FAR - F1 & F2: Standard Setting, Income Statement, and Reporting Requirements Flashcards
F1: Either “unusual in nature” or “infrequent in occurrence”
**“Infrequent in occurrence” but not unusual in nature
presented in “income from continuing operations”
F1: Both “unusual in nature” and “infrequent in occurrence”
presented in “extraordinary items”
F1: Change in method or
Change in “Accounting principle”
**Cumulative effect of a change in accounting principle
GR: “Retro”
handled retroactive or retrospective calculations should be made.
**Equals the difference between retained earnings at the beginning of period of the change and what retained earnings would have been if the change was applied to all affected prior periods.
F1: Change in estimate
should handle prospectively - reported in current and future periods income from continuing operations.
- *NOT an error - DO NOT restate prior periods
- *NOT prior periods and NOT retained earnings
- *NO cumulative effect adjustment is name
- *NO separate line item presentation is made in the F/S
- *ONLY the footnote disclosure is necessary, if material change is being make.
F1: Change in the method of depreciation
Now considered to be both a change in method and a change in estimate.
F1: Corrections of errors of prior periods
Go to retained earnings statements as an adjustment of the opening balance
F1: General and Administrative expenses (Manufacturing co.)
Accounting and legal
Officers salaries
Insurance
F1: Freight-in
part of cost of inventory or cost of sales
F1: Freight-out
part of selling expenses
F1: Sales Representatives salaries
Part of Selling expenses
F1: Changes in “Accounting Entity”
Restate
F1: Under IFRS - Change in Accounting principle
Entity must present 3 balance sheets:
- End of current period
- End of Prior Period
- Beginning of prior period
F1: Change is accounting principle inseparable from a change in accounting estimate
Treated like a change in accounting estimate, prospectively.
F1: A Transaction that is unusual in nature OR infrequent in occurance
Should be reported as part of income from continuing operations and NOT net of tax
F1: IDEA memonic
Income from Continuing Operation => Gross (Before Tax)
Discontinued Operation => Net of Tax
Extraordinary Income => Net of Tax
Accounting Change => Retained Earnings
F1: Change in the reporting entity
Retrospectively, including note disclosures, and application to all prior period financial statements presented.
**If comparative financial statements are presented and a change of reporting entity has occurred, all previous financial statements that are presented in the comparative financial statements should be restated.
F1: ERROR CORRECTION
Prior Period Adjustment - Resate
F1: Comprehensive Income
All items included in “Net Income” (Income from continuing operation, discontinued operation and Extraordinary items) plus “Other Comprehensive Income” items
F1: Comprehensive Income includes all changes in equity during a period
Except those resulting from owner investments and distributions to owners
F1: Unrealized Holding gain on Available-for-sale securities
included in “Other Comprehensive Income”
F1: “Other Comprehensive Income” Includes… PUFER
Persion Adjustments
Unrealized gains and losses(Available-for-securities)
Foreign Currency items
Effective portion cash flow hedges
Revaluation surplus (IFRS only)
- Changes in the funded status of a pension plan
- Unrealized gains and losses on available-for-sale securities
- Foreign currency translation adjustments.
- Effective porting of cash flow hedges
- Pension gain
- Revaluation surplus
F1: “Accumulated Other Comprehensive Income”
Is a component of Stockholder’s equity on the balance sheet
F1: “Comprehensive Income”
- Can be reported in a separate statement of comprehensive income or in a statement of income and comprehensive income.
- Comprehensive income includes only non-owners changes in equity. Stock transactions and dividends are not included in comprehensive income.
- Comprehensive income is reported in interim financial statements and year-end financial statements.
F1: “Net Income” includes…
- Unrealized loss on the trading security
2. Revaluation loss
F1: Reclassification adjustments must be shown in the financial statement that discloses comprehensive income
To avoid double counting an item previously reported as comprehensive income (e.g. unrealized gain), which are now reported as part of net income (e.g. realized gain).
F1: “Accumulated Other Comprehensive Income”
Is a balance sheet account and is reported in the statement of financial position.
F1: Net Income + Other Comprehensive Income =
Comprehensive Income
F1: Under GAAP what amount should be reported as related party disclosures in the notes?
Loans to officers
F1: Under IFRS, what amount should be reported as related party disclosures in the notes?
Officer’s compensation/Salaries and Loans to officers
Officers’ expenses are not related party transactions because these are incurred in the ordinary course of business and not considered to be compensation.
F2: Goodwill
**Goodwill is recognized in the balance sheet when it has been created from a business acquisition or purchase.
Goodwill acquired in an arms-length transaction is capitalized, but internally created goodwill is expensed because an object measure of its value is difficult to obtain.
F2: “BASE” memonic
To determine Revenue/Expenses/Payments during a year B => Beginning Balance A => Additioin S => Substraction E => Ending Balance
F2: Franchisor Accounting (Franchise fee revenue)
- Unearned Revenue
- Earned Revenue
Unearned revenue is recognized as revenue once “Substantial Performance” on such future services has occurred.
Earned Revenue - Franchisor should report revenue from initial franchise fees when all material conditions of the sale have been “substantially performed.”
Substantial Performes means:
- Franchisor has no obligation to refund any payment
- Initial services required of the franchisor have been performed.
- All conditions of the sale have been met.
F2: Goodwill - Under U.S. GAAP
**Goodwill - Under IFRS
Under U.S. GAAP requires that goodwill be tested for impairment at the reporting unit level.
**Under IFRS goodwill should be tested for impairment at each cash-generating unit (CGU)
F2: Impairment loss
Under U.S. GAAP, subsequent reversal of intangible asset impairment losses is prohibited unless the intangible asset is held for sale.
F2: Under the revenue recognition rule:
revenue cannot be recognized until services have been performed.
F2: The Matching principle
Matches expenses against revenues in the same accounting period.
