase or a decrease in the deferred tax liability.

D) The consolidation adjustment is required only if the tax basis changes.

Answer: B Page Ref: 214 Difficulty: Moderate

3) Which of the following statements is true with respect to adjusting the deferred tax account on consolidation?

A) Deferred taxes only need to be adjusted for unrealized profits in inventory at the end of the year.

B) Deferred taxes only need to be adjusted for unrealized profits in inventory at the beginning of the year.

C) Deferred taxes need to be adjusted for unrealized profits in inventory at both the beginning and the end of the year.

D) Deferred taxes do not need to be adjusted for unrealized profits.

Answer: C Page Ref: 193-196 Difficulty: Moderate

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4A-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition 4) On December 31, 20X5, Russel Co. purchased 100% of the outstanding common shares of Minsee Ltd. for $1,300,000 in shares and $200,000 in cash. The statements of financial position of Russel and Minsee immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

The tax value for each asset and liability is the same as its carrying value except for the equipment, which has a tax value of $950,000, and the patent, which has a tax value of nil. The equipment has a remaining useful life of 15 years from the date of acquisition. The patent has a useful life estimated to be five years from the date of acquisition.

During 20X6, the year following the acquisition, the following occurred: 1. Minsee borrowed $350,000 from Russel on June 1, 20X6, and was charged interest at 10% per annum, which it paid on a monthly basis. There were no repayments of principal made during the remaining of the year.

2. Throughout the year, Minsee purchased merchandise of $800,000 from Russel. Russel's gross margin is 30% of selling price. At December 31, 20X6, Minsee still owed Russel $250,000 on this merchandise; 75% of this merchandise was resold by Minsee prior to December 31, 20X6.

3. Minsee paid dividends of $275,000 at the end of 20X6 and Russel paid dividends of $200,000.

4. Minsee and Russel both have an income tax rate of 30%.

During 20X7, the following occurred: 1. Minsee paid $150,000 on the loan payable to Russel on May 30, 20X7.

2. Throughout the year, Minsee purchased merchandise of $1,000,000 from Russel. Russel's gross margin is 30% of selling price. At December 31, 20X6, Minsee still owed Russel $150,000 on this merchandise; 85% of this merchandise was resold by Minsee prior to December 31, 20X7.

3. Minsee paid dividends of $275,000 at the end of 20X7 and Russel paid dividends of $200,000.

4. Minsee and Russel both have an income tax rate of 30%.

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4A-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition

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4A-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition

Required: Calculate the consolidated retained earnings as at December 31, 20X7, and as at December 31, 20X6.

Prepare the consolidated statement of comprehensive income and the consolidated statement of financial position for the year ended December 31, 20X7, for Russel. Include all relevant income tax calculations.

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4A-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition Answer:

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4A-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition

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4A-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition

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4A-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4A Income Tax Allocation Subsequent to Acquisition

Page Ref: 166-173, 213-216 Difficulty: Difficult

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4A-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4B Goodwill Impairment Test 1) Proudfoot Ltd. acquired all the shares of Jacob Ltd. several years ago. In conducting its goodwill impairment test for the current year, Proudfoot has determined that there has been an impairment related to revalued assets. On Proudfoot's consolidated financial statements, where should this impairment be reported?

A) As part of profit or loss B) As part of other comprehensive income C) As an adjustment to retained earnings D) As a separate amount under shareholders' equity Answer: B Page Ref: 221-222 Difficulty: Moderate

2) How should goodwill acquired in a business combination be allocated?

A) Proportionately to assets B) Proportionately to fair-value increments C) To cash-generating units D) It is not allocated.

Answer: C Page Ref: 221 Difficulty: Easy

3) Under IFRS, how often should goodwill acquired in a business combination be tested for impairment?

A) Whenever there is an indication of impairment B) Whenever there is a change in circumstances in the business C) At least once a year D) At least once every two years Answer: C Page Ref: 221 Difficulty: Easy

4) For private enterprises that have acquired goodwill in a business combination, how often should goodwill be tested for impairment?

A) At least once a year B) At least once every two years C) Whenever the parent company deems it necessary D) Whenever there is a change in circumstances Answer: D Page Ref: 223 Difficulty: Moderate

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4B-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4B Goodwill Impairment Test 5) For private enterprises that have acquired goodwill in a business combination, which of the following is considered a change of circumstances for purposes of testing for goodwill impairment?

A) A large unfavourable income tax reassessment B) Sale of a capital asset for a small loss C) A major competitor has ceased operations D) Retirement of the subsidiary's operations manager Answer: A Page Ref: 223 Difficulty: Moderate

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4B-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 4B Goodwill Impairment Test 6) Compare and contrast the goodwill impairment test under IFRS and accounting standards for private enterprises (ASPE).

Answer: IFRS ASPE Tested at least annually, at the same time each year.

Is also required when events or circumstances Required when events or indicate that the goodwill circumstances indicate that might be impaired. the goodwill might be When is goodwill tested? impaired.

Goodwill is allocated to a cash-generating unit (CGU), which is the corporation's smallest identifiable group of assets that generate cash Goodwill is allocated to inflows independent of cash reporting units and the flows generated from other reporting unit is tested for What level is tested? assets or group of assets. impairment.

An impairment loss arises when the carrying value of the CGU is greater than the unit's recoverable amount. An impairment loss arises The recoverable amount is when the carrying value of the higher of the unit's the reporting unit is greater value in use, and its fair than the unit's fair value. value less costs to sell. The The loss is used first to loss is used first to reduce reduce the carrying value of the carrying value of the the goodwill allocated to goodwill allocated to the the CGU, and any CGU, and any difference is difference is prorated to the prorated to the remaining remaining assets of the When is goodwill assets of the group based on group based on their impaired? their carrying values. carrying values.

Page Ref: 221-223 Difficulty: Easy

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4B-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 1) A parent company chooses to acquire only a 65% interest in its subsidiary. Which of the following is not a reason why the parent would choose to acquire less than a 100% interest in a subsidiary?

A) Reduction of ownership risk B) Potential for increased share dilution C) Maintenance of a market for the subsidiary's shares D) Potential links to government support and management expertise through the NCI Answer: B Page Ref: 226 Learning Obj.: 5.1 Difficulty: Easy

2) Which of the following is not a reason why a parent company would prefer to be involved with an NCI? A) Reduction on ownership risk B) Potential for increased share dilution C) Maintenance of a market for the subsidiary's shares D) Potential links to resources such as government support and management expertise Answer: B Page Ref: 226 Learning Obj.: 5.1 Difficulty: Easy

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5-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 3) On December 31, 20X2, Bates Ltd. purchased 75% of the outstanding common shares of Ted Ltd. for $1,050,000 in cash. The balance sheets of Bates and Ted immediately before the acquisition were as follows (in 000s):

At the time of acquisition, Ted's capital assets still had a remaining useful life of 10 years. Under the entity method, what amount should be allocated to goodwill?

A) $ 67,500 B) $ 90,000 C) $ 97,500 D) $130,000 Answer: D Page Ref: 229-233 Learning Obj.: 5.2 Difficulty: Moderate

4) Which consolidation approach excludes the NCI? A) Proportionate consolidation B) Parent-company method C) Parent-company extension method D) Entity method Answer: A Page Ref: 227 Learning Obj.: 5.2 Difficulty: Easy

5) Which consolidation approach includes only the parent's share of a subsidiary's goodwill?

A) Proportionate consolidation B) Parent-company method C) Parent-company extension method D) Entity method Answer: C Page Ref: 227-228 Learning Obj.: 5.2 Difficulty: Easy

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5-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 6) Which of the following statements about IFRS 3, Business Combinations is true?

A) IFRS 3 allows organizations to use either the parent-company method or the entity method.

B) IFRS 3 allows organizations to use either the parent-company extension method or the entity method.

C) IFRS 3 allows organizations to use either the parent-company method or the parent-company extension method.

D) IFRS 3 allows organizations to use either the parent-company method, the parent-company extension method, or the entity method.

Answer: B Page Ref: 227-228 Learning Obj.: 5.2, 5.3 Difficulty: Easy

7) Assume that a parent company has four subsidiaries. Under IFRS 3, which of the following statements is true?

A) All four subsidiaries must be reported using the parent-company extension method.

B) All four subsidiaries must be reported using the entity method.

C) Each subsidiary must be reported using either the parent-company extension method or the entity method. Consistency is not required.

D) All four subsidiaries must be reported using either the parent-company extension method or the entity method. Consistency is required.

Answer: D Page Ref: 227-228 Learning Obj.: 5.3 Difficulty: Easy

8) Arnez Ltd. acquired 70% of Bedard Ltd. At the acquisition date, Bedard's net identifiable assets had a carrying value of $825,000 and a fair value of $1,000,000. Arnez paid $910,000 for the acquisition. Under the parent-company extension method, what amount should be reported for goodwill on Arnez's consolidated statement of financial position?

A) $210,000 B) $300,000 C) $332,500 D) $475,000 Answer: A Page Ref: 227-228 Learning Obj.: 5.3 Difficulty: Moderate

9) Sunny Co. purchased 80% of Reuben Ltd. for $1,200,000. At the date of acquisition, the carrying value of Reuben's net identifiable assets was $1,000,000, and the fair value was $1,300,000. What is the amount of the goodwill under the entity method?

A) $0 B) $200,000 C) $240,000 D) $300,000 Answer: B Page Ref: 229-231 Learning Obj.: 5.4a Difficulty: Moderate

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5-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 10) Olthius Ltd. purchased 60% of Fredo Ltd. for $1,500,000. At the date of acquisition, the carrying value of Fredo's net identifiable assets was $1,800,000 and the fair value was $2,200,000. What is the amount of the goodwill under the entity method?

A) $(300,000) B) $120,000 C) $300,000 D) $400,000 Answer: C Page Ref: 229-231 Learning Obj.: 5.4a Difficulty: Moderate

11) Amber Ltd. purchased 80% of Patel Ltd. for $1,000,000. At the time of acquisition, the carrying value of Patel's net identifiable assets was $1,000,000 and the fair value was $1,350,000. What is the amount of the goodwill under the entity method?

A) $(100,000) B) $100,000 C) $280,000 D) $350,000 Answer: A Page Ref: 229-231 Learning Obj.: 5.4a Difficulty: Moderate

12) Lopez Ltd. purchases 65% of Wheatfall Co. Under the entity method of consolidation, what is allocated to non-controlling interest?

A) 35% of Wheatfall's net assets at fair value B) 35% of Wheatfall's net assets at carrying value C) 35% of Wheatfall's net assets at carrying value plus 35% of Wheatfall's fair value increments excluding goodwill D) 35% of Wheatfall's net assets at carrying value plus 35% of Wheatfall's fair value increments including goodwill Answer: D Page Ref: 227-228 Learning Obj.: 5.2 Difficulty: Moderate

13) In preparing consolidation working papers, why is it necessary to eliminate intercompany profits?

A) To nullify the effect of intercompany transactions on consolidated financial statements B) To defer intercompany profits until the following year C) To allocate unrealized profits until the following year D) To differentiate between realized and unrealized profits Answer: A Page Ref: 235 Learning Obj.: 5.4b Difficulty: Moderate

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5-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 14) Taguchi Ltd. owns 80% of Shag Co. Shag declared and paid $100,000 in dividends. Taguchi uses the cost method to record its investment in Shag. In preparing Taguchi's consolidated financial statements, what elimination entry must be made with respect to the dividends?

A) DR Dividend income 80,000 CR Dividends declared 80,000 B) DR Dividend income DR Non-controlling interest CR Dividends declared

80,000 20,000 100,000

C) DR Non-controlling interest CR Dividends declared

20,000 20,000

D) DR Dividend income CR Dividends declared

100,000 100,000

Answer: B Page Ref: 235 Learning Obj.: 5.4b Difficulty: Moderate

15) Bates Ltd. owns 60% of the outstanding common shares of Sam Ltd. During 20X6, sales from Sam to Bates were $200,000. Merchandise was priced to provide Sam with a gross margin of 20%. Bates's inventories contained $40,000 at December 31, 20X5, and $15,000 at December 31, 20X6, of merchandise purchased from Sam. Cost of goods sold for Bates and Sam for 20X6 on their separate-entity income statements were as follows:

Beginning inventory Purchases Ending inventory Cost of goods sold

Bates $ 100,000 700,000 (110,000) $ 690,000

Sam $ 50,000 200,000 (55,000) $195,000

What is the balance of the inventory account on Bates's consolidated statement of financial position at December 31, 20X6?

A) $140,000 B) $160,000 C) $162,000 D) $165,000 Answer: C Page Ref: 235, 241 Learning Obj.: 5.4c Difficulty: Moderate

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5-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 16) Portia Ltd. acquired 80% of Siro Ltd. on December 31, 20X0. At the date of acquisition, Siro's net assets totalled $15,000. Portia uses the cost method to record the acquisition and consolidates using the entity method. At December 31, 20X1, the separate-entity financial statements showed the following: Portia $25,000 16,000 4,800 $ 4,200

Siro 12,000 6,000 2,400 $3,600

Cash Accounts receivable Inventory Net capital assets Investment in Siro

$ 1,400 10,600 9,700 17,300 12,000 $51,000

$ 2,000 8,500 6,300 7,700 $24,500

Liabilities Common shares Retained earnings

$15,800 20,000 15,200 $51,000

$ 5,900 10,000 8,600 $24,500

Sales Cost of goods sold Operating expenses Net income

During 20X1, Siro sold $7,000 of goods, with a gross margin of 40%, to Portia. At the end of 20X1, $3,000 of the goods were still in Portia's inventory. What portion of consolidated net income for 20X1 is attributable to Portia?

A) $6,120 B) $6,240 C) $6,600 D) $7,080 Answer: A Page Ref: 227-239 Learning Obj.: 5.4b Difficulty: Difficult

17) What is the purpose of showing an allocation of the net income between the parent and the subsidiary companies on the consolidated statement of comprehensive income?

A) To report the net income of the parent company to its shareholders B) To report the net income of the subsidiary company to its shareholders C) To report the net income of the parent and subsidiary companies to their respective shareholders D) To report the net income of the parent and subsidiary companies to the tax department Answer: A Page Ref: 237 Learning Obj.: 5.3 Difficulty: Easy

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5-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 18) Portia Ltd. acquired 80% of Siro Ltd. on December 31, 20X0. At the acquisition date, Siro's net assets totalled $15,000. Portia uses the cost method to record the acquisition and consolidates using the entity method. At December 31, 20X1, the separate-entity financial statements showed the following: Portia $25,000 16,000 4,800 $ 4,200

Siro 12,000 6,000 2,400 $3,600

Cash Accounts receivable Inventory Net capital assets Investment in Siro

$ 1,400 10,600 9,700 17,300 12,000 $51,000

$ 2,000 8,500 6,300 7,700 $24,500

Liabilities Common shares Retained earnings

$15,800 20,000 15,200 $51,000

$ 5,900 10,000 8,600 $24,500

Sales Cost of goods sold Operating expenses Net income

During 20X1, Siro sold $7,000 of goods, with a gross margin of 40%, to Portia. At the end of 20X1, $3,000 of the goods were still in Portia's inventory. What is Portia's consolidated cost of goods sold for 20X1?

A) $13,800 B) $16,200 C) $16,800 D) $22,000 Answer: B Page Ref: 239, 241 Learning Obj.: 5.4b Difficulty: Moderate

19) Under IAS 27, where does the non-controlling interest (NCI) appear on the statement of financial position?

A) Under the liabilities section B) Under the shareholders' equity section C) Between the liabilities and shareholders' equity sections D) NCI does not appear on the statement of financial position.

Answer: B Page Ref: 240-242 Learning Obj.: 5.3 Difficulty: Easy

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5-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 20) Portia Ltd. acquired 80% of Siro Ltd. on December 31, 20X0. At the acquisition date, Siro's net assets totalled $15,000. Portia uses the cost method to record the acquisition and reports using the entity method. At December 31, 20X1, the separate-entity financial statements showed the following: Portia $25,000 16,000 4,800 $ 4,200

Siro 12,000 6,000 2,400 $3,600

Cash Accounts receivable Inventory Net capital assets Investment in Siro

$ 1,400 10,600 9,700 17,300 12,000 $51,000

$ 2,000 8,500 6,300 7,700 $24,500

Liabilities Common shares Retained earnings

$15,800 20,000 15,200 $51,000

$ 5,900 10,000 8,600 $24,500

Sales Cost of goods sold Operating expenses Net income

During 20X1, Siro sold $7,000 of goods, with a gross margin of 40%, to Portia. At the end of 20X1, $3,000 of the goods were still in Portia's inventory. What amount should be shown on the consolidated statement of financial position for the non-controlling interest at December 31, 20X1?

A) $ 720 B) $1,720 C) $3,480 D) $3,720 Answer: C Page Ref: 241-242 Learning Obj.: 5.4b Difficulty: Moderate

21) Fleming Ltd. acquired 75% of Donner Ltd. on April 30, 20X1. Both companies have April 30th yearends. Which of the following should be made to the opening non-controlling interest (NCI) balance to arrive at the April 30, 20X2, NCI balance on Fleming's statement of financial position?

A) Add in the NCI's share of Donner's fiscal 20X2 net income and subtract the NCI's share of Donner's dividends declared.

B) Subtract the NCI's share of Donner's fiscal 20X2 net income and add in the NCI's share of Donner's dividends declared.

C) Add in both the NCI's share of Donner's fiscal 20X2 net income and dividends declared.

D) Subtract both the NCI's share of Donner's fiscal 20X2 net income and dividends declared.

Answer: A Page Ref: 242 Learning Obj.: 5.4b Difficulty: Moderate

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5-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 22) There are alternative ways to calculate consolidated retained earnings. One of the methods requires adjustments to be made to the parent company's separate-entity ending retained earnings balance as of the consolidation date. What adjustments must be made to determine ending consolidated retained earnings?

A) Add in the dividends from the subsidiary to the parent and the parent's share of the subsidiary's adjusted income.

B) Subtract the dividends from the subsidiary to the parent and the parent's share of the subsidiary's adjusted income.

C) Add in the dividends from the subsidiary to the parent and subtract the parent's share of the subsidiary's adjusted income.

D) Subtract the dividends from the subsidiary to the parent and add in the parent's share of the subsidiary's adjusted income.

Answer: D Page Ref: 243-244 Learning Obj.: 5.4 Difficulty: Difficult

23) Jordan Ltd. acquired 80% of Cool Co. in 20X1. During 20X1, Cool sold inventory to Jordan. At the end of 20X2, the goods were still in Jordan's inventory. Jordan correctly eliminated the $10,000 of unrealized profits on its 20X2 consolidated financial statements and the goods were finally sold in 20X3. In preparing its 20X3 consolidated financial statements, what adjustments should be made with respect to the previously unrealized profit?

A) Increase cost of sales by $10,000, increase retained earnings by $8,000, and increase the non-controlling interest by $2,000.

B) Decrease cost of sales by $10,000, decrease retained earnings by $8,000, and decrease the noncontrolling interest by $2,000.

C) Increase both cost of sales and retained earnings by $10,000.

D) No entry is required.

Answer: B Page Ref: 246-247 Learning Obj.: 5.4 Difficulty: Difficult

24) Pooke Co. acquired 75% of Finch Ltd. three years ago. In calculating the balance for the noncontrolling interest, Pooke started with the net income from Finch's current year-end separate-entity financial statements. Which of the following adjustments must be added to Finch's net income in calculating Finch's adjusted net income?

A) Amortization of fair value increments B) Unrealized gain on an upstream sale of a capital asset C) Unrealized profit on upstream sales of inventory in the current year D) Realized profits in the current year on upstream sales of inventory from the previous year Answer: D Page Ref: 248-249 Learning Obj.: 5.4 Difficulty: Moderate

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5-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 25) Bates Ltd. owns 60% of the outstanding common shares of Sam Ltd. During 20X6, sales from Sam to Bates were $200,000. Merchandise was priced to provide Sam with a gross margin of 20%. Bates's inventories contained $40,000 at December 31, 20X5, and $15,000 at December 31, 20X6, of merchandise purchased from Sam. Cost of goods sold for Bates and Sam for 20X6 on their separate-entity income statements were as follows:

Beginning inventory Purchases Ending inventory Cost of goods sold

Bates $ 100,000 700,000 (110,000) $ 690,000

Sam $ 50,000 200,000 (55,000) $ 195,000

What is the balance of the consolidated inventory account at December 31, 20X6?

A) $160,000 B) $162,000 C) $165,000 D) $168,000 Answer: B Page Ref: 252-254 Learning Obj.: 5.4c Difficulty: Moderate

26) Bates Ltd. owns 60% of the outstanding common shares of Sam Ltd. During 20X6, sales from Sam to Bates were $200,000. Merchandise was priced to provide Sam with a gross margin of 20%. Bates's inventories contained $40,000 at December 31, 20X5, and $15,000 at December 31, 20X6, of merchandise purchased from Sam. Cost of sales for Bates and Sam for 20X6 on their separate-entity income statements were as follows:

Beginning inventory Purchases Ending inventory Cost of sales

Bates $ 100,000 700,000 (110,000) $ 690,000

Sam $ 50,000 200,000 (55,000) $ 195,000

What is cost of sales on the consolidated statement of income for 20X6?

A) $687,000 B) $680,000 C) $685,600 D) $660,000 Answer: B Page Ref: 252-253 Learning Obj.: 5.4c Difficulty: Difficult

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5-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 27) Under the parent-company extension method, to which company should the impairment of goodwill be attributed?

A) Solely to the parent company B) Solely to the subsidiary company C) Allocated between the parent and subsidiary companies D) No attribution of goodwill is shown under this method.

Answer: A Page Ref: 227, 257 Learning Obj.: 5.3 Difficulty: Moderate

28) Devon Ltd. acquired 90% of Luka Ltd. for $100,000 less than the fair value. How should this $100,000 be treated on Devon's consolidated financial statements?

A) As goodwill on the consolidated statement of financial position B) Allocated as fair value increments over Luka's net identifiable assets C) As a gain on the consolidated statement of comprehensive income D) As a separate item under shareholders' equity Answer: C Page Ref: 257 Learning Obj.: 5.3 Difficulty: Moderate

29) Which of the following statements is true about a bargain purchase?

A) The purchase consideration paid by the parent for its share of the aquiree is less than the fair value of the shares.

B) The purchase consideration paid by the parent for its share of the aquiree is equal to the fair value of the shares.

C) The purchase consideration paid by the parent for its share of the aquiree is more than the fair value of the shares.

D) The purchase consideration paid by the parent for its share of the aquiree is less than the carrying value of the shares.

Answer: A Page Ref: 257 Learning Obj.: 5.4 Difficulty: Easy

30) Under ASPE reporting requirements for investments in subsidiaries, how should the NCI at the time of acquisition be valued?

A) At fair value B) At carrying value C) At the acquiree's proportionate share of net identifiable assets D) At fair value or at the acquiree's proportionate share of net identifiable assets Answer: D Page Ref: 260 Learning Obj.: 5.2, 5.4 Difficulty: Moderate

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5-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 31) On December 31, 20X2, Esther Company purchased 80% of the outstanding common shares of Jane Company for $7.5 million in cash. On that date, the shareholders' equity of Jane totalled $6 million and consisted of $1 million in no par common shares and $5 million in retained earnings. Both companies use the straight-line method to calculate depreciation and amortization. The statement of financial position for Jane is provided below at December 31, 20X2.

For the year ending December 31, 20X4, the statements of comprehensive income for Esther and Jane were as follows:

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5-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries At December 31, 20X4, the condensed statement of financial position for the two companies were as follows:

OTHER INFORMATION: 1. On December 31, 20X2, Jane had a building with a fair value that was $450,000 greater than its carrying value. The building had an estimated remaining useful life of 15 years.

2. On December 31, 20X2, Jane had inventory with a fair value that was $150,000 less than its carrying value. This inventory was sold in 20X3.

3. During 20X3, Jane sold merchandise to Esther for $100,000, a price that included a gross profit of $50,000. During 20X3, 40% of this merchandise was resold by Esther and the other 60% remained in its December 31, 20X3, inventories. On December 31, 20X4, the inventories of Esther contained merchandise purchased from Jane on which Jane had recognized a gross profit in the amount of $20,000. Total sales from Jane to Esther were $150,000 during 20X4.

4. During 20X4, Esther declared and paid dividends of $300,000, while Jane declared and paid dividends of $100,000.

5.

Esther accounts for its investment in Jane using the cost method.

Required: Calculate goodwill on the consolidated balance sheet at December 31, 20X4, under the entity method and the parent-company extension method. Explain the differences between the two balances. .

5-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Answer: Entity method

Parent company extension method

Since there was no impairment of goodwill during 20X3 and 20X4, the balance in the goodwill at December 31, 20X4, would be $2,460,000.

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5-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries The difference of $615,000 ($3,075,000 - $2,460,000) between the two methods arises due to the goodwill included in the NCI. Under the parent company extension method, the NCI's portion of the goodwill, 20% × 3,075,000 = $615,000, is excluded from goodwill, as the NCI interest is calculated only the fair value of net identifiable assets, excluding goodwill.

Page Ref: 226-228; 229-232; 256-257 Learning Obj.: 5.2, 5.3 Difficulty: Moderate

32) On December 31, 20X2, Dark Company purchased 75% of the outstanding common shares of Light Company for $6.0 million in cash. On that date, the shareholders' equity of Light totalled $6 million and consisted of $1 million in no par common shares and $5 million in retained earnings. Both companies use the straight-line method to calculate depreciation and amortization.

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5-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

OTHER INFORMATION: 1. On December 31, 20X2, Light had a building with a fair value that was $4,900,000 and an estimated remaining useful life of 20 years.

2. On December 31, 20X2, Light had a trademark that had a fair value of $60,000. The trademark has an expected useful life of five years.

3. During 20X3, Light sold merchandise to Dark for $150,000, a price that included a gross profit of $50,000. During 20X3, 40% of this merchandise was resold by Dark and the other 60% remained in its December 31, 20X3, inventories.

4. On December 31, 20X4, the inventories of Dark contained merchandise purchased from Light on which Light had recognized a gross profit in the amount of $20,000. Total sales from Light to Dark were $150,000 during 20X4.

5. During 20X4, Dark declared and paid dividends of $300,000 while Light declared and paid dividends of $100,000.

6.

Dark accounts for its investment in Light using the cost method.

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5-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Required: Calculate the non-controlling interest on the consolidated statement of financial position at December 31, 20X4, under the entity method.

Calculate the NCI's share of earnings for 20X4.

Answer: Entity Method

Non-controlling interest is 25% × 8,000,000 (fair value) = 2,000,000

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 229-23, 246-248, 255 Learning Obj.: 5.4

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Difficulty: Difficult

.

5-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 33) On December 31, 20X2, Dark Company purchased 75% of the outstanding common shares of Light Company for $6.0 million in cash. On that date, the shareholders' equity of Light totalled $6 million and consisted of $1 million in no par common shares and $5 million in retained earnings. Both companies use the straight-line method to calculate depreciation and amortization.

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5-20

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

OTHER INFORMATION: 1. On December 31, 20X2, Light had a building with a fair value that was $4,900,000 and an estimated remaining useful life of 20 years.

2. On December 31, 20X2, Light had a trademark that had a fair value of $60,000. The trademark has an expected useful life of five years.

3. During 20X3, Light sold merchandise to Dark for $150,000, a price that included a gross profit of $50,000. During 20X3, 40% of this merchandise was resold by Dark and the other 60% remained in its December 31, 20X3, inventories.

4. On December 31, 20X4, the inventories of Dark contained merchandise purchased from Light on which Light had recognized a gross profit in the amount of $20,000. Total sales from Light to Dark were $150,000 during 20X4.

5. During 20X4, Dark declared and paid dividends of $300,000, while Light declared and paid dividends of $100,000.

6. Dark accounts for its investment in Light using the cost method.

.

5-21

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Required: Calculate the retained earnings balance on the consolidated statement of financial position at December 31, 20X4, under the entity method.

Prepare the consolidated statement of financial position at December 31, 20X4.

Answer: Entity method

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 229-232, 246-256 Learning Obj.: 5.4 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 34) On December 31, 20X5, Paper Co. purchased 60% of the outstanding common shares of Book Ltd. for $760,000 in shares and $200,000 in cash. The statements of financial position of Paper and Book immediately before the acquisition were as follows (in 000s): Paper

Cash Accounts receivable Inventory Property, plant, and equipment

Accounts payable Long-term liabilities Common shares Retained earnings

Book

Book Value $360 520 800 1,820 $3,500

Fair Value $360 500 880 2,000

Book Value $200 380 400 1,420 $2,400

Fair Value $200 380 360 1,640

$ 380 1,200 500 1,420 $3,500

$380 1,200

$260 1000 600 540 $2,400

$260 1000

The difference in the carrying value and the fair value of the property, plant, and equipment for Book relates to its office building. This building has an estimated 20 years remaining of useful life.

During 20X6, the year following the acquisition, the following occurred: 1. Throughout the year, Book purchased merchandise of $800,000 from Paper. Paper's gross margin is 30% of selling price. At December 31, 20X6, Book still owed Paper $250,000 on this merchandise; 75% of this merchandise was resold by Book prior to December 31, 20X6.

2. Throughout the year, Book sold merchandise to Paper totalling $500,000. The gross margin on these products is 25%. At the end of 20X6, Paper had not yet resold 60% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X6 and Paper paid dividends of $500,000.

During 20X7, the following occurred: 1. Throughout the year, Book purchased merchandise of $1,000,000 from Paper. Paper's gross margin is 30% of selling price. At December 31, 20X7, Book still owed Paper $150,000 on this merchandise; 85% of this merchandise was resold by Book prior to December 31, 20X7.

2. Throughout the year, Book sold merchandise to Paper totalling $650,000. The gross margin in these products is 25%. At the end of 20X7, Paper had not yet resold 40% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X7 and Paper paid dividends of $500,000.

5. Goodwill was tested and found to be impaired, resulting in $100 impairment loss.

6. Paper uses the cost method to report its investment in Book.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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5-26

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Required: Calculate the following items as they would appear on the Paper Co.'s consolidated statement of financial position at December 31, 20X7, under the entity method: a. Goodwill b. Non-controlling interest c. Property, plant, and equipment, net Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 229-232, 246-256 Learning Obj.: 5.4 Difficulty: Moderate

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5-29

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 35) On December 31, 20X5, Paper Co. purchased 60% of the outstanding common shares of Book Ltd. for $760,000 in shares and $200,000 in cash. The statements of financial position of Paper and Book immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

Cash Accounts receivable Inventory Property, plant, and equipment

Accounts payable Long-term liabilities Common shares Retained earnings

Paper Book Fair Value Value $360 $360 520 500 800 880 1,820 2,000 $3,500

Book Value $200 380 400 1,420 $2,400

$ 380 1,200 500 1,420 $3,500

$260 1000 600 540 $2,400

$380 1,200

Book Fair Value $200 380 360 1,640

$260 1000

The difference in the carrying value and the fair value of the capital assets for Book relates to its office building. This building has an estimated 20 years remaining of useful life.

During 20X6, the year following the acquisition, the following occurred: 1. Throughout the year, Book purchased merchandise of $800,000 from Paper. Paper's gross margin is 30% of selling price. At December 31, 20X6, Book still owed Paper $250,000 on this merchandise; 75% of this merchandise was resold by Book prior to December 31, 20X6.

2. Throughout the year, Book sold merchandise to Paper totalling $500,000. The gross margin on these products is 25%. At the end of 20X6, Paper had not yet resold 60% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X6 and Paper paid dividends of $500,000.

During 20X7, the following occurred: 1. Throughout the year, Book purchased merchandise of $1,000,000 from Paper. Paper's gross margin is 30% of selling price. At December 31, 20X6, Book still owed Paper $150,000 on this merchandise; 85% of this merchandise was resold by Book prior to December 31, 20X7.

2. Throughout the year, Book sold merchandise to Paper totalling $650,000. The gross margin in these products is 25%. At the end of 20X6, Paper had not yet resold 40% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X7 and Paper paid dividends of $500,000.

5. An impairment loss of $100,000 was recognized related to the goodwill.

6. Paper uses the cost method to report its investment in Book.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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5-31

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Required: Prepare the consolidated statement of comprehensive income for Paper Co. for the year ended December 31, 20X7, under the entity method.

Calculate the consolidated retained earnings for Paper Co. as at December 31, 20X6, and 20X7.

Prepare the consolidated statement of retained earnings for Paper Co. as at December 31, 20X7.

Answer:

.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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5-34

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 229-232, 246-256 Learning Obj.: 5.4 Difficulty: Difficult

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5-35

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 36) On December 31, 20X5, Paper Co. purchased 60% of the outstanding common shares of Book Ltd. for $760,000 in shares and $200,000 in cash. The statements of financial position of Paper and Book immediately before the acquisition and issuance of the notes payable were as follows (in 000s):

Cash Accounts receivable Inventory Property, plant, and equipment

Accounts payable Long-term liabilities Common shares Retained earnings

Paper Book Fair Value Value $360 $360 520 500 800 880 1,820 2,000 $3,500

Book Value $200 380 400 1,420 $2,400

$ 380 1,200 500 1,420 $3,500

$260 1000 600 540 $2,400

$380 1,200

Book Fair Value $200 380 370 1,640

$270 1000

The difference in the carrying value and the fair value of the property, plant, and equipment for Book relates to its office building. This building has an estimated 20 years remaining of useful life.

During 20X6, the year following the acquisition, the following occurred: 1. Throughout the year, Book purchased merchandise of $800,000 from Paper. Paper's gross margin is 35% of selling price. At December 31, 20X6, Book still owed Paper $250,000 on this merchandise; 75% of this merchandise was resold by Book prior to December 31, 20X6.

2. Throughout the year, Book sold merchandise to Paper totalling $500,000. The gross margin on these products is 25%. At the end of 20X6, Paper had not yet resold 60% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X6 and Paper paid dividends of $500,000.

During 20X7, the following occurred: 1. Throughout the year, Book purchased merchandise of $1,000,000 from Paper. Paper's gross margin is 35% of selling price. At December 31, 20X6, Book still owed Paper $150,000 on this merchandise; 85% of this merchandise was resold by Book prior to December 31, 20X7.

