SOLUTIONS MANUAL & TEST BANK for Advanced Accounting by Susan S. Hamlen. ISBN-13 978-1618532619. by welldoneassistant

b Reported net income; 35% x $7,000,000 = Less unconfirmed profit on ending inventory 35% x [$6,000,000 – ($6,000,000/1.25)] = Equity in net income for 2020 Less dividends; 35% x $2,000,000 Plus beginning investment balance Ending investment balance

$ 2,450,000 (420,000) $ 2,030,000 (700,000) 50,000,000 $51,330,000

d Fizzy’s entry to record the acquisition is: Current assets Property Goodwill Liabilities Cash

10.

25,000 2,500,000 25,475,000 3,000,000 25,000,000

EXERCISES E1.1

Investment in Trading Securities (in millions) a. $384 – 39 = $345 b. Unrealized gains and losses on trading securities are reported in income. c. Investment in trading securities Cash

345

Investment in trading securities Gain on trading securities (income)

Cash Loss on trading securities (income) Investment in trading securities

370 14

345

E1.2

384

Investment in Trading and Available-for-Sale Securities a. 2019 entries Investment in trading securities Cash Investment in trading securities Gains on trading securities (income) 2020 entries Cash Investment in trading securities Gains on trading securities (income)

500,000 500,000 20,000 20,000

525,000 520,000 5,000

Investment in trading securities Cash

700,000

Losses on trading securities (income) Investment in trading securities

100,000

700,000

100,000

b. (1) 2019 entries Investment in AFS securities Cash Investment in AFS securities Gains on AFS securities (OCI) 2020 entries Cash Reclassification of gains on AFS securities (OCI) Investment in AFS securities Gains on AFS securities (income)

500,000 500,000 20,000 20,000

525,000 20,000 520,000 25,000

Investment in AFS securities Cash

700,000

Losses on AFS securities (income) Investment in AFS securities

100,000

700,000

100,000

(2) 2019 entries are the same as in (1). 2020 entries Cash Reclassification of gains on AFS securities (OCI) Investment in AFS securities Gains on AFS securities (income)

525,000 20,000 520,000 25,000

Investment in AFS securities Cash

700,000

Losses on AFS securities (income) Allowance for credit losses on AFS securities (contra to investment account)

100,000

700,000

100,000

(3) 2019 entries are the same as in (1). 2020 entries Cash Reclassification of gains on AFS securities (OCI) Investment in AFS securities Gains on AFS securities (income)

E1.3

525,000 20,000 520,000 25,000

Investment in AFS securities Cash

700,000

Losses on AFS securities (OCI) Investment in AFS securities

100,000

700,000

100,000

Held-to-Maturity Investments Amortization schedule (supports numbers in entries below) Interest Income Amortization (4% x Beginning ($250,000 – Interest investment balance) income) 1/1/2019 12/31/2019 $208,904 $41,096 12/31/2020 207,260 42,740 12/31/2021 205,550 44,450 12/31/2022 203,772 46,228 12/31/2023 201,923 48,077 January 1, 2019 Investment in HTM securities Cash December 31, 2019 Cash Interest income Investment in HTM securities December 31, 2020 Cash Interest income Investment in HTM securities December 31, 2021 Cash Interest income Investment in HTM securities

Investment Balance (Beginning balance – amortization) $5,222,591 5,181,495 5,138,755 5,094,305 5,048,077 5,000,000

5,222,591 5,222,591

250,000 208,904 41,096

250,000 207,260 42,740

250,000 205,550 44,450

December 31, 2022 Cash Interest income Investment in HTM securities

250,000 203,772 46,228

December 31, 2023 Cash Interest income Investment in HTM securities

250,000 201,923 48,077

Cash

5,000,000 Investment in HTM securities

E1.4

5,000,000

Investment in Equity Securities with No Significant Influence a. December 31, 2018 Investment in Becker Corporation Investment in Corey Corporation Total

$ 380,000 640,000 $1,020,000

December 31, 2019 Investment in Corey Corporation

$ 510,000

b. 2018 Gain on investment in Allen Corporation= $210,000 - $200,000 = Loss on investment in Becker Corporation = $380,000 - $400,000 = Gain on investment in Corey Corporation = $640,000 - $600,000 = Net gain

$ 10,000 (20,000) 40,000 $30,000

2019 Gain on investment in Becker Corporation = $405,000 - $380,000 = Loss on investment in Corey Corporation = $510,000 - $640,000 = Net loss

$ 25,000 (130,000) $(105,000)

2020 Loss on investment in Corey Corporation = $500,000 - $510,000 = $ (10,000)

E1.5

Financial Statement Display of AFS Debt Securities a. The loss is a direct reduction in the investment balance, and is reported in income. Investment in AFS securities………………………………………….. b. (1)

The loss is reported in an allowance account, and is reported in income.

Investment in AFS securities Less: Allowance for expected credit losses Net investment in AFS securities……………………… (2)

$200,000 ( 40,000) $160,000

The credit-related loss is reported in an allowance account, and is reported in income. The market-related loss is a direct reduction in the investment balance, and is reported in OCI.

Investment in AFS securities ($200,000 - $5,000) Less: Allowance for expected credit losses Net investment in AFS securities………………………

E1.6

$160,000

$195,000 ( 35,000) $160,000

Investment in AFS Securities a. $460,000 - $65,000 = $395,000. Historical cost = fair value less unrealized gains. b. Cash received = $85,000, derived by reconstructing the summary entry to record sales of AFS securities: Cash Reclassification of unrealized gains on AFS securities (OCI) Gain on sale of AFS securities (income) Investment in AFS securities

85,000 10,000 20,000 75,000

The credit to investment in AFS securities is $75,000, because the investment balance declined by $60,000 in 2020, but $15,000 in unrealized gains was recorded in OCI. $520,000 + $15,000 – X = $460,000; X = $75,000. The amount of cash received is the number that balances the entry. The other numbers are given in the exercise.

E1.7

Equity Method Investment with Intercompany Sales Calculation of 2019 equity in Coca-Cola FEMSA’s net income: Coca-Cola’s share of Coca-Cola FEMSA’s reported income (28% x $5 million) + Realized profit on intercompany sales [28% x ($1,350,000 – ($1,350,000/1.35))] - Unrealized profit on intercompany sales [28% x ($1,215,000 – ($1,215,000/1.35))] Equity in net income of Coca-Cola FEMSA Entry to record equity in Coca-Cola FEMSA’s net income: Investment in Coca-Cola FEMSA Equity in net income of Coca-Cola FEMSA (income)

E1.8

$ 1,400,000 98,000 (88,200) $ 1,409,800

1,409,800 1,409,800

Equity Method Investment with Cost in Excess of Book Value Analysis of acquisition cost (not required): Acquisition cost 40% x book value (40% x $6,000,000) Excess of fair value over book value: Patents (40% x $1,000,000) Technology (40% x $2,000,000) Goodwill

$ 15,000,000 $ 2,400,000 400,000 800,000

3,600,000 $ 11,400,000

Calculation of 2019 equity in Ronco’s net income: Revco’s share of Ronco’s reported income (40% x $900,000) - Amortization of patent undervaluation ($400,000/10) - Amortization of unreported technology ($800,000/5) Equity in net income of Ronco

$ 360,000 (40,000) (160,000) $ 160,000

Revco’s entries for 2019: January 1, 2019 Investment in Ronco Cash During 2019 Cash Investment in Ronco $250,000 x 40% = $100,000 December 31, 2019

15,000,000 15,000,000

100,000 100,000

Investment in Ronco Equity in net income of Ronco (income)

160,000 160,000

December 31, 2019 investment balance: $15,000,000 – $100,000 + $160,000 = $15,060,000

E1.9

Equity Method and Other Comprehensive Income Journal entries for 2020: Investment in Turner Cash To record investment in 30% of Turner’s stock.

10,000,000 10,000,000

Investment in Turner 300,000 Equity in net income of Turner (income) 300,000 To record Mitchell’s share of Turner’s net income for 2020; 30% x $1,000,000 = $300,000. Cash

75,000

Investment in Turner To record receipt of dividends from Turner; $75,000 = $250,000 x 30%.

75,000

Losses on AFS investments (OCI) 24,000 Investment in Turner 24,000 To record Mitchell’s share of Turner’s OCI for 2020; $80,000 x 30% = $24,000.

E1.10 Equity Method Investment Cost Computation Changes in the investment balance in 2018, 2019, and 2020: 2018 $ 480,000

2019 $ 600,000

2020 $ 560,000

40% reported net income Amortization of unreported intangibles (40% x $4,000,000/5) (320,000) (320,000) (320,000) Equity in net income $ 160,000 $ 280,000 $ 240,000 Less 40% dividends (80,000) (100,000) (92,000) Change in investment balance $ 80,000 $ 180,000 $ 148,000 *Total increase in investment balance = $80,000 + $180,000 + $148,000 = $408,000 Investment balance December 31, 2020 Less: 2018 - 2020 increase in investment balance January 2, 2018 investment cost =

E1.11 Change in Reporting for Equity Investment

$14,608,000 – $ 408,000* $14,200,000

Entries made by Stream (not required): January 1, 2020 Investment in Topsia

2,000,000

Cash To record investment in 10% of Topsia’s stock.

2,000,000

December 31, 2020 Cash

20,000

Dividend income (income) To record receipt of cash dividends; $20,000 = 10% x $200,000.

20,000

Investment in Topsia

100,000 Gain on investment (income) 100,000 To record unrealized gain on Topsia investment; $100,000 = $2,100,000 - $2,000,000. January 1, 2021 Investment in Topsia

8,000,000 Cash 8,000,000 To record additional investment in 30% of Topsia’s stock. Going forward, the investment is reported prospectively using the equity method. December 31, 2021 Cash

120,000

Investment in Topsia To record receipt of cash dividends; $120,000 = 40% x $300,000. Investment in Topsia

120,000

160,000 Equity in net income of Topsia (income) 160,000 To record equity in Topsia’s net income; $160,000 = 40% x $400,000 Account balances are as follows: a. Investment in Topsia, December 31, 2020: $ 2,100,000 = ($2,000,000 + $100,000) Investment in Topsia, December 31, 2021: $10,140,000 = ($2,100,000 + $8,000,000 - $120,000 + $160,000) b. Dividend income, 2020 Dividend income, 2021

20,000 --

c. Unrealized gain on investment, 2020 Unrealized gain on investment, 2021

100,000 --

d. Equity in net income of Topsia, 2020

Equity in net income of Topsia, 2021

160,000

E1.12 Joint Venture (in millions) Each investor reports the investment on its December 31, 2020 balance sheet at $2,800,000 [= $2,500,000 + (50% x $600,000)] Each investor reports equity in the joint venture’s net income at $300,000 on its 2020 income statement. The individual assets and liabilities of the joint venture are not reported separately by the investors.

E1.13 Equity Method Investment with Basis Differences Several Years Later Calculation of 2019 equity in Taylor’s net income: Saxton’s share of Taylor’s reported income (30% x $325,000) + Correction of depreciation of plant and equipment (30% x $2,000,000/10) Equity in net income of Taylor

$ 97,500 60,000 $ 157,500

Note: There is no amortization of the customer database because its life is over. Saxton’s entries for 2019: During 2019 Cash 45,000 Investment in Taylor To record receipt of dividends from Taylor; $45,000 = 30% x $150,000. December 31, 2019 Investment in Taylor Equity in net income of Taylor (income) To record equity in net income of Taylor.

45,000

157,500 157,500

E1.14 Merger and Stock Investment (see related E1.13) a. Current assets Plant and equipment Customer database Goodwill Current liabilities Long-term debt Cash

10,000,000 68,000,000 700,000 10,300,000

Investment in Taylor Cash

15,000,000

16,000,000 58,000,000 15,000,000

b. 15,000,000

E1.15 Merger (in millions) Current assets Plant and equipment Intangible assets Goodwill Current liabilities Long-term debt Cash To record the merger.

10 20 15 105 12 38 100

Note that the amount of recorded goodwill exceeds the acquisition cost. This is a common occurrence in practice, as the fair value of the acquired company’s identifiable net assets is often less than zero.

E1.16 Change from Significant Influence to Control (see related E1.15) (in millions) Investment in Healthy Snax Gain on equity method investment (income) To revalue the equity method investment to fair value

15 15

Current assets Plant and equipment Intangible assets Goodwill Current liabilities Long-term debt Cash Investment in Healthy Snax To record acquisition of the remaining shares of Healthy Snax.

10 20 15 105 12 38 60 40

E1.17 Consequences of Investment Reporting Choices (amounts in millions) a. Investment in Bubbly Cash

950

Tangible assets Goodwill Liabilities Cash

1,000 850

950

900 950

c. Significant influence investment: $20,000/$80,000 = 25% Merger: ($20,000 + $900)/($80,000 + $1,000 + $850 - $950) = 25.8% d. Use of the equity method prevents Bubbly’s high leverage from affecting CocaCola’s balance sheet. Evaluation is based on whether or not the investor actually controls the investee. An auditor should review factors that determine the extent of control, such as government regulations, agreements between the investor and investee regarding shareholder rights, and inability to obtain representation on the investee’s board. Because in many cases the company benefits from classifying its investment as a significant influence investment instead of a controlling investment, the auditor should investigate questionable choices carefully.

PROBLEMS P1.1

Investments in Trading and AFS Securities a. 3/5/19 Investment in trading security A Cash

350,000 350,000

6/3/19 Cash Loss on trading securities (income) Investment in trading security A

325,000 25,000

7/14/19 Investment in trading security B Cash

225,000

8/2/19 Investment in AFS security D Cash

175,000

11/20/19 Investment in AFS security E Cash

300,000

12/31/19 Investment in trading security B Gain on trading securities (income) $27,000 = $252,000 - $225,000.

350,000

225,000

175,000

300,000

27,000 27,000

Investment in AFS security D Gain on AFS securities (OCI) $15,000 = $190,000 - $175,000.

15,000

Loss on AFS security E (income) Allowance for credit losses $50,000 = $250,000 - $300,000.

50,000

1/15/20 Cash Loss on trading securities (income) Investment in trading security B

15,000

50,000

235,000 17,000 252,000

4/2/20 Cash Reclassification of gain on AFS securities (OCI) Investment in AFS security D Gain on AFS securities (income)

213,000 15,000 190,000 38,000

4/6/20 Investment in AFS security F Cash

710,000

9/1/20 Investment in trading security C Cash

400,000

12/31/20 Investment in trading security C Gain on trading securities (income) $10,000 = $410,000 - $400,000.

710,000

400,000

10,000 10,000

Loss on AFS security E (income) Allowance for credit losses $35,000 = $215,000 - $250,000.

35,000

Investment in AFS security F Gain on AFS securities (OCI) $25,000 = $735,000 - $710,000.

25,000

b. 2019 Financial Statements Balance Sheet, 12/31/19 Assets: Investment in trading securities Investment in AFS securities ($190,000 + $300,000) Less: Allowance for credit losses

35,000

25,000

$ 252,000 $490,000 (50,000)

Equity: AOCI gains Income Statement, 2019 Gains (losses) on trading securities (-$25,000 + $27,000) Credit losses on AFS securities Statement of Comprehensive Income, 2019 Gains on AFS securities

440,000 15,000

$ 2,000 50,000

15,000

2020 Financial Statements Balance Sheet, 12/31/20 Assets: Investment in trading securities Investment in AFS securities ($300,000 + $735,000)$1,035,000 Less: Allowance for credit losses (85,000)

P1.2

$ 410,000 950,000

Equity: AOCI gains ($15,000 – $15,000 + $25,000)

25,000

Income Statement, 2020 Gains (losses) on trading securities (-$17,000 + $10,000) Realized gains on AFS securities Credit loss on AFS securities

(7,000) 38,000 (35,000)

Statement of Comprehensive Income, 2020 Gains on AFS securities Reclassifications of (gains) on AFS securities

25,000 (15,000)

Available-for-Sale Debt Investment Impairment The securities are impaired in both years because their fair value is less than cost. The credit loss is reported in income, as the difference between cost and the present value of expected cash flows. The remaining market-related loss is reported in OCI. December 31, 2020 Credit losses on AFS securities (income) Loss on AFS securities (OCI)

15,000 5,000

Allowance for credit losses 15,000 Investment in AFS securities 5,000 To record credit-related and noncredit-related losses on AFS debt securities. $15,000 = $85,000 - $100,000 and $5,000 = $80,000 - $85,000. December 31, 2021 Allowance for credit losses Loss on AFS securities (OCI)

4,000 1,000

Credit losses on AFS securities (income) 4,000 Investment in AFS securities 1,000 To record credit-related and noncredit-related losses on AFS debt securities. $4,000 = $89,000 - $85,000; the total increase in value is ($83,000 - $80,000) = $3,000 and the credit-related gain is $4,000, so the market-related loss is $1,000.

P1.3

Held-to-Maturity Intercorporate Debt Investments a. Bond #1 pays $60,000 annually in interest and $1,000,000 at maturity. Cash flow $60,000 $60,000 $60,000 $60,000 $1,060,000 Total price

Present value calculation $60,000/1.05 $60,000/(1.05)2 $60,000/(1.05)3 $60,000/(1.05)4 $1,060,000/(1.05)5

Present value $ 57,143 54,422 51,830 49,362 830,538 $1,043,295

Bond #2 pays $20,000 annually in interest and $500,000 at maturity. Cash flow $20,000 $20,000 $20,000 $520,000 Total price

Present value calculation $20,000/1.05 $20,000/(1.05)2 $20,000/(1.05)3 $520,000/(1.05)4

Present value $ 19,048 18,141 17,277 427,805 $ 482,271

Amortization tables to support answers to requirements b, c and d: Bond #1 Interest Income (5% x Beginning investment balance) 1/1/2019 12/31/2019 12/31/2020 12/31/2021 12/31/2022 12/31/2023

$52,165 51,773 51,362 50,930 50,476

Amortization ($60,000 – Interest income) $7,835 8,227 8,638 9,070 9,525*

Investment Balance (Beginning balance – amortization) $1,043,295 1,035,460 1,027,233 1,018,595 1,009,525 1,000,000

*Includes a rounding adjustment of $1

Bond #2 Interest Income (5% x Beginning investment balance) 1/1/2019 12/31/2019 12/31/2020

$24,114 24,319

Amortization (Interest income – $20,000) $4,114 4,319

Investment Balance (Beginning balance + amortization) $482,271 $486,385 490,704

12/31/2021 12/31/2022

24,535 24,762

4,535 4,761*

495,239 500,000

*Includes a rounding adjustment of - $1

b. Bond #1 Bond #2 Total interest income

2019

2020

$ 52,165 24,114 $ 76,279

$ 51,773 24,319 $ 76,092

c. $1,018,595 + $495,239 = $1,513,834 d. Expected credit losses occur because it is improbable that the bond issuer will be able to make the remaining interest and principal payments per the bond agreement. Factors indicating impairment loss relate to the financial health of the bond issuer, such as failure to make payments on other debts and a significant decline in credit rating. Estimates are made using the CECL model, which forecasts payments over the life of the bond. Changes in expected credit losses are reported in income. In this case, a credit loss of $500,000 is reported in income, and an allowance is set up to reduce the investment account by the amount of the expected credit loss.

P1.4

Trading and AFS Securities in Financial Statements a.

Given information: Change in trading investments account: $8,500 - $11,000 = $(2,500) Cash received from sales of trading investments: $4,000 Purchases of trading investments: $1,000 Therefore journal entries were:

Investment in trading securities

1,000

Cash To record purchases of trading securities. Cash

4,000

Investment in trading securities Net gains on trading securities To record net change in value of trading securities held and sold. Net gains on trading securities reported in 2019 income = $500

1,000

Given information: Change in AFS investments account: $1,000 Cash received from sales of AFS investments: $6,000 Purchases of AFS investments: $3,600

3,500 500

Net change in unrealized gains on AFS securities held at year-end: $2,000 Reclassification of net unrealized gains included in net income on AFS securities sold: $2,100

Therefore journal entries were: Investment in AFS securities

3,600

Cash To record purchase of AFS securities.

3,600

Investment in AFS securities

2,000

Unrealized gains on AFS securities (OCI) To record unrealized gains on AFS securities held at year-end.

2,000

Cash Reclassification of net gains on AFS securities

6,000 2,100 Investment in AFS securities Gain on sale of AFS securities (income)

4,600 3,500

To record sale of AFS securities. Gain on sale of AFS investments, included in income = $3,500

c. Reported value of AFS securities sold Less previously reported gains Original cost of AFS securities sold

P1.5

$4,600 (2,100) $2,500

Trading, AFS, and Equity Investments Cash

43,000

Investment in trading securities Gain on sale of trading securities (income) To record sale of trading securities. Cash

40,000 3,000

20,000

Investment in trading securities Gain on sale of trading securities (income) To record sale of trading securities; $16,000 = $56,000 - $40,000. Investment in trading securities Cash To record investment in trading securities.

16,000 4,000

60,000 60,000

Loss on trading securities (income) 8,000 Investment in trading securities To record unrealized loss on trading securities; $8,000 = $52,000 - $60,000. Cash Reclassification of gains on AFS securities (OCI) Investment in AFS securities Gain on sale of AFS securities (income) To record sale of AFS securities.

55,000 5,000

Investment in AFS securities Cash To record purchase of AFS securities.

40,000

8,000

50,000 10,000

40,000

Impairment loss on AFS securities (income) 6,000 Allowance for credit losses on AFS securities 6,000 To record credit loss on AFS securities held at year-end; $6,000 = $34,000 - $40,000. Cash Investment in equity securities Gain on equity securities (income) To record purchase of equity securities.

50,000 45,000 5,000

Investment in equity securities 8,000 Gains on equity securities (income) 8,000 To record increase in value of equity securities held at year-end; $8,000 = $63,000 – ($100,000 - $45,000). Balance Sheet, December 31, 2020 Investment in trading securities ($56,000 - $40,000 - $16,000+$60,000 - $8,000) Investment in AFS securities ($50,000 - $50,000 + $40,000) $40,000 Less allowance for credit losses (6,000) Net investment in AFS securities……….…………………………. 34,000 Investment in equity securities ($100,000 - $45,000 + $8,000)……….. 63,000 AOCI (unrealized gains (losses) on AFS securities………………………… 0

$52,000

Income Statement for 2020 Net losses on trading securities ($3,000 + $4,000 - $8,000)………………. $ (1,000) Net gains on AFS securities ($10,000 - $6,000)…………………………… 4,000 Net gains on equity securities ($5,000 + $8,000)………………………….. 13,000 Net gains on trading, AFS, and equity securities…………………………... $ 16,000 Statement of Comprehensive Income for 2020

Reclassification of gains on AFS securities sold……………………………. (5,000)

P1.6

Investment in AFS Securities (in millions) a. Cash 11,540 Losses on AFS securities (income) 51 Reclassification of gains on AFS securities (OCI) 100 Gains on AFS securities (income) Investment in AFS securities Note: The credit to investment in AFS securities is a plug number. The other amounts are given.

152 11,539

b. Losses on AFS securities (OCI) 282 Investment in AFS securities 282 The net change in OCI from AFS investments is a loss of $382. Entry a. reduces OCI by $100. Therefore unrealized losses for AFS securities on hand at year-end must be $282. c. Investment in AFS securities Cash $8,606 + X - $11,539 - $282 = $6,413; X = $9,628.

P1.7

9,628 9,628

Equity Method Investment Several Years After Acquisition Note to instructor: This problem provides an introduction to calculating a parent’s investment balance in years subsequent to acquisition, covered in Chapter 4. a. Calculation of 2020 equity in net income Better Bottlers’ net income (45% x $2,500,000) – Amortization of patents and trademarks revaluation [45% x (($160,000,000 - $150,000)/10)] – Amortization of brand names [45% x ($9,000,000/15)] Equity in net income of Better Bottlers

$ 1,125,000 (450,000) (270,000) $ 405,000

Best Beverages’ journal entries for 2020: Investment in Better Bottlers Equity in net income of Better Bottlers (income)

405,000

Cash (45% x $650,000 dividends)

292,500

405,000

Investment in Better Bottlers

292,500

b. Investment balance, January 2, 2017 + 45% x 2017 to 2020 change in Retained Earnings (reported income less dividends): [45% x ($25,000,000 – $13,000,000)] – 4 years of revaluation write-offs: $450,000 x 4 $270,000 x 4 Investment balance, December 31, 2020

P1.8

$ 30,000,000

5,400,000 (1,800,000) (1,080,000) $ 32,520,000

Equity Method Investment Several Years After Acquisition Note to instructor: This problem can be used to prepare students for equity method calculations of investment balance in Chapters 4 and 6. a. (Calculation of equity in net income for 2018-2019 provided in addition to 2020’s calculation, for use in requirement c.) Equity in net income calculation 2018-2019 30% x Seaway’s net income: 2018-2019: (30% x $14,000,000); 2020: (30% x $4,000,000) Write-off of P&E revaluation (30% x $4,000,000/10 each year) Amortization of undervalued intangibles (30% x $6,000,000/2 for 2018 and 2019 only) 2019 ending inventory profit, upstream [30% x ($925,000 – $925,000/1.25)] 2019 ending inventory profit, downstream [30% x ($420,000 – $420,000/1.2)] 2020 ending inventory profit, upstream [30% x ($625,000 – $625,000/1.25)] 2020 ending inventory profit, downstream [30% x ($696,000 – $696,000/1.2)] Equity in net income

2020

$ 4,200,000

$ 1,200,000

240,000

120,000

(1,800,000)

(55,500)

55,500

(21,000)

21,000

(37,500)

-$ 2,563,500

(34,800) $ 1,324,200

b. Investment in Seaway Equity in net income of Seaway

1,324,200 1,324,200

Losses on AFS securities (OCI) Investment in Seaway

240,000

Cash

450,000 Investment in Seaway

240,000

450,000

c. Investment, January 2, 2018 + Equity in net income, 2018-2019 + Unrealized gains on AFS securities, 2018-2019 (30% x $1 million) – Dividends, 2018-2019 (30% x $5 million) + Equity in net income, 2020 – Unrealized losses on AFS securities, 2020 (30% x $800,000) – Dividends, 2020 (30% x $1.5 million) Investment, December 31, 2020

P1.9

$ 10,000,000 2,563,500 300,000 (1,500,000) 1,324,200 (240,000) (450,000) $ 11,997,700

Equity Method Investment with Basis Differences a. Manchester has $600,000/$2 = 300,000 shares outstanding 30% x 300,000 = 90,000 shares acquired b. Calculation of 2019 equity in net income (in thousands) Manchester’s net income (30% x $1,500) Adjusted for Bristol’s share of revaluation write-offs: + Reduction in cost of goods sold (30% x $500) (note 1) + Depreciation on revaluation of P&E (30% x $1,800/20) (note 2) – Amortization of franchises (30% x ($1,000/5)) Equity in Manchester net income

$ 450 150 27 (60) $ 567

Note 1: Because Manchester uses FIFO, the beginning inventory is completely sold during the year. Note 2: Revaluation of P&E = $1,800 decline [= ($4,000 – $1,500) – $700]

P1.10 Equity Method Investment, Intercompany Sales Note to instructor: This problem provides an introduction to elimination of unconfirmed intercompany profits in consolidation, covered in Chapter 6. (in thousands) a.

