advanced accounting

Chapter 1

BUSINESS COMBINATIONS

Answers to Questions

1 A business combination is a union of business entities in which two or more previously separate and independent companies are brought under the control of a single management team. FASB Statement No. 141R describes three situations that establish the control necessary for a business combination, namely, when one or more corporations become subsidiaries, when one company transfers its net assets to another, and when each combining company transfers its net assets to a newly formed corporation.

2 The dissolution of all but one of the separate legal entities is not necessary for a business combination. An example of one form of business combination in which the separate legal entities are not dissolved is when one corporation becomes a subsidiary of another. In the case of a parent-subsidiary relationship, each combining company continues to exist as a separate legal entity even though both companies are under the control of a single management team.

3 A business combination occurs when two or more previously separate and independent companies are brought under the control of a single management team. Merger and consolidation in a generic sense are frequently used as synonyms for the term business combination. In a technical sense, however, a merger is a type of business combination in which all but one of the combining entities are dissolved and a consolidation is a type of business combination in which a new corporation is formed to take over the assets of two or more previously separate companies and all of the combining companies are dissolved.

4 Goodwill arises in a business combination accounted for under the acquisition method when the cost of the investment (fair value of the consideration transferred) exceeds the fair value of identifiable net assets acquired. Under FASB Statement No. 142, goodwill is no longer amortized for financial reporting purposes and will have no effect on net income, unless the goodwill is deemed to be impaired. If goodwill is impaired, a loss will be reocnized.

5 A bargain purchase occurs when the acquisition price is less than the fair value of the identifiable net assets acquired. The acquirer records the gain from a bargain purchase

© 2009 Pearson Education, Inc. publishing as Prentice Hall

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amount as an extraordinary gain during the period of the acquisition, under FASB Statement No. 141R.


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SOLUTIONS TO EXERCISES

Solution E1-1

1 a2 b3 a4 a5 d

Solution E1-2 [AICPA adapted]

1 aPlant and equipment should be recorded at the $55,000 fair value.

2 cInvestment cost $800,000

Less: Fair value of net assetsCash $ 80,000Inventory 190,000Property and equipment — net 560,000Liabilities (180,000) 650,000

Goodwill $150,000

Solution E1-3

Stockholders’ equity — Pillow Corporation on January 3

Capital stock, $10 par, 300,000 shares outstanding $3,000,000

Additional paid-in capital [$200,000 + $1,500,000 – $5,000] 1,695,000

Retained earnings 600,000Total stockholders’ equity $5,295,000

Entry to record combination

Investment in Sleep-bank 3,000,000Capital stock, $10 par 1,500,000Additional paid-in capital 1,500,000

Investment expense 10,000


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Additional paid-in capital 5,000Cash 15,000

Check: Net assets per books $3,800,000 Goodwill 1,510,000

Less: Expense of direct costs (10,000) Less: Issuance of stock (5,000)

$5,295,000


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Solution E1-4

Journal entries on IceAge’s books to record the acquisition

Investment in Jester 2,550,000Common stock, $10 par 1,200,000Additional paid-in capital 1,350,000

To record issuance of 120,000 shares of $10 par common stock with a fair value of $2,550,000 for the common stock of Jester in a business combination.

Additional paid-in capital 15,000Investment expenses 45,000

Other assets 60,000To record costs of registering and issuing securities as a reduction of paid-in capital, and record

direct and indirect costs of combination as expenses.

Current assets 1,100,000Plant assets 2,200,000

Liabilities 300,000Investment in Jester 3,000,000

To record allocation of the $2,550,000 cost of Jester Company to identifiable assets and liabilities according to their fair values, computed as follows:Cost $2,550,000Fair value acquired 3,000,000Bargain purchase amount $ 450,000

Investment in Jester 450,000 Gain from bargain purchase 450,000 To record gain from bargain purchase.


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Solution E1-5

Journal entries on the books of Danders Corporation to record merger with Harrison Corporation

Investment in Harrison 530,000Common stock, $10 par 180,000Additional paid-in capital 150,000Cash 200,000To record issuance of 18,000 common shares and payment of cash in the acquisition of Harrison Corporation in a merger.

Investment expenses 70,000Additional paid-in capital 30,000

Cash 100,000To record costs of registering and issuing securities and additional

direct costs of combination.

Cash 40,000Inventories 100,000Other current assets 20,000Plant assets — net 280,000Goodwill 160,000

Current liabilities 30,000Other liabilities 40,000Investment in Harrison 530,000

To record allocation of cost to assets received and liabilities assumed on the basis of their fair values and to goodwill computed as follows:

Cost of investment $530,000Fair value of assets acquired 370,000Goodwill $160,000


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SOLUTIONS TO PROBLEMS

Solution P1-1

Preliminary computationsFair Value: Cost of investment in Sain at January 2 (30,000 shares ´ $20) $600,000Book value (440,000)Excess fair value over book value $160,000

Excess allocated to:Current assets $ 40,000Remainder to goodwill 120,000Excess fair value over book value $160,000

Note: $25,000 direct costs of combination are expensed. The excess fair value of Pine’s buildings is not considered.

Pine CorporationBalance Sheet at January 2, 2009

Assets

Current assets ($130,000 + $60,000 + $40,000 excess - $40,000 direct costs) $ 190,000

Land ($50,000 + $100,000) 150,000

Buildings — net ($300,000 + $100,000) 400,000

Equipment — net ($220,000 + $240,000) 460,000

Goodwill 120,000Total assets $1,320,000

Liabilities and Stockholders’ Equity

Current liabilities ($50,000 + $60,000) $ 110,000

Common stock, $10 par ($500,000 + $300,000) 800,000

Additional paid-in capital [$50,000 + ($10 ´ 30,000 shares) — $15,000 costs of issuing and registering securities]

335,000


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Retained earnings (subtract $25,000 expensed direct cost) 75,000Total liabilities and stockholders’ equity $1,320,000


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Solution P1-2

Preliminary computationsFair Value: Cost of acquiring Seabird $825,000Fair value of assets acquired and liabilities assumed 670,000

Goodwill from acquisition of Seabird $155,000

Pelican CorporationBalance Sheet

at January 2, 2009

Assets

Current assets

Cash [$150,000 + $30,000 - $140,000 expenses paid] $ 40,000

Accounts receivable — net [$230,000 + $40,000 fair value] 270,000

Inventories [$520,000 + $120,000 fair value] 640,000

Plant assets

Land [$400,000 + $150,000 fair value] 550,000

Buildings — net [$1,000,000 + $300,000 fair value] 1,300,000

Equipment — net [$500,000 + $250,000 fair value] 750,000

Goodwill 155,000Total assets $3,705,000


Liabilities

Accounts payable [$300,000 + $40,000] $ 340,000

Note payable [$600,000 + $180,000 fair value] 780,000

Stockholders’ equity

Capital stock, $10 par [$800,000 + (33,000 shares ´ $10)] 1,130,000


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Other paid-in capital [$600,000 - $40,000 + ($825,000 - $330,000)] 1,055,000

Retained earnings (subtract $100,000 expensed direct costs) 400,000Total liabilities and stockholders’ equity $3,705,000


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Solution P1-3

Persis issues 25,000 shares of stock for Sineco’s outstanding shares

1a Investment in Sineco 750,000Capital stock, $10 par 250,000Other paid-in capital 500,000To record issuance of 25,000, $10 par shares with a market price of $30 per share in a business combination with Sineco.

Investment expenses 30,000Other paid-in capital 20,000

Cash 50,000To record costs of combination in a business combination with Sineco.

Cash 10,000Inventories 60,000Other current assets 100,000Land 100,000Plant and equipment — net 350,000Goodwill 180,000

Liabilities 50,000Investment in Sineco 750,000

To record allocation of investment cost to identifiable assets and liabilities according to their fair values and the remainder to goodwill. Goodwill is computed: $750,000 cost - $570,000 fair value of net assets acquired.

1b Persis CorporationBalance Sheet

January 2, 2009 (after business combination)

AssetsCash [$70,000 + $10,000] $ 80,000Inventories [$50,000 + $60,000] 110,000Other current assets [$100,000 + $100,000] 200,000Land [$80,000 + $100,000] 180,000Plant and equipment — net [$650,000 + $350,000] 1,000,000Goodwill 160,000Total assets $1,750,000

Liabilities and Stockholders’ EquityLiabilities [$200,000 + $50,000] $ 250,000Capital stock, $10 par [$500,000 + $250,000] 750,000Other paid-in capital [$200,000 + $500,000 - $20,000] 680,000


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Retained earnings (subtract $30,000 direct costs) 70,000Total liabilities and stockholders’ equity $1,750,000


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Solution P1-3 (continued)

Persis issues 15,000 shares of stock for Sineco’s outstanding shares

2a Investment in Sineco (15,000 shares ´ $30) 450,000Capital stock, $10 par 150,000Other paid-in capital 300,000To record issuance of 15,000, $10 par common shares with a market price of $30 per share.

Investment expense 30,000Other paid-in capital 20,000

Cash 50,000To record costs of combination in the acquisition of Sineco.

Cash 10,000Inventories 60,000Other current assets 100,000Land 100,000Plant and equipment — net 350,000

Liabilities 50,000Investment in Sineco 570,000To record Sineco’s net assets at fair values.

Investment in Sineco 120,000 Gain on bargain purchase 120,000

To record gain on bargain purchase and adjust Investment inSineco to reflect total fair value.