2. Throughout the year, Book sold merchandise to Paper totalling $650,000. The gross margin on these products is 25%. At the end of 20X6, Paper had not yet resold 40% of this merchandise.

3. Management fees were paid to Paper from Book totalling $250,000.

4. Book paid dividends of $250,000 at the end of 20X7 and Paper paid dividends of $500,000.

Paper uses the cost method to report its investment in Book.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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5-37

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Required: Paper has determined that it does not have control but only has significant influence over Book. Calculate the balance in the investment account at December 31, 20X7.

Calculate the investment income from this investee for 20X7 that Paper would show on its statement of comprehensive income.

Answer:

.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

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5-39

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 226-232, 246-247, 259 Learning Obj.: 5.3 Difficulty: Moderate

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5-40

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 37) On December 31, 20X6, the statements of financial position of Power Company and Pro Company are as follows (amounts in thousands):

Cash Accounts receivable Inventories Plant and equipment (net) Total Assets

Power $ 500 1,500 2,000 2,500 $6,500

Pro $ 800 1,700 1,500 4,000 $8,000

Current liabilities Long-term liabilities Common shares Contributed surplus Retained earnings Total Equities

$ 700 800 2,500 800 1,700 $6,500

$ 400 500 1,000 1,500 4,600 $8,000

Pro (FV)

$4,300

$ 400

Power Company has 100,000 shares of common stock outstanding. Pro Company has 45,000 shares outstanding. All assets and liabilities have book values equal to fair values, except as noted above.

The plant and equipment has an estimated remaining useful life of nine years from the date of acquisition. The long-term liabilities mature on December 31, 2020. Market value of the new shares issued was $90 per share at issuance.

Required: Assume that 90% of the outstanding shares of Pro were acquired for cash of $8.1 million. Calculate goodwill and the non-controlling interest on the consolidated balance sheet at December 31, 20X6, under the entity method and the parent-company extension method. Explain the differences between the two balances for goodwill.

Which method is preferred under IFRS? Why are the two methods allowed? Which methods are allowed under ASPE?

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5-41

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Answer: Entity method Measurement: Calculation of goodwill on date of acquisition Consideration given

$8,100,000

Fair value of 100% (8,100,000/0.90) Consideration received: Fair value of net assets acquired: Cash Accounts receivable Inventories Plant and equipment Current liabilities Long-term liabilities Goodwill

$9,000,000

$800,000 1,700,000 1,500,000 4,300,000 (400,000) (400,000)

7,500,000 $ 1,500,000

Non-controlling interest–10% × 9,000,000 = 900,000 Parent company extension method Calculation of goodwill at date of acquisition Purchase price of 90% of Pro

$8,100,000

Carrying value of Pro's net identifiable assets Add: Fair value increments Plant and equipment Long-term debt

7,100,000 300,000 100,000

Fair value of net identifiable assets Non-controlling interest (10% × 7,500,000)

7,500,000 (750,000) $6,750,000

Goodwill at 90%

$1,350,000

The difference of $150,000 ($1,500,000 - $1,350,000) between the two methods arises due to the goodwill included in the NCI. Under the parent company extension method, the NCI's portion of the goodwill, 10% × 1,500,000 = $150,000, is excluded from goodwill, as the NCI interest is calculated only the fair value of net identifiable assets, excluding goodwill.

Under IFRS, the preferred method is the entity method. Although comparability is reduced, the IASB decided to allow either method to be used, treating each transaction separately because not all members fully supported the entity method as the only method to be used. ASPE also allows either method to be used in practice.

Page Ref: 226-229 Learning Obj.: 5.2, 5.3 Difficulty: Moderate

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5-42

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 38) On December 31, 20X6, the balance sheets of Power Company and Pro Company are as follows (amounts in thousands):

Cash Accounts receivable Inventories Plant and Equipment (net) Total Assets

Power $ 500 1,500 2,000 2,500 $6,500

Pro $ 800 1,700 1,500 4,000 $8,000

Current liabilities Long-term liabilities Common shares Contributed surplus Retained earnings Total equities

$ 700 800 2,500 800 1,700 $6,500

$ 400 500 1,000 1,500 4,600 $8,000

Pro (FV)

$4,300

$ 400

Power Company has 100,000 shares of common stock outstanding; Pro Company has 45,000 shares outstanding. All assets and liabilities have book values equal to fair values, except as noted.

The plant and equipment has an estimated remaining useful life of nine years from the date of acquisition. The long-term liabilities mature on December 31, 2020. The company estimates that straightline amortization will approximate the effective interest rate method.

Required: Assume that 80% of the outstanding shares of Pro were acquired for cash of $5.8 million. Calculate goodwill and the non-controlling interest on the consolidated statement of financial position at December 31, 20X6, under the entity method and the parent-company extension method.

At December 31, 20X9, the balance in the long term liabilities of Pro is still $500,000 and the balance of long term liabilities for Power is $900,000. Calculate the balance in the consolidated long-term liabilities at December 21, 20X9.

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5-43

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Answer: Entity method and the parent-company extension method Calculation of negative goodwill (bargain purchase) at date of acquisition Purchase price of 80% of Pro

$5,800,000

Carrying value of Pro's net identifiable assets Add: Fair value increments Plant and equipment Long term debt

7,100,000 300,000 100,000

Fair value of net identifiable assets

7,500,000

Power's share of fair value of net identifiable assets (80% × 7,500,000) Purchase price

6,000,000 5,800,000

Gain on bargain purchase allocated fully to Power $200,000 Because there is a bargain purchase gain related to this acquisition, which all belongs to Power, the parent, there is no goodwill to allocate to the NCI. Consequently, the goodwill determined under the entity approach and the parent-company extension method will be the same.

Long term liabilities - separate entity - Power Long-term liabilities - separate entity - Pro Fair value increment at date of acquisition Less amortization to date 100,000/4 × 3 years* Consolidated long-term liabilities This is assumed to be straight-line as indicated above.

Page Ref: 226-227; 257-259 Learning Obj.: 5.2, 5.4 Difficulty: Moderate

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5-44

$900,000 500,000 (100,000) 75,000

(25,000) $1,375,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 39) On September 1, 20X5, High Limited decided to buy 70% of the shares outstanding of Low Inc. for $630,000. High will pay for this acquisition by using cash of $500,000 and issuing share capital for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the assets and liabilities, High determines that some of the assets of Low have fair values different from their carrying values. These items are listed below: • Accounts payable had a fair value of $295,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• Patent is $80,000. The patent is estimated to have a useful life of five years.

During the 20X7 fiscal year, the following events occurred: 1. On March 1, 20X7, Low sold land to High for $390,000, which had a carrying value of $275,000. High paid for this with $90,000 cash and a note payable for the difference. This note pays interest at 10%, which is paid monthly.

2. High sold inventory to Low for $300,000. Profit margin on these sales is 25%. Low still has inventory on hand of $80,000.

3. In 20X6, Low had provided inventory to High for a value of $600,000. This amount was included in sales for Low. Profit margin on these sales is 35%. At the end of August, 20X6, High still had an amount of $200,000 in these prepaid seats that had not yet been used.

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5-45

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Required: Calculate the balances for the following consolidated balances of High at August 31, 20X7, assuming High uses the entity approach: a. Goodwill b. Non-controlling interest c. Buildings and equipment, net

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5-46

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Answer:

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5-47

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 229-232, 246-251 Learning Obj.: 5.4 Difficulty: Moderate

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5-48

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 40) On September 1, 20X5, High Limited decided to buy 80% of the shares outstanding of Low Inc. for $630,000. High will pay for this acquisition by using cash of $500,000 and issuing share capital for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the assets and liabilities, High determines that some of the assets of Low have fair values different from their carrying values. These items are listed below: • Land has a fair value of $295,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• Brand value is $60,000. The brand has an indefinite life.

During the 20X7 fiscal year, the following events occurred: 1. On March 1, 20X7, Low sold land to High for $390,000, which had a carrying value of $275,000. High paid for this with $90,000 cash and a note payable for the difference. This note pays interest at 10%, which is paid monthly.

2. High sold inventory (included in High sales) to Low for $200,000. Profit margin on these sales is 25%.

Low still has supplies on hand of $75,000.

3. In 20X6, Low had provided seat space on flights to High for a value of $500,000. This amount was included in sales for Low. Profit margin on these sales is 40%. At the end of August, 20X6, High still had an amount of $200,000 in these prepaid seats that had not yet been used. (High includes this in inventory.)

4. The brand name was found to be impaired and an impairment loss of $40,000 was recognized.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Required: Calculate the balances for the following consolidated balances of High assuming High uses the parentcompany extension method approach: a.

Goodwill at August 31, 20X5 b.

Retained earnings at August 31, 20X7 c.

Brand name, net, at August 31, 20X7. .

5-50

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries Answer:

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5-51

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries

Page Ref: 246-252; 256-257 Learning Obj.: 5.3, 5.4 Difficulty: Difficult

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5-52

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 5 Consolidation of Non-Wholly Owned Subsidaries 41) Explain why a parent might want to own less than 100% of the shares of a subsidiary.

Answer: A parent might consider owning less than 100% of a subsidiary due to the following reasons: • It is cheaper to acquire less than 100% of the shares, which conserves cash for the parent.

• The non-controlling shareholders may provide some special expertise, management ability, market access, and government support that is strategically important.

• Ownership risk can be shared between the parent and the non-controlling shareholders.

• The non-controlling shareholders may continue to trade their shares in the public market, providing liquidity for the parent's shares.

Page Ref: 226 Learning Obj.: 5.1 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5A Step Purchases 1) Dinh Co. acquired 60% of Ludo Ltd. five years ago. In the current year, Dinh purchased additional shares from the NCI to bring its holdings to 75%. How should the difference between the purchase consideration paid and the adjustment to the value of the NCI be treated?

A) It should be taken directly to equity, split equally between the shareholders of the parent and the NCI. B) It should be taken directly to equity, split proportionately between the shareholders of the parent and the NCI. C) It should be taken directly to equity, all attributed to the shareholders of the parent.

D) It should be taken directly to equity, all attributed to the NCI. Answer: C Page Ref: 1 Difficulty: Moderate

2) Frey Ltd. acquired 70% of Sabo Ltd. in 20X4. On January 1, 20X8, Frey acquired another 10% of Sabo's common shares for $250,000. Under the entity method, the balance of the non-controlling interest at December 31, 20X7, was $660,000. What adjustment should be made to the consolidated shareholders' equity to reflect Frey's additional purchase of shares?

A) $30,000 B) $136,667 C) $220,000 D) $250,000 Answer: A Page Ref: 5 Difficulty: Moderate

3) Frey Ltd. acquired 70% of Sabo Ltd. in 20X4. On January 1, 20X8, Frey acquired another 10% of Sabo's common shares for $250,000. Under the parent-company extension method, the balance of the noncontrolling interest at December 31, 20X7, was $600,000. What adjustment should be made to the consolidated shareholders' equity to reflect Frey's additional purchase of shares?

A) $50,000 B) $66,667 C) $200,000 D) $250,000 Answer: A Page Ref: 5 Difficulty: Moderate

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5A-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5A Step Purchases 4) Frey Ltd. acquired 70% of Sabo Ltd. on January 1, 20X4. On January 1, 20X8, Frey acquired another 10% of Sabo's common shares for $250,000. With respect to this addition purchase, which of the following is true?

A) On the consolidated statement of financial position, the goodwill balance will increase.

B) On the consolidated statement of financial position, the common shares balance will increase.

C) Frey must use the equity method to report the additional investment.

D) Frey should ignore any changes in the fair values of Sabo's net assets between January 1, 20X4, and January 1, 20X8.

Answer: D Page Ref: 5 Difficulty: Moderate

5) Husch Ltd. acquired 35% of the common shares of Megia Ltd. on June 30, 20X1. Husch uses the equity method to record its investment. On June 30, 20X8, Husch acquired another 40% of Megia's common shares. At June 30, 20X8, how should the original 35% ownership be treated?

A) The original valuation of the 35% is added to the valuation of the 40%.

B) The original 35% investment is deemed to have been disposed of and reacquired at the fair value at June 30, 20X8, and added to the new acquisition.

C) The carrying value of the original 35% at June 30, 20X8, is added to the new acquisition.

D) The original 35% is irrelevant to the new acquisition and should be ignored.

Answer: B Page Ref: 5 Difficulty: Moderate

6) On January 1, 20X7, Water Limited purchased 700,000 shares of Bottle Inc. for $2.8 million. On January 1, 20X9, Water purchased another 200,000 shares of Bottle for $950,000. During the entire period, Bottle had 1,000,000 shares outstanding. Water accounts for its investment in Bottle under the equity method.

The following information was extracted from the financial records of Bottle.

Net carrying value of buildings Fair value of the buildings Remaining useful life of buildings Common shares Retained earnings

January 1, 20X7 $3,560,000 $4,760,000

January 1, December 31, 20X9 20X10 3,320,000 3,320,000 4,804,000 4,804,000

30 $1,000,000 $1,500,000

28 $1,000,000 1,820,000

27 $1,000,000 2,200,000

All net identifiable assets had a fair value equal to their carrying value on the date of acquisition except the buildings. There is no goodwill reported on the separate entity financial statements of Water or Bottle.

There have been no intercompany transactions between Water and Bottle.

Required: Calculate the balances of the following accounts on the consolidated statement of financial position at December 31, 20X10, under the entity method: a. Goodwill b. NCI Determine the adjustment to equity required for the second acquisition. .

5A-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5A Step Purchases Answer:

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5A-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5A Step Purchases

Page Ref: 1-5 Difficulty: Moderate

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5A-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5B Decreases in Ownership Interest 1) When a subsidiary issues shares, ________.

A) no gain or loss is recognized B) a gain or loss is always recognized C) this reduces the NCI D) this may increase the NCI Answer: D Page Ref: 13 Difficulty: Moderate

2) Gumble Ltd. has owned 65% of the common shares of Lopez for several years. This year, Gumble reduced its interest in Lopez to 10%. Which of the following statements is true?

A) Gumble must change from reporting under consolidation to the equity method.

B) Gumble must change from reporting under consolidation to the cost method.

C) Gumble must change from reporting under the equity method to the cost method.

D) Gumble is not required to change its reporting method.

Answer: B Page Ref: 14-15 Difficulty: Easy

3) A parent company reduced its ownership in its subsidiary from 80% to 15%. How should this be reported on the parent's consolidated financial statements?

A) As a disposal of its interest in the subsidiary and a reacquisition of the retained interest at fair value B) As a disposal of its interest in the subsidiary and a reacquisition of the retained interest at book value C) As a write-down to the retained interest D) As an adjustment to the shareholders' equity Answer: A Page Ref: 14-15 Difficulty: Moderate

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5B-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5B Decreases in Ownership Interest 4) On January 1, 20X7, Water Limited purchased 700,000 shares of Bottle Inc. for $2.8 million. On January 1, 20X9, Water sold 150,000 shares of Bottle for $700,000. During the entire period Bottle had 1,000,000 shares outstanding. Water accounts for its investment in Bottle under the equity method. The following information was extracted from the financial records of Bottle: January 1, 20X7 Net carrying value of buildings $3,560,000 Fair value of the buildings $4,760,000 Remaining useful life of buildings 30 Common shares $1,000,000 Retained earnings $1,500,000

January 1, 20X9 3,320,000 4,804,000

December 31, 20X10 3,320,000 4,804,000

28 $1,000,000 1,820,000

26 $1,000,000 2,200,000

All net identifiable assets had a fair value equal to their carrying value on the date of acquisition except the buildings. There is no goodwill reported on the separate entity financial statements of Water or Bottle.

There have been no intercompany transactions between Water and Bottle.

Required: Calculate the balances of the following accounts on the consolidated statement of financial position at December 31, 20X10, under the parent-company extension method: a. Goodwill b. NCI Determine the adjustment to equity required.

.

5B-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5B Decreases in Ownership Interest Answer:

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5B-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 5B Decreases in Ownership Interest

Adjustment to equity: Fair value of consideration transferred by Water January 1, 20X9 Change in NCI from 30% to 45% as above Positive adjustment to equity Page Ref: 9-12 Difficulty: Moderate

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5B-4

$700,000 (585,000) $115,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 1) Chandler Ltd. owns 65% of Stork Co. and accounts for its investment using the cost method. During 20X3, Chandler sold its only land holding to Stork for a $25,000 profit. At the end of 20X4, Stork showed the land on its single-entity financial statement at a value of $100,000. What balance should Chandler show on its consolidated statement of financial position for the land?

A) $0 B) $75,000 C) $100,000 D) $125,000 Answer: B Page Ref: 298-299 Learning Obj.: 6.1 Difficulty: Moderate 2) Singh Ltd. is a wholly owned subsidiary of Ross Co. At the beginning of 20X4, Ross acquired a machine for $350,000 and sold it to Singh for $437,500. The machine will be depreciated over five years using the straight-line method with no residual value. In preparing the consolidated financial statements for the second year after the sale to Singh, Ross made the following journal entry: DR Accumulated depreciation–machine CR Depreciation expense–machine

17,500 17,500

What other adjustment must be made in preparing the consolidated financial statements?

A) DR Opening retained earnings 87,500 CR Machine 87,500 B) DR Opening retained earnings DR Accumulated depreciation–machine CR Machine

70,000 17,500 87,500

C) DR Accumulated depreciation–machine CR Machine

87,500 87,500

D) DR Closing retained earnings DR Depreciation expense CR Machine

70,000 17,500 87,500

Answer: B Page Ref: 297-299 Learning Obj.: 6.1 Difficulty: Difficult 3) TLC Homecare Ltd. owns 100% of Errand Service for Seniors Ltd. (ESS). On January 2, 20X1, TLC .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach bought 12 identical cars for $300,000. It promptly sold four of the cars to ESS for $112,000. ESS will amortize the cars over five years using the straight-line method. At December 31, 20X2, what is the net adjustment that should be made to accumulated depreciation in TLC's consolidated financial statements?

Ignore income taxes.

A) $0 B) Reduction of $2,400 C) Reduction of $4,800 D) Reduction of $5,600 Answer: C Page Ref: 298-299 Learning Obj.: 6.1 Difficulty: Moderate 4) Singh Ltd. is a wholly owned subsidiary of Ross Co. At the beginning of 20X4, Ross acquired a machine for $350,000 and sold it to Singh for $437,500. The machine will be depreciated over five years using the straight-line method with no residual value. Seven years after Singh bought the machine from Ross, the machine is still in use. In preparing its consolidated financial statements, what entry should Ross make?

A) DR Retained earnings 87,500 CR Machine 87,500 B) DR Accumulated depreciation–machine CR Machine

87,500 87,500

C) DR Retained earnings CR Accumulated depreciation

87,500 87,500

D) No entry is required at this time.

Answer: B Page Ref: 300 Learning Obj.: 6.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 5) Belzer Co. owns 70% of Sabo Ltd. At the beginning of 20X7, Sabo sold a piece of equipment to Belzer for a gain of $35,000. At that time, the equipment had an estimated useful life of seven years. Which of the following statements is true about calculating the NCI for the consolidated SFP? A) The unrealized profit at the end of 20X7 must be deducted from the subsidiary's net carrying value before calculating the NCI. B) The unrealized profit at the end of 20X7 must be added to the subsidiary's net carrying value before calculating the NCI. C) The unrealized profit does not affect the NCI calculation because this is an upstream sale.

D) There is no unrealized profit in the transaction.

Answer: A Page Ref: 300 Learning Obj.: 6.1 Difficulty: Moderate 6) Dixon Ltd. owns 60% of the common shares of Kelly Co. At the beginning of 20X1, Kelly sold a machine with a book value of $350,000 to Dixon for $410,000. When Dixon prepares its consolidated financial statements for 20X1, it credits the machine account by $60,000. What account(s) should it debit in this journal entry?

A) Retained earnings by $60,000 B) Investment in Kelly by $60,000 C) Retained earnings by $36,000 and NCI by $24,000 D) Investment in Kelly by $24,000 and NCI by $24,000 Answer: C Page Ref: 300-301 Learning Obj.: 6.1 Difficulty: Moderate 7) Belzer Co. owns 70% of Sabo Ltd. At the beginning of 20X7, Sabo sold a piece of equipment to Belzer for a gain of $35,000. At that time, the equipment had an estimated useful life of seven years. Ten years later, Belzer is still using the equipment. In preparing its consolidated financial statements, Belzer should credit the equipment account by $35,000. What account(s) should be debited in this journal entry?

A) Opening consolidated retained earnings by $35,000 B) Opening consolidated retained earnings by $24,500 and NCI by $10,500 C) Depreciation expense by $35,000 D) Accumulated depreciation by $35,000 Answer: D Page Ref: 302-303 Learning Obj.: 6.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 8) Pal Co. owns 70% of the outstanding common shares of Sadd Ltd. Sadd sold an asset to Pal at a loss.

There is no evidence of impairment in the value of the asset sold to Pal. Which of the following statements about the loss is true?

A) The loss should not be eliminated because this is an upstream sale.

B) The loss should not be eliminated because there is no impairment in the value of the asset.

C) The loss should not be eliminated because Pal does not own 100% of Sadd.

D) The loss should be eliminated.

Answer: D Page Ref: 303 Learning Obj.: 6.1 Difficulty: Difficult 9) Which of the following adjustments is not a cumulative operations adjustment in the consolidation process?

A) Recognize the NCI's share of the subsidiary's retained earnings from the acquisition date to the beginning of the year of the consolidated financial statements.

B) Eliminate the gains and losses from intercompany transactions that have not been realized at the beginning of the year of the consolidated financial statements.

C) Eliminate the flow-through to retained earnings of fair-valued assets and liabilities on intercompany transactions that have since been sold to external parties.

D) Recognize the NCI in earnings.

Answer: D Page Ref: 305 Learning Obj.: 6.2 Difficulty: Moderate 10) A few years ago, Locke Ltd. purchased a machine from its wholly owned subsidiary, Dubois Ltd., for $90,000. Locke has just sold the machine to an unrelated party for a $15,000 gain. At the time of the sale, there was still an unrealized gain of $50,000 from the purchase from Dubois. With this sale of the asset to the unrelated party, what is the amount of gain that should be recognized on Locke's consolidated financial statements?

A) $15,000 B) $50,000 C) $55,000 D) $65,000 Answer: D Page Ref: 303-304 Learning Obj.: 6.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 11) Roslynn Ltd. is a subsidiary of Goodale Co. Roslynn sold a machine to Goodale for a $50,000 gain.

Goodale has now sold the machine to an unrelated party for a $20,000 gain. At the time of the sale, $35,000 of the profit on the sale from Roslynn was still unrealized. For consolidation purposes, what is the amount of gain that must be recognized on the sale of the machine?

A) $15,000 B) $20,000 C) $30,000 D) $55,000 Answer: D Page Ref: 303-304 Learning Obj.: 6.1 Difficulty: Moderate 12) Grayson Ltd. acquired 60% of the outstanding common shares of Goldberg Ltd. for $480,000. At the date of acquisition, Goldberg's shareholders' equity was $625,000. The goodwill at 100% has been determined to be $90,000 under the entity method. What is the amount of Goldberg's fair value increments?

A) $54,000 B) $70,000 C) $85,000 D) $121,000 Answer: C Page Ref: 306-307 Learning Obj.: 6.2 Difficulty: Moderate 13) Grayson Ltd. acquired 60% of the outstanding common shares of Goldberg Ltd. for $480,000. At the date of acquisition, Goldberg's shareholders' equity was $625,000. The goodwill at 100% has been determined to be $90,000 under the entity method. What is the amount of the non-controlling interest that should be reported under the entity method?

A) $192,000 B) $250,000 C) $304,000 D) $320,000 Answer: D Page Ref: 307-308 Learning Obj.: 6.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 14) Arnez Ltd. acquired 70% of the outstanding common shares of Bedard Ltd. At the acquisition date, Bedard's net identifiable assets had a carrying value of $825,000 and a fair market value of $1,000,000.

Arnez paid $910,000 for the acquisition. Under the entity method, what amount should be reported for the non-controlling interest on the consolidated statement of financial position?

A) $210,000 B) $247,000 C) $300,000 D) $390,000 Answer: D Page Ref: 307-308 Learning Obj.: 6.2 Difficulty: Moderate 15) Mallard Ltd. acquired 75% of the outstanding common shares of Teal Ltd. at December 31, 20X1, for $900,000. Mallard has recorded its investment using the cost method. In 2008, Teal paid out dividends of $100,000. In preparing Mallard's consolidated financial statements, what elimination is required for the dividends?

A) Reduce dividends declared by $75,000; reduce dividend income by $75,000.

B) Reduce dividends declared by $100,000; reduce dividend income by $100,000.

C) Reduce dividends declared by $100,000; reduce dividend income by $75,000; reduce non-controlling interest by $25,000.

D) Reduce dividend declared by $100,000; reduce dividend income by $75,000; increase non-controlling interest by $25,000.

Answer: C Page Ref: 317-320 Learning Obj.: 6.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 16) Mallard Ltd. acquired 75% of the outstanding common shares of Teal Ltd. at December 31, 20X1, for $900,000. Mallard has recorded its investment using the cost method. At the end of 20X7, Mallard still had $40,000 of goods purchased from Teal in its inventory and Teal had $50,000 of goods purchased from Mallard in its inventory. Both companies had gross margins of 50% in their sales of goods to each other and both companies sold these goods in 20X8. What journal entry should be made for Mallard's 20X8 consolidated financial statements with respect to the goods purchased from Teal that were still in Mallard's opening inventory?

A) DR Opening retained earnings 15,000 CR Opening NCI 5,000 CR Cost of sales 20,000 B) DR Opening retained earnings CR Opening NCI CR Cost of sales

30,000 10,000 40,000

C) DR Opening retained earnings CR Cost of sales

40,000 40,000

D) No adjustment is required as the profits have been realized.

Answer: A Page Ref: 311 Learning Obj.: 6.2 Difficulty: Moderate 17) Mallard Ltd. acquired 75% of the outstanding common shares of Teal Ltd. at December 31, 20X1, for $900,000. Mallard has recorded its investment using the cost method. In 20X8, Mallard sold goods to Teal for $260,000 at a gross margin of 30% and Teal sold goods to Mallard for $180,000 at a gross margin of 50%. At the end of 20X8, Mallard still had $60,000 in inventory of goods purchased from Teal and Teal still had $45,000 in inventory of goods purchased from Mallard. What adjustment should be made for Mallard's 20X8 consolidated financial statements with respect to goods sold to Teal that are still in ending inventory?

A) Decrease cost of sales by $13,500; decrease ending inventory by $10,125; increase non-controlling interest by $3,375.

B) Increase cost of sales by $13,500; decrease ending inventory by $10,125; increase non-controlling interest by $3,375.

C) Decrease cost of sales by $13,500; decrease ending inventory by $13,500.

D) Increase cost of sales by $13,500; decrease ending inventory by $13,500.

Answer: D Page Ref: 311 Learning Obj.: 6.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 18) Linville Ltd. owns 80% of the outstanding shares of Chance Co. On January 2, 20X1, Chance sold a machine to Linville for $270,000. Chance recorded a $45,000 gain on the sale. At the time of the sale, the machine had a remaining useful life of three years. Both companies use the straight-line method of depreciation. What amount should be shown for depreciation expense on Linville's consolidated statement of comprehensive income at December 31, 20X1?

A) $15,000 B) $72,000 C) $75,000 D) $90,000 Answer: C Page Ref: 312-313 Learning Obj.: 6.1, 6.2 Difficulty: Moderate 19) Cooper Ltd. acquired 70% of the common shares of Effy Ltd. at January 2, 20X1. At December 31, 20X3, Effy sold a machine to Cooper for $180,000. Effy had purchased the machine a few years earlier for $250,000. At the time of sale to Cooper, the machine had a carrying value of $150,000 and a remaining useful life of six years. Both companies do not claim depreciation for assets purchased in the second half of the year. For Cooper's December 31, 20X3, separate-entry financial statements, what net book value should be shown for the machine?

A) $125,000 B) $150,000 C) $180,000 D) $250,000 Answer: C Page Ref: 312-313 Learning Obj.: 6.1 Difficulty: Easy 20) Tooker Co. acquired 80% of the outstanding common shares of Vu Ltd. There were no fair value increments or goodwill that arose with the purchase. During 20X1, Tooker sold $7,000 of inventory to Vu for a gross profit of 40%. At the end of 20X1, $3,000 of the inventory is still in Vu's inventory. On their separate-entity income statements for 20X1, Tooker and Vu reported net income of $4,200 and $3,100, respectively. What is the non-controlling interest's share of consolidated net income at the end of 20X1?

A) $620 B) $840 C) $1,220 D) $1,460 Answer: A Page Ref: 311, 318, 319 Learning Obj.: 6.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 21) Cooper Ltd. acquired 70% of the common shares of Effy Ltd. at January 2, 20X1. At December 31, 20X3, Effy sold a machine to Cooper for $180,000. Effy had purchased the machine a few years earlier for $250,000. At the time of sale to Cooper, the machine had a carrying value of $150,000 and a remaining useful life of six years. Both companies do not claim amortization for assets purchased in the second half of the year. For Cooper's December 31, 20X3, consolidated financial statements, what net book value should be shown for the machine?

A) $125,000 B) $150,000 C) $180,000 D) $250,000 Answer: B Page Ref: 312 Learning Obj.: 6.2 Difficulty: Moderate 22) Tooker Co. acquired 80% of the outstanding common shares of Vu Ltd. There were no fair value increments or goodwill that arose with the purchase. During 20X1, Tooker sold $7,000 of inventory to Vu for a gross profit of 40%. At the end of 20X1, $3,000 of the inventory is still in Vu's inventory. On their separate-entity income statements for 20X1, Tooker and Vu reported the following:

Sales Cost of sales Operating expenses Net income

Tooker $38,000 26,400 5,200 $6,400

Vu $15,000 8,500 3,600 $2,900

Vu sold all the goods from Tooker that were in its opening inventory. There were no sales between Tooker and Vu in 20X2. What is the non-controlling interest's share of consolidated net income at the end of 20X2?

A) $580 B) $1,620 C) $1,860 D) $2,100 Answer: A Page Ref: 313-317 Learning Obj.: 6.2 Difficulty: Moderate 23) In calculating the non-controlling interest in earnings, what is one of the adjustments that must be made to the subsidiary's separate-entity earnings before the NCI percentage can be applied?

A) Adjust for only realized profits from upstream sales.

B) Adjust for only unrealized profits from upstream sales.

C) Adjust for both realized and unrealized profits from upstream sales.

D) Adjust for both realized and unrealized profits from downstream sales.

Answer: C Page Ref: 317 Learning Obj.: 6.2 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Difficulty: Moderate 24) The calculation of the NCI on the consolidated SFP starts with the NCI's share of the subsidiary's net assets at the SFP date. Which of the following is not an adjustment that should be made in calculating the ending NCI balance?

A) Unamortized acquisitional fair value adjustments B) Unrealized profit from upstream sales of capital assets C) Unrealized profit from upstream sales of inventory D) Unrealized profit from downstream sales of inventory Answer: D Page Ref: 318-319 Learning Obj.: 6.2 Difficulty: Moderate 25) On the consolidated statement of financial position, which balances differ between the parentcompany extension method and the entity method?

A) Retained earnings and goodwill B) Retained earnings and non-controlling interest C) Goodwill and non-controlling interest D) Common shares and retained earnings Answer: C Page Ref: 321 Learning Obj.: 6.2 Difficulty: Moderate 26) Fox Co. acquired 60% of Sox Co. for $900,000. At the acquisition date, Sox had net assets with a book value of $950,000 and a fair value of $1,200,000. What is the amount of goodwill that should be reported on the consolidated SFP under the parent-company extension method and under the entity method?

Parent-company extension A) $ 0 B) $ 0 C) $120,000 D) $300,000 Answer: A Page Ref: 321 Learning Obj.: 6.2 Difficulty: Moderate

Entity $180,000 $300,000 $180,000 $300,000

27) A parent company uses the equity method to record its investment in its subsidiary. To check the balance of the consolidated retained earnings, what amount should be added to the parent company's separate-entity retained earnings?

A) Balance of the equity in the earnings of the subsidiary account B) Net income from the subsidiary company's separate-entity statement of income C) Balance of the investment account D) Increase in the balance of the investment account Answer: D Page Ref: 322 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Learning Obj.: 6.3 Difficulty: Moderate 28) When investments in associate or joint ventures are reported using the equity method, IFRS requires the application of ________.

A) proprietary theory B) parent-company theory C) parent-company extension theory D) entity theory Answer: A Page Ref: 323, 228-229 Learning Obj.: 6.3 Difficulty: Moderate 29) Basil Ltd. has an 80% interest in a joint venture. Under IFRS, what is attributed to the Basil?

A) 80% of the realized and unrealized gains and losses arising from upstream sales B) 80% of the realized and unrealized gains and losses arising from downstream sales C) 100% of the realized and unrealized gains and losses arising from upstream sales D) 100% of the realized and unrealized gains and losses arising from downstream sales Answer: B Page Ref: 323-324 Learning Obj.: 6.3 Difficulty: Moderate 30) A parent company can record its investment in a subsidiary using either the cost or the equity method. Which account will appear on the financial statements under the equity method, but not under the cost method?

A) Investment in subsidiary B) Unamortized fair value adjustments C) Equity earnings of subsidiary D) Goodwill Answer: C Page Ref: 324-325 Learning Obj.: 6.4 Difficulty: Moderate 31) Farm owns 70% of the common shares of XL and accounts for its investment using the cost method. In 20X6, Farm purchased equipment from XL for $300,000. The equipment had been purchased by XL for $420,000 in 20X2, had accumulated depreciation of $168,000 and a six-year remaining life at December 31, 20X5. Both companies record a full year of depreciation expense in the year of the purchase and no depreciation in the year of a sale.