Jackson’s reported net income must be adjusted for unconfirmed profits in ending inventory. Calculation of 2020 equity in net income: Jackson’s net income (40% x $10,000) – Unconfirmed profit on downstream ending inventory [$26,000 – ($26,000/1.3)] x 40% – Unconfirmed profit on upstream ending inventory [$12,000 – ($12,000/1.2)] x 40% Equity in Jackson’s net income

$40,000 + $800 – (40% x $1,000) = $40,400

$ 4,000 (2,400)

(800) 800

P1.11 Equity Investments, Various Reporting Methods (in thousands) a. Balance Sheet, December 31, 2019 Current assets $ 38,5001 Property, net 450,000 Investment in equity securities 1,200 Identifiable intangibles 5,000 Total assets $ 494,700

Current liabilities Long-term liabilities Capital stock Retained earnings Total liabilities and equity

20,000 200,000 90,000 184,700 $ 494,700

2019 Income Statement Sales revenue Cost of sales Operating expenses Loss on equity investment Net income 1

$ 900,000 (750,000) (140,000) (300) $ 9,700

$38,500 = $40,000 balance without investment – $1,500 original investment

b. Balance Sheet, December 31, 2019 Current assets $ 34,0001 Property, net 450,000 Investment in Quarry 7,2002 Identifiable intangibles 5,000 Total assets $ 496,200

Current liabilities Long-term liabilities Capital stock Retained earnings Total liabilities and equity

2019 Income Statement Sales revenue Equity in income of Quarry Cost of sales Operating expenses Net income 1 2

20,000 200,000 90,000 186,200 $ 496,200

$ 900,000 1,200 (750,000) (140,000) $ 11,200

$34,000 = $40,000 balance without investment – $6,000 original investment $7,200 = $6,000 original investment + (40% x $3,000) equity in net income

c. Balance Sheet, December 31, 2019 Current assets $ 30,0001 Property, net 535,000 Identifiable intangibles 5,000 Goodwill 11,0002 Total assets $ 581,000

Current liabilities Long-term liabilities Capital stock Retained earnings Total liabilities and equity

22,000 281,000 90,000 188,0003 $ 581,000

2019 Income Statement Sales revenue Cost of sales Operating expenses Net income

$ 960,000 (770,000) (177,000) $ 13,000

$30,000 = $40,000 balance without investment – $15,000 investment + $5,000 Quarry’s current assets $11,000 = $15,000 investment – $4,000 Quarry’s book value at date of acquisition 3 $188,000 = $185,000 Parker’s retained earnings + $3,000 Quarry’s net income 1 2

P1.12 Joint Venture (all amounts in millions) a. Allen Corp. adjusting entry: Equity in net loss of Albar 1 Investment in Albar 1 To record equity in Albar’s net loss for 2019. Albar’s net loss = $2.0, since its change in retained earnings is $(2.4) and it distributed $0.4 in dividends. Barkely Corp. adjusting entries: Equity in net loss of Albar Investment in Albar

1 1

Impairment loss 3.3 Investment in Albar 3.3 After equity in Albar’s net loss is recorded, the investment balance is $3.8. Therefore the impairment loss is $3.3 (= $3.8 – $0.5). b. Current assets Plant and equipment, net Investment in Albar Enterprises Intangibles Total assets Current liabilities Noncurrent liabilities Capital stock Retained earnings Total liabilities and equity $3.8 = $4.8 – $1 $66.0 = $67.0 – $1 3 $0.5 = $4.8 – $1 – $3.3 4 $13.4 = $17.7 – $1 – $3.3 1 2

Allen Corp. $ 1.2 150.0 3.81 200.0 $ 355.0 $

14.0 265.0 10.0 66.02 $ 355.0

Barkely Corp. $ 0.6 65.0 0.53 3.5 $ 69.6 $

0.2 55.0 1.0 13.44 $ 69.6

c. Although Allen and Barkely probably use similar techniques to compute the value of their investment, considerable judgment is involved in estimating future expected cash flows, risk, and investment holding period. Strategy and expectations concerning the investment may differ between the two corporations. An impairment loss is only reported if the loss is considered to be other than temporary. Allen and Barkely may therefore come to different conclusions regarding the value of their investment in Albar Enterprises.

P1.13 Change in Reporting for Equity Investment January 1, 2020 Investment in Moxie

6,000,000

Cash To record investment in 15% of Moxie’s stock. December 31, 2020 Cash

6,000,000

7,500

Dividend income (income) To record receipt of cash dividends; $7,500 = 15% x $50,000.

7,500

Investment in Moxie

200,000 Gain on investment (income) 200,000 To record unrealized gain on Moxie investment; $200,000 = $6,200,000 - $6,000,000. December 31, 2021 Cash

12,000

Dividend income (income) To record receipt of cash dividends; $12,000 = 15% x $80,000. Investment in Moxie

12,000

250,000

Gain on investment (income) To record unrealized gain on Moxie investment; $250,000 = $6,450,000 - $6,200,000. January 1, 2022 Investment in Moxie Cash To record additional investment in 25% of Moxie’s stock. December 31, 2022 Cash Investment in Moxie To record receipt of cash dividends; $40,000 = 40% x $100,000.

250,000

15,000,000 15,000,000

40,000 40,000

Investment in Moxie

100,000

Equity in net income of Moxie (income) To record equity in Moxie’s net income; $100,000 = 40% x $250,000.

100,000

Calculation of Investment balance, December 31, 2022: Fair value of 15% investment, January 1, 2022 Additional investment, January 1, 2022 Equity in net income, 2022 Cash dividends, 2022 Investment balance, December 31, 2022

$ 6,450,000 15,000,000 100,000 (40,000) $21,510,000

P1.14 Balance Sheet After Business Acquisition

Assets Current assets Property and equipment Intangibles Goodwill

Total assets 1

Wilson Corporation Balance Sheet (in millions) Liabilities $ 15 Current liabilities 560 Long-term debt 50 Total liabilities 221 Equity Capital stock Retained earnings AOCI ___ Total equity $ 647 Total liabilities and equity

27 465 $ 492 $

50 120 (15) $ 155 $ 647

$22 = $50 – ($5 + $60 + $23 + $7 – $2 – $65)

P1.15 Merger ( in millions of euros) Property, plant and equipment, net of liabilities Intangible assets Goodwill Consideration paid (cash, etc.)

16 70 274 360

Note: the amount recorded for goodwill is the difference between total consideration paid and the fair value of identifiable net assets acquired; €274 = €360 - €16 - €70.

P1.16 Change from Significant Influence to Control (all amounts in millions) a. Using the equity method, the investment balance reflects the original cost of the investment, plus (minus) the investor’s share of changes in the investee’s retained earnings and AOCI. Equity method investments are not carried at fair value. Although the investment’s reported value usually significantly understates fair value, in this case the investment is carried at an amount that is above fair value. The investment is written down and a loss is reported in income if the impairment is judged to be other than temporary. In this case, there are two possibilities as to why no impairment had been recorded: the impairment did not occur until the time of the merger, or the impairment was not considered to be other than temporary. b. Fair value = $50 - $19 = $31. c. The equity method investment is revalued to fair value, with the loss reported in income. Acquisition cost is $300 + $31 = $331, while the fair value of identifiable net assets acquired is $2,000 – $1,900 = $100. Therefore acquired goodwill is $331 – $100 = $231. The journal entries are as follows: Loss on equity method investment (income Equity method investment Identifiable assets Goodwill Liabilities Equity method investment Cash

19 19 2,000 231 1,900 31 300

P1.17 Merger with Associate (all amounts in millions) a. Acquisition cost Fair value of identifiable net assets Goodwill

$20,103 + $12,946 $9,779 + $8,231 – $1,975 – $2,578

$33,049 (13,457) $19,592

b. Using the equity method, OCI of associates is reported by the investor. When the investment is converted or sold, this OCI is reclassified out of AOCI and reported in income. c. Investment in associates 6,211 Reclassification of OCI gains of associates (OCI) 199 Gain on conversion of investment in associate (income) 6,410 The debit to investment in associates is a plug number. Current assets Noncurrent assets Goodwill Current liabilities Noncurrent liabilities Cash Investment in associates d. $12,946 – $6,211 (adjustment in c. above) = $6,735 million

8,231 9,779 19,592 2,578 1,975 20,103 12,946

CHAPTER 2 SOLUTIONS TO MULTIPLE CHOICE QUESTIONS, EXERCISES AND PROBLEMS

MULTIPLE CHOICE QUESTIONS 1.

b Only the advanced production technology and customer lists intangibles meet the contractual or separability criteria.

c $40,000 – $400 = $39,600

b Outside consultants costs are expensed.

a This is a post-acquisition event, and does not adjust the date-of-acquisition value of the equipment. The reduction in value is a loss, reported on the income statement.

c This change in value occurs in the measurement period, and corrects the original acquisition entry. The correction is: Goodwill Identifiable intangible assets

2,000 2,000

c $60,000 – ($4,200 + $6,000 + $14,000 + $4,000 + $1,000 – $2,000 – $11,600) = $44,400

b $8,000 – ($4,200 + $6,000 + $14,000 + $500 – $2,000 – $11,600) = $(3,100)

d Favorable location does not meet the contractual or separable criteria.

d The Codification requires capitalization of acquired in-process R&D regardless of its alternative future use or probability of success.

10.

a Warranty liabilities are known liabilities, and are likely to be estimable within the measurement period. The others are “other contingencies” and less likely to have measurable fair values at the date of acquisition.

EXERCISES E2.1

Recording a Merger and a Stock Acquisition a. Cash and receivables Equity method investments Inventory Plant assets Goodwill Merger expenses (income) Current liabilities Long-term debt Cash

50,000 400,000 300,000 1,200,000 6,100,000 200,000

Investment in Slys Merger expenses (income) Cash

6,000,000 200,000

350,000 1,700,000 6,200,000

E2.2

6,200,000

Recording a merger Current assets Plant and equipment Patents and trademarks Identifiable intangible: developed technology Goodwill Merger expenses (income) Current liabilities Long-term debt Cash Earnout liability

350,000 1,600,000 1,500,000 2,000,000 8,650,000 400,000 600,000 3,000,000 10,400,000 500,000

E2.3

Post-Combination Balance Sheet: Merger and Stock Acquisition a. Allen makes the entries shown below in alternatives (1) and (2), respectively: (1) Cash Other current assets Property, plant and equipment Identifiable intangibles Goodwill Current liabilities Long-term liabilities Cash

50,000 150,000 400,000 200,000 350,000

Investment in Benson Cash

800,000

100,000 250,000 800,000

(2) 800,000

Allen’s post-acquisition balance sheet for each alternative is as follows: Allen Corp. Post-combination Balance Sheet Cash Other current assets Property plant and equipment Investment in Benson Identifiable intangibles Goodwill Current liabilities Long-term liabilities Common stock Additional paid-in capital Retained earnings

(1) $ 250,000 750,000 1,600,000 -200,000 350,000 $3,150,000 $ 400,000 850,000 200,000 900,000 800,000 $3,150,000

(2) $ 200,000 600,000 1,200,000 800,000 --$2,800,000 $ 300,000 600,000 200,000 900,000 800,000 $2,800,000

b. In the stock acquisition, total assets are unchanged from Allen's pre-combination balance sheet, reflecting the payment of $800,000 cash for the acquisition of a $800,000 stock investment. In the merger, total assets increase by $350,000. Cash of $800,000 was paid to acquire assets recorded at $1,150,000 (including $200,000 of previously unrecorded identifiable intangibles and $350,000 of goodwill). Note that $350,000 in liabilities was also recorded, so that there was no change in Allen's net assets. Total assets are higher in the merger because Benson’s assets are included with Allen’s assets on a line-by-line basis. In comparing the balance sheet in (1) with the balance sheet in (2), note that if the investment balance in (2) is replaced with the individual assets and liabilities acquired, the two balance sheets are identical.

E2.4

Recording an Acquisition (in millions) Identifiable intangible assets Other assets Goodwill Merger expenses (income) Liabilities Cash (1)

2,504 1,551 1,938 200 1,852 4,341

(1) $4,141 + $200 = $4,341

E2.5

Bargain Purchase a. Price paid Fair value of identifiable net assets: Current assets Land Buildings and equipment Identifiable intangibles Loans payable Gain on acquisition

$ 3,000,000 $ 250,000 800,000 1,000,000 1,500,000 (300,000)

3,250,000 $ 250,000

b. Current assets Land Buildings and equipment Identifiable intangibles Loans payable Cash Gain on acquisition (income)

250,000 800,000 1,000,000 1,500,000 300,000 3,000,000 250,000

c. The addition of $75,000 in contingent liabilities reduces the fair value of identifiable net assets acquired to $3,175,000 (= $3,250,000 – $75,000). Therefore the gain on acquisition is $175,000 (= $3,000,000 – $3,175,000).

E2.6

Goodwill and Bargain Purchase (in thousands)

Current assets Plant assets Identifiable intangibles Goodwill Liabilities Cash Gain on acquisition (income)

Case 1 400 750 900 750 800 2,000 --

Case 2 100 300 200 2,300

Case 3 300 2,000 800 -900 1,000 2,000 2,000 -100

Note to instructor: This exercise opens discussion of how valuations, which are often Level 3 estimates, impact the balance sheet and income.

E2.7

Changes in Acquisition Values a. The value changes occurred during the measurement period. We know this because goodwill is adjusted, implying that the initial acquisition entry has been corrected. b. Goodwill Inventories Identifiable intangible assets Earnout liability

There is no adjustment to expenses or losses, because the remeasured assets have not been written off during the measurement period.

5 24 5

E2.8

Measurement Period Adjustment with Income Effects

Equipment Depreciation expense

8,062,500 937,500

Goodwill To correct the valuation of acquired equipment and related depreciation.

9,000,000

The adjustment, net of depreciation, to the equipment account = ($36,000,000 $27,000,000) x (43/48) = $8,062,500. Alternatively, the correction to depreciation expense = [(36,000,000 - $27,000,000)/4] x (5/12) = $937,500. Although two months of the depreciation expense adjustment is related to 2019, it is recognized as part of 2020 depreciation.

E2.9

Acquisition Cost Tangible assets Intangible assets Goodwill Merger expenses (income) Liabilities Cash Common stock Additional paid-in capital

25,000,000 90,000,000 100,000,000 900,000 55,000,000 101,650,000 1,500,000 57,750,000

E2.10 Identifiable Intangibles (all amounts in thousands) a. Identifiable intangibles reported in an acquisition are those arising from contractual and other legal rights and/or those which are separable. Of the eight previously unreported intangibles listed, five appear to meet the criteria: Customer contracts Brand names Favorable leases Developed technology In-process R&D

$2,000 3,000 500 200 1,000

b. Price paid Fair value of identifiable net assets: Current assets Plant and equipment Licenses and trademarks Customer contracts Brand names Favorable leases Developed technology In-process R&D Current liabilities Long term liabilities Goodwill

$ 80,000 $

250 5,000 8,000 2,000 3,000 500 200 1,000 (800) (9,500)

9,650 $ 70,350

c. Current assets Plant and equipment Licenses and trademarks Customer contracts Brand names Favorable leases Developed technology In-process R&D Goodwill Current liabilities Long term liabilities Cash

250 5,000 8,000 2,000 3,000 500 200 1,000 70,350 800 9,500 80,000

E2.11 Preacquisition Contingency Original acquisition entry: Current assets Plant and equipment Goodwill Estimated liability-lawsuits Other liabilities Cash

900,000 5,000,000 7,600,000 500,000 3,000,000 10,000,000

The increase in the estimated liability from $500,000 to $650,000 is the result of new information on liability value as of the acquisition date, so the adjustment is treated as a correction of the original acquisition entry, within the measurement period.

Change in preacquisition contingency within measurement period: Goodwill Estimated liability-lawsuits

150,000 150,000

Changes in the estimated liability due to events occurring after the acquisition date are reported in income, following normal GAAP. Change in preacquisition contingency not in measurement period: Estimated liability-lawsuits Gain on estimated liability-lawsuits (income)

350,000 350,000

E2.12 Contingent Consideration (all amounts in millions) a. Agreement (1) is reported at the present value of the expected payment, calculated as follows: ($120 – $100) x 25% x 55% = ($150 – $100) x 25% x 15% = Total expected value

$ 2.750 1.875 $ 4.625

Present value at 20% = $4.625/(1.20)4 = $2.23 Agreement (2)’s $1 million payment is reported as part of Aircastle’s acquisition cost. The payment related to services to be provided subsequent to the acquisition is expensed as incurred. The present value of the $1 million payment is calculated as follows: $1/(1.05) = $0.95 The total amount Aircastle reports at the date of acquisition as a liability and as part of total acquisition cost is $2.23 + $0.95 = $3.18 million, or $3 million, rounded to the nearest million. b. (1) The value change is a correction of the original acquisition entry. Earnout liability Goodwill

0.5 0.5

(2) The value change is not a correction of the acquisition entry. GAAP requires that the earnouts be marked to market through income. Earnout liability Gain on earnout (income)

0.5 0.5

E2.13 In-Process R&D, Other Previously Unreported Intangibles, Goodwill The in-process R&D and patent rights meet Codification requirements for capitalization. The contracts under negotiation with potential customers and the skilled workforce do not meet the contractual or separability criteria, so these assets are reported as part of goodwill. The acquisition entry is as follows: Current assets Plant assets In-process R&D Patent rights Goodwill Liabilities Common stock (par $0.50) Additional paid-in capital

500,000 700,000 2,500,000 3,000,000 23,750,000 450,000 1,000,000 29,000,000

E2.14 Recording Asset Acquisition a. Flowers acquired only a subset of Hostess’ net assets, in particular its bread brands, including Wonder and Butternut, and related facilities. ASC Topic 805 standards apply to business combinations, where the acquirer obtains control over a business (Section 805-10-25). Hostess’ bread brands are a business as defined in ASC Topic 805, with inputs, processes, and outputs. Flowers must use acquisition accounting to record its acquisition of Hostess’ bread brands and related facilities. b. Flowers likely reports a receivable for the amount of the gain. Based on the information provided, a logical conclusion is that the receivable is included in “financial assets” acquired. The entry is (in thousands): Financial assets Gain on legal settlement (income)

1,400 1,400

c. (in thousands) Property, plant and equipment Trademarks Financial assets Goodwill Selling, distribution and administrative expense (income) Gain on legal settlement (income) Cash (1)

160,673 189,000 1,650 5,419 16,000 1,400 371,342

(1) $355,342 + $16,000 = $371,342

E2.15 Changes in Acquisition Values (all amounts in thousands) a. Goodwill Plant and equipment Depreciation expense

6,000 5,600 400

The new information adjusts the acquisition entry because it is within one year of the acquisition and reflects new information on date-of-acquisition value. The adjustment to depreciation expense, already recorded on the original value, is $400 = ($6,000/5) x 4/12. b. Goodwill Cost of goods sold

400 400

The new information adjusts the acquisition entry because it is within one year of the acquisition and reflects new information on date-of-acquisition value. The correction is to cost of goods sold since the inventory has been sold. c. Loss on equipment (income) Plant and equipment

3,000 3,000

The new information reflects changes in value occurring subsequent to the acquisition date, and therefore normal accounting standards apply. There is no adjustment to previously recorded depreciation, but future depreciation will be based on the revised value. d. The new information on the brand names reflects changes in value occurring subsequent to the acquisition date, and therefore normal accounting standards apply. GAAP prohibits the recognition of unrealized gains on intangible assets, so no entry is made.

The new information on the earnout also reflects changes in value occurring subsequent to the acquisition date. Here, GAAP requires the earnout to be marked to market through income. The entry is: Earnout liability Gain on earnout (income)

1,000 1,000

E2.16 Valuing Identifiable Intangibles Net cash flow projections, by year, are as follows: Fiscal year

2019

2020

2021

2022

2023

Projected revenue

$25,000,000

$31,250,000

$39,062,500

$48,828,125

$61,035,156

Less cost of sales and operating expenses

(21,250,000)

(26,562,500)

(33,203,125)

(41,503,906)

(51,879,883)

Projected operating income

3,750,000

4,687,500

5,859,375

7,324,219

9,155,273

Less income tax expense

(1,125,000)

(1,406,250)

(1,757,813)

(2,197,266)

(2,746,582)

After-tax operating income

2,625,000

3,281,250

4,101,562

5,126,953

6,408,691

Plus depreciation expense

800,000

825,000

900,000

850,000

900,000

Less capital expenditures

(1,000,000)

(700,000)

(200,000)

(500,000)

(400,000)

Less contributory assets capital charge

(200,000)

(220,000)

(230,000)

(250,000)

$ 2,225,000

$ 3,186,250

$ 4,571,562

$ 5,226,953

$ 6,658,691

Net cash flow

Present value of net cash flow = $2,225,000/1.2 + $3,186,250/(1.2)2 + $4,571,562/(1.2)3 + $5,226,953/(1.2)4 + $6,658,691/(1.2)5 = $11,909,113, or approximately $12 million. E2.17 Step Acquisition (in thousands) Noncontrolling interest (equity) Contributed capital/APIC (equity) Cash Common stock (equity) Contributed capital/APIC (equity) Notes payable

3,500 3,200 4,500 50 1,750 400

PROBLEMS P2.1

Acquisition Entries, Various Types of Combinations, Acquisition Costs a. Cash and receivables Inventory Equity method investments Land Buildings and equipment Patents Goodwill Merger expenses (income) Liabilities Cash

35,000 45,000 20,000 11,000 14,000 10,000 137,000 20,000

Cash and receivables Inventory Equity method investments Land Buildings and equipment Patents Merger expenses (income) Liabilities Cash Gain on acquisition (income)

35,000 45,000 20,000 11,000 14,000 10,000 5,000

22,000 270,000

22,000 115,000 3,000

c. Investment in Steel Acquisition expenses Cash

275,000 15,000 290,000

P2.2

Identification of Acquirer and Balance Sheet Valuation a. (1)

Current assets Property, plant and equipment Identifiable intangibles Goodwill

Axtel Inc. Balance Sheet October 4, 2019 $ 65,000 Current liabilities

$100,000

375,000 20,000 60,000 $520,000

250,000 80,000 90,000 $520,000

Long-term debt Common stock Retained earnings

(2)

Current assets Property, plant and equipment Identifiable intangibles Goodwill

Barcel Inc. Balance Sheet October 4, 2019 $150,000 Current liabilities

$100,000

550,000 25,000 50,000 $775,000

505,000 60,000 110,000 $775,000

Long-term debt Common stock Retained earnings

b. Fair values are recorded only for the acquired company; net assets of the acquiring company remain at book value. The fair value of total assets is higher than book value for both companies, but the difference is greater for Axtel’s assets. Therefore when Barcel is the acquirer, there is a greater revaluation to fair value. A reconciliation is provided below. Book value of Axtel’s assets Book value of Barcel’s assets Fair value adjustments recorded for: Axtel’s assets (1) Barcel’s assets (2) Post-combination recorded assets (1) (2)

Case (1) $240,000 200,000

Case (2) $240,000 200,000

– 80,000 $520,000

335,000 – $775,000

($100,000 - $40,000) + ($400,000 - $200,000) + $25,000 + $50,000 = $335,000 ($25,000 - $50,000) + ($175,000 - $150,000) + $20,000 + $60,000 = $80,000

P2.3

Acquisition with Stock Options a. Cash paid to Mandiant shareholders Fair value of stock issued to Mandiant shareholders Fair value of vested equity awards assumed Total acquisition cost

$106,538,000 704,414,000 86,703,000 $897,655,000

The unvested equity awards will be expensed over the future service period to which they apply, since they are compensation for future services. The out of pocket acquisition costs are expensed as incurred, per ASC Topic 805. b. Intangible assets are separately capitalized if they are contractual or separable. Based on the information provided in FireEye’s annual report, it is not clear that the content intangibles and customer relationships meet the criteria. As an auditor, given that the content intangibles comprise a large part of the assets acquired and are to be amortized over a longer period of time, more attention might be appropriate to be sure the facts are accurately reported. c. Acquisition cost Less fair value of identifiable net assets acquired Goodwill

$897,655,000 (195,024,000) $702,631,000

d. Net tangible assets Developed technology In-process research and development Content intangibles Customer relationships Contract backlog Trade names Goodwill Merger expenses (income) Deferred tax liability Cash (1) Common stock (2) Paid-in capital (3) (1) $106,538,000 + $8,500,000 = $115,038,000 (2) (16,921,000 + 6,680,000) x $0.0001 = $2,360, or $2,000 rounded. (3) $704,414,000 + $86,703,000 – $2,000 = $791,115,000