Fair value of net assets acquired $570,000Investment cost (Fair value of consideration) 450,000

Gain on Bargain Purchase $120,000

2b Persis CorporationBalance Sheet

January 2, 2009 (after business combination)

AssetsCash [$70,000 + $10,000] $ 80,000Inventories [$50,000 + $60,000] 110,000Other current assets [$100,000 + $100,000] 200,000Land [$80,000 + $100,000] 180,000Plant and equipment — net [$650,000 + $350,000] 1,000,000Total assets $1,570,000

Liabilities and stockholders’ equityLiabilities [$200,000 + $50,000] $ 250,000


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Capital stock, $10 par [$500,000 + $150,000] 650,000Other paid-in capital [$200,000 + $300,000 - $20,000] 480,000Retained earnings (subtract $30,000 direct costs

and add $120,000 Gain from bargain purchase) 190,000

Total liabilities and stockholders’ equity $1,570,000


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Solution P1-4

1 Schedule to allocate investment cost to assets and liabilities

Investment cost (fair value), January 1 $300,000Fair value acquired from Sen ($360,000 ´ 100%) 360,000

Excess fair value over cost (bargain purchase gain) $ 60,000

Allocation:

Allocation Cash $ 10,000Receivables — net 20,000Inventories 30,000Land 100,000Buildings — net 150,000Equipment — net 150,000Accounts payable (30,000)Other liabilities (70,000)Gain on bargain purchase (60,000)

Totals $ 300,000

2 Phule CorporationBalance Sheet

at January 1, 2009 (after combination)

Assets Liabilities

Cash $ 25,000 Accounts payable $ 120,000Receivables — net 60,000 Note payable (5 years) 200,000Inventories 150,000 Other liabilities 170,000Land 145,000 Liabilities 490,000Buildings — net 350,000Equipment — net 330,000 Stockholders’ Equity

Capital stock, $10 par 300,000Other paid-in capital 100,000Retained earnings* 170,000

Stockholders’ equity 510,000Total assets $1,060,000 Total equities $1,060,000

* Retained earnings reflects the $60,000 gain on the bargain purchase.


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Solution P1-5

1 Journal entries to record the acquisition of Dawn Corporation

Investment in Dawn 2,500,000Capital stock, $10 par 1,000,000Other paid-in capital 1,000,000Cash 500,000To record acquisition of Dawn for 100,000 shares of common stock and $500,000 cash.

Investment expense 100,000Other paid-in capital 50,000

Cash 150,000To record payment of costs to register and issue the shares of stock ($50,000) and other costs of combination ($100,000).

Cash 240,000Accounts receivable 360,000Notes receivable 300,000Inventories 500,000Other current assets 200,000Land 200,000Buildings 1,200,000Equipment 600,000

Accounts payable 300,000Mortgage payable, 10% 600,000Investment in Dawn 2,700,000

To record the net assets of Dawn at fair value.Investment in Dawn 200,000 Gain on bargain purchase 200,000 To adjust Investment account to total fair value and recognize the gain from the bargain purchase.

Gain on Bargain Purchase CalculationAcquisition price $2,500,000Fair value of net assets acquired 2,700,000

Gain on bargain purchase $ 200,000


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2 Celistia CorporationBalance Sheet

at January 2, 2009(after business combination)

AssetsCurrent Assets

Cash $ 2,590,000Accounts receivable — net 1,660,000Notes receivable — net 1,800,000Inventories 3,000,000Other current assets 900,000 $ 9,950,000

Plant AssetsLand $ 2,200,000Buildings — net 10,200,000Equipment — net 10,600,000 23,000,000Total assets $32,950,000


LiabilitiesAccounts payable $ 1,300,000Mortgage payable, 10% 5,600,000 $ 6,900,000

Stockholders’ EquityCapital stock, $10 par $11,000,000Other paid-in capital 8,950,000Retained earnings* 6,000,000 26,050,000Total liabilities and stockholders’ equity $32,950,000

* Subtract $100,000 direct combination costs and add $200,000 gain on bargain purchase.


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RESEARCH CASE

1. Journal entry to record the acquisition (in millions of $)

Investment in Target 50,000Common stock, $0.10 par 100Additional paid-in capital 49,900To record acquisition of Target for 1 billion shares of common stock having a fair value of $50 per share.

Cash 240,000Accounts receivable 360,000Notes receivable 300,000Inventories 500,000Other current assets 200,000Land 190,000Buildings 1,140,000Equipment 570,000

Accounts payable 300,000Mortgage payable, 10% 600,000Investment in Target 2,600,000

Assign the excess of fair value over book value of assets and liabilities as shown in the following allocation schedule:

Acquisition price $50,000Excess fair value of assets acquired Inventory (10%) 625 Land (20%) 987 Buildings and improvements (20%) 3,222 Fixtures and equipment (20%) 711 Computer hardware and software (20%) 438

21,859Goodwill $ 28,141


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2. Consolidated Balance Sheet at January 31, 2007

(millions, except footnotes) WAL-MART TARGET DR CR

CONSOLI-DATED

Assets

Cash and cash equivalents 7,373 813 8,186

Accounts receivable, net 2,840 6,194 9,034

Inventory 33,685 6,254 625 40,564

Other current assets 2,690 1,445 4,135

Total current assets 46,588 14,706 61,294

Property and equipment

Land 18,612 4,934 987 24,533

Buildings and improvements 64,052 16,110 3,222 83,384

Fixtures and equipment 25,168 3,553 711 29,432

Computer hardware and software 2,188 438 2,626

Construction-in-progress 1,596 1,596

Transportation equipment 1,966 1,966

Accumulated depreciation (24,408) (6,950) (31,358)

Property and equipment, net 85,390 21,431 106,821

Property Under Capital Lease 5,392 5,392

Less: Accumulated amortization (2,342) (2,342)

Property Under Lease - net 3,050 3,050

Goodwill 13,759 28,14

1 41,900

Investment in Target 50,000 50,00

0 0

Other non-current assets 2,406 1,212 3,618

Total assets 201,193 37,349 238,542

Liabilities and shareholders' investment

Commercial Paper 2,570 2,570

Accounts payable 28,090 6,575 34,665

Accrued and other current liabilities 14,675 2,758 17,433

Income taxes payable 706 422 1,128

Current portion of long-term debt and notes payable 5,428 1,362 6,790

Current obligations capital leases 285 285

Total current liabilities 51,754 11,117 62,871

Long-term debt 27,222 8,675 35,897

Long term capital leases 3,513 3,513

Deferred income taxes 4,971 577 5,548

Noncontrolling Interest 2,160 2,160

Other non-current liabilities 1,347 1,347

Shareholders' investment

Common stock 513 72 72 513

Additional paid-in-capital 52,734 2,387 2,387 52,734

Retained earnings 55,818 13,417 13,417 55,818

Accumulated other comprehensive income (loss) 2,508 (243) 2,265

Total shareholders' investment 111,573 15,633 127,206


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Total liabilities and shareholders' investment 201,193 37,349 50,000 50,0

00 238,542

Chapter 2

STOCK INVESTMENTS — INVESTOR ACCOUNTING AND REPORTING


1 Only the investor’s accounts are affected when outstanding stock is acquired from existing stockholders. The investor records the investment at its cost. Since the investee company is not a party to the transaction, its accounts are not affected.

Both investor and investee accounts are affected when unissued stock is acquired directly from the investee. The investor records the investment at its cost and the investee adjusts its asset and owners’ equity accounts to reflect the issuance of previously unissued stock.

2 Goodwill arising from an equity investment of 20 percent or more is not recorded separately from the investment account. Under the equity method, the investment is presented on one line of the balance sheet in accordance with the one-line consolidation concept.

3 Dividends received from earnings accumulated before an investment is acquired are treated as decreases in the investment account balance under the fair value/cost method. Such dividends are considered a return of a part of the original investment.

4 The equity method of accounting for investments increases the investment account for the investor’s share of the investee’s income and decreases it for the investor’s share of the investee’s losses and for dividends received from the investee. In addition, the investment and investment income accounts are adjusted for amortization of any investment cost-book value differentials related to the interest acquired. Adjustments to the investment and investment income accounts are also needed for unrealized profits and losses from transactions between the investor and investee companies. A fair value adjustment is optional under SFAS No. 159.

5 The equity method is referred to as a one-line consolidation because the investment account is reported on one line of the investor’s balance sheet and investment income is reported on one line of the investor’s income statement (except when the investee has extraordinary or cumulative-effect type adjustments). In addition, the investment income is computed such that the parent company’s income and stockholders’ equity are equal to the consolidated net income and consolidated stockholders’ equity that would result if the statements of the investor and investee were consolidated.

6 If the equity method of accounting is applied correctly, the income of the parent company will generally equal the controlling interest share of consolidated net income.

7 The difference in the equity method and consolidation lies in the detail reported, but not in the amount of income reported. The equity method reports investment income on one


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line of the income statement whereas the details of revenues and expenses are reported in the consolidated income statement.

8 The investment account balance of the investor will equal underlying book value of the investee if (a) the equity method is correctly applied, (b) the investment was acquired at book value which was equal to fair value, the pooling method was used, or the cost-book value differentials have all been amortized, and (c) there have been no intercompany transactions between the affiliated companies that have created investment account-book value differences.

9 The investment account balance must be converted from the cost to the equity method when acquisitions increase the interest held to 20 percent or more. The amount of the adjustment is the difference between the investment income reported under the cost method in prior years and the income that would have been reported if the equity method of accounting had been used. Changes from the cost to the equity method of accounting for equity investments are changes in the reporting entity that require restatement of prior years’ financial statements when the effect is material.


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10 The one-line consolidation is adjusted when the investee’s income includes extraordinary items, gains or losses from discontinued operations, or cumulative-effect type adjustments. In this case, the investor’s share of the investee’s ordinary income is reported as investment income under a one-line consolidation, but the investor’s share of extraordinary items, cumulative-effect type adjustments, and gains and losses from discontinued operations is combined with similar items of the investor.

11 The remaining 15 percent interest in the investee is accounted for under the fair value/cost method, and the investment account balance immediately after the sale becomes the new cost basis.

12 Yes. When an investee has preferred stock in its capital structure, the investor has to allocate the investee’s income to preferred and common stockholders. Then, the investor takes up its share of the investee’s income allocated to common stockholders in applying the equity method. The allocation is not necessary when the investee has only common stock outstanding.

13 Goodwill impairment losses are calculated by business reporting units. For each reporting unit, the company must first determine the fair values of net assets. The fair value of the reporting unit is the amount at which it could be purchased in a current market transaction. This may be based on market prices, discounted cash flow analyses, or similar current transactions. This is done in the same manner as is done to originally record a combination. Any excess measured fair value is the fair value of goodwill. The company then compares the goodwill fair value estimate to the carrying value of goodwill to determine if there has been an impairment during the period.

14 Yes. Impairment losses for subsidiaries are computed as outlined in the solution to question 13. Companies compare fair values to book valuers for equity method investments as a whole. Firms may recognize impairments for equity method investments as a whole, but perform no separate goodwill impairment.

15 Initial impairment losses recorded upon adoption of SFAS 142 are treated as the cumulative effect of an accounting change. Impairment losses resulting from subsequent annual reviews are included in the calculation of income from operations.