(Expenses are necessarilly incurred to generate revenues. All expenses incurred to generate a particular revenue should be recorded in the same period in which the revenue is recorded)
F2: Computer Software development costs
- Computer software development to be SOLD, LEASED or LICENSED
a. Technological Feasibility
b. Accounting for costs
a. Technological Feasibility is established upon completion of:
i. A detailed program design or
ii. Completion of a working model
b. Accounting for costs
i. Expense costs - planning, design, coding and testing incurred until technological feasibility has been established for the project.
ii. Capitalize costs - coding, testing and producing product masters incurred after technological feasibility has been established and product is released for sale.
F2: Converting from Cash-Basis to Accrual-basis accounting:
Add increases in current assets. For example, when AR increases, the increase is not considered to be income under the cash basis because the cash has not been collected, but the increase is income under the accrual basis.
Subtract decreases in current assets. Conversely, when AR decreases, then cash-basis counted it as revenue when the cash was collected, but under the accrual basis, the income was recognized in a prior period and should not be recognized again in the current period.
Add decreases in current liabilities. For example, when AP decreases, this represents a cash outflow that is recorded as an expense under the cash basis. However, under the accrual basis the paid expenses were recorded in a prior period and should not be recorded again in the current period.
Subtract increases in current liabilities. Conversely, when AP increases, this represents expenses incurred under the accrual basis method that have not been recorded under the cash basis method because they have not been paid.
Therefore, starting with the $70,000, we add the $2,000 decrease in AP, subtract the $200 and $100 increases in unearned revenue and wages payable, add the $300 increase in prepaid rent, and finally subtract the $800 decrease in accounts receivable:
$70,000 + $2,000 - $300 + $300 - $800 = $71,200
F2: Under IFRS, the goodwill impairment test is a one-step test
In which the carrying value of a cash-generating unit (CGU) is compared to the CGU’s recoverable amount, which is the greater of the CGU’s fair value less costs to sell and its value in use (PV of future cash flows expected from the CGU).
“Impairment loss = Recoverable amount - Carrying value”
F2: Under IFRS/U.S. GAAP, the research and development cost
- *Research Costs will always be expensed
- *Development costs may be capitalized if all of the following criteria are met:
1. Technical feasibility has been established
2. The company intends to complete the asset.
3. The company has the ability to sell or use the asset
4. Sufficient resources are available to complete the development and sell/use the asset.
5. The asset will generate future economic benefits. - *Under U.S. GAAP,
1. All research and development costs are expensed except for materials, equipment, or facilities that have alternate future uses are capitalized and depreciated over their useful lives.
2. Legal fees incurred to apply for a patent and to successfully defend the patent rights are capitalized as an asset.
3. Equipment purchased for current and future projects will be capitalized are depreciated.
4. The software maintenance costs are expensed, and the software modification costs are capitalized and amortized over the useful life.
F2: “Deferred Revenue”
e.g. Gift Certificate
Deferred revenue represents future income collected in advance.
- *1. When Gift Certificate SOLD Deferred Revenue is increased.
2. When Gift Certificate REDEEMED, Deferred Revenue is decreased.
3. When Gift Certificate LAPSE/EXPIRED Deferred Revenue is decreased.
F2: 2 types of Long term Construction contract revenue recognition methods:
- completed contract method
- Percentage-of-Completion method
Under Completed Contact method, Revenue is recognized when the contract is completed, however expected losses are recognized immediately in their entirety.
- *Expected losses on contracts are recognized prior to job completion (Conservatism)
- **The Expected profit on project is not recognized until completion.
***Revenue is recognized when the job is completed, not when progress billings are collected or when they exceed recorded costs.
F2: Under Percentage-of-completion
Under percentage-of-completion, appropriate profit should be recorded.
**Estimated losses are recognized in full immediately (Conservatism)
***Income previously recognized would be used to calculate the income recognized in the consecutive years.
**Costs incurred to date” vs “Total estimated costs” is the basis for recognizing revenue, not progress billings.
F2: Calculate Gross Profit or Loss is recognized in each period under Percentage-Of-Completion accounting method
4-Steps process:
- Compute gross profit = Contract price less
- Compute % of Completion = (Cumulative)Total Cost to Date/Total estimated cost of contract
- Compute Gross profit earned to date (cumulative) = Gross profit x % of completion
- Compute gross profit earned for current year = Gross Profit earned to Date less
** An estimated loss on the total contract is recognized immediately in the year it is discovered.
**Any previous gross profit or loss reported in prior years must be adjusted for when calculating the total estimated loss.
F2: Reported Net Assets and Net Liability due to Construction activities
**Net Assets: If the sum of cumulative costs incurred plus cumulative gross profit recognized exceeds cumulative billings, the excess is reported as a current asset.
**Net Liability: If cumulative billings exceeds the sum of cumulative costs incurred plus cumulative gross profit recognition, the difference is reported as a current liability.
**No Asset or Liability: If the two amount are equal. no asset or liability is recognized.
F2: 3 types of Revenue Recognition methods:
- Accrual Method (GAAP & IFRS)
- Installment of Sales Method (Only GAAP)
- Cost Recovery Method (Only IFRS)
- Accrual Methods - When earned and realized/Realizable. Collection is reasonably assured and degree of uncollectibility is estimatable.
- Installment sales method - When cash is collected. Collection is not reasonably assured and no basis for determining collectibility.
- Cost Recovery Method - Recover cash first before profit/Revenue is recognized. Collection is not reasonably assured and no basis for determining collectibility.