9,629,000 54,600,000 1,400,000 128,500,000 66,000,000 12,600,000 12,400,000 702,631,000 8,500,000 90,105,000 115,038,000 2,000 791,115,000

P2.4

Acquisition with Earnout

(all amounts in thousands) a. Cash paid to iSIGHT shareholders Fair value of stock issued to iSIGHT shareholders Fair value of earnout Total acquisition cost

$192,800,000 28,200,000 35,600,000 $256,600,000

b. Issues might include: • • •

•

Identifiable intangibles: Do they meet criteria for capitalization? How are estimated amortization periods for limited life intangibles determined? Level 3 estimation techniques are used to determine the values of the identifiable intangibles. Many judgments are made in applying the excess earnings method and relief-from-royalty method. How are these judgments made? Are the methods used reasonable? What is the documentation regarding estimates used? The value of the earnout depends on estimates of expected bookings. What are the estimates used, and are they supportable?

c. Acquisition cost Less fair value of identifiable net assets acquired Goodwill

$256,600,000 (54,106,000) $202,494,000

d. Identifiable intangible: Customer relationships Identifiable intangible: Content Identifiable intangible: Developed technology Identifiable intangible: Trade name Identifiable intangible: Non-competition agreements Goodwill Merger expenses (income) Net tangible liabilities Deferred tax liability Cash (1) Common stock (2) Paid-in capital (3) Earnout liability (1) $192,800,000 + $1,900,000 = $194,700,000 (2) 1,793,305 x $0.0001 = $179 (3) $28,200,000 – $179 = $28,199,821

32,600,000 28,900,000 17,100,000 3,100,000 1,100,000 202,494,000 1,900,000 18,366,000 10,328,000 194,700,000 179 28,199,821 35,600,000

P2.5

Valuation of Identifiable Intangible Assets a. Present value of cash flows for IPR&D: 2019 2020 2021 Terminal value Total value

€400/1.15 €450/(1.15)2 €350/(1.15)3 [(€350/(0.15-0.10))]/(1.15)3

€

348 340 230 4,603 € 5,521

Present value of cash flows for developed technology: 2019 2020 2021 Terminal value Total value

€1,500/1.12 €2,000/(1.12)2 €2,100/(1.12)3 [(€2,100/(0.12-0.10))]/(1.12)3

€ 1,339 1,594 1,495 74,737 € 79,165

b. Acquisition cost Fair value of identifiable net assets acquired: Book value IPR&D Developed technology Goodwill

P2.6

€ 200,000 € 5,000 5,521 79,165

89,686 € 110,314

Identifiable Intangibles and Goodwill a. Acquisition cost (1,000,000 shares @ $35) Identifiable net assets acquired: Cash Accounts receivable Parts inventory Equipment Intangible: Lease Intangible: Service contracts Intangible: Trade name Current liabilities Long-term liabilities Goodwill

$35,000,000 $ 300,000 2,600,000 6,000,000 19,500,000 1,250,000 2,000,000 200,000 (3,100,000) (8,000,000)

20,750,000 $14,250,000

Note: The lease, service contracts, and trade name qualify as identifiable intangibles, as they are based on legal or contractual rights. The work force does not qualify as an identifiable intangible, as it is neither separable nor based on legal/contractual rights. Thus the work force value is included as part of goodwill.

b. Prince’s journal entry to record the merger is as follows: Cash Accounts receivable Parts inventory Equipment Intangible: Lease Intangible: Service contracts Intangible: Trade name Goodwill Merger expenses (income) Cash (1) Current liabilities Long-term liabilities Capital stock (2)

300,000 2,600,000 6,000,000 19,500,000 1,250,000 2,000,000 200,000 14,250,000 1,200,000 1,800,000 3,100,000 8,000,000 34,400,000

Notes: (1) Cash paid for professional fees ($1,200,000) and registration and issue costs ($600,000). (2) Proceeds from stock issue ($35,000,000) less registration and issue costs ($600,000). No par value is specified, so it is not possible to distinguish common stock at par value from additional paid-in capital.

P2.7

Goodwill a. The following business factors or conditions might give rise to goodwill: • • • • •

Well-trained, motivated, and cooperative employees, and superior management. Product-related factors such as reputed high quality. Exclusive processes or formulas. Loyal customer base. Favorable or unusual location, and good distribution channels.

b. Cost of acquiring Toga Corporation Fair market value of the identifiable net assets: Accounts receivable Inventories Equity method investments Property, plant and equipment Current liabilities Total fair market value of identifiable net assets Goodwill

$ 1,000,000 $ 40,000 70,000 150,000 100,000 (80,000) $

280,000 720,000

c. Goodwill is recorded as an asset only when acquired from another enterprise, i.e., Lisa Corporation's purchase of Toga Corporation. The goodwill was not included on Toga Corporation's balance sheet since the internally generated costs of developing a well-trained workforce, loyal customer base, and business reputation are typically expensed as incurred.

P2.8

Bargain Purchase and Preacquisition Contingency a. Cash and receivables Inventory Plant assets Other assets Current liabilities Estimated lawsuit liability Long-term debt Capital stock Gain on acquisition (income)

6,400,000 5,800,000 6,500,000 3,000,000 5,000,000 800,000 1,800,000 10,000,000 4,100,000

b. The $500,000 decline in the value of the lawsuit is a clarification of value as of the date of acquisition and is within one year of the acquisition date. Therefore the value change occurs within the measurement period, and the original acquisition entry is adjusted, as follows: Estimated lawsuit liability Gain on acquisition (income)

500,000 500,000

c. The $100,000 increase in the value of the lawsuit is reported as a loss, and is not a correction in the original acquisition entry. The entry to record settlement of the lawsuit is as follows: Estimated lawsuit liability Loss on lawsuit (income) Cash

300,000 100,000 400,000

P2.9

Post-Combination Balance Sheet, Goodwill (all amounts in thousands) Softdata makes the following entry to record the acquisition: Current assets Property, plant and equipment Patents and trademarks Identifiable intangible: Customer relationships Identifiable intangible: Developed technology Goodwill Merger expenses (income) Current liabilities Long-term liabilities Common stock Additional paid-in capital (1) Current assets (cash) (2)

15 300 900 200 250 715 10 15 965 3 591 816

(1) $600 - $6 registration fees – $3 par value = $591 (2) $800 + $6 + $10 = $816

Softdata’s post-acquisition balance sheet is as follows: Current assets ($1,000 – $816 + $15) Property, plant and equipment Patents and trademarks Customer relationships Developed technology Goodwill Total assets

199 5,300 1,400 200 250 715 _____ $ 8,064

Current liabilities Long-term liabilities Common stock Additional paid-in capital Retained earnings ($270 – $10) Accumulated OCI Treasury stock Total liabilities and equity

215 6,365 13 1,241 260 (25) ___(5) $ 8,064

P2.10 Valuation Adjustments (in thousands) Current assets Limited life intangible assets Long-term debt Goodwill Property, plant and equipment Indefinite life intangible assets Current liabilities Paid-in capital

5 400 100 1,245 500 1,000 50 200

P2.11 Earnings Contingency, In-Process R&D, Bargain Purchase (all dollar amounts in thousands) a. ($60,000 – $50,000) x $2 = ($80,000 – $50,000) x $2 =

$20,000 x .08 = $60,000 x .02 =

$2,800/(1.15)2 =

$1,600 1,200 $2,800 $2,117

b. Price paid:

Cash Earnout Total price Fair value of reported assets: Fair value of reported liabilities: Fair value of unreported IPR&D Gain on acquisition

$1,250,000 2,117 $1,252,117 $8,200,000 (7,850,000)

(350,000) (1,000,000) $ 97,883

c. Current assets Property, plant and equipment Patents In-process R&D Liabilities (1) Cash Gain on acquisition (income)

200,000 5,000,000 3,000,000 1,000,000 7,852,117 1,250,000 97,883

(1) Includes contingent consideration liability of $2,117.

d. Current assets Property, plant and equipment Patents In-process research & development Total assets

$ 3,950,000 65,000,000 13,000,000

Liabilities Capital stock Retained earnings (2)

1,000,000 $82,950,000

_________ Total liabilities and equity $82,950,000

(2) $15,000,000 + $97,883 gain = $15,097,883

$42,852,117 25,000,000 15,097,883

P2.12 Recording Acquisitions, Bargain Gain and Goodwill a. The information provided in Avnet’s annual report summarizes multiple acquisitions. Each is recorded separately. For most of these acquisitions, acquisition cost exceeded the fair value of identifiable net assets acquired, and goodwill was reported. Avnet’s acquisition of Internix, Inc., also discussed in the chapter, resulted in a bargain gain because the fair value of identifiable net assets acquired exceeded acquisition cost by $32,679,000. b. Cash Accounts receivable, net Inventory Other current assets Property, plant and equipment Identifiable intangible: customer relationships Other assets Goodwill Merger expenses (income) Current liabilities Long term debt Gain on acquisition (income) Cash (1)

29,276,000 226,743,000 91,791,000 33,689,000 25,311,000 35,248,000 12,044,000 157,521,000 116,382 157,986,000 112,007,000 32,679,000 309,067,382

(1) $308,951,000 + $116,382 = $309,067,382

P2.13 Valuation Issues and Goodwill Remeasurement a. Salesforce.com’s footnotes disclose that it uses the Black-Scholes option pricing model to value the stock options. This model uses the current stock price, the option price, the time to expiration, the market rate of interest and estimates of market volatility to estimate the current fair value of unexercised options at the grant date. The model is also typically used to value the compensation expense related to stock options granted as incentive compensation, per ASC Topic 718. b. Salesforce.com determined that only $17,428,000 of the total $102.2 million in equity awards should be included in acquisition cost. The remainder relates to future services to be performed by ExactTarget employees. Acquisition cost adds to goodwill. Awards related to future services are expensed over the related future service period. c. According to the footnotes, the deferred tax liability relates primarily to the difference between the book and tax basis of identifiable intangibles. This liability is paid in the future as the intangibles are written off. The basis in identifiable intangibles is likely either zero or below fair value. As the intangibles are written off, the write-off on the books will be higher than the allowed deduction for tax purposes. Therefore tax expense will be less than taxes owing, causing a payoff of the deferred tax liability.

d. The adjustment is a correction of the original acquisition entry, and therefore must be a clarification of values as of the acquisition date. If goodwill is reduced, then identifiable assets must have increased or liabilities decreased. The most likely scenario is remeasurement of the identifiable intangible assets. Salesforce.com may have information that expected revenues from developed technologies or customer relationships at the date of acquisition are more robust than previously estimated. Or the estimated customer liability, presumably for services to be rendered in the future, was overstated.

P2.14 Valuation of Goodwill and Consideration Paid (all dollar amounts in thousands) a. Cash paid to KAYAK’s former shareholders Fair value of priceline.com shares issued to KAYAK’s former shareholders Fair value of assumed vested KAYAK stock options Total acquisition cost

$ 521,443 1,282,334 264,423 $2,068,200

The professional consulting fees of $8,500 are expensed at the acquisition date. b. The net credit to additional paid-in capital is calculated as follows: Fair value of priceline.com shares issued to KAYAK’s former shareholders Fair value of assumed vested KAYAK stock options Less: par value of priceline.com shares issued (1,522,000 x $0.008) Less: stock issuance costs Net credit to additional paid-in capital

$1,282,334 264,423 (12) (1,200) $1,545,545

c. Acquisition cost Fair value of identifiable net assets acquired: Current assets Trade names Supply and distribution agreements Technology Other long-term assets Deferred tax liabilities Other liabilities Goodwill

$2,068,200 $ 322,000 496,000 302,000 73,000 11,700 (326,000) (42,800)

835,900 $1,232,300

P2.15 Step Acquisition (in millions) a. Noncontrolling interest Contributed capital

55,960 74,430

Cash 58,890 Common stock (par) 127 Contributed capital 61,173 Notes payable 5,000 Preferred stock 1,700 Equity investment (asset) 3,500 To record acquisition of Vodafone’s 45% interest in Verizon Wireless. All amounts are given except the debit to contributed capital, which is a plug number. b.

The debit to contributed capital represents the difference between the fair value of consideration paid and the book value of the noncontrolling interest, and equals $74,430.

P2.16 Step Acquisition (in millions of CHF) a.

Fair value of investment in L’Oréal Less gain on sale Less loss reclassified from AOCI to income Book value of investment in L’Oréal

CHF7,342 (4,569) (188) CHF2,585

Fair value of investment in Galderma Less gain on revaluation Book value of investment in Galderma

CHF3,923 (2,817) CHF1,106

For clarity, the sale of the L’Oréal investment and acquisition of the remainder of Galderma’s shares are treated as two different transactions.

(1) Cash Investment in L’Oréal Other comprehensive income Gain on sale (income) To record the sale of L’Oréal investment.

7,342 2,585 188 4,569

(2) Investment in Galderma

2,817 Gain on investment (income)

2,817

To revalue the investment to fair value. Property, plant and equipment Intangible assets Inventories and other assets Goodwill

401 5,401 1,171 2,576

Financial debt 179 Employee benefits, deferred taxes and provisions 1,015 Other liabilities 525 Investment in Galderma 3,923 Cash 3,907 To record acquisition of the remaining shares in Galderma. Goodwill = the total purchase price (= CHF3,923 + CHF3,907) less the fair value of identifiable net assets acquired (CHF5,254).

P2.17 Step Acquisition (numbers in millions of CHF) a.

The cash paid consists of two parts: settling up of recorded liabilities, and the cost of acquiring the noncontrolling interests. Cost of acquiring noncontrolling interests: CHF1,208 – CHF311 = CHF897 The book value of noncontrolling interests = CHF267 CHF897 – CHF267 = CHF630 The difference between the book value of noncontrolling interests and the amount paid to them is an adjustment to the acquirer’s equity, typically in contributed capital.

b. Noncontrolling interests (equity) Liabilities Contributed capital (equity) Cash To record increase in ownership interests with no change in control.

267 311 630 1,208

CHAPTER 3 SOLUTIONS TO MULTIPLE CHOICE QUESTIONS, EXERCISES AND PROBLEMS

MULTIPLE CHOICE QUESTIONS 1.

d The major motivation for off-balance-sheet financing is to avoid the impact on leverage.

b The fair values of the entity’s individual assets and liabilities are included with those of the U.S. company on the consolidated balance sheet. The fair value of the entity’s net assets is owned completely by outside parties, and is labeled noncontrolling interest.

d Cash Flow $156,000 46,800 31,200 Total

Present Value $150,000 45,000 30,000

Prob 0.65 0.20 0.15

Expected PV $ 97,500 9,000 4,500 $111,000

Investment $111,000 111,000 111,000

Residual Returns $39,000 (66,000) (81,000)

Expected Gains $25,350 _____ $25,350

Expected Losses $(13,200) (12,150) $ 25,350

The entry on PR’s books is: Investment in SX Merger expenses Cash Capital stock 6.

50,000 200 10,600 39,600

a Elimination (E) is: Capital stock Retained earnings Accumulated OCI Treasury stock Investment in SX

5,000 8,000 1,000 9,600 2,400

c Elimination (R) is: Current assets Identifiable intangible assets (1) Long-term debt Goodwill (2) PP&E Current liabilities Investment in SX (1) (2)

$(14,000 – $4,000) + $4,000 + $1,000 = $15,000 $50,000 – ($4,200 + $6,000 + $14,000 + $4,000 + $1,000 – $2,000 – $11,600) = $34,400

d See elimination R above.

10.

2,200 15,000 400 34,400 4,000 400 47,600

EXERCISES E3.1

Eliminating Entries, Goodwill (amounts in millions) (E) Capital stock 2 Retained earnings 9 Treasury stock 1 Investment in SSC 10 To eliminate SSC’s shareholders’ equity accounts and the book value portion of the investment account. (R) Goodwill 50 Investment in SSC 50 To revalue SSC’s net assets to fair value and eliminate the difference between book value and fair value of SSC’s net assets from the investment account. Goodwill = $60 – ($2 + $9 - $1) = $50.

E3.2

Eliminating Entries, Previously Unreported Intangibles, Goodwill (amounts in millions) a. Acquisition cost Skoda’s book value Excess of acquisition cost over book value Excess of fair value over book value: Order backlogs Developed technology Goodwill b.

$ 40.0 (2.1) 37.9 $ 1.5 6.0

(7.5) $ 30.4

(E) Capital stock 0.8 Retained earnings 1.6 AOCI 0.3 Investment in Skoda 2.1 To eliminate Skoda’s shareholders’ equity accounts and the book value portion of the investment account.

(R) Order backlogs 1.5 Developed technology 6.0 Goodwill 30.4 Investment in Skoda 37.9 To revalue Skoda’s assets and liabilities to fair value and eliminate the difference between book value and fair value of Skoda’s net assets from the investment account.

E3.3

Eliminating Entries, Revaluation of Reported Net Assets, Goodwill (amounts in thousands) a. Acquisition cost Samson’s book value Excess of acquisition cost over book value Excess of fair value over book value: Accounts receivable Inventories Land, buildings and equipment, net Trademarks Developed technology Noncurrent liabilities Goodwill

$ 30,000 (72,000) (42,000) $

(500) (15,000) (220,000) 140,000 6,000 5,000

84,500 $ 42,500

Note that even though Petrel pays less than book value for Samson’s stock, Petrel still pays more than the fair value of Samson’s identifiable net assets, and therefore goodwill is recognized. b.

(E) Common stock 1,000 Additional paid-in capital 80,000 AOCI 500 Retained earnings 5,500 Treasury stock 4,000 Investment in Samson 72,000 To eliminate Samson’s shareholders’ equity accounts and the book value portion of the investment account.

(R) Trademarks 140,000 Developed technology 6,000 Noncurrent liabilities 5,000 Goodwill 42,500 Investment in Samson 42,000 Accounts receivable 500 Inventories 15,000 Land, buildings and equipment, net 220,000 To revalue Samson’s assets and liabilities to fair value and eliminate the difference between book value and fair value of Samson’s net assets from the investment account. Note that because the acquisition cost is less than book value, eliminating entry (R) requires a debit to the investment account to eliminate it.

E3.4

Eliminating Entries, Bargain Gain (amounts in millions) a. Acquisition cost Skelton book value Excess of acquisition cost over book value Excess of fair value over book value: Current assets Noncurrent assets Identifiable intangibles Bargain gain

$ 8 (20) (12) $ (2) (25) 17

10 $ (2)

The fair value of Skelton’s identifiable net assets is $10 (= $3 + $20 + $17 – $30). Phelps paid only $8, and records a gain of $2 on acquisition Investment in Skelton Cash Gain on acquisition To record the bargain gain investment on Phelps’ books.

10 8 2

b. (E) Capital stock 25 Retained earnings 5 Investment in Skelton 20 To eliminate Skelton’s shareholders’ equity accounts and the book value portion of the investment account. (R) Identifiable intangibles 17 Investment in Skelton 10 Current assets 2 Noncurrent assets 25 To revalue Skelton’s assets and liabilities to fair value and eliminate the difference between book value and fair value of Samson’s net assets from the investment account.

E3.5

Eliminating Entries with Previously Unreported Intangibles (E) Capital stock 7,000,000 AOCI 1,800,000 Retained deficit 500,000 Treasury stock 300,000 Investment in Senyo 8,000,000 To eliminate Senyo’s equity and the book value portion of the investment account. (R) In-process R&D 1,500,000 Goodwill 6,000,000 Land 500,000 Investment in Senyo 7,000,000 To revalue Senyo’s identifiable net assets to fair value, recognize goodwill, and eliminate the remainder of the investment account.

E3.6

Acquisition and Eliminating Entries, Acquisition Expenses a. Investment in Stengl Merger expenses Common stock Additional paid-in capital Cash

10,000,000 300,000 250,000 9,750,000 300,000

b. (E) Capital stock 200,000 Retained earnings 1,800,000 Investment in Stengl 2,000,000 To eliminate Stengl’s equity and the book value portion of the investment account. (R) Long-term debt 25,000 Identifiable intangible assets 500,000 Goodwill 8,275,000 Plant assets, net 600,000 Inventories 200,000 Investment in Stengl 8,000,000 To revalue Stengl’s identifiable net assets to fair value, recognize goodwill, and eliminate the remainder of the investment account. Note: Acquisition costs are expensed separately on Pinnacle’s books and do not affect consolidation eliminating entries.

E3.7

Acquisition and Eliminating Entries, Bargain Purchase a. Publix acquisition entry: Investment in Sherman Merger expenses Cash Gain on acquisition

25,480,000 2,000,000 27,200,000 280,000

Calculation of gain on acquisition: Fair value of Sherman = $25,000,000 + $100,000 + $100,000 + $250,000 + $30,000 = $25,480,000 $25,480,000 – $25,200,000 = $280,000 gain b. Consolidation working paper elimination entries: (E) Capital stock 20,000,000 Retained earnings 5,000,000 Investment in Sherman 25,000,000 To eliminate Sherman’s equity and the book value portion of the investment account.

(R) Inventories 100,000 Land 100,000 Other plant assets, net 250,000 Long-term debt 30,000 Investment in Sherman 480,000 To revalue Sherman’s identifiable net assets to fair value and eliminate the remainder of the investment account. Note: Acquisition costs and the gain on acquisition are recorded separately as expenses and gains, respectively, on Publix’ books, and do not affect consolidation eliminating entries.

E3.8

Interpreting Eliminating Entries a. The shareholders’ equity (book value) of Seaboard is $48,000,000, based on the first eliminating entry. b. The acquisition cost is $88,000,000, so the excess paid over book value is $40,000,000. c. Acquisition cost Book value Excess of acquisition cost over book value Fair value less book value: Noncurrent assets (overvalued) Goodwill

E3.9

$88,000,000 48,000,000 40,000,000 2,000,000 $42,000,000

Acquisition Entry and Consolidation Working Paper a. Phoenix makes the following entry to record the acquisition (amounts in millions): Investment in Spark Merger expenses Cash Common stock Additional paid-in capital (1) (1) [($25 – $1) x 30] – $5 = $715

1,700 8 963 30 715

This entry is reflected in Phoenix’s account balances in the consolidation working paper below.

b. Consolidation Working Paper (in millions) Accounts Taken From Books Phoenix Dr(Cr)

Spark Dr(Cr)

Current assets Plant and equipment, net Investment in Spark

1,037 11,900 1,700

$ 200 700 --

Brand names and trademarks Goodwill Current liabilities Long-term liabilities Common stock, $1par Additional paid-in capital Retained earnings Total

--(500) (8,000) (330) (4,715) (1,092) $ 0

--(150) (300) (100) (50) (300) $ 0

Eliminations Dr

Consolidated Balances Dr(Cr)

Cr 40 (R) 250 (R) 450 (E) 1,250 (R)

(R) 200 (R) 1,340

(E) 100 (E) 50 (E) 300 $ 1,990

$ 1,197 12,350 -200 1,340 (650) (8,300) (330) (4,715) (1,092) $ 0

_______ $ 1,990

Goodwill may be separately calculated as follows: Acquisition cost Spark’s book value Excess of acquisition cost over book value Excess of fair value over book value: Current assets Plant and equipment, net Brand names and trademarks Goodwill

$1,700 (450) $1,250 $ (40) (250) 200

90 $1,340

E3.10 Consolidation Working Paper, Simple Example (in millions) a. Investment in Sylvan Cash

40 40

b. Consolidation Working Paper (in millions) Accounts Taken From Books Princecraft Dr(Cr) Cash Other current assets Property and equipment, net Investment in Sylvan

20 20 70 40

Goodwill Liabilities Common stock Additional paid-in capital Retained earnings Total

-(30) (15) (45) (60) $ 0

Eliminations

Sylvan Dr(Cr) $

2 8 15 --

-(8) (5) (10) (2) $ 0

17 (E) 23 (R) (R) 23 (E) 5 (E) 10 (E) 2 $ 40

____ $ 40

Consolidated Balances Dr(Cr) $ 22 28 85 -23 (38) (15) (45) (60) $ 0

Note for eliminating entry (R): Because there are no revaluations of Sylvan’s identifiable assets and liabilities, the excess of acquisition cost over the book value of the acquired company is attributed entirely to goodwill. Goodwill = acquisition cost of $40 minus book value of $17 = $23. Eliminating entry (R) eliminates the remainder of the investment account and recognizes the acquired goodwill. c. Princecraft Company and Subsidiary Consolidated Balance Sheet (in millions) Date of Acquisition Assets Liabilities Cash $ 22 Total liabilities Other current assets 28 Property and equipment, net 85 Shareholders’ equity Goodwill 23 Common stock Additional paid-in capital Retained earnings _____ Total equity Total assets $ 158 Total liabilities and equity

$ 38

15 45 60 120 $ 158

E3.11 Consolidation with Revaluations of Recorded Net Assets (amounts in millions) a. Acquisition cost Shelby book value Excess of acquisition cost over book value Excess of fair value over book value: Cash and receivables Inventory Property and equipment, net Long term liabilities Goodwill

$ 50 (15) 35 $

1 (3) (10) 2

10 $ 45

b. Consolidation Working Paper (in millions) Accounts Taken From Books

Cash and receivables

Eliminations

Panoz Dr(Cr)

Shelby Dr(Cr)

(R) 1

Consolidated Balances Dr(Cr) $

Inventory

3 (R)

Property and equipment, net

350

100

10 (R)

440

Investment in Shelby

15 (E)

35 (R) Goodwill

Current liabilities

(60)

(20)

Long term liabilities

(200)

(80)

(R) 2

(278)

Capital stock

(120)

(10)

(E) 10

(120)

Retained earnings

(100)

(6)

(E) 6

(100)

AOCI

(1)

(E) 1

Treasury stock

____

$ 65

Total

(R) 45

45 (80)

2 (E) $ 65

20 $

(in millions)

