ACCOUNTING FOR BUSINESS COMBINATION THEORIES CH4-7

Question 1

The accounting for business combinations is currently prescribed under
a. PAS 22
b. PFRS 3
c. PFRS 3 – revised 2008
d. PAS 27 – revised 2011

Answer 1

c. PFRS 3 – revised 2008

Question 2

KINK Co. has acquired an investment in a subsidiary, TWIST Co., with the
view to dispose of this investment within six months. The investment in
the subsidiary has been classified as held for sale and is to be
accounted for in accordance with PFRS 5. The subsidiary has never been
consolidated. How should the investment in the subsidiary be treated in
the financial statements?
a. Purchase accounting should be used.
b. Equity accounting should be used.
c. The subsidiary should not be consolidated but PFRS 5 should be used.
d. The subsidiary should remain off balance sheet.

Answer 2

c. The subsidiary should not be consolidated but PFRS 5 should be used.

Question 3

The consolidation theory currently applied under PFRSs is
a. Proprietary theory/Proportionate consolidation theory/
b. Parent company theory
c. Entity theory/ Contemporary theory
d. Hybrid theory/ Traditional theory

Answer 3

c. Entity theory/ Contemporary theory

Question 4

The proprietary theory is applied under which of the following
standards?
a. PAS 31
b. PAS 36
c. PFRS 3
d. PAS 27

Answer 4

a. PAS 31

Question 5

What is the basis for consolidation?
a. significant influence
b. joint control
c. control
d. variable returns

Answer 5

c. control

Question 6

FALLACIOUS Co. controls an overseas entity MISLEADING Co. Because of
exchange controls, it is difficult to transfer funds out of the country
to the parent entity. FALLACIOUS Co. owns 100% of the voting power of
MISLEADING Co. How should MISLEADING Co. be accounted for?
a. It should be excluded from consolidation and the equity method should
be used.
b. It should be excluded from consolidation and stated at cost.
c. It should be excluded from consolidation and accounted for in
accordance with PFRS 9.
d. It is not permitted to be excluded from consolidation because control
is not lost.

Answer 6

d. It is not permitted to be excluded from consolidation because control
is not lost.

Question 7

TIPPLE has control over the composition of DRINK’s board of directors. TIPPLE owns 49% of DRINK and is the largest shareholder. TIPPLE has an
agreement with Mr. Bartek, which owns 10% of DRINK, whereby Mr. Bartek will always vote in the same way as TIPPLE. Can TIPPLE exercise control over DRINK?
a. TIPPLE cannot exercise control because it owns only 49% of the voting rights.
b. TIPPLE cannot exercise control because it can control only the makeup of the board and not necessarily the way the directors vote.
c. TIPPLE can exercise control solely because it has an agreement with Mr. Bartek for the voting rights to be used in whatever manner TIPPLE wishes.
d. TIPPLE can exercise control because it controls more than 50% of the voting power, and it can govern the financial and operating policies of DRINK through its control of the board of directors.

Answer 7

d. TIPPLE can exercise control because it controls more than 50% of the voting power, and it can govern the financial and operating policies of DRINK through its control of the board of directors.

Question 8

On January 1, 20x1, MIME Co. acquired one-third equity interest in IMITATE Co. which resulted in MIME having significant influence over IMITATE Co. On July 1, 20x4, MIME Co. acquired a further one-third equity interest in IMITATE Co. which resulted in MIME having a controlling interest over IMITATE. For financial reporting purposes, which of the following statements is correct?
a. Goodwill shall be computed on July 1, 20x4 and the one-third equity interest acquired in 20x1 does not affect the goodwill computation.
b. Goodwill shall be computed on July 1, 20x4 and the one-third equity interest acquired in 20x1 affects the goodwill computation.
c. Goodwill shall be computed both on January 1, 20x1 and July 1, 20x4 because the transactions are considered to constitute a ‘step acquisition.’
d. Goodwill shall be computed only on January 1, 20x1. The subsequent change in ownership interest which did not result to loss of control is accounted for directly in equity.

Answer 8

b. Goodwill shall be computed on July 1, 20x4 and the one-third equity interest acquired in 20x1 affects the goodwill computation.

Question 9

LASSITUDE Co. owns 50% of WEARINESS Co.’s voting shares. The board of directors consists of six members; LASSITUDE Co. appoints three of them and WEARINESS Co. appoints the other three. The casting vote at meetings always lies with the directors appointed by LASSITUDE Co. Does LASSITUDE Co. have control over WEARINESS Co.?
a. No, control is equally split between LASSITUDE Co. and FATIGUE Co.
b. Yes, LASSITUDE Co. holds 50% of the voting power and has the casting vote at board meetings in the event that there is not a majority decision.
c. No, LASSITUDE Co. owns only 50% of the entity’s shares and therefore does not have control.
d. No, control can be exercised only through voting power, not through a casting vote.

Answer 9

b. Yes, LASSITUDE Co. holds 50% of the voting power and has the casting vote at board meetings in the event that there is not a majority decision.

Question 10

VOLUBLE TALKATIVE Co. has sold all of its shares to the public. The company was formerly a state-owned entity. The national regulator has retained the power to appoint the board of directors. An overseas entity acquires 55% of the voting shares, but the regulator still retains its power to appoint the board of directors. Who has control of the entity?
a. The national regulator.
b. The overseas entity.
c. Neither the national regulator nor the overseas entity.
d. The board of directors.