Required: Indicate the consolidation adjustments to the following accounts for the years ended 20X6, 20X8, and 20X11: • Depreciation expense • Net book value of equipment .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach • Non-controlling interest on statement of comprehensive income • Non-controlling interest on statement of financial position • Retained earnings, end of year Answer: Proceeds on upstream sale $300,000 Net book value of equipment 252,000 Gain on sale $48,000 Excess depreciation per year $8,000 The consolidated adjustments (in 000s) would be as follows:

Total gain on sale at time of sale Realized to date through depreciation Unrealized gain to date NCI's portion of unrealized gain to date (30%) Retained earnings impact (70%) Net impact on net income NCI's portion of net income impact 30% Page Ref: 300-303 Learning Obj.: 6.1 Difficulty: Moderate

20X6 $ (48,000) 8,000 ( 1 year) (40,000)

20X8 $ (48,000) 24,000 (3 years) (24,000)

20X11 $ (48,000) 48,000 (6 years) 0

(12,000) (28,000) (40,000) (12,000)

(7,200) (16,800) $8,000 $2,400

0 0 $8,000 $2,400

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 32) On January 1, 20X5, PX's shareholders' equity was as follows: Common shares Retained earnings

$40,000 140,000 $180,000

GL held 90% of the 8,000 outstanding shares of PX on January 1, 20X5, and its investment in PX account had a balance of $252,000 on that date. GL accounts for its investment in its subsidiary by the equity method using the entity approach. At the time of acquisition of PX, the only fair value increment arising was due to the patent, which had a remaining life of five years on January 1, 20X5.

The following transactions took place subsequent to January 1, 20X5: • During 20X5, PX reported a net income of $80,000 (earned equally throughout the year).

• PX declared dividends of $10,000 on September 1.

• During 20X6, PX reported a net income of $76,000 and paid dividends of $16,000 on December 1.

• During 20X6, PX sold equipment to GL for $140,000. At the time, the net book value of the equipment to PX was $100,000. There are four years remaining on the useful life of the equipment. Both companies record a full year of depreciation expense in the year of the purchase and no depreciation in the year of a sale.

Required: Assuming that no value is assigned to patents on the separate-entity financial statements for GL and PX, calculate patents on the consolidated balance sheet at December 31, 20X6.

Calculate the allocation of the consolidated net income to the non-controlling interest for each of 20X5 and 20X6.

Answer: Calculation of patents balance at Dec 31, 20X6 Investment account, Jan. 1, 2005–date of acquisition Fair value of 100% of PX (252,000/0.9) Less: Net book value of PX's shareholders' equity Patents, Jan. 1, 20X5

$252,000 $280,000 180,000 $100,000

Less amortization of fair value increment for two years 20X5 and 20X6 $100,000/5 × 2 =

(40000)

Consolidated balance–December 31, 20X6

$60,000

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Calculation of non-controlling interest's portion of net income: 20X6–Gain on upstream sale of equipment (140,000 - 100,000) = $40,000 Four years remaining Amount of excess depreciation recorded each year: $40,000/4 = $10,000, commencing in 20X6

Net income for PX–separate entity Less fair value increment amortization of patent Unrealized gain on upstream sale of equipment in 20X6 Excess depreciation–realized portion of gain in each year Adjusted net income NCI's portion 10% Page Ref: 300-303 Learning Obj.: 6.1 Difficulty: Moderate

20X5 $ 80,000 (20,000)

20X6 $ 76,000 (20,000) (40,000)

60,000 6,000

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10,000 26,000 2,600

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 33) Prawn Corporation owns 80% of the outstanding voting shares of Shrimp Corporation, having acquired its interest January 1, 20X3, for $100,000. At the time of the acquisition, Shrimp Corporation had a shareholders' equity totalling $50,000, made up of retained earnings of $30,000 and common shares of $20,000. The following accounts had fair values higher (or lower) than its carrying values: Inventory fair value is $10,000 higher than carrying value.

Equipment fair value is $40,000 higher than carrying value.

Land fair value is $20,000 lower than carrying value.

The equipment had a remaining useful life at the time of acquisition of five years.

The company uses the entity approach to determine the amount of goodwill. Prawn accounts for its investment in Shrimp using the cost method.

Statement of Comprehensive Income Year Ended December 31, 20X6 (in thousands of $'s)

Sales Gain on sale of land and buildings Dividend income Total revenue Cost of goods sold Operating expenses Total expenses Net Income

Prawn $600 0 40 640

Shrimp $250 70 0 320

380 164 544 $96

134 80 214 $106

Statement of Changes in Equity–Partial–Retained Earnings Section Year Ended December 31, 20X6 (In thousands of $'s)

Opening retained earnings Net income Dividends Ending retained earnings

Prawn

Shrimp

$400 96 (100) $396

$100 106 (40) $166

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Additional Information: 1. Shrimp had reported a gain of $50,000, relating to land (40%) and building (60%) sold to Prawn on January 3, 20X6. These separate properties had not been owned on January 1, 20X3. Remaining useful life was expected to be 10 years at that time.

2. Shrimp sold other land to a non-related company at a gain of $20,000 on June 30, 20X6.

3. Intercompany sales and inventory data for 20X5 and 20X6:

Sales by Prawn to Shrimp Inventory not yet sold at end of year

20X5 $40,000 $20,000

20X6 $60,000 $35,000

Sales by Shrimp to Prawn Inventory not yet sold at end of year

$50,000 $10,000

$50,000 $40,000

Profit margins on sales by Prawn to Shrimp are 40%.

Profit margins on sales by Shrimp to Prawn are at 30%.

Required: Prepare a complete consolidated statement of comprehensive income for the year ending December 31, 20X6.

Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Page Ref: 296-303; 310-317 Learning Obj.: 6.1, 6.2 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 34) Prawn Corporation owns 80% of the outstanding voting shares of Shrimp Corporation, having acquired its interest January 1, 20X3, for $100,000. At the time of the acquisition, Shrimp Corporation had a shareholders' equity totalling $50,000, made up for retained earnings of $30,000 and common shares of $20,000. The following accounts had fair values higher (or lower) than its carrying values: Inventory fair value is $10,000 higher than carrying value.

Equipment fair value is $40,000 higher than carrying value.

Land fair value is $20,000 lower than carrying value.

The equipment had a remaining useful life at the time of acquisition of five years.

The company uses the entity approach to determine the amount of goodwill. Prawn accounts for its investment in Shrimp using the cost method.

Statement of Comprehensive Income Year Ended December 3, 20X6 (In thousands of $'s)

Sales Gain on sale of land and buildings Dividend income Total revenue Cost of goods sold Operating expenses Total expenses Net Income

Prawn $600 40 640

Shrimp $250 70 0 320

380 164 544 $96

134 80 214 $106

Statement of Changes in Equity–Partial–Retained Earnings section Year Ended December 3, 20X6 (In thousands of $'s)

Opening retained earnings Net income Dividends Ending retained earnings

Prawn $400 96 (100) $396

Shrimp $100 106 (40) $166

The balance of the land and buildings at December 31, 20X6, for Prawn totalled $895,000 and for Shrimp totalled $450,000.

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Additional Information: 1. Shrimp had reported a gain of $50,000, relating to land (40%) and building (60%) sold to Prawn on January 3, 20X6. These separate properties had not been owned on January 1, 20X3. Remaining useful life was expected to be 10 years at that time.

2. Shrimp sold other land to a non-related company at a gain of $20,000 on June 30, 20X6.

3. Intercompany sales and inventory data for 20X5 and 20X6:

Sales by Prawn to Shrimp Inventory not yet sold at end of year

20X5 $40,000 $20,000

20X6 $60,000 $35,000

Sales by Shrimp to Prawn Inventory not yet sold at end of year

$50,000 $10,000

$50,000 $40,000

Profit margins on sales by Prawn to Shrimp are 40%.

Profit margins on sales by Shrimp to Prawn are at 30%.

Required: Calculate the following consolidated balance as at December 31, 20X6: a. Retained earnings b. Land and buildings

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Answer:

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Page Ref: 296-303; 310-317 Learning Obj.: 6.1, 6.2 Difficulty: Difficult

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 35) Lobes Co. owns 65% of Banes Limited. During 20X5, Banes sold equipment to Lobes for a gain of $150,000, recognizing a gain on sale (before taxes) of $75,000. Lobes determined that the equipment had a useful life of 10 years, and took a full year's deprecation in 20X5. On April 1, 20X8, Lobes sold the equipment to an unaffiliated company for $110,000. Ignore any taxes.

Required: Prepare the appropriate consolidation adjustments relating to the equipment for each year ending December 31, 20X5, to 20X8.

Answer: This is an upstream sale, and therefore there is an impact on the non-controlling interest.

The various adjustments are provided in journal entry format below: 20X5: Gain on sale of equipment Equipment Accumulated depreciation Depreciation expense

$75,000 $75,000 7,500 7,500

The net impact of the above adjustments on net income will be to decrease it by $67,500. Of this amount, 35% (i.e. $23,625) is attributable to the NCI, while the rest belongs to the owners of the parent.

20X6: Retained earnings, opening NCI Accumulated depreciation Equipment Accumulated depreciation Depreciation expense

43,875 23,625 7,500 75,000 7,500 7,500

The decrease in the depreciation expense of $7,500 will increase net income by that amount. Of this amount, $2,625 is attributable to the NCI, while the rest is attributable to the owners of the parent.

20X7: Retained earnings, opening NCI Accumulated depreciation Equipment Accumulated depreciation Depreciation expense

39,000 21,000 15,000 75,000 7,500 7,500

Again, the decrease in depreciation expense of $7,500 will increase net income by that amount. Of this amount, $2,625 is attributable to the NCI, while the rest is attributable to the owners of the parent.

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6-23

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 20X8: Retained earnings, opening NCI Accumulated depreciation Equipment

34,125 18,375 22,500 75,000

Accumulated depreciation 1,875 Depreciation expense (assuming three months' depreciation is taken) Equipment Accumulated depreciation Gain on sale of equipment

1,875

75,000 24,375 50,625

The overall impact of the above entries on net income will be to increase it by $52,500 × 35% (i.e. $18,375) attributable to the NCI, while the rest is attributable to the owners of the parent.

Page Ref: 297-300 Learning Obj.: 6.1 Difficulty: Moderate

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6-24

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 36) Bowen Limited purchased 60% of Sloch Co. when Sloch's reported retained earnings were $330,000.

Bowen also owns 80% in Zeek Limited, which was purchased when Zeek reported retained earnings of $575,000. For each acquisition, the purchase price was equal to the fair value of the identifiable net assets, which was the same as the carrying value of their carrying values.

An analysis of the changes in retained earnings of the three companies during the year 20X7 gives the following results:

Sloch sells product to Bowen that is used in Bowen's production. Bowen will then sell part of its products to Zeek.

Intercompany profits on sales from Sloch to Bowen were $25,000 included in January 1, 20X7, inventory, and $40,000 included in December 31, 20X7, inventory.

Intercompany profits included on sales from Bowen to Zeek were $31,000 included in January 1, 20X7, inventory, and $35,000 included in December 31, 20X7 inventory.

During 20X5, Bowen sold a building to Zeek for a gain of $300,000. The building had a remaining life of 25 years. During 20X7, Sloch sold a building to Bowen for a gain of $75,000. This building has a useful remaining life of 15 years. Full depreciation was recorded in the year of acquisition by each company and no depreciation was recorded in the year of sale.

Required: Calculate the consolidated net income for the year ended December 31, 20X6. Determine the allocation between the NCI and owners of the parent.

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6-25

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Answer: Realized and unrealized profits Realized profits in inventory from downstream sales (Bowen to Zeek) Realized profits in inventory from upstream sales (Sloch to Bowen)

$31,000 $25,000

Unrealized profits in inventory from downstream sales (Bowen to Zeek) $35,000 Unrealized profits in inventory from upstream sales (Sloch to Bowen) $40,000 20X5—Unrealized sale of building downstream sale $300,000 Excess depreciation each year $300,000/25 = $12,000 annually 20X7—Unrealized sale of building upstream sale $75,000 (Sloch to Bowen) Excess depreciation each year $75,000/15 = $5,000 annually Intercompany dividends: Sloch dividends paid $200,000; $120,000 paid to Bowen (60%) Zeek dividends paid $100,000; $80,000 paid to Bowen (80%)

Non-controlling interests for Sloch: 40% ×$275,000 ($360,000 +25,000-40,000-75,000+5,000) = 110,000 Non-controlling interests for Zeek: 20% × $275,000 = $55,000 Total non-controlling interests: $165,000 Page Ref: 297-304 Learning Obj.: 6.1 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Difficulty: Moderate

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6-27

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 37) Bowen Limited purchased 60% of Sloch Co. when Sloch's reported retained earnings were $330,000 and its share capital was $200,000. Bowen also owns 80% in Zeek Limited, which was purchased when Zeek reported retained earnings of $575,000 and had share capital of $270,000. For each acquisition, the purchase price was equal to the fair value of the identifiable net assets, which was the same as the carrying value of their carrying values.

An analysis of the changes in retained earnings of the three companies at December 31, 20X7, was:

Sloch sells product to Bowen that is used in Bowen's production. Bowen will then sell part of its products to Zeek.

Intercompany profits included on sales from Sloch to Bowen were $25,000 included in January 1, 20X7, inventory, and $40,000 included in December 31, 20X7, inventory.

Intercompany profits included on sales from Bowen to Zeek were $31,000 included in January 1, 20X7, inventory, and $35,000 included in December 31, 20X7, inventory.

During 20X5, Bowen sold a building to Zeek for a gain of $300,000. The building had a remaining life of 25 years. During 20X7, Sloch sold a building to Bowen for a gain of $75,000. This building has a useful remaining life of 15 years. Full depreciation was recorded in the year of acquisition by each company and no depreciation was recorded in the year of sale.

Required: Calculate the consolidated retained earnings and balance of the non-controlling interest at December 31, 20X7.

Answer: Realized and unrealized profits Realized profits in inventory from downstream sales (Bowen to Zeek) $31,000 Realized profits in inventory from upstream sales (Sloch to Bowen) $25,000 Unrealized profits in inventory from downstream sales (Bowen to Zeek) $35,000 Unrealized profits in inventory from upstream sales (Sloch to Bowen) $40,000 20X5—Unrealized sale of building downstream sale $300,000 Excess depreciation each year $300,000/25 = $12,000 annually 20X7—Unrealized sale of building upstream sale $75,000 (Sloch to Bowen) Excess depreciation each year $75,000/15 = $5,000 annually .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Intercompany dividends: Sloch dividends paid $200,000; $120,000 paid to Bowen (60%) Zeek dividends paid $100,000; $80,000 paid to Bowen (80%)

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6-29

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Page Ref: 265-270; 272-288, 320-321 Learning Obj.: 6.1, 6.2 Difficulty: Difficult

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6-30

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 38) On September 1, 20X5, Hot Limited decided to buy 80% of the shares outstanding of Cold Inc. for $850,000. Hot paid for this acquisition by using cash of $500,000 and marketable securities for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, Hot determines that some of the assets of Cold have fair values different from their carrying values. These items are listed below: • Inventory has a fair value of $130,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• A trademark has a fair value of $300,000. The trademark is estimated to have a useful life of 15 years.

• The bonds payable have a fair value of $720,000 and are due on August 31, 20X9.

During the 20X9 fiscal year, the following events occurred: 1. Hot sold merchandise to Cold for $200,000. Profit margin on these sales was 30%. Cold still has inventory on hand of $70,000. Included in the opening inventory of Cold for 20X9 is merchandise purchased from Hot in 20X8 for $150,000. The gross profit margin on these sales was 30% 2. Cold sold merchandise to Hot for $500,000. The gross margin on these sales was 40%. At the end of the year, $180,000 of this was still in Hot's inventory and Hot still owed $100,000 on these sales. Included in the opening inventory of Hot for 20X9 was merchandise purchased from Cold in 20X8 for $230,000.

The profit margin on these sales was 30%.

3. During 20X9, Cold sold to Hot equipment resulting in a gain to Cold of $75,000. At the time, the original cost and accumulated depreciation to date for the equipment on Cold's books were $510,000 and 160,000. The remaining useful life for this equipment is 15 years. Depreciation is fully recorded in the year of purchase, and no depreciation is recorded in the year of disposal by both companies.

4. During 20X9, Cold paid management fees of $450,000 to Hot. 5. During 20X9, Cold paid dividends of $400,000 and Hot paid dividends of $600,000. .

6-31

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Required: Prepare the consolidated statement of financial position for Hot at August 31, 20X9. Calculate the closing balance for the retained earnings and the non-controlling interest. The company used the entity method to determine goodwill for this acquisition. .

6-32

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Answer:

NCI portion is 20% × 1,062,500 = 212,500 Eliminate intercompany transactions for 20X9 Intercompany transactions and balances Downstream sales by Hot $200,000 Upstream sales of inventory by Cold $500,000 Accounts receivable/accounts payable $100,000 Recognize realized and unrealized profits Realized profit on downstream sale of inventory in 20X8 ($150,000 × 30%) $45,000 Realized profit on upstream sale of inventory in 20X8 ($230,000 × 30%) $69,000 Unrealized profit on downstream sale of inventory in 20X9 (70,000 × 30%) $21,000 Unrealized profit on upstream sale of inventory in 20X9 (180,000 × 40%) $72,000 Unrealized gain on upstream sale of equipment in 20X9 Unrealized gain on sale $75,000 Realized through excess depreciation $75,000/15 = $5,000 .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

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6-34

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Closing balance of NCI at August 31, 20X9 Balance at date of acquisition Retained earnings balance of Cold–August 31, 20X9 Retained earnings balance of Cold at time of acquisition Change in carrying value of Cold since acquisition Adjustments: Amortization of fair value increments Unrealized profit on upstream sales of inventory Unrealized gain on sale of equipment Realized portion of gain on sale of equipment Adjusted retained earnings NCI's share 20%

$212,500 $985,000 (270,000) $715,000 (18,000) (72,000) (75,000) 5,000 $555,000 111,000

Ending balance August 31, 20X9

$323,500

Closing balance of retained earnings at August 31, 20X9 Retained earnings–separate entity– Hot–August 31, 20X9 Less unrealized profit on downstream sale of inventory Adjusted separate entity retained earnings Retained earnings balance of Cold–August 31, 20X9 Retained earnings balance of Cold at time of acquisition Change in carrying value of Cold since acquisition Adjustments: Amortization of fair value increments Unrealized profit on upstream sales of inventory Unrealized gain on sale of equipment Realized portion of gain on sale of equipment Adjusted retained earnings NCI's share 80% Closing balance–August 31, 20X9 Page Ref: 297-318 Learning Obj.: 6.1, 6.2 Difficulty: Moderate

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6-35

$1,145,000 (21,000) $1,124,000 $985,000 (270,000) $715,000 (18,000) (72,000) (75,000) 5,000 $555,000 444,000 $1,568,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 39) On September 1, 20X5, Hot Limited decided to buy 80% of the shares outstanding of Cold Inc. for $850,000. Hot paid for this acquisition by using cash of $500,000 and marketable securities for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, Hot determines that some of the assets of Cold have fair values different from their carrying values. These items are listed below: • Inventory has a fair value of $130,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• A trademark has a fair value of $300,000. The trademark is estimated to have a useful life of 15 years.

• The bonds payable have a fair value of $720,000 and are due on August 31, 20X9.

During the 20X9 fiscal year, the following events occurred: 1. Hot sold merchandise to Cold for $200,000. Profit margin on these sales was 30%. Cold still has inventory on hand of $70,000. Included in the opening inventory of Cold for 20X9 is merchandise purchased from Hot in 20X8 for $150,000. The gross profit margin on these sales was 30% 2. Cold sold merchandise to Hot for $500,000. The gross margin on these sales was 40%. At the end of the year, $180,000 of this was still in Hot's inventory. Included in the opening inventory of Hot for 20X9 was merchandise purchased from Cold in 20X8 for $230,000. The profit margin on these sales was 30%.

3. During 20X9, Cold sold to Hot equipment resulting in a gain to Cold of $75,000. At the time, the original cost and accumulated depreciation to date for the equipment on Cold's books were $510,000 and 160,000. The remaining useful life for this equipment is 15 years. Depreciation is fully recorded in the year of purchase and no depreciation is recorded in the year of disposal by both companies.

4. During 20X9, Cold paid management fees of $450,000 to Hot. 5. During 20X9, Cold paid dividends of $400,000 and Hot paid dividends of $600,000. .

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

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6-37

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Required: Prepare the consolidated statement of comprehensive income and the consolidated statement of changes in equity—partial section for retained earnings for Hot at August 31, 20X9.

Calculate the non-controlling interest's portion of net earnings for the year. Calculate the opening retained earnings balance at August 31, 20X8.

The company uses the parent-company extension approach to determining goodwill.

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6-38

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Answer:

NCI at date of acquisition 20% × 990,000 = $198,000 Eliminate intercompany transactions for 20X9 Intercompany transactions and balances Downstream sales by Hot Upstream sales of inventory by Cold Dividends paid by Cold $400,000; portion paid to Holt (80%)

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6-39

$200,000 $500,000 $320,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Recognize realized and unrealized profits Realized profit on downstream sale of inventory in 20X8 ($150,000 × 30%)

$45,000

Realized profit on upstream sale of inventory in 20X8 ($230,000 × 30%)

$69,000

Unrealized profit on downstream sale of inventory in 20X9 (70,000 × 30%) Unrealized profit on upstream sale of inventory in 20X9 (180,000 × 40%) Unrealized gain on upstream sale of equipment in 20X9 Unrealized gain on sale $75,000 Realized through excess depreciation $75,000/15 = $5,000

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6-40

$21,000 $72,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

NCI's portion of consolidated net earnings Net earnings for Cold–separate entity Adjustments: Amortization of fair value increments for 20X9 Realized profit on upstream sales of inventory Unrealized profit on upstream sales of inventory Unrealized gain on sale of equipment Realized portion of gain on sale of equipment Adjusted net earnings

$640,000 (9,500) 69,000 (72,000) (75,000) 5,000 $557,500

NCI's share 20%

$111,500

Closing balance of retained earnings at August 31, 20X8 Retained earnings–separate entity–Hot–August 31, 20X8 Less unrealized profit on downstream sale of inventory Adjusted separate entity retained earnings Retained earnings balance of Cold–August 31, 20X8 Retained earnings balance of Cold at time of acquisition Change in carrying value of Cold since acquisition Adjustments: Amortization of fair value increments 20X6-20X8 Unrealized profit on upstream sales of inventory Adjusted retained earnings Hot's share 80% Closing balance–August 31, 20X8

$455,000 (45,000) $410,000 $745,000 (270,000) $475,000 (8,500) (69,000) $397,500 318,000 $728,000

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6-41

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Page Ref: 297-318 Learning Obj.: 6.1, 6.2 Difficulty: Difficult

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6-42

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 40) On September 1, 20X5, Frank Limited decided to buy 70% of the shares outstanding of Jake Inc. for $840,000. Frank paid for this acquisition by using cash of $500,000 and marketable securities for the remaining amount. The balances showing on the statement of financial position for the two companies at August 31, 20X5, are as follows:

After a review of the financial assets and liabilities, Frank determines that some of the assets of Jake have fair values different from their carrying values. These items are listed below: • Inventory has a fair value of $130,000.

• The building has a fair value of $1,090,000. The remaining useful life of the building is 20 years.

• A customer list has a fair value of $200,000. The trademark is estimated to have a useful life of 10 years.

• The bonds payable have a fair value of $720,000 and are due on August 31, 20X9.

During the 20X9 fiscal year, the following events occurred: 1. Frank sold merchandise to Jake for $200,000. Profit margin on these sales is 30%. Jake still has inventory on hand of $70,000. Included in the opening inventory of Jake for 20X9 is merchandise purchased from Frank in 20X8 for $150,000. The gross profit margin on these sales was 30% 2. Jake sold merchandise to Frank for $500,000. The gross margin on these sales was 40%. At the end of the year, $180,000 of this was still in Frank's inventory. Included in the opening inventory of Frank for 20X9 was merchandise purchased from Jake in 20X8 for $230,000. The profit margin on these sales was 30%.

3. During 20X9, Jake sold to Frank equipment resulting in a gain to Jake of $75,000. At the time, the original cost and accumulated depreciation to date for the equipment on the Jake's books were $510,000 and 160,000. The remaining useful life for this equipment is 15 years. Depreciation is fully recorded in the year of purchase and no depreciation is recorded in the year of disposal by both companies.

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6-43

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach 4. During 20X9, Jake paid management fees of $450,000 to Frank.

5. During 20X9, Jake paid dividends of $400,000 and Frank paid dividends of $600,000.

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6-44

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach

Required: Calculate the balance in the investment in Jake account at August 31, 20X9, if the company accounted for this subsidiary using the equity basis.

Calculate the balance in the investment in Jake account at August 31, 20X9, if the company accounted for Jake as an associate using the proprietary theory basis for the equity method.

Explain the difference between the two balances.

Goodwill is determined using the parent-company extension approach.

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6-45

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Answer:

Eliminate intercompany transactions for 20X9 Intercompany transactions and balances Downstream sales by Frank Upstream sales of inventory by Jake Dividends paid by Jake $400,000; portion paid to Frank (70%)

$200,000 $500,000 $280,000

Recognize realized and unrealized profits Realized profit on downstream sale of inventory in 20X8 ($150,000 × 30%)

$45,000

Realized profit on upstream sale of inventory in 20X8 ($230,000 × 30%)

$69,000

Unrealized profit on downstream sale of inventory in 20X9 (70,000 × 30%) Unrealized profit on upstream sale of inventory in 20X9 (180,000 × 40%) Unrealized gain on downstream sale of equipment in 20X9 .

6-46

$21,000 $72,000

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Unrealized gain on sale $75,000 Realized through excess depreciation $75,000/15 = $5,000

Frank's investment in Sub Ltd. Initial investment at cost Equity in unremitted earnings of Jake Retained earnings balance of Jake–August 31, 20X9 Retained earnings balance of Jake at time of acquisition Change in carrying value of Jake since acquisition Adjustments: Amortization of fair value increments Unrealized profit on upstream sales of inventory Adjusted retained earnings Frank's share 70% Less unrealized profit on downstream sale of inventory Less unrealized profit on downstream sale of equipment Realized portion of gain on sale of equipment Closing balance–August 31, 20X9

$840,000 $985,000 (270,000) $715,000 (18,000) (72,000) $625,000 437,500 (21,000) (75,000) 5,000 $1,186,500

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6-47

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 6 Subsequent-Year Consolidations: General Approach Frank's investment in Associate Initial investment at cost Equity in unremitted earnings of Jake Retained earnings balance of Jake–August 31, 20X9 Retained earnings balance of Jake at time of acquisition Change in carrying value of Jake since acquisition Adjustments: Amortization of fair value increments Unrealized profit on upstream sales of inventory Adjusted retained earnings Less unrealized profit on downstream sale of inventory Unrealized downstream gain on sale of equipment Realized portion of gain on sale of equipment

Frank's share 70% × $534,000

$840,000 $985,000 (270,000) $715,000 (18,000) (72,000) $625,000 (21,000) (75,000) 5,000 $534,000 373,800

Closing balance–August 31, 20X9

$1,213,800

Difference of $27,300 ($1,186,500 - $1213,800) is due to the treatment of the unrealized profit on the downstream sales, which in the proprietary method is adjusted at 70%. So the difference is $91,000 × 30% = $27,300.

Page Ref: 322-324 Learning Obj.: 6.3 Difficulty: Difficult

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6-48

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6A Preferred and Restricted Shares of Investee Corporation 1) Under IFRS, which of the following statements is true?

A) Preferred shares must be classified as debt.

B) Preferred shares must be classified as equity.

C) Preferred shares can be classified as debt or equity depending on the rights attached to them.

D) Preferred shares can be classified as debt or equity at the option of the issuing company.

Answer: C Page Ref: 1 Difficulty: Moderate

2) A parent company owns a subsidiary's preferred and common shares. How should the acquisition of the preferred shares be treated?

A) In the same manner as common shares B) As a retirement of shares C) As an expense D) As a deduction from retained earnings Answer: B Page Ref: 3 Difficulty: Moderate

3) Restricted shares may have a cocktail provision. When might a coattail provision take effect?

A) When a company increases its dividends B) When a buyer tries to acquire control of a company C) When a company reacquires some of its shares D) When a company issues preferred shares Answer: B Page Ref: 4 Difficulty: Moderate

4) Ngo Ltd.'s subsidiary has restricted shares. What must Ngo look at in determining non-controlling interest?

A) Number of shares only B) Participation in earnings only C) Participation in dividends only D) Participation in earnings and dividends Answer: D Page Ref: 4 Difficulty: Moderate

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6A-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6A Preferred and Restricted Shares of Investee Corporation 5) On January 1, 20X9, Far Limited purchased 70% of the common shares of Near Limited for $54,900,000.

On the date of acquisition, Near's shareholders' equity was as follows: Common shares (1,000,000, no par value) Preferred shares (200,000, no par value, $3 dividend, callable at $65; cumulative and non-voting)

$5,000,000

11,500,000 14,600,000 $81,000,000

Retained earnings Total

The fair value of Near's assets on the date of acquisition equalled their carrying value, except for a trademark worth $500,000 that was not on Near's books. The trademark is estimated to have a useful life of 10 years. During the fiscal year ended December 31, 20X9, Near earned a net income of $1,700,000, and paid dividends of $800,000.

Required: What is the non-controlling interest on the consolidated statements of financial position at December 31, 20X9?

The company uses the entity approach to calculate goodwill.

Answer: Purchase price for 70% common shares Value of 100% common based on price for 70% Carrying value of net identifiable assets Less redemption value of preferred shares Carrying value of common shares Fair value increment for trademark

$54,900,000 $72,000,000 $81,000,000 (13,000,000) 68,000,000 500,000 68,500,000 $3,500,000

Fair value increment attributable to goodwill

Non-controlling interest on common shares at acquisition date 30% × $72,000,000 = $21,600,000 Non-controlling interest, December 31, 20X9 Non controlling interest in common shares: At date of acquisition Add net increase to retained earnings for Near for 20X9 (1,700,000–800,000) Unamortized fair value adjustment—trademark Amortization of fair value adjustment to date Adjusted earnings NCI's portion of adjusted earnings 30% × 1,350,000 Balance December 31, 20X9

$21,600,000 900,000 500,000 (50,000) 1,350,000 405,000 22,005,000

Page Ref: 1-2 Difficulty: Moderate

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6A-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6B Intercompany Bond Holdings 1) For gains on intercompany bond holdings, which method of allocating the gain emphasizes substance over form?

A) Allocating the gain to the parent company as the parent company has ultimate control B) Allocating the gain to the bond purchasing company as the bonds will be retired under consolidation C) Allocating the gain to the bond issuing company under the agency approach D) Allocating the gain between the issuing and purchasing companies under the par-value approach Answer: C Page Ref: 15 Difficulty: Moderate

2) Gill Ltd. is the wholly owned subsidiary of Basaraba Ltd. Gill purchased all of Basaraba's outstanding bond issue on the open market at a discount. The bonds have an unamortized premium attached. This transaction, in effect, retires the bond and results in a gain. How should the gain be shown?

A) It will appear on Basaraba's separate-entity statement of comprehensive income only.

B) It will appear on both Basaraba's separate-entity and consolidated statements of comprehensive income.

C) It will appear on Basaraba's consolidated statement of comprehensive income only.

D) It will be added to the value of the bonds payable on Basaraba's statement of financial position.

Answer: C Page Ref: 13-14 Difficulty: Moderate

3) Basaraba Ltd. owns 75% of the outstanding common shares of Gill Ltd. Gill purchased all of Basaraba's outstanding bond issue on the open market at a discount. The bonds have an unamortized premium attached. This transaction, in effect, retires the bond and results in a gain. Under the par-value approach to dealing with a gain on elimination of intercompany bond holdings, which of the following statements is true?

A) The gain is allocated all to the purchaser.

B) The gain is allocated all to the issuer.

C) The gain is allocated to both the purchaser and issuer as though they do not have any affiliation with each other.

D) The gain is eliminated on consolidation.

Answer: C Page Ref: 15 Difficulty: Moderate

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6B-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6B Intercompany Bond Holdings 4) Basaraba Ltd. Owns 80% of the outstanding common shares of Gill Ltd. Gill purchased all of Basaraba's outstanding bond issue on the open market at a discount. The bonds have an unamortized premium attached. This transaction, in effect, retires the bond and results in a gain. Under the agency approach to dealing with a gain on elimination of intercompany bond holdings, which of the following statements is true?

A) The gain would be assigned to Basaraba.

B) The gain would be assigned to Gill.

C) The gain is assigned partially to Basaraba and partially to Gill.

D) The gain is eliminated on consolidation.

Answer: A Page Ref: 17 Difficulty: Moderate

5) A subsidiary has purchased some bonds from its parent company. Under the par-value method, the non-controlling interest is allocated its share of the difference between ________.

A) the bond's market value and face value B) the bond's face value and its carrying value on the subsidiary's books C) the bond's market value and its carrying value on the subsidiary's books D) the bond's par value and carrying value Answer: B Page Ref: 17 Difficulty: Difficult

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6B-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6B Intercompany Bond Holdings 6) Soft Limited owns 70% of the shares of Hard Co. On January 1, 20X5, Hard Co. issued $1,000,000 bonds payable at 6%, due on December 31, 20X10. The bonds were issued for $907,542, representing a yield of 8%. The interest is paid annually on December 31. On January 1, 20X6, Soft purchased $300,000 face value of Hard bonds for $287,700 when the bonds were yielding 7%.

Required: Both companies use the effective interest rate to amortize the bonds. Prepare the eliminating journal entries relating to the bonds as they would appear on the consolidated worksheet. The agency method is used. Calculate the consolidated bonds payable account at December 31, 20X6, assuming there are no other bonds outstanding.

Answer: Determine bonds payable balance on Hard's books at January 1, 20X6, and December 31, 20X6, using the effective interest rate method.