Panoz Corporation and Subsidiary Consolidated Balance Sheet Date of Acquisition

Assets Cash and receivables Inventory Property and equipment, net Goodwill

Total assets

$ 16 47 440 45

____ $ 548

Liabilities Current liabilities Long-term liabilities Total liabilities

$ 80 278 358

Shareholders’ equity Capital stock Retained earnings Accumulated other comprehensive income Treasury stock Total equity Total liabilities and equity

120 100 (10) (20) 190 $ 548

E3.12 Consolidation with Previously Unrecorded Intangibles and Goodwill (see related E2.10) (all amounts in thousands) a. Acquisition cost Ciber book value Excess of acquisition cost over book value Excess of fair value over book value: Current assets Plant and equipment, net Licenses and trademarks Long term liabilities Customer contracts Brand names Favorable leases Developed technology In-process R&D Goodwill

$80,000 (6,600) $73,400 $ (150) (7,000) 3,000 500 2,000 3,000 500 200 1,000

(3,050) $70,350

b. Consolidation Working Paper (in thousands) Accounts Taken From Books Brightcove Dr(Cr)

Ciber Dr(Cr)

Current assets Plant and equipment, net Licenses and trademarks Investment in Ciber

$ 40,000 200,000 -80,000

Customer contracts Brand names Favorable leases Developed technology In-process R&D Goodwill Current liabilities Long-term liabilities Capital stock Retained earnings Total

------(80,000) (150,000) (35,000) (55,000) $ 0

------(800) (10,000) (8,000) 1,400 $ 0

400 12,000 5,000 --

Eliminations Dr

Cr 150 (R) 7,000 (R)

(R) 3,000 6,600 (E) 73,400 (R) (R) 2,000 (R) 3,000 (R) 500 (R) 200 (R) 1,000 (R) 70,350 (R) 500 (E) 8,000 _______ $ 88,550

1,400 (E) $ 88,550

Consolidated Balances Dr(Cr) $ 40,250 205,000 8,000 -2,000 3,000 500 200 1,000 70,350 (80,800) (159,500) (35,000) (55,000) $ 0

c. Brightcove, Inc. and Subsidiary Consolidated Balance Sheet (in thousands) Date of Acquisition Assets Liabilities Current assets $ 40,250 Current liabilities Plant and equipment, net 205,000 Long-term liabilities Licenses and trademarks 8,000 Total liabilities Other identifiable intangible assets 6,700 Goodwill 70,350 Shareholders’ equity Capital stock Retained earnings ________ Total equity Total assets $ 330,300 Total liabilities and equity

$ 80,800 159,500 240,300

35,000 55,000 90,000 $ 330,300

E3.13 Pushdown Accounting (see related E3.12) (amounts in thousands) a. Licenses and trademarks 3,000 Long term liabilities 500 Customer contracts 2,000 Brand names 3,000 Favorable leases 500 Developed technology 200 In-process R&D 1,000 Goodwill 70,350 Current assets 150 Plant and equipment, net 7,000 Retained earnings 1,400 Pushdown capital 72,000 To revalue Ciber’s net assets to fair value and reset retained earnings to zero. b. Consolidation Working Paper (in thousands) Accounts Taken From Books Brightcove Dr(Cr)

Ciber Dr(Cr)

Current assets Plant and equipment, net Licenses and trademarks Investment in Ciber

$ 40,000 200,000 -80,000

Customer contracts Brand names Favorable leases Developed technology In-process R&D Goodwill Current liabilities Long-term liabilities Capital stock Pushdown capital Retained earnings Total

------(80,000) (150,000) (35,000) -(55,000) $ 0

2,000 3,000 500 200 1,000 70,350 (800) (9,500) (8,000) (72,000) -$ 0

250 5,000 8,000 --

Eliminations Dr

Consolidated Balances Dr(Cr)

80,000 (E)

$ 40,250 205,000 8,000 --

(E) 8,000 (E) 72,000 _______ ________ $ 80,000 $ 80,000

2,000 3,000 500 200 1,000 70,350 (80,800) (159,500) (35,000)

(55,000) 0

$ 80,800 159,500 240,300

35,000 55,000 90,000 $ 330,300

The consolidated balance sheet is the same regardless of whether Ciber uses pushdown accounting. Only the eliminating entries change.

E3.14 Reconstructing Eliminating Entries and Book Value (all numbers in millions) a. Consolidated total assets Less: Cove’s current assets ($75 – $65) Less: Cove’s noncurrent assets Fair value of Bay’s total assets Less: Goodwill Fair value of Bay’s identifiable assets

$ 186 (10) (100) $ 76 (37) $ 39

b. Acquisition cost Less: Goodwill Fair value of Bay’s identifiable net assets Fair value of Bay’s identifiable assets (from a. above) Less: Fair value of Bay’s identifiable net assets Fair value of Bay’s liabilities

$ 65 (37) $ 28 $ 39 (28) $ 11

c. Fair value of Bay’s identifiable net assets (from b. above) Less: Fair value of previously unreported intangibles Book value of Bay’s net assets

$ 28 (16) $ 12

d. (E) Shareholders’ equity–Bay Investment in Bay

(R) Identifiable intangibles Goodwill Investment in Bay

16 37

E3.15 Pushdown Accounting (in millions) a. Identifiable intangibles 25 Goodwill 53 Current assets 2 Plant and equipment 30 Retained earnings 1 Pushdown capital 45 To revalue Sofia’s net assets to fair value and reset retained earnings to zero. b.

(E) Capital stock Pushdown capital Investment in Sofia

5 45 50

E3.16 Identifying and Analyzing Variable Interest Entities a. Minority shareholder C guarantees 92% of A’s debt, which is most of A’s capital, providing evidence that A cannot obtain financing on its own, and indicating that A’s owners lack the usual characteristics of equity. Therefore A is likely to be classified as a VIE. C has decision-making power through its majority representation on the board. C has the obligation to absorb A’s significant losses and benefits through its equity interest and guarantee of A’s bank loans, and will likely be designated as A’s primary beneficiary. Therefore C will consolidate A. b. B is not a VIE because it can obtain financing on its own. D is the sole owner of B through its 100% equity ownership, and should consolidate B under the voting interest model. A small proportion of equity does not automatically lead to the conclusion that the equity holders are not exposed to the usual risks and rewards of stock ownership.

c. The 15% equity could be enough to avoid identifying A as a VIE, if there is evidence that A can obtain financing on its own, has a level of equity comparable to other entities who can obtain financing on their own, or that its equity is deemed adequate to absorb A’s expected losses. In that case, E is the controlling investor and C does not consolidate A. If A cannot obtain financing on its own, or its equity is not sufficient to absorb expected losses, A is a VIE. C has the decision making power, and by agreeing to compensate E for any of A’s losses, C absorbs significant losses. Therefore C is likely to be A’s primary beneficiary and should consolidate A. d. B’s shareholders are insulated from losses by the guarantees provided by C and D. Moreover, D’s unsecured loan to B provides additional subordinated financial support. These factors indicate that B is a VIE. D has decision making power through its control of B’s board. Losses in guaranteed residual values on D’s specialized property, and its unsecured loan to B, require D to absorb a potentially significant amount of B’s losses. Therefore it is likely that D is B’s primary beneficiary and must consolidate B.

E3.17 Identification of Variable Interest Entity and Primary Beneficiary a. If qualitative factors are inconclusive, the answer to this question depends on a quantitative analysis of the ability of the equity interest to absorb Startek’s potential losses. Using the quantitative analysis presented in the chapter (and illustrated in ASC para. 810-10-55-53), expected gains and losses are computed as follows (in millions): Expected Cash Flow $ 11 33 55

Present Value $ 10 30 50

Prob. 0.40 0.20 0.40

Expected PV $ 4 6 20 $ 30

Investment Fair Value $ 30 30 30

Residual Returns $ (20) -20

Expected Gains

$ $

8 8

Expected Losses $ (8) _____ $ (8)

Because the $4,000,000 equity interest is insufficient to absorb the expected losses of $8,000,000 computed above, the quantitative analysis indicates that Startek is a VIE. b. Softek must have (1) the power to direct Startek’s activities that most significantly affect its economic performance, and (2) be exposed to the losses and benefits that are potentially significant to Startek. Because Softek guarantees Startek’s debt, it probably meets requirement (2). However, we don’t have enough information to assess Softek’s decision making power over Startek.

PROBLEMS P3.1

Eliminating Entries, Goodwill (amounts in millions) a. Acquisition cost Book value (deficit) Excess of acquisition cost over book value Fair value less book value: Fixed assets, net Customer lists Brand names Goodwill

$ 500 28 $ 528 $ (35) 70 150

(185) $ 343

b. (E) Common stock 2 Additional paid-in capital 25 Investment in Sherwood 28 Retained earnings Accumulated other comprehensive loss Treasury stock To eliminate Sherwood’s equity accounts and the book value portion of the investment account.

50 3 2

(R) Customer lists 70 Brand names 150 Goodwill 343 Fixed assets, net 35 Investment in Sherwood 528 To revalue Sherwood’s assets and liabilities to fair value and eliminate the remainder of the investment account.

P3.2

Consolidation Working Paper, Identifiable Intangibles, Goodwill a. (in millions) Investment in GOC Merger expenses Common stock Additional paid-in capital (1) Contingent consideration liability Cash

112 5 2 55 2 58

(1) APIC = fair value of shares issued – par value of shares issued – registration fees: $55 = $60 – $2 – $3

b. Consolidation Working Paper (in millions)

Current assets Property, plant and equipment, net Investment in GOC

Accounts Taken From Books ITI GOC Dr (Cr) Dr (Cr) $ 142 $ 10

Identifiable intangible assets

Goodwill Current liabilities Long-term liabilities Common stock, par Additional paid-in capital Retained earnings Accumulated other comprehensive income Treasury stock Total

500 112

130

1,300

(150) (1,202) (22) (605) (95)

(20) (100) (4) (60) 25

15 5 0

(3) 2 0

Eliminations Dr (R) 5

Consolidated Balances Dr (Cr) $ 157

60 (R) 40 (E) 72 (R) (R) 10 (R) 5 (R) 25 (R) 90

1,360

25 (E)

90 (170) (1,305) (22) (605) (95)

2 (E) $ 202

15 5 0

3 (R) (E) 4 (E) 60

(E) 3 _____ $ 202

570 --

P3.3

Stock Acquisition and Consolidation Working Paper Eliminating Entries (amounts in millions) a. Investment in Hospira Merger expenses Cash

16,087 877 16,964

b. Acquisition cost Hospira book value Excess of acquisition cost over book value Excess of fair value over book value: Inventories Property, plant and equipment In-process R&D Developed technology rights Other noncurrent assets Long-term debt Deferred tax liabilities Other noncurrent liabilities Goodwill c. (E) Shareholders’ equity—Hospira Investment in Hospira (R) In-process R&D Developed technology rights Other noncurrent liabilities Goodwill Inventories Property, plant and equipment Other noncurrent assets Long-term debt Deferred tax liabilities Investment in Hospira

$16,087 (7,928) $ 8,159 $ (1,313) (3,620) 1,030 8,290 (138) (28) (3,380) 22

(863) $ 7,296

7,928 7,928

1,030 8,290 22 7,296 1,313 3,620 138 28 3,380 8,159

P3.4

Consolidated Balance Sheet Working Paper, Bargain Purchase (amounts in millions) a. Calculation of gain on acquisition: Acquisition cost Book value Excess of acquisition cost over book value Excess of fair value over book value: Inventory Equity method investments Land Buildings and equipment Identifiable intangibles Gain on acquisition

$ 1,700 (1,295) $ 405 $ (100) (50) 245 300 110 $

(505) 100

b. Consolidation Working Paper

(in millions)

Accounts Taken From Books Paxon Saxon Dr (Cr) Dr (Cr)

Cash and receivables Inventory Equity method investments Investment in Saxon

$ 1,160 1,700 -1,800

Land Buildings and equipment, net Identifiable intangibles Current liabilities Long-term debt Common stock, par value Additional paid-in capital Retained earnings Total

650 2,400 -(1,500) (2,000) (500) (1,200) (2,510) $ 0

175 600 -(1,000) (400) (100) (350) (845) $ 0

Eliminations Dr

720 900 300

Cr 100 (R) 50 (R) 1,295 (E) 505 (R)

(R) 245 (R) 300 (R) 110

(E) 100 (E) 350 (E) 845 $ 1,950

______ $ 1,950

Consolidated Balances Dr (Cr) $ 1,880 2,500 250 -1,070 3,300 110 (2,500) (2,400) (500) (1,200) (2,510) $ 0

c. Paxon Corporation and Subsidiary Consolidated Balance Sheet (in millions) January 1, 2019 Assets Liabilities Cash and receivables $ 1,880 Current liabilities Inventory 2,500 Long-term debt Equity method investments 250 Total liabilities Land 1,070 Buildings and equipment, net 3,300 Shareholders’ equity Identifiable intangibles 110 Common stock, par value Additional paid-in capital Retained earnings _______ Total equity Total assets $ 9,110 Total liabilities and equity

P3.5

$ 2,500 2,400 4,900

500 1,200 2,510 4,210 $ 9,110

Pushdown Accounting with Bargain Gain (see related P3.4) (amounts in millions) a. Land Buildings and equipment Identifiable intangibles Retained earnings Equity method investments Inventory Pushdown capital

245 300 110 845 50 100 1,350

b. Consolidation Working Paper

P3.6

(in millions)

Accounts Taken From Books Paxon Saxon Dr (Cr) Dr (Cr)

Cash and receivables Inventory Equity method investments Investment in Saxon Land Buildings and equipment, net Identifiable intangibles Current liabilities Long-term debt Common stock, par value Additional paid-in capital Pushdown capital Retained earnings Total

$ 1,160 1,700 -1,800 650 2,400 -(1,500) (2,000) (500) (1,200) -(2,510) $ 0

Eliminations Dr

Consolidated Balances Dr (Cr)

720 800 250 1,800 (E)

420 900 110 (1,000) (400) (100) (350) (1,350) -$ 0

(E) 100 (E) 350 (E)1,350 ______ $ 1,800

______ $ 1,800

$ 1,880 2,500 250 -1,070 3,300 110 (2,500) (2,400) (500) (1,200)

(2,510) 0

Acquisition and Eliminating Entries

(amounts in millions) a.

Based on the information provided, it appears that Cruise had zero or negligible equity when GM acquired it. We know this because previously unreported net assets equal the acquisition cost. In-process R&D $130 Deferred tax liability (39) Goodwill 490 Total $581

b. Investment in Cruise Cash Additional paid-in capital To record GM’s investment in Cruise stock.

581 291 290

The other arrangements appear to be contingent on the future performance of employees, and therefore are not costs of acquiring the company as it exists at the date of acquisition. c.

Only eliminating entry R is required.

(R) In-process R&D 130 Goodwill 490 Deferred tax liability 39 Investment in Cruise 581 To revalue Cruise’ assets and liabilities to fair value and eliminate the investment account.

P3.7

Consolidated Balance Sheet Working Paper, Previously Reported Goodwill (amounts in thousands) a. Investment in Static Merger expenses Common stock Additional paid-in capital Cash

16,000 100 200 15,300 600

b. Acquisition cost Static’s book value Excess of acquisition cost over book value Excess of fair value over book value: Cash and receivables Inventory Equity method investments Plant assets, net Copyrights Goodwill (1) Noncurrent liabilities Goodwill

$ 16,000 (4,000) $ 12,000 $ (500) (300) 3,400 (2,600) 3,300 (500) (100)

(2,700) $ 9,300

(1) All pre-existing goodwill is eliminated, even though it may be deemed to have a non-zero fair value.

c. Consolidation Working Paper (in thousands) Accounts Taken From Books Progressive Static Dr (Cr) Dr (Cr) Cash and receivables Inventory Equity method investments Investment in Static

$ 7,400 7,000 -16,000

$ 2,000 2,400 600 --

Plant assets, net Copyrights Goodwill Current liabilities Noncurrent liabilities Common stock, par Additional paid-in capital Retained earnings Total

10,000 1,000 -(6,000) (4,000) (300) (16,200) (14,900) $ 0

3,600 200 500 (2,000) (3,300) (100) (400) (3,500) $ 0

Eliminations Dr

Cr 500 (R) 300 (R)

(R) 3,400 4,000 (E) 12,000(R) 2,600 (R) (R) 3,300 (R) 9,300

500 (R) 100 (R)

(E) 100 (E) 400 (E) 3,500 $ 20,000

_____ $ 20,000

Consolidated Balances Dr (Cr) $

8,900 9,100 4,000 --

11,000 4,500 9,300 (8,000) (7,400) (300) (16,200) (14,900) $ 0

(in thousands)

Progressive Corporation and Subsidiary Consolidated Balance Sheet June 30, 2019

Assets Cash and receivables Inventory Equity method investments Plant assets, net Copyrights Goodwill

$ 8,900 9,100 4,000 11,000 4,500 9,300

Total assets

_______ $ 46,800

Liabilities Current liabilities Long-term debt Total liabilities

$ 8,000 7,400 15,400

Shareholders’ equity Common stock, par Additional paid-in capital Retained earnings Total equity Total liabilities and equity

300 16,200 14,900 31,400 $ 46,800

P3.8

Consolidated Balances, Different Acquirers a. Consolidation Working Paper (in millions) Accounts Taken From Books Eliminations Webnet Microtech Solutions Dr (Cr) Dr (Cr) Dr Cr Current assets Property, plant and equipment, net

200

5 -(4) (20) (3) (224) (14) $ 0

5 -(4) (20) (2) (25) (14) $ 0

Investment in Webnet

Consol. Balances Dr (Cr) $

20 100

41 (E)

159 (R) Patents Goodwill Current liabilities Long-term debt Common stock, par Additional paid-in capital Retained earnings Total

(R) 159

(E) 2 (E) 25 (E) 14 $ 200

_____ $ 200

10 159 (8) (40) (3) (224) (14) $ 0

b. Consolidation Working Paper (in millions) Accounts Taken From Books Eliminations Webnet Solutions Microtech Dr (Cr) Dr (Cr) Dr Cr Current assets Property, plant and equipment, net

Investment in Microtech

200

Patents Developed technology Client relationships Goodwill Current liabilities Long-term debt Common stock, par Additional paid-in capital Retained earnings Total

5 ---(4) (20) (3) (224) (14) $ 0

5 ---(4) (20) (2) (25) (14) $ 0

Consol. Balances Dr (Cr) $

(R) 20

20 120

41 (E) 159 (R) (R) 10 (R) 100 (R) 29

(E) 2 (E) 25 (E) 14 _____ $ 200 $ 200

-20 100 29 -(8) (40) (3) (224) (14) $ 0

c. The consolidated balance sheets are compared below. Consolidated Balance Sheet (in millions) Microtech acquires Webnet Assets Current assets Property, plant and equipment, net Identifiable intangibles Goodwill Total assets Liabilities Current liabilities Long-term debt Total liabilities Shareholders’ equity Common stock, par Additional paid-in capital Retained earnings Total equity Total liabilities and equity

Webnet acquires Microtech

20 100 10 159 $ 289

8 40 48

3 224 14 241 $ 289

20 120 149 -$ 289

8 40 48

3 224 14 241 $ 289

Both sets of consolidated balances report the same total assets and the same individual liabilities and equities. However, the individual asset accounts differ. The acquirer’s assets are not revalued to fair value, nor are previously unreported assets recognized. Microtech has understated property, plant and equipment and patents, as well as unreported identifiable intangible assets. Webnet Solutions’ assets and liabilities are reported at amounts approximating fair value, and there are no identifiable intangibles. When Microtech is the acquirer, the difference between Webnet Solutions’ acquisition price and reported book value is reported as goodwill, and the difference between book and fair value of Microtech’s assets is not recognized. When Webnet Solutions is the acquirer, its goodwill is not recognized, but Microtech’s property and patents are reported at fair value, and its identifiable intangibles are recognized.

Does management want the $159 million excess of acquisition cost over book value to be reported as the unspecified asset goodwill, or distributed among several identifiable assets (property, plant and equipment, patents, client relationships)? If Webnet Solutions is the acquirer, Microtech’s previously unreported identifiable assets will come to light. To the extent that the existence of identifiable intangibles such as developed technology and client relationships indicate favorable future earnings potential, investors may view the new disclosures as a positive signal, increasing stock price. If Microtech is the acquirer, no identifiable intangibles are recognized, and investors may wonder if Webnet Solutions will sustain its value in the future, as these assets would seem to be the lifeblood of a technology company. Management will also consider the implications for future income. Identifiable assets usually have limited lives and are depreciated or amortized over time, reducing earnings on a regular basis. Goodwill is tested for impairment loss, and may never be written off. If Microtech is the acquirer, future reported income may be higher because there are no identifiable intangibles to be amortized. Note to instructor: This problem illustrates the games companies can play to choose between different financial statement displays of the same transaction economics.

P3.9

Tangible and Intangible Asset Revaluations (in thousands) a. Consideration paid Previously unrecorded intangibles acquired: Customer contracts and related relationships Developed technology Trade name, trademark, and domain name Goodwill Fair value of tangible net assets acquired

Polyvore $ 160,582

225 17,550 1,150 131,084

BrightRoll $ 581,165

$85,600 19,400

(150,009) $ 10,573

8,100 416,580

(529,680) $

51,485

b. Goodwill is that part of the acquisition cost that is not explained by acquisition of tangible net assets or identifiable intangible assets. Possible reasons for large goodwill values: •

The fair value of tangible net assets tends to be small, especially for technology companies where value is derived mostly from intangible assets.

•

GAAP limits the recognition of identifiable intangible assets to those that are contractual or separable, and valuation of identifiable intangibles is a complex process involving many estimates.

•

It is also possible that the purchase price was inflated.

Note: In 2015 Yahoo! reported goodwill impairment charges of about $4.5 billion, representing over 85% of its total recorded goodwill. This is an indication that recorded goodwill was overstated due to inflated acquisition cost. c. Polyvore eliminations: (E) Shareholders’ equity—Polyvore Investment in Polyvore

10,000

(R) Tangible net assets (1) Customer contracts and related relationships Developed technology Trade name, trademark, and domain name Goodwill Investment in Polyvore

573 225 17,550 1,150 131,084

10,000

150,582

(1) $10,573 – $10,000 = $573.

BrightRoll eliminations: (E) Shareholders’ equity—BrightRoll Investment in BrightRoll

50,000

(R) Tangible net assets (2) Customer contracts and related relationships Developed technology Trade name, trademark, and domain name Goodwill Investment in BrightRoll

1,485 85,600 19,400 8,100 416,580

(2) $51,485 - $50,000 = $1,485.

50,000

531,165

P3.10 Stock Acquisition, Previous Equity Interest and Goodwill, Merger-Related Costs, Deferred Taxes (amounts in millions) a. Investment in Grupo Modelo Merger expenses Cash (1) Investment in associates

34,008 100 20,203 13,905

(1) $20,103 + $100 = $20,203

b. Goodwill reported on an acquired company’s books is not an identifiable asset and is not separately reported. The difference between acquisition cost and the fair value of net identifiable assets acquired is reported as goodwill on the consolidated balance sheet. c. This acquisition must be nontaxable; the acquiree does not pay taxes on any gain. Therefore the tax basis of the acquired net assets remains at Grupo Modelo’s tax basis, which is typically lower than fair value at the date of acquisition. AB InBev reports net assets acquired at fair value on its books, and writes them off over time. Therefore the book write-offs are higher than the tax deductions, causing cash paid for taxes to be greater than tax expense. The discrepancy is payment of deferred tax liabilities, created at the date of acquisition. The acquiring company reports a deferred tax liability for the additional taxes it will pay in excess of the tax expense it reports on its books, as these intangible assets are written off. d. Acquisition cost (see a. above) Grupo Modelo’s book value Excess of acquisition cost over book value Excess of fair value over book value: Property, plant and equipment Goodwill Intangible assets Investment in associates Investment securities Current assets Employee benefits Trade and other payables Deferred tax liabilities Current liabilities Goodwill

$ 34,008 (9,203) $ 24,805 $

99 (796) 4,454 (4) -4,333 -(509) (714) (1,650)

(5,213) $ 19,592

e. (E) Shareholders’ equity–Grupo Modelo Investment in Grupo Modelo (R) Property, plant and equipment Intangible assets Current assets Goodwill (new) Goodwill (old) Investment in associates Trade and other payables Deferred tax liabilities Current liabilities Investment in Grupo Modelo

9,203 9,203

99 4,454 4,333 19,592 796 4 509 714 1,650 24,805

P3.11 Consolidation of Variable Interest Entities (dollar amounts in millions) a. U.S. GAAP requires a 2-step process to determine if SPEs should be consolidated. First, determine if the SPE is a variable interest entity. The SPE is a VIE if its equity does not have the usual equity characteristics, in terms of risk and return. These factors must be considered: (1) Does the equity interest have the power to make decisions? (2) Is the equity interest exposed to the risks and rewards connected with the SPE? (3) Is the equity interest sufficient to allow the SPE to obtain financing on its own? Limitations on the voting power of the equity interest, and caps on the amount of losses the equity interest may incur, are indicators of VIE status. If the SPE’s business activities are predominantly conducted on behalf of an entity that has few voting rights, the SPE’s equity interest may not be exposed to the normal risks and returns of stock ownership. To determine the sufficiency of the SPE’s equity, qualitative factors include whether the SPE is in fact able to obtain financing on its own, or has equity equivalent to other entities who are able to obtain financing on their own. If qualitative factors are not conclusive, a quantitative analysis may be done to determine if the SPE’s equity level is sufficient to absorb expected future losses. Once the SPE is classified as a VIE, GM consolidates it if it is the VIE’s primary beneficiary. GM determines if it has the power to direct the decisions that significantly affect the VIE’s performance, and is exposed to the risks and returns connected with that performance.

