Chapter 2: Intercorporate Investments And Wholly Owned Subsidiaries (No Differential)

Question 1

Unconsolidated subsidiary

Answer 1

A subsidiary that is not consolidated with the parent company (shown as a balance sheet investment)

Question 2

Basic consolidation entry with dividends

Answer 2

(not a journal entry: consolidation worksheet only)

Dr. subsidiary common stock (ending book value)
Dr. subsidiary retained earnings (beg. book value)
Dr. parent income from subsidiary
Cr. subsidiary dividends declared
Cr. Parent investment in subsidiary

(beginning retained earnings because net income and dividends are removed separately)

Question 3

Consolidated retained earnings calculation

Answer 3

Parent beginning retained earnings
+ parent income from own operations
+ parent CUMULATIVE income from subsidiary
LESS parent dividend declared
= ending consolidated retained earnings

Question 4

Second and following years of ownership consolidation

Answer 4

Adjusted trial balance data used on consolidation worksheet

must check that beginning (after consolidation entries) consolidated retained earnings = ending consolidated retained earnings of previous period

Question 5

Equity method effect on consolidated income and consolidated ReE

Answer 5

If parent uses full equity method of accounting for the investment the the consolidated income should equal the parent’s net income
and
consolidated retained earnings should equal parent’s retained earnings

Question 6

balancing debits and credits in the consolidation worksheet

Answer 6

DR and CR entries in income statement and retained earnings sections are unlikely to be balanced, but because totals carry down the balance sheet portion will be

Question 7

Consolidation worksheet

Answer 7

a mechanism for combining the accounts of parent and subsidiary companies and making the necessary adjustments to present consolidated financial statements

Question 8

changing to the equity method if ownership percentage increases

Answer 8

Investor:
- adds any cost of acquiring additional interest
- does equity accounting going forward from the date of acquisition

Question 9

Equity accrual

Answer 9

under equity method of accounting

accrual of an investor’s proportion of investee’s gain or loss

usually an adjusting entry at the end of a period

Question 10

Corporate joint ventures

Answer 10

A corporation owned and operated by a small group of businesses, none of which owns the majority of the venture’s common stock

Question 11

Equity method accounting

Answer 11

Used when the investor has significant influence over investee
- this is generally when investor owns 20% or more of equity - but there are exceptions when influence is severely limited
- also used for corporate joint ventures
- original investment is recorded at cost
- investment is increased for proportion of investee’s income
- decreased for proportion of loss
- decreased for dividends (considered distributions of previous recognized income)

Question 12

Securities carried at fair value

Answer 12

Investor lacks control/ significant influence
- usually holds less than 20% ownership
- use fair value method
- dividends recorded as
Dr Cash
Cr. dividend income
- year end fair value adjustments made to an unrealized holding gain or loss income account (which is a temp account)

Question 13

Securities held at fair value: accounting for changes in # of shares

Answer 13

If from stock dividends/ splits/ reverse splits = no entry (no change in % ownership)

Purchases of additional shares
- recorded at total cost, same as initial purchases
- must evaluate to see if fair value still correct

sale of shares
- handled in same manner as sale of any other assets. If shares were purchased at different prices must determine which ones are being sold (cannot use weighted average method)

If no longer hold significant influence then stop using equity method to account for investment

Question 14

Accounting for sale of shares of common stock held under equity method

Answer 14

Same as sale of any non-current asset

• investment account adjusted to date for share of investee’s earnings
• gain or loss based on difference between carrying amount and proceeds received

if only sell part of ownership must reassess if equity method remains appropriate

Question 15

Calculating proportional income for equity method investment purchased mid-fiscal period

Answer 15

Investor accrues none of the income earned by the investee before the purchase date

investor may have to estimate amount of income, but if they hold significant influence they should be able to simply ask for post-purchase financial results

if estimating: assume income is earned uniformly throughout the year
year income x portion of the year x portion of ownership (shares held)

Question 16

accounting for a stock dividend, split, reverse split under equity method

Answer 16

not entry

Question 17

Accounting for the purchase of additional shares of stock held under the equity method

Answer 17

• Add cost of new shares to investment account
• apply equity method for revised percentage of ownership going forward
• must consider partial years. only recognize proportion of income from proportion of year held ownership

Question 18

Transactions between individual companies within a consolidated entry

Answer 18

May legitimately report sales, receivables, payables

BUT the consolidated entity must only report transactions with parties outside the entity

hence the consolidation process

Question 19

Accounting during the period for entities to be consolidated

Answer 19

Transactions are generally recorded without consideration of consolidation

• inter-company transactions may be recorded in separate accounts to facilitate elimination transactions
• adjusting and closing entries at the end of the period are prepared as usual (resulting balances go to the consolidation worksheet)