Balance at January 1, 20X6, of $300,000 face value bonds is: 300/1,000 × $920,145 = $276,044 Balance at December 31, 20X6, of $300,000 face value bonds is: 300/1000 × $933,757 = $280,127 Interest expense on $300,000 face value bonds in 20X6 300/1000 × $73,612= $22,083 Balance remaining for the $700,000 face value bonds: 700/1000 × 933,757 = $653,630 Bonds receivable balance on Soft's books, using the effective interest rate method to amortize:

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6B-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Online Appendix 6B Intercompany Bond Holdings 20X6: Gain on redemption of bonds at time of purchase by Soft: Bonds payable 276,044 Loss on retirement of bonds 11,656 Bonds investment At December 31, 20X6 Bonds payable Interest income Non-controlling interest (30%) Retained earnings (70%)

287,700

280,127 20,139 3,496 8,160

Bonds investment Interest expense

289,839 22,083

Balance in the bonds payable would be: Hard's balance - Bonds payable balance Soft's balance - Bonds investment Bonds payable–entry Bonds investment–entry Consolidated balance

$933,757 (289,839) (280,127) 289,839 653,630

Page Ref: 12-16 Difficulty: Moderate

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6B-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 1) Which of the following organizations does IFRS 8 not apply to?

A) Banks B) Mutual life insurance companies C) Private companies D) Cooperative business enterprises Answer: C Page Ref: 364 Learning Obj.: 7.1 Difficulty: Easy

2) Which of the following is not a requirement in defining an operating segment?

A) The particular component must be generating revenue.

B) The particular component's operating results must be reviewed regularly by responsible company officers.

C) The particular component's financial information is routinely available through the organization's financial reporting system.

D) The particular component incurs expenses in its normal cost of activities.

Answer: A Page Ref: 364-365 Learning Obj.: 7.1 Difficulty: Moderate

3) Which of the following is not an aspect in identifying an operating segment?

A) The business component's operating results are reviewed regularly by the enterprise's chief operating decision maker.

B) It is a component of the enterprise that is expected to generate revenues and expenses.

C) Discreet financial information on the business component is regularly available through the company's financial reporting system.

D) Other companies in the same industry use similar operating segments.

Answer: D Page Ref: 364-365 Learning Obj.: 7.1 Difficulty: Moderate

4) Which of the following is not a threshold for identifying a reportable segment?

A) The segment contributes at least 10% of the organization's total revenues.

B) The segment contributes at least 10% of the organization's operating profits.

C) The segment contributes at least 10% of the organization's combined assets of all operating segments.

D) The segment contributes at least 10% of the organization's total expenses.

Answer: D Page Ref: 367 Learning Obj.: 7.1 Difficulty: Moderate

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7-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 5) At least 75% of an organization's consolidated external revenues are disclosed by separate operating segments. The remaining segments do not meet any of the reportable segment thresholds. Which of the following is true about the remaining segments?

A) They must still be reported as separate segments.

B) They can be combined only if they have similar economic characteristics.

C) They can be combined only if the segments are horizontally or vertically integrated.

D) They can be combined and classified as "other."

Answer: D Page Ref: 367-369 Learning Obj.: 7.1 Difficulty: Moderate

6) The thresholds for segmental financial reporting exclude ________.

A) 10% of total internal and external revenues B) 10% of total internal and external expenses C) 10% of total assets D) 10% of the absolute value of the larger of aggregate segment profits or aggregate segment losses Answer: B Page Ref: 367 Learning Obj.: 7.1 Difficulty: Easy

7) Faulk Ltd. has provided the following information: Segment A B C D

Assets $60,000 120,000 120,000 30,000

Revenues $18,000 90,000 52,500 300,000

Profits $9,000 3,000 15,000 120,000

Under the profit test only, which segments are reportable?

A) Segment A only B) Segment C only C) Segments A and C only D) Segments C and D only Answer: D Page Ref: 367 Learning Obj.: 7.1 Difficulty: Moderate

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7-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 8) Faulk Ltd. has provided the following information: Segment A B C D

Assets $60,000 120,000 120,000 30,000

Revenues $18,000 90,000 52,500 300,000

Profits $9,000 3,000 15,000 120,000

Under the revenue test only, which segments are reportable?

A) Segments A and C only B) Segments B and D only C) Segments B, C, and D only D) All the segments are reportable.

Answer: C Page Ref: 367 Learning Obj.: 7.1 Difficulty: Moderate

9) Faulk Ltd. has provided the following information: Segment A B C D

Assets $60,000 120,000 120,000 30,000

Revenues $18,000 90,000 52,500 300,000

Profits $9,000 3,000 15,000 120,000

Under the asset test only, which segments are reportable?

A) Segments A, B, and C only B) Segments A and D only C) Segments B and C only D) All the segments are reportable.

Answer: A Page Ref: 367 Learning Obj.: 7.1 Difficulty: Moderate

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7-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 10) Faulk Ltd. has provided the following information: Segment A B C D

Assets $60,000 120,000 120,000 30,000

Revenues $18,000 90,000 52,500 300,000

Profits $9,000 3,000 15,000 120,000

Using all the applicable tests, which segments are reportable?

A) Segments B and C only B) Segments B, C, and D only C) Segment D only D) All the segments are reportable.

Answer: D Page Ref: 367 Learning Obj.: 7.1 Difficulty: Moderate

11) The following information on sales is available for the company's three operating segments: Segment A B C

International Sales $60,000 200,000 $260,000

External Sales $300,000 10,000 1,500,000 $1,810,000

Total Sales $360,000 210,000 1,500,000 $2,070,000

Which of the operating segments must be reported separately?

A) Only Segment C B) Only Segments B and C C) Only Segments A and C D) Segments A, B, and C Answer: D Page Ref: 369-371 Learning Obj.: 7.2 Difficulty: Moderate

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7-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 12) The following information on sales and operating profit is available for the company's three operating segments (in 000s):

Sales Operating profit

Segment D $6,000 $225

Segment E $1,000 $20

Segment F $10,000 $5

Total $17,000 $235

Which of the operating segments must be reported separately?

A) Only Segment E B) Only Segments D and F C) Only Segments E and F D) Segments D, E, and F Answer: B Page Ref: 369-371 Learning Obj.: 7.2 Difficulty: Moderate

13) An organization has identified the following segments: Segment A B C D E

Operating Profit (Loss) $(32,000) 108,000 95,000 (14,000) 21,000 $178,000

Which of the identifiable segments above are reportable?

A) Segments A, B, and C only B) Segments B, C, and E only C) Segments B and C only D) Segments A, B, C, and E only Answer: D Page Ref: 369-371 Learning Obj.: 7.2 Difficulty: Moderate

14) There is certain information that reportable segments are required to disclose only if that information is regularly reviewed by the chief operating decision-maker. Which of the following must be disclosed even if it is not regularly reviewed by the chief operating decision-maker?

A) Measure of profit/loss B) Amortization and depreciation C) Income tax expense/benefit D) Interest revenue and expense Answer: A Page Ref: 371-372 Learning Obj.: 7.2 Difficulty: Moderate

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7-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 15) Under IFRS 8, certain reconciliations, such as total reportable segment revenues to the entity's revenues, are required. Why are these reconciliations required?

A) To prove that the consolidated financial statements balance B) To ensure that all reportable segments have been identified C) To show the relative contribution of each segment to the total D) To show how reportable segments were identified Answer: C Page Ref: 372 Learning Obj.: 7.2 Difficulty: Moderate

16) IFRS 8 requires the disclosure of certain key information such as an organization's major customers and geographic areas of operations. Why are these disclosures required?

A) To demonstrate that the chief operating decision-maker has made prudent decisions B) To allow users to assess potential business risks C) To provide sufficient information to creditors D) To allow users to see that the poor performance of one segment is usually offset by the good performance of other segments Answer: B Page Ref: 371-372 Learning Obj.: 7.2 Difficulty: Moderate

17) What is the main objective in disclosing segmented information?

A) It provides a broader view of the entire economic entity controlled by the parent.

B) It provides information to assess the risk of different operating units.

C) It increases the income of different operating segments.

D) It reduces the cost of financial reporting.

Answer: B Page Ref: 371 Learning Obj.: 7.2 Difficulty: Easy

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7-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 18) Which of the following segment information must be disclosed?

A) Sales to single customers that Breakdown between domestic had more than 10% of and foreign non-current assets company's revenues Yes Yes B) Sales to single customers that Breakdown between domestic had more than 10% of and foreign non-current assets company's revenues Yes No C) Sales to single customers that Breakdown between domestic had more than 10% of and foreign non-current assets company's revenues No Yes D) Sales to single customers that Breakdown between domestic had more than 10% of and foreign non-current assets company's revenues No No Answer: A Page Ref: 371-372 Learning Obj.: 7.2 Difficulty: Moderate

19) Which organizations are required to issue interim financial statements?

A) Public companies B) Private enterprises C) Both public companies and private enterprises D) No organizations are required to issue interim financial statements.

Answer: A Page Ref: 379 Learning Obj.: 7.3 Difficulty: Easy

20) Which of the following statements about interim financial statements for public companies is true?

A) Interim financial statements must be audited.

B) Interim financial statements should be in a format consistent with the year-end financial statements.

C) Interim financial statements must have the same level of detail as the annual financial statements.

D) Interim financial statements do not have to be in full compliance with IFRS. Answer: B Page Ref: 379 Learning Obj.: 7.3

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7-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting Difficulty: Moderate

21) With respect to interim financial statements, which of the following is not dictated by IFRS? A) Content B) Identification of recognition principles C) Identification of measurement principles D) Frequency of preparation Answer: D Page Ref: 380 Learning Obj.: 7.3 Difficulty: Easy

22) Which of the following is not included among requirements for interim financial reports for public companies?

A) Statement of comprehensive income B) Statement of financial position C) Statement of cash flows D) Summary of significant accounting policies Answer: D Page Ref: 380-381 Learning Obj.: 7.3 Difficulty: Moderate

23) Rules for interim reporting require that comparative information be presented. What comparative information should the current statement of financial position include?

A) The same quarter, last year B) The immediate preceding quarter C) The year end, last year D) As budgeted for the period Answer: C Page Ref: 380-381 Learning Obj.: 7.3 Difficulty: Difficult

24) Yang Ltd. will issue interim financial statements for its second quarter. Which statement(s) must report details of the second quarter as well as for the year to date?

A) Statement of comprehensive income only B) Statement of changes in equity only C) Statement of comprehensive income and statement of changes in equity only D) Statement of comprehensive income, statement of changes in equity, and statement of cash flows only Answer: A Page Ref: 380-381 Learning Obj.: 7.3 Difficulty: Easy

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7-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 25) What is the difference between the way taxes are treated under the discreet approach and under the integral approach?

A) Under the discreet approach, taxes are estimated by applying an average tax rate to pre-tax interim net income, but taxes are calculated separately for each interim period under the integral approach.

B) Under the integral approach, taxes are estimated by applying an average tax rate to pre-tax interim net income, but taxes are calculated separately for each interim period under the discreet approach.

C) Under the discreet approach, taxes are recognized as they are incurred and paid, but under the integral approach, taxes are estimated by applying an average tax rate to pre-tax interim net income.

D) Under the integral approach, taxes are recognized as they are incurred and paid, but under the discreet approach, taxes are estimated by applying an average tax rate to pre-tax interim net income.

Answer: B Page Ref: 383-384 Learning Obj.: 7.4 Difficulty: Moderate

26) During the first quarter of the company's fiscal year, HA Inc. paid $100,000 to an arbitrator, who assisted in negotiating an end to a strike by factory workers, and $200,000 for annual property taxes. How much of these costs should be expensed in the first quarter under the discreet approach and under the integral approach?

A) Discreet Integral $400,000 $100,000 B) Discreet $150,000

Integral $150,000

C) Discreet $150,000

Integral $100,000

D) Discreet $100,000

Integral $150,000

Answer: B Page Ref: 383-384 Learning Obj.: 7.4 Difficulty: Difficult

27) When can benefits of an income tax loss in an interim period not be recognized in that period?

A) If the loss will be offset by taxable income later in that year B) If the loss can be used as a loss carryback C) If it is more likely than not that a tax loss carryforward benefit will be realized D) If the loss occurs in the first interim period Answer: D Page Ref: 385-386 Learning Obj.: 7.5

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7-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting Difficulty: Moderate

28) In practice, most companies use the discreet approach in preparing their internal interim financial statements. Which of the following costs is usually not included in the financial statements?

A) Insurance B) Income taxes C) Maintenance D) Bonuses to employees Answer: B Page Ref: 384 Learning Obj.: 7.4 Difficulty: Moderate

29) Under IAS 34, which of the following costs is not viewed as a constructive obligation?

A) Contingent lease payments in excess of a contractual base amount B) Year-end bonuses C) Quantity discounts or rebates D) Maintenance costs Answer: D Page Ref: 385 Learning Obj.: 7.5 Difficulty: Moderate

30) The recommendation for interim income tax expense requires the use of which of the following rates in the first quarter?

A) Estimated average B) Marginal C) Applicable progressive D) Loss carryforward Answer: A Page Ref: 385 Learning Obj.: 7.5 Difficulty: Moderate

31) In Canada and the United States, at a minimum, how often are interim financial statements required to be issued?

A) Monthly B) Bi-monthly C) Quarterly D) Semi-annually Answer: C Page Ref: 389 Learning Obj.: 7.3 Difficulty: Easy

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7-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 32) The Alfred Company has operations in several international regions. These regions reported the following information: Segment A B C D E

Revenues $3,500 4,000 1,100 2,800 1,400 $12,800

Profit $600 300 (200) 300 100 $1,100

Assets $9,000 6,000 2,400 10,400 2,000 $29,800

Which of these segments are reportable? Fully document all supporting calculations.

Answer: Revenue test Threshold $12,800 × 10% = $1,280 Reportable segments A, B, D, E

Profits test Threshold $1,100 × 10% = $110 Reportable segments A, B, C, D

Assets test Threshold $29,800 × 10% = $2,980 Reportable segments A, B, D Therefore, all segments must be reported separately as each segment qualifies under one or more of the threshold tests.

Page Ref: 367-369 Learning Obj.: 7.1 Difficulty: Moderate

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7-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 33) Ravens Inc. sells office furniture, including desks, chairs, partitioning walls, and office supplies, in more than six countries. The company is publicly traded and files annual statements with the securities regulator. The following information was provided by the controller for the most recent year ended December 31, 20X9.

Desks Chairs Partitions Office supplies

Canada United States Australia Europe Asia

Revenues (in millions) $75 40 115 10 $240 $75 109 30 15 11 $240

Required: Explain the nature of the disclosures that would be required by Ravens.

Answer: Ravens Inc. is a public company and must report segmented information as required by IFRS 8.

For entity-wide disclosures, public companies must disclose key information on types of products and services sold, even if these do not qualify as separate reportable segments. Ravens would then have to disclose the four types of revenues. In addition, companies are required to break down revenues by each material geographic segment. For geographic segments, if revenues are material, they should be disclosed separately. If we assume that 10% of revenue is material, then Canada, the United States, and Australia must be disclosed separately. For reportable segments where additional information would be required, (using the 10% of revenue threshold, which is $24 million), the segments for desk, chairs, and partitions must be disclosed separately. For these segments, information related to revenues, expenses, assets, and liabilities must be disclosed.

Page Ref: 367-372 Learning Obj.: 7.1, 7.2 Difficulty: Moderate

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7-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 34) The controller of Getaway Corporation has prepared and summarized the following information for her company (all in millions of $):

Hotels Car rentals Guided tours Bus tours Cruises Total

External sales 975 512 205 173 98 1,963

Inter-segment sales

Operating profit (loss) 89 65 (25) 11 (15) 125

100 50 150

Total assets 1,050 642 221 250 95 2,258

Required: Identify which segments are reportable. Also discuss any ethical issues related to reporting of segmented information.

Answer: (All discussion in millions of dollars.)

Based on total revenues (including external and internal) of $2,113, any segment with more than $211 of revenues will be reportable. This test results in hotels, car rentals, and bus tours being reportable based on the revenue.

Based on total profits, the threshold is 10% of $165 ($89 + $65 + $11), which is $16.50. Hotels, car rentals, and guided tours are reportable segments based on the profit threshold test.

Based on the asset threshold test, any segment with assets of $226 is reportable. Based on this test, only the hotels, car rentals, and bus tour segments are reportable.

Based on the above analysis hotels, car rentals, guided tours, and bus tours are reportable.

From an ethical perspective, companies may attempt to hide poor operating results by combining segments. It is up to management to define the segments, which could be based on products, services, geographies, or customers. It may be that segregation by products/services would show some segments to show losses and some profits. On the other hand, segmentation by customer type (business and residential, for example) might report all segments being profitable, which would provide a more favourable picture.

Page Ref: 364-369 Learning Obj.: 7.1 Difficulty: Moderate

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7-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 35) Explain what an operating segment is. For each of the examples below, determine what operating segments the company has and why. a. A beverage company sells beer, wine, and bottled water. The beer and wine are sold through liquor store outlets and directly to restaurants. The bottled water is sold to retailers. b. A company sells leather apparel. The company designs, manufactures, and retails these goods through its own retail outlets. There are primarily three divisions: (1) designing and sourcing and purchasing various raw materials; (2) manufacturing; and (3) distribution and retail. The design and raw materials flow through to the manufacturing division. All output of the manufacturing division is transferred to the distribution and retail division. Only the distribution and retail division has external revenues. The other divisions have internal revenues only. c. A drug company researches, manufactures, and distributes its drugs to pharmacies and hospitals in Canada, the United States, and Australia. It currently manufactures three drugs. Two of these drugs treat diabetes, and one drug is used to treat arthritic pain. The company has a fourth drug that is in phase three of the research process, awaiting final approval. This drug will also be used to treat pain, but mainly headache pain.

Answer: An operating segment is defined as having three criteria as outlined in IFRS 8: 1. It is a component of the enterprise that is expected to generate revenues and incur costs.

2. Discreet financial information is regularly available through the company's accounting system.

3. The business component's operating results are regularly reviewed by the chief operating decisionmaker.

First of all, we assume that all the divisions have discreet financial information available that is regularly reviewed by the chief operating decision maker. a. Beer and wine and bottled water could be seen as three separate operating segments, having separate managers and being distinct products. On the other hand, beer and wine are sold in the same markets to the same type of customer and could be grouped as alcoholic beverages. Bottled water would then be a separate operating segment. b. For the leather apparel company, there are three divisions, but all the output is sold by the distribution and retail division. There are no materials bought from external suppliers by the manufacturing or the distribution and retail division. Although each division does generate revenues and expenses, it is likely that they would all be aggregated together as a single vertically integrated segment, rather than as three separate segments. c. The company currently has four products, three of which produce revenue and one that is expected to generate revenue. So based on product lines, the company would possibly identify four segments.

However, based on the type of disease that these products are marketed to, there are two segments– diabetes and pain; or three segments–diabetes, arthritic pain, and headache pain. A final segmentation would be based on geographic markets: Canada, the United States, and Australia. The final determination of which segments to report would be based on how the assessment of the chief operating decision-maker.

Page Ref: 364-365 Learning Obj.: 7.1 Difficulty: Difficult

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7-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 36) Explain what entity-wide disclosures are required by a public company. Why is this disclosure required under IFRS 8, and how is this information useful?

Answer: Entity-wide disclosures are required to provide the user with information to assess the nature and financial results of the various principal activities that the company is involved in, as well as the business risks inherent in those activities. Business risk is dependent on the types of products and services that a company sells, as different products and services may be impacted by commodity prices, competitive pressures, and economic conditions. Specifically, the geographic areas in which companies operate impact foreign exchange rate risk, political risk, and inflationary risk. Another major risk is the extent to which an enterprise is dependent upon a few customers. Users need to know how reliant the company is on a few customers in order to assess customer risk and credit risk. Therefore, entity-wide disclosures are required on products and services that are sold, geographic areas that the company operates in, and any major customers.

1. Disclosure of the revenues for each segment's product and services is required.

2. For each geographic area, companies must disclose: • revenues from external customers in foreign countries; • revenues from external customers in the company's home country; • non-current assets located in foreign countries; and • non-current assets located in the company's home country.

Where the revenues or assets in an individual foreign country are material, they must be disclosed separately.

3. Finally, where a single customer represents 10% or more of the total revenues of the company, this fact and the related amounts of revenue must be disclosed. The name of the customer is not required.

Customers under common control are treated as a single customer.

Page Ref: 371-372 Learning Obj.: 7.2 Difficulty: Moderate

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7-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 37) HB Company is a private company with a significant amount of long-term debt. The company reports under IFRS. One of the conditions of the debt-financing indenture is that it must provide quarterly financial statements to the lender. HB pays tax at the rate of 20% on the first $200,000 of income and 40% on any income in excess of $200,000. During 20X5, the company earned $500,000 and paid tax at an average rate of 32%. Similar results were expected for 20X6.

HB realized the following actual results for the year ended December 31, 20X6 (in thousands): Quarter 1 2 3 4

Income (loss) $100 (150) 200 400

Required: Calculate income tax expense (recovery) for each quarter in 20X6 and for the year in total under the: a. discreet approach b. integral approach Answer: a. Discreet approach (in thousands) Quarter 1 2 3 4 Total

b.

Income 100 (100) (50) 50 150 50 350 550

Tax Rate 20% 20% 40% 40% 20% 20% 40%

200 350 550

20% 40%

Tax Expense $20 (20) (20) 20 30 10 140

Total $20 (40) 50 150 180

40 140 180

Integral approach (rounded to nearest thousand)

Quarter 1 2 3 4 Total

Income 100 (150) 200 400 550

Tax Rate 32.73% 32.73% 32.73% 32.73%

Tax Expense $33 (49) 65 131

Page Ref: 383-386 Learning Obj.: 7.4, 7.5 Difficulty: Difficult

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7-16

Total $33 (49) 65 131 180

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting

38) Blue Sky Inc. (BSI) is a public company that is required to file interim statements on a quarterly basis.

BSI has a loss carryforward available of $150,000, which has not been recognized as a deferred tax asset.

In the first interim period, the company earns $80,000, and it is expected that it will earn the following amounts in each of the next three quarters: $50,000 in quarter two, $170,000 in quarter three, and $200,000 in quarter four. The company pays a tax rate of 30%, excluding any loss carryforwards.

Required: Calculate the tax expense for each interim period assuming that the company follows the requirements of IAS 34.

Answer: The amount of tax expected to be paid for the year, using the loss carryforward, is: ((80,000 + 50,000 + 170,000 + 200,000) - 150,000) × 30% = ($500,000 - 150,000) × 30% = $105,000.

The average tax rate is then calculated to be 105,000 / 500,000 = 21%.

Taxes for each interim period: Quarter 1 $80,000 × 21% = $16,800 Quarter 2 $50,000 × 21% = $10,500 Quarter 3 $170,000 × 21% = $35,700 Quarter 2 $200,000 × 21% = $42,000 Page Ref: 383-386 Learning Obj.: 7.5 Difficulty: Difficult

39) Under IAS 34, companies generally should use the discreet approach for interim reporting. However, IAS 34 outlines exceptions to this rule. Explain what these exceptions are and how they are treated in interim reports. What argument does IAS 34 provide for this treatment?

Answer: IAS 34 specifically discusses year-end bonuses, customer/purchaser rebates, contingent rents, employer payroll taxes, and income taxes as exceptions to the discreet approach. The guidance is to use the integral approach for these types of costs. The argument is that these types of expenses give rise to constructive obligations and therefore should be recorded as the obligation arises in each interim period.

Companies should estimate or project what these costs might be for the entire year and then accrue the costs in the interim period.

1. Year-end bonuses: These bonuses are accrued in each interim period provided there is a legal or constructive obligation to pay and a reliable estimate can be made.

2. Customer volume rebates: If the required level of sales to the customer is expected to be achieved by the end of the year, and the rebate is probable, then the volume rebates should be accrued in each interim period. Similar treatment can be used by the purchaser who has earned the rebate and therefore accrues the receivable as purchases are made in each interim period.

3. Contingent lease payments: If the required level of sales is expected to be achieved over the year, then the lease payment obligation should be accrued in each interim period as the sales are recognized.

4. Income taxes: The interim income tax expense should be determined using the estimated average effective income tax rate.

5. Employer payroll taxes: Payroll taxes for employees change depending on the level of wages paid. As a result, the company estimates the taxes based on a full year's compensation.

Page Ref: 385-386 Learning Obj.: 7.5 Difficulty: Moderate

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7-17

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 40) Sharst Link Company (SLC) is a public company and must file interim statements. SLC experienced the following events during the third quarter of 20X9: 1. A large marketing plan was rolled out for a new product costing $9,000,000. The plan is expected to drive sales for the next four quarters.

2. A lawsuit was settled and the company must pay $15 million within the next 90 days. There was no payment made by the end of the third quarter. In previous quarters, there was no provision made for this settlement since it was determined to be not probable.

3. Goodwill was tested for impairment and determined to have an impairment loss of $10 million.

4. In the previous interim period, due to a significant drop in the selling price of the inventory, the inventory was written down to its net realizable value of $9 million from a cost of $10 million. In this quarter, the inventory is still on hand and the circumstances have again changed, resulting in the net realizable value increasing to $12 million.

5. Customers earn volume rebates when annual sales volumes exceed $6 million. This is a contractual agreement that the company has made to pay rebates of 4% on total sales for the year once the amount of $6 million is achieved. Currently, there were sales of $2 million to one customer for the quarter. In each of the previous quarters, sales of $1.5 million had been made to this customer. It is expected that sales of $2 million will be made in quarter four to this customer also.

Required: For each event, indicate the impact on the interim statement for the third quarter using the guidance required by IAS 34.

Answer: The discussion below outlines the treatment of each event required under IAS 34: 1. The large marketing plan is a cost of the interim period and cannot be deferred and spread over future periods. Therefore, a marketing cost of $9 million will show in the expenses in the third interim period.

2. The settlement of the lawsuit is a cost of the current period and will be recognized as a liability since it has not yet been paid. The cost of $15 million will show as a cost in the third quarter.

3. The goodwill impairment loss must be recorded in the interim period when it arises. Therefore, an impairment loss of $10 million is recognized in quarter three.

4. The inventory impairment from the second interim period may be reversed in the third interim period. So there will be a reversal of the impairment loss of $1 million recognized in the third interim period.

5. Since the customer rebates are contractual, they can be estimated and accrued in each interim period if it is likely that the rebates will be paid. In this case, the sales in the first three interim periods total $5 million. It is expected that another $2 million of sales will be made to this customer in the fourth interim period. Consequently, a liability for the rebate $80,000 on the current sales of $2 million should be recognized. This assumes that the liability has also been recognized in the previous interim statements. If this is not the case, then the total liability accrued to date of $200,000 (4% × $5 million) should be recognized.

Page Ref: 382-386 Learning Obj.: 7.5 Difficulty: Moderate

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7-18

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 7 Segment and Interim Reporting 41) Sparky Limited (SPL) is a public company and must file interim statements. SPL experienced the following events during the second quarter of 20X11: 1. In the first quarter, an impairment loss on goodwill was recognized in the amount of $5 million. The circumstances leading to this loss have now changed, and the value of the goodwill is once again above its original cost.

2. During the second quarter, the company shut down its manufacturing plant for annual maintenance.

The annual maintenance costs totalled $7.5 million in the quarter.

3. As per a lease agreement, the company must pay additional rent charged at 3% of sales if annual sales are greater than $12 million. The contingent rent is payable on the total annual sales. The company reported sales in the first quarter related to this leased location of $3 million, and in the second quarter sales totalled $4 million. It is expected that sales for the third and fourth quarters will be $5 million and $3 million, respectively.

4. The company made a large sale to a new customer for $6 million. This sale relates to a contract of services that will be provided over the next nine months, which commences in the first month of the second interim period.

Required: For each event, indicate the impact on the interim statement for the second quarter using the guidance required by IAS 34.

Answer: The discussion below outlines the treatment of each event required under IAS 34: 1. Impairment losses on goodwill cannot be reversed. Even though the reversal takes place in the next interim period, and within the same annual period, the loss cannot be reversed. The impairment loss is treated in the same way as though the interim period was a year-end. Therefore, there is no impact of this event in the second interim period.

2. Annual maintenance is expensed in the interim period in which it occurs. It cannot be deferred since it does not meet the definition of an asset at the interim period report date. In this case, the maintenance costs of $7.5 million will be reported in the second interim period.

3. Contingent rents are accrued if the required sales level is expected to be achieved. In this interim period, a contingent rent cost and liability will be recognized of $120,000 ($4 million × 3%). This assumes that the contingent rent liability was also recognized in the first interim period. If this was not the case, then the contingent rent cost and liability to be recognized in the second quarter would be $210,000 ($7 million × 3%).

4. The large sale is for services to be performed over the next nine months, starting the first month of the second interim period. As a result, only three of nine months will be reported as revenue in the second quarter, which calculates to be $2 million. $4 million will be recognized as deferred revenue and brought into income over the next two quarters.

Page Ref: 382-386 Learning Obj.: 7.5 Difficulty: Difficult

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7-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 1) What is the exchange rate in effect at the date of the transaction called?

A) Closing rate B) Spot rate C) Forward rate D) Settlement rate Answer: B Page Ref: 361 Learning Obj.: 8.1 Difficulty: Easy

2) Which of the following statements is true?

A) The historical rate is the exchange rate at the beginning of the reporting period, and the closing rate is the exchange rate at the end of the reporting period.

B) The historical rate is the exchange rate at the date of the transaction, and the closing rate is the exchange rate at the end of the reporting period.

C) The spot rate is the exchange rate at the date of the transaction, and the closing rate is the exchange rate at the conclusion of a hedge instrument.

D) The historical rate is the exchange rate at the beginning of the reporting period, and the forward rate is the exchange rate at the end of the reporting period.

Answer: B Page Ref: 401 Learning Obj.: 7.1 Difficulty: Moderate

3) Which of the following is not a major reason for fluctuating exchange rates?

A) Differences in inflation rates B) Black market (illegal) trading of currencies C) Differences in interest rates D) Trade surpluses and deficits between countries Answer: B Page Ref: 401-402 Learning Obj.: 8.1 Difficulty: Moderate

4) Phan Ltd., a Canadian company, sold goods to a foreign customer for 1,000,000 foreign currency (FC) units, which was equivalent to $500,000 CAD. By the time the customer paid Phan, the exchange rates had changed and 1,000,000 FC units was equivalent to $515,000 CAD. How should the resulting $15,000 CAD difference between the sale and payment dates be treated?

A) As an increase in sales B) As a decrease to cost of sales C) As a realized gain D) As an unrealized gain Answer: C Page Ref: 402 Learning Obj.: 8.1 Difficulty: Easy

5) Which approach to foreign currency transactions does IFRS support?

A) One-transaction approach .

8-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges B) Two-transaction approach C) Economic theory approach D) Rate theory approach Answer: B Page Ref: 403 Learning Obj.: 6.1 Difficulty: Moderate

6) Which of the following statements is true about the two-transaction theory?

A) Exchange gains and losses usually flow through to net income in the period in which they are incurred.

B) Exchange gains and losses are attached to the sales or assets from the original transaction.

C) Exchange gains and losses are considered a cost of acquiring assets.

D) Exchange gains and losses affect the carrying value of acquired assets.

Answer: A Page Ref: 403 Learning Obj.: 8.1 Difficulty: Moderate

7) Exchange gains and losses on accounts receivable/payable that are denominated in a foreign currency are ________.

A) deferred and reported upon settlement B) reported as adjustments to the transaction prices C) reported as equity adjustments from translation D) recognized in the periods in which exchange rates change Answer: D Page Ref: 403-404 Learning Obj.: 8.1 Difficulty: Easy

8) What is the effect of fluctuations in exchange rates on accounts payable?

A) Deferred and amortized B) Deferred to maturity C) Recognized immediately in income D) Recognized if losses, deferred if gains Answer: C Page Ref: 403-405 Learning Obj.: 8.1 Difficulty: Moderate

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8-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 9) Under IFRS, how are monetary assets and liabilities defined?

A) Cash and assets and liabilities that are to be received or paid in a fixed or determinable amount of currency B) Current assets and liabilities that are to be received or paid in a fixed or determinable amount of currency C) Cash and long-term assets and liabilities that are to be received or paid in a fixed or determinable amount of currency D) Long-term assets and liabilities that are to be received or paid in a fixed or determinable amount of currency Answer: A Page Ref: 403-404 Learning Obj.: 8.1 Difficulty: Moderate

10) Which of the following items is a non-monetary item?

A) Cash B) Accounts receivable C) Inventory D) Accounts payable Answer: C Page Ref: 405 Learning Obj.: 8.1 Difficulty: Moderate

11) What exchange rate is usually used to report non-monetary assets on the statement of financial position?

A) Historical rate B) Spot rate C) Closing rate D) Fair value Answer: A Page Ref: 405 Learning Obj.: 8.1 Difficulty: Moderate

12) What is a currency swap an example of?

A) A futures contract B) A call option C) A derivative instrument D) A forward contract Answer: C Page Ref: 408 Learning Obj.: 8.2 Difficulty: Moderate

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8-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 13) What does the holder of a put option on foreign currency have the right to do?

A) Right to buy the currency B) Right to sell the currency C) Right to do a currency swap D) Right to acquire a forward contract Answer: B Page Ref: 407 Learning Obj.: 8.2 Difficulty: Easy

14) A business plans to acquire a forward contract to hedge a monetary liability. Which of the following statements about the forward contract is true?

A) If the contract is acquired at a premium, a loss results, and if the contract is acquired at a discount, a gain results.

B) If the contract is acquired at a premium, a gain results, and if the contract is acquired at a discount, a loss results.

C) Since the contract is to hedge a monetary liability, a loss results, regardless of whether the contract is acquired at a premium or a discount.

D) Since the contract is to hedge a monetary liability, a gain results, regardless of whether the contract is acquired at a premium or a discount.

Answer: A Page Ref: 411 Learning Obj.: 8.2 Difficulty: Moderate

15) On December 1, 20X5, Gillard Ltd. sold goods to International Traders Ltd., a company located in Switzerland, for 500,000 Swiss francs (CHF). At the date of sale, the spot rate was CHF1 = $1.0329. On the same date, Gillard acquired a 90-day forward contract at a rate of CHF1 = $1.0315. On March 1, 20X6, Gillard received full payment from International Traders and delivered the Swiss francs in execution of the forward contract. The spot rate at March 1, 20X6, was CHF1 = $1.0287. What amount should Gillard record for the sale?

