10.03 Flashcards
On January 1, 20X1, Prim, Inc. acquired all the outstanding common shares of Scarp, Inc. for cash equal to the book value of the stock. The carrying amount of Scarp’s assets and liabilities approximated their fair values, except that the carrying amount of its building was more than fair value. In preparing Prim’s 20X1 consolidated income statement, which of the following adjustments would be made?
- Depreciation expense would be decreased, and goodwill would be recognized.
- Depreciation expense would be increased, and goodwill would be recognized.
- Depreciation expense would be decreased, and no goodwill would be recognized.
- Depreciation expense would be increased, and no goodwill would be recognized.
Depreciation expense would be decreased, and goodwill would be recognized.
**Although the cost of the investment was equal to book values, the cost of the investment was greater than the fair values, because the carrying amount of Scarp’s building was more than its fair value. For consolidated statement purposes, the building would be written down to its lower fair value, and the excess of cost over fair values would be assigned to recognize goodwill. Since for consolidated purposes the building has a lower fair value than its carrying value, the depreciation expense taken on the carrying value would be greater than the depreciation expense for consolidated purposes. Thus, depreciation expense would be decreased in the consolidating process, and goodwill would be recognized.
When a parent company uses the cost method on its books to carry its investment in a subsidiary, which one of the following will be recorded by the parent on its books?
- Parent’s share of subsidiary’s net income/net loss.
- Parent’s amortization of goodwill resulting from excess investment cost over fair value of subsidiary’s net assets.
- Parent’s share of subsidiary’s cash dividends declared.
- Parent’s depreciation of excess investment cost over book values of subsidiary’s net assets.
Parent’s share of subsidiary’s cash dividends declared.
**Under the cost method of carrying an investment in a subsidiary, the parent does recognize its share of the subsidiary’s dividends declared and, ultimately, the cash received in payment of the dividend. The dividend income (CR.) so recognized by the parent would be eliminated in the consolidating process against the retained earnings decrease (DR.) recognized by the subsidiary.
If the parent uses the cost method to account for its investment in a subsidiary, the parent will recognize:
- the parent’s share of the subsidiary’s net income.
- the parent’s share of the subsidiary’s dividends.
- amortization of parent’s excess cost of investment over the book value of the subsidiary.
- the parent’s share of the subsidiary’s net loss.
the parent’s share of the subsidiary’s dividends.
**When a parent company uses the cost method to account for its investment in a subsidiary, the parent will recognize its share of the subsidiary’s dividends declared as income to the parent.
On January 1, year 1, Ritt Corp. purchased 80% of Shaw Corp.’s $10 par common stock for $975,000. On this date, the carrying amount of Shaw’s net assets was $1,000,000. The fair values of Shaw’s identifiable assets and liabilities were the same as their carrying amounts except for plant assets (net) with fair values of $100,000 in excess of their carrying amount. The fair value of the noncontrolling interest in Shaw on January 1, year 1, was $250,000. For the year ended December 31, year 1, Shaw had net income of $190,000 and paid cash dividends totaling $125,000.
In the January 1, year 1 consolidated balance sheet, goodwill should be reported at
$0
$ 75,000
$ 95,000
$125,000
$125,000
**The cost of acquisition is $975,000. The fair value of Shaw’s assets is equal to their book values plus the amount of the write-up, or $1,100,000 ($1,000,000 + 100,000). Goodwill is calculated as follows:
Consideration transferred $975,000
Plus: Fair value of noncontrolling interest 250,000
Less: Fair value of net identifiable assets $(1,100,000)
Amount of goodwill $ 125,000
On January 1, year 1, Ritt Corp. purchased 80% of Shaw Corp.’s $10 par common stock for $975,000. On this date, the carrying amount of Shaw’s net assets was $1,000,000. The fair values of Shaw’s identifiable assets and liabilities were the same as their carrying amounts except for plant assets (net) with fair values of $100,000 in excess of their carrying amount. The fair value of the noncontrolling interest in Shaw on January 1, year 1, was $250,000. For the year ended December 31, year 1, Shaw had net income of $190,000 and paid cash dividends totaling $125,000.
In the December 31, year 1 consolidated balance sheet, noncontrolling interest should be reported at
$200,000
$213,000
$233,000
$263,000
$263,000
**The percentage of the subsidiary’s stockholders’ equity not owned by the parent represents the noncontrolling interest’s share of the fair value of net assets of the subsidiary. The fair value of the noncontrolling interest is measured at the acquisition date, and adjusted in future periods for the portion of the acquiree’s income and dividends attributable to the noncontrolling interest. Therefore, the noncontrolling interest at 12/31/Y1 is calculated as follows:
Fair value of noncontrolling interests $250,000
Plus: Share of net income ($190,000 × 20%) 38,000
Less: Share of dividends ($125,000 × 20%) (25,000)
Noncontrolling interest 12/31/Y1 $ 263,000
Pride, Inc. owns 80% of Simba, Inc.’s outstanding common stock. Simba, in turn, owns 10% of Pride’s outstanding common stock. What percentage of the common stock cash dividends declared by the individual companies should be reported as dividends declared in the consolidated financial statements?