GM likely classified the SPEs as VIEs because GM Financial provides the assets that are used to repay the debt. It seems unlikely that the SPEs could obtain financing on their own, since they exist to securitize these assets. GM Financial is the primary beneficiary of the VIEs because it services the securitized assets, and therefore has the power to direct the VIEs’ major decisions. GM Financial also apparently has exposure to the VIEs’ risks and returns. b. Consolidation of the VIEs adds $50,779 (= $2,067 + $29,371 + $19,341) to consolidated assets, and $38,244 to consolidated liabilities. The remainder of $12,535 (= $50,779 – $38,244) is the VIEs’ equity interest, which is included as “noncontrolling interest” in the equity section of GM’s consolidated balance sheet. P3.12 Identifiable Intangibles and Goodwill (see related P2.6) a. Prince makes the following entry to record the acquisition on its own books (in thousands): Investment in Squire Merger expenses Capital stock Cash

35,000 1,200 34,400 1,800

The account balances for Prince, shown in the working paper below, reflect the above entry. Merger expenses reduce retained earnings, a component of shareholders’ equity. Consolidation Working Paper (in thousands) Accounts Taken From Books

Cash Accounts receivable Parts inventory Vehicle inventory Equipment, net Investment in Squire Intangible: Lease Intangible: Service contracts Intangible: Trade name Goodwill Current liabilities Long-term liabilities Shareholders’ equity Total

Eliminations

Prince Dr (Cr) $ 1,000 6,000 -15,000 40,000 35,000

Squire Dr (Cr) $ 300 2,700 5,200 -17,600 --

(R) 1,250

---(5,000) (25,000) (67,000) $ 0

---(3,100) (8,600) (14,100) $ 0

(R) 2,000 (R) 200 (R)14,250

(R)

Consolidated Balances Dr (Cr) $ 1,300 100 (R) 8,600 6,000 15,000 59,500 14,100 (E) -20,900(R) 1,250 Cr

800

(R) 1,900

(R) 600 (E)14,100 $ 35,100

_______ $ 35,100

2,000 200 14,250 (8,100) (33,000) (67,000) $ 0

b. If Prince records the acquisition as a statutory merger, Prince makes the following entry (in thousands): Cash Accounts receivable Parts inventory Equipment, net Intangible: Lease Intangible: Service contracts Intangible: Trade name Goodwill Merger expenses Cash Current liabilities Long-term liabilities Capital stock

300 2,600 6,000 19,500 1,250 2,000 200 14,250 1,200 1,800 3,100 8,000 34,400

When the above entry is reflected in Prince’s account balances, Prince’s balance sheet account balances are identical to those shown in the consolidated column of the working paper for a stock acquisition.

P3.13 Working Backwards—Reconstruct Balance Sheet and Eliminating Entries (in thousands) a. Piedmont’s entry to record the acquisition was as follows: Investment in Stearns Merger expenses Capital stock (1) Cash (2) Earnings contingency liability

220,000 500 119,300 96,200 5,000

(1) $120,000 – $700 = $119,300 (2) $95,000 + $500 + $700 = $96,200

Reversing this entry out of Piedmont’s balance sheet produces its balance sheet just prior to the acquisition:

Piedmont Corporation Balance Sheet, Immediately Prior to Date of Acquisition (in thousands) Current assets (3) $ 136,200 Liabilities (4) Plant assets, net 360,000 Capital stock (5) ________ Retained earnings (6) Total assets $ 496,200 Total liabilities and equity

$ 215,000 180,700 100,500 $ 496,200

(3) $40,000 + $96,200 = $136,200 (4) $220,000 - $5,000 = $215,000 (5) $300,000 - $119,300 = $180,700 (6) $100,000 + $500 = $100,500

b. (E) Capital stock Retained earnings Investment in Stearns (R) Identifiable intangibles Goodwill Plant assets, net (7) Investment in Stearns

40,000 25,000 15,000

100,000 135,000 30,000 205,000

(7) $470,000 – $360,000 – $140,000 = $(30,000)

c. Acquisition cost Stearns’ book value Excess of acquisition cost over book value Excess of fair value over book value: Plant assets, net Identifiable intangibles Goodwill

$ 220,000 (15,000) $ 205,000 $ (30,000) 100,000

(70,000) $ 135,000

P3.14 Consolidated Balance Sheet Working Paper, Identifiable Intangibles (amounts in thousands) a. Acquisition cost (1) GP’s book value (2) Excess of acquisition cost over book value Excess of fair value over book value: Current assets Fixed assets, net Trademarks Licensing agreements Order backlogs Long-term liabilities Goodwill

$ 41,250 (5,000) 36,250 $ 200 (7,000) 2,600 2,400 5,000 1,000

(4,200) $ 32,050

(1) $5,000 + $36,000 + $250 = $41,250 (2) $500 + $8,500 – $2,000 – $1,400 – $600 = $5,000

Note: The skilled workforce and future synergies are not capitalized separately but are included in goodwill. b. Consolidation Working Paper (in thousands) Accounts Taken From Books

Current assets Fixed assets, net Investment in GP Trademarks Other identifiable intangibles Goodwill Current liabilities Long-term liabilities Common stock, par Additional paid-in capital Retained earnings AOCI Treasury stock Total

International Auto Dr (Cr) $ 22,900 420,000 41,250

Eliminations

Genuine Parts Dr (Cr) $ 1,000 27,000 --

Dr (R) 200

89,000

3,400

(R) 2,600

-(25,000) (350,250) (10,000) (143,100) (43,800) (4,000) 3,000 $ 0

-(400) (26,000) (500) (8,500) 2,000 1,400 600 $ 0

(R) 2,400 (R) 5,000 (R)32,050

Consolidated Balances Cr Dr (Cr) $ 24,100 7,000 (R) 440,000 5,000 (E) -36,250 (R) 95,000 7,400

(R) 1,000 (E) 500 (E) 8,500

_______ $ 52,250

2,000 (E) 1,400 (E) 600 (E) $ 52,250

32,050 (25,400) (375,250) (10,000) (143,100) (43,800) (4,000) 3,000 $ 0

Note: International Auto’s trial balance at the date of acquisition is determined by combining its trial balance just prior to the acquisition with this acquisition journal entry: Investment in GP Merger expenses Common stock, par Additional paid-in capital Cash Earnings contingency liability

41,250 1,200 2,000 33,100 7,100 250

c. International Auto and Subsidiary Consolidated Balance Sheet, Date of Acquisition (in thousands) Assets Current assets Fixed assets, net Trademarks Other identifiable intangibles Goodwill

Total assets

$ 24,100 440,000 95,000 7,400 32,050

________ $ 598,550

Liabilities Current liabilities Long-term liabilities Total liabilities Shareholders’ equity Common stock, par Additional paid-in capital Retained earnings Accumulated other comprehensive income Treasury stock Total shareholders’ equity Total liabilities and equity

25,400 375,250 400,650

10,000 143,100 43,800 4,000 (3,000) 197,900 $ 598,550

P3.15 Pushdown Accounting (see related P3.14) a. Current assets Trademarks Other identifiable intangibles Goodwill Long-term liabilities Fixed assets Retained earnings AOCI Pushdown capital

200 2,600 7,400 32,050 1,000 7,000 2,000 1,400 32,850

b. Consolidation Working Paper (in thousands) Accounts Taken From Books

International Auto Dr (Cr) $ 22,900 420,000 41,250 89,000

Genuine Parts Dr (Cr) $ 1,200 20,000 -6,000

--(25,000) (350,250) (10,000) (143,100) -(43,800) (4,000) 3,000 $ 0

7,400 32,050 (400) (25,000) (500) (8,500) (32,850) --600 $ 0

Eliminations

Consolidated Balances Cr Dr (Cr) $ 24,100 440,000 41,250 (E) -95,000 7,400 32,050 (25,400) (375,250) (10,000) (143,100)

(E) 500 (E) 8,500 (E) 32,850

_______ $ 41,850

600 (E) $ 41,850

(43,800) (4,000) 3,000 $ 0

P3.16 Consolidated Balance Sheet Working Paper, Bargain Gain, Special Issues (in thousands) a. Acquisition cost Steamobile’s book value Excess of book value over acquisition cost Excess of fair value over book value: Current assets Fixed assets, net (1) Identifiable intangibles Goodwill (old) Liabilities Bargain gain (1) $140,000 – ($150,000 – $40,000) = $30,000

$ 20,000 (30,000) (10,000) $ (2,000) 30,000 6,000 (35,000) (1,000)

2,000 $ 8,000

b. Consolidation Working Paper (in thousands) Accounts Taken From Books Packard Dr (Cr) $ 15,000 500,000 (160,000) 28,000 --(215,000) (90,000) (78,500) 500 $ 0

Current assets Fixed assets Accumulated depreciation Investment in Steamobile Identifiable intangibles Goodwill Liabilities Capital stock Retained earnings AOCI Total

Eliminations

Steamobile Dr (Cr) $ 5,000 150,000 (40,000) -35,000 (120,000) (35,000) 5,800 (800) $ 0

Dr (R) 30,000 (R) 40,000 (R) 2,000 (R) 6,000

Cr 2,000(R) 40,000(R) 30,000(E) 35,000(R) 1,000(R)

(E )35,000 5,800(E) (E) 800 _______ $ 113,800 $ 113,800

Consolidated Balances Dr (Cr) $ 18,000 640,000 (160,000) -6,000 -(336,000) (90,000) (78,500) 500 $ 0

Note 1: Packard’s trial balance at the date of acquisition is determined by combining its trial balance just prior to the acquisition with this acquisition journal entry: Investment in Steamobile Cash Bargain gain

28,000 20,000 8,000

Note 2: An additional eliminating entry removes Steamobile’s accumulated depreciation account and nets it against the fixed assets account. c. Packard and Subsidiary Consolidated Balance Sheet, Date of Acquisition (in thousands) Assets Current assets Fixed assets, net of $160,000 accumulated depreciation Identifiable intangibles

Total assets

18,000 480,000 6,000

________ $ 504,000

Liabilities Liabilities Shareholders’ equity Capital stock Retained earnings Accumulated other comprehensive income Total shareholders’ equity Total liabilities and equity

$ 336,000

90,000 78,500 (500) 168,000 $ 504,000

P3.17 Acquisition with Bargain Gain (all dollar amounts in thousands, except per share price) a. Investment in SolarCity Merger expenses Capital stock (1) Capital stock – stock options Bargain gain (2) Cash (1) (2)

2,234,704 21,700 2,058,477 87,500 88,727 21,700

11,124,497 x $185.04 = $2,058,477 Fair value of SolarCity net assets acquired = $480,020 + $5,781,496 + $1,056,312 + $356,510 + $838,772 - $468,668 - $3,403,840 - $2,405,898 = $2,234,704; acquisition cost = $2,058,477 + $87,500 = $2,145,977; $2,234,704 - $2,145,977 = $88,727

Note: unvested awards are not included in the acquisition cost, as they require future service. b.

Tesla’s entry in a. is reflected in its working paper trial balance. Consolidation Working Paper (in thousands) Accounts Taken From Books

Current assets Solar energy systems Operating lease vehicles Property, plant and equipment Investment in SolarCity Identifiable intangibles Other assets Accounts payable and accrued liabilities Debt and capital leases Deferred revenue and other liabilities Capital stock Retained deficit AOCI Total

Eliminations

Tesla Dr (Cr) $ 5,778,300 -3,134,000

SolarCity Dr (Cr) $ 400,000 4,800,000 --

5,781,000 2,234,704

800,000 --

(R) 256,312

-526,000

-904,196

(R) 356,510

(4,300,000) (2,456,000)

(475,000) (3,400,000)

(5,966,704) (7,774,000) 3,018,700 24,000 $ 0

(2,391,290) (1,300,000) 662,094 -$ 0

Dr (R) 80,020 (R) 981,496

637,906 (E) 1,596,798 (R) 65,424 (R) (R)

6,332

Consolidated Balances Dr (Cr) $ 6,258,320 5,781,496 3,134,000 6,837,312 -356,510 1,364,772

(4,768,668) 3,840 (R) (5,859,840)

14,608 (R) (8,372,602) (7,774,000) 662,094 (E) 3,018,700 _______ _______ 24,000 $ 2,980,670 $2,980,670 $ 0 (E )1,300,000

c. Tesla, Inc. Consolidated Balance Sheet, Date of Acquisition (in thousands) Assets Current assets Solar energy systems Operating lease vehicles Property, plant and equipment Identifiable intangibles Other assets

Total assets

$ 6,258,320 5,781,496 3,134,000 6,837,312 356,510 1,364,772

________ $23,732,410

Liabilities Accounts payable and accrued liabilities Debt and capital leases Deferred revenue and other liabilities Total liabilities Shareholders’ equity Capital stock Retained deficit Accumulated other comprehensive loss Total equity Total liabilities and equity

$ 4,768,668 5,859,840 8,372,602 19,001,110 7,774,000 (3,018,700) (24,000) 4,731,300 $ 23,732,410

CHAPTER 4 SOLUTIONS TO MULTIPLE CHOICE QUESTIONS, EXERCISES AND PROBLEMS MULTIPLE CHOICE QUESTIONS 1.

b Goodwill at the date of acquisition is $10,000,000 (= $16,000,000 – 4,000,000 + 8,000,000 – 10,000,000). Goodwill at 1/1/20 is $10,000,000 – 2,000,000 = $8,000,000. Buildings and equipment revaluation at 1/1/20 is a credit of $8,000,000 – [3 x (8,000,000/20)] = $6,800,000. Intangibles revaluation at 1/1/20 = $10,000,000 – [3 x ($10,000,000/5)] = $4,000,000. Eliminating entry (R) is as follows: Goodwill Identifiable intangibles Buildings and equipment Investment in Salem

6,800,000 5,200,000

b Eliminating entry (O) is as follows: Operating expenses Buildings and equipment Goodwill Identifiable intangibles

8,000,000 4,000,000

2,100,000 400,000 500,000 2,000,000

a Calculation of equity in net income: Salem’s reported net income $14,000,000 – $8,000,000 – $3,500,000 = Revaluation write-offs: Buildings and equipment depreciation Identifiable intangibles amortization Goodwill impairment loss Equity in income of Salem

$ 2,500,000 400,000 (2,000,000) (500,000) $ 400,000

c Original cost Change in Salem’s retained earnings to 1/1/20 3 years buildings and equipment depreciation 3 years identifiable intangibles amortization Goodwill impairment loss to 1/1/20 Investment balance, 1/1/20 Equity in net income, 2020 Investment balance, 12/31/20

c Customer lists No

Book value > undiscounted cash flows? Fair value Book value Impairment loss 6.

$ 16,000,000 14,000,000 1,200,000 (6,000,000) (2,000,000) 23,200,000 400,000 $ 23,600,000

Fair value Book value Possible impairment loss Actual impairment loss (limited to book value) 7.

Division 1 $ 14,000,000 16,000,000 $ 2,000,000 $ 1,600,000

Division 2 $ 20,000,000 19,500,000 $ 0 $ 0

Fair value of CGU Book value of CGU Potential goodwill impairment Actual impairment loss (limited to book value) 8.

Brand names N/A $ 3,400,000 5,200,000 $ 1,800,000

CGU 1 $ 14,000,000 15,000,000 1,000,000

CGU 2 $ 7,000,000 10,000,000 3,000,000

1,000,000

CGU 3 $13,000,000 10,500,000 NA

3,000,000

Fair value Book value Impairment loss

Customer Lists $ 1,200,000 1,500,000 $ 300,000

Brand Names $ 3,400,000 5,200,000 $ 1,800,000

10.

a $500,000 – 100,000 = $400,000.

EXERCISES E4.1

Equity Method Accounting, First Year a.

Calculation of equity in net income:

Johnson’s reported net income Revaluation write-offs: Developed technology $50,000,000/5 Goodwill impairment loss Equity in net income of Johnson b. Entries made by George during 2019: Investment in Johnson Capital stock

$ 85,000,000 (10,000,000) (5,000,000) $ 70,000,000

800,000,000 800,000,000

Investment in Johnson Equity in net income of Johnson

70,000,000

Cash

20,000,000

70,000,000

Investment in Johnson

20,000,000

The December 31, 2019, investment balance is $800,000,000 + $70,000,000 $20,000,000 = $850,000,000.

E4.2

Equity Method Accounting, Subsequent Years (in thousands) a. SJ Telecom reported net income – Identifiable intangibles amortization Equity in net income of SJ Telecom

$20,000/5

$ 6,500 (4,000) $ 2,500

b. Acquisition cost + Increase in SJ retained earnings, 2019-2020 – Identifiable intangibles amortization, 2019-2020 – Goodwill impairment losses, 2019-2020 Investment balance, January 1, 2021 + Equity in net income, 2021 – Dividends, 2021 Investment in SJ Telecom, December 31, 2021

($20,000/5) x 2

$400,000 12,000 (8,000) (1,000) 403,000 2,500 (1,500) $404,000

E4.3

Equity Method and Eliminating Entries, First Year (in thousands) a. Acquisition cost Book value Excess of acquisition cost over book value Identifiable intangibles Goodwill

b. Reported net income Impairment loss Equity in net income c. (C) Equity in net income of San Jose Investment in San Jose (E) Common stock, $1 par Additional paid-in capital Retained deficit, January 1 Treasury stock Investment in San Jose

$ 250,000 (28,200) $221,800 (50,000) $ 171,800

$ 4,000 (1,000) $ 3,000

3,000 3,000

5,000 25,000 1,000 800 28,200

(R) Identifiable intangibles Goodwill Investment in San Jose

50,000 171,800

(O) Impairment losses Identifiable intangibles

1,000

221,800

1,000

E4.4

Equity Method and Eliminating Entries, First Year (in thousands) a. Southern Light reported net income + Adjustment to cost of goods sold on inventory revaluation + Depreciation on plant asset revaluation – Brand name impairment loss – Goodwill impairment loss Equity in net income of Southern Light

$ 20,000

$10,000/10 =

2,000 1,000 (3,000) (5,000) $ 15,000

b. Investment in Southern Light Cash

300,000

Investment in Southern Light Equity in net income of Southern Light Equity in OCI of Southern Light

15,500

Cash

2,500

300,000

15,000 500

Investment in Southern Light

2,500

c. (C) Equity in net income of Southern Light Equity in OCI of Southern Light Dividends Investment in Southern Light (E) Capital stock Retained earnings, 7/1 AOCI, 7/1 Treasury stock Investment in Southern Light (R) Brand names Goodwill (1) Inventories Plant and equipment, net Investment in Southern Light

15,000 500 2,500 13,000

26,000 142,000 5,000 1,000 172,000

60,000 80,000 2,000 10,000 128,000

(1) Acquisition date goodwill = $300,000 – $172,000 + $2,000 + $10,000 – $60,000 = $80,000

(O) Impairment losses Inventories Plant and equipment, net Cost of goods sold Depreciation expense Brand names Goodwill

E4.5

8,000 2,000 1,000 2,000 1,000 3,000 5,000

Acquisition Cost, Equity Method, Eliminating Entries, Second Year a. The acquisition entry is as follows: Investment in Saddlestone Merger expenses Capital stock Contingent consideration liability Cash

20,300,000 250,000 20,000,000 300,000 250,000

Calculation of equity in net income for 2020 and 2021: Saddlestone’s reported net income Revaluation write-off: Identifiable intangibles $2,000,000/5 Goodwill impairment loss Equity in net income of Saddlestone

2020 $ 3,000,000

2021 $ 3,500,000

(400,000) -$ 2,600,000

(400,000) (200,000) $2,900,000

Peak’s equity method entries for 2020 and 2021: 2020: Investment in Saddlestone Equity in net income of Saddlestone Equity in OCI of Saddlestone Cash

2,700,000 2,600,000 100,000 1,000,000

Investment in Saddlestone

1,000,000

2021: Investment in Saddlestone Equity in OCL of Saddlestone Equity in net income of Saddlestone

2,875,000 25,000

Cash

1,000,000 Investment in Saddlestone

2,900,000

1,000,000

b. Consolidation working paper eliminating entries for 2021: (C) Equity in net income of Saddlestone Equity in OCL of Saddlestone Dividends – Saddlestone Investment in Saddlestone

2,900,000 25,000 1,000,000 1,875,000

(E) Capital stock, 1/1 2,000,000 Retained earnings, 1/1 (1) 7,000,000 Accumulated OCI, 1/1 (2) 300,000 Investment in Saddlestone (1) $5,000,000 + $3,000,000 - $1,000,000 = $7,000,000. (2) $200,000 + $100,000 = $300,000. (R) Identifiable intangibles (3) 1,600,000 Goodwill (4) 11,100,000 Investment in Saddlestone (3) $2,000,000 - $400,000 = $1,600,000. (4) $20,300,000 - $7,200,000 - $2,000,000 = $11,100,000. (O) Amortization expense Goodwill impairment loss Identifiable intangibles Goodwill

E4.6

12,700,000

400,000 200,000 400,000 200,000

Eliminating Entries After First and Second Years a. Calculation of equity in net income for 2020: Safeco’s reported net income Revaluation write-offs: Equipment $500,000/5 Inventory Goodwill impairment loss Equity in net income of Safeco

9,300,000

$ 1,600,000 (100,000) (200,000) (50,000) $ 1,250,000

Peerless’ entries for 2020: Investment in Safeco Cash

8,000,000

Investment in Safeco Equity in net income of Safeco

1,250,000

8,000,000

1,250,000

Cash

600,000 Investment in Safeco

600,000

Calculation of goodwill is as follows: Acquisition cost Book value of Safeco Excess of acquisition cost over book value Fair value less book value: Equipment Inventory Goodwill

$ 8,000,000 (7,000,000) 1,000,000 $ 500,000 200,000 $

(700,000) 300,000

Consolidation working paper eliminating entries for 2020: (C) Equity in net income of Safeco Dividends – Safeco Investment in Safeco

1,250,000 600,000 650,000

(E) Stockholders’ equity—Safeco, 1/1 Investment in Safeco

7,000,000

(R) Equipment, net Inventory Goodwill Investment in Safeco

500,000 200,000 300,000

(O) Depreciation expense Cost of goods sold Goodwill impairment loss Equipment, net Inventory Goodwill b. Calculation of equity in net income for 2021:

7,000,000

1,000,000

100,000 200,000 50,000 100,000 200,000 50,000

Safeco’s reported net income Revaluation write-off: Equipment $500,000/5 Equity in net income of Safeco

$ 2,000,000 (100,000) $ 1,900,000

Peerless’s equity method entries for 2021: Investment in Safeco Equity in net income of Safeco

1,900,000

Cash

800,000

1,900,000

Investment in Safeco

800,000

The Investment in Safeco balance at December 31, 2021 is $8,000,000 + $1,250,000 – $600,000 + $1,900,000 – $800,000 = $9,750,000. Consolidation working paper eliminating entries for 2021: (C) Equity in net income of Safeco Dividends – Safeco Investment in Safeco

1,900,000 800,000 1,100,000

(E) Stockholders’ equity—Safeco, 1/1 8,000,000 Investment in Safeco 8,000,000 Stockholders’ equity—Safeco at 1/1/2021 = $7,000,000 + $1,600,000 – $600,000 = $8,000,000 (R) Equipment, net Goodwill Investment in Safeco

400,000 250,000

(O) Depreciation expense Equipment, net

100,000

650,000

100,000

E4.7

Equity Method, Eliminating Entries, Several Years After Acquisition (in thousands) a. Calculation of total goodwill is as follows: Acquisition cost Book value of Stage 4 Excess of acquisition cost over book value Revaluations: Land Buildings Identifiable intangibles Long-term debt Goodwill

$ 25,000 (5,000) 20,000 $ (400) (1,000) 4,000 200

b. Calculation of equity in net income for 2021: Stage 4’s reported net income Revaluation write-offs: Buildings $(1,000)/20 Long-term debt $200/10 Goodwill impairment loss Equity in net income of Stage 4

$ 600 50 (20) (60) $ 570

c. Calculation of Investment in Stage 4, 12/31/21 Investment in Stage 4, 1/1/13 Stage 4’s reported income, 2013-2020 Stage 4’s reported dividends, 2013-2020 Revaluation write-offs, 2013-2020: Buildings $[(1,000)/20] x 8 Identifiable intangibles (full balance) Long-term debt $[200/10] x 8 Goodwill impairment loss Investment in Stage 4, 1/1/21 Equity in net income, 2021 Stage 4’s dividends, 2021 Investment in Stage 4, 12/31/17

25,000 10,000 (3,000) 400 (4,000) (160) (300) 27,940 570 (100) $ 28,410

(2,800) $ 17,200

d. Consolidation working paper eliminating entries for 2021: (C) Equity in net income of Stage 4 Dividends – Stage 4 Investment in Stage 4 (E) Shareholders’ equity—Stage 4, 1/1 Investment in Stage 4

570 100 470

12,000 12,000

Shareholders’ equity, January 1, 2021 = $5,000 + $10,000 – $3,000 = $12,000.