A) $500,000 B) $514,300 C) $515,750 D) $516,450 Answer: D Page Ref: 409 Learning Obj.: 8.2 Difficulty: Moderate

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8-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 16) On December 1, 20X5, Gillard Ltd. sold goods to International Traders Ltd., a company located in Switzerland, for 500,000 Swiss francs (CHF). At the date of sale, the spot rate was CHF1 = $1.0329. On the same date, Gillard acquired a 90-day forward contract at a rate of CHF1 = $1.0315. On March 1, 20X6, Gillard received full payment from International Traders and delivered the Swiss francs in execution of the forward contract. The spot rate at March 1, 20X6, was CHF1 = $1.0287. What is the net exchange gain (loss) on the forward contract?

A) $(2,100) B) $(700) C) $700 D) $1,400 Answer: B Page Ref: 410-411 Learning Obj.: 8.2 Difficulty: Moderate

17) On November 2, 20X9, Henry Company purchased a machine for 100,000 Swiss francs (CHF) with payment required on March 30, 20X10. To eliminate the risk of foreign exchange losses on this payable, Henry entered into a forward exchange contract on November 3, 20X9, to receive CHF 100,000 at a forward rate of CHF1 = $2 on March 30, 20X10. The spot rate was CHF1 = $1.95 on November 2, 20X9, and CHF1 = $1.97 on December 1, 20X9. What is the amount of the premium or discount on the forward exchange contract on December 1, 20X9?

A) A premium of $3,000 B) A discount of $3,000 C) A premium of $5,000 D) A discount of $5,000 Answer: C Page Ref: 410-411 Learning Obj.: 8.2 Difficulty: Moderate

18) On November 2, 20X9, Henry Company purchased a machine for 100,000 Swiss francs (CHF) with payment required on March 30, 20X10. To eliminate the risk of foreign exchange losses on this payable, Henry entered into a forward exchange contract on November 3, 20X9, to receive CHF 100,000 at a forward rate of CHF1 = $2 on March 30, 20X10. The spot rate was CHF1 = $1.95 on November 2, 20X9, and CHF1 = $1.97 on December 1, 20X9. How should the premium or discount on the forward exchange contract be accounted for?

A) It should be expensed on the inception date of the forward exchange contract.

B) It should be expensed over the five-month term of the forward exchange contract.

C) It should be expensed on the maturity date of the forward exchange contract.

D) It should be added to the cost of the machine.

Answer: C Page Ref: 409-412 Learning Obj.: 8.2 Difficulty: Moderate

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8-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 19) On December 1, 20X5, Gillard Ltd. sold goods to International Traders Ltd., a company located in Switzerland, for 500,000 Swiss francs (CHF). At the date of sale, the spot rate was CHF1 = $1.0329. On the same date, Gillard acquired a 90-day forward contract at a rate of CHF1 = $1.0315. On March 1, 20X6, Gillard received full payment from International Traders and delivered the Swiss francs in execution of the forward contract. The spot rate at March 1, 20X6, was CHF1 = $1.0287. Assume that Gillard has a December 31 year-end and that the spot rate on that date was CHF1 = $1.0302. At December 31, the forward rate for a 60-day contract was CHF1 = 1.0394. At December 31, what is the balance of Gillard's accounts receivable?

A) $515,100 B) $515,700 C) $516,450 D) $517,800 Answer: A Page Ref: 414-415 Learning Obj.: 8.2 Difficulty: Moderate

20) On December 1, 20X5, Gillard Ltd. sold goods to International Traders Ltd., a company located in Switzerland, for 500,000 Swiss francs (CHF). At the date of sale, the spot rate was CHF1 = $1.0329. On the same date, Gillard acquired a 90-day forward contract at a rate of CHF1 = $1.0315. On March 1, 20X6, Gillard received full payment from International Traders and delivered the Swiss francs in execution of the forward contract. The spot rate at March 1, 20X6, was CHF1 = $1.0287. Assume that Gillard has a December 31 year-end and that the spot rate on that date was CHF1 = $1.0302. At December 31, the forward rate for a 60-day contract was CHF1 = 1.0394. At December 31, what is the balance of Gillard's forward contract payable?

A) $515,000 B) $515,650 C) $515,750 D) $515,850 Answer: B Page Ref: 414-415 Learning Obj.: 8.2 Difficulty: Moderate

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8-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 21) On June 1, 20X4, Chua (Canada) Co. entered into a 90-day forward contract to sell $500,000 Singapore dollars (SGD) to its bank on August 29, 20X4. The following information has been provided: June 1, 90-day forward rate SGD$1 = $0.7750 July 1, 60-day forward rate SGD$1 = $0.7630 August 29, spot rate SGD$1 = $0.748 Chua has a June 30 year-end. What is the exchange gain (loss) at June 30, 20X4?

A) $(6,000) B) $0 C) $1,500 D) $6,000 Answer: D Page Ref: 414-415 Learning Obj.: 8.2 Difficulty: Moderate

22) On June 1, 20X4, Chua (Canada) Co. entered into a 90-day forward contract to sell $500,000 Singapore dollars (SGD) to its bank on August 29, 20X4. The following information has been provided: June 1, 90-day forward rate SGD$1 = $0.7750 July 1, 60-day forward rate SGD$1 = $0.7630 August 29, spot rate SGD$1 = $0.748 Chua has a June 30 year-end. What is the net exchange gain (loss) on the contract?

A) $(13,500) B) $(6,000) C) $6,000 D) $13,500 Answer: D Page Ref: 414-416 Learning Obj.: 8.2 Difficulty: Moderate

23) Which of the following statements about hedge accounting is true?

A) Hedge accounting is mandatory.

B) Hedge accounting is optional.

C) Hedge accounting is applicable only if a receivable is being hedged.

D) Hedge accounting is applicable only if a liability is being hedged.

Answer: B Page Ref: 416-417 Learning Obj.: 8.3 Difficulty: Easy

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8-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 24) Fransen Co. does a lot of businesses in Denmark. It has numerous trade accounts receivables and accounts payables that are to be settled in Danish krones. What type of hedge does Fransen have?

A) Fair-value hedge B) Cash-flow hedge C) Natural hedge D) Hedge instrument Answer: C Page Ref: 417 Learning Obj.: 8.3 Difficulty: Easy

25) Which of the following is not one of the conditions that must be met to qualify for hedge accounting?

A) The hedge relationship must be designated and documented.

B) The hedge is expected to be effective.

C) The effectiveness of the hedge can easily be determined.

D) The hedge is assessed at the beginning and at the end of the hedging period.

Answer: D Page Ref: 416-417 Learning Obj.: 8.3 Difficulty: Moderate

26) Which of the following cannot usually be a hedged item?

A) Accounts receivable B) Accounts payable C) Derivative instrument D) Purchase order Answer: C Page Ref: 417 Learning Obj.: 8.3 Difficulty: Easy

27) Under IFRS, which of the following statements about hedging a foreign currency risk of an accepted purchase order is true?

A) It must be accounted for using a fair-value hedge.

B) It must be accounted for using a cash-flow hedge.

C) It can be accounted for using either a fair-value hedge or a cash-flow hedge.

D) It is not eligible for hedge accounting until it becomes an accounts payable.

Answer: C Page Ref: 419 Learning Obj.: 8.4 Difficulty: Moderate

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8-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 28) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a fair-value hedge. On March 1, at what amount should the forward contract be recorded?

A) $307,440 B) $312,400 C) $317,600 D) $319,800 Answer: B Page Ref: 420-422 Learning Obj.: 8.4 Difficulty: Moderate

29) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a fair-value hedge. At what amount should McBride record the drilling machine?

A) $307,440 B) $312,400 C) $317,600 D) $319,800 Answer: A Page Ref: 420-422 Learning Obj.: 8.4 Difficulty: Moderate

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8-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 30) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a fair-value hedge. What amount of exchange gain (loss) should be recognized at April 30, 20X2?

A) $(640) B) $(320) C) $ 0 D) $320 Answer: B Page Ref: 420-422 Learning Obj.: 8.4 Difficulty: Moderate

31) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a fair-value hedge. What is the cost of the hedge?

A) $2,200 B) $4,640 C) $4,960 D) $6,680 Answer: C Page Ref: 420-422 Learning Obj.: 8.4 Difficulty: Difficult

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8-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 32) Where is the ineffective portion of a cash-flow hedge recognized on the financial statements?

A) As part of net income B) As part of other comprehensive income C) As a separate component of equity D) It does not appear on the financial statements.

Answer: A Page Ref: 423 Learning Obj.: 8.4 Difficulty: Difficult

33) Under IFRS, which of the following statements is true?

A) The hedge of a forecasted transaction is accounted for using a fair-value hedge.

B) The hedge of a firm commitment is accounted for using a cash-flow hedge.

C) The gain or loss on a hedging instrument under a cash-flow hedge is first reported as other comprehensive income and then reclassified to income when the hedged item affects income.

D) The gain or loss on a hedging instrument under a fair-value hedge is first reported as other comprehensive income and then reclassified to income when the hedged item affects income.

Answer: C Page Ref: 423 Learning Obj.: 8.4 Difficulty: Moderate

34) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a cash-flow hedge. What amount should be recognized as other comprehensive income at April 30, 20X2?

A) $ 320 B) $ 640 C) $4,640 D) $5,280 Answer: A Page Ref: 423-425 Learning Obj.: 8.4 Difficulty: Moderate

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8-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 35) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a cash-flow hedge. What is the carrying value of the machine?

A) $307,440 B) $310,600 C) $312,400 D) $317,600 Answer: B Page Ref: 423-425 Learning Obj.: 8.4 Difficulty: Difficult

36) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a cash-flow hedge. What is the net exchange gain (loss) that McBride should recognize in the period from May 1 to July 31, 20X2?

A) $(2,200) B) $(1,800) C) $ 0 D) $400 Answer: B Page Ref: 423-425 Learning Obj.: 8.4 Difficulty: Moderate

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8-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 37) On March 1, 20X2, McBride Ltd. issued a purchase order to Tao Heavy Machines (Singapore) Inc. to acquire a drilling machine for $400,000 SGD. On the same day, McBride entered into a forward contract to receive $400,000 SGD on July 31, 20X2. The machine was delivered on June 1, 20X2, and payment was made July 31, 20X2. McBride has an April 30 year-end. The following information has been provided: Date March 1, 20X2 April 30, 20X2 June 1, 20X2 July 31, 20X2

Spot Rate .7686 .7702 .7940 .7995

Forward rate to July 31, 20X2 .7810 .7818 .7985 n/a

Assume that the transaction qualifies as a cash-flow hedge. What is the cost of the hedge?

A) $ 1,800 B) $ 2,200 C) $ 4,960 D) $12,360 Answer: C Page Ref: 423-425 Learning Obj.: 8.4 Difficulty: Moderate

38) Under accounting standards for private enterprises, what exchange rate is used for non-monetary items carried at fair value?

A) The exchange rate at the date the item was ordered B) The exchange rate at the date the item was received C) The exchange rate at the date of payment for the item D) The exchange rate at the statement of financial position date Answer: D Page Ref: 428 Learning Obj.: 8.4 Difficulty: Moderate

39) Under accounting standards for private enterprises, which of the following can be used as hedging instruments?

A) Options B) Forward contracts C) Futures contracts D) Currency swaps Answer: B Page Ref: 428 Learning Obj.: 8.4 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 40) HCB, a Canadian public company, entered into the following transactions late in 20X6: • Transaction #1: On October 15, HCB purchased inventory from a Mexican supplier for 800,000 pesos (Ps). On the same day, HCB entered into a forward contract for Ps 800,000 at the 60-day forward rate of Ps1 = $0.399. The company has designated this as a fair-value hedge. The Mexican supplier was paid in full on December 15, 20X6.

• Transaction #2: On November 1, HCB contracted to sell inventory to a customer in Switzerland at a selling price of CHF 400,000. The contract called for the merchandise to be delivered to the customer on December 1, with payment to be received in Swiss francs by January 31, 20X7. On November 1, HBC arranged a forward contract to deliver CHF 400,000 on January 31, 20X7, at a rate of CHF1 = $1.20. The company has designated this as a fair value hedge on a firm commitment.

• On December 1, 20X6, the forward rate on the Swiss francs to January 31, 20X7, was CHF1 = $1.21.

• The company has a December 31, 20X6, year-end. On this date the forward rate for the Swiss franc was CHF1 = $1.23.

HBC has a year-end of December 31. Spot rates were as follows during this period of time: October 15, 20X6 November 1, 20X6 December 1, 20X6 December 15, 20X6 December 31, 20X6 January 31, 20X7

Ps1 = $0.396 Ps1 = $0.391 Ps1 = $0.389 Ps1 = $0.388 Ps1 = $0.381 Ps1 = $0.376

SF1 = $1.19 SF1 = $1.17 SF1 = $1.20 SF1 = $1.19 SF1 = $1.21 SF1 = $1.19

Required: The company uses the net method to record hedging transactions. Prepare the journal entries that HCB should make to record the events described above.

Answer: Transaction #1 October 15, 20X6 Inventory (Ps800,000 × 0.396) Accounts payable

316,800 316,800

No entry for the forward contract December 15, 20X6 Accounts payable Exchange gains and losses Cash (Ps800,000 × 0.388)

316,800

Cash (re. Forward contract receivable (Ps800,000 × 0.388) Exchange gains and losses Cash (re forward contract payable) (Ps800,000 × 0.399)

310,400

6,400 310,400

8,800 319,200

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8-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Transaction #2 November 1, 20X6 No journal entry for the purchase order or the forward contract.

December 1, 20X6 The forward contract is re-valued with the change in value being $4,000 (CHF 400,000 × (1.21 - 1.20)) Exchange gains and losses 4,000 Forward contract payable 4,000 Exchange gain/loss on sales order is (CHF 400,000 × (1.20 - 1.17)) Sales order commitment receivable 12,000 Exchange gains and losses 12,000 Accounts receivable (CHF400,000 × 1.20) Sales order commitment receivable Sales (CHF400,000 × 1.17)

480,000 12,000 468,000

December 31, 20X6 Accounts receivable (CHF400,000 × (1.21 - 1.20)) Exchange gains and losses

4,000 4,000

The forward contract is re-valued with the change in value being $8,000 (CHF 400,000 × (1.23-1.21)) Exchange gains and losses 8,000 Forward contract payable 8,000 January 31, 20X7 Cash (CHF400,000 × 1.19) Exchange gains and losses Accounts receivable (480,000 + 4,000)

476,000 8,000

Cash (SF400,000 × 1.20) Forward contract payable Exchange gains and losses Cash–Forward contract (CHF400,000 × 1.19)

480,000 12,000

484,000

16,000 476,000

Page Ref: 419-423 Learning Obj.: 8.4 Difficulty: Difficult

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8-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 41) HCB, a Canadian public company, entered into the following transactions late in 20X6: • Transaction #1: On October 15, HCB purchased inventory from a Mexican supplier for 800,000 pesos (Ps). On the same day, HCB entered into a forward contract for Ps 800,000 at the 60-day forward rate of Ps1 = $0.399. The company has designated this as a fair value hedge. The Mexican supplier was paid in full on December 15, 20X6.

• Transaction #2: On November 1, HCB contracted to sell inventory to a customer in Switzerland at a selling price of CHF 400,000. The contract called for the merchandise to be delivered to the customer on December 1, with payment to be received in Swiss francs by January 31, 20X7. On November 1, HBC arranged a forward contract to deliver CHF 400,000 on January 31, 20X7, at a rate of CHF1 = $1.20. The company has designated this as a fair-value hedge on a firm commitment.

• On December 1, 20X6, the forward rate on the Swiss francs to January 31, 20X7 was CHF1 = $1.21.

• The company has a December 31, 20X6, year-end. On this date the forward rate for the Swiss franc was CHF1 = $1.23.

HBC has a year-end of December 31. Spot rates were as follows during this period of time: October 15, 20X6 November 1, 20X6 December 1, 20X6 December 15, 20X6 December 31, 20X6 January 31, 20X7

Ps1 = $0.396 Ps1 = $0.391 Ps1 = $0.389 Ps1 = $0.388 Ps1 = $0.381 Ps1 = $0.376

SF1 = $1.19 SF1 = $1.17 SF1 = $1.20 SF1 = $1.19 SF1 = $1.21 SF1 = $1.19

Required: The company uses the gross method to record hedging transactions. Prepare the journal entries that HCB should make to record the events described above.

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8-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Answer: Transaction #1 October 15, 20X6 Inventory (Ps800,000 × 0.396) Accounts payable

316,800 316,800

Forward contract receivable 319,200 Forward contract payable 319,200 To record the forward contract using forward rate: (Ps800,000 × 0.399 December 15, 20X6 Accounts payable Exchange gains and losses Cash (Ps800,000 × 0.388)

316,800

Forward contract payable Cash

319,200

Cash (Ps800,000 × 0.388) Exchange gains and losses Forward contract receivable

310,400

6,400 310,400

319,200

8,800 319,200

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8-17

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Transaction #2 November 1, 20X6 To record forward contract at forward rate: (CHF 400,000 × (1.20)) Forward contract receivable Forward contract payable

480,000 480,000

December 1, 20X6 The forward contract is re-valued with the change in value being $4,000 (CHF 400,000 × (1.21-1.20)) Exchange gains and losses 4,000 Forward contract payable 4,000 Exchange gain/loss on sales order is (CHF 400,000 × (1.20-1.17)) Sales order commitment receivable 12,000 Exchange gains and losses 12,000 Accounts receivable (CHF400,000 × 1.20) Sales order commitment receivable Sales (CHF400,000 × 1.17)

480,000 12,000 468,000

December 31, 20X6 Accounts receivable (CHF400,000 × (1.21 - 1.20)) Exchange gains and losses

4,000 4,000

The forward contract is re-valued with the change in value being $8,000 (CHF 400,000 × (1.23-1.21)) Exchange gains and losses 8,000 Forward contract payable 8,000 January 31, 20X7 Cash (CHF400,000 × 1.19) Exchange gains and losses Accounts receivable (480,000 + 4,000)

476,000 8,000

Cash Forward contract receivable

480,000

Forward contract payable Exchange gains and losses Cash–Forward contract (CHF400,000 × 1.19)

492,000

484,000

480,000

16,000 476,000

Page Ref: 419-423 Learning Obj.: 8.4 Difficulty: Difficult

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8-18

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 42) Helvetia Corp., a Swiss firm, bought merchandise from Bouchard Company of Quebec on December 15, 20X7, for 20,000 CHF, payable on January 14, 20X8. Bouchard and Helvetia both close their books on December 31. The 20,000 CHF was paid on January 14, 20X8. The exchange rates for CHF1 were: December 15, 20X7 spot December 15, 20X7 30-day forward December 31, 20X7 December 31, 20X7 14-day forward January 14, 20X8

C$.9740 C$.9800 C$.9700 C$.9730 C$.9720

The account was hedged by Bouchard through a 30-day forward contract. Bouchard uses the gross method to record hedge transactions. Bouchard reports under IFRS. Required: Provide the journal entries for Bouchard (the seller) at each of the above dates, as required.

Answer: December 15, 20X7 Accounts receivable 19,480 Sales (20,000 @ .9740) 19,480 December 15, 20X7 Forward receivable Forward payable 20,000 CHF × 0.98

19,600

December 31, 20X7 Exchange gains and loses Accounts receivable 20,000 CHF × (0.97-0.974) Forward payable Exchange gains and losses 20,000 CHF × (0.973 - 0.98) January 14, 20X8 Cash [20,000 × (.972)] Exchange gains and losses A/R [19,480 - 80]

19,600

80 80

140 140

19,440 40 19,400

Cash Forward receivable

19,600

Forward payable Exchange gains and losses Cash 20,000 × 0.972

19,460

19,600

20 19,440

Page Ref: 416-423 Learning Obj.: 8.4 Difficulty: Moderate

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8-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 43) Helvetia Corp., a Swiss firm, bought merchandise from Bouchard Company of Quebec on December 15, 20X7, for 20,000 CHF, payable on January 14, 20X8. Bouchard and Helvetia both close their books on December 31. The 20,000 CHF was paid on January 14, 20X8. The exchange rates for CHF1 were: December 15, 20X7 spot December 15, 20X7 30-day forward December 31, 20X7 December 31, 20X7 14-day forward January 14, 20X8

C$.9740 C$.9800 C$.9700 C$.9730 C$.9720

Required: 1. Provide the journal entries for Bouchard (the seller) at each of the above dates, as required. The account was not hedged by Bouchard.

2. What is hedging and why might Bouchard have decided not to hedge this transaction? What risk is Bouchard incurring?

Answer: 1.

December 15, 20X7 Accounts receivable (20,000 × 0.974) 19,480 Sales 19,480 December 31, 20X7 Exchange gains and loses 80 Accounts receivable (20,000 × (.97-.974) January 14, 20X8 Cash (20,000 × .972) Accounts receivable Exchange gains and losses

80

19,440 19,400 40

2. Hedging is a practice used to mitigate a risk–in this example, foreign currency risk. In this case, Bouchard is incurring a foreign currency exchange risk–the risk that the rate will change between the date the Bouchard sells the merchandise and the date when the CHF are actually received and can be converted into Canadian dollars.

Page Ref: 401-408 Learning Obj.: 8.1, 8.2 Difficulty: Easy

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8-20

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 44) Part 1: Helvetia Corp., a Swiss firm, bought merchandise from Bouchard Company of Quebec on December 15, 20X7, for 20,000 CHF, payable on January 14, 20X8. Bouchard and Helvetia both close their books on December 31. The 20,000 CHF was paid on January 14, 20X8. The exchange rates for CHF1 were: December 15, 20X7 spot December 15, 20X7 30-day forward December 31, 20X7 December 31, 20X7 14-day forward January 14, 20X8

C$.9740 C$.9800 C$.9700 C$.9730 C$.9720

Required: Provide the journal entries for Helvetia (the buyer) at each of the above dates, as required.

Part 2: Helvetia also had the following balances on its SFP at December 31, 30X7: • Inventory purchased from a Canadian company for $50,000 on December 15, 20X7, for cash • 1,000 shares of B C Inc., purchased on December 15, 20X7, for $40 per share. On December 31, 20X7, the B. C. Inc. shares were trading at $42 per share. These shares are classified at FVTPL. • Helvetia purchased an investment property in Canada on December 15, 20X7, for $5.5 million. On December 31, 20X7, this property was valued at $5.6 million. Helvetia uses the fair-value method to report its investment properties.

For each of the above assets, explain the value that would be recognized on its SFP as at its year-end of December 31, 20X7, and any related amounts reported on the SCI. Answer: Part 1: All amounts in CHF December 15, 20X7 Purchases Accounts payable

20,000 20,000

December 31, 20X7 No entry January 14, 20X8 Accounts payable Cash

20,000 20,000

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8-21

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Part 2: The inventory is a non-monetary asset that is recorded at historical cost. Its value on December 15, 20X7, at its date of purchase, and at the year-end would be $50,000/0.974 = CHF51,335. The value will not change on December 31, 20X7. There is no impact on the SCI due to changes in the exchange rate.

The FVTPL investment must be reported at fair value at each reporting period, and the gains and losses reported in the SCI. On December 15, the shares would have been purchased for $40 × 1,000/0.974 = CHF41,068. On December 31, 20X7, these shares would be reported at $42 × 1,000/0.97 = CHF43,299.

Helvetia would report a gain of CHF2,231.

The investment property is reported at fair value at each reporting period. It was originally purchased for CHF5.647 million ($5.5 million/0.974). On December 31 20X7, this property is now worth CHF5.773 million ($5.6 million/0.97). Helvetia will report a change in fair value of investment property of CHF 0.126 million.

Page Ref: 401-402 Learning Obj.: 8.1 Difficulty: Moderate

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8-22

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 45) Beauty Care Limited (BCL) manufactures and distributes leather furniture to various companies in Europe. On April 2, 20X6, BCL entered into a sales contract with a company in Germany to sell 1,000 sofas. The contract price is €2,000 per sofa. Five hundred sofas are to be delivered in May 15, 20X6, and the remaining half is to be delivered on December 20, 20X6. Payment is due in two instalments, with half due on August 31, 20X6, and the remaining half due January 30, 20X7. However, the customer has the right to cancel the contract with 30 days' notice.

BCL entered into a forward contract to hedge against the euro exchange rate for €1 million, coming due on January 30, 20X7. BCL has a December 31 year-end.

Delivery of the furniture occurred on the dates specified and the company collected the receivables due and settled the forward contract at January 30, 20X7.

The exchange rates were as follows:

Canadian equivalent of euro April 2, 20X6 June 30, 20X6 August 31, 20X6 December 20, 20X6 December 31, 20X6 January 30, 20X7

Forward rate to January 30, 20X7 1.54 1.57 1.58 1.56 1.55 settled

Spot rate 1.50 1.51 1.53 1.55 1.54 1.56

Required: Assume that the forward contract is designated as a cash flow hedge, since the sale is highly probable.

Prepare the journal entries to record the sales and the derivative. Use the gross method to record the journal entries. BCL reports under IFRS.

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8-23

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Answer:

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8-24

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Page Ref: 423-426 Learning Obj.: 8.4 Difficulty: Difficult

46) Beauty Care Limited (BCL) manufactures and distributes leather furniture to various companies in Europe. On April 2, 20X6, BCL entered into a sales contract with a company in Germany to sell 1,000 sofas. The contract price is €2,000 per sofa. Five hundred sofas are to be delivered in May 15, 20X6, and the remaining half is to be delivered on December 20, 20X6. Payment is due in two instalments, with half due on August 31, 20X6, and the remaining half due January 30, 20X7. However, the customer has the right to cancel the contract with 30 days' notice.

BCL entered into a forward contract to hedge against the euro exchange rate for €1 million, each coming due on January 30, 20X7. BCL has an October 31 year-end.

Delivery of the furniture occurred on the dates specified and the company collected the receivables due and settled the forward contract January 30, 20X7.

The exchange rates were as follows:

Canadian equivalent of euro April 2, 20X6 June 30, 20X6 August 31, 20X6 October 31, 20X6 December 20, 20X6 January 30, 20X7

Forward rate to January 30, 20X7 1.54 1.57 1.58 1.56 1.61 settled

Spot rate 1.50 1.51 1.53 1.55 1.59 1.63

Required: Assume that the forward contract is designated as a cash flow hedge, since the sale is highly probable.

Prepare the journal entries to record the sales and the hedge. Use the net method to record the journal entries. BCL reports under IFRS.

.

8-25

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Answer:

Page Ref: 423-426 Learning Obj.: 8.4 Difficulty: Difficult

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8-26

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 47) Short Link Company (SLC) issued a purchase order to buy a machine from Frankfurt Ltd., a German company, on April 2, 20X6. The contract price is €650,000 and delivery is to occur on August 31, 20X6.

Payment is due on October 15, 20X6.

SCL entered into a forward contract to hedge against the euro exchange rate for €650,000, coming due on August 31, 20X6. SLC has a December 31 year-end.

Delivery of the machine occurred on the date specified and the company paid the amount and settled the forward contract October 15, 20X6.

The exchange rates were as follows:

Canadian equivalent of euro April 2, 20X6 August 31, 20X6 October 15, 20X6

Forward rate to January 30, 20X7 1.59 1.67 settled

Spot rate 1.50 1.63 1.66

Required: SLC reports under ASPE. a. Explain how the forward contract will be accounted for under ASPE. b. Prepare the journal entries to record the above transactions.

Answer: a. Under ASPE, the forward contract is allowed as a hedge since it is a hedge of an anticipated transaction that will occur in a foreign currency. The hedge is also allowed since the forward contract is for the same currency and matures within 30 days of the date of the anticipated transaction. The forward contract is not recorded until maturity, at which time the gain or loss arising on the forward contract is adjusted to the carrying value of the hedged item–in this case, the machine. b. Below are the journal entries to record the transactions.

April 2, 20X6 No entry for the purchase order or the forward contract.

August 31, 20X6–To record delivery of machine.

Machine 1,059,500 Accounts Payable (€650,000 × 1.63) October 15, 20X6–Settlement of payable and forward contract Accounts payable 1,059,500 Exchange gains and losses 19,500 Cash euros (€650,000 × 1.66) Cash (euros) Machine Cash C$'s (€650,000 × 1.59)

1,059,500

1,079,000

1,079,000 45,500 1,033,500

Page Ref: 427-429 Learning Obj.: 8.4

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8-27

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges Difficulty: Moderate

48) Under IFRS, a hedging relationship qualifies for special hedge accounting rules only if it meets five conditions.

Required: Explain the conditions that must be met for a derivative to qualify for special hedge accounting. Identify what qualifies as a hedged item. Identify what qualifies as a hedging instrument. Outline the conditions required for a hedge to be effective.

Answer: The following conditions must be met for a hedging relationship to qualify for special hedge accounting: 1. The hedge relationship includes only eligible hedging instruments and hedged items.

2. The hedging relationship is formally designated and documented at the inception and is within the company's overall risk management strategy.

3. The hedge is anticipated to be highly effective–i.e., the changes in the fair values of the cash flows of the hedging instrument and the hedged item are offsetting.

The hedging item can be an asset, liability, unrecognized future commitment, highly probable forecast transaction, or net investment in a foreign subsidiary.

The hedging instrument offsets the risk and is normally a derivative, which could include a forward contract, futures contract, option, or swap. For currency hedges, a non-derivative financial asset or liability can also qualify as a hedging instrument.

For a hedge to be effective, there must be an economic relationship existing between the hedging item and the hedged item, and the designation is based on the relative quantities of the hedged item and the hedging instrument.

Page Ref: 416-417; 426 Learning Obj.: 8.3, 8.4 Difficulty: Moderate

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8-28

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 8 Foreign Currency Transactions and Hedges 49) Compare and contrast accounting for foreign currency transactions and hedge accounting under IFRS and ASPE. Answer: ASPE and IFRS are similar in their methods of accounting for foreign exchange transactions and balances. Monetary items are translated using the spot rate at the date of the SFP, and gains and losses are reported in net earnings. For non-monetary items carried at historical cost, these are translated at the historical exchange rate.

For non-monetary assets carried at fair value, IFRS uses the exchange rate on the date the fair value was determined. Under ASPE, the exchange rate used is the spot rate on the balance sheet date. In both cases, any exchange gains and losses are reported in net earnings.

Hedge accounting under ASPE is more simplified than under IFRS. In both cases, hedge accounting is optional and requires documentation. (Documentation under ASPE is less onerous that under IFRS.) IFRS requires that hedges be classified as fair-value hedges or cash-flow hedges. The gains and losses on fairvalue hedges are reported in earnings. Gains and losses on cash-flow hedges are reported in OCI until the related anticipated transaction takes place, at which time the gains and losses are either transferred to earnings or included in the carrying cost of the asset. For both fair-value hedges and cash-flow hedges, the derivatives are fair valued at each reporting period. Forward contracts, futures contracts, options, and swaps can all qualify as hedging instruments under IFRS. Under ASPE, hedge accounting can only be used for anticipated transactions. Derivatives that are not designated as hedges must be fair valued at each reporting period and any gains and losses are reported in net earnings. Only forward contracts can be used to hedge foreign currency transactions. If the forward contract is designated as a hedge, it is not recognized until maturity. At maturity, the gain or loss is adjusted to the carrying value of the hedged item.

Disclosure is required under both ASPE and IFRS, although ASPE disclosure is less extensive.

Page Ref: 402-406; 416-419; 427-429 Learning Obj.: 8.1, 8.3 Difficulty: Moderate

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8-29

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 1) Under the temporal method, which of the following items would be translated using the year-end spot rate?

A) Inventory B) Land C) Long-term debentures D) Building Answer: C Page Ref: 452 Learning Obj.: 9.1 Difficulty: Easy

2) Under the temporal method, which of the following items would be translated using the historical rate?

A) Inventory B) Accounts receivable C) Accounts payable D) Long-term debentures Answer: A Page Ref: 452 Learning Obj.: 9.1 Difficulty: Easy

3) Which of the following accounts would be translated to the reporting currency at the current rate of exchange for an integrated subsidiary?

A) Sales occurring evenly throughout the year B) Deposits received from customers for services to be rendered C) Capital assets D) Inventory carried at market under the lower-of-cost-or-market principle Answer: D Page Ref: 452 Learning Obj.: 9.1 Difficulty: Moderate

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9-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 4) All of the following statements are stated in Brazil reals (R$).

Bralta Ltd. Statement of Financial Position June 30, 20X5 Cash Accounts receivable Inventories Machinery (net) Land and building (net)

60,000 740,000 300,000 850,000 1,800,000 3,750,000

Current liabilities Bonds payable Common shares Retained earnings

500,000 2,000,000 2,500,000 1,000,000 250,000 3,750,000

Additional information: Selected exchange rates: June 30, 20X4 R$1=$0.5906 June 30, 20X5 R$1=$0.5623 Average for 20X5 R$1=$0.5744 Date of purchase of inventory on hand at year-end

R$1 = $.05688

Dividends were declared on June 30, 20X5 Opening inventory = R$130,000 Inventory purchases for the year = R$1,570,000 Machinery, land, and buildings were purchased on June 30, 20X4 Bralta is the Brazilian subsidiary of Altapro Co., a Canadian company. Under the temporal method, what is the total of the non-monetary assets?

A) $1,565,090 B) $1,735,730 C) $2,151,832 D) $2,185,770 Answer: B Page Ref: 452-453 Learning Obj.: 9.1 Difficulty: Moderate

5) Which of the following statements about non-monetary assets is true?

A) Under the temporal method, non-monetary assets are translated at the closing rate.

B) Under the temporal method, non-monetary assets are translated at the average rate.

C) Under the current-rate method, non-monetary assets are translated at the historical rate.

D) Under the current-rate method, non-monetary assets are translated at the closing rate.

Answer: D Page Ref: 457 Learning Obj.: 9.1 Difficulty: Moderate

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9-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 6) Under the current-rate method, which of the following items would be translated using the historical rate?

A) Land B) Inventory C) Long-term debentures D) Share capital Answer: D Page Ref: 456-457 Learning Obj.: 9.1 Difficulty: Easy

7) Which of the following statements about the temporal method is true?