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19 SOLUTIONS TO EXERCISES

Solution E2-1

1 d2 c3 c4 d5 b


1 d2 b3 d4 b

Grade’s investment is reported at its $300,000 cost because the equity method is not appropriate and because Grade’s share of Medium’s income exceeds dividends received since acquisition [($260,000 ´ 15%) > $20,000].

5 cDividends received from Zafacon for the two years were $10,500 ($70,000 ´ 15% - all in 2009), but only $9,000 (15% of Zafacon’s income of $60,000 for the two years) can be shown on Torquel’s income statement as dividend income from the Zafacon investment. The remaining $1,500 reduces the investment account balance.

6 c[$50,000 + $150,000 + ($300,000 ´ 10%)]

7 a8 d

Investment balance January 2 $250,000Add: Income from Pod ($100,000 ´ 30%) 30,000Investment in Pod December 31 $280,000

Solution E2-3

1 Bowman’s percentage ownership in Trevor

Bowman’s 20,000 shares/(60,000 + 20,000) shares = 25%

2 Goodwill

Investment cost $500,000Book value ($1,000,000 + $500,000) ´ 25% (375,000)Goodwill $125,000


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Solution E2-4

Income from Medley for 2009

Share of Medley’s income ($200,000 ´ 1/2 year ´ 30%) $ 30,000


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Solution E2-5

1 Income from Oakey

Share of Oakey’s reported income ($800,000 ´ 30%) $ 240,000Less: Excess allocated to inventory (100,000)Less: Depreciation of excess allocated to building ($200,000/4 years)

(50,000)

Income from Oakey $ 90,000

2 Investment account balance at December 31

Cost of investment in Oakey $2,000,000Add: Income from Oakey 90,000Less: Dividends ($200,000 x 30%) (60,000) Investment in Oakey December 31 $2,030,000

Alternative solutionUnderlying equity in Oakey at January 1 ($1,500,000/.3) $5,000,000Income less dividends 600,000Underlying equity December 31 5,600,000Interest owned 30%Book value of interest owned December 31 1,680,000Add: Unamortized excess 350,000Investment in Oakey December 31 $2,030,000

Solution E2-6

Journal entry on Martin’s books

Investment in Neighbors ($300,000 x 40%) 120,000Loss from discontinued operations 20,000

Income from Kelly 140,000

To recognize income from 40% investment in Neighbors.


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Solution E2-7

1 aDividends received from Bennett ($120,000 ´ 15%) $ 18,000Share of income since acquisition of interest

2008 ($20,000 ´ 15%) (3,000)2009 ($80,000 ´ 15%) (12,000)

Excess dividends received over share of income $ 3,000

Investment in Bennett January 3, 2008 $ 50,000Less: Excess dividends received over share of income (3,000)

Investment in Bennett December 31, 2009 $ 47,000

2 bCost of 10,000 of 40,000 shares outstanding $1,400,000Book value of 25% interest acquired ($4,000,000 stockholders’ equity at December 31, 2008 + $1,400,000 from additional stock issuance) ´ 25% 1,350,000

Excess fair value over book value(goodwill) $ 50,000

3 dThe investment in Monroe balance remains at the original cost.

4 cIncome before extraordinary item $ 200,000Percent owned 40%

Income from Krazy Products $ 80,000

Solution E2-8

Preliminary computationsCost of 40% interest January 1, 2008 $2,400,000Book value acquired ($4,000,000 ´ 40%) (1,600,000)

Excess fair value over book value $ 800,000

Excess allocated toInventories $100,000 ´ 40% $ 40,000Equipment $200,000 ´ 40% 80,000Goodwill for the remainder 680,000


Raython’s underlying equity in Treaton ($5,500,000 ´ 40%) $2,200,000Add: Goodwill 680,000

Investment balance December 31, 2012 $2,880,000


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Alternative computationRaython’s share of the change in Treaton’s stockholders’ equity ($1,500,000 ´ 40%) $ 600,000Less: Excess allocated to inventories ($40,000 ´ 100%) (40,000)Less: Excess allocated to equipment ($80,000/4 years ´ 4 years) (80,000)Increase in investment account 480,000Original investment 2,400,000Investment balance December 31, 2012 $2,880,000


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Solution E2-9

1 Income from RunnerShare of income to common ($400,000 - $30,000 preferred dividends) ´ 30% $ 111,000

2 Investment in Runner December 31, 2009NOTE: The $50,000 direct costs of acquiring the investment must be expensed when incurred. They are not a part of the cost of the investment. Investment cost $1,200,000Add: Income from Runner 111,000Less: Dividends from Runner ($200,000 dividends - $30,000 dividends to preferred) ´ 30% (51,000)Investment in Runner December 31, 2009 $1,260,000

Solution E2-10

1 Income from Tree ($300,000 – $200,000) ´ 25%Investment income October 1 to December 31 $ 25,000

2 Investment balance December 31Investment cost October 1 $ 600,000Add: Income from Tree 25,000Less: Dividends ---Investment in Tree at December 31 $ 625,000


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Solution E2-11

Preliminary computationsGoodwill from first 10% interest:Cost of investment $ 50,000Book value acquired ($420,000 ´ 10%) (42,000)

Excess fair value over book value $ 8,000Goodwill from second 10% interest:Cost of investment $ 100,000Book value acquired ($500,000 ´ 10%) (50,000)


1 Correcting entry as of January 2, 2009 to convert investment to the equity basisAccumulated gain/loss on stock available for Sale 50,000

Valuation allowance to record SAS at fair value

50,000

To remove the valuation allowance entered on December 31, 2009 under the fair value method for an available for sale security.Investment in Twizzle 8,000

Retained earnings 8,000To adjust investment account to an equity basis computed as follows:

Share of Twizzle’s income for 2009 $ 20,000Less: Share of dividends for 2009 (12,000)

$ 8,000

2 Income from Twizzle for 2009

Income from Twizzle on original 10% investment $ 10,000

Income from Twizzle on second 10% investment 10,000Income from Twizzle $ 20,000


19-30

Solution E2-12

Preliminary computationsStockholders’ equity of Tall on December 31, 2008 $380,000Sale of 12,000 previously unissued shares on January 1, 2009 250,000Stockholders’ equity after issuance on January 1, 2009 $630,000

Cost of 12,000 shares to River $250,000Book value of 12,000 shares acquired

$630,000 ´ 12,000/36,000 shares 210,000Excess fair value over book value $ 40,000

Excess is allocated as followsBuildings $60,000 ´ 12,000/36,000 shares $ 20,000Goodwill 20,000


Journal entries on River’s books during 2009

January 1Investment in Tall 250,000

Cash 250,000To record acquisition of a 1/3 interest in Tall.

During 2009Cash 30,000

Investment in Tall 30,000To record dividends received from Tall ($90,000 ´ 1/3).

December 31Investment in Tall 38,000

Income from Tall 38,000To record investment income from Tall computed as follows:Share of Tall’s income ($120,000 ´ 1/3) $ 40,000Depreciation on building ($20,000/10 years) (2,000)Income from Tall $ 38,000


19-31

Solution E2-13

1 Journal entries on BIP’s books for 2009

Cash 30,000Investment in Crown (30%) 30,000

To record dividends received from Crown($100,000 ´ 30%).

Investment in Crown (30%) 60,000Extraordinary loss (from Crown) 6,000

Income from Crown 66,000To record investment income from Crown computed as follows:

Share of income before extraordinary item $170,000 ´ 30% $ 51,000

Add: Excess fair value over cost realized in 2009 $50,000 ´ 30% 15,000

Income from Crown before extraordinary loss $ 66,000

2 Investment in Crown balance December 31, 2009

Investment cost $ 195,000Add: Income from Crown after extraordinary loss 60,000Less: Dividends received from Crown (30,000)Investment in Crown December 31 $225,000

Check: Investment balance is equal to underlying book value ($700,000 + $150,000 - $100,000) ´ 30% = $225,000

3 BIP CorporationIncome Statement

for the year ended December 31, 2009Sales $1,000,000Expenses 700,000

Operating income 300,000Income from Crown (before extraordinary item) 66,000

Income before extraordinary item 366,000Extraordinary loss (net of tax effect) 6,000

Net income $ 360,000

Solution E2-14


19-32

1 Income from Water for 2009

Equity in income ($108,000 - $8,000 preferred) ´ 40% $ 40,000

2 Investment in Water December 31, 2009

Cost of investment in Water common $ 290,000Add: Income from Water 40,000Less: Dividends * ($40,000 x 40%) (16,000)

Investment in Water December 31 $ 314,000* $48,000 toal dividends less $8,000 preferred dividend


19-33

Solution E2-15

Since the total value of Steele has declined by $60,000 while the fair value of the net identifiable assets is unchanged, the $60,000 decline is the impairment in goodwill for the period. Assuming this is not the initial adoption of SFAS 142, the $60,000 impairment loss is deducted in calculating Park’s income from continuing operations.

Solution E2-16

Goodwill impairments are calculated at the business reporting unit level. Increases and decreases in fair values across business units are not offsetting. Flash must report an impairment loss of $5,000 in calculating 2009 income from continuing operations.


Solution P2-1

1 GoodwillCost of investment in Telly on April 1 $ 343,000Book value acquired:

Net assets at December 31 $1,000,000Add: Income for 1/4 year ($120,000 ´ 25%) 30,000Less: Dividends paid March 15 (20,000)Book value at April 1 1,010,000Interest acquired 30% 303,000

Goodwill from investment in Telly $ 40,000

2 Income from Telly for 2009Equity in income before extraordinary item

($120,000 ´ 3/4 year ´ 30%) $ 27,000Extraordinary gain from Telly ($40,000 ´ 30%) 12,000Income from Telly $ 39,000

3 Investment in Telly at December 31, 2009Investment cost April 1 $ 343,000Add: Income from Telly plus extraordinary gain 39,000Less: Dividends ($20,000 ´ 3 quarters) ´ 30% (18,000)Investment in Shelly December 31 $ 364,000

4 Equity in Telly’s net assets at December 31, 2009Telly’s stockholders’ equity January 1 $1,000,000Add: Net income 160,000Less: Dividends (80,000)Telly’s stockholders’ equity December 31 1,080,000Investment interest 30%Equity in Telly’s net assets $ 324,000


19-34

5 Extraordinary gain for 2009 to be reported by RitterTelly’s extraordinary gain ´ 30% $ 12,000


19-35

Solution P2-2

1 Cost method

Investment in Siegel July 1, 2009 (at cost) $110,000Dividends charged to investment (2,400)Investment in Siegel balance at December 31, 2009

$107,600

July 1, 2009Investment in Siegel 110,000

Cash 110,000To record initial investment for 80% interest.