(R) Long-term debt 40 Goodwill 16,900 Land 400 Buildings, net 600 Investment in Stage 4 15,940 Revaluations at January 1, 2021 = original revaluations less write-offs for 2013-2020 (8 years). (O) Interest expense Buildings, net Goodwill impairment loss Long-term debt Depreciation expense Goodwill

E4.8

20 50 60 20 50 60

Consolidation After Several Years Calculation of original goodwill is as follows: Acquisition cost Book value of Baker Excess of acquisition cost over book value Revaluation: Buildings Goodwill

$ 37,500,000 (5,000,000) 32,500,000 1,000,000 $ 33,500,000

Calculation of equity in net income for 2019: Baker’s reported net income Revaluation write-offs: Buildings $1,000,000/25 Goodwill impairment loss Equity in net income of Baker

300,000

40,000 (100,000) $ 240,000

Calculation of investment balance at December 31, 2019: Investment in Baker, 12/31/13 Baker reported income, 2013-2018 Revaluation write-offs, 2013-2018: Buildings ($1,000,000/25) x 6 Investment in Baker, 1/1/19 Equity in net income, 2019 Investment in Baker, 12/31/19

$37,500,000 1,300,000 240,000 39,040,000 240,000 $39,280,000

Consolidation working paper eliminating entries for 2019: (C) Equity in net income of Baker Investment in Baker

240,000 240,000

(E) Shareholders’ equity—Baker, 1/1 6,300,000 Investment in Baker 6,300,000 Shareholders’ equity, January 1, 2019 = $5,000,000 + $1,300,000 = $6,300,000. (R) Goodwill 33,500,000 Buildings, net 760,000 Investment in Baker 32,740,000 Revaluations at January 1, 2019 = original revaluations less write-offs for 2013-2018. (O) Buildings, net Goodwill impairment loss Depreciation expense Goodwill

40,000 100,000 40,000 100,000

E4.9

Projecting Consolidation Eliminating Entries a. Consolidation eliminating entries in 2020, three years after acquisition. (R) Identifiable intangibles 1,800,000 Land 2,000,000 Goodwill 14,800,000 Property and equipment, net 8,000,000 Investment in Samson 10,600,000 The inventories are sold. Identifiable intangibles as of the start of 2020 = $3,000,000 – (2 x $600,000) = $1,800,000. Goodwill at the start of 2020 = $15,000,000 - $200,000 = $14,800,000. Property and equipment revaluation at the start of 2020 = $10,000,000 – (2 x $1,000,000) = $8,000,000. (O) Amortization expense 600,000 Property and equipment, net 1,000,000 Identifiable intangibles 600,000 Depreciation expense 1,000,000 There is no goodwill impairment in 2020, the inventories have been sold, and land is not written off. Identifiable intangibles and property and equipment are the only revaluations available for write-off. b. Consolidation eliminating entries in 2023, six years after acquisition. (R) Land 2,000,000 Goodwill 14,400,000 Property and equipment, net 5,000,000 Investment in Samson 11,400,000 The inventories are sold, and the identifiable intangibles have been completely written off. Goodwill at the start of 2023 = $15,000,000 - $200,000 - $400,000 = $14,400,000. Property and equipment revaluation at the start of 2023 = $10,000,000 – (5 x $1,000,000) = $5,000,000. (O) Property and equipment, net 1,000,000 Depreciation expense 1,000,000 Land is not written off, there is no goodwill impairment in 2023, and inventories and identifiable intangibles have already been completely written off.

c. Consolidation eliminating entries in 2028, eleven years after acquisition. (R) Land 2,000,000 Goodwill 14,400,000 Investment in Samson 16,400,000 The inventories are sold, and the identifiable intangibles and property and equipment have been completely written off. There have been no goodwill impairment losses since 2021. No entry (O) is required since the land and goodwill are not written off in 2028.

E4.10 Identifiable Intangibles and Goodwill, U.S. GAAP Amortization expense for 2020: Customer relationships Favorable leaseholds Total

$4,000,000/4 $8,000,000/5

$ 1,000,000 1,600,000 $ 2,600,000

Impairment testing – identifiable intangibles: Customer relationships Book value = $4,000,000 – 2 x ($4,000,000/4) = $2,000,000 Book value > Sum of undiscounted cash flows? $2,000,000 > $1,200,000: Yes Impairment loss = $2,000,000 - $900,000 = $1,100,000 Favorable leaseholds Book value = $8,000,000 – 1.5 x ($8,000,000/5) = $5,600,000 Book value > Sum of undiscounted cash flows? $5,600,000 < $6,000,000: No Brand names Book value = $18,000,000 Book value > Sum of discounted cash flows? $18,000,000 > $7,000,000: Yes Impairment loss = $18,000,000 - $7,000,000 = $11,000,000

Impairment testing – Goodwill: Reporting Unit

Unit FV < BV?

Possible Impairment Loss

Actual Impairment Loss

Asia

$400,000,000 > $300,000,000: No

N/A

South America

$350,000,000> $200,000,000: No

N/A

Europe

$500,000,000< $600,000,000: Yes

$600,000,000 – 500,000,000 = 100,000,000

$100,000,000

Summary: Amortization expense – identifiable intangibles Impairment losses – identifiable intangibles Goodwill impairment loss Total

2,600,000 12,100,000 100,000,000 $114,700,000

E4.11 Identifiable Intangibles and Goodwill, IFRS (see related E4.10) Amortization expense for 2020: Customer relationships Favorable leaseholds Total

$4,000,000/4 $8,000,000/5

$ 1,000,000 1,600,000 $ 2,600,000

Impairment testing – identifiable intangibles: Customer relationships Book value = $4,000,000 – 2 x ($4,000,000/4) = $2,000,000 Book value > Sum of discounted cash flows? $2,000,000 > $900,000: Yes Impairment loss = $2,000,000 - $900,000 = $1,100,000 Favorable leaseholds Book value = $8,000,000 – 1.5 x ($8,000,000/5) = $5,600,000 Book value > Sum of discounted cash flows? $5,600,000 > $4,400,000: Yes Impairment loss = $5,600,000 – $4,400,000 = $1,200,000 Brand names Book value = $18,000,000 Book value > Sum of discounted cash flows? $18,000,000 > $7,000,000: Yes Impairment loss = $18,000,000 - $7,000,000 = $11,000,000

Impairment testing – Goodwill: Actual impairment loss

Reporting Unit

Unit FV < BV?

Possible impairment loss

E. Asia

$300,000,000 < $350,000,000: Yes

$350,000,000 – 300,000,000 = $50,000,000

$40,000,000

Indonesia

$120,000,000 > $100,000,000: No

Brazil

$410,000,000 >$130,000,000: No

Mediterranean

$190,000,000 < $220,000,000: Yes

$220,000,000 – 190,000,000 = $30,000,000

$30,000,000

Scandinavia

$230,000,000 < $300,000,000: Yes

$300,000,000 – 230,000,000 = $70,000,000

$70,000,000

Summary: Amortization expense – identifiable intangibles Impairment losses – identifiable intangibles Goodwill impairment loss Total

2,600,000 13,300,000 140,000,000 $ 155,900,000

E4.12 Consolidated Income Statement a. (in millions) Sales $5,000 + $2,000 Cost of goods sold $3,000 + $800 + $160 Gross margin Depreciation expense $500 + $140 – ($200/10) Interest expense $100 + $60 + ($100/5) Other expenses $600 + $700 Total operating expenses Net income

$ 7,000 3,960 3,040 620 180 1,300 2,100 $ 940

b. Parson reports its own income of $800 million plus its equity in the income of Soaper of $140 million. Equity in the income of Soaper is Soaper’s reported income adjusted for write-offs of Soaper’s net asset revaluations. Consolidated income is Parson’s and Soaper’s reported revenues and expenses, with Soaper’s expenses adjusted for the revaluation write-offs. Parson’s separately reported income and consolidated income therefore report the same items, packaged differently.

E4.13 Amortization and Impairment Testing of Identifiable Intangible Assets (in thousands) a. Technology Lancope, Inc. Jasper Technologies, Inc.

($79,000/5) x 7/12 = ($240,000/6) x 4/12 =

$ 9,217 13,333

Customer Relationships Lancope, Inc. Jasper Technologies, Inc.

($29,000/6) x 7/12 = ($75,000/7) x 4/12 =

2,819 3,571

Total amortization expense

$ 28,940

b. Technology

Book Value > End-of-Year Book Value Undiscounted Cash Flows?

Impairment Loss

Lancope, Inc.

$ 69,783

$69,783 > $70,000? No

Jasper Technologies, Inc.

226,667

$226,667 > $200,000? Yes

$226,667 – 150,000 =

$ 76,667

Lancope, Inc.

26,181

$26,181 > $25,000? Yes

$26,181 – 20,000 =

6,181

Jasper Technologies, Inc.

71,429

$71,429 > $80,000?

IPR&D Lancope, Inc. Jasper Technologies, Inc.

121,000 23,000

Customer Relationships

N/A N/A

$121,000 – 105,000 = --

Total impairment loss

$98,848

Lancope, Inc. Jasper Technologies, Inc. End of fiscal 2016 book value

16,000 --

Technology $ 69,783 150,000 $ 219,783

Customer Relationships $ 20,000 71,429 $ 91,429

IPR&D $105,000 23,000 $128,000

E4.14 Equity Method Income and Working Paper Eliminations (in millions) a. Investment balance, 1/1/20 Investment balance, 1/1/19 = $2,000 + $200 2019 equity in net income Write-off of identifiable intangibles = Saber’s 2019 net income

$ 2,286 2,200 86 8 $ 94

($40/5)

b. Saber’s shareholders’ equity, 1/1/19 2019 net income Saber’s shareholders’ equity, 1/1/20

$ 2,000 94 $ 2,094

Saber’s 2020 net income Write-off of identifiable intangibles = Equity in net income of Saber

c. ($40/5) $

d. (C) Equity in net income of Saber Investment in Saber

142

(E) Shareholders’ equity – Saber Investment in Saber

2,094

150 (8) 142

142

2,094

(R) Identifiable intangibles 32 Goodwill 160 Investment in Saber 192 Beginning-of-year identifiable intangibles balance is $40 - $8 = $32. Total goodwill is $200 total excess of acquisition cost over book value less $40 fair value of identifiable intangibles = $160. (O) Amortization expense Identifiable intangibles

8 8

e. At the beginning of 2024, the identifiable intangibles are fully amortized and the remaining balance for goodwill is $160 - $100 = $60. (R) Goodwill Investment in Saber

There are no revaluation write-offs in 2024, so eliminating entry O is not required. E4.15 Goodwill Impairment, IFRS

A CGU is the smallest group of assets with independent cash inflows, while a reporting unit is an operating segment that is regularly evaluated by top management. Operating segments are likely to be larger than CGUs.

Recoverable amount is defined as the greater of fair value less costs to sell, and value-inuse, which is the present value of the CGU’s future expected cash flows. U.S. GAAP specifies that the reporting unit’s book value be compared with its “fair value.” In practice, however, “recoverable amount” and “fair value” are likely to be similar.

£700 million + £450 million = £1,150 million

Recoverable amount is estimated as value-in-use, which is the present value of future estimated cash flows. Causes of a decline in value-in-use include higher risk (higher risk-adjusted discount rate), lower growth in EBITDA, and higher capital expenditures.

£100/(0.087 - 0.01) = £1,299 million £100/(0.097 - 0.01) = 1,149 million Decline in value = £ 150 million

E4.16 Consolidation in First Year Using Cost Method (see related E4.4) (in thousands) a. Investment in Southern Light Cash Cash

300,000 300,000 2,500

Dividend income

2,500

b. (C) Dividend income Dividends – Southern Light (E) Capital stock Retained earnings, 7/1 AOCI, 7/1 Treasury stock Investment in Southern Light

2,500 2,500

26,000 142,000 5,000 1,000 172,000

(R) Brand names Goodwill (1) Inventories Plant and equipment, net Investment in Southern Light

60,000 80,000 2,000 10,000 128,000

(1) Acquisition date goodwill = $300,000 - $172,000 + $2,000 + $10,000 - $60,000 = $80,000

(O) Impairment losses Inventories Plant and equipment, net Cost of goods sold Depreciation expense Brand names Goodwill

8,000 2,000 1,000 2,000 1,000 3,000 5,000

Note: Eliminating entries (E), (R), and (O) are the same as in E4.4. Eliminating entry (A) is not required since it is the first year and no adjustment to beginning retained earnings or AOCI is necessary.

E4.17 Consolidation After Several Years Using Cost Method (see related E4.8) Calculation of total goodwill is as follows: Acquisition cost Book value of Baker Excess of acquisition cost over book value Revaluation: Buildings Goodwill

$ 37,500,000 (5,000,000) 32,500,000 1,000,000 $ 33,500,000

Calculation of adjustment to investment balance to convert it to complete equity method at January 1, 2019: Baker reported income, 2013-2018 Revaluation write-offs, 2013-2018: Buildings ($1,000,000/25) x 6 Adjustment to Investment in Baker, 1/1/19

$ 1,300,000 240,000 $ 1,540,000

Consolidation working paper eliminating entries for 2019: (A) Investment in Baker Shareholders’ equity –Adams (E)

1,540,000 1,540,000

Shareholders’ equity—Baker, 1/1 6,300,000 Investment in Baker 6,300,000 Shareholders’ equity, January 1, 2019 = $5,000,000 + 1,300,000 = $6,300,000. (R) Goodwill 33,500,000 Buildings, net 760,000 Investment in Baker 32,740,000 Revaluations at January 1, 2019 = original revaluations less write-offs for 2013-2018. (O) Buildings, net Goodwill impairment loss Depreciation expense Goodwill

40,000 100,000

Note: Eliminating entries (E), (R) and (O) are the same as in E4.8.

40,000 100,000

PROBLEMS P4.1

Simple Trial Balance Consolidation Working Paper, First and Second Years a. Consolidation Working Paper, December 31, 2019 Trial Balances Taken From Books Dr (Cr)

Eliminations Dr

Consolidated Balances Dr (Cr)

Pacnet

SecureWorks

Current assets

$ 3,000,000

$ 2,000,000

Plant assets, net

58,000,000

42,000,000

(O)

500,000

5,000,000

(R)

95,500,000

Identifiable intangibles

1,000,000

(R)

2,000,000

400,000

(O)

2,600,000

Investment in SecureWorks

42,100,000

2,100,000

(C)

(E) (R)

1,000,000

(O)

Goodwill

Liabilities

(80,000,000)

(35,000,000)

Capital stock

(5,000,000)

(1,000,000)

(E)

1,000,000

(5,000,000)

Retained earnings, beginning

(12,000,000)

(5,000,000)

(E)

5,000,000

(12,000,000)

Sales revenue

(100,000,000)

(60,000,000)

Equity in net income

(2,100,000)

Cost of sales

80,000,000

45,000,000

Operating expenses

15,000,000

12,000,000

(R) 37,000,000

6,000,000 34,000,000

5,000,000

(115,000,000)

(160,000,000) (C)

2,100,000

-125,000,000

(O)

900,000

________

$ 48,500,000

Consolidated Income Statement Year Ended December 31, 2019 Sales revenue Cost of sales Gross margin Operating expenses Net income

36,000,000

$ 160,000,000 (125,000,000) 35,000,000 (27,900,000) $ 7,100,000

27,900,000 $

Consolidated Balance Sheet, December 31, 2019 Assets Current assets Plant assets, net Intangibles Goodwill Total assets Liabilities and shareholders’ equity Liabilities Capital stock Retained earnings (1) Total liabilities and shareholders’ equity (1)

5,000,000 95,500,000 2,600,000 36,000,000 $139,100,000 $115,000,000 5,000,000 19,100,000 $139,100,000

$12,000,000 + $7,100,000 = $19,100,000.

b. Consolidation Working Paper, December 31, 2020 Trial Balances Taken From Books Dr (Cr)

Eliminations

SecureWorks

Current assets

$ 4,000,000

$ 3,500,000

Plant assets, net

66,200,000

45,000,000

(O)

500,000

4,500,000

(R)

107,200,000

800,000

(R)

1,600,000

400,000

(O)

2,000,000

43,200,000

1,100,000

(C)

9,000,000

(E)

33,100,000

(R)

1,500,000

(O)

Identifiable intangibles Investment in SecureWorks

Consolidated Balances Dr (Cr)

Pacnet

Goodwill

Liabilities

(85,000,000)

(37,000,000)

Capital stock

(5,000,000)

(1,000,000)

(E)

1,000,000

(5,000,000)

Retained earnings, beginning

(19,100,000)

(8,000,000)

(E)

8,000,000

(19,100,000)

Sales revenue

(110,000,000)

(65,000,000)

Equity in net income

(1,100,000)

Cost of sales

82,000,000

46,000,000

Operating expenses

24,000,000

16,500,000

(R) 36,000,000

7,500,000

34,500,000 (122,000,000)

(175,000,000) (C)

1,100,000

-128,000,000

(O)

1,400,000

________

$ 49,600,000

41,900,000 $

Consolidated Income Statement Year Ended December 31, 2020 Sales revenue Cost of sales Gross margin Operating expenses Net income

$ 175,000,000 (128,000,000) 47,000,000 (41,900,000) $ 5,100,000

Consolidated Balance Sheet, December 31, 2020 Assets Current assets Plant assets, net Intangibles Goodwill Total assets Liabilities and shareholders’ equity Liabilities Capital stock Retained earnings (1) Total liabilities and shareholders’ equity (1)

P4.2

7,500,000 107,200,000 2,000,000 34,500,000 $151,200,000 $122,000,000 5,000,000 24,200,000 $151,200,000

$19,100,000 + $5,100,000 = $24,200,000.

Consolidated Financial Statements One Year After Acquisition a. Calculation of equity in net income for 2020: Santo’s reported net income Revaluation write-offs: Inventory (1) Plant assets $8,000,000/8 Patents $2,000,000/4 Long-term debt $500,000/10 Goodwill impairment loss Equity in net income of Santo

$ 5,000,000 (1,500,000) 1,000,000 (500,000) 50,000 (400,000) $ 3,650,000

(1) Since the revalued inventory was sold in 2020, cost of goods sold is adjusted for the revaluation.

b. Consolidation Working Paper, December 31, 2020 Trial Balances Taken From Books Dr (Cr) Ponon Cash and receivables

Eliminations

Santo

4,500,000

Consolidated Balances Dr (Cr)

3,100,000

Inventory

5,000,000

5,200,000

(R)

Plant assets, net

8,000,000

12,000,000

(O-2) 1,000,000

Investment in Santo

28,690,000

Patents

(R)

Goodwill

(R)

Current liabilities

(5,100,000)

(2,000,000)

Long-term debt

(20,000,000)

(3,260,000)

(O-4)

50,000

Capital stock

(8,000,000)

(6,000,000)

(E)

6,000,000

(8,000,000)

Retained earnings, Jan. 1

(4,300,000)

(3,840,000)

(E)

3,840,000

(4,300,000)

(400,000)

(160,000)

(E)

160,000

(400,000)

Sales

(30,000,000)

(13,200,000)

Equity in income of Santos

(3,650,000)

(C)

3,650,000

Equity in OCI of Santos

(40,000)

(C)

40,000

Cost of goods sold

18,000,000

4,000,000

(O-1) 1,500,000

23,500,000

Depreciation and amortization expense

2,000,000

3,200,000

Interest and other expenses

5,400,000

1,000,000

(100,000)

(40,000)

___________

$ 40,640,000

AOCI, Jan. 1

1,500,000

7,600,000

OCI $

10,200,000

8,000,000

(R)

13,000,000

3,690,000 10,000,000 15,000,000

2,000,000

500,000 (O-3)

1,500,000

20,000,000

400,000 (O-5)

19,600,000 (7,100,000)

500,000

(R)

(23,710,000)

(43,200,000)

(O-3)

GW impairment loss

1,500,000 (O-1)

(O-5)

1,000,000 (O-2)

4,700,000

50,000 (O-4)

6,350,000

500,000

400,000

400,000 (140,000) $

c. Consolidated Statement of Comprehensive Income For the Year 2020 Sales Costs of goods sold Gross margin Operating expenses: Depreciation and amortization expense Interest and other expenses Goodwill impairment loss Net income Other comprehensive income Comprehensive income

$ 43,200,000 (23,500,000) 19,700,000 $ 4,700,000 6,350,000 400,000

(11,450,000) 8,250,000 140,000 $ 8,390,000

Consolidated Balance Sheet, December 31, 2020 Assets Cash and receivables Inventory Plant assets, net Patents Goodwill Total assets Liabilities and shareholders’ equity Current liabilities Long-term debt Capital stock Retained earnings (2) Accumulated other comprehensive income (3) Total liabilities and shareholders’ equity

7,600,000 10,200,000 13,000,000 1,500,000 19,600,000 $ 51,900,000 $

7,100,000 23,710,000 8,000,000 12,550,000 540,000 $ 51,900,000

(2) $4,300,000 + $8,250,000 = $12,550,000 (3) $400,000 + $140,000 = $540,000

P4.3

Equity Method and Eliminating Entries Three Years after Acquisition a. Calculation of equity in net income for 2020: Sunset Coast’s reported net income for 2020 Revaluation write-offs: Plant assets ($500,000)/10 Identifiable intangibles $1,000,000/5 Equity in net income of Sunset Coast

$ 400,000 50,000 (200,000) $ 250,000

b. Calculation of investment balance at December 31, 2020: Investment in Sunset Coast, January 1, 2018 Sunset Coast’s reported income, 2018-2019 Sunset Coast’s reported dividends, 2018-2019 (50% of reported income) Revaluation write-offs, 2018-2019: Plant assets [($500,000)/10] x 2 Identifiable intangibles ($1,000,000/5) x 2 Goodwill impairment, 2019 Investment in Sunset Coast, December 31, 2019 Equity in net income, 2020 (see requirement a.) Sunset Coast’s reported dividends, 2020 (50% x $400,000) Investment in Sunset Coast, December 31, 2020

$ 5,000,000 850,000 (425,000) 100,000 (400,000) (100,000) 5,025,000 250,000 (200,000) $ 5,075,000

Under LIFO and increasing inventory, the acquisition date revalued inventory is assumed to still be on hand. c. Consolidation working paper eliminating entries for 2020: (C) Equity in net income of Sunset Coast Dividends – Sunset Coast (0.5 x $400,000) Investment in Sunset Coast

250,000 200,000 50,000

(E) Shareholders’ equity—Sunset Coast, 1/1 1,825,000 Investment in Sunset Coast 1,825,000 Sunset Coast’s shareholders’ equity, January 1, 2018 = $1,400,000 (acquisition cost $5,000,000 less excess over book value $3,600,000). Sunset Coast’s shareholders’ equity, January 1, 2020 = acquisition-date equity + net income less dividends for 2018 and 2019 = $1,400,000 + (1 – 0.5) ($850,000) = $1,825,000. (R) Identifiable intangibles 600,000 Goodwill 3,400,000 Inventory 400,000 Plant assets, net 400,000 Investment in Sunset Coast 3,200,000 Revaluations at January 1, 2020 = original revaluations less write-offs for 2018 and 2019. Goodwill at January 1, 2020 = $3,600,000 + $400,000 + $500,000 $1,000,000) = $3,500,000 original value, less $100,000 in impairment = $3,400,000.

(O) Plant assets, net Amortization expense Depreciation expense Identifiable intangibles

50,000 200,000 50,000 200,000

d. Puffin’s income from its own operations plus equity in net income of Sunset Coast = consolidated net income: $1,500,000 + $250,000 = $1,750,000.

P4.4

Consolidation at End of First Year, Preacquisition Contingency a. Calculation of equity in net income for 2020: Sanders’ reported net income for 2020 Revaluation write-offs: Inventory (FIFO) Equipment $400,000/10 IPR&D impairment Equity in net income of Sanders

$ 600,000 (100,000) (40,000) (25,000) $ 435,000

Perkins’ entries for 2020: Investment in Sanders Merger expenses Restructuring expenses Cash

20,000,000 80,000 250,000 20,330,000

Investment in Sanders Equity in net income of Sanders

435,000

Cash

150,000

435,000

Investment in Sanders

150,000

b. Acquisition cost Book value of Sanders Revaluations: Revaluations: Inventory Equipment Unrecorded lawsuit liability (1) Unrecorded IPR&D Goodwill

$ 100,000 400,000 (85,000) 500,000

20,000,000 (4,000,000) 16,000,000

(915,000) $ 15,085,000

(1) The estimated liability increases from $50,000 to $85,000 within the measurement period.

c. Consolidation working paper eliminating entries for 2020:

(C) Equity in net income of Sanders Dividends – Sanders Investment in Sanders (E) Shareholders’ equity—Sanders, 1/1 Investment in Sanders (R) Inventory Equipment, net IPR&D Goodwill Lawsuit liability Investment in Sanders (O) Cost of goods sold Depreciation expense Impairment loss Inventory Equipment, net IPR&D

P4.5

435,000 150,000 285,000

4,000,000 4,000,000

100,000 400,000 500,000 15,085,000 85,000 16,000,000

100,000 40,000 25,000 100,000 40,000 25,000

Consolidated Balance Sheet Working Paper, Bargain Purchase (see related P3.4)

(in millions) a. Calculation of equity in net income for 2019: Saxon’s reported net income for 2019 ($10,000 + $10 – $8,000 – $40 – $25 – $1,600) Revaluation write-offs: Inventory Equity method investments (adjusts gain/loss on sale) Buildings and equipment $300/20 Identifiable intangibles $110/5 Equity in net income of Saxon

$ 345 100 50 (15) (22) $ 458

Calculation of Investment balance, December 31, 2019: Investment balance, January 1, 2019 (1) Equity in net income for 2019 Dividends for 2019 Investment balance, December 31, 2019

$ 1,800 458 (100) $ 2,158

(1) Paxon acquired Saxon for $1,700, but there is a bargain gain that increases the investment balance by $100, as follows:

Calculation of gain on acquisition: Acquisition cost Book value ($100 + $350 + $845) Excess of acquisition cost over book value Excess of fair value over book value: Inventory Equity method investments Land Buildings and equipment Identifiable intangibles Gain on acquisition

$ 1,700 (1,295) 405 $ (100) (50) 245 300 110

(505) $ 100

Therefore Paxon’s entry to record the acquisition was: Investment in Saxon Cash Gain on acquisition

1,800 1,700 100

Revised 01.30.17

b. Consolidation Working Paper, December 31, 2019 Trial Balances Taken From Books Dr (Cr) (in millions)

Paxon

Saxon

Cash and receivables

$ 3,200

Inventory Equity method investments Investment in Saxon

Land

Eliminations Dr

Consolidated Balances Dr (Cr)

800

$ 4,000

2,260

940

(O-1)

100

(R)

3,200

(O-2)

(R)

2,158

358

(C)

1,295

(E)

505

(R)

650

300

(R)

245

3,600

1,150

(R)

300

15 (O-3)

5,035

(R)

110

22 (O-4)

Current liabilities

(2,020)

(1,200)

(3,220)

Long-term debt

(5,000)

(450)

(5,450)

Common stock

(500)

(100)

(E)

100

(500)

Additional paid-in capital

(1,200)

(350)

(E)

350

(1,200)

Retained earnings, Jan. 1

(2,410)

(845)

(E)

845

(2,410)

500

100

(30,000)

(10,000)

(458)

(10)

Buildings and equipment, net Identifiable intangibles

Dividends Sales revenue Equity in net income of Saxon Gain on sale of securities Gain on acquisition

(100)

Cost of goods sold

26,000

8,000

Depreciation and amortization expense

300

Interest expense

250

2,770

1,600

Other operating expenses $

1,195

100

(C)

500 (40,000)

(C)

458

-50 (O-2)

(60) (100)

100 (O-1) (O-3)

(O-4)

33,900 377

275 ________ $

2,595

_______ $

2,595

4,370 $

Revised 01.30.17

c. Consolidated Income Statement Year Ended December 31, 2019 (in millions) Sales Costs of goods sold Gross margin Operating expenses: Depreciation and amortization expense Interest expense Other operating expenses Income before other gains Gain on sale of securities Gain on acquisition Net income

$ 40,000 (33,900) 6,100 $

377 275 4,370

Consolidated Balance Sheet, December 31, 2019 (in millions) Assets Cash and receivables Inventory Land Buildings and equipment, net Identifiable intangibles Total assets Liabilities and shareholders’ equity Current liabilities Long-term debt Common stock Additional paid-in capital Retained earnings (1) Total liabilities and shareholders’ equity

(5,022) 1,078 60 100 $ 1,238

4,000 3,200 1,195 5,035 88 $ 13,518 $

3,220 5,450 500 1,200 3,148 $ 13,518

(1) $2,410 + $1,238 - $500 = $3,148

P4.6

Goodwill Allocation and Impairment Testing (in millions) a. Identifiable assets acquired $50 + $250 + $125 = Liabilities assumed $35 + $190 + $100 = Net identifiable assets acquired Total acquisition cost Total goodwill

$ 425 (325) 100 180 $ 80

Allocation to business units: Networks

Global Services

Mobile Broadband

U.S. Cellular

$ 50

$ 250

$ 125

$ --

Liabilities assumed

(35)

(190)

(100)

Net assets assigned

$ 15

Identifiable assets acquired

Fair value of reporting unit

Less: Net assets assigned

(15)

(60)

(25)

Increase in fair value

N/A

__N/A

Allocation of goodwill

$ 40

$ 25

$ 10

The total tentative allocation equals the total goodwill to be allocated. b. Compare the fair value of each reporting unit at December 31, 2020 with its book value at that date.