A) The accounting exposure is always a net asset balance.

B) The accounting exposure is always a net liability balance.

C) The proportionate amounts of various assets and liabilities change after the statement of financial position is translated.

D) The temporal method and the current rate method both yield the same exchange gain or loss.

Answer: C Page Ref: 456-458 Learning Obj.: 9.1 Difficulty: Moderate

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9-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 8) All of the following statements are stated in Brazil reals (R$).

Bralta Ltd. Statement of Financial Position June 30, 20X5 Cash Accounts receivable Inventories Machinery (net) Land and building (net)

60,000 740,000 300,000 850,000 1,800,000 3,750,000

Current liabilities Bonds payable Common shares Retained earnings

500,000 2,000,000 2,500,000 1,000,000 250,000 3,750,000

Additional information: Selected exchange rates: June 30, 20X4 R$1 = $0.5906 June 30, 20X5 R$1 = $0.5623 Average for 20X5 R$1 = $0.5744 Date of purchase of inventory on hand at year-end R$1 = $.05688 Dividends were declared on June 30, 20X5 Opening inventory = R$130,000 Inventory purchases for the year = R$1,570,000 Machinery, land, and buildings were purchased on June 30, 20X4 Bralta is the Brazilian subsidiary of Altapro Co., a Canadian company. Under the current-rate method, what is the balance of the total assets?

A) $2,108,625 B) $2,154,000 C) $2,161,688 D) $2,183,620 Answer: A Page Ref: 455-457 Learning Obj.: 9.1 Difficulty: Moderate

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9-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 9) All of the following statements are stated in Brazil reals (R$).

Bralta Ltd. Statement of Financial Position June 30, 20X5 Cash Accounts receivable Inventories Machinery (net) Land and building (net)

60,000 740,000 300,000 850,000 1,800,000 3,750,000

Current liabilities Bonds payable Common shares Retained earnings

500,000 2,000,000 2,500,000 1,000,000 250,000 3,750,000

Additional information: Selected exchange rates: June 30, 20X4 R$1 = $0.5906 June 30, 20X5 R$1 = $0.5623 Average for 20X5 R$1 = $0.5744 Date of purchase of inventory on hand at year-end R$1 = $.05688 Dividends were declared on June 30, 20X5 Opening inventory = R$130,000 Inventory purchases for the year = R$1,570,000 Machinery, land, and buildings were purchased on June 30, 20X4 Bralta is the Brazilian subsidiary of Altapro Co., a Canadian company. Under the current-rate method, what is the translation gain or loss?

A) $(85,610) B) $(35,375) C) $35,375 D) $85,619 Answer: B Page Ref: 455-457 Learning Obj.: 9.1 Difficulty: Moderate

10) What gives rise to accounting exposure to changes in the foreign exchange rate?

A) Holding common shares in a foreign entity B) Holding preferred shares in a foreign entity C) The accounting method used to translate the foreign entity's financial statements D) The impact of exchange rate fluctuations on the present value of future cash flows Answer: C Page Ref: 458 Learning Obj.: 9.2 Difficulty: Moderate

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9-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 11) What is the risk of an apparent gain or loss arising from the restatement of financial statements prepared in one currency to another currency called?

A) Transaction exposure B) Accounting exposure C) Economic exposure D) Restatement exposure Answer: B Page Ref: 454 and 458 Learning Obj.: 9.2 Difficulty: Moderate

12) What is the impact of currency realignment on the earnings ability of a foreign operation known as?

A) Economic exposure B) Accounting exposure C) Exchange rate exposure D) International exposure Answer: A Page Ref: 459 Learning Obj.: 9.1 Difficulty: Moderate

13) A Canadian company has three subsidiaries that operate autonomously in Asia. What is the most appropriate alternative for handling translation gains and losses?

A) Immediate recognition B) Limited recognition C) Deferred recognition D) Immediate recognition for losses and deferred recognition for gains Answer: C Page Ref: 460-461 Learning Obj.: 9.3 Difficulty: Moderate

14) Cho Co., a public Canadian corporation, has a subsidiary in South Africa. It has been determined that the functional currency of the foreign operations is the South African rand. Which of the following statements is true?

A) Cho Co.'s financial statements will have to be translated into South African rand.

B) The presentation currency is the Canadian dollar.

C) Cho's transactions with the subsidiary will need to be re-measured.

D) Cho will not be required to consolidate.

Answer: B Page Ref: 462-463 Learning Obj.: 9.4 Difficulty: Moderate

.

9-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 15) Which of the following factors is a primary indicator used to choose a functional currency?

A) Autonomy of the subsidiary B) Proportion of intercompany transactions C) Sources of competitive forces and regulations D) Ability of subsidiary to generate cash flows to service its debts Answer: C Page Ref: 463 Learning Obj.: 9.4 Difficulty: Moderate

16) Which of the following is an indication that a parent company and a foreign subsidiary are integrated?

A) Control of the subsidiary by the parent B) Financing of subsidiary operations provided by the parent C) A high volume of intercompany transactions D) Sales prices of the subsidiary's goods are set by local market conditions Answer: C Page Ref: 465-466 Learning Obj.: 9.4 Difficulty: Easy

17) IQ has a wholly owned subsidiary in China. This subsidiary is dependent on IQ for financing and sales. How should foreign exchange gains on translation of the subsidiary's statements to Canadian dollars be reported on IQ's consolidated financial statements?

A) Gains should be credited directly to shareholders' equity.

B) Gains should be reported on the balance sheet as deferred credits and amortized in a systematic and rational manner.

C) Gains from current monetary assets should be credited to income, and any gains from long-term nonmonetary assets should be deferred and amortized.

D) Gains from current monetary assets and any gains from long-term monetary assets should be credited to income.

Answer: D Page Ref: 465-466 Learning Obj.: 9.4 Difficulty: Moderate

18) ISP has a wholly owned subsidiary in China. This subsidiary is self-sufficient and does not rely on ISP for financing and sales. How should foreign exchange gains on translation of the subsidiary's statements to Canadian dollars be reported on ISP's consolidated financial statements?

A) Gains should be reported under shareholders' equity.

B) Gains should be reported on the statement of financial position as deferred credits and amortized in a systematic and rational manner.

C) Gains from current net assets should be credited to income, and any gains from long-term nonmonetary assets should be deferred and amortized.

D) Gains from current monetary assets should be credited to income and any gains from long-term monetary assets should be deferred and amortized.

Answer: A Page Ref: 466-467 Learning Obj.: 9.4

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9-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Difficulty: Moderate

19) Which of the following factors is a secondary indicator used to choose a functional currency?

A) Currency in which the cost of goods sold is denominated B) Currency in which the selling prices are denominated C) Sources of competition and regulations D) Ability of subsidiary to generate cash flows to service its debts Answer: D Page Ref: 464-465 Learning Obj.: 9.4 Difficulty: Moderate

20) When it is not clear what the functional currency is, an accountant must use professional judgment to choose the functional currency. What is the main criterion upon which the choice should be based?

A) Whether it faithfully represents the accounting effects of the transactions and events B) Whether it faithfully represents the economic effects of the transactions and events C) Whether it faithfully represents the translation effects of the transactions and events D) Degree to which it minimizes accounting exposure Answer: B Page Ref: 465 Learning Obj.: 9.4 Difficulty: Moderate

21) LaSalle Ltd., a Canadian company, has a subsidiary in Brazil that produces a component used in LaSalle's manufacturing. All of the components that the subsidiary produces are sold to LaSalle. The subsidiary also purchases most of the raw materials used in its production from LaSalle. Both companies use the Canadian dollar as their functional currency. Which of the following statements is true?

A) The current rate method of translation should be used.

B) Nothing needs to be done with the subsidiary's financial statements prior to consolidation.

C) The subsidiary's financial statements need to be re-measured in the functional currency prior to consolidation.

D) The subsidiary is considered to be an extension of the parent company and consolidation is not required.

Answer: C Page Ref: 465-466 Learning Obj.: 9.4 Difficulty: Moderate

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9-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 22) Which translation method should be used for the following subsidiaries?

A) Extension of Parent Company Autonomous Temporal Temporal B) Extension of Parent Company Temporal

Autonomous Current

C) Extension of Parent Company Current

Autonomous Current

D) Extension of Parent Company Current

Autonomous Temporal

Answer: B Page Ref: 465-466 Learning Obj.: 9.4 Difficulty: Moderate

23) For publicly accountable companies, with foreign operations in countries with a hyper-inflationary economy, what should be done prior to translation?

A) The subsidiary's financial statements must be adjusted for changes in the price levels of the subsidiary's country.

B) The subsidiary's financial statements must be adjusted for changes in the price level of the parent's country.

C) The subsidiary's financial statements must be adjusted by the average inflation rate of the subsidiary and the parent companies' countries.

D) No adjustment is required unless the changes in price levels of the subsidiary country exceed 1000%.

Answer: A Page Ref: 467 Learning Obj.: 9.4 Difficulty: Moderate

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9-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 24) For consolidation purposes, what exchange rate is used for converting the retained earnings of a foreign subsidiary into Canadian dollars under the current rate method?

A) Specific historical rate B) Historical rates of accumulation C) Current rate D) Closing rate Answer: B Page Ref: 468-469 Learning Obj.: 9.4 Difficulty: Moderate

.

9-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 25) All of the following statements are stated in Brazil reals (R$).

Date of purchase of inventory on hand at year-end

R$1 = $.05688

Dividends were declared on June 30, 20X5 Opening inventory = R$130,000 Inventory purchases for the year = R$1,570,000 Machinery, land, and buildings were purchased on June 30, 20X4 Bralta is the Brazilian subsidiary of Altapro Co., a Canadian company. Bralta had net assets at June 30, 20X4, of R$1,100,000. What is the cost of sales under the temporal method?

A) $801,406 B) $804,160 C) $807,946 D) $809,896 Answer: C Page Ref: 472 Learning Obj.: 9.5 Difficulty: Difficult

.

9-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 26) Under the temporal method, at what exchange rate is depreciation expense translated?

A) At the average rate for the year B) At the historical rate when the related assets were acquired C) At the closing rate D) At the rate at the beginning of the fiscal period Answer: B Page Ref: 472 Learning Obj.: 9.5 Difficulty: Moderate

27) All of the following statements are stated in Brazil reals (R$).

Bralta Ltd. Statement of Financial Position June 30, 20X5 Cash Accounts receivable Inventories Machinery (net) Land and building (net)

60,000 740,000 300,000 850,000 1,800,000 3,750,000

Current liabilities Bonds payable Common shares Retained earnings

500,000 2,000,000 2,500,000 1,000,000 250,000 3,750,000

Additional information: Selected exchange rates: June 30, 20X4 R$1 = $0.5906 June 30, 20X5 R$1 = $0.5623 Average for 20X5 R$1 = $0.5744 Date of purchase of inventory on hand at year-end

R$1 = $.05688

Dividends were declared on June 30, 20X5 Opening inventory = R$130,000 Inventory purchases for the year = R$1,570,000 Machinery, land, and buildings were purchased on June 30, 20X4 Bralta is the Brazilian subsidiary of Altapro Co., a Canadian company. What is the balance of total assets under the temporal method?

A) $2,108,625 B) $2,154,000 C) $2,183,620 D) $2,185,570 Answer: D Page Ref: 472 Learning Obj.: 9.5 Difficulty: Moderate

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9-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 28) Olin Ltd. is a foreign subsidiary of Rainier Ltd., a Canadian corporation. Rainier translated Olin's financial statements to Canadian dollars using the temporal method, which resulted in a cumulative translation gain of $15,500. How should the $15,500 be treated on Rainier's consolidated financial statements?

A) The $15,500 should be disclosed in the opening consolidated retained earnings.

B) The $15,500 should be reported on the consolidated SCI. C) The part of the $15,500 that relates to the prior years should be included in the opening consolidated retained earnings and the balance should be reported on the consolidated SCI. D) The $15,500 should only be disclosed in the notes to the consolidated financial statements.

Answer: C Page Ref: 474-475 Learning Obj.: 9.5 Difficulty: Difficult

29) Under the current-rate method, at what exchange rate is depreciation expense translated?

A) At the average rate for the year B) At the historical rate when the related assets were acquired C) At the closing rate D) At the rate at the beginning of the fiscal period Answer: A Page Ref: 469-470 Learning Obj.: 9.5 Difficulty: Moderate

30) What does a funds-flow statement measure?

A) Exchange gains/losses arising from the income statement B) Exchange gains/losses arising from monetary assets and liabilities C) Exchange gains/losses arising from non-monetary assets and liabilities D) Exchange gains/losses arising from financing instruments Answer: B Page Ref: 474 Learning Obj.: 9.5 Difficulty: Moderate

31) A company has translated its foreign subsidiary's financial statements using the temporal method.

What is the accounting treatment for exchange gains and losses arising from previous years?

A) Reported as equity B) Reported in other comprehensive income C) Reported in consolidated net income D) Included in opening consolidated retained earnings Answer: D Page Ref: 475 Learning Obj.: 9.5 Difficulty: Moderate

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9-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 32) Under the current-rate method, what is the accounting treatment for exchange gains and losses arising from the current year?

A) Reported as equity B) Reported in other comprehensive income C) Reported in consolidated net income D) Included in opening consolidated retained earnings Answer: B Page Ref: 472 Learning Obj.: 9.5 Difficulty: Moderate

33) If a foreign currency is strengthening with respect to the Canadian dollar, which of the following is true?

A) Both the current-rate method and the temporal method would show an exchange gain.

B) Both the current-rate method and the temporal method would show an exchange loss.

C) The current-rate method would show an exchange gain and the temporal method would show an exchange loss.

D) The current-rate method would show an exchange loss and the temporal method would show an exchange gain.

Answer: C Page Ref: 476 Learning Obj.: 9.5 Difficulty: Moderate

34) For private enterprises that use the current-rate method, how does reporting under Accounting Standards for Private Enterprises (ASPE) differ from reporting under IFRS? A) Exchange gains and losses are reported as other comprehensive income.

B) Exchange gains and losses are reported as net income.

C) Exchange gains and losses are reported as a separate component of shareholders' equity.

D) The current-rate method is not permitted under ASPE. Answer: C Page Ref: 477 Learning Obj.: 9.5 Difficulty: Moderate

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9-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 35) DNA was incorporated on January 2, 20X0, and commenced active operations immediately. Common shares were issued on the date of incorporation and no new common shares have been issued since then.

On December 31, 20X3, INT purchased 70% of the outstanding common shares of DNA for 800,000 Swedish Krona (SEK).

DNA's main operations are located in Switzerland. For the year ending December 31, 20X6, the income statement (in 000s) for DNA was as follows: Sales Cost of goods sold Depreciation expense Income tax expense–current Net income

SEK

SEK

1,625 (1,200) (75) (100) 250

The comparative and condensed statements of financial position (in 000s) for DNA were as follows:

Accounts receivable SEK Inventory Property, plant, and equipment – net Total SEK

20X6 400 200 1,750 2,350

Accounts payable SEK Other current monetary liabilities Common shares Retained earnings (Note 3) Total SEK

90 200 1,250 810 2,350

SEK

SEK SEK

SEK

20X5 385 90 1,825 2,300 85 250 1,250 715 2,300

OTHER INFORMATION: • Purchases and sales of merchandise inventory occurred evenly throughout the year.

• The ending inventory was purchased evenly throughout the last month of the year.

• DNA purchased the property, plant, and equipment on hand at the end of 20X6 on March 17, 20X1.

There were no purchases or sales of these assets from 20X3 to 20X6.

• Dividends were paid on June 30, 20X6.

Assume that foreign exchange rates were as follows: January 2, 20X0 $1 = SEK 2.30 March 17, 20X1 $1 = SEK 2.60 December 31, 20X3 $1 = SEK 2.70 Average for 20X5 $1 = SEK 2.90 Average for quarter 4 for 20X5 $1 = SEK 3.00 Average for December 20X5 $1 = SEK 3.10 December 31, 20X5 $1 = SEK 3.30 June 30, 20X6 $1 = SEK 3.60 Average for 20X6 $1 = SEK 3.50 Average for quarter 4 for 20X6 $1 = SEK 3.70 Average for December 20X6 $1 = SEK 3.80 December 31, 20X6 $1 = SEK 3.90 .

9-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations

DNA's financial statements need to be translated into Canadian dollars for consolidation with INT's financial statements.

Required: Calculate the exchange gain/loss on current monetary items for 20X6 under the temporal method.

Answer:

Net monetary assets, beginning Sales Purchases (SEK1,200 + SEK200 - SEK90) Income taxes Dividends (SEK715 + SEK250 - SEK810) Net monetary assets, end of year Actual net monetary assets, end of year Exchange loss

SEK

Rate

$ (Note 1)

50,000 1,625,000 (1,310,000) (100,000) (155,000)

3.3 3.5 3.5 3.5 3.6

110,000

3.9

15,152 464,286 (374,286) (28,571) (43,056) 33,525 28,205 5,320

Note 1: The Canadian dollar amount is determined by taking the amount in SEK and dividing by the exchange rate.

Page Ref: 452-455, 472-476 Learning Obj.: 9.5 Difficulty: Moderate

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9-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 36) DNA was incorporated on January 2, 20X0, and commenced active operations immediately. Common shares were issued on the date of incorporation and no new common shares have been issued since then.

On December 31, 20X3, INT purchased 70% of the outstanding common shares of DNA for 800,000 Swedish Krona (SEK).

DNA's main operations are located in Switzerland. For the year ending December 31, 20X6, the income statement (in 000s) for DNA was as follows: Sales Cost of goods sold Amortization expense Income tax expense–current Net income

SEK

SEK

1,625 1,200 75 100 250

The comparative and condensed statements of financial position (in 000s) for DNA were as follows:

SEK

20X6 400 200 1,750 2,350

20X5 SEK 385 90 1,825 SEK 2,300

Accounts payable SEK Other current monetary liabilities Common shares Retained earnings (Note 3) Total SEK

90 200 1,250 810 2,350

SEK

Accounts receivable Inventory (Note 1) Capital assets–net (Note 2) Total

SEK

SEK

85 250 1,250 715 2,300

OTHER INFORMATION: • Purchases and sales of merchandise inventory occurred evenly throughout the year.

• The ending inventory was purchased evenly throughout the last month of the year.

• DNA purchased the property, plant, and equipment on hand at the end of 20X6 on March 17, 20X1.

There were no purchases or sales of these assets from 20X3 to 20X6.

• Dividends were paid on June 30, 20X6.

Assume that foreign exchange rates were as follows: January 2, 20X0 $1 = SEK 2.30 March 17, 20X1 $1 = SEK 2.60 December 31, 20X3 $1 = SEK 2.70 Average for 20X5 $1 = SEK 2.90 Average for quarter 4 for 20X5 $1 = SEK 3.00 Average for December 20X5 $1 = SEK 3.10 December 31, 20X5 $1 = SEK 3.30 June 30, 20X6 $1 = SEK 3.60 Average for 20X6 $1 = SEK 3.50 Average for quarter 4 for 20X6 $1 = SEK 3.70 Average for December 20X6 $1 = SEK 3.80 December 31, 20X6 $1 = SEK 3.90 .

9-17

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations DNA's financial statements need to be translated into Canadian dollars for consolidation with INT's financial statements.

Required: Translate DNA's statement of financial position at December 31, 20X6, into Canadian dollars under the temporal method.

Answer:

SEK

3.9

C$

400,000 200,000 1,750,000

3.9 3.8 2.7

102,564 52,632 648,148 803,344

Accounts payable 90,000 Other current monetary liabilities 200,000 Common shares 1,250,000 Retained earnings 810,000

3.9 3.9 2.7

23,077 51,282 462,963

plug

266,022 803,344

Accounts receivable Inventory Property, plant, and equipment

Page Ref: 452-455, 472-476 Learning Obj.: 9.5 Difficulty: Moderate

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9-18

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 37) Liverpool Company operates retail stores in Canada and an exporting business in London that specializes in buying and selling British tweeds. The London subsidiary provided the following financial statements in pounds sterling to the Canadian parent company.

LIVERPOOL COMPANY, London Branch Statement of Comprehensive Income Year Ended December 31, 20X5 Sales Cost of goods sold Depreciation expense Other expenses

£ 2,300,000 (1,200,000) (300,000) (300,000)

Comprehensive income

£ 500,000

LIVERPOOL COMPANY, London Branch Statement of Changes in Equity–Partial–Retained Earnings section Year Ended December 31, 20X5 Retained earnings–January 1 Comprehensive income for the year Less: Dividends declared and paid, December 31 Retained earnings–December 31

£ 850,000 500,000 (200,000) £ 1,150,000

LIVERPOOL COMPANY, London Branch Statement of Financial Position December 31, 20X5 Assets Cash and receivables Merchandise inventory Property, plant, and equipment Total

20X5 £ 1,150,000 450,000 3,450,000 £ 5,050,000

20X4 £ 520,000 380,000 3,750,000 £ 4,650,000

Current liabilities Long-term notes payable, due December 31, 20X9 Capital stock Retained earnings Total

£700,000 1,200,000 2,000,000 1,150,000 £5,050,000

£600,000 1,200,000 2,000,000 850,000 £4,650,000

Liverpool Company was incorporated on January 1, 1984, at which time an amount of property, plant, and equipment with a present (December 31, 20X5) net book value of £3,000,000 was purchased.

Additional equipment was purchased December 31, 20X4 (20% of depreciation expense relates to this new equipment). The long-term notes were issued, to replace financing provided by the parent, on January 1, 20X4. .

9-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations

Direct exchange rates for the pound sterling are: January 1, 1984 January 1, 1986 January 1, 20X4 Average for quarter 4, 20X4 December 31, 20X4 / January 1, 20X5 December 31, 20X5 Average for 20X5 Average for quarter 4, 20X5

£1 = $1.9180 1.8365 1.6000 1.5612 1.5426 1.4730 1.5093 1.4950

The January 1, 20X5, retained earnings balance of the London Branch of the Liverpool Company correctly translated to Canadian dollars was $1,783,774. The beginning inventory of £380,000 was acquired during the last quarter of 20X4 and the ending inventory was acquired during the last quarter of 20X5. Sales and purchases were made, and other expenses were incurred, evenly throughout the year.

Required: Compute the gain or loss on holding net monetary items for the Liverpool Company for the year ending December 31, 20X5.

Answer: Gain or Loss on Net Monetary Items Opening net monetary assets Inflows Sales Outflows Purchases Other Dividends

£ (1,280,000) 2,300,000 (1,270,000) (300,000) (200,000)

Derived ending net monetary assets Actual ending non-monetary assets (750,000) Gain on net monetary assets

1.5426 1.5093 1.5093 1.5093 1.4730

1.4730

Page Ref: 472-476 Learning Obj.: 9.5 Difficulty: Moderate

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9-20

$ (1,974,528)) 3,471,390 (1,916,811) (452,790) (294,600) (1,167,339) (1,104,750) 62,589

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 38) Liverpool Company operates retail stores in Canada and an exporting business in London that specializes in buying and selling British tweeds. The London subsidiary, which was acquired on January 1, 1986, provided the following financial statements in pounds sterling to the Canadian parent company.

LIVERPOOL COMPANY, London Branch Statement of Comprehensive Income Year Ended December 31, 20X5 Sales Cost of goods sold Depreciation expense Other expenses

£ 2,300,000 (1,200,000) (300,000) (300,000)

Comprehensive income

£500,000

LIVERPOOL COMPANY, London Branch Statement of Changes in Equity–Partial–Retained Earnings section Year Ended December 31, 20X5 Retained earnings–January 1 Comprehensive income for the year Less: Dividends declared and paid, December 31 Retained earnings–December 31

£ 850,000 500,000 (200,000) £1,150,000

LIVERPOOL COMPANY, London Branch Statement of Financial Position December 31, 20X5 Assets Cash and receivables Merchandise inventory Property, plant, and equipment Total

20X5 £ 1,150,000 450,000 3,450,000 £ 5,050,000

20X4 £ 520,000 380,000 3,750,000 £ 4,650,000

Current liabilities £700,000 Long-term notes payable, due December 31, 20X9 1,200,000 Capital stock 2,000,000 Retained earnings 1,150,000 Total £5,050,000

£600,000 1,200,000 2,000,000 850,000 £4,650,000

Liverpool Company was incorporated on January 1, 1984, at which time an amount of property, plant, and equipment with a present (December 31, 20X5) net book value of £3,000,000 was purchased.

Additional equipment was purchased December 31, 20X4 (20% of depreciation expense relates to this new equipment). The long-term notes were issued, to replace financing provided by the parent, on January 1, 20X4. .

9-21

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Direct exchange rates for the pound sterling are: January 1, 1984 January 1, 1986 January 1, 20X4 Average for quarter 4, 20X4 December 31, 20X4 / January 1, 20X5 December 31, 20X5 Average for 20X5 Average for quarter 4, 20X5

£$1 = $1.9180 1.8365 1.6000 1.5612 1.5426 1.4730 1.5093 1.4950

The January 1, 20X5 retained earnings balance of the London Branch of the Liverpool Company correctly translated to Canadian dollars was $1,783,774. The beginning inventory of £380,000 was acquired during the last quarter of 20X4 and the ending inventory was acquired during the last quarter of 20X5. Sales and purchases were made, and other expenses were incurred, evenly throughout the year.

Required: Translate the statement of comprehensive income and statement of changes in equity–partial–retained earnings section of Liverpool Company for the year ending December 31, 20X5, into dollars, assuming that the temporal method is appropriate.

Answer: LIVERPOOL COMPANY–London Branch Statement of Comprehensive Income Year Ended December 31, 20X5 Sales £ 2,300,000 Cost of goods sold (see note 1) (1,200,000) Depreciation expense see note 2 (240,000) (60,000) Other expenses (300,000) Translation gain (see note 3) Comprehensive income

Note 1: Cost of Goods Sold

1.5093 1.8365 1.5426 1.5093

$3,471,390 (1,837,317) (440,760) (92,556) (452,790) 62,589

£500,000

OI P EI

380,000 1,270,000 (450,000) 1,200,000

$710,666

1.5612 1.5093 1.4950

593,256 1,916,811 (672,750) 1,837,317

Note 2: The historical rate is the rate on the date that the subsidiary was acquired by the parent, which was January 1, 1986.

.

9-22

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Note 2: Gain or Loss on Net Monetary Items Opening net monetary assets Inflows Sales Outflows Purchases Other Dividends

£ (1,280,000) 2,300,000 (1,270,000) (300,000) (200,000)

Derived ending net monetary assets Actual ending non-monetary assets (750,000) Gain on net monetary assets

$ 1.5426 1.5093 1.5093 1.5093 1.4730

(1,974,528)) 3,471,390 (1,916,811) (452,790) (294,600)

1.4730

(1,167,339) (1,104,750) 62,589

LIVERPOOL COMPANY Statement of Changes in Equity–Partial–Retained Earnings section Year Ended December 31, 20X5 £ $ Retained earnings - 1/1 850,000 1,783,774 Comprehensive income 500,000 710,666 Less: Dividends (200,000) 1.4730 (294,600) Retained earnings—end £ 1,150,000

$2,199,840

Page Ref: 472-476 Learning Obj.: 9.5 Difficulty: Moderate

.

9-23

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 39) Liverpool Company operates retail stores in Canada and an exporting business in London that specializes in buying and selling British tweeds. The London subsidiary, which was acquired on January 1, 1986, provided the following financial statements in pounds sterling to the Canadian parent company.

LIVERPOOL COMPANY, London Branch Statement of Comprehensive Income Year Ended December 31, 20X5 Sales Cost of goods sold Depreciation expense Other expenses

£ 2,300,000 (1,200,000) (300,000) (300,000)

Comprehensive income

£500,000

LIVERPOOL COMPANY, London Branch Statement of Changes in Equity–Partial–Retained Earnings section Year Ended December 31, 20X5 Retained earnings–January 1 Comprehensive income for the year Less: Dividends declared and paid, December 31 Retained earnings–December 31

£ 850,000 500,000 (200,000) £1,150,000

LIVERPOOL COMPANY, London Branch Statement of Financial Position December 31, 20X5 Assets Cash and receivables Merchandise inventory Property, plant, and equipment Total

20X5 £ 1,150,000 450,000 3,450,000 £ 5,050,000

20X4 £ 520,000 380,000 3,750,000 £ 4,650,000

Current liabilities £700,000 Long-term notes payable, due December 31, 20X9 1,200,000 Capital stock 2,000,000 Retained earnings 1,150,000 Total £5,050,000

£600,000 1,200,000 2,000,000 850,000 £4,650,000

Liverpool Company was incorporated on January 1, 1984, at which time an amount of property, plant, and equipment with a present (December 31, 20X5) net book value of £3,000,000 was purchased.

Additional equipment was purchased December 31, 20X4 (20% of depreciation expense relates to this new equipment). The long-term notes were issued, to replace financing provided by the parent, on January 1, 20X4. .

9-24

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations

Direct exchange rates for the pound sterling are: January 1, 1984 January 1, 1986 January 1, 20X4 Average for quarter 4, 20X4 December 31, 20X4 / January 1, 20X5 December 31, 20X5 Average for 20X5 Average for quarter 4, 20X5

£1 = $1.9180 1.8365 1.6000 1.5612 1.5426 1.4730 1.5093 1.4950

The January 1, 20X5, retained earnings balance of the London Branch of the Liverpool Company correctly translated to Canadian dollars was $1,783,774. The beginning inventory of £380,000 was acquired during the last quarter of 20X4 and the ending inventory was acquired during the last quarter of 20X5. Sales and purchases were made, and other expenses were incurred, evenly throughout the year.

Required: Translate the December 31, 20X5, statement of financial position of Liverpool Company into dollars assuming the London branch has a functional currency of C$s and a presentation currency of C$s.

Explain how it might be determined that the London branch had a function currency of Canadian $s.

Answer: Use the temporal method when the functional currency is C$ and the presentation currency is C$. The historical date to use is the date of acquisition by the parent–January 1, 1986.

LIVERPOOL COMPANY - London Branch Statement of Financial Position December 31, 20X5 Cash and receivables Merchandise inventory PP& E. PP& E. Total Current liabilities Long-term notes payable Capital stock Retained earnings Total

£ 1,150,000 450,000 3,000,000 450,000

1.4730 1.4950 1.8365 1.5426

£ 5,050,000 £ 700,000 1,200,000 2,000,000 1,150,000

$1,693,950 672,750 5,509,500 694,170 $8,507,370

1.4730 1.4730 1.8365

£ 5,050,000

1,031,100 1,767,600 3,673,000 2,035,670 $8,507,370

.

9-25

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations To determine the functional currency of the London Branch, the following factors are considered.

Primary indicators consider what currencies have the most influence on the company's • cost of goods sold; • selling prices and sales; and • competition.

Secondary indicators would be to assess what currencies are used for: • financing activities; • cash investments; and • transactions with the parent in addition to the number and amounts.

To assess that the London Branch had a functional currency of Canadian dollars, the branch would have to be primarily dependent on the parent, buy primarily in Canadian dollars, and raise financing in Canadian dollars.

Page Ref: 462-477 Learning Obj.: 9.4, 9.5 Difficulty: Moderate

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9-26

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 40) Water Bottling Inc. (WBI) is a 100% wholly owned subsidiary with operations in France. WBI was purchased by a Canadian parent on January 1, 20X5, and the FVA was €375,000, all allocated to goodwill.

The financial records of WBI are maintained in euros and provide the following information with respect to equipment and goodwill.

Equipment: Purchased on January 1, 20X5, for €250,000, and depreciated over five years on a straight-line basis.

Equipment: Purchased on January 1, 20X6, for €175,000, and depreciated over five years on a straight-line basis.

Goodwill had a balance of €375,000.

Foreign exchange rates were as follows: January 1, 20X5 Average for 20X5 January 1, 20X6 Average for 20X6 January 1, 20X7 Average for 20X7 December 31, 20X7

€1 = 1.50 €1 = 1.48 €1 = 1.46 €1 = 1.45 €1 = 1.51 €1 = 1.58 €1 = 1.62

Required: Assume that WBC's functional currency is the euro. Calculate the translated Canadian dollar balances for the following accounts for December 31, 20X7. a. Equipment b. Accumulated depreciation–equipment c. Depreciation expense d. Goodwill Answer: If the functional currency of WBC is the euro, then the balances are translated at the current rate on December 31, 20X7. a. Equipment (€425,000 × 1.62) b. Accumulated depreciation 1st purchase (€250,000/5 × 3 × 1.62) 2nd purchase (€175,000/5 ×2 × 1.62) Total

$688,500 $243,000 113,400 $356,400

c. Depreciation expense [(€250,000/5 + €175,000/5) × 1.58] d. Goodwill ((€375,000 × 1.62)

$134,300 $607,500

Page Ref: 462-477 Learning Obj.: 9.5 Difficulty: Moderate

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9-27

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 41) Water Bottling Inc. (WBI) is a 100% wholly owned subsidiary with operations in France. WBI was purchased by a Canadian parent on January 1, 20X5, and the FVA was €375,000, all allocated to goodwill.

The financial records of WBI are maintained in euros and provide the following information with respect to equipment, investment property, and goodwill.

Equipment: Purchased on January 1, 20X5, for €250,000, and depreciated over five years on a straight-line basis.

Equipment: Purchased on January 1, 20X6, for €175,000, and depreciated over five years on a straight-line basis.

Investment property was purchased January 1, 20X7, for €5,600,000. At December 31, 20X7, the property had a fair value of €5,400,000. The company uses the fair value method for the investment property.

Goodwill had a balance of €375,000.