Answer 10

c. Neither the national regulator nor the overseas entity.

Question 11

A manufacturing group has just acquired a controlling interest in a football club that is listed on a stock exchange. The management of the manufacturing group wishes to exclude the football club from the consolidated financial statements on the grounds that its activities are dissimilar. How should the football club be accounted for?
a. The entity should be consolidated as there is no exemption from consolidation on the grounds of dissimilar activities.
b. The entity should not be consolidated using the purchase method but should be consolidated using equity accounting.
c. The entity should not be consolidated and should appear as an investment in the group accounts.
d. The entity should not be consolidated; details should be disclosed in the financial statements.

Answer 11

a. The entity should be consolidated as there is no exemption from consolidation on the grounds of dissimilar activities.

Question 12

On January 1, 20x1, TRICE Co. obtained control of INSTANT Co. Subsequently, there have changes in the ownership interests over INSTANT; however, the TRICE’s control over INSTANT was unaffected. Which of the following statements is incorrect?
a. Once control has been achieved, further transactions whereby the parent entity acquires further equity interests from non-controlling interests, or disposes of equity interests but without losing control, are accounted for as equity transactions
b. The carrying amounts of the controlling and non-controlling interests are adjusted to reflect the changes in their relative interests in the subsidiary.
c. Any difference between the amount by which the non-controlling interests is adjusted and the fair value of the consideration paid or received is recognized directly in equity and attributed to the owners of the parent.
d. The carrying amount of any goodwill should be adjusted and gain or loss is recognized in profit or loss.

Answer 12

d. The carrying amount of any goodwill should be adjusted and gain or loss is recognized in profit or loss.

Question 13

Which of the following exemplifies the application of the ‘entity theory’ of consolidation?
a. Consolidated profit = Parent’s separate profit + Share of Parent in Subsidiary’s profit
b. Consolidated profit = Profit of the group
c. Consolidated profit = Profit of the group – NCI profit
d. Consolidated profit = Parent’s separate profit + NCI profit

Answer 13

b. Consolidated profit = Profit of the group

Question 14

Under the ‘entity theory’ of consolidation, the consolidated profit equals
a. Parent’s separate profit + Share of Parent in Subsidiary’s profit
b. Profit of the group – NCI profit
c. Parent’s separate profit + NCI profit
d. Profit attributable to owners of the parent + Profit attributable to NCI

Answer 14

d. Profit attributable to owners of the parent + Profit attributable to NCI

Question 15

During the year, COMITY Co. sold equipment to its subsidiary, MUTUAL COURTESY Co., at a gain. The equipment has a remaining useful life of 5 years. Which of the following statements is true in the preparation of the consolidated financial statements?
a. The gain is recognized immediately.
b. The gain is deferred and recognized only in the period the equipment is sold to an unrelated party.
c. The carrying amount of the asset and the related depreciation are adjusted downwards.
d. The carrying amount of the asset and the related depreciation are adjusted upwards.

Answer 15

c. The carrying amount of the asset and the related depreciation are adjusted downwards.

Question 16

During the year, BAFFLE Co. sold part of its controlling interest in TO COFUSE Co. The sale did not affect BAFFLE’s control over TO CONFUSE. Which of the following statements is true?
a. The equity adjustment would be larger if BAFFLE measures NCI at the NCI’s proportionate share in the subsidiary’s net identifiable assets rather than at fair value.
b. The equity adjustment would be larger if BAFFLE measures NCI at fair value rather than at the NCI’s proportionate share in the subsidiary’s net identifiable assets.
c. There would be no equity adjustment if the net disposal proceeds equal the original cost of the interest sold.
d. c and d

Answer 16

a. The equity adjustment would be larger if BAFFLE measures NCI at the NCI’s proportionate share in the subsidiary’s net identifiable assets rather than at fair value.

Question 17

Which of the following terms best describes the financial statements of a parent in which the investments are accounted for on the basis of the direct equity interest?
a. Single financial statements
b. Combined financial statements
c. Separate financial statements
d. Consolidated financial statements

Answer 17

c. Separate financial statements

Question 18

Are the following statements true or false?
1. Consolidated financial statements must be prepared using uniform accounting policies.
2. The non-controlling interest in the net assets of subsidiaries may be shown by way of note to the consolidated statement of financial position.
a. False, False
b. False, True
c. True, False
d. True, True

Answer 18

c. True, False

Question 19

Which of the following is not a valid condition that will exempt an entity from preparing consolidated financial statements?
a. The parent entity is a wholly owned subsidiary of another entity.
b. The parent entity’s debt or equity capital is not traded on the stock exchange.
c. The ultimate parent entity produces consolidated financial statements available for public use that comply with PFRS.
d. The parent entity is in the process of filing its financial statements with a securities commission.

Answer 19

d. The parent entity is in the process of filing its financial statements with a securities commission.

Question 20

Where should non-controlling interests be presented in the consolidated balance sheet?
a. Within long-term liabilities.
b. In between long-term liabilities and current liabilities.
c. Within the parent shareholders’ equity.
d. Within equity but separate from the parent shareholders’ equity.

Answer 20

d. Within equity but separate from the parent shareholders’ equity.