Question 20

3 part consolidation worksheet

Answer 20

Sections for (in given order)
1) income statement
2) statement of retained earnings (or possibly statement of stockholder’s equity)
3) balance sheet

titles of all account names in first column
then columns for:
- parent adjusted trial balance numbers
- subsidiary adjusted trial balance numbers
- consolidation debit entries
- consolidation credit entries
- consolidated statement totals

Question 21

Consolidation entries

Answer 21

Used in the consolidation worksheet to adjust totals of individual account balances to reflect what they would be if the companies were a single entity

Entries appear ONLY on the consolidation worksheet, they do not affect the books of either entity

also called “elimination” transactions

entries do not carry from period to period though some entries may be made in multiple periods

Question 22

Basic consolidation entry

Answer 22

(Prof. Tam’s “Elimination rule # 1”)

Removes the parent’s investment in subsidiary account and the subsidiary’s stockholders equity accounts (common stock and retained earnings)

Dr subsidiary common stock
Dr subsidiary retained earnings
Cr investment in subsidiary

entry is on consolidation worksheet only

Question 23

Accumulated depreciation consolidation entry

Answer 23

(Professor Tam’s elimination rule # 2)

Nets out accumulated depreciation at acquisition date against historical cost (because that is how it would be shown if asset had been purchased)

consolidation worksheet entry:
Dr accumulated depreciation
Cr asset

Exact same entry will be repeated every year of consolidation. Only removing the depreciation PRIOR to acquisition, not the depreciation accumulated after acquisition

Question 24

Using the consolidation worksheet

Answer 24

1) enter the adjusted trial balance amounts of all parent and subsidiary accounts
2) complete income statement section
3) carry final line of income statement (income) down into the income line of retained earnings section with all adjustments on that line
4) work retained earnings section of the worksheet
5) carry final line of retained earnings section (ending retained earnings) down to retained earnings line of balance sheet, along with all adjustments on that line
6) work balance sheet section

Question 25

Consolidated net income

Answer 25

All revenues and expenses of the individual consolidating companies arising from transactions with unaffiliated companies

includes 100% of revenues regardless of parent’s percentage of ownership

Question 26

Consolidated net income calcuated

Answer 26

Parent’s income from own operations
excluding: investment income from consolidated subsidiaries
plus: net income of each consolidated subsidiary
adjusted for: differential write off (not discussed in this chapter)

under equity method:
parent company equity-method net income = consolidate net income if subsidiary is wholly owned

Question 27

Consolidated retained earnings

Answer 27

The portion of consolidated enterprises undistributed earnings accruing to the parent company shareholders

Beginning consolidated retained earnings
+ consolidated net income attributable to the controlling interest
- dividends declared by the parent company
= ending consolidated retained earnings

Question 28

Calculating consolidated retained earnings

Answer 28

= parent’s retained earnings from own operations
exclude: income from consolidated subsidiaries recognized by the parent
+ parent’s proportionate share of net income of each subsidiary since date of acquisition (adjusted for differential write off and goodwill impairment)

should = parent’s equity method retained earnings

Question 29

accounting for the retained earnings of the subsidiary

Answer 29

Subsidiary’s retained earnings are completely eliminated in consolidation process.

Reasoning:
- retained earnings cannot be purchased
- parent’s share of subsidiary’s income since acquisition is already included in parent’s equity method net income or retained earnings
- non-controlling interest share of retained earnings is not included in consolidated retained earnings

Question 30

Basic consolidation entry removes what accounts

Answer 30

Parent’s:
- equity method income from subsidiary
- investment in subsidiary account

Subsidiary’s
- dividends declared
- equity accounts

Question 31

Elimination rule # 1

Answer 31

After combining adjusted trial balance accounts of parent and subsidiary:
- remove parent’s investment in subsidiary
- remove subsidiary’s common stock, paid in capital, and retained earnings

Question 32

Elimination rule #2

Answer 32

Remove subsidiary’s accumulated depreciation accounts against their respective assets

Question 33

Elimination rule # 3

Answer 33

Remove:
- dividends declared by subsidiary
- parent’s Income from subsidiary account
against
parent’s investment in subsidiary account

Question 34

Accounts that do not appear on consolidated financials

Answer 34

Parent accounts:
- investment in subsidiary
- income from subsidiary

Subsidiary accounts
(all of subsidiary’s equity accounts)
- commons stock
- additional paid in capital
- retained earnings
- dividends declared

Question 35

Equity method: other comprehensive income

Answer 35

Investor’s comprehensive income should include it’s proportionate share of each amount reported as “other comprehensive income” by the investee

cr: income reported by investee in OCI

Question 36

Unrealized intercompany profit

Answer 36

Equity method

any intercompany profit remaining UNREALIZED at the end of the period must be deducted from the amount of income that otherwise would be reported

Unrealized = profit not recovered by subsidiary?

Entry:
Dr Income from subsidiary
Cr investment in subsidiary

(reverses out profit, once realized is reversed)