Foreign exchange rates were as follows: January 1, 20X5 €1= C$1.50 Average for 20X5 €1 = C$1.48 January 1, 20X6 €1 = C$1.46 Average for 20X6 €1 = C$1.45 January 1, 20X7 €1 = C$1.51 Average for 20X7 €1 = C$1.58 December 31, 20X7 €1 = C$1.62 Required: Assume that WBC's functional currency is the Canadian dollar. Calculate the translated Canadian dollar balances for the following accounts for December 31, 20X7: a. Equipment b. Accumulated depreciation–equipment c. Depreciation expense d. Investment property e. Goodwill

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9-28

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Answer: If the functional currency of WBC is the Canadian dollar, then the balances are translated at the rate in effect when the transaction took place–i.e., the temporal method. a. Equipment 1st purchase (€250,000 × 1.50) 2nd purchase (€175,000 × 1.46) Total

$ 375,000 255,500 $ 630,500

b. Accumulated depreciation 1st purchase (€£250,000/5 × 3 × 1.50) 2nd purchase (€175,000/5 × 2 × 1.46) Total

$ 225,000 102,200 $ 327,200

c. Depreciation expense 1st purchase (€250,000/5 × 1.50) 2nd purchase (€175,000/5 × 1.46) Total

$ 75,000 51,100 $ 177,200

d. Investment property €5,400,000 × 1.62

$8,748,000

e. Goodwill €375,000 × 1.50

562,500

Page Ref: 462-477 Learning Obj.: 9.4, 9.5 Difficulty: Moderate

.

9-29

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 42) On January 1, 20X7, Clock Inc. of Vancouver purchased 75% of the outstanding shares of Time Limited in London, England. Time Limited's statements of financial position and statements of comprehensive income and changes in equity–retained earnings section for the year ended December 31, 20X7, are below.

.

9-30

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Additional information: 1. Time was incorporated on January 1, 20X3, when it acquired all its equipment for £4,005,000 and issued its 10-year bonds payable.

2. Time's purchases and sales occurred evenly over the year. Inventories on hand at December 31, 20X6, and December 20X7 were purchased evenly over the last quarter of 20X6 and 20X7, respectively.

Inventories as at December 31, 20X7, were £650,000.

3. Dividends were paid on March 31, 20X7. There were no changes in share capital over the year.

4. Foreign exchange rates are as follows: January 1, 20X3 Average for Oct to Dec, 20X6 Average for 20X6 December 31, 20X6/January 1, 20X7 March 31, 20X7 Average for Oct to Dec, 20X7 Average for 20X7 December 31, 20X7

£1 = C$1.95 £1 = C$1.64 £1 = C$1.73 £1 = C$1.67 £1 = C$1.61 £1 = C$1.55 £1 = C$1.57 £1 = C$1.52

Required: Translate Time's statement of financial position at December 31, 20X7, into Canadian dollars, assuming its functional currency is British pound sterling. Include a calculation to prove the amount of the cumulative foreign exchange translation gains and losses.

.

9-31

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Answer: The current rate method is used in this case.

Time Limited Statement of Financial Position December 31, 20X7 (in thousands of £'s) Assets Cash Accounts receivable Inventories Equipment, net Total assets

£ 50 575 825 2,670 4,120

Liabilities Accounts payable Bonds payable Common shares Retained earnings Cumulative translation gains and losses Total liabilities and shareholders' equity

Exchange rate 1.52 1.52 1.52 1.52

465 1,290 1,200 1,165

1.52 1.52 1.67

4,120

In thousands of £'s (2) Cumulative translation gain (loss): Net assets, Dec 31, 20X6 (1,002 + ,1200) Changes in net assets, 20X7 Net income Dividends Calculated net assets Actual net assets Cumulative translation gain

C$ 76 874 1,254 4,058 6,262

706 1,961 2,004 1,926 (335) 6,262

In thousands of C$'s

2,202

1.67

3,677

213 (50)

1.57 1.61

2,365

1.52

334 (81) 3,930 3,595 335

Page Ref: 468-472 Learning Obj.: 9.5 Difficulty: Moderate

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9-32

Dr.

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 43) On January 1, 20X6, Clock Inc. of Vancouver purchased 75% of the outstanding shares of Time Limited in London, England. Time Limited's statements of financial position and statements of comprehensive income and changes in equity–retained earnings section for the year ended December 31, 20X7, are below.

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9-33

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Additional information: 1. Time was incorporated on January 1, 20X3, when it acquired all its equipment for £4,005,000 and issued its 10-year bonds payable.

2. Time's purchases and sales occurred evenly over the year. Inventories on hand at December 31, 20X6, and December 20X7 were purchased evenly over the last quarter of 20X6 and 20X7, respectively.

Inventories as at December 31, 20X7, were £650,000.

3. Dividends were paid on March 31, 20X7.

4. Foreign exchange rates are as follows: January 1, 20X3 January 1, 20X6 Average for Oct to Dec, 20X6 Average for 20X6 December 31, 20X6/January 1, 20X7 March 31, 20X7 Average for Oct to Dec, 20X7 Average for 20X7 December 31, 20X7

£1 = C$1.95 £1 = C$1.85 £1 = C$1.64 £1 = C$1.73 £1 = C$1.67 £1 = C$1.61 £1 = C$1.55 £1 = C$1.57 £1 = C$1.52

Required: Translate Time's statement of financial position at December 31, 20X7, into Canadian dollars, assuming its functional currency is Canadian dollars. Calculate the translation gain or loss arising in 20X7.

Answer: The temporal method is used in this case.

Time Limited Statement of Financial Position December 31, 20X7 (in thousands of £'s) Assets Cash Accounts receivable Inventories Equipment, net Total assets Liabilities Accounts payable Bonds payable Common shares Retained earnings Total liabilities and shareholders' equity

£ 50 575 825 2,670 4,120

465 1,290 1,200 1,165 4,120

.

9-34

Exchange rate 1.52 1.52 1.55 1.85

1.52 1.52 1.85

C$ 76 874 1,279 4,940 7,169

706 1,961 2,220 2,282 7,169

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Calculation of translation gain or loss for 20X7.

In thousands of £'s Monetary items: Balance January 1, 20X7 Changes during 20X7 Sales Purchases (note 1) Interest Other expenses Dividends paid Derived balance Actual balance–December 31, 20X7 Net translation gain for 20X7

Local currency £ Exchange rate

C$

(1,385)

1.67

(2,313)

2,170 (1,378) (80) (407) (50)

1.57 1.57 1.57 1.57 1.61

(1,130)

1.52

3,407 (2,163) (126) (639) (81) (1,915) (1,718) 197

Note 1: Purchases is equal to: Cost of goods sold add closing inventory less opening inventory: = 1,203 +825 - 650 = 1,378 Page Ref: 472-476 Learning Obj.: 9.5 Difficulty: Difficult

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9-35

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations 44) On January 1, 20X6, Clock Inc. of Vancouver purchased 75% of the outstanding shares of Time Limited in London, England. Time Limited's statements of financial position and statements of comprehensive income and changes in equity–retained earnings section for the year ended December 31, 20X7, are below.

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9-36

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations

Additional information: 1. Time was incorporated on January 1, 20X3, when it acquired all its equipment for £4,005,000 and issued its 10-year bonds payable.

2. Time's purchases and sales occurred evenly over the year. Inventories on hand at December 31, 20X6, and December 20X7 were purchased evenly over the last quarter of 20X6 and 20X7, respectively.

Inventories as at December 31, 20X7, were £650,000.

3. Dividends were paid on March 31, 20X7.

4. Foreign exchange rates are as follows: January 1, 20X3 January 1, 20X6 Average for Oct to Dec, 20X6 Average for 20X6 December 31, 20X6/January 1, 20X7 March 31, 20X7 Average for Oct to Dec, 20X7 Average for 20X7 December 31, 20X7

£1 = C$1.95 £1 = C$1.85 £1 = C$1.64 £1 = C$1.73 £1 = C$1.67 £1 = C$1.61 £1 = C$1.55 £1 = C$1.57 £1 = C$1.52

Required: Translate Time's statement of comprehensive income for the year ended December 31, 20X7 into Canadian dollars assuming its functional currency is Canadian dollars. Calculate the translation gain or loss arising in 20X7. .

9-37

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 9 Reporting Foreign Operations Answer:

Time Limited Statement of Comprehensive Income Year Ended December 31, 20X7 (in thousands of £'s) £

Sales

2,170

Opening inventory Purchases Closing inventory Depreciation expense Interest expense Other expenses

650 1,378 (825) 267 80 407 1,957

Translation gain Comprehensive income

Exchange rate 1.57

C$ 3,407

1.64 1.57 1.55 1.85 1.57 1.57

1,066 2,163 (1,279) 494 126 639 3,209 198 197 395

213

Calculation of translation gain or loss for 20X7.

In thousands of £'s Monetary items: Balance January 1, 20X7 Changes during 20X7 Sales Purchases (note 1) Interest Other expenses Dividends paid Derived balance Actual balance–December 31, 20X7 Net translation gain for 20X7

Local currency £

Exchange rate

C$

(1,385)

1.67

(2,313)

2,170 (1,378) (80) (407) (50)

1.57 1.57 1.57 1.57 1.61

(1,130)

1.52

3,407 (2,163) (126) (639) (81) (1,915) (1,718) 197

Note 1: Purchases is equal to: Cost of goods sold add closing inventory less opening inventory: = 1,203 + 825 - 650 = 1,378 Page Ref: 472-476 Learning Obj.: 9.5 Difficulty: Difficult

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9-38

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 1) Which of the following statements about incorporated not-for-profit (NFP) organizations is true?

A) Incorporated NFP organizations can only issue preferred share capital.

B) Incorporated NFP organizations do not have share capital.

C) Incorporated NFP organizations can only be government-owned.

D) NFP organizations cannot be incorporated.

Answer: B Page Ref: 508-509, 511 Learning Obj.: 10.1 Difficulty: Moderate

2) One of the programs that the Tyger Society operates is a drug and alcohol awareness program for junior high school students across Canada. This is an example of _________.

A) business goods and services B) private goods and services C) collective goods and services D) government goods and services Answer: C Page Ref: 512 Learning Obj.: 10.1 Difficulty: Easy

3) A not-for-profit organization provides language training and homework assistance to immigrants.

Most of the services are provided by volunteers and all the funds come from public donations. The primary objective in preparing financial statements for this organization is ________.

A) stewardship B) measuring the cost of services rendered C) predicting cash flow D) management evaluation Answer: A Page Ref: 513-514 Learning Obj.: 10.1 Difficulty: Moderate

4) Which of the following reporting objectives for not-for-profit organizations allows the users to determine whether restricted funds were spent in accordance with the intended purpose?

A) Cash flow prediction B) Performance evaluation C) Stewardship D) Measuring the cost of services rendered Answer: C Page Ref: 513-514 Learning Obj.: 10.1 Difficulty: Moderate

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10-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 5) The disbursement basis for recognizing resource outflows uses which of the following bases?

A) The full accrual basis B) The accrual basis only as applied to liabilities C) The accrual basis only as applied to expenses D) The cash basis Answer: D Page Ref: 515 Learning Obj.: 10.2 Difficulty: Moderate

6) A university needs to know the cost of delivering each of its programs. Which basis would be the most appropriate for the university to use on its statement of operations?

A) Disbursement basis B) Expense basis C) Expenditure basis D) Cash basis Answer: B Page Ref: 516 Learning Obj.: 10.2 Difficulty: Moderate

7) For NFPs with a GAAP constraint, the CICA Handbook ________.

A) permits disbursement basis accounting B) permits disbursement or expense basis accounting C) requires expenditure basis accounting D) requires expense basis accounting Answer: D Page Ref: 515 Learning Obj.: 10.2 Difficulty: Moderate

8) For a not-for-profit organization, an expenditure is ________.

A) any payment for expenses or to settle a liability B) a payment, a liability incurred, or a transfer of property to obtain goods or services C) any cost associated with the consumption of goods or services D) a capital acquisition only Answer: B Page Ref: 516 Learning Obj.: 10.2 Difficulty: Moderate

9) The CICA Handbook requires large not-for-profit organizations to ________.

A) immediately write-off the capital assets B) capitalize, but not amortize the capital assets C) capitalize and amortize the capital assets D) only disclose the capital assets in the notes to the financial statements Answer: C Page Ref: 526 Learning Obj.: 10.2

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10-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations Difficulty: Moderate

10) A not-for-profit organization is not required to capitalize and amortize its capital assets if the organization ________.

A) has assets that total less than $500,000 B) has a two-year average annual gross consolidated revenue of less than $500,000 C) has an annual change to net assets of less than $500,000 D) has less than 10 full-time employees Answer: B Page Ref: 526 Learning Obj.: 10.2 Difficulty: Easy

11) In Canada, what is the most common way for a museum to report its collection on its financial statements?

A) Capitalize without depreciating B) Capitalize and depreciate C) Note disclosure that includes the value of the collection D) Note disclosure as to the existence of the collection only Answer: D Page Ref: 527 Learning Obj.: 10.2 Difficulty: Difficult

12) During the year, a not-for-profit art gallery acquired a number of pieces for its collection. Which of the following choices for reporting the acquisitions is not in accordance with the CICA Handbook?

A) Capitalize, but do not depreciate B) Capitalize and depreciate C) Immediate write-off D) Note disclosure only Answer: C Page Ref: 527 Learning Obj.: 10.2 Difficulty: Moderate

13) Help Yourself, a not-for-profit organization, has a 5% economic interest in the Furnishing Bank, another not-for-profit organization. The organizations operate independently, have no directors in common, and have no transactions with each other. For financial reporting purposes, how should Help Yourself account for its interest in the Furnishing Bank?

A) Consolidation B) The equity method C) The cost method D) Note disclosure only Answer: D Page Ref: 528-529 Learning Obj.: 10.2 Difficulty: Moderate

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10-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 14) The Wellness Society, a not-for-profit organization, owns 25% of the shares of the Fitness Factory, a for-profit organization. Three of the 10-person board of directors of the Fitness Factory are also directors of the Wellness Society. How should the Wellness Society account for its investment in the Fitness Factory?

A) Consolidation B) The equity method C) The cost method D) Note disclosure only Answer: B Page Ref: 529 Learning Obj.: 10.2 Difficulty: Difficult

15) The Wellness Society, a not-for-profit organization, owns 5% of the shares of the Fitness Factory, a forprofit organization. The two organizations operate independently and have no board members in common. How should the Wellness Society account for its investment in the Fitness Factory?

A) Consolidation B) The equity method C) The cost method D) Note disclosure only Answer: C Page Ref: 529 Learning Obj.: 10.2 Difficulty: Moderate

16) The Wellness Society, a not-for-profit organization, owns 30% of Walk for Canada, also a not-forprofit organization. The two organizations operate independently and have no board members in common. How should the Wellness Society account for its investment in Walk for Canada?

A) Cost method B) Equity method C) Equity method with supplemental disclosure D) Note disclosure with a description of the relationship and nature and extent of its economic interest Answer: D Page Ref: 528-529 Learning Obj.: 10.2 Difficulty: Moderate

17) Under the deferral method of NFP accounting for unrestricted contributions, ________.

A) revenues are recognized first and then matched to the expenses B) revenues are recognized first and then matched to the expenditures C) expenses are recognized first and then matched to the revenues D) expenditures are recognized first and then matched to the revenues Answer: A Page Ref: 519 Learning Obj.: 10.2 Difficulty: Moderate

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10-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 18) The Smith family contributed $200,000 to a local college to establish a scholarship fund in the name of their late father. Scholarships will be provided from the fund earnings. This is best described as which kind of contribution?

A) Internally restricted contribution B) Externally restricted contribution C) Endowment contribution D) Unrestricted contribution Answer: C Page Ref: 518 Learning Obj.: 10.2 Difficulty: Easy

19) Under the deferral method, how should contributions received in the current year, but restricted for operating expenses for one or more future periods, be reported in the current year?

A) As deferred revenue on the balance sheet B) As revenue in the statement of operations C) As a direct increase to net assets D) As a reduction of operating expenses on the statement of operations Answer: A Page Ref: 519 Learning Obj.: 10.3 Difficulty: Moderate

20) Jordan made a $100,000 contribution to the Appo Society, a not-for-profit organization. Jordan stipulated that his contribution be used for the organization's breakfast program in the next year. How should Appo record the contribution at the time of contribution?

A) As contribution revenue B) As a deferred contribution C) As a prepaid expense D) No entry is required Answer: B Page Ref: 518-519 Learning Obj.: 10.2 Difficulty: Easy

21) Mr. Generous donated $100,000 to Excel Private School and specified that the principal amount not be spent but be maintained permanently. Interest on the invested funds can be used to award scholarships to those who excel in drama. How should the $100,000 contribution be presented on Excel Private School's financial statements?

A) As a direct increase in net assets of the endowment fund B) As revenue of the operating fund C) As revenue of the endowment fund D) As deferred revenue of the operating fund Answer: C Page Ref: 518 Learning Obj.: 10.2 Difficulty: Moderate

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10-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 22) Sydney won a lottery and made a $500,000 endowment contribution to his alma mater to provide scholarships. Under the deferral method, in the year of contribution, the university should recognize the contribution as which of the following?

A) Unrestricted revenue B) Restricted revenue C) Deferred revenue D) An increase to net assets Answer: D Page Ref: 520 Learning Obj.: 10.2 Difficulty: Moderate

23) On December 1, 20X1, Wilson contributed $25,000 to The Women's Shelter, stipulating that his contribution be used to buy a commercial refrigerator and freezer system. The system was purchased on January 2, 20X3. The shelter will depreciate the refrigerator over five years using the straight-line method, with no residual value. The shelter has a December 31 year-end and uses the deferral method. At December 31, 20X3, the shelter made a journal entry to record depreciation. What other journal entry, if any, should the shelter make?

A) DR Capital asset 5,000 CR Deferred contribution revenue (restricted) 5,000 B) DR Deferred contribution revenue (restricted) CR Accumulated depreciation

5,000

C) DR Deferred contribution revenue (restricted) CR Contribution revenue

5,000

5,000

5,000

D) No other entry is required.

Answer: C Page Ref: 519 Learning Obj.: 10.3 Difficulty: Difficult

24) Quick Care, a not-for-profit organization, received an externally restricted contribution. Quick Care does not have a separate restricted fund for the contribution. Under the restricted fund method, the contribution will be recognized as which of the following?

A) A direct increase to net assets B) Revenue in the endowment fund C) Revenue in the general fund using the deferral method D) Revenue in the general fund for unrestricted contributions Answer: C Page Ref: 520 Learning Obj.: 10.2, 10.3 Difficulty: Moderate

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10-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 25) With respect to the endowment fund, which of the following statements is true?

A) Endowment contributions are treated the same way under both the deferral method and the restricted fund method.

B) Endowment contributions are recognized as revenue under the deferral method and as revenue in a restricted fund under the restricted fund method.

C) Endowment contributions are recognized as a direct increase to net assets under the deferral method and as revenue to the endowment fund under the restricted fund method.

D) Endowment contributions are recognized as revenue under the deferral method and as a direct increase to net assets under the restricted fund method.

Answer: C Page Ref: 523 Learning Obj.: 10.2, 10.3 Difficulty: Moderate

26) For the 20X6 fiscal year, KU Care, a not-for-profit organization, received $300,000 in unrestricted donations and $175,000 in donations designated specifically for cancer research. $200,000 of the unrestricted donations and $100,000 of the restricted donations were expended in 20X6 for current operations and cancer research, respectively. KU did not set up a separate fund for the restricted donation. Under the deferral method, how much of the donations should be reported as revenue in the statement of operations for the 20X6 fiscal year?

A) $300,000 B) $375,000 C) $400,000 D) $475,000 Answer: C Page Ref: 519 Learning Obj.: 10.2 Difficulty: Moderate

27) Which of the following statements is true?

A) The deferral method of accounting generally results in a lower level of revenue than the restricted fund method.

B) The deferral method of accounting generally results in a higher level of revenue than the restricted fund method.

C) The deferral method of accounting generally results in a higher level of revenue than the restricted fund method only if capital asset amortization is involved.

D) The deferral method of accounting results in the same amount of revenue as the restricted fund method.

Answer: A Page Ref: 522 Learning Obj.: 10.2, 10.3 Difficulty: Difficult

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10-7

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 28) A local ice cream shop pledged 10% of its sales on July 1 to the Children's Clubhouse, a not-for-profit organization. How should the Children's Clubhouse treat this pledge?

A) Accrue the pledge when it is made B) Accrue the pledge only if the amount can be reasonably estimated C) Accrue the pledge only if there is reasonable assurance that the ice cream shop will pay D) Recognize the pledge when it is collected Answer: D Page Ref: 522-523 Learning Obj.: 10.2 Difficulty: Easy

29) Which of the following statements related to accounting for donated goods and services for a not-forprofit (NFP) organization is true?

A) Recording the value of donated goods and services could be useful in evaluating management performance.

B) Recording the value of donated goods and services could result in inflated earnings.

C) Recording the value of donated goods and services enhances stewardship reporting.

D) Recording the value of donated goods and services is required by the CICA Handbook.

Answer: A Page Ref: 524 Learning Obj.: 10.2 Difficulty: Moderate

30) In a not-for-profit organization, donated capital assets are recorded at what value?

A) The donor's net book value B) Replacement or reproduction cost C) Fair market value D) Estimated net realizable value Answer: C Page Ref: 524, 525 Learning Obj.: 10.2 Difficulty: Easy

31) What type of not-for-profit (NFP) organization may be allowed to use the restricted fund method?

A) Any NFP organization B) Any NFP that has a general fund for unrestricted contributions C) Any NFP that has at least one internally restricted fund D) Any NFP that has at least one externally restricted fund Answer: D Page Ref: 532 Learning Obj.: 10.3 Difficulty: Easy

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10-8

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 32) When budgetary control accounts are first set up, ________.

A) budgeted revenues are credited and budgeted expenditures are debited B) actual revenues are credited and actual expenditures are debited C) budgeted revenues are debited and budgeted expenditures are credited D) actual revenues are debited and actual expenditures are credited Answer: C Page Ref: 540-541 Learning Obj.: 10.4 Difficulty: Difficult

33) The transportation fleet department for a provincial government uses an encumbrance system. On October 15, 20X1, the department manager issued a purchase order for $4,000 for snow tires. The tires were delivered on October 31, 20X1, with an invoice for $3,800. What should be recorded on October 15, 20X1?

A) An accounts payable for $3,800 B) An encumbrance for $3,800 C) An accounts payable $4,000 D) An encumbrance for $4,000 Answer: D Page Ref: 541 Learning Obj.: 10.4 Difficulty: Moderate

34) The primary objective of using an encumbrance system is to keep track of an organization's ________.

A) purchase of goods and services B) commitments made for the acquisition of goods and services C) purchase of capital assets D) expenditures Answer: B Page Ref: 541-542 Learning Obj.: 10.4 Difficulty: Easy

35) When is it not appropriate to use an encumbrance system?

A) When there is a significant lag between purchase orders and the receipt of goods B) When reporting is done on an expenditure basis C) When only a small part of expenditures for goods and services are discretionary D) When commitments and expenditures are made on a decentralized basis Answer: C Page Ref: 542 Learning Obj.: 10.4 Difficulty: Moderate

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10-9

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 36) When is an obligation recorded under an encumbrance system?

A) When a purchase requisition is issued B) When a purchase order is issued C) When goods or services are received D) When payment is made Answer: B Page Ref: 548 Learning Obj.: 10.4 Difficulty: Moderate

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10-10

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 37) On January 2, 20X6, the Exeter Golf and Country Club was formed and registered as a non-profit organization. In May 20X6, the club purchased a golf course near Exeter for $5,000,000. The purchase price was financed with an 8% mortgage loan of $4,500,000 and $500,000 contributed by the founding members. The mortgage was repayable over 25 years. The $500,000 contribution from the founding members was an interest-free loan repayable over five years.

The club and vendor of the golf course agreed that the $5,000,000 purchase price would be split as follows: Land $ 600,000 Land improvements 4,400,000 The land improvement costs include the costs of developing the golf course. Experts in the field estimate that major costs are incurred approximately every 25 years to redevelop a golf course.

During 20X6, the membership fees were established for the club as follows: Initiation fee $20,000 Annual course fee $1,000 The initiation fee entitles the member to lifetime membership in the club and to a vote at the annual general meeting. The club hopes to sell 400 of these lifetime memberships over the next two years in order to pay off the existing loans and provide $3,000,000 for development of a clubhouse. The annual course fee is due by April 1 of each year. It entitles the member to golf at the club throughout the year. If the member pays the annual course fee prior to January 31, the fee is reduced to $950. It is expected that 60% of the members will take advantage of the early payment discount.

The club's president has approached you asking for assistance in establishing the accounting policies for the club for its yearly financial statements.

Required: Assume that the club has decided to amortize the land improvement costs over 25 years and the clubhouse over 40 years, and to use the deferral method of accounting for contributions. Provide recommendations with supporting arguments for the accounting treatment of the initiation fees and annual fees.

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10-11

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations Answer: Under the deferral method, the revenue should be recognized in the same period as when the related costs are expensed. So the first step is determining when revenue should be recognized and when the related costs are expensed.

The initiation fees are being used to finance the purchase of the land and to recover the costs of land improvements. Since the land will never be expensed, the fees related to the cost of the land should never be recognized as revenue but should be credited directly to net assets. Since the land improvement costs are being amortized over 25 years, and the building over 40 years, the fees related to the land improvements and building should be recognized in revenue over 25 years and 40 years, respectively. As the initiation fees are received, 6/80 (0.6 / (0.6+4.4 + 3.0)), or 7.5%, should be credited to net assets and 44/80, or 55%, should be deferred and amortized over 25 years, with the final 30/80 (37.5%) amortized over 40 years.

Since the annual fee is meant to finance day-to-day operations, this fee should be recognized in revenue in the year that the related operating expenses are incurred. The fees collected prior to January 31 should be deferred and recognized in income in the subsequent season when the related expenses are incurred.

The fees collected after January can be recognized in revenue as received since the related expenses will be incurred in the same year.

Page Ref: 516-529 Learning Obj.: 10.2, 10.3 Difficulty: Difficult

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10-12

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 38) Big Research Foundation is a large not-for-profit organization that funds research into a variety of diseases. Annual revenues are in excess of $10 million. It has an endowment fund, a general fund, and a capital fund. You have just been appointed treasurer on its board and the accountant has come to you with a variety of questions.

Required: Address each of the following questions, making sure that your advice complies with GAAP for not-for profit organizations.

1. Big received a large endowment of $2 million on January 31, 20X9. During the year ended 20X9, there was interest earned of $60,000.

Prepare the journal entries required to record the receipt of the endowment and the interest earned.

2. During the year, 1,500 volunteer hours were provided. The accountant has estimated that the value of this time is $37,500. The accountant stated that without the volunteers, Big would have had to hire employees to perform the work.

Determine how the volunteer hours should be reported.

3. A large piece of research equipment was donated to the laboratory. The value of the equipment is $250,000 and it estimated to last about 10 years.

Prepare the journal entries related to this donated equipment for the year.

Answer: 1.

Endowment Fund Cash Contribution revenue–endowment fund

2,000,000 2,000,000

General Fund Cash Revenue–general fund

60,000 60,000

2. Under CICA Handbook–Part III, donated services can be reported if their value can be reasonably estimated and the services would otherwise have been purchased in the normal course of business. It appears that these two criteria are met for the volunteer services since the accountant stated that without this donation of services, purchases would have otherwise been made. However there is still the choice as to whether or not to recognize these services. This may depend on management's objectives for reporting.

The advantage of reporting donated services is that it shows the total costs required to operate the research activities. On the other hand, if the objective is to demonstrate how management used the funds at its disposal, then recording these donated services may distort this as it will show more funds were available than management actually had. If the services are recognized, then the entry is: Revenue–Donation of services Donated services expense

$37,500 $37,500

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10-13

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 3. Since this piece of equipment was donated, it is treated as being paid for out of the general funds. The related journal entries are as follows: Equipment Deferred contributions–equipment

250,000

Depreciation expense Accumulated depreciation (250,000/10 = 25,000)

25,000

Deferred contributions–equipment Contribution revenue

25,000

250,000

25,000

25,000

Page Ref: 516-520 Learning Obj.: 10.2 Difficulty: Moderate

39) Contributions received by NFPs may be restricted. Funds can be received in the form of endowment contributions and contributions that are externally restricted by the donor or internally restricted by the board.

Required: Explain the differences between endowment contributions and contributions that are externally restricted by the donor or internally restricted by the board. Discuss the accounting treatment for each type of restricted contribution if the NFP uses the deferral method of reporting.

Answer: Endowment contributions are contributions for which the principal can never be spent and only the earnings on the principal can be used for specified purposes. The initial contribution is recorded directly as an increase to net assets. The income earned annually is deferred and recognized as the specified expenses are incurred and recognized.

Contributions that are restricted by the donor can only be used for the purposes specified by the donor.

The accounting treatment depends on whether the contribution is for current expenses or future expenses. If the contribution is for current expenses, then the revenue is recognized in the current period.

If the contribution is for future expenses, then the revenue is deferred until the future expenses are recognized.

Contributions that are restricted internally by the board are funds that the board has specified to be used for special purposes. However, the board may change its mind at any time and, as such, does not have the same importance for accounting as do the restrictions imposed by the donors. However, based on management's reporting objectives, these contributions could also be deferred and recognized when the specified expenses are incurred and recognized in the statements.

Page Ref: 516-517, 518, 519 Learning Obj.: 10.2 Difficulty: Moderate

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10-14

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 40) Bright School is a private school operating as a NFP with a fiscal year end of December 31, 20X8.

Bright School has an endowment fund and an operating fund. Earnings of the endowment fund can only be used to provide scholarships to students in need during the year. In any year that the full earnings are not paid out in scholarships, they may be carried forward and used in future years. Scholarships are paid from the operating fund. During the year, the following transactions occurred: 1. The endowment fund earned interest income of $40,000. Only $30,000 was paid out in scholarships in the current year.

2. An additional endowment contribution was received of $750,000 at the end of the year. In this case, earnings on this endowment can only be used to purchase equipment for the science labs in the school.

3. A pledge for an endowment for $350,000 was received in October, 20X8. This arose on the death of a long-time donor who made provisions in their will to leave to the school this endowment contribution.

The lawyer handling the estate stated that the funds would be released in early February 20X9 once all of the legal requirements pertaining to the estate had been completed.

Required: Prepare the journal entries to record the above transactions for the fiscal year-end December 31, 20X8.

Bright School uses the deferral method of reporting.

Answer: The following entries would be made in the operating fund: Cash

40,000 Deferred revenue

40,000

Scholarship expense Cash

30,000

Deferred revenue Scholarship revenue

30,000

Cash

750,000

30,000

30,000

Net assets - Fund balance—endowment

750,000

Generally a pledge can only be recognized as a receivable if the amount can be reasonably estimated and the ultimate collection is assured. In this case, the endowment contribution has been legally documented in the will and the lawyer has stated that the funds will be released in February. It appears that both criteria have been met and Bright could record the receivable at December 31, 20X8. However, pledges are not normally recognized. In this case, an argument for recognizing the pledge on receipt is that there would not be any interest earned on the principal until after actual receipt. By recording this amount early in the books, users may expect a full year's worth of income to be received in the coming year and may question why this is not the case.

If the amount is not recognized, disclosure of the pledge could be included in the statements.

If it is decided to record the pledge, the following entry would be made: Pledge–receivable Net assets - Fund balance—endowment

350,000 350,000

Page Ref: 515-523 Learning Obj.: 10.2, 10.3

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10-15

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations Difficulty: Moderate

41) Kind to Animals (KTA) is an NFP that operates an animal shelter and commenced operations in 20X9.

KTA has a December 31 year-end. In 20X9, the organization received $1.5 million to build a new shelter, which was completed in October 20X9. The shelter is expected to have a useful life of 40 years. This was financed with $800,000 of private donations and $700,000 of government grants. In addition, $150,000 was provided in government grants on October 1, 20X9, to fund two veterinarians for the next 12 months.

Two veterinarians were hired October 1, 20X9, at an annual salary of $120,000 each. The organization is expected to generate $1,250,000 in annual revenues. During the period October 1 to December 31, KIA received donations of $275,000 and paid out operating expenses of $235,000.

Required: Prepare a partial statement of financial position to capture the above transactions occurring during 20X9.

KIA uses the deferral method and does not have a separate capital fund.

Answer: Partial statement of financial position Assets Cash $ 130,000 Animal shelter 1,500,000 Accumulated depreciation (1) (9,375) $ 1,620,625 Liabilities Deferred contribution–shelter Deferred contribution–veterinarians Fund balance–unrestricted

$ 1,490,625 90,000 1,580,625 40,000 $ 1,620,625

(1) [$1,500,00/40 × 3/12 = $9,375] Total cash: $1,500,000 - $1,500,000 + $150,000 - 3/12 ($240,000) + $275,000 - $235,000 = $130,000 Fund balance = $60,000 - $60,000 + $275,000 - $235,000 = $40,000 Page Ref: 515-528 Learning Obj.: 10.2 Difficulty: Moderate

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10-16

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 42) Baseball for All (BFA) is a not-for-profit organization that runs baseball tournaments and clinics for all ages. It also buys equipment needed at the tournaments. It receives government funding from the municipality, and tournament and clinic fees are paid by participants. Generally, annual revenues have been $350,000. This year, BFA received a special grant of $150,000 to buy new equipment. Equipment in the amount of $180,000 was purchased. The equipment is expected to last five years.

Required: Discuss the various methods that BFA can use to record the purchase of the equipment allowed under the CICA Handbook–Part III and prepare the appropriate journal entries. As part of your explanation, explain the differences between the expenditure basis and expense basis of reporting.

Answer: Under CICA Handbook–Part III, equipment is generally capitalized and amortized over its useful life. In this case, the equipment of $180,000 would be capitalized and amortized over five years. The annual amortization would be $36,000. The related government funds would be deferred as deferred contributions and recognized in income as the equipment was amortized also on a five-year basis.

Journal entries under this method are: Cash

150,000 Deferred contribution

150,000

Equipment Cash

180,000

Amortization expense Accumulated amortization–equipment

36,000

Deferred contribution Revenue–equipment

30,000

180,000

36,000

30,000

However, since the organization has annual revenues of less than $500,000, it qualifies as a small NFP and is allowed to expense capital assets. In this case, the journal entries would be as follows: Cash

150,000 Contributions–government

Equipment expense Cash

150,000 180,000 180,000

The expenditure basis of reporting is charging the expense of the equipment when it is incurred. This is the second alternative above and may be appropriate in this case since special funding was received specifically to buy the equipment.