November 1, 2009Cash 6,400

Dividend income 6,400To record receipt of dividends ($8,000 ´ 80%).

December 31, 2009Dividend income 2,400

Investment in Siegel 2,400To reduce investment for dividends in excess of earnings ($8,000 dividends - $5,000 earnings) ´ 80%.

2 Equity method

Investment in Siegel July 1, 2009 $110,000Add: Share of reported income 4,000Deduct: Dividends charged to investment (6,400)Deduct: Excess Depreciation (1,100)Investment in Siegel balance at December 31, 2009

$106,500

July 1, 2009Investment in Siegel 110,000

Cash 110,000To record initial investment for 80% interest of Siegel.

November 1, 2009Cash 6,400

Investment in Siegel 6,400To record receipt of dividends ($8,000 ´ 80%).

December 31, 2009


19-36

Investment in Siegel 2,900Income from Siegel 2,900

To record income from Siegel computed as follows: Share of Siegel’s income ($10,000 ´ 1/2 year ´ 80%) less excess depreciation ($22,000/10 years ´ 1/2 year).


19-37

Solution P2-3

Preliminary computationsCost of investment in Zelda $331,000Book value acquired ($1,000,000 ´ 30%) 300,000


Excess allocatedUndervalued inventories ($30,000 ´ 30%) $ 9,000Overvalued building (-$60,000 ´ 30%) (18,000)Goodwill for the remainder 40,000


1 Income from ZeldaShare of Zelda’s reported income ($100,000 ´ 30%) $ 30,000Less: Excess allocated to inventories sold in 2009 (9,000)Add: Amortization of excess allocated to overvalued

building $18,000/10 years 1,800Income from Zelda — 2009 $ 22,800

2 Investment balance December 31, 2009Cost of investment $331,000Add: Income from Zelda 22,800Less: Share of Zelda’s dividends ($50,000 ´ 30%) (15,000)Investment in Zelda balance December 31 $338,800

3 Vatter’s share of Zelda’s net assetsShare of stockholders’ equity ($1,000,000 + $100,000 income - $50,000 dividends) ´ 30% $315,000


19-38

Solution P2-4

Preliminary computationsInvestment cost of 40% interest $380,000Book value acquired [$500,000 + ($100,000 ´ 1/2 year)] ´ 40% 220,000

Excess fair value over book value $160,000

Excess allocatedLand $30,000 ´ 40% $ 12,000Equipment $50,000 ´ 40% 20,000Remainder to goodwill 128,000


July 1, 2009Investment in Dormer 380,000

Cash 380,000To record initial investment for 40% interest in Dormer.

November 2009Cash (other receivables) 20,000

Investment in Dormer 20,000To record receipt of dividends ($50,000 ´ 40%).

December 31, 2009Investment in Dormer 20,000

Income from Dormer 20,000To record share of Dormer’s income ($100,000 ´ 1/2 year ´ 40%).

December 31, 2009Income from Dormer 2,000

Investment in Dormer 2,000To record depreciation on excess allocated to Undervalued equipment ($20,000/5 years ´ 1/2 year).


19-39

Solution P2-5

1 Schedule to allocate fair value — book value differentialsInvestment cost January 1 $1,680,000Book value acquired ($3,900,000 net assets ´ 30%) 1,170,000


Allocation of excessFair Value — Percent Book Value Acquired Allocation

Inventories $200,000 30% $ 60,000Land 800,000 30% 240,000Buildings — net 500,000 30% 150,000Equipment — net (700,000) 30% (210,000)Bonds payable (100,000) 30% (30,000)Assigned to identifiable net assets 210,000Remainder to goodwill 300,000Excess fair value over book value $ 510,000

2 Income from Tremor for 2009Equity in income ($1,200,000 ´ 30%) $ 360,000Less: Amortization of differentials

Inventories (sold in 2009) (60,000)Buildings — net ($150,000/10 years) (15,000)Equipment — net ($210,000/7 years) 30,000Bonds payable ($30,000/5 years) 6,000

Income from Tremor $ 321,000

3 Investment in Tremor balance December 31, 2009Investment cost $1,680,000Add: Income from Tremor 321,000Less: Dividends ($600,000 ´ 30%) (180,000)Investment in Tremor December 31 $1,821,000

Check:Underlying equity ($4,500,000 ´ 30%) $1,350,000Unamortized excess:

Land 240,000Buildings — net ($150,000 - $15,000) 135,000Equipment — net ($210,000 - $30,000) (180,000)Bonds payable ($30,000 - $6,000) (24,000)Goodwill 300,000

Investment in Tremor account $1,821,000


19-40

Solution P2-6

1 Income from StapletonInvestment in Stapleton July 1, 2009 at cost $96,000Book value acquired ($130,000 ´ 60%) 78,000


Pauly’s share of Stapleton’s income for 2009($20,000 ´ 1/2 year ´ 60%) $ 6,000

Less: Excess Depreciation ($18,000/10 years ´ 1/2 year) 900Income from Stapleton for 2009 $ 5,100

2 Investment balance December 31, 2009Investment cost July 1 $96,000Add: Income from Stapleton 5,100Less: Dividends ($12,000 ´ 60%) (7,200)Investment in Stapleton December 31 $93,900

Solution P2-7

Dill CorporationPartial Income Statement

for the year ended December 31, 2011

Investment incomeIncome from Larkspur (equity basis) $45,000

Income before extraordinary item 45,000

Extraordinary gainShare of Larkspur’s operating loss carryforward 30,000

Net income $75,000


19-41

Solution P2-8

1 Investment income — 2011Income from 10% investment:

Share of income ($70,000 ´ 10%) ´ 1 year $7,000Less: Excess depreciation ($20,000 - $15,000) ´ 10% ´ 1 year (500) $ 6,500

Income from 20% investment:Share of income ($70,000 ´ 20%) ´ 1/2 year $7,000Less: Excess depreciation ($50,000 - $47,000) ´ 10% ´ 1/2 year (150) 6,850

Investment income $13,350

2 Prior period adjustment and other journal entries to record additional purchase of Brady stock

The 10% interest is converted to the equity method as of January 1, 2011 with the following entry:

Investment in Brady 4,000Retained earnings 4,000

The adjustment is equal to $50,000 retained earnings increase for 2008 and 2009 times 10% interest, less excess depreciation of $1,000 for 2008 and 2009.

Unrealized gains on available for sale 5,000Valuation allowance - available for sale 5,000This entry reverses the cumulative fair value adjustment made in prior periods. Since the security was available for sale rather than a trading security, the adjustment has had no impact on prior income statements.

Investment in Brady 50,000Cash 50,000

Record the purchase of the additional 20% interest in Brady.

3 Investment in Brady at December 31, 2011Share of Brady’s underlying equity at December 31, 2011* ($290,000 stockholders’ equity ´ 30%) $87,000Add: Unamortized equipment excess on 10% interest 3,000Add: Unamortized equipment excess on 20% interest 2,550Investment account balance December 31 $92,550

* Equity at 1/1/2008 $150,0002008 Net income - Dividedns 20,0002009 Net income - Dividends 30,0002010 net income - Dividends 40,0002011 net income - Dividends 50,000


19-42

Total Brady equity at 12/31/2011 $290,000

4 Adjustment for Hazel’s purchase of additional stock from Brady

Hazel increases its investment in Brady account by $70,000, the amount of the additional investment. The new balance of the investment in Brady account will be $162,550.


19-43

Solution P2-9

Preliminary computationsInvestment cost of 90% interest in Sigma $1,980,000

Implied total fair value of sigma ($1,980,000 / 90%) $2,200,000Book value($2,525,000 + $125,000) (2,650,000)

Excess book value over fair value $ (450,000)

Excess allocatedOvervalued plant assets $ (500,000)Undervalued inventories 50,000


1 Investment income for 2009Share of reported income ($250,000 ´ 1/2 year ´ 90%) $ 112,500Add: Depreciation on overvalued plant assets

(($500,000 x 90%) / 9 years) ´ 1/2 year 25,000Less: 90% of Undervaluation allocated to inventories (45,000)Income from Sigma — 2009 $ 92,500

2 Investment balance at December 31, 2010Underlying book value of 90% interest in Sigma(Sigma’s December 31, 2010 equity of $2,700,000 ´ 90%) $2,430,000Less: Unamortized overvaluation of plant assets

($50,000 per year ´ 7 1/2 years) (375,000)Investment balance December 31, 2010 $2,055,000

3 Journal entries to account for investment in 2011Cash (or Dividends receivable) 135,000

Investment in Sigma 135,000To record receipt of dividends ($150,000 ´ 90%).

Investment in Sigma 230,000Income from Sigma 230,000To record income from Sigma computed as follows: Provo’s share of Sigma’s reported net income ($200,000 ´ 90%) plus $50,000 amortization of overvalued plant assets.

Check: Investment balance December 31, 2010 of $2,055,000 + $230,000 income from Sigma - $135,000 dividends = $2,150,000 balance December 31, 2011

Alternatively, Sigma’s underlying equity ($2,000,000 paid-in capital + $750,000 retained earnings) ´ 90% interest - $325,000 unamortized excess allocated to plant assets = $2,150,000 balance December 31, 2011.