Fair value

Networks $50

Global Services $90

Mobile Broadband $25

U.S. Cellular $ 95

Book value

100

Difference

$ 2

$(2)

$(8)

$ (5)

Preliminary loss

Actual loss

Goodwill is impaired for Global Services, Mobile Broadband, and U.S. Cellular. A $12 million goodwill impairment loss (= $2 million + $5 million + $5 million) is recorded for 2020.

P4.7

Intangible Assets and Goodwill: Amortization and Impairment 2020 amortization expense: Customer lists $500,000/5 Developed technology $800,000/10 Total

$ 100,000 80,000 $ 180,000

2020 impairment test for identifiable intangibles Customer Lists Original book value $ 500,000 Less: amortization 2018 (100,000) 2019 (100,000) 2020 (100,000) Book value, December 31, 2020 $ 200,000

Developed Technology $ 800,000

Internet Domain Name $ 1,300,000

(80,000) (80,000) (80,000) 560,000

– – ___–_____ $ 1,300,000

Step 1 of impairment test for customer lists and developed technology: To determine whether impairment has occurred for limited-life identifiable intangibles, compare the undiscounted future cash flows from the asset to its book value.

Future undiscounted cash flows Book value Difference Conclusion

Customer Lists $ 250,000 200,000 $ 50,000 Not impaired

Developed Technology $ 500,000 560,000 $ (60,000) Impaired

Step 2 of impairment test for customer lists and developed technology: For limited-life identifiable intangibles that are deemed impaired in Step 1, calculate amount of impairment as the difference between discounted cash flows and book value.

Future discounted cash flows Book value Impairment

Customer Lists ----

Developed Technology $ 420,000 560,000 $ 140,000

Impairment test for indefinite-life identifiable intangibles, impairment loss = book value in excess of discounted cash flows, if any. Internet domain name impairment loss = $1,300,000 - $750,000 = $550,000. 2020 goodwill impairment test The company bypasses the qualitative test. Quantitative test: compare fair value of reporting unit at December 31, 2020 to the book value of the unit at that date. Fair value of reporting unit Book value Difference

$ 17,000,000 18,500,000 $ (1,500,000)

Goodwill impairment is tentatively $1,500,000. Since the tentative loss is less than the total goodwill balance, the actual goodwill impairment loss is $1,500,000.

Summary: Amortization expense for 2020: Customer lists Developed technology Impairment write-offs for 2020: Developed technology Internet domain name Goodwill Total

P4.8

100,000 80,000

140,000 550,000 1,500,000

180,000

2,190,000 $ 2,370,000

Consolidation After Four Years a. Consolidation Working Paper, December 31, 2020 Trial Balances Taken From Books Dr (Cr)

Eliminations

Perth

Sharbot

Current assets

$ 5,000

Plant assets, net

34,800

28,000

(O)

400

6,800

(R)

56,400

(R)

4,000

2,000

(O)

2,000

23,600

400

(C)

18,000

(E)

5,200

(R)

500

(O)

Intangibles Investment in Sharbot

Goodwill (1)

Consolidated Balances Dr (Cr)

(in thousands)

2,500

Liabilities

(22,000)

(10,000)

Capital stock

(15,000)

(2,000)

(E)

2,000

(15,000)

Retained earnings, Jan. 1

(25,000)

(16,000)

(E)

16,000

(25,000)

Sales revenue

(25,000)

(14,000)

(400)

Cost of sales

20,000

8,000

Operating expenses

4,000

3,500

Equity in net income

(R)

8,000

7,500

(32,000)

(39,000) (C)

400

-28,000

(O)

2,100 $

32,900

______ $

32,900

(1) Original goodwill = $16,000 - $4,000 + $8,000 - $10,000 = $10,000; cumulative impairment to the beginning of 2020 is $2,000.

Consolidated Income Statement Year Ended December 31, 2020 (in thousands) Sales revenue

7,500

$ 39,000

9,600 $

Cost of sales Gross margin Operating expenses Net income

(28,000) 11,000 (9,600) $ 1,400

Consolidated Balance Sheet, December 31, 2020 (in thousands) Assets Current assets $ 7,500 Plant assets, net 56,400 Intangibles 2,000 Goodwill 7,500 Total assets $ 73,400 Liabilities and shareholders’ equity Liabilities $ 32,000 Capital stock 15,000 Retained earnings (1) 26,400 Total liabilities and shareholders’ equity $ 73,400 (1) $25,000 + $1,400 = $26,400

P4.9

Consolidation Working Paper, Three Years After Acquisition (see related P3.2) (in millions) a. Calculation of equity in net income for fiscal 2019, 2020, and 2021:

GOC’s reported net income (loss) Revaluation write-offs: Property, plant and equipment $(60)/20 Patents and trademarks $10/5 Long-term debt $(3)/3 Advanced technology $5/5 Customer lists impairment loss Goodwill impairment loss Equity in net income of GOC (i) $12 = $900 – $800 – $88

2019 $ 15

2020 $ (2)

2021 $ 12 (i)

3 (2) 1 (1)

3 (2) 1 (1) (2) _ (3) $ (6)

3 (2) 1 (1) (4) _(2) $ 7

_ (2) $ 14

Calculation of Investment balance, June 30, 2021: Investment balance, June 30, 2018 (adjusted to remove earnings contingency) Equity in net income for fiscal 2019 Equity in net income for fiscal 2020 Equity in net income for fiscal 2021 Equity in OCI for fiscal 2019 and 2020 ($4 - $3) Equity in OCI for fiscal 2021 Investment balance, June 30, 2021

$ 110 14 (6) 7 1 1 $ 127

b. Consolidation Working Paper, June 30, 2021 Trial Balances Taken From Books Dr (Cr) (in millions) Current assets

ITI $

Eliminations

GOC (R)

600

140

(O-1)

(R)

689

1,100

(R) (R) (R)

6 3 23

2 (O-2) 1 (O-4) 4 (O-5)

1,155

127

Current liabilities

(175)

(10)

Long-term liabilities

(1,125)

(105)

(O-3)

Common stock

(22)

(4)

(E)

(22)

Additional paid-in capital

(580)

(60)

(E)

(580)

Retained earnings, July 1

(118)

Accumulated other comprehensive income, July 1

(16)

(4)

Treasury stock

Sales revenue

(2,000)

(900)

Equity in income of GOC

(7)

(C)

Equity in OCI of GOC

(1)

(C)

1,400

800

Goodwill impairment loss

(O-6)

Other operating expenses

580

(O-2) (O-4) (O-5)

2 1 4

Other comprehensive income

(3)

(1)

Identifiable intangible assets

Investment in GOC

Goodwill (1)

Cost of goods sold

Consolidated Balances Dr (Cr)

Property, plant and equipment, net

232

8 54 65 (R)

249

2 (O-6)

81 (185)

12 (E)

(R)

(1,230)

(E)

(118)

(16) 2

(E)

8 (2,900)

2,200

_____ $

209

2 3 (O-1) 1 (O-3)

671

_____ $

209

(4) $

(1) Acquisition-date goodwill is calculated as follows: Acquisition cost (adjusted) GOC’s book value Excess of acquisition cost over book value Excess of fair value over book value: Inventory Property, plant and equipment Patents and trademarks Advanced technology Customer lists Long-term debt Goodwill

$ 110 (40) 70 $

5 (60) 10 5 25 (3) $

(18) 88

c. Consolidated Statement of Comprehensive Income for Fiscal 2021 (in millions) Sales revenue $ 2,900 Costs of goods sold (2,200) Gross margin 700 Operating expenses: Goodwill impairment loss $ 2 Other operating expenses _ 671 __ 673 Net income 27 Other comprehensive income 4 Comprehensive income $ 31 Consolidated Balance Sheet, June 30, 2021 (in millions) Assets Current assets Property, plant and equipment, net Identifiable intangible assets Goodwill Total assets Liabilities and shareholders’ equity Current liabilities Long-term liabilities Common stock Additional paid-in capital Retained earnings (1) Accumulated other comprehensive income (2) Treasury stock Total liabilities and shareholders’ equity (1) $118 + $27 = $145. (2) $16 + $4 = $20

249 689 1,155 _ _81 $ 2,174 $

185 1,230 22 580 145 20 _ _(8) $ 2,174

P4.10 Working Paper Eliminating Entries, Partial Year Consolidation (see related P3.3) (in millions) a. Calculation of equity in net income for 2015: Hospira’s reported net loss Revaluation write-offs: Inventory Property, plant and equipment [$3,620/20] x [4/12] In-process research and development Developed technology rights [$8,290/16] x [4/12] Long-term debt Deferred tax liabilities Equity in net income of Hospira

$ (575) 1,313 60 (200) (173) 5 600 $ 1,030

b. Consolidation working paper eliminating entries for 2015: (C) Equity in net income of Hospira Investment in Hospira

1,030

(E) Shareholders’ equity—Hospira, 9/3/15 Investment in Hospira

7,928

(R) In-process R&D Developed technology rights Other noncurrent liabilities Goodwill Inventories Property, plant and equipment Other noncurrent assets Long-term debt Deferred tax liabilities Investment in Hospira

1,030

7,928

1,030 8,290 22 7,296 1,313 3,620 138 28 3,380 8,159

(O) Inventories Property, plant and equipment Impairment loss Amortization expense Long-term debt Deferred tax liabilities Cost of goods sold Depreciation expense In-process research and development Developed technology rights Interest expense Tax expense

1,313 60 200 173 5 600 1,313 60 200 173 5 600

P4.11 Goodwill Impairment Testing, IFRS and U.S. GAAP a. For IFRS goodwill impairment testing purposes, the recoverable amount of a CGU is the higher of its “value-in-use,” typically calculated as the discounted present value of future expected cash flows, and “net market value,” defined as fair value less selling costs. Nokia follows IFRS by valuing its continuing CGUs using discounted cash flows. b. Discount rates are adjusted for specific risks associated with the cash flows, thereby taking into consideration differences in the uncertainty of the business environment. The cash flows of the Withings CGU are significantly more uncertain than those of the other CGUs. Fixed Networks’ cash flows are the least uncertain. c. Only the Withings CGU has a book value in excess of fair value, so the tentative goodwill impairment loss is €5,000 million - €4,900 million = €100 million. Withings is allocated €141 million total goodwill, so the loss recognized is the full amount, €100 million. d. The fair values of both reporting units are greater than book values, so there is no impairment loss. Here, the assumed reporting units are larger than CGUs. The underperforming Withings CGU is combined with the better-performing Applications & Analytics CGU, and the resulting reporting unit’s fair value exceeds its book value.

P4.12 Complete Equity Method and Eliminating Entries, Four Years After Acquisition (in thousands) a. (1) Sound Telecom reported net income + Depreciation on plant asset revaluation - Amortization of identifiable intangibles - Goodwill impairment loss Equity in net income of Sound Telecom

$40,000/10 = $10,000/5 =

$ 5,000 4,000 (2,000) (1,000) $ 6,000

(2) Sound Telecom’s retained earnings, January 1, 2018 + Net income, 2018-2020 Retained earnings, January 1, 2021

$50,000 12,000 $62,000

Sound Telecom’s AOCI, January 1, 2018 + OCI, 2018-2020 AOCI, January 1, 2021

$ 2,000 1,000 $ 3,000

(3) Investment balance, January 1, 2018 + Sound Telecom net income, 2018-2020 + Depreciation on plant asset revaluation, 20182020 - Amortization of identifiable intangibles, 20182020 - Goodwill impairment loss, 2018-2020 + Equity in Sound Telecom’s OCI, 2018-2020 Investment balance, December 31, 2020 + Equity in net income of Sound Telecom, 2021 - Equity in Sound Telecom’s other comprehensive loss, 2021 Investment balance, December 31, 2021

$400,000 12,000 $40,000/10 x 3 =

12,000

$10,000/5 x 3 =

(6,000) (5,000) 1,000 414,000 6,000 (200) $419,800

b. Consolidation Working Paper, December 31, 2021 Trial Balances Taken From Books Dr (Cr)

Eliminations

(in thousands)

Peerless Network

Sound Telecom

Current assets

$ 175,000

$ 50,000

Plant assets, net

860,000

410,000

(O-3)

4,000

28,000

(R)

1,246,000

Identifiable intangibles

40,000

10,000

(R)

4,000

2,000 (O-1)

52,000

Investment in Sound Telecom

419,800

Liabilities

(898,500)

(390,200)

Capital stock

(50,000)

(10,000)

(E)

10,000

(50,000)

Retained earnings, Jan. 1

(490,000)

(62,000)

(E)

62,000

(490,000)

AOCI, Jan. 1

(25,000)

(3,000)

(E)

3,000

(25,000)

Sales revenue

(1,200,000)

(650,000)

(6,000)

Equity in OCI

200

Cost of sales

800,000

450,000

Operating expenses

375,000

195,000

(500)

200

________

$ 455,000

$455,000

Goodwill (1)

Equity in net income

Other comprehensive income $

Consolidated Balances Dr (Cr)

5,800 75,000 339,000 (R)

363,000

225,000

1,000 (O-2)

362,000 (1,288,700)

(1,850,000) (C)

6,000

-200

(C)

-1,250,000

(O-1) (O-2)

2,000 1,000

4,000 (O-3)

569,000 (300) $

(1) Original goodwill = $400,000 - $62,000 + $40,000 - $10,000 = $368,000; $368,000 - $5,000 = goodwill as of January 1, 2021, shown in eliminating entry (R).

c. Consolidated Statement of Comprehensive Income Year Ended December 31, 2021 (in thousands) Sales revenue $ 1,850,000 Cost of sales (1,250,000) Gross margin 600,000 Operating expenses (569,000) Net income 31,000 Other comprehensive income 300 Comprehensive income $ 31,300

Consolidated Balance Sheet, December 31, 2021 (in thousands) Assets

Current assets Plant assets, net Identifiable intangible assets Goodwill Total assets Liabilities and shareholders’ equity Liabilities Capital stock Retained earnings (1) Accumulated other comprehensive income (2) Total liabilities and shareholders’ equity

225,000 1,246,000 52,000 362,000 $ 1,885,000 $ 1,288,700 50,000 521,000 25,300 $ 1,885,000

(1) $490,000 + $31,000 = $521,000 (2) $25,000 + $300 = $25,300

P4.13 Intangibles Under IFRS a. Customer relationships and brands are the most likely to have been acquired in a business combination, as internally generated costs for these items are unlikely to be capitalized per IFRS. Internally developed software definitely was not acquired in a business combination, and probably represents development costs capitalized per IFRS. Purchased software and telecoms licenses may be acquired in a business combination. b. U.S. GAAP would likely not allow as much capitalization of internally generated costs, such as software. Whereas IFRS allows capitalization of development costs, U.S. GAAP does not. In addition, U.S. GAAP requires the book value of limited life intangibles to be greater than the sum of undiscounted future cash flows before impairment can be recognized. IFRS does not have this requirement. c. (1) At 31 March 2018, the book value is £36 million after 2018 amortization of £4 million, and the market value is £45 million. 31 March 2018 entries are (all amounts in £ millions): Amortization expense Intangible assets

Intangible assets Revaluation surplus (OCI) £45 million - £36 million = £9 million

31 March 2019 entries are: Amortization expense Intangible assets £45 million/9 = £5 million Revaluation surplus (OCI) Loss (income) Intangible assets

5 5

9 2 11

At this point the ending book value is £29 million (= £40 – £4 + £9 – £5 – £11], equal to the market value on that date. (2) IFRS impairment loss = book value – greater of (value-in-use, £1,800 million; market value, £1,500 million) = £2,000 – £1,800 = £200 million. U.S. GAAP impairment loss = 0 (sum of undiscounted cash flows £2,500 million > book value, £2,000 million, indicating “no impairment”). The U.S. GAAP two-step test for limited life intangibles removes some potential impairments from consideration because of the book value: undiscounted cash flows screen. IFRS directly compares recoverable amount (market value or value-in-use, whichever is higher) with book value. Since recoverable amount is lower than the sum of the undiscounted cash flows, IFRS will likely recognize more impairment losses over time than U.S. GAAP.

P4.14 Consolidation After Acquisition, Revaluation Write-Off Issues (see related P3.10) (in millions) a. Grupo Modelo reported net income - Depreciation on property revaluation - Amortization of intangibles + Deferred tax liability reversal Equity in net income of Grupo Modelo

$4,000 + $5 – $1,500 – $2,000 + $1,000 – $200 - $300 = $99/10 = (50% x $4,454)/5 =

1,005 (9.9) (445.4) 20 $ 569.7

b. Investment balance, January 1, 2013 + Grupo Modelo change in retained earnings, 2013-2017 + Grupo Modelo change in AOCI, 2013-2015 - Depreciation on property revaluation, 2013-2015 - Amortization of intangibles revaluation, 2013-2015 - Increase in cost of goods sold, 2013 + Accrued trade and other payables, 2013-2014 + Reversal of deferred tax liabilities through 2015 + Accrued current liabilities Investment balance, December 31, 2015 + Equity in net income of Grupo Modelo, 2016 + Equity in Grupo Modelo’s OCI, 2016 Investment balance, December 31, 2016

$34,008 $16,503 - $7,003 = $1,200 - $700 = $99/10 x 3 (50% x $4,454)/5 x 3

9,500 500 (29.7) (1,336.2) (4,333) 509 100 1,650 40,568.1 569.7 100 $41,237.8

c. Consolidation Working Paper, December 31, 2016 Trial Balances Taken From Books Dr (Cr) (in millions)

InBev

Current assets

$ 15,000

Eliminations

Grupo Modelo $

Consolidated Balances Dr (Cr)

8,000

23,000

Investment securities

300

Investment in associates

200

(R)

229

41,237.8

669.7

(C)

Investment in Grupo Modelo

310

19,203

(E)

21,365.1

(R)

Property, plant and equipment, net

18,000

15,000

(R)

69.3

9.9

(O)

33,059.4

Intangible assets

25,000

10,000

(R)

3,117.8

445.4

(O)

37,672.4

Goodwill

50,000

796

(R)

69,592

Current liabilities

(20,000)

(4,000)

(24,000)

Trade and other payables

(2,000)

(1,200)

(3,200)

Deferred tax liabilities

(9,800)

(2,200)

Employee benefits liability

(1,600)

(400)

(2,000)

Loans and borrowings

(52,568.1)

(5,731)

(58,299.1)

Issued capital

(1,700)

(200)

(E)

200

(1,700)

Share premium

(17,000)

(1,300)

(E)

1,300

(17,000)

Retained earnings, Jan. 1

(29,000)

(16,503)

(E) 16,503

(29,000)

AOCI, Jan. 1

(2,000)

(1,200)

(E)

(2,000)

Dividends

2,100

Revenue

(40,000)

(4,000)

(44,000)

(R) 19,592

(O)

614

(R)

(12,594)

1,200

Equity in income of Grupo Modelo

(569.7)

(C)

569.7

Equity in OCI of Grupo Modelo

(100)

(C)

100

Equity in income of associates

(50)

(5)

(55)

Cost of sales

16,000

1,500

17,500

Operating expenses

10,000

2,000

Nonrecurring income

(5,000)

(1,000)

(6,000)

Finance expenses

2,000

200

2,200

Income tax expense

1,700

300

Other comprehensive income

(150)

(100)

________

____ __

$ 43,127.1

(O)

455.3

12,455.3

(O)

1,980 (250) $

d. Consolidated Statement of Comprehensive Income, 2016 (in millions) Revenue $ 44,000 Cost of sales (17,500) Gross margin 26,500 Operating expenses (12,455.3) Operating income 14,044.7 Nonrecurring income 6,000 Equity in income of associates 55 Finance expenses (2,200) Income before tax 17,899.7 Tax expense (1,980) Net income 15,919.7 Other comprehensive income 250 Comprehensive income $ 16,169.7 Consolidated Balance Sheet, December 31, 2016 (in millions) Assets Current assets Investment securities Investment in associates Property, plant and equipment, net Intangible assets Goodwill Total assets Liabilities and shareholders’ equity Liabilities: Current liabilities Trade and other payables Deferred tax liabilities Employee benefit liability Loans and borrowings Total liabilities Shareholders’ equity: Issued capital Share premium Retained earnings (1) Accumulated other comprehensive income (2) Total shareholders’ equity Total liabilities and shareholders’ equity (1) $29,000 + $15,919.7 - $2,100 = $42,819.7 (2) $2,000 + $250 = $2,250

23,000 310 229 33,059.4 37,672.4 69,592 $ 163,862.8

24,000 3,200 12,594 2,000 58,299.1 100,093.1

1,700 17,000 42,819.7 2,250 63,769.7 $ 163,862.8

P4.15 Cost Method and Eliminating Entries Three Years After Acquisition (see related P4.3) Calculation of Investment balance at January 1, 2020 following the complete equity method: Investment in Sunset Coast, January 1, 2018 Sunset Coast’s reported income, 2018-2019 Sunset Coast’s reported dividends, 2018-2019 (50% of reported income) Revaluation write-offs, 2018-2019: Plant assets [($500,000)/10] x 2 Identifiable intangibles ($1,000,000/5) x 2 Goodwill impairment, 2019 Investment in Sunset Coast, January 1, 2020

$ 5,000,000 850,000 (425,000) 100,000 (400,000) (100,000) $ 5,025,000

Under LIFO and increasing inventory, the acquisition date revalued inventory is assumed to still be on hand. Consolidation working paper eliminating entries for 2020: (C) Dividend income Dividends – Sunset Coast (0.5 x $400,000)

200,000 200,000

(A) Investment in Sunset Coast 25,000 Shareholders’ equity—Puffin, 1/1 25,000 Using the cost method, the investment balance on Puffin’s books is $5,000,000. This entry adjusts the investment to the complete equity method. (E) Shareholders’ equity—Sunset Coast, 1/1 1,825,000 Investment in Sunset Coast 1,825,000 Sunset Coast’s shareholders’ equity, January 1, 2018 = $1,400,000 (acquisition cost $5,000,000 less excess over book value $3,600,000). Sunset Coast’s shareholders’ equity, January 1, 2020 = acquisition-date equity + net income less dividends for 2018 and 2019 = $1,400,000 + (1 – 0.5) ($850,000) = $1,825,000. (R) Identifiable intangibles Goodwill Inventory Plant assets, net Investment in Sunset Coast

600,000 3,400,000 400,000 400,000 3,200,000

Revaluations at January 1, 2020 = original revaluations less write-offs for 2018 and 2019. Goodwill at January 1, 2020 = $3,600,000 + $400,000 + $500,000 $1,000,000) = $3,500,000 original value, less $100,000 in impairment = $3,400,000. (O) Plant assets, net Amortization expense Depreciation expense Identifiable intangibles

50,000 200,000 50,000 200,000

Note: Eliminating entries (E), (R) and (O) are the same as in P4.3, when Puffin uses the complete equity method on its own books.