The expense basis is the first alternative. This method requires that the equipment be capitalized and amortized as used to properly reflect the cost of providing the services.

In this example, either method is allowed under GAAP for this small NFP. Page Ref: 519-520; 525-527 Learning Obj.: 10.2

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10-17

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations Difficulty: Moderate

43) Describe the four fundamental ways in which not-for-profit organizations differ from business enterprises. What are the reporting objectives of NFPs? Answer: The four fundamental ways in which not-for-profit organizations differ from business enterprises: 1. NFPs have members and not owners. There is no residual economic interest.

2. The organizations' objectives are to serve the common good, rather than to maximize earnings or generate a return on investment from the owners.

3. The nature of revenue and expenses differ. Revenues are generated from sources that will not receive benefit from the expenses incurred. For example, governments may provide revenues, but individuals may be the recipient of the services provided. The revenues may be restricted as to the type of expenditures that can made, impacting the flexibility of the organization. Finally, revenue is recorded when the related expenses are incurred. (This is opposite to what is generally done with profit-oriented businesses that report revenue and then match with the expenses incurred to generate revenue.)

4. Suppliers of funds are not providing capital to generate an investment return. Since the suppliers are one of the primary users of financial statement, objectives in financial reporting will be different than business enterprises' reporting objectives.

Reporting objectives of NFPs include: 1. Stewardship–How has the organization used the funds that were provided?

2. Measuring the costs of services rendered–Users will want to ensure that the services have been provided effectively and efficiently.

3. Cash-flow prediction–Will the organization have enough cash to carry on its activities in the future?

4. Management evaluation–How well has management achieved the above objectives?

Page Ref: 510-514 Learning Obj.: 10.1 Difficulty: Moderate

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10-18

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 44) World Doctors (WD) is a not-for-profit organization that provides medical expertise and equipment in areas of the world that cannot afford this type of service or have been struck with a disaster and need additional medical expertise. It is organized with numerous affiliated organizations. Recently, you have been appointed treasurer and the accountant has come to you with the following questions: 1. WD set up a new NFP, which it will use specifically for fundraising purposes. The board of directors of this agency is a separate board, but any funds raised will be paid to WD at the end of each year, after all related costs have been deducted.

2. WD purchased shares in a profit-seeking enterprise that manufactures and distributes medical equipment. The rational for this decision was to be able to get a seat on the board and influence the level of donated equipment made to WD each year. WD purchased 25% in this company.

3. Two directors of WD's board sit on a board (of a total of six members) of an NFP involved in providing relief when disaster strikes around the world.

Required: Determine the accounting and reporting treatment of the affiliates described above.

Answer: In each of these situations, the level of control or significant influence must be determined.

Because there is no ownership of shares in NFPs, other factors must be considered in determining whether control or significant influence exists.

1. For the new NFP that was set up to provide fundraising for WD, the following factors were considered: • Both organizations have separate and distinct directors on their boards.

• WD has a significant economic interest in this new NFP since all of the donations raised from fundraising will come from this new organization.

• Although we are not specifically told, the charters and bylaws of the new NFP may indicate control

by WD. Based on the second and third factors above, it appears that WD has control of this new NFP. For reporting purposes, GAAP requires that the results of the new NFP be either consolidated with WD or specific disclosures of key financial statement information of the new NFP be provided in WD's notes.

2. The second issue is a profit-seeking enterprise. WD owns 25% and sits on the board of directors, so it appears to have significant influence over this entity. As a result, the equity method must be used to report this investment. This means that 25% of the profit enterprise's net earnings will be reported in the net income of WD. 3. In the last situation, two board members sit on another NFP board and represent 33% (2/6) of this board's votes. This represents significant influence on this NFP. As a result, WD must disclose in its notes the nature of this relationship and the nature and extent of any economic interests.

Page Ref: 528-530 Learning Obj.: 10.2 Difficulty: Moderate

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10-19

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 45) A museum has invested substantial funds for its collection in the past. During the year, the museum hired a new accountant, who decided that the collection should have been capitalized and amortized to operations. The accountant needs the approval of the treasurer to prepare the journal entries required to correct the previous financial statements.

Required: You are the treasurer of this museum. Outline your response to the accountant.

Answer: Collections generally represent a substantial investment for the organization, as well as an asset that has a long, useful life. Collections are also increased either by donated goods or with donations to purchase new pieces. Ideally, the accounting standards would like to see these assets capitalized.

However, in many cases, this is impractical as the cost of capitalizing the collections would outweigh any benefits gained.

Consequently, the capitalizing of collections is permissible under GAAP but not required as long as the three following criteria are met: 1. The collection must be available to be seen or used by the public.

2. The collection needs to be maintained and protected.

3. When a part of the collection is sold, the proceeds must be used to either acquire new pieces for the collection or to maintain the collection.

Given the fact that the historical purchase amounts and dates likely cannot be determined, the treasurer should recommend that the collections continue to be expensed as has been done in previous years.

Page Ref: 527 Learning Obj.: 10.2 Difficulty: Moderate

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10-20

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 10 Financial Reporting for Not-for-Profit Organizations 46) Food for All (FFA) is a not-for-profit organization that has grown to be quite large. FFA operates 25 food banks in multiple locations throughout the province and has moved to a decentralized organizational structure. All of the funding is received by the head office and then each location is allocated a fixed amount of funds that can be used over the year for local expenses. Local expenses are at the discretion of the local managers. The board has decided to change its method of accounting to keep better track of costs at these various locations and to better manage the budget. The board has decided to implement a new budgeting and encumbrance accounting system.

Required: 1. In October 20X9, FFA issued a purchase order for $35,000 to have 100,000 pamphlets printed to be distributed to households over the next six months. In December 20X9, the pamphlets were received along with an invoice for $33,900. Prepare the journal entries for October and December 20X9 using encumbrance accounting.

2. Identify when encumbrance reporting would be appropriate. Comment as to whether or not encumbrance reporting is appropriate for FFA. Answer: 1. October 20X9 Encumbrances–education expense Estimated commitments December 20X9 Estimated commitments Encumbrances–education expense Education expense Accounts payable

35,000 35,000

35,000 35,000 33,900 33,900

2. Encumbrance reporting is usually appropriate when: a. the organization or activity has cost centres with maximum expenditure limits; b. a significant portion of the total budget represents goods and services that can be acquired discretionally; c. there is a significant lag between the purchase order and the receipt of the goods; d. levels of activity are not dependent on demand; e. reporting is expenditure-based rather than expense-based; and f. responsibility for making commitments and disbursements is decentralized.

The FFA has two of the factors described above, including treating each local food bank as a cost centre with maximum funding given to each and a decentralized structure that gives discretion to the local managers to spend the funds allocated. Based on this, an encumbrance system is appropriate for this organization.

Page Ref: 541-542 Learning Obj.: 4 Difficulty: Difficult

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10-21

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting 1) Sparrow Pension Plan is a not-for-profit organization that administers the pension fund held for the employees of Sparrow Tech Ltd. What type of fund is the pension fund?

A) Reserve fund B) Self-sustaining fund C) Fiduciary fund D) Endowment fund Answer: C Page Ref: 3 Difficulty: Easy

2) Which statements are affected by inter-fund loans?

A) Statement of operations and consolidated statements B) Statement of financial position of the individual funds and consolidated statements C) Statement of operations and statement of financial position of the individual funds D) Statement of financial position of the individual funds and statement of changes in net assets Answer: D Page Ref: 5 Difficulty: Moderate

3) The Khoo Music Society, a not-for-profit organization, is purchasing musical instruments to donate to some local schools. Khoo ordered the instruments on August 1, 20X1, and requested the following delivery schedule: September 15, 20X1 October 15, 20X1 October 31, 20X1 November 15, 20X1

woodwinds strings brass drums

($3,000) ($5,000) ($6,000) ($6,000)

Khoo uses an encumbrance system and has properly recorded the necessary journal entry at August 1, 20X1. At November 15, 20X1, which of the following accounts should be debited and which statement will be affected?

A) Estimated commitments/statement of operations B) Encumbrances–instruments/statement of operations C) Estimated commitments/statement of financial position D) Encumbrances–instruments/statement of financial position Answer: C Page Ref: 7 Difficulty: Difficult

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10A-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting 4) The Khoo Music Society, a not-for-profit organization, is purchasing musical instruments to donate to some local schools. Khoo ordered the instruments on August 1, 20X1. Khoo uses an encumbrance system.

What journal entry should Khoo make at August 1, 20X1?

A) DR Encumbrances—instruments 20,000 CR Estimated commitments 20,000 B) DR Encumbrances—instruments CR Accounts payable

20,000 20,000

C) DR Estimated commitments CR Encumbrances—instruments

20,000 20,000

D) DR Estimated commitments CR Accounts payable

20,000 20,000

Answer: A Page Ref: 6 Difficulty: Moderate

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10A-2

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting 5) The Parish Council of Holy Trinity Church has decided to seek the advice of an accountant in preparing their financial statements. The records are in a disorganized state; however, certain information has been assembled. Exhibit 10-1 is a summary of the fund balances at December 31, 20X5, and Exhibit 102 provides a summarized listing of the transactions for the year 20X6.

Required: a. In general journal form, prepare summary journal entries to record the information in Exhibit 10-2.

Keep the funds separate by classifying them as follows: Operating fund: Improvements fund: Window fund: Mission and outreach fund: Endowment fund:

OF IF WF MF EF

b. Prepare a consolidated statement of financial for the funds of Holy Trinity Church at December 31, 20X6.

Exhibit 10-1 Summary Of Fund Balances December 31, 20X5 Operating fund Improvements fund Window fund Mission and outreach fund Endowment fund Total funds

$3,200 4,400 18,000 NIL 44,000 $69,600

Description of Funds: The operating fund is used to record all regular church receipts and operating expenses. The improvements fund is used to record all major acquisitions of property, plant, and equipment and is financed by allocations from the operating fund or by special donations. The window fund is a temporary fund established to enhance the church with stained-glass windows. (This fund is financed by special fundraising events and by special donations.)

The mission and outreach fund provides funds to overseas and local outreach projects. It is financed by contributions from the church members, which have been specifically designated to this fund. The interest from the endowment fund is paid directly to the operating fund, but the principal cannot be spent. The fund is substantially financed by donations from estates. The entire sum of $44,000 has been invested in term deposits.

All funds are operated out of the same bank account on the cash basis of accounting.

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10A-3

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting Exhibit 10-2 SUMMARY LISTING OF 20X6 TRANSACTIONS 1.

2.

Received regular weekly collections totalling $104,000 for the year.

Other donations during the year included: $27,000 for the mission and outreach fund $6,500 for the window fund $2,000 for the improvements fund $10,000 for the endowment fund, invested in term deposits 3. The $12,000 budgeted for the improvements fund was allocated from the operating fund.

4. Salaries of $66,500 were paid.

5. Operating expenses of $29,000 were paid, of which $4,300 were owing at December 31, 20X5. At December 31, 20X6, $4,200 of payables remained unpaid.

6. A special fundraising dinner was undertaken to raise money for the window fund. Dinner tickets were sold for $3,200 and expenses of $450 for food and $150 for entertainment were paid.

7. Two stained-glass windows were installed during the year at a cost of $21,000, of which $19,000 was paid. Further, a window costing $8,500 was ordered for delivery in 20X7.

8. An amount of $24,000 was paid out of the mission and outreach fund for an African relief fund and $3,000 was paid to a local food bank.

9. The improvements fund was used to pay for a $17,500 roof repair, and $4,800 for a new piano.

10. Interest in the amount of $4,100 was received by the operating fund from the endowment.

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10A-4

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting Answer: a.

1.

OF

Cash Weekly collections

104,000 104,000

MF WF IF EF

Cash Mission and outreach fund receipts Window fund receipts Improvements fund receipts Endowment funds receipts

45,500 27,000 6,500 2,000 10,000

2.

Term Deposits Cash 3.

4.

5.

10,000 10,000

OF Transfer to improvement fund IF Transfer from operating fund

12,000

OF Salaries expense Cash

66,500

OF Operating expenses Cash

29,000

12,000

66,500

29,000

Note: The cash paid out is the only amount recognized in the accounts, as the cash basis of accounting is in use.

6.

7.

Cash WF Food expense WF Entertainment expense WF Dinner ticket receipts

2,600 450 150

WF Windows replaced Cash

19,000

3,200

19,000

Note: Costs incurred but not paid are not entered.

8.

9.

MF African relief MF Food bank Cash

24,000 3,000

IF Roof repair expenses IF Piano Cash

17,500 4,800

10. Cash OF

27,000

22,300 4,100

Interest from endowments

4,100 .

10A-5

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Appendix 10A Fund Accounting

b.

Holy Trinity Church Consolidated Statement of Financial Position December 31, 20X6 Assets Cash Term deposits

$8,000 54,000 $62,000

44,000 + 10,000

Funds Operating fund Improvements fund Window fund Mission and outreach fund Endowment fund

$3,800 (3,900) 8,100 54,000 $62,000

3,200+104,000-12,000-66,500-29,000 + 4,100 4,400 + 2,000 + 12,000 - 22,300 18,000 + 6,500 - 600+3,200 - 19,000 27,000 - 27,000 44,000 + 10,000

Page Ref: 1-6 Difficulty: Difficult

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10A-6

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 1) Who is the largest issuer of debt?

A) Banks B) Government C) Publicly accountable enterprises D) Private enterprises Answer: B Page Ref: 570 Learning Obj.: 11.1 Difficulty: Easy

2) Which of the following is not a typical characteristic of a non-business organization?

A) No equity investors B) May have restrictive funds C) Relies on the sale of goods and services D) Provision of collective goods and services Answer: C Page Ref: 571-572 Learning Obj.: 11.1 Difficulty: Easy

3) One of the objectives of government is to provide services to the public. In order to meet legislated social goals, another major goal of government is to ________.

A) create a surplus B) reduce taxation C) redistribute wealth D) increase Crown assets Answer: C Page Ref: 571 Learning Obj.: 11.1 Difficulty: Moderate

4) What does the carrying value of tangible capital assets represent to government?

A) Source of future cash flows from the capital assets B) Tax value of the capital assets C) Acquisition cost of Crown assets D) Unexpired service potential of the capital assets Answer: D Page Ref: 571 Learning Obj.: 11.1 Difficulty: Difficult

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11-1

Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 5) What can the non-financial assets of a government be used for?

A) Providing services only B) Debt payment only C) Providing services and debt payment D) Neither service provision nor debt payment Answer: A Page Ref: 571 Learning Obj.: 11.1 Difficulty: Moderate

6) Which of the following statements about the valuation of Crown property on the statement of financial position is true?

A) Crown property is valued at acquisition cost.

B) Crown property is valued at fair market value.

C) Crown property is valued at its depreciated value.

D) Crown property is not recognized on the financial statements.

Answer: D Page Ref: 571 Learning Obj.: 11.1 Difficulty: Moderate

7) For government accounting purposes, what is the difference between financial and non-financial assets?

A) Financial assets can only be used for providing services, and non-financial assets can only be used for debt repayment.

B) Financial assets can only be used for debt repayment, and non-financial assets can only be used for providing services.

C) Non-financial assets can be used for providing services and debt-repayment, but financial assets can only be used for providing services.

D) Non-financial assets can only be used for providing services, but financial assets can be used for providing services and debt-repayment.

Answer: D Page Ref: 571 Learning Obj.: 11.1 Difficulty: Difficult

8) The PSAB has identified a number of key characteristics of public sector entities. Which of the following is not one of these characteristics?

A) Have non-exchange transactions B) Importance of budgets C) Legislated financial framework D) May have equity ownership Answer: D Page Ref: 571 Learning Obj.: 11.1 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 9) The Public Sector Accounting Board (PSAB) has identified a number of characteristics that differentiates governmental reporting from private sector reporting. Which of the following is one of those characteristics?

A) The government's goal is to make a surplus.

B) The focus of governmental capital spending is to maximize returns.

C) Tangible capital assets are viewed differently by governments.

D) Governments have limited debt capacity.

Answer: C Page Ref: 571 Learning Obj.: 11.1 Difficulty: Moderate

10) Based on the organizations' objectives, which of the following government organizations can choose to report under the CICA PSA Handbook or IFRS? A) Local governments B) Government business enterprises C) Government not-for-profit organizations D) Other government organizations Answer: D Page Ref: 572-573 Learning Obj.: 11.1 Difficulty: Moderate

11) Which of the following is not a suggested objective for financial statements for public sector entities?

A) To provide an accounting of financial affairs and resources B) To enable evaluation of compliance with legislation C) To provide information on financing and investing activities D) To determine if programs are economical, efficient, and effective Answer: D Page Ref: 573-577 Learning Obj.: 11.2 Difficulty: Moderate

12) Which governments or government organizations are required to follow the PSA Handbook for financial reporting purposes?

A) Governments and government business enterprises B) Governments and government not-for-profit organizations C) Government business enterprises and government not-for-profit organizations D) Government not-for-profit organizations and other government organizations Answer: B Page Ref: 572-573 Learning Obj.: 11.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 13) Local government auditors are required to report in accordance with ________.

A) municipal legislation governing municipal reporting B) provincial legislation governing municipal reporting C) federal legislation governing municipal reporting D) IFRS Answer: B Page Ref: 574 Learning Obj.: 11.2 Difficulty: Moderate

14) Which of the following are combined to produce the accumulated deficit or surplus on a government's statement of financial position?

A) Net assets and net debt B) Financial assets and net debt C) Financial assets and liabilities D) Tangible capital assets and net debt Answer: D Page Ref: 575 Learning Obj.: 11.2 Difficulty: Moderate

15) Which financial statements are recommended by the PSAB for presentation by governments?

A) Statement of financial position, statement of operations, statement of changes in net debt, statement of remeasurement gains and losses, and statement of cash flows B) Statement of financial position, statement of operations, statement of remeasurement gains and losses, and statement of net debt C) Statement of financial position, statement of cash flows, and statement of operations only D) Statement of financial position, statement of cash flows, and statement of net debt only Answer: A Page Ref: 575-577 Learning Obj.: 11.2 Difficulty: Moderate

16) On what statement does the amortization of tangible capital assets appear as a reconciling item?

A) Statement of financial position B) Statement of operations C) Statement of changes in net debt D) Statement of cash flows Answer: C Page Ref: 597 Learning Obj.: 11.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 17) What do the total tangible capital assets indicate on a government's statement of financial position?

A) How much revenue the government must raise to cover its past spending B) The government's ability to provide future services and programs C) The government's financial position D) The government's ability to raise revenues to meet its current year expenditures Answer: B Page Ref: 575 Learning Obj.: 11.2 Difficulty: Moderate

18) What does the net debt indicate on a government's statement of financial position?

A) How much revenue the government must raise to cover its past spending B) The government's ability to provide future services and programs C) The government's financial position D) The government's ability to raise revenues to meet its current year expenditures Answer: C Page Ref: 575 Learning Obj.: 11.2 Difficulty: Moderate

19) Which of the following would be a reconciling item on the statement of change in net debt?

A) Adding back the cost of tangible capital assets B) Adding back the cost of debt servicing C) Adding back the amortization expense D) Adding back transfer payments to other governments Answer: C Page Ref: 577 Learning Obj.: 11.2 Difficulty: Moderate

20) How does a government statement of cash flows (SCF) differ from one prepared by a business enterprise?

A) A government SCF must be prepared using the direct method.

B) A government SCF must be prepared using the indirect method.

C) A government SCF reconciles cash and cash equivalents, not just cash.

D) A government SCF has a section for capital transactions.

Answer: D Page Ref: 577 Learning Obj.: 11.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 21) What is the only item that will appear under the investing section of a government statement of cash flows?

A) Sale and purchase of financial assets B) Sale and purchase of nonfinancial assets C) Sale and purchase of tangible capital assets D) Amortization of tangible capital assets Answer: A Page Ref: 577 Learning Obj.: 11.2 Difficulty: Moderate

22) Which of the following are qualitative characteristics of good financial reports for governments?

A) Comparability among years, consistency among governments, completeness, and timeliness B) Comparability among governments, consistency between years, completeness, and timeliness C) Comparability with business, consistency between years, completeness, and timeliness D) Full disclosure, transparency, accuracy, and audit Answer: B Page Ref: 577-578 Learning Obj.: 11.2 Difficulty: Moderate

23) To enhance users' abilities to evaluate a government's financial results, budget numbers are included on some of the financial statements. Which statements would include the budget numbers?

A) Statement of operations and statement of changes in net debt B) Statement of operations and statement of cash flows C) Statement of financial position and statement of operations D) Statement of financial position and statement of changes in net debt Answer: A Page Ref: 578-582 Learning Obj.: 11.2 Difficulty: Moderate

24) Under the modified equity method, government business enterprises must follow ________.

A) the PSA Handbook B) IFRS C) ASPE D) either the PSA Handbook or IFRS Answer: D Page Ref: 584 Learning Obj.: 11.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 25) What reporting basis should Wind Power Plus, a government business enterprise, use?

A) Cost method B) Equity method C) Modified equity method D) Consolidation Answer: C Page Ref: 584 Learning Obj.: 11.3 Difficulty: Easy

26) A government business enterprise's net income or loss is reported on the government's statement of operations. In addition, ________.

A) its assets and liabilities are added to the government's statement of financial position B) the accounting principles are not adjusted to government accounting principles C) the investment should be reported using the cost method D) the investment account should not be adjusted for the net income or loss Answer: B Page Ref: 584 Learning Obj.: 11.3 Difficulty: Difficult

27) The federal government provided $500,000 to a university to develop and operate a bridging program for foreign-trained accountants. Which of the following statements about this government transfer is correct?

A) This is a non-exchange transaction with an eligibility criterion.

B) This is a non-exchange transaction with a stipulation criterion.

C) This is an exchange transaction with an eligibility criterion.

D) This is an exchange transaction with a stipulation criterion.

Answer: B Page Ref: 585 Learning Obj.: 11.3 Difficulty: Moderate

28) A provincial government provides a grant to one of its cities to support a winter festival. The provincial government can recognize this transfer when it has been fully authorized. When is the transfer considered fully authorized?

A) When the appropriate government minister has provided written approval for the transfer B) When the grant has been received by the city C) When the grant has been used by the city for the required purpose D) When the transfer has been approved by the legislature Answer: D Page Ref: 585 Learning Obj.: 11.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 29) According to the recommendations of the Public Sector Accounting Board, when should revenue be recognized related to funds received from external parties that have imposed restrictions that limit the use of the funds?

A) When the funds are pledged B) When the funds are received C) When the funds are committed D) When the funds are used for the purpose(s) specified Answer: D Page Ref: 586-587 Learning Obj.: 11.3 Difficulty: Moderate

30) What does the Public Sector Accounting Board (PSAB) recommend with respect to tax revenue?

A) Tax revenue should be reported at gross.

B) Tax revenue should be reported net of tax concessions and collection costs.

C) Tax revenue should be reported net of tax concession, and collection costs should be expensed.

D) Tax revenue should be reported net of tax collection costs, and tax concessions should be expensed.

Answer: C Page Ref: 586 Learning Obj.: 11.3 Difficulty: Moderate

31) What basis does the present government reporting method use?

A) Cash B) Modified cash C) Modified accrual D) Full accrual Answer: D Page Ref: 589-590 Learning Obj.: 11.3 Difficulty: Easy

32) What valuation must government organizations use to report derivatives?

A) Cost B) Amortized cost C) Fair value D) Lower of cost or fair value Answer: C Page Ref: 587 Learning Obj.: 11.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 33) What is reported on the statement of remeasurement gains and losses?

A) Any realized remeasurement gains and losses B) Any unrealized remeasurement gains and losses C) Realized and unrealized gains and losses arising from foreign currency translations D) Realized gains and losses arising from the disposal of portfolio investments Answer: B Page Ref: 587 Learning Obj.: 11.3 Difficulty: Moderate

34) What is impairment testing of tangible capital assets based on?

A) Impairment of future cash flows B) Impairment of future service potential C) Impairment of anticipated residual value D) Impairment of net present value Answer: B Page Ref: 588 Learning Obj.: 11.3 Difficulty: Moderate

35) Describe the major differences in characteristics that exist when comparing a large government agency to a large public company.

Answer: General characteristic comparison: • The objective of governments is to provide services to the public and to redistribute wealth using social programs. Making a profit is the primary objective for business corporations.

• Governments can make laws and regulations and set monetary and fiscal policies; large businesses do not have this ability.

• Governments incorporate their budgets into the account structure since the budgets must be approved to allow for the funds to be spent; corporations use budgets only as an indicator.

• Governments have a very broad user group including the public, civil service, other governments, and creditors. Business corporations have a limited user group.

• Governments generate most of their revenues from taxes, which provide a relatively stable base for the entity. Business corporations may have very volatile revenues due to competitive pressures and economic cycles.

• Governments have a large amount of debt due to their capacity to borrow.

• Tangible assets owned by governments are viewed as representing a future service capability so that the net book value of these assets represents the unexpired service potential of these assets. Business corporations generally view tangible assets as a source of future cash flows. Consequently, spending on capital assets by governments is not driven by return on investment but often by other objectives such as stimulating economic activity.

Page Ref: 569-571 Learning Obj.: 11.1 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 36) Clearly distinguish between a government business organization and a non-business government organization.

Answer: In contrast with normal government departments and agencies, a government business organization is one that: • is a separate legal entity with the power to contract in its own name and can sue and be sued; • has been delegated the financial and operational authority to carry on a business; • sells goods and services to individuals and organizations outside of the government reporting entity as its principal activity; and • can, in the normal course of its operations, maintain its operations and meet its liabilities from revenues received from sources outside of the government reporting entity.

Most governmental entities have none of these characteristics, in that contracts are entered into on behalf of the Crown, financial and operational authority are centralized, and the governmental entities do not have sales in the normal sense of the word and are not self-sustaining with monies received from outside the public purse.

Page Ref: 572 Learning Obj.: 11.1 Difficulty: Moderate

37) The Public Sector Accounting Board suggested several objectives for the financial statements of federal, provincial, and territorial governments. List and briefly explain each of the four objectives and how these objectives are met with the various financial statements issued by governments.

Answer: Financial statements of federal, provincial, and territorial governments have the following objectives: 1. To provide accounting of financial affairs and resources under the control of the government. This objective ensures that all controlled entities (agencies, organizations, and enterprises) are included in the government's financial statements.

2. To demonstrate government's ability to finance activities, meet liabilities, and provide future services.

The SFP provides information for users to assess the government's ability to pay its debt, its capacity to deliver services based on the amounts invested in tangible assets, and the economic resources available (accumulated surplus/deficit).

3. To account for sources, allocation, and use of government resources; to evaluate how activities affect net debt; and to show how activities are financed and cash requirements met. Users need to understand how and why changes in net debt, accumulated deficits/surplus, and cash arise. The statements of operations, remeasurement gains and losses, changes in net debt, and cash flows provide the details of these changes that have occurred during the year.

4. To display the state of government's finances and evaluate it in accordance with legislative requirements. The statement of operations and the statement of net debt should include the budget and actual amounts to allow for easy comparison.

Page Ref: 574-577 Learning Obj.: 11.2 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 38) Research surveys have suggested that there are several qualitative characteristics that are desirable in published financial reports of governmental units. Explain why comparability is so important to users and what this means for users.

Answer: The four major qualitative characteristics desired of governmental financial reports are 1) comparability among governments, 2) consistency between years, 3) completeness, and 4) timeliness.

Comparability among governments is particularly important because users need to be able to determine the scope of the reporting entity and the particular elements of the financial statements (revenues, expenditures, assets, and debt, especially unfunded liabilities and contingencies). In particular, users want to define the reporting entity and what "control" means for governments and related agencies, entities, and so on. Also, how governments classify and measure revenues, expenses, assets, and liabilities should be consistent. Finally, users want debt to include contingent debt.

Page Ref: 577-578 Learning Obj.: 11.2 Difficulty: Easy

39) According to PSAB, when and how is revenue measured in government entities? Explain how transfers made through the tax system and tax concessions are different and how PSAB suggests these be treated.

Answer: PS 3510 recommends that tax revenue be recognized when all three of the following conditions are met: 1. The offsetting assets (cash or receivable) meet the definition of an asset.

2. Taxes have been authorized by legislature or council.

3. The taxable event as occurred.

Transfers through the tax system are amounts paid to entities by a reduction in the entity's taxes, but the entity will receive the benefit even if it pays no taxes. An example of this is child tax benefits. PSAB recommends that these types of benefits be recognized as an expense.

Tax concessions are amounts that affect the amount that an entity currently or previously owed. They result in reduced taxes for the entity and reduced tax revenues for the government. An example of this is a property tax credit. Tax concessions should be netted against tax revenues.

Page Ref: 586 Learning Obj.: 11.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 40) In general, there are three types of government organizations. Identify and describe these three types and the accounting standards that are followed by each type of entity.

Answer: The three types of government organizations are: Government business enterprises (GBEs): These organizations are separate legal entities that can be sued and may sue. They operate a business and engage in external exchange transactions. These entities are capable of maintaining their own operations and paying obligations. They are publicly accountable and are required to follow the CICA Handbook Part I, which is IFRS. Government not-for-profit organizations (GNFPOs): These organizations have the following four characteristics: • have NFP counterparts in the private sector; • have no transferable ownership interests; • are operated exclusively for a not-for-profit purpose; and • members and contributors do not receive any financial returns.

These types of organizations have a choice to follow the PSA Handbook with or without the NFP sections.

Other government organizations (OGOs): Any organization that does not fall into either of the above two categories (GBE or a GNPO) is an "other government organization." OGOs base their accounting on PSAB. However, in some situations IFRS might be more appropriate. Factors to consider in deciding on the appropriate standards to follow include: (1) whether the OGO possesses any characteristics of a GBE; (2) the nature of the OGO's operations, assets, and mandate; and (3) how dependent the OGO is on government funding.

Page Ref: 572-573 Learning Obj.: 11.1 Difficulty: Moderate

41) PSAB defines a government organization as one that is "controlled by the government". Explain what is meant by "control" and how this is assessed for governments. Explain how controlled entities are reported.

Answer: Control is determined by examining persuasive evidence in addition to seven other potential indicators, if required. Persuasive evidence of control may be indicated if the government has: 1. the power to appoint a majority of the members of the governing body; 2. control and access over the assets of the organization; 3. majority number of votes; or 4. single authority to dissolve the organization.

Dependency on government funding or regulatory powers by the government does not necessarily indicate control. If the control is over OGOs or other governments, then consolidation is required.

The cost basis is used for investments made in entities that are not controlled by the government but represent portfolio investments.

Where the government has control of a GBE, the investment is reported on a modified equity basis.

Page Ref: 582-584 Learning Obj.: 11.3 Difficulty: Moderate

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 42) One of the largest sources of revenue for governments is government transfers. Government transfers represent non-exchange revenue. Explain what "government transfer" is and why it is a non-exchange transaction. How are government transfers reported? Be sure to address reporting from the transferor and the recipient perspectives, separately.

Answer: A government transfer is the provision of either monetary or tangible assets by one government entity to another. Since there is no transfer of goods or services in return, and no expectation of repayment or financial return, the transaction is a non-exchange transfer.

Restrictive terms may be imposed by the transferor, which may set eligibility criteria for who may receive the transfer or what must be done to receive the transfer. Or the restrictive term may be a stipulation, which outlines how the transfer will be used and what must be done to keep the transfer.

Transferor accounting — The transferring government will recognize the transfer as an expense when it is authorized and the eligibility criteria have been met. This is the same requirement for both operating and capital transfers.

Recipient accounting — Operating transfers are recognized as revenue when the transfer has been fully authorized and the eligibility criteria have been met. If both criteria have been met, but cash has not yet been received, then a receivable will be recognized at this time. If stipulations are attached, then revenue is not recognized until the stipulations have been met. In this case, the revenue may be deferred until the stipulations are met.

Page Ref: 584-585 Learning Obj.: 11.3 Difficulty: Difficult

43) One of the objectives of government reporting is to allow users the ability to assess the government's finances. A statement of changes in net debt is required. Describe what is meant by "net debt" and why this is an important indicator of the government's financial position. What information does this statement provide?

Answer: Net debt is the total of the government's liabilities less the total of its financial assets. It is important as an indicator of the government's ability to service and repay its current debt, which impacts the government's ability to deliver its programs and services in the future. Net debt is seen as "claims that could reduce future services." The accumulated deficit or surplus is the combined value of the government's net debt and its total tangible capital assets. Total tangible assets, representing prepaid future service potential, also gives users an indication of the government's ability to deliver services and programs in future years. The statement of changes in net debt reconciles the deficit/surplus for the period with the change in net debt. It starts with the deficit or surplus for the period, subtracts the cost of non-financial assets acquired and adds back any amortization of tangible capital assets to arrive at net debt.

Page Ref: 575 Learning Obj.: 11.2 Difficulty: Easy

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Beechy, Trivedi, MacAulay Advanced Financial Accounting, Seventh Edition Chapter 11 Public Sector Financial Reporting 44) Tangible capital assets owned by governments are viewed differently than tangible capital assets owned by business enterprises. Explain this difference and describe how tangible capital assets are reported for governments.

Answer: Public tangible capital assets are used for providing services. There is no requirement for the tangible capital assets to generate a return. The objective for public tangible capital assets is on stimulating economic activity. The tangible capital assets are seen in terms of their future or unexpired service potential and not in terms of future cash flows that they can generate.

These types of assets often are owned because they came with the territory, rather than being outright purchased. In these cases, since there is no cost, they are not recognized on the financial statements.

However, accounting standards recommend that governments disclose the existence and nature of these assets.

For reporting purposes, tangible capital assets are capitalized and depreciated. However, users also need to understand the physical condition of the assets, which has direct implications on their future service potential. As a consequence, the impairment testing for these assets looks at the assets' ability to continue to provide future services, and the carrying value should represent the unexpired service potential of the assets. Since traditional accounting information does not provide this, PSAB recommends that governments disclose in the notes the condition of their various categories of assets. This is voluntary disclosure and not required.

Page Ref: 588-589 Learning Obj.: 11.2 Difficulty: Difficult

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