19-44

Solution P2-10

1 Market price of $12 for Creape’s shares Cost of investment in Tantani (40,000 shares ´ $12) The $40,000 direct costs must be expensed. $ 480,000Book value acquired ($1,000,000 net assets ´ 40%) 400,000


Allocation of excess Fair Value — Percent

Book Value Acquired AllocationInventories $ 100,000 40% $ 40,000Land 200,000 40% 80,000Buildings — net (200,000) 40% (80,000)Equipment — net 100,000 40% 40,000

Assigned to identifiable net assets 80,000Remainder assigned to goodwill 0

Total allocated $ 80,000

2 Market price of $8 for Creape’s sharesCost of investment in Tantani(40,000 shares ´ $8) Other direct costs are $0 $ 320,000Book value acquired ($1,000,000 net assets ´ 40%) 400,000


Excess allocated to Fair Value — Percent

Book Value Acquired AllocationInventories $100,000 40% $40,000Land 200,000 40% 80,000Buildings — net (200,000) 40% (80,000)Equipment — net 100,000 40% 40,000Bargain purchase (160,000)

$(80,000)


19-45

Solution P2-11

1 Income from Spandix — 2008Prudy’s share of Spandix’s income for 2008

$40,000 ´ 1/2 year ´ 15% $ 3,000

2 Investment in Spandix balance December 31, 2008Investment in Spandix at cost $ 48,750Add: Income from Spandix 3,000Less: Dividends from Spandix November 1 ($15,000 ´ 15%) (2,250)Investment in Spandix balance December 31 $ 49,500

3 Income from Spandix — 2009Prudy’s shares of Spandix’s income for 2009:

$60,000 income ´ 15% interest ´ 1 year $ 9,000$60,000 income ´ 30% interest ´ 1 year 18,000$60,000 income ´ 45% interest ´ 1/4 year 6,750Prudy’s share of Spandix’s income for 2009 $ 33,750

4 Investment in Spandix December 31, 2009Investment balance December 31, 2008 (from 2) $ 49,500Add: Additional investments ($99,000 + $162,000) 261,000Add: Income for 2009 (from 3) 33,750Less: Dividends for 2009 ($15,000 ´ 45%) + ($15,000 ´ 90%) (20,250)Investment in Spandix balance at December 31 $324,000

Alternative solutionInvestment cost ($48,750 + $99,000 + $162,000) $309,750Add: Share of reported income

2008 — $40,000 ´ 1/2 year ´ 15% $ 3,0002009 — $60,000 ´ 1 year ´ 45% 27,0002009 — $60,000 ´ 1/4 year ´ 45% 6,750 36,750

Less: Dividends2008 — $15,000 ´ 15% $ 2,2502009 — $15,000 ´ 45% 6,7502009 — $15,000 ´ 90% 13,500 (22,500)

Investment in Spandix $324,000

Note: Since Prudy’s investment in Spandix consisted of 9,000 shares (a 45% interest) on January 1, 2009, Prudy correctly used the equity method of accounting for the 15% investment interest held during 2008. The alternative of reporting income for 2008 on a fair value/cost basis and recording a prior period adjustment for 2009 is not appropriate in view of the overwhelming evidence of an ability to exercise significant influence by the time 2008 income is recorded.


19-46

Solution P2-12

Income from Sassy

2008 2009 2010 2011 Total

As reported $40,000 $32,000 $52,000 $48,000 $172,000Correct amounts 20,000a 32,000b 52,000c 48,000d 152,000Overstatement $20,000 $ -0- $ -0- $ -0- $ 20,000

a($100,000 ´ 1/2 year ´ 40%) b($80,000 ´ 40%) c($130,000 ´ 40%) d($120,000 ´ 40%)

1 Investment in Sassy balance December 31, 2011

Investment in Sassy per books December 31 $400,000Less: Overstatement 20,000Correct investment in Sassy balance December 31 $380,000

CheckUnderlying equity in Sassy ($900,000 ´ 40%) $360,000Add: Goodwill ($300,000-(700,000 ´ 40%)) 20,000Investment balance $380,000

2 Correcting entry (before closing for 2011)

Retained earnings 20,000Investment in Sassy 20,000

To record investment and retained earnings accounts for prior errors.


19-47

Solution P2-13

1 Schedule to allocate excess cost over book valueInvestment cost (14,000 shares ´ $13) $10,000 direct costs must be expensed.

$182,000

Book value acquired $190,000 ´ 70% 133,000Excess fair value over book value $ 49,000

Excess allocatedInterest

Fair Value — Book Value ´ Acquired = AllocationInventories $ 50,000 $60,000 70% $ (7,000)Land 50,000 30,000 70% 14,000Equipment — net 135,000 95,000 70% 28,000Remainder to goodwill 14,000


2 Investment income from Samaritan

Share of Samaritan’s reported income $60,000 ´ 70% $ 42,000Add: Overvalued inventory items 7,000Less: Depreciation on undervalued equipment

($28,000/4 years) ´ 3/4 year (5,250)Investment income from Samaritan $ 43,750

3 Investment in Samaritan account at December 31, 2008

Investment cost $182,000Add: Income from Samaritan 43,750Less: Dividends received (14,000 shares ´ $2) (28,000)Investment in Samaritan balance December 31 $197,750

CheckUnderlying equity at December 31, 2008 ($210,000 ´ 70%)* $147,000Add: Unamortized excess of cost over book value

Land 14,000Equipment 22,750Goodwill 14,000

Investment balance $197,750

* $100,000 (C/S) + $70,000 (R/E) + $80,000 (current earnings) -$40,000 (Dividends) = $210,000


19-48

CHAPTER 3

AN INTRODUCTION TO CONSOLIDATED FINANCIAL STATEMENTS


1 A corporation becomes a subsidiary when another corporation either directly or indirectly acquires a controlling financial interest (generally over 50 percent) of its outstanding voting stock.

2 Amounts allocated to identifiable assets and liabilities in excess of recorded amounts on the books of the subsidiary are not recorded separately by the parent. Instead, the parent records the fair value/purchase price of the interest acquired in an investment account. The allocation to identifiable asset and liability accounts is made through working paper entries when the parent and subsidiary financial statements are consolidated.

3 The land would be shown in the consolidated balance sheet at $100,000, its fair value, assuming that the purchase price is equal to or greater than the total fair value of the subsidiary. If the parent had acquired an 80 percent interest and the purchase price was equal to or greater than the fair value of the interest acquired, the land would still appear in the consolidated balance sheet at $100,000. Under SFAS No. 141R, the noncontrolling interest is also reported based on fair values at the acquisition date.

4 Parent company—a corporation that owns a controlling interest in the outstanding voting stock of another corporation (its subsidiary).

Subsidiary company—a corporation that is controlled by a parent company that owns a controlling interest in its outstanding voting stock, either directly or indirectly.

Affiliated companies—companies that are controlled by a single management team through parent-subsidiary relationships. (Although the term affiliate is a synonym for subsidiary, the parent company is included in the total affiliation structure.)

Associated companies—companies that are controlled through parent-subsidiary relationships or whose operations can be significantly influenced through equity investments of 20 percent to 50 percent.

5 A noncontrolling interest is the equity interest in a subsidiary company that is owned by stockholders outside of the affiliation structure. In other words, it is the equity interest in a subsidiary (recorded at fair value) that is not held by the parent company or subsidiaries of the parent company.

6 Under the provisions of FASB Statement No. 94, “Consolidation of All Majority-owned Subsidiaries,” a subsidiary will not be consolidated if control is temporary or if control does not rest with the majority owner, such as in the case of a subsidiary in reorganization or bankruptcy, or when the subsidiary operates under severe foreign exchange restrictions or other governmentally imposed restrictions.


19-49

7 Consolidated financial statements are intended primarily for the stockholders and creditors of the parent company, according to SFAS No. 160 (and ARB No. 51).

8 The amount of capital stock that appears in a consolidated balance sheet is the total par or stated value of the outstanding capital stock of the parent company.

9 Goodwill from consolidation may appear in the general ledger of the surviving entity in a merger or consolidation accounted for as an acquisition. But goodwill from consolidation would not appear in the general ledger of a parent company or its subsidiary. Goodwill is entered in consolidation working papers when the reciprocal investment and equity amounts are eliminated. Working paper entries affect consolidated financial statements, but they are not entered in any general ledger.


19-50

10 The parent company’s investment in subsidiary does not appear in a consolidated balance sheet if the subsidiary is consolidated. It would appear in the parent company’s separate balance sheet under the heading “investments” or “other assets.” Investments in unconsolidated subsidiaries are shown in consolidated balance sheets as investments or other assets. They are accounted for under the equity method if the parent can exercise significant influence over the subsidiary; otherwise, they are accounted for by the fair value / cost method.

11 Parent’s books: Reciprocal accounts on subsidiary’s books:Investment in subsidiary Capital stock and retained earningsSales PurchasesAccounts receivable Accounts payableInterest income Interest expenseDividends receivable Dividends payableAdvance to subsidiary Advance from parent

12 Reciprocal accounts are eliminated in the process of preparing consolidated financial statements in order to show the financial position and results of operations of the total economic entity that is under the control of a single management team. Sales by a parent to a subsidiary are internal transactions from the viewpoint of the economic entity and the same is true of interest income and interest expense and rent income and rent expense arising from intercompany transactions. Similarly, receivables from and payables to affiliated companies do not represent assets and liabilities of the economic entity for which consolidated financial statements are prepared.

13 The stockholders’ equity of a parent company under the equity method is the same as the consolidated stockholders’ equity of a parent company and its subsidiaries provided that the noncontrolling interest, if any, is reported outside of the consolidated stockholders’ equity. If noncontrolling interest is included in consolidated stockholders’ equity, it represents the sole difference between the parent company’s stockholders’ equity under the equity method and consolidated stockholders’ equity.

14 No. The amounts that appear in the parent company’s statement of retained earnings under the equity method and the amounts that appear in the consolidated statement of retained earnings are identical, assuming that the noncontrolling interest is included as a separate component of stockholders’ equity.

15 Income attributable to noncontrolling interest is not an expense, but rather it is an allocation of the total income to the consolidated entity between controlling and noncontrolling stockholders. From the viewpoint of the controlling interest (the stockholders of the parent company), income attributable to noncontrolling interest has the same effect on consolidated net income as an expense. This is because consolidated net income is income to the parent company stockholders. Alternatively, you can view total consolidated net income as being allocated to the controlling and noncontrolling interests.


19-51

16 The computation of noncontrolling interest is comparable to the computation of retained earnings. It is computed:

Noncontrolling interest beginning of the period

XX

Add: Income attributable to noncontrolling interest

XX

Deduct: Noncontrolling interest dividends –XXNoncontrolling interest end of the period XX

17 It is acceptable to consolidate the annual financial statements of a parent company and a subsidiary with different fiscal periods, provided that the dates of closing are not more than three months apart. Any significant developments that occur in the intervening three-month period should be disclosed in notes to the financial statements. In the situation described, it is acceptable to consolidate the financial statements of the subsidiary with an October 31 closing date with the financial statements of the parent with a December 31 closing date.

18 The acquisition of shares held by noncontrolling stockholders does not constitute a business combination. Rather, it must be accounted for as a treasury stock transaction. It is not possible, by definition, to acquire a controlling interest from noncontrolling stockholders.


Solution E3-1 Solution E3-2

1 b 1 d2 c 2 b3 d 3 d4 d 4 d5 b 5 a6 a 6 d

7 c


1 c Advance to Hill $75,000 + receivable from Ward $200,000 = $275,000

2 a Goodwill has an indeterminate life and is not amortized.