Dividends declared by Pride
Dividends declared by Simba
Dividends declared by Pride-90%
Dividends declared by Simba-0%
**This answer is correct because of the reciprocal ownership relationship that exists between the two companies. Pride (the acquirer) owns 80% of Simba (the acquiree), and Simba owns 10% of Pride. When Pride declares a cash dividend, 90% of it is distributed to outside parties and 10% goes to Simba. Because Simba is part of the consolidated entity, its 10% share is eliminated; thus, only 90% of dividends declared by Pride are reported in the consolidated statements. When Simba declares a dividend, 80% is distributed to Pride and 20% to outside parties. Pride’s 80% share is eliminated as an intercompany transaction and the remaining 20% is also excluded because, from the acquirer’s point of view, acquiree dividends do not represent dividends of the consolidated entity and must be eliminated.
On January 1, year 2, Ritt Corp. acquired 50,000 shares of Shaw Corp. stock which represented 80% of Shaw’s $10 par common stock for $19.50 per share. On the date of acquisition, the fair value of the 12,500 shares representing the noncontrolling interest in Shaw was $18 per share. On this date, the carrying amount of Shaw’s net assets was $1,000,000. The fair values of Shaw’s identifiable assets and liabilities were the same as their carrying amounts. For the year ended December 31, year 2, Shaw had net income of $190,000 and paid cash dividends totaling $125,000. In the December 31, year 2, consolidated balance sheet, noncontrolling interest should be reported at $200,000 $225,000 $233,000 $238,000
$238,000
**The percentage of the acquiree’s stockholders’ equity not owned by the acquirer company represents the noncontrolling interest. The acquisition date noncontrolling interest is valued based on the fair value of the shares, which is 12,500 (20% × 62,500) × $18 = $225,000. At 12/31/Y2 the noncontrolling interest is computed below
1/1/Y2 noncontrolling interest $225,000
Year 2 net income (20% × $190,000) 38,000
Year 2 dividends (20% × $125,000) (25,000)
Noncontrolling interest at 12/31/Y2 $238,000
Which one of the following is not a characteristic associated with intercompany transactions?
- Intercompany transactions must be eliminated in the consolidating process.
- Gains and losses must be eliminated in the consolidating process.
- Transactions that originate with a subsidiary must be eliminated in the consolidating process.
- Transactions between two subsidiaries to be consolidated with the same parent do not need to be eliminated.
Transactions between two subsidiaries to be consolidated with the same parent do not need to be eliminated.
**Intercompany transactions between two subsidiaries that will be consolidated with the same parent do need to be eliminated. Intercompany transactions (i.e., transactions between affiliated firms) must be eliminated regardless of whether the transactions are between the parent and its subsidiaries or between two subsidiaries of the same parent. The consolidated financial statements must reflect accounts and amounts as though intercompany transactions never occurred.
Sterling Corporation prepares its financial statements in accordance with IFRS. Sterling paid $10,000 of interest during the year. Sterling must report these finance costs on the statement of cash flows
- In operating activities.
- In either operating activities or financing activities.
- Only in financing activities.
- In investing activities or financing activities.
In either operating activities or financing activities.
** IFRS permits finance costs (interest expense) to be reported in either in the operating or financing section of the statement of cash flows. However, once it is disclosed in a particular section, it must be reported on a consistent basis.
At December 31, year 2, Spud Corp. owned 80% of Jenkins Corp.’s common stock and 90% of Thompson Corp.’s common stock. Jenkins’ year 2 net income was $100,000 and Thompson’s year 2 net income was $200,000. Thompson and Jenkins had no intercompany ownership or transactions during year 2. Combined year 2 financial statements are being prepared for Thompson and Jenkins in contemplation of their sale to an outside party. In the combined income statement, combined net income should be reported at $210,000 $260,000 $280,000 $300,000
$300,000
**Combined financial statements are financial statements prepared for companies that are owned by the same parent company or other owner. Combined financial statements are prepared by simply combining the subsidiaries’ financial statement classifications, with appropriate elimination of intercompany transactions, balances, and profit (loss). Thompson and Jenkins had no intercompany ownership or transactions during year 2, so combined net income is computed simply by adding the separate net incomes of the two companies ($100,000 + $200,000 = $300,000).
Rogo Corp.’s trial balance reflected the following account balances at December 31, year 1:
Accounts receivable (net) $16,000 Short-term investments 5,000 Accumulated depreciation on equipment and furniture 15,000 Cash 11,000 Inventory of merchandise 30,000 Equipment and furniture 25,000 Patent 4,000 Prepaid expenses 1,000 Land held for future business site 18,000
In Rogo Corp.’s December 31, year 1 balance sheet, the current assets total is $81,000 $73,000 $67,000 $63,000
$63,000
**Current assets are cash and other assets that are expected to be converted into cash, sold, or consumed either in 1 year or in the operating cycle, whichever is longer. Included in this category are cash, temporary investments in marketable securities, short-term receivables, inventories, and prepaid expenses. In this case, total current assets are $63,000.
Accounts receivable (net) $16,000 Short-term investments 5,000 Cash 11,000 Inventory of merchandise 30,000 Prepaid expenses 1,000 Total $63,000
Equipment and furniture ($25,000) and accumulated depreciation ($15,000) are reported in the property, plant, and equipment section. Patent ($4,000) is reported as an intangible asset, (always long-term), and land held for future business site ($18,000) is reported as a long-term investment.