F2: 4 Steps to solve installment Sales Problems
- Calculate Gross Profit(G.P) = Sales - COGS
- Calculate Gross Profit % = Gross Profit/Sales
- Realized Gross Profit (I/S) = Cash Collected x GP%
- Deferred Gross Profit (B/S) = Receivable Balance X GP%
**Total GP = Total Sales x GP%
F10: Financial Instruments
I. Types of Financial Insturments
II. Fair Value Option - unrealized gains and losses are reported in earnings.
- Contracts - e.g. BONDS
- Derivatives - Value or settlement amount is derived from the value of another unit of measure. e.g. OFFS
O - Options
F - Futures
F - Forwards
S - Swaps
F10: Hedging
**Reduce risk of holding/trading certain assets. Your are letting somebody else take the risk because you are going to freeze your position right now.
Hedging is the use of a derivative to offset anticipated losses or to reduce earnings volatility. When a hedge is effective, the change in the value of the derivative offsets the change in value of a hedged item or the cash flows of the hedged item.
F10: Common Derivatives = “OFFS”
used.
- Option Contract
i. Call Option - Hope price goes up - buy
ii. Put Option - Hope price goes down - sell
if P< $76 : gain since P goes down - Gain
$75 - $69 = $6 x 10000 = 60,000 Gross
<20,000) Cost
Net Profit = $40,000 - Future Contract - Publicly traded
i. Long/Buy Profit - When Price goes up
ii. Short/Sell Profit - When Price goes down
F2: Accounting for non-monetary exchange
**When a nonmonetary exhange lacks commercial substance, the general rule is that no gain or loss is recognized and the book value approach is used.
**When a non-monetary exchange has commercial substance, the transaction is accounted for using the fair value of the asset surrendered or received, whichever is more evident.
**When a nonmonetary transaction has commercial substance, gains and losses are recognized based on the difference between the fair value and the book value of the asset given up.
“Gain = FV asset given up - BV asset given up”
=90,000 - (140,000 - 80,000) =30,000
“Loss = BV asset given up - FV asset given up”
F2: Under the rule of conservatism
Under the rule of conservatism, losses are recognized in all nonmonetary exchanges when the book value exceeds the fair value of the asset given up.
F2: Under IFRS, nonmonetary exchange
- Under IFRS, losses are recognized in full in all nonmonetary exchanges.
- Under IFRS, gains on nonmonetary exchanges of dissimilar assets are recognized in full. No gains are recognized on nonmonetary exchanges of similiiar assets.
F2: If the exchange lacks commercial substance or has commercial substance.
The company will only recognize a gain if it received boot/cash.
**If there is no boot/cash in the transaction. then no gain is recognized.
**If the boot/cash exceeds 25% of the total consideration, the transaction is considered to be monetary.
F2: Financial statements includes both specific and general prices level
**“Current/Constant dollar” method
F2: Under current cost accounting
**Specific price indexes may be used to restate financial statements items.
F2: Foreign Currency Accounting
“Functional Currency of a company”
The functional currency of a company may be:
- A foreign entity’s local currency, , which is typically the one in which the entity keeps its books
- The currency in which the financial statements will be presented, which is the currency of the parent company; or
- A foreign currency other than the one in which the foreign entity maintains its books.
**The functional currency of an entity generally depends upon the environment in which the entity generates and expends cash unless there is a requirements by law to use another currency.
F2: “Translation adjustments”
Translation adjustments are not included in determining net income for the period but are disclosed and accumulated as a component of other comprehensive income in consolidated equity until disposed of
**However, gains or losses from remeasuring the foreign subsidiary’s financial statements from the local currency to the functional currency should be included in “income from continuing operations” of the parent company.
F2: Spot rate
Since the spot rate at year end is different from the spot rate at September 22, a foreign currency transaction gain or loss must be recognized.
F2: Foreign Currency/Reporting Currency
- If the subsidiary’s functional currency is its local currency, the subsidiary’s financial statements are simply “translated” to the reporting currency. The resulting adjustment is reported as other comprehensive income.
- If the subsidiary’s functional currency is not the same as its local currency (the functional currency may be the reporting currency or another currency), the subsidiary’s financial statements must be “remeasured” into the functional currency. The resulting gain or loss on remeasurement is reported in the consolidated income statement.
F2: Under the translation (current) method
under the translation method, the assets and liabilities on the balance sheet are translated using the current exchange rate and the income statement is translated using the average exchange rate.
F2: When translating foreign currency financial statements into the reporting currency
When the translation method is used, all assets and liabilities are translated to the reporting currency using the current (year-end) exchange rate, while common stock and additional paid-in capital (APIC) are using historical exchange rates.
F2: Other financial reports
**On Personal financial statements, all items are reported at their fair market values (estimated current values)
F2: Personal financial statements consist of:
A Statement of financial condition and a statement of changes in net worth.
F3: Marketable Securities
- Debit Securities - BONDS
2. Equity Securities - COMMON STOCK
F3: Debts Securities (Bonds) classified as Held-to-maturity and Available-for-Sale securities
- Held-to-maturity are reported at amortized cost (that is cost adjusted for amortization of premium or discount; approaches face value)
- Debt securities classified as Available-for-sale are reported at fair value.
F3: Trading securities
Trading securities are reported at fair value, with holding gains and losses included in earnings.
F3: Investments in marketable equity securities which the company does not intend to sell in the near term should be classified as available-for-sale
Unrealized gains and losses on available-for-sale securities should be reported as a separate component of “Other Comprehensive income”
F3: Unrealized gains and losses are reported as follows:
- Trading securities reported at fair value with unrealized gains and losses included in earnings (along with “realized” gains and losses, if any).
- Available-for-sale reported at fair value with unrealized gains and losses reported as a separate component of other comprehensive income until realized.
F3: Available-for-sale equity securities are carried at fair value.
Permanent impairment in vale results in a write-down and a charge to income as if the loss was realized.