3 a Owen accounts for Sharp using the equity method, therefore, consolidated retained earnings is equal to Owen’s retained earnings, or $1,240,000.


19-52

4 d All intercompany receivables and payables are eliminated.

Solution E3-4

1 Implied fair value of Santa Maria ($900,000 / 90%) $1,000,000Less: Book value of Santa Maria (900,000)Excess fair value over book value $ 100,000Equipment undervalued 30,000 Goodwill at January 1, 2009 $ 70,000 Goodwill at December 31, 2009 = Goodwill from consolidation $ 70,000 Since goodwill is not amortized

2 Consolidated net income

Pinto’s reported net income $490,000Less: Correction for depreciation on excess allocated

to equipment ($30,000/3 years) (10,000)Consolidated net income $480,000

Solution E3-5

1 $600,000, the dividends of Panderman

2 $330,000, equal to $300,000 dividends payable of Panderman plus $30,000 (30% of $100,000) dividends payable to noncontrolling interests of Sadisman.


19-53

Solution E3-6

Preliminary computationCost of Slider stock (Fair value) $1,250,000Book value of Slider 1,000,000

Goodwill $ 250,000

1 Journal entry to record push down values

Inventories 20,000Land 50,000Buildings — net 150,000Equipment — net 80,000Goodwill 250,000Retained earnings 210,000

Note payable 10,000Push-down capital 750,000

2 Slider CorporationBalance Sheet

January 1, 2010(in thousands)

AssetsCash $ 70Accounts receivable 80Inventories 100Land 200Buildings — net 500Equipment — net 300Goodwill 250 Total assets $1,500

LiabilitiesAccounts payable $ 100Note payable 150 Total liabilities 250

Stockholders’ equityCapital stock $ 500Push-down capital 750 Total stockholders’ equity 1,250 Total liabilities and stockholders’ equity $1,500


19-54

Solution E3-7

1 Pasture Corporation and SubsidiaryConsolidated Income Statement

for the year 2010(in thousands)

Sales ($1,000 + $400) $1,400Less: Cost of sales ($600 + $200) (800)

Gross profit 600Less: Depreciation expense ($50 + $40) (90)

Other expenses ($199 + $90) (289)

Total consolidated income 221Less: Noncontrolling interest share ($70 ´ 30%) (21) Controlling interest share of cnsolidated net income $ 200

2 Pasture Corporation and SubsidiaryConsolidated Income Statement

for the year 2010(in thousands)

Sales ($1,000 + $400) $1,400Less: Cost of sales ($600 + $200) (800)

Gross profit 600Less: Depreciation expense ($50,000 + $40,000 - $6,000) (84)

Other expenses ($199,000 + $90,000) (289)

Total consolidated income 227Less: Noncontrolling interest share [($70 ´ 30%)+ ($6 depreciation x 30%)] (22.8) Controlling interest share of cnsolidated net income $ 204.2

Supporting computations

Depreciation of excess allocated to overvalued equipment:$30/5 years = $6


19-55

Solution E3-8

1 Capital stock

The capital stock appearing in the consolidated balance sheet at December 31, 2009 is $1,800,000, the capital stock of Poball, the parent company.

2 Goodwill at December 31, 2009

Investment cost at January 2, 2009 (80% interest) $700,000Implied total fair value of Softcan ($700,000 / 80%) $875,000Book value of Softcan(100%) (600,000)Excess is considered goodwill since no other fair value information is given. $275,000

3 Consolidated retained earnings at December 31, 2009

Poball’s retained earnings January 2 (equal to beginning consolidated retained earnings $800,000Add: Net income of Poball (equal to controlling share of consolidated net income) 300,000Less: Dividends declared by Poball (180,000)

Consolidated retained earnings December 31 $920,000

4 Noncontrolling interest at December 31, 2009

Capital stock and retained earnings of Softcan on January 2 $600,000Add: Softcan’s net income 90,000Less: Dividends declared by Softcan (50,000)

Softcan’s stockholders’ equity December 31 640,000Noncontrolling interest percentage 20%

Noncontrolling interest December 31 $128,000

5 Dividends payable at December 31, 2009

Dividends payable to stockholders of Poball $ 90,000Dividends payable to noncontrolling stockholders ($25,000 ´ 20%)

5,000Dividends payable to stockholders outside the Consolidated entity $ 95,000


19-56

Solution E3-9

Paskey Corporation and SubsidiaryPartial Balance Sheetat December 31, 2010

Stockholders’ equity:Capital stock, $10 par $300,000Additional paid-in capital 50,000Retained earnings 65,000 Equity of controlling stockholders 415,000Noncontrolling interest 41,000 Total stockholders’ equity $456,000

Supporting computationsComputation of consolidated retained earnings:Paskey’s December 31, 2009 retained earnings $ 35,000Add: Paskey’s reported income for 2010 55,000Less: Paskey’s dividends (25,000)

Consolidated retained earnings December 31, 2010 $ 65,000

Computation of noncontrolling interest at December 31, 2010Salam’s December 31, 2009 stockholders’ equity $200,000Income less dividends for 2010 ($20,000 - $15,000) 5,000Salam’s December 31, 2010 stockholders’ equity 205,000Noncontrolling interest percentage 20%Noncontrolling interest December 31, 2010 $ 41,000


19-57

Solution E3-10

Peekos Corporation and SubsidiaryConsolidated Income Statement

for the year ended December 31, 2011(in thousands)

Sales $2,100Cost of goods sold 1,100 Gross profit 1,000Deduct: Operating expenses 560 Total consolidated income 440Deduct: Noncontrolling interest share 14 Controlling interest share of consolidated net income $ 426


Investment cost January 2, 2009 (90% interest) $ 810Implied total fair value of Slogger ($810,000 / 90%) $ 900Slogger’s Book value acquired (100%) (700)

Excess of fair value over book value $ 200

Excess allocated to:Inventories (sold in 2009) $ 30Equipment (4 years remaining use life) 40Goodwill 130


Operating expenses:Combined operating expenses of Peekos and Slogger $ 550Add: Depreciation on excess allocated to equipment ($40,000/4 years) 10 Consolidated operating expenses $ 560


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Solution P3-1

1 Pennyvale Corporation and SubsidiaryConsolidated Balance Sheet

at December 31, 2009

AssetsCash ($32,000 + $18,000) $ 50,000Accounts receivable ($45,000 + $34,000 - $5,000) 74,000Inventories ($143,000 + $56,000) 199,000Equipment — net ($380,000 + $175,000) 555,000 Total assets $878,000

Liabilities and Stockholders’ EquityLiabilities:Accounts payable ($40,000 + $33,000 - $5,000) $ 68,000Stockholders’ equity:Common stock, $10 par 460,000Retained earnings 300,000Noncontrolling interest ($150,000 + $100,000) ´ 20% 50,000 Total liabilities and stockholders’ equity $878,000

2 Consolidated net income for 2010

Pennyvale’s separate income $170,000Add: Income from Sutherland Sales ($90,000 ´ 80%) 90,000

Consolidated net income $260,000Noncontrolling interest share (20% x $90,000) $ 18,000Controlling interest share (80%) $242,000


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Solution P3-2

1 Schedule to allocate fair value/book value differential

Cost of investment in Setting $175,000Implied fair value of Setting ($175,000 / 70%) $250,000Book value of Setting (110,000)

Excess fair value over book value $140,000Excess allocated:

Fair Value Book Value AllocationInventories ($50,000 - $30,000) $ 20,000Land ($60,000 - $50,000) 10,000Buildings — net ($90,000 - $70,000) 20,000Equipment — net ($30,000 - $40,000) (10,000)Other liabilities ($40,000 - $50,000) 10,000

Allocated to identifiable net assets 50,000Goodwill for the remainder 90,000


2 Parlor Corporation and SubsidiaryConsolidated Balance Sheet

at January 1, 2009

AssetsCurrent assets:Cash ($35,000 + $20,000) $ 55,000Receivables — net ($80,000 + $30,000) 110,000Inventories ($70,000 + $30,000 + $20,000) 120,000 $285,000

Property, plant and equipment:Land ($100,000 + $50,000 + $10,000) $160,000Buildings — net ($110,000 + $70,000 + $20,000) 200,000Equipment — net ($80,000 + $40,000 - $10,000) 110,000 470,000Goodwill (from consolidation) 90,000 Total assets $845,000

Liabilities and Stockholders’ EquityLiabilities:Accounts payable ($90,000 + $80,000) $170,000Other liabilities ($10,000 + $50,000 - $10,000) 50,000 $220,000

Stockholders’ equity:Capital stock $500,000Retained earnings 50,000 Equity of controlling stockholders 550,000


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Noncontrolling interest * 75,000 625,000 Total liabilities and stockholders’ equity $845,000

* 70% of implied fair value of $250,000 = $75,000.


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Solution P3-3

Cost of investment in Softback Books January 1, 2009 $2,700,000Implied fair value of Softback ($2,700,000 / 80%) $3,375,000Book value of Softback 2,500,000 Excess of fair value over book value $ 875,000

Schedule to Allocate Fair Value — Book Value Differential

Fair Value- Book Value Allocation

Current assets $ 500,000 $ 500,000Equipment 1,000,000 1,000,000Other plant assetsBargain purchase * (625,000)


* After recognizing acquired assets and liabilities at their fair values, we are left with a negative excess of $625,000. Under SFAS No. 141R, this difference is recorded as a gain in the consolidated income statement in the year of acquisition. The gain is attributable entirely to the controlling interest, and is recorded on the parent’s books by a debit to the Investment account and a credit to a Gain from bargain Purchase account. An alternative calculation of this amount takes the difference between the fair values of the net assets ($4,000,000) and their fair value implied by the acquisition price ($3,375,000), which equals $625,000.

Solution P3-4

Noncontrolling interest of $65,000 (it’s fair value) plus $260,000 (fair value of Pharm’s investment) equals total fair value of $325,000. Therefore, Pharm’s interest is 80% ($260,000 / $325,000), and noncontrolling interest is 20% ($65,000 / $325,000).