P4.16 Cost Method and Eliminating Entries, Four Years After Acquisition (see related P4.12) (in thousands) Peerless’ trial balance from P4.12 is adjusted to amounts appearing when Peerless uses the cost method. Balances for the investment, retained earnings, Jan. 1 and AOCI, Jan. 1 accounts are affected. There are no accounts for equity in net income or equity in OCI. There is no dividend income since Sound Telecom does not declare dividends during 2018-2021. Consolidation Working Paper, December 31, 2021 Trial Balances Taken From Books Dr (Cr)

Eliminations

(in thousands)

Peerless Network

Sound Telecom

Current assets

$ 175,000

Plant assets, net

860,000

410,000

(O-3)

4,000

28,000 (R)

1,246,000

Identifiable intangibles

40,000

10,000

(R)

4,000

2,000 (O-1)

52,000

Investment in Sound Telecom

400,000

-14,000

75,000 (E) 339,000 (R)

(A) (R)

363,000

1,000 (O-2)

50,000

Consolidated Balances Dr (Cr) $

225,000

Goodwill

Liabilities

(898,500)

(390,200)

Capital stock

(50,000)

(10,000)

(E)

10,000

Retained earnings, Jan. 1 (1)

(477,000)

(62,000)

(E)

62,000

13,000 (A)

(490,000)

AOCI, Jan. 1 (2)

(24,000)

(3,000)

(E)

3,000

1,000 (A)

(25,000)

Sales revenue

(1,200,000)

(650,000)

(1,850,000)

Cost of sales

800,000

450,000

1,250,000

Operating expenses

375,000

195,000

(500)

200

________

$ 463,000

Other comprehensive income $

362,000 (1,288,700)

(O-1) (O-2)

2,000 1,000

(50,000)

4,000 (O-3)

569,000 (300) $

(1) Peerless’ retained earnings, Jan. 1 = $490,000 - $13,000 = $477,000; $13,000 = total equity in net income recognized 20182020, using the complete equity method. (2) Peerless’ AOCI, Jan. 1 = $25,000 - $1,000 = $24,000; $1,000 = total equity in OCI recognized 2018-2020, using the complete equity method.

No eliminating entry (C) is required since Sound Telecom did not declare dividends in 2021. Eliminating entry (A) adjusts Peerless’ investment account to its correct balance at January 1, 2021, following the complete equity method. The entry is shown in journal entry format below. The credits to retained earnings and AOCI are total equity in net income 2018-2020 and total equity in OCI 2018-2020, respectively. (A) Investment in Sound Telecom Retained earnings, Jan. 1 AOCI, Jan. 1

14,000 13,000 1,000

P4.17 Consolidation After Four Years, Cost Method (see related P4.8) (in thousands) Eliminating entry (A) adjusts Perth’s beginning investment and retained earnings accounts to the values it would report if it used the complete equity method. The change in both accounts to the beginning of 2020 is calculated as follows: Change in Sharbot’s retained earnings, 2017-2019 ($2,000 + $16,000 $4,000) Revaluation write-offs for 2017-2019: Plant assets ($8,000/20) x 3 Identifiable intangibles ($10,000/5) x 3 Goodwill impairment Adjustment

$ 14,000 1,200 (6,000) (2,000) $ 7,200

Eliminating entry (C) is not required because Sharbot does not declare and pay dividends in 2020. Eliminating entries (E), (R), and (O) are the same as when Perth uses the complete equity method; see the solution to P4.8.

Consolidation Working Paper, December 31, 2020 Trial Balances Taken From Books Dr (Cr)

Eliminations

Perth

Sharbot

Current assets

$ 5,000

Plant assets, net

34,800

28,000

(O)

400

6,800

(R)

56,400

(R)

4,000

2,000

(O)

2,000

16,000

(A)

7,200

18,000

(E)

5,200

(R)

500

(O)

Intangibles Investment in Sharbot

Goodwill (1)

Consolidated Balances Dr (Cr)

(in thousands)

2,500

Liabilities

(22,000)

(10,000)

Capital stock

(15,000)

(2,000)

Retained earnings, Jan. 1

(17,800)

(16,000)

(R)

8,000

7,500

7,500 (32,000)

(E)

2,000

(15,000) 7,200

(E)

(A)

(25,000)

16,000

Sales revenue

(25,000)

(14,000)

(39,000)

Cost of sales

20,000

8,000

28,000

Operating expenses

4,000

3,500

(O)

2,100 $

39,700

______ $

39,700

(1) Original goodwill = $16,000 - $4,000 + $8,000 - $10,000 = $10,000; cumulative impairment to the beginning of 2020 is $2,000.

9,600 $

CHAPTER 5 SOLUTIONS TO MULTIPLE CHOICE QUESTIONS, EXERCISES AND PROBLEMS MULTIPLE CHOICE QUESTIONS 1.

b Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value Plant and equipment revaluation Identifiable intangibles Fair value of identifiable net assets Goodwill

$ 91,700,000 6,300,000 98,000,000 $ 13,000,000 (25,000,000) 40,000,000 28,000,000 $ 70,000,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Pomegranate’s goodwill: $91,700,000 – (90% x $28,000,000) Goodwill to noncontrolling interest

$ 70,000,000 66,500,000 $ 3,500,000

Goodwill is allocated 95% to the controlling interest and 5% to the noncontrolling interest. (R) Identifiable intangibles Goodwill Plant and equipment Investment in Starfruit (1) Noncontrolling interest in Starfruit (2)

40,000,000 70,000,000 25,000,000 80,000,000 5,000,000

(1) [90% x ($40,000,000 - $25,000,000)] + $66,500,000 (2) [10% x ($40,000,000 - $25,000,000)] + $3,500,000

c (R) Identifiable intangibles Goodwill Plant and equipment Investment in Starfruit (1) Noncontrolling interest in Starfruit (2) (1) [90% x ($24,000,000 - $20,000,000)] + (95% x $68,000,000) (2) [10% x ($24,000,000 - $20,000,000)] + (5% x $68,000,000)

24,000,000 68,000,000 20,000,000 68,200,000 3,800,000

Starfruit net income Revaluation write-offs: Plant and equipment depreciation Identifiable intangibles amortization Goodwill impairment loss

Equity in Net Income $ 6,750,000

NCI in Net Income $ 750,000

2,250,000 (7,200,000) (475,000) $ 1,325,000

250,000 (800,000) (25,000) $ 175,000

c 10% x ($13,000,000 + $40,000,000 – $25,000,000) = $2,800,000

c Noncontrolling interest in net income = $750,000 + $250,000 – $800,000 = Noncontrolling interest in OCI = 10% x $100,000 = Noncontrolling interest in comprehensive income

$ 200,000 10,000 $ 210,000

d (E) Shareholders’ equity Investment in Starfruit Noncontrolling interest in Starfruit (R) Identifiable intangibles Plant and equipment Investment in Starfruit (1) Noncontrolling interest in Starfruit (2)

13,000,000 11,700,000 1,300,000

40,000,000 25,000,000 14,300,000 700,000

(1) Investment in Starfruit balance on Pomegranate’s books is $26,000,000 (= $20,000,000 cost + $6,000,000 gain on acquisition). Elimination of the investment in (R) is the remainder of the investment balance, after elimination (E). (2) The credit to noncontrolling interest in (R) brings the noncontrolling interest to fair value, after elimination (E).

a There is no goodwill when the acquisition is a bargain purchase.

10.

EXERCISES E5.1

Date of Acquisition Consolidation Eliminating Entries a. Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value of Saylor Revaluations: Land Developed technology Goodwill

$ 20,000,000 4,000,000 24,000,000 $ 5,000,000 (200,000) 2,000,000

6,800,000 $ 17,200,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Pennant’s goodwill: $20,000,000 – (80% x $6,800,000) Goodwill to noncontrolling interest

$ $

17,200,000 14,560,000 2,640,000

b. Working paper eliminating entries, date of acquisition: (E) Shareholders’ equity – Saylor Investment in Saylor (80%) Noncontrolling interest in Saylor (20%) (R) Developed technology Goodwill Land Investment in Saylor (1) Noncontrolling interest in Saylor (2) (1) [80% x ($2,000,000 - $200,000)] + $14,560,000 = $16,000,000 (2) [20% x ($2,000,000 - $200,000)] + $2,640,000 = $3,000,000

5,000,000 4,000,000 1,000,000

2,000,000 17,200,000 200,000 16,000,000 3,000,000

E5.2

Equity in Net Income and Noncontrolling Interest in Net Income a. Acquisition cost Fair value of noncontrolling interest Total fair value Book value of Sun City Revaluation: Identifiable intangibles Goodwill

$ 41,750,000 14,750,000 56,500,000 $ 5,000,000 7,500,000

12,500,000 $ 44,000,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Palm’s goodwill: $41,750,000 – (70% x $12,500,000) Goodwill to noncontrolling interest

$ 44,000,000 33,000,000 $ 11,000,000

Goodwill is allocated in a 75:25 ratio. b.

2020 equity in net income and noncontrolling interest in net income:

Sun City’s reported net income Revaluation write-offs: Identifiable intangibles $7,500,000/5 Goodwill impairment loss

Total $ 10,000,000

Equity in NI $ 7,000,000

Noncontrolling Interest in NI $ 3,000,000

(1,500,000) (2,000,000) $ 6,500,000

(1,050,000) (1,500,000) $ 4,450,000

(450,000) (500,000) $ 2,050,000

E5.3

Consolidation Eliminating Entries, Date of Acquisition and Two Years Later a. Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value of Stardust Revaluations: Plant and equipment Identifiable intangibles Goodwill

$ 51,100,000 2,900,000 54,000,000 $ 2,000,000 (6,000,000) 8,000,000

4,000,000 $ 50,000,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Plaza’s goodwill: $51,100,000 – (90% x $4,000,000) Goodwill to noncontrolling interest

$ 50,000,000 47,500,000 $ 2,500,000

Goodwill is allocated in a 95:5 ratio. b. Working paper eliminating entries, date of acquisition: (E) Capital stock Retained earnings Accumulated OCI Investment in Stardust (90%) Noncontrolling interest in Stardust (10%) (R) Identifiable intangibles Goodwill Plant and equipment Investment in Stardust (1) Noncontrolling interest in Stardust (2) (1) [90% x ($8,000,000 - $6,000,000)] + $47,500,000 = $49,300,000 (2) [10% x ($8,000,000 - $6,000,000)] + $2,500,000 = $2,700,000

300,000 1,650,000 50,000 1,800,000 200,000

8,000,000 50,000,000 6,000,000 49,300,000 2,700,000

c. 2021 equity in net income and noncontrolling interest in net income:

Stardust’s reported net income Revaluation write-offs: Plant and equipment $6,000,000/10 Identifiable intangibles $8,000,000/4 Goodwill impairment loss 95:5

Equity in NI $ 3,600,000

Noncontrolling Interest in NI $ 400,000

600,000 540,000 (2,000,000) (1,800,000) (200,000) (190,000) $ 2,400,000 $ 2,150,000

60,000 (200,000) (10,000) $ 250,000

Total $ 4,000,000

Working paper eliminating entries, two years later: (C) Equity in NI Equity in OCL Investment in Stardust (E) Capital stock Retained earnings, beg. (1) Accumulated OCI, beg. (2) Investment in Stardust (90%) Noncontrolling interest in Stardust (10%)

2,150,000 9,000 2,141,000

300,000 4,450,000 75,000 4,342,500 482,500

(1) $1,650,000 + $2,800,000 = $4,450,000 (2) $50,000 + $25,000 = $75,000

(R) Identifiable intangibles Goodwill Plant and equipment Investment in Stardust (3) Noncontrolling interest in Stardust (4)

6,000,000 50,000,000 5,400,000 48,040,000 2,560,000

(3) [90% x ($6,000,000 - $5,400,000)] + $47,500,000 = $48,040,000 (4) [10% x ($6,000,000 - $5,400,000)] + $2,500,000 = $2,560,000

(O) Operating expenses Plant and equipment Identifiable intangibles Goodwill (N) Noncontrolling interest in NI Noncontrolling interest in OCL Noncontrolling interest

1,600,000 600,000 2,000,000 200,000

250,000 1,000 249,000

E5.4

Consolidating a VIE at the Date of Acquisition a. (E) Equity

250,000 Noncontrolling interest

b. (E) Equity

250,000

250,000 Noncontrolling interest

(R) Other assets Identifiable intangibles Goodwill

250,000

65,000 1,000,000 185,000

Noncontrolling interest Goodwill = $1,500,000 - $250,000 - $65,000 - $1,000,000 = $185,000.

E5.5

1,250,000

Consolidating a VIE in a Subsequent Year (E) Equity, beginning

250,000 Noncontrolling interest

(R) Other assets Identifiable intangibles Goodwill

250,000

65,000 1,000,000 185,000 Noncontrolling interest

(O) Depreciation expense Impairment loss

1,250,000

13,000 100,000 Other assets Identifiable intangibles

(N) NCI in income Noncontrolling interest $12,000 = $125,000 - $13,000 - $100,000.

13,000 100,000

12,000 12,000

E5.6

Date of Acquisition Consolidation Eliminating Entries, Bargain Purchase a. Acquisition cost Fair value of noncontrolling interest Total Book value of Sparrow Revaluations: Land Other plant assets, net Identifiable intangible assets Fair value of identifiable net assets Gain on acquisition

$ 20,000,000 4,000,000 24,000,000 $ 26,000,000 (700,000) (2,000,000) 3,000,000 26,300,000 $ (2,300,000)

Peregrine’s acquisition entry: Investment in Sparrow Merger expenses Cash Gain on acquisition

22,300,000 2,500,000 22,500,000 2,300,000

b. Working paper eliminating entries, date of acquisition: (E) Capital stock Retained earnings Accumulated other comprehensive loss Treasury stock Investment in Sparrow (80%) Noncontrolling interest in Sparrow (20%) (R) Identifiable intangible assets Noncontrolling interest in Sparrow (1) Other plant assets, net Land Investment in Sparrow (2)

3,000,000 25,000,000 1,500,000 500,000 20,800,000 5,200,000

3,000,000 1,200,000 2,000,000 700,000 1,500,000

(1) $5,200,000 – $4,000,000 = $1,200,000 adjustment needed to bring the NCI balance to its fair value at the date of acquisition. (2) $22,300,000 – $20,800,000 = $1,500,000 to eliminate the remainder of the investment balance.

E5.7

Goodwill, Equity Method, Eliminating Entries, First Year (see related E4.3) (in thousands) a. Calculation of goodwill is as follows: Acquisition cost Fair value of noncontrolling interest Total Book value of San Jose Cable Revaluation: Identifiable intangibles Goodwill

$ 200,000 50,000 250,000 $ 28,200 50,000

78,200 $ 171,800

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Playtel’s goodwill: $200,000 – (75% x $78,200) Goodwill to noncontrolling interest

$ 171,800 141,350 $ 30,450

b. 2020 equity in net income and noncontrolling interest in net income:

San Jose’s reported net income Revaluation write-off: Identifiable intangibles impairment

Total $ 4,000

Equity in NI $ 3,000

(1,000) $ 3,000

(750) $ 2,250

Noncontrolling interest in NI $ 1,000

(250) 750

c. Consolidation working paper eliminating entries for 2020: (C) Equity in net income of San Jose Investment in San Jose (E) Common stock, $1 par Additional paid-in capital Retained deficit, January 1 Treasury stock Investment in San Jose Noncontrolling interest in San Jose

2,250 2,250

5,000 25,000 1,000 800 21,150 7,050

(R) Identifiable intangibles Goodwill Investment in San Jose (1) Noncontrolling interest in San Jose (2)

50,000 171,800 178,850 42,950

(1) (75% x $50,000) + $141,350 (2) (25% x $50,000) + $30,450

(O) Impairment losses Identifiable intangibles

1,000 1,000

(N) Noncontrolling interest in net income Noncontrolling interest in San Jose

E5.8

750 750

Consolidation Eliminations Several Years After Acquisition a. Paramount’s acquisition cost Fair value of noncontrolling interest Total Book value, date of acquisition Revaluations: Accounts receivable Inventory Equipment Patents Deferred tax liabilities Goodwill

$ 2,910,000 790,000 3,700,000 $1,500,000 (100,000) (125,000) (400,000) 200,000 (75,000)

1,000,000 $ 2,700,000

Paramount’s share of goodwill = $2,910,000 – (75% x $1,000,000) = $2,160,000 Noncontrolling interest’s share of goodwill = $540,000 (20%)

(80%)

January 2015 balance Change in Sun’s retained earnings, 2015-2020: ($1,800,000 – $800,000), divided 75:25 Write-off of Sun’s identifiable net asset revaluations, 2015-2020: ($100,000 + $125,000 + $240,000 – $200,000 + $60,000), divided 75:25 Goodwill impairment, 2015-2020: ($2,700,000 – $2,000,000), divided 80:20 Balance, end of 2020 (E)

Investment $ 2,910,000

Noncontrolling interest $ 790,000

750,000

250,000

243,750

81,250

(560,000) $ 3,343,750

(140,000) 981,250

Shareholders’ equity-Sun Investment in Sun Noncontrolling interest in Sun

2,500,000 1,875,000 625,000

(R) Goodwill Equipment, net (1) Deferred tax liabilities Investment in Sun (2) Noncontrolling interest in Sun (3)

2,000,000 160,000 15,000 1,468,750 356,250

(1) $400,000 – [(6/10) x $400,000] (2) (80% x $2,000,000) – (75% x $175,000) (3) (20% x $2,000,000) – (25% x $175,000)

E5.9

Consolidation Eliminating Entries Several Years After Acquisition (in thousands) a. Acquisition cost Fair value of noncontrolling interest Total Book value, date of acquisition Revaluations: Plant and equipment Favorable lease agreements Gaming licenses Deferred tax liabilities Goodwill

$ 41,450 13,550 55,000 $

4,000 (15,000) 5,000 7,000 (3,000)

Palomar’s share of goodwill = $41,450 – (65% x -$2,000) = $42,750 Noncontrolling interest’s share of goodwill = $14,250 (25%)

2,000 $ 57,000 (75%)

b. Investment $ 41,450 6,825

Date of acquisition cost Change in Sahara’s retained earnings, 2016-2019: ($12,000 – $1,500) x 65% Revaluation write-offs, identifiable net assets, 2016-2019: + Plant and equipment [4 x ($15,000/20)] x 65% - Favorable leases $5,000 x 65% - Gaming licenses [4 x ($7,000/7)] x 65% + Deferred tax reversals $2,200 x 65% Goodwill impairment losses, 2016-2019 $3,600 x 75% Balance, January 1, 2020 + Equity in NI for 2020 [($2,550 + $15,000/20 - $7,000/7 + $300) x 65%] – ($1,000 x 75%) - Dividends (65% x $200) Investment balance, December 31, 2020

c. (C) Equity in NI

1,950 (3,250) (2,600) 1,430 (2,700) 43,105 940 (130) $ 43,915

940

Dividends Investment in Sahara (E) Capital stock RE, January 1 Investment in Sahara Noncontrolling interest (R) Gaming licenses Goodwill Plant and equipment Deferred tax liabilities Investment in Sahara (1) Noncontrolling interest (2)

130 810

2,500 12,000 9,425 5,075

3,000 53,400 12,000 800 33,680 9,920

(1) [65% x ($3,000 - $12,000 - $800)] + (75% x $53,400) = $33,680 (2) [35% x ($3,000 - $12,000 - $800)] + (25% x $53,400) = $9,920

(O) Plant and equipment Deferred tax liabilities Goodwill impairment loss Amortization expense Depreciation expense Tax expense Goodwill Gaming licenses

750 300 1,000 1,000

(N) Noncontrolling interest in NI (3) Dividends Noncontrolling interest (3) [($2,550 + $15,000/20 - $7,000/7 + $300) x 35%] – ($1,000 x 25%) = $660

750 300 1,000 1,000

660 70 590

E5.10 Consolidation Working Paper, Date of Acquisition (see related E3.10) a. Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value of Sylvan Goodwill

$ 43,000,000 4,250,000 47,250,000 17,000,000 $ 30,250,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Princecraft’s goodwill: $43,000,000 – (90% x $17,000,000) Goodwill to noncontrolling interest

$ 30,250,000 27,700,000 $ 2,550,000

b. Consolidation Working Paper Accounts Taken From Books

(in thousands)

Princecraft Dr (Cr)

Sylvan Dr (Cr)

Cash

17,000

Eliminations

2,000

Consolidated Balances Dr (Cr) $

19,000

Other current assets

20,000

8,000

28,000

Property and equipment, net

70,000

15,000

85,000

Investment in Sylvan

43,000

15,300 (E) 27,700 (R)

Goodwill

(R)

30,250

Total liabilities

(30,000)

(8,000)

Common stock

(15,000)

(5,000)

(E)

5,000

(15,000)

Additional paid-in capital

(45,000)

(10,000)

(E)

10,000

(45,000)

Retained earnings

(60,000)

(2,000)

(E)

2,000

(60,000)

(38,000)

Noncontrolling interest

1,700 (E) ______

Total

30,250

______

$ 47,250

2,550 (R) $47,250

(4,250) $

Note: Princecraft’s balance sheet above reflects the following acquisition entry (in thousands): Investment in Sylvan Cash

43,000 43,000

c. Consolidated Balance Sheet, Date of Acquisition (in thousands) Assets Cash Other current assets Property and equipment, net Goodwill Total assets Liabilities and shareholders’ equity Total liabilities Shareholders’ equity Princecraft’s shareholders’ equity: Common stock Additional paid-in capital Retained earnings Total Princecraft’s shareholders’ equity Noncontrolling interest Total shareholders’ equity Total liabilities and shareholders’ equity

19,000 28,000 85,000 30,250 $ 162,250 $

38,000

15,000 45,000 60,000 120,000 4,250 124,250 $ 162,250

E5.11 Consolidation Eliminating Entries, Date of Acquisition: U.S. GAAP and IFRS (in thousands) a. Plummer’s acquisition entry: Investment in Softek Merger expenses Cash Common stock, par value Additional paid-in capital

100,000 2,000 2,000 200 99,800

Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value of Softek Revaluations: Plant assets Trademarks Customer lists Goodwill

$ 100,000 9,000 109,000 $ 8,900 (6,000) 2,000 3,000

7,900 $ 101,100

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Plummer’s goodwill: $100,000 – (90% x $7,900) Goodwill to noncontrolling interest

$ 101,100 92,890 $ 8,210

Consolidation eliminating entries: (E) Common stock Additional paid-in capital Retained deficit Accumulated OCL Treasury stock Investment in Softek Noncontrolling interest in Softek (R) Trademarks Customer lists Goodwill Plant assets, net Investment in Softek (1) Noncontrolling interest in Softek (2)

400 20,000 10,000 1,000 500 8,010 890

2,000 3,000 101,100 6,000 91,990 8,110

(1) [90% x ($2,000 + $3,000 – $6,000)] + $92,890 = $91,990 (2) [10% x ($2,000 + $3,000 – $6,000)] + $8,210 = $8,110

b. Consolidation eliminating entries: (E) Common stock Additional paid-in capital Retained deficit Accumulated OCL Treasury stock Investment in Softek Noncontrolling interest in Softek

400 20,000 10,000 1,000 500 8,010 890

(R) Trademarks Customer lists Goodwill Noncontrolling interest in Softek (3) Plant assets, net Investment in Softek

2,000 3,000 92,890 100 6,000 91,990

(3) 10% x ($2,000 + $3,000 – $6,000) = $(100)

Note: The IFRS alternative valuation method attributes no goodwill to the noncontrolling interest. The noncontrolling interest balance at the date of acquisition is 10% x the fair value of Softek’s identifiable net assets, or 10% x $7,900 = $790.

E5.12 Consolidation at Date of Acquisition, IFRS and U.S. GAAP (in millions) a. Calculation of goodwill: Acquisition cost Less 49% fair value of identifiable net assets Goodwill

€ 39.00 (2.45) € 36.55

49% x €5

Noncontrolling interest = 51% x €5 = €2.55 b. (E) Shareholders’ equity Investment in Compador Noncontrolling interest (R) Current assets Current liabilities and provisions Goodwill Noncurrent assets Investment in Compador

5.00 2.45 2.55

0.10 0.10 36.55 0.20 36.55

Note: There is no revaluation adjustment to the noncontrolling interest in (R) because the total fair value of the identifiable net assets equals book value.

c. Calculation of goodwill: Acquisition cost Fair value of noncontrolling interest Total fair value Book value Net revaluations of identifiable net assets Fair value of identifiable net assets Goodwill

€ 39.00 38.00 77.00 € 5.00 -5.00 € 72.00

Goodwill to the controlling interest = €39.00 – (49% x €5.00) = €36.55 (equal to the amount reported using the IFRS alternative). Noncontrolling interests = fair value at date of acquisition = €38. d. (E) Shareholders’ equity Investment in Compador Noncontrolling interest (R) Current assets Current liabilities and provisions Goodwill Noncurrent assets Investment in Compador Noncontrolling interest

5.00 2.45 2.55

0.10 0.10 72.00 0.20 36.55 35.45

E5.13 Consolidation Eliminating Entries, One Year After Acquisition, IFRS a. Calculation of goodwill: Acquisition cost Share of fair value of identifiable net assets: ( €5,000,000 x 40%) Goodwill Noncontrolling interests = 60% x €5,000,000 = €3,000,000.

€ 70,000,000 2,000,000 € 68,000,000

b. (C) Equity in NI of E-Minus Investment in E-Minus

2,400,000 2,400,000

40% x €6,000,000 = €2,400,000.

(E) Shareholders’ equity Investment in E-Minus Noncontrolling interest (R) Goodwill Investment in E-Minus

5,000,000 2,000,000 3,000,000

68,000,000 68,000,000

Eliminating entry (O) is not required since goodwill is not impaired. (N) Noncontrolling interest in NI Noncontrolling interest

3,600,000 3,600,000

€6,000,000 x 60% = €3,600,000.

E5.14 Consolidated Balance Sheet, Date of Acquisition: U.S. GAAP and IFRS a. Calculation of goodwill: Acquisition cost $3,000,000 + (200,000 x $80) Fair value of noncontrolling interest Total fair value Book value of Powerline Revaluations: Current assets Plant and equipment Brand names Goodwill

$ 19,000,000 1,800,000 20,800,000 $ 4,500,000 (500,000) (6,000,000) 3,000,000

1,000,000 $ 19,800,000

Allocation of goodwill between controlling and noncontrolling interest: Total goodwill Microsoft’s goodwill: $19,000,000 – (90% x $1,000,000) Goodwill to noncontrolling interest

$ 19,800,000 18,100,000 $ 1,700,000