**Realized losses are reflected in current year income.
F3: when transfer from trading securities to Available-for-Sale securities - 1
When marketable equity securities are transferred between trading and available-for-sale, the transfer is made at fair value, and the difference (if any) is recorded as unrealized loss and charged to the income statement. The new carrying amount becomes the basis for any future gain or loss.
F3: when transfer from trading securities to Available-for-Sale securities - 2
When marketable equity securities are transferred between trading and available-for-sale, available-for-sale marketable equity securities are recorded at the fair value, and any temporary differences is reported as “Net unrealized loss on available-for-sale marketable equity securities” in other comprehensive income on the statement of stockholders’ equity.
F3: Marketable debt securities that the company has the intent and ability to hold to maturity,
Both “Long” and “Short” term, are reported at carrying amount (amortized cost) unless there is a permanent decline in market value.
F3: When an available-for-sale security is determined to be impaired because of an other then temporary decline in fair value below cost…
The asset must be written down to the lower fair value by recording a loss that is recognized on the income statement.
**The impairment of an available-for-sale security must be recorded on the income statement. Only gains and temporary losses on available-for-sale securities are reported in other comprehensive income.
F3: Held-to-Maturity bond reported…
At its carrying value.
**Both Trading securities and Available-for-sale securities are reported as fair value.
F3: Under IFRS:
1. Unrealized gains and losses for all available for sale securities and foreign exchange gains and losses for available-for-sales equity securities are reported…
- Foreign exchange gains and losses on available for sales debt securities are reported…
- as “Other Comprehensive Income”
2. on the “income statement”.
F3: Under IFRS, reversal of impairment losses are allowed and the increase would be booked to the current year’s…
“Income Statement”
F3: The bond investments are classified as trading securities because…
“the bonds are held for the purpose of selling them in the near term.”
**Trading securities are reported at fair value on the balance sheet - ( as current asset).
F3: Business Combinations
Consolidation financial statements are prepared when one company has a controlling financial interest in another unless…
“The subsidiary is in bankruptcy.”
- *Legal reorganization
- *The subsidiary operates under severe foreign currency exchange restrictions, controls or other governmentally imposed uncertaintainties.
F3: When a parent-subsidiary relationship exists, consolidated financial statements are prepared in recognition of the accounting concept of…
“Economic entity”
F3: Consolidate ALL majority-owned subsidiaries to have one management and one economic entity, including domestic, foreign, similar and dissimilar subsidiaries.
Consolidated financial statements are prepared when a parent-subsidiary relationship has been formed.
**An investor is considered to have parent status when control over an investee is established or more than 50% of the voting stock of the investee has been acquired.
F3: What should include as liabilities in the company’s consolidated balance sheet
“The liabilities of any company which is greater than 50% owned by the company should be included as liabilities int he consolidated financial statements.”
e.g. Consolidated financial statement should reflect the full liabilities of the 70%, 80% and 100% owned subsidiary as (4m + 7m + 5m) total $16 liability in its consolidated balance sheet.
F3:
**Receipt of a stock dividend is not income.
**It increases the number of shares held and decreases the cost basis per share.
F3: Cost Method
**Under cost method, dividends (not earnings) are reflected as…
“Income by investor.” The cost basis investment account is reduced by if:
- Shares of stock are sold or
- Cumulative dividends exceed cumulative earnings (a return of capital) or
- Subsidiary incurs losses that substantially reduced net worth.
F3: Rule: Dividend revenue,
**Under the cost method, should be recognized to the extent of cumulative earnings since acquisition are return of capital beyond that point.
“The portion of the dividends received this year that were not in excess of the investor’s share of investee’s undistributed earnings since the date of investment.”
**Part of the dividends will be recognized as income and part will be a return of capital.
F3: Consolidation Method
Rule: In a vertical chain, where parent co. owns more than 50% of subsidiary co. and subsidiary owns more than 50% of a 3rd company…
“Consolidate”
F3: Equity Method
**Allocation of the investment purchase price is calculated as follows
- Investment
Purchase Price $200,000
Less: NBV ($ 150000x 30%)
Total Excess = $50,000
2. Allocated to identifiable net assets:
FV $600,000
Less: NBV (500,000)
----------------------------------------
$100,000 x 30% = (30,000)
Excess to goodwill = $20,000
F3: Investment accounting
- Cost Method and
- Equity Method (create an investment account)
- Under the Cost Method, receipt of a dividend is recorded as income and does not affect the investment account.
- Under the equity method, investor records as revenue its “share of the investee’s earnings” (not “dividends received”
**That’s mean, dividends from an investee company are recorded by the investor as a reduction in the carrying amount of the “INVESTMENT” account on the balance sheet of the investor.
F3: Equity Method = Bank Account
**Balance Sheet DR - Investment in investee CR - Cash or Common Stock - Parent or APIC - Parent
DR - Investment in Investee
CR - Equity in Earnings/Investee Income
**Income Statement
DR - Investment in Investee
CR - Equity in earnings/Investee income
BASE: Beginning Balance (Cost) \+Earnings -Dividends(withdrawals) = Ending Balance
**Stock dividend = MEMO entry
F3: Stock dividends and stock splits are not considered income to the recipient…
Therefore, investors do not record stock dividends at fair value. They simply reallocate the investment account balance (under cost or equity method) over more shares so that value per share decreases.
F3: Under the equity method…
“The investment account will be increased by the investor’s share of investee’s net income (30% x $100,000) and decreased by any dividends declared (none)”. Thus the investment in Pod, at December 32, yea 1 is equal to $280,000 ($250,000 + $30,000)
F3: How to determine the amount of “GOODWILL”
“The fair value of the net assets acquired must be determined and then compared with the purchase price.” For Example:
Stockholder’s Equity: $500,000
Excess of FV, Land: $200,000
Total FV: $700,000
% acquired: 30% FV of Net Assets acquired: $210,000 Purchase Price: $250,000 ----------------------------------------- GOODWILL: $40,000
F3: From Cost Method to Equity Method
“Once a cost method investor becomes an equity method investor, the investment account must retroactively reflect the proportionate share of investee income recognized at each percentage level investment. Thus 10% of lona’s income from january 1 through July 31 and 40% of loan’s income from August through December 31 must be reported as earnings by Point.”