Total fair value $ 325,000Book value of Specht (260,000)Excess fair value over book value $ 65,000

Excess allocated to

Fair Value - Book ValuePlant assets — net $210,000 - $200,000 $ 10,000Goodwill 55,000 Total $ 65,000


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Solution P3-5

Palmer Corporation and SubsidiaryConsolidated Balance Sheet

at December 31, 2009(in thousands)

AssetsCurrent assets $ 340Plant assets 830Goodwill 200

$1,370EquitiesLiabilities $ 660Capital stock 300Retained earnings 410

$1,370

Supporting computationsSorrel’s net income ($400 - $300 - $50) $ 50Less: Excess allocated to inventories that were sold in 2009 (20)Less: Depreciation on excess allocated to plant assets ($40 /4 years) (10)Income from Sorrel $ 20

Plant assets ($500 + $300 + $40 - $10) $ 830

Palmer’s retained earnings:Beginning retained earnings $ 340Add: Operating income 100Add: Income from Sorrel 20Deduct: Dividends (50)Retained earnings December 31, 2009 $ 410


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Solution P3-6

Perry Corporation and SubsidiaryConsolidated Balance Sheet Working Papers


Perryper books

Simper books

Adjustments andEliminations

ConsolidatedBalance Sheet

Cash $ 42 $ 20 $ 62

Receivables — net 50 130 b 9 171

Inventories 350 50 400

Land 150 200 350

Equipment — net 600 100 700

Investment in Sim 459 a 459

Goodwill a 100 100

Total assets $1,651 $ 500 $1,783

Accounts payable $ 410 $ 80 $ 490

Dividends payable 60 10 b 9 61

Capital stock 1,000 300 a 300 1,000

Retained earnings 181 110 a 110 181

Noncontrolling interest a 51 51

Total equities $1,651 $ 500 $1,783

a To eliminate reciprocal investment and equity accounts, record goodwill ($100), and enter noncontrolling interest [($410 equity + $100 goodwill) ´ 10%)].

b To eliminate reciprocal dividends receivable (included in receivables — net) and dividends payable amounts ($10 dividends ´ 90%).


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Solution P3-7

Preliminary computationsCost of 80% investment January 3, 2009 $280,000Implied total fair value of Slender ($280,000 / 80%) $350,000Book value of Slender (250,000)

Excess fair value over book value on January 3 = Goodwill $100,000

1 Noncontrolling interest share of income:Slender’s net income $50,000 ´ 20% noncontrolling interest $ 10,000

2 Current assets:Combined current assets ($204,000 + $75,000) $279,000Less: Dividends receivable ($10,000 ´ 80%) (8,000) Current assets $271,000

3 Income from Slender: None Investment income is eliminated in consolidation.

4 Capital stock: $500,000 Capital stock of the parent, Portly Corporation.

5 Investment in Slender: None The investment account is eliminated.

6 Excess of fair value over book value $100,000

7 Controlling share of consolidated net income: Equals Portly’s net income, or:Consolidated sales $600,000Less: Consolidated cost of goods sold (370,000)Less: Consolidated expenses (80,000)Consolidated net income $150,000Less: Noncontrolling interest share (10,000) Controlling share of consolidated net income $140,000

8 Consolidated retained earnings December 31, 2009: $200,000 Equals Portly’s beginning retained earnings.

9 Consolidated retained earnings December 31, 2010Equal to Portly’s ending retained earnings:Beginning retained earnings $200,000Add: Controlling share of consolidated net income 140,000Less: Portly’s dividends for 2010 (60,000)

Ending retained earnings $280,000

10 Noncontrolling interest December 31, 2010Slender’s capital stock and retained earnings $300,000Add: Net income 50,000


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Less: Dividends (25,000)Slender’s equity December 31, 2010 at fair value 325,000Noncontrolling interest percentage 20%Noncontrolling interest December 31, 2010 using book value $ 65,000Add: Noncontrolling interest share of Goodwill 20,000Noncontrolling interest December 31, 2010 at fair value $ 85,000


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Solution P3-8 [AICPA adapted]

Preliminary computations Meadow VanInvestment cost:

Meadow (1,000 shares ´ 80%) ´ $70 56,000Van (3,000 shares ´ 70%) ´ $40 84,000

Implied total fair values:Meadow ($56,000 / 80%) 70,000Van ($84,000 / 70%) 120,000

Book valueMeadow ($70,000 ´ 80%) 70,000Van ($120,000 ´ 70%) 120,000

Excess fair value over book value at acquisition 0 0

1 Journal entries to account for investments

January 1, 2009 — Acquisition of investmentsInvestment in Meadow (80%) 56,000

Cash 56,000To record acquisition of 800 shares of Meadow common stock at $70 per share.

Investment in Van (70%) 84,000Cash 84,000To record acquisition of 2,100 shares of Van common stock at $40 per share.

During 2006 — Dividends from subsidiariesCash 12,800

Investment in Meadow (80%) 12,800To record dividends received from Meadow ($16,000 ´ 80%).

Cash 6,300Investment in Van (70%) 6,300To record dividends received from Van ($9,000 ´ 70%).

December 31, 2009 — Share of income or lossInvestment in Meadow (80%) 28,800

Income from Meadow 28,800To record investment income from Meadow ($36,000 ´ 80%).

Loss from Van 8,400Investment in Van (70%) 8,400To record investment loss from Van ($12,000 ´ 70%).


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2 Noncontrolling interest December 31, 2009 *Meadow Van

Common stock $50,000 $60,000Capital in excess of par 20,000Retained earnings 40,000 19,000Equity December 31 90,000 99,000Noncontrolling interest percentage 20% 30% Noncontrolling interest December 31 $18,000 $29,700

* Fair value equals book value.

3 Consolidated retained earnings December 31, 2009

Consolidated retained earnings is reported at $304,600, equal to the retained earnings of Todd Corporation, the parent, at December 31, 2009.

4 Investment balance December 31, 2009:Meadow Van

Investment cost January 1 $56,000 $84,000Add (deduct): Income (loss) 28,800 (8,400)Deduct: Dividends received (12,800) (6,300) Investment balances December 31 $72,000 $69,300

Check: Investment balances should be equal to the underlying book value

Meadow $90,000 ´ 80% = $72,000

Van $99,000 ´ 70% = $69,300


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Solution P3-9

Preliminary computations (in thousands)Cost of 90% investment January 1, 2009 $3,600Implied total fair value of Snowdrop ($3,600 / 90%) $4,000Book value of Snowdrop (2,700)

Excess fair value over book value on January 1 $1,300Allocation to equipment $ 800Remainder is Goodwill $ 500Additional annual depreciation on equipment ($800 / 8 years) $ 100

Pansy Corporation and SubsidiaryConsolidated Balance Sheet Working Papers


Pansy90%

SnowdropAdjustments and

EliminationsConsolidatedBalance Sheet

Cash $ 300 $ 200 $ 500

Receivables — net 600 400 1,000

Dividends receivable 90 B 90

Inventory 700 600 1,300

Land 600 700 1,300

Buildings — net 2,000 1,000 3,000

Equipment — net 1,500 800 a 700 3,000

Investment in Snowdrop 3,780 a 3,780

Goodwill a 500 500

Total assets $9,570 $3,700 $10,600


Dividends payable 500 100 b 90 510

Capital stock 7,000 2,000 a 2,000 7,000

Retained earnings 1,770 1,000 a 1,000 1,770

Noncontrolling interest a 420 420

Total equities $9,570 $3,700 $10,600

a To eliminate reciprocal investment and equity accounts, enter unamortized excess allocated to equipment, record goodwill, and enter noncontrolling interest (at fair value).

b To eliminate reciprocal dividends receivable and dividends payable amounts.


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Solution P3-10

1 Purchase price of investment in Snaplock (in thousands)

Underlying book value of investment in Snaplock:Equity of Snaplock January 1, 2009 $220Add: Excess investment fair value over book value:

Goodwill at December 31, 2013 60Fair value of Snaplock January 1, 2009 $280

Purchase price of 80% investment at fair value $224

2 Snaplock’s stockholders’ equity on December 31, 2013 (in thousands)

20% noncontrolling interest at fair value $ 6220% goodwill (12)20% noncontrolling interest’s equity at book value $ 50Total equity = Noncontrolling interest’s equity $50 / 20% = $250

3 Pandora’s investment in Snaplock account balance at December 31, 2013(in thousands)Underlying book value in Snaplock December 31, 2013 ($250 ´ 80%) $200Add: 80% of Goodwill December 31, 2013 (20% is attributable to the noncontrolling interest) 48

Investment in Snaplock December 31, 2013 $248

Alternative solution:Investment cost January 1, 2009 $224Add: 80% of Snaplock’s increase since acquisition ($250 - $220) ´ 80% 24Investment in Snaplock December 31, 2013 $248

4 Pandora’s capital stock and retained earnings December 31, 2013(in thousands)Capital stock $400Retained earnings $ 30

Amounts are equal to capital stock and retained earnings shown in the consolidated balance sheet.


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Solution P3-11

Preliminary computations (in thousands)Cost of 70% investment in Stubb $ 670Implied fair of Stubb ($700 / 70%) $1,000Book value of Stubb (100%) 800

Excess $ 200Excess allocated:

Inventories $ 20Plant assets 80Goodwill 100Excess $ 200

Investment balance at January 1, 2009 $ 700Share of Stubb’s retained earnings increase ($60 ´ 70%) 42Less: Amortization

70% of excess allocated to inventories (sold in 2009) (14)70% of excess allocated to plant assets ($80 /8 years) (7)

Investment balance at December 31, 2009 $ 721

Noncontrolling interest at December 3130% of Stubb’s book value at December 31 ($860 x 30%) $25830% of Goodwill 3030% Unamortized excess for plant assets 30% x ($80 - $10 amortization) 21Noncontrolling at December 31 (fair value) $309

Pope Corporation and SubsidiaryConsolidated Balance Sheet Working Papers


Pope70%Stubb


ConsolidatedBalance Sheet

Cash $ 60 $ 20 $ 80

Accounts receivable — net 440 200 640

Accounts receivable — Pope 10 b 10

Dividends receivable 7 c 7


Land 100 150 250

Plant assets — net 700 350 a 70 1,120

Investment in Stubb 721 a 721

Goodwill a 100 100

Assets $2,528 $1,050 $3,010


Account payable to Stubb 10 b 10


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Dividends payable 40 10 c 7 43

Long-term debt 600 100 700

Capital stock 1,000 500 a 500 1,000

Retained earnings 578 360 a 360 578

Noncontrolling interest ($860,000 ´ 30%) a 309 309

Equities $2,528 $1,050 $3,010


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Solution P3-12

Preliminary computations (in thousands)80% Investment in Shasti at cost January 1, 2009 $ 760Implied total fair value of Shasti ($760 / 80%) $ 950Shasti book value 900