F3: Peel co. received a cash dividend from a common stock investment.
**Under the cost method, receipt of a dividend is recorded as income and does not affect the investment account.
**Under the equity method, receipt of a dividend is recorded as a decrease in the investment account.
F3: If a company recorded an investment using both equity and cost method.
**Under the equity method, the COMMON STOCK dividends are recorded as a reduction to the investment account.
**PREFERRED STOCK ownership does not allow the investor to exercise influence, so the PREFERRED STOCK investment is accounted for using the Cost Method and the preferred stock dividends of $60,000 are recorded as dividend revenue on the income statement.
F3: Undervalued asset amortization affects…
both the investment account (an asset) and the investment income account (a revenue),
**while cash dividends affects the investment account but not the investment income account.
For undervalued asset amortindation:
DR - Equity revenue(I/S)
CR - Investment Account(B/S)
For Cash dividends:
DR - Cash (B/S)
CR - Investment Account (B/S)
F3: When two or more purchases of stock cause ownership to go from less than 20% to more then 20%…
“The equity method should be used and the periods during which the cost method was used are retroactively restated.”
For example:
Year 2 investment income = 30% x $650,000 = $195,000
Year 2 adjustment to Year 1 investment income:
10% x $600,000 net income = $60,000
10% x $200,000 dividends paid = ($20,000)
—————————-
Adjustment to Year 1 = $40,000
F3: Stock Dividend
A stock dividend is not reported as dividend income.
F3: Under both the cost and equity methods,
liquidating dividends reduce the carrying amount of the investment account.
F3: Any GOODWILL created in an investment accounted for under the equity method is ignored.
It is neither amortized nor tested for impairment. The entire investment (using the equity method) is subject to the impairment test.
**Purchased goodwill is only tested for impairment in an acquisition of a controlling interest in another company. As Palmetto acquired only 305 of Royal, no consolidation will occur, therefore the investment will be correctly accounted for under the equity method.
F3: Changing from the equity method to the cost method does not require retroactive adjustment.
**The company should use the equity method fro the first half of the year and the cost method for the second half which would result in $30,750 of investment revenue.
For Example:
$50,000 x 2 quarters (equity method) = $100,000 x 30% = $30,000
+ Dividends second half of year (cost method) = 750 = 500 shares x $1.50/ share.
Total: $30,750
F3: 40% of the outstanding non-voting preferred stock
**Significant influence cannot be exercised by holding “NON-VOTING” stock. The cost method must be used.
F3: Acquisition method
Fees of finders and consultants are expensed in the period incurred.
**Registration fees for equity securities issued decrease Addition Paid-in Capital (Stockholders’ equity)
F3: Acquisition date calculation
CAR IN BIG
C - Common stock - Sub
A - A.P.I.C - Sub
R - Retained Earnings - Sub
[Old owner’s equity/NBV]
I -
N-
[Parent Paid FV - Total FV of Sub]
Reconcile - [DIFFERENCE]
B - Balance sheet FV Adjustment
I - Identifiable intangible assets (patents/Trade Mark)
G - Goodwill(DR) / Gain(CR)
F3: Investment in Sub
“Nothing is capitalized to investment in sub.”
a. Direct out-of-pocket costs - e.g. finders fee or a legal fee are expensed (DR - expense)
* **Notice, they are capitalized under equity method but not capitalized under consolidation method.
b. Stock registration and issurance costs (DR - APIC of the parent)
c. Indirect costs are expensed.
d. Bond Issue costs are capitalized and Amortized. (DR - Bond issue cost)
F3: When a subsidiary is acquired with an acquisition cost that less than the fair value of the underlying assets,…
The following steps re required:
- The balance sheet is adjusted to fair value, which creates a negative balance int he acquisition account
- Identifiable intangible assest are recognized at fair value, which increase the negative balance in the acquisition account.
- The total negative balance in the acquisition account is recorded as a gain.
F3: Direct Costs
Direct costs are expensed in the period incurred.
F3: With acquisition accounting the net assets acquired are based on the fair market value.
The fair value of finished goods are merchandise inventory are based upon selling price less disposal costs are a reasonable profit allowance.
F3: GOODWILL
Good is the excess of the purchase price over the fair market value of the net assets acquired:
For Example:
- Purchase price: $300,000
- Find FMV of the Acquired Net Asset:
Current Assets: $40,000
PP&E: (380,000+60,000) = 440,000
Liabilities: (200,000)
—————————————–
FV of Net Assets: $280,000 - Goodwill (Purchase price - FV of Net Assets Acquired): $20,000
F3: Report Earnings from Subsidary:
1. Subsidiary's Retained Earnings Statements: Beginning Bal(1/1/Y1) \+ Income - Dividend Paid out Ending Balance (12/31/Y1)
- Earnings from Subsidiary:
Income x Percent of Ownership = Earnings from sub.
F3: Total consolidated stockholders’ equity
Dallas' consolidated stockholders' equity will be "the parent company stockholders' equity plus the non-controlling interest" on December 31, Year 1. For Example: 1. Common stock: $ 50,000 2. Additional paid-in capital 80,250 **3. Non-controlling interest: 33,000 Retained Earnings: $139,750 ------------------------------------------------------ Total Consolidated S/E: $303,000
Acquisition Cost = FV of the BU x % Ownership
$120,000 acquisition cost = FV of Style X 80%
FV of Style = $150,000
Non-controlling interest = $150,000 x 20% = $30,000 as of 1/1/Y1
—————————————-
***Non-controlling interest as of 12/31/Y1
Non-controlling interest, 1/1 $30,0000
+NCI share of net Income = 4,000 [$20,000 x 20%]
-NCI share of dividends = (1000) [$5,000 X 20%]
———————————————————————–
***Non-controlling interest, 12/31/Y1 = $33,000
**How to calculate NCI shareholders’ share of Sub’s Net Income:
Sub R/E, 1/1 $36,000
+ Net Income = 20,0000 (plug)
-Dividends = (5,000)
————————————
Sub R/E, 12/31 = $51,000
NCI share of Syle’s net income = $20,000 x 20% = $4,000.
F3: Application of the Acquisition Method
**Fair Value = Acquisition price = Investment in subsidiary
Acquisition method has two distinct accounting characteristics:
- 100% of the net assets acquired are recorded at fair value with any unallocated balance remaining creating goodwill.
- when the companies are consolidated, the subsidiary’s entire equity (including its common stock, APIC and retained earnings) is eliminated (not reported).
F3: Consolidated retained earnings are the same as the parent company retained earnings…
When financial statements are consolidated under the acquisition method.
F3: Consolidated NET INCOME is the same as the parent company net income….
when the equity method is used.
F3: Under U.S. GAAP, Goodwill…
**Goodwill, is the difference between the fair value of the subsidiary of $3,750,000 and fair market value of the net assets acquired ($3,400,000) which is $350,000
F3: When an investor sells shares and goes from control to non-control…
the investor must recognize a gain or loss from the sale of the stock and then remeasure the remaining non-consolidating interest to fair value. The fair value adjustment is recognized as an additional gain or loss on the income statement.
In Year 1, Placid purchased 80,000 shares (80% x 100,000) for 1,600,000 for $20/share ($1,600,000/80,000 shares = $20/share)
When Placid sells 50,000 shares on 1/1/Y5, the company will recognize a gain on the sale, which will be recorded as follows:
Dr - Cash 1,,250,000*
Cr - Investment in Serene $1,000,000
Cr - Gain $250,000
- ($1,250,000 = 50,000 shares x $25/share sale price)
- *($1,000,000 = 50,000 shares x $20/share cost)
The remaining 30,000 shares must be remeasured to fair value on 1/1/Y5 by recording a gain due to the increase in the price per share from $20 cost on 1/1/Y1 to the $25 fair value on 1/1/Y5:
Dr - Investment in Serene $150,000 (30,000 shares x $5)
Cr - Gain $150,000
**The total gain related to the sale and re-measurement is $400,000 ($250,000 gain on sale + $150,000 gain on re-measurement)
F3: Formula
- Acquisition Price
- Non-controlling Interest
**Non-controlling interest and Acquisition Price are recognized at fair value, not book value.
- Acquisition price = Fair Value of Sub x % Ownership
- Non-controlling Interest = Fair Value of Sub x % of Non-controlling interest.
For Example:
1.. Calculating Noncontrolling interest on 1/1/Y1:
Fair value of Saul x %80 = Acquisition Price
Fair Value of Saul = 5,000,000/%80 = 6,250,000
- Using the total fair value of saul, the non-controlling interest in Saul on the acquisition date can be calculated:
Fair Value of Saul x 20% = Non controlling Interest
$6,250,000 x %20 = $1,250,000
- The noncontrolling interest in Saul on 12/31/Y1:
Beginning non-controlling interest : $1,250,000
+ %20 of Saul’s Net Income = 110,000
- %20 of Sauls’ Dividends = (33,000)
Ending non-controlling Interest $1,327,000 reported in the Paul’s consolidated balance sheet
F3: The Acquisition price
The Acquisition price is calculated with the market price on the date the acquisition is finalized.
F3: Calculating and Journal Entery of Goodwill
1st: The difference between the acquisition price ($12,500,000) and the book value ($10,750,000) of the net assets acquired must be allocated to adjusting 100% of the existing balance sheet from book value to fair value.
2nd: Recognizing 100% of the fair value of all identifiable assets.
Finally: Recognizing any excess as goodwill.
For Example:
FV of Seed Inc. $12,500,000
-Balance sheet of seed at BV (10,750,000)
- Adjust balance sheet to fair value (500,000)
- Recognize identifiables at FV (590,000)
————————————————————————-
Excess is goodwill: $660,000
The acquisition date eliminating JE would be:
Dr - Equity - Seed (CAR) $10,750,000
Cr - Investment in Seed $12,500,000
Cr - Non-controlling Interest 0
Dr - Balance sheet adjusted to FV $500,000
Dr - Identifiable intangible asset at FV 590,000
Dr - Goodwill $660,000
F3: When acquiring a corporation with an acquisition cost that is less than the fair value of %100 of the underlying net asset acquired…
The balance sheet, including any identifiable intangible assets must be adjusted to fair value. This creates a negative balance in the acquisition cost account which is recorded as a gain.
For Example: FV of subsidiary: $275,000 BV of Sub Net Assets: 250,000 ----------------------------------------------------- Difference: $25,000
- Adjust B/S to FV (100,000)
-Record intangible at FV (60,000)
——————————————————-
Gain: ($135,000)
The eliminating JE on the date of acquisition would be:
Dr - Equity - Sub (CAR) $250,000 Cr - Investment in Sub $275,000 Cr- Non-controlling Interest 0 Dr - B/S adjustment to FV 100,000 Dr - Intangible assets 60,000 Cr - Gain 135000
F3: When the financial statements of Parent and Sub are consolidated…
the equity of sub, including sub’s retrained earnings, will be eliminated.
**The consolidated statement of retained earnings will include only the dividend ($15,000) paid by Parent during the current year.
F3: In an acquisition method business combination,
**Registration and issuance costs are recorded as a direct reduction to the value of the stock issued by reducing APIC and direct out-of-pocket costs such as legal and consulting fees are expensed.
**The Journal entry for the business combination will be recorded as follows:
Dr - Legal & consulting expense $110,000
Dr - Investment in Sub 2,400,000 (200,000 share x $12)
Cash - $145,000 (110,000+35,000)
C/S - 1,000,000 (200,000 x $5)
APIC - $1,365,000 (2,400,000 -1,000,000 - 35,000)
F3: Under U.S. GAAP, Goodwill is calculated as follows:
Goodwill = FV of Subsidiary - FV of Subsidiary’s NET ASSETS
**Calculating Goodwill is 3 steps process:
- Calculate The Fair Value of the Subsidiary is:
FV of Subsidiary = Acquisition cost/% of ownership - Calculate the fair value of the subsidiary’s net assets is:
FV of subsidiary net asset = Current assets + PP&E + FV Adjustment - Liabilities - The goodwill = FV of Sub - FV of Sub’s Net Assets
= $400,000 - $280,000 = $120,000
F3: When an investor goes from non-control to control of a subsidiary through a step acquisition,….
**When an investor goes from control to non-control through a selling, Nothing is change.
**A gain must be recorded to adjust the investment to fair value on 1/1/Year 2
**The previously held equity investment must be adjusted to fair value. The fair value adjustment us recognized as a gain or loss by the investor in the period of the addition acquisition.
**FV of 30% interest = $2,250,000 x 30% = $675,000
**To compute the adjustment made on January 1, Year 2,
Investment in Smith 1/1/Y1 $400,000
+ 30% share of Smith’s Y1 earnings: $30,000
- 30% share of smith’s Y1, dividends (9000)
—————————————–
Investment in Smith 12/31/Y1 = $421,000
Beginning CV: $421,000
+ Adjustment (Plug): 254,000
——————————————
New Carrying Amount: $675,000
**Total Fair Value = $2,250,000
30% Original Interest: 675,000
+ 45% Acquired Interest 45%: 1,012,500
+ 25% Non-controlling interest: 562,500
F3: Under the IFRS partial goodwill method…
- *Difference between GAAP and IFRS partial Goodwill method:
1. GAAP calculate on difference between FV of Sub and FV of sub’s Net Assets
2. IFRS calculated on difference between Acquisition cost and the % of FV of Sub’s Net Assets acquired.
**Goodwill is calculated as follows:
Goodwill = Acquisition cost - (FV of Sub’s net assets x %of Ownership)
- *2 steps process:
1. FV of Sub’s Net Assets = $40,000 + $380,000 + $60,000 - $200,000 = $280,000
2. Goodwill = $300,000 - ($280,000 x 75%) = $6=90,000
F3: Under U.S. GAAP, noncontrolling interest (NCI) is calculated as follows:
**Under GAAP,
NCI = Fair Value of Subsidiary x NCI%
or
NCI = FV of the Subsidiary - Acquisition cost
For Example:
NCI = $400,000 X 25% = $100,000
Or
NCI = $400,000 - $300,000 = $100,000
F3: Under the IFRS partial goodwill method, non-controlling interest(NCI) is calculated as follows:
- *Difference between GAAP and IFRS:
1. GAAP calculates on FV of Sub
2. IRFS calculates on FV of Sub’s Net Assets
NCI = FV of Subsidiary’s Net Assets x NCI%
For Example:
FV of SUB’s Net Assets = $40,000 + $380,000 + $60,000 - $200,000 = $280,000
NCI = $280,000 x 25% = $70,000
F3: Under consolidation, what amount parent should report as common stock in the consolidated balance sheet?
**100% of a purchased subsidiary’s shareholders’ equity (including common stock) as fo the date of acquisition is eliminated in consolidation.
F3: What amount of retained earnings would parent report in its consolidated balance sheet?
**When using the acquisition method, 100% of the Subsidiary equity accounts (including prior year retained earnings/net income/dividends) will be eliminated in consolidation.
**Only the parent company’s Retained earnings/Net Income/Dividends paid counts.
F3: 70%-owned subsidiary company declares and pays a cash dividend…
**No effect on retained earnings and decrease in non-controlling interest (30%).
**30% of the dividned would be paid to the non-controlling shareholders and would reduce noncontrolling interest on the consolidated balance sheet because under the equity methods, the ending non-controlling interest is calculated as follows:
**Beginning NCI \+ NCI share of sub's Net Income - NCI share of Sub's dividends ---------------------------------------------- Ending NCI
F3: Under Acquisition method, how should plant assets report in the consolidated F/S?
**The acquisition method requires that 100% of the FV of the subsidiary’s assets be recognized.
**Therefore, plant assets reported on the consolidated balance sheet would be the fair value of the Sub’s plant assets plus the book value of the parent plant assets:
For Example:
FV of subs plant assets: $255,000
+BV of parent’s plant asset: 1,700,000
———————————
Total Plant Asset: $1,955,000 in the consolidated F/S.
F3: Consolidated Financial Statements:
**any bargain purchase is now created to gain, not to negative goodwill
**When acquiring a subsidiary with an acquisition cost that is less than the fair value of 100% of the underlying assets acquired, adjust all balance sheets to fair value and allocate remaining acquisition costs to the FV of 100% of identifiable intangible assets. This creates a negative balance in the acquisition cost account, which is allocated to gain.
For example:
Acquisition cost: $90,000
-BV of subs net asset: 305,000
———————————————
Discount: (215,000)
-Adjust assets to FV (55,000) ($255,000 FV fixed assets - $200,000 BV fixed assets of sub)
—————————————–
Gain: ($270,000)
**any bargain purchase is now created to gain, not to negative goodwill
F3: The acquisition cost of the stock does not include any meassure of the relocation costs associated with Sub’s company headquaters.
Such costs are accounted for separately from the acquisition according to the requirements for exit or disposal costs in FASB ASC 420.
**The investment would be valued at the fair value of the consideration given which is $800,000
F3: Intercompany Transaction
**In the consolidated statement of retained earnings, what amount should parent report as dividends paid?
**In the consolidated statement of retained earnings, dividends paid by sub is 100% eliminated.
**However, the dividends paid to the non-controlling shareholders ($5000 x .25) would decrease their noncontrolling interest under the equity method.
**For Example: Eliminating Entry
Dr - Investment in Sub $3,750 (5000 x .75)
Dr - Noncontrolling interest 1250
Cr - Dividends paid/Retained Earnings $5000
F3: Intercompany Revenues/sales
**Difference between combined sales and the consolidated sales or revenues.
Q: Under U.S. GAAP, the service cost component of Visor’s net periodic pension cost is measured using the…
A: Projected benefit obligation.
**Service cost represents the increase in the projected benefit obligation resulting from employees’ service rendered during the year.
Q: Under U.S. GAAP, what is the present value of all future retirement payments attributed by the pension benefit formula to employee services rendered prior to that date and based on past and current compensation levels only?
A: Accumulated benefit obligation.
**Under U.S. GAAP, the accumulated benefit obligation is the present value of future retirement payments attributed to the pension benefit formula to employee services rendered prior to a date, based on current and past compensation levels.
Q: What would Big Books report as U.S. GAAP net periodic pension cost on its December 31, Year 7, Income statement?
S - Service Cost (+)
I - Interest Cost (+)
R - Expected return on plan assets (-)
A - Amortization of prior service cost (+)
G - Amortization of (Gains) /Losses
E - Amortization of transition asset (-)
A: The Year 7 U.S. GAAP net periodic pension cost should be calculated as follows:
s - Service cost: $220,000
I - Interest cost: $90,000 = 1,500,000 x 6% = Beg PBO x discount rate
R - Expected return on plan assets (112,000) = 1,400,000 x 8% = Beg FV x expected rate
A - Amortization of prior service cost = 10,000 = 200,000/20 years
G - Amortization of (gains) /Losses: 0
E - Amortization of transition asset: (3000) = $60,000/20 year
————————————————————————————–
Net Periodic pension cost: $205,000
**Note: The difference between the expected and actual return on plan assets will be amortized starting in year 8. Amortization is based on the beginning balance in the unrecognized gain/loss account.
Q: What is the net gain to be reported in other comprehensive income under U.S. GAAP?
A; $16,100
Step 1: The expected return on plan assets is calculated as:
Beginning fair value of plan assets x Expected rate of return = $1,100,000 x 7% = $77,000
Step 2: The actual return on plan assets is calculated as:
Beg FV of Plan assets: $1,100,000
+ Contributions: 275,000
- Benefits paid: (340,000)
+ Actual return on Plan assets(Plug): $100,000
——————————————————————-
End FV of Plan Assets: $1,135,000
Step 3: Therefore, the difference between the actual return on plan assets and expected return on plan assets is
$23,000 ($100,000 actual - $77,000 expected)
Which on an after-tax basis is $16,100 [23,000x(1-30%)]
Steps 4: The gain is recorded with the following JE:
Dr. Pension benefit asset/liability $23,000
Cr. OCI - $23,000
Dr. Deferred tax expense - OCI $6,900
Cr. Deferred tax liability - $6,900
**Note: there is a net pension gain = the after-tax difference between actual and expected return on plan assets.
Different types of Adjusting Entries:
- Accruals (do estimate, because actual bill is not received yet)
- Paperwork has not been yet processed, but a transaction has occurred. - Deferrals (Actual amounts)
- Paperwork has been processed, but some amounts belong in future accounting periods. - Other types of adjusting entries:
- depreciation
- Allowance for doubtful accounts.
- *Accruals (estimated amounts):
- Accruals indicate that a company has not yet recorded paperwork into the accounts, but a transaction did occur.
Deferrals (actual amounts)
-Deferrals indicate that a company has processed the paperwork but some of the amount belongs in a future period.
Accrual Method of Accounting
**1. Revenues are reported when goods or services are delivered to the customers.
- We match expenses to the related revenues
Adjusting entries are needed so that:
**Financial statements will be misleading if adjusting entries are not made.
- need to do proper expenses and revenue.
- The income statement will report all revenues we earned and expenses are incurred
- the balance sheet will report all assets and liabilities.
- *Adjusting entries always affect/involve:
- an income statement account (revenue, expense)
- a balance sheet account (asset, liability)
**It is a common characteristics of adjusting entries.
General Journal and Adjusting entries:
** To minimize the need to accrue expenses arrange for the expenses to be paid prior to issuing the financial statements.
**Reverse the accrual entries in order to double counting because the actual bill is following.
Examples:
- Adjusting entry for deferral of expense
- supplies on hand (asset) and supplies expense (used up)
- prepaid insurance (asset) and insurance expense(used up)
- prepaid membership (asset) and membership expense`
- Adjusting entry for deferral of revenue
insurance company receiving premiums:
-unearned insurance premiums (liability) earned insurance premiums (revenue)
- Adjusting entry for an accrual of revenues
- Revenues that have been earned and
- Revenues that have been earned even though the sales invoices have not been prepared.
- service revenues and related asset/receivable
- Adjusting entry for an accrual of expense
- electricity expense and related liability
- repairs expense and related liability
- wages expense and related liability
- interest expense and related liability - Adjusting entry for depreciation
FOB Destination
FOB Shipping point
FOB Destination - Risks of ownership pass to the buyer upon receipt when goods are shipped FOB destination.
FOB Shipping point - Risks of ownership pass to the buyer upon delivery to a common carrier under FOB shipping point.