Excess fair value over book value recorded as goodwill $ 50

ShastiDividends

ShastiNet Income

80% ofNet Income

2009 $ 40 $ 80 $ 642010 50 100 802011 60 120 96

$150 $300 $240

1 Shasti’s dividends for 2010 ($40 / 80%) $ 50

2 Shasti’s net income for 2010 ($50 dividends ´ 2) $ 100

3 Goodwill — December 31, 2010 $ 40

4 Noncontrolling interest share of income — 2011Shasti’s income for 2011 ($48 dividends received/80%) ´ 2 $ 120Noncontrolling interest percentage 20%

Noncontrolling interest share $ 24

5 Noncontrolling interest December 31, 2011Equity of Shasti January 1, 2009 $ 900Add: Income for 2009, 2010 and 2011 300Deduct: Dividends for 2009, 2010 and 2011 (150)Equity book value of Shasti December 31, 2011 1,050Goodwill 50Equity fair value of Shasti December 31, 2011 $1,100 Noncontrolling interest percentage 20%

Noncontrolling interest December 31, 2011 $ 220

6 Controlling share of consolidated net income for 2011Pendleton’s separate income $ 280Add: Income from Shasti 96

Controlling share of consolidated net income $ 376


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Solution P3-13

Preliminary computations80% Investment in Sidney (cost) January 2, 2010 $300Implied total fair value of Sidney ($300 / 80%) $375Book value of Sidney (100%) (250)

Excess fair value over book value $125

Excess allocated toBuildings (fair value $170 - book value $150) $ 20Remainder to goodwill 105

Excess fair value over book value $125

Part 1

a Total current assetsCash ($50 + $20) $ 70Other current assets ($150 + $80) 230

Total current assets $300

b Plant and equipment net of depreciationLand ($300 + $50) $350Buildings — net ($400 + $150) 550Excess allocated to buildings 20

Plant and equipment — net $920

c Common stockPar value of Peyton’s stock December 31, 2009 $600Add: Par value of shares issued for Sidney 100

Common stock $700

d Additional paid-in capitalAdditional paid-in capital of Peyton December 31, 2009 $ 60Add: Increase from shares issued from Sidney 200

Additional paid-in capital $260

e Retained earningsConsolidated retained earnings = Peyton’s retained earnings December 31, 2009 $140


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Part 2

a Income from Sidney — 2010Sidney’s reported net income $ 40Less: Depreciation on excess — buildings ($20 /5 years) (4)Adjusted Net Income of Sidney $ 36.8

80% of Sidney’s Net Income = Income from Sidney $ 28.8

b Investment in Sidney December 31, 2010Cost January 2 $300Add: Income from Sidney 28.8Less: Dividends from Sidney ($20 ´ 80%) (16)

Investment in Sidney December 31 $312.8

c Controlling share of consolidated net income — 2010Separate income of Peyton $ 90Add: Income from Sidney 28.8

Controlling share of consolidated net income $118.8

d Consolidated retained earnings December 31, 2010Retained earnings of Peyton December 31, 2009 $140Add: Consolidated net income 118.8Less: Peyton’s dividends (50)

Consolidated retained earnings December 31 $208.8

e Noncontrolling interest December 31, 2010Equity of Sidney December 31, 2009 $250Add: Net income 40Less: Dividends (20)Equity book value of Sidney December 31 270Unamortized excess for buildings 16Goodwill 105Equity fair value of Sidney December 31 $391Noncontrolling interest percentage 20%

Noncontrolling interest fair value - December 31 $ 78.2


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Solution P3-14

1 Schedule to allocate the investment fair value — book value differential: (in thousands)80% Investment cost January 2, 2009 $2,760Implied total fair value ($2,760 / 80%) $3,450Book value of interest acquired ($2,300 ´ 80%) (2,300)


Excess allocated

Fair Value - Book Value = Allocated

Inventories $ 500 $ 400 $ 100Other current assets 200 150 50Land 600 500 100Buildings — net 1,800 1,000 800Equipment — net 600 800 (200)Other liabilities 560 610 50Remainder to goodwill 250

Total excess $1,150


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2 Portland Corporation and SubsidiaryConsolidated Balance Sheet

at January 2, 2009(in thousands)

AssetsCurrent Assets:Cash ($240 + $60) $ 300Receivables — net ($800 + $200) 1,000Inventories ($1,100 + $400 + $100) 1,600Other current assets ($900 + $150 + $50) 1,100

Total current assets 4,000Fixed Assets:Land ($3,100 + $500 + $100) $ 3,700Buildings — net ($6,000 + $1,000 + $800) 7,800Equipment — net ($3,500 + $800 - $200) 4,100Goodwill 250

Total fixed assets 15,850Total assets $19,850

Liabilities and Stockholders’ EquityLiabilities:Accounts payable ($400 + $200) $ 600Other liabilities ($1,500 + $610 - $50) 2,060

Total liabilities 2,660

Stockholders’ equity:Capital stock $15,000Retained earnings 1,500Noncontrolling interest * 690

Total stockholders’ equity 17,190Total liabilities and stockholders’ equity $19,850

* Noncontrolling interestSidney’s equity at book value $2,300Unamortized excess fair value 1,150Sidney’s equity at fair value $3,45020% Noncontrolling interest $ 690


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Chapter 4

CONSOLIDATION TECHNIQUES AND PROCEDURES


1 Consolidated financial statements are not affected by the method used by the parent company in accounting for its subsidiary investments. Such statements are the same regardless of whether the parent company uses the cost method, the equity method, or an incomplete equity method in accounting for its subsidiary. The working paper adjustments will differ, however, depending on how the parent accounts for its subsidiary.

2 The standard method of accounting for equity investments of 20 percent or more is the equity method. But if the parent issues only consolidated financial statements as the statements of the primary reporting entity, and the consolidated financial statements are correct, it makes no difference how the records of the parent company are maintained. The Financial Accounting Standards Board (and its predecessor organization) established standards for external reporting but not for maintenance of internal accounting records.

3 Under the equity method, a parent amortizes patents from its subsidiary investments by adjusting its subsidiary investment and income accounts. Since patents and patent amortization accounts are not recorded on the parent’s books, they are created for consolidated statement purposes through working paper entries.

4 Noncontrolling interest share is entered in the consolidation working papers by preparing a working paper adjusting entry in which noncontrolling interest share is debited and noncontrolling interest is credited. The noncontrolling interest share (debit) is carried to the consolidated income statement as a deduction, and the credit to noncontrolling interest for noncontrolling interest share is added to the beginning noncontrolling interest. The noncontrolling interest share is calculated based on the subsidiary’s reported net income adjusted to reflect fair value through the amortization of the excess of fair value over book value. This is the approach illustrated throughout this text.

5 Working paper procedures for the investment in subsidiary, income from subsidiary, and subsidiary equity accounts are alike in regard to the objectives of consolidation. Regardless of the configuration of the working paper entries, the final result of adjustments for these items is to eliminate them through working paper entries. In other words, the investment in subsidiary, income from subsidiary, and the capital stock, additional paid-in capital, retained earnings, and other stockholders’ equity accounts of the subsidiary never appear in consolidated financial statements.

6 When the parent company does not amortize fair value/book value differentials on its separate books, the parent company’s income from subsidiary and investment in subsidiary accounts are overstated in the year of acquisition. In subsequent years, the income from the subsidiary, investment in subsidiary, and parent’s beginning retained


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earnings will be overstated. The error may be corrected in the working papers with the following entries:

Year of acquisitionIncome from subsidiary XXX

Investment in subsidiary XXXSubsequent year

Income from subsidiary XXXRetained earnings — parent XXX

Investment in subsidiary XXX


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By entering a correcting entry, all other working paper entries are the same as if the parent provided for amortization on its separate books.

If the errors are not corrected through the working paper entries suggested above, the entry to eliminate the income from subsidiary in the year of acquisition is prepared in the usual manner without further complications because neither the beginning investment nor retained earnings accounts are affected by the omission. In subsequent years the entry to eliminate income from subsidiary and dividends from subsidiary will have to be changed to correct the beginning-of-the-period retained earnings as follows:

Income from subsidiary XXXRetained earnings — parent XXX

Dividends (subsidiary) XXXInvestment in subsidiary XXX

7 No. Working paper adjustments are not entered in the general ledger of the parent company or any other entity. They are used in the preparation of consolidated financial statements for a conceptual entity for which there are no formal accounting records.

8 Working papers are tools of the accountant that facilitate the consolidation of parent and subsidiary financial statements. Given the tools available, the accountant should select those that are most convenient in the circumstances. If financial statements are to be consolidated, the financial statement approach is the appropriate tool. The trial balance approach is most convenient when the data are presented in the form of a trial balance. The accountant needs to be familiar with both approaches to perform the work as efficiently as possible.

9 Working paper adjustment and elimination entries as illustrated in this text are exactly the same when the trial balance approach is used as when the financial statement approach is used. This is possible through a check-off system that nullifies the closing process when the financial statement approach is used.

10 The retained earnings of the parent company will equal consolidated retained earnings if the equity method of accounting has been correctly applied. In consolidating the financial statements of affiliated companies, the beginning retained earnings of the parent are used as beginning consolidated retained earnings. If the equity method has not been correctly applied, parent beginning retained earnings will not equal beginning consolidated retained earnings. In this case, retained earnings of the parent are adjusted to a correct equity basis in order to establish the correct amount of beginning consolidated retained earnings. Thus, working paper adjustments to beginning retained earnings of the parent are needed whenever the beginning retained earnings of the parent do not correctly reflect the equity method.

11 The noncontroling interest that appears in the consolidated balance sheet can be checked first adjusting the the equity of the subsidiary on the consolidated balance sheet date to fair value (i.e., adjusting for any unamortized excess of fair value over book value) and then multiplying by the noncontrolling interest percentage. Consolidated retained


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earnings at a balance sheet date can be checked by comparing the amount with the parent’s retained earnings on the same date. If consolidated retained earnings and parent retained earnings are not equal, either consolidated retained earnings have been computed incorrectly, or parent retained earnings do not reflect a correct equity method of accounting.

12 Consolidated assets and liabilities are reported for all equity holders—noncontrolling as well as controlling. Therefore, the change in net assets from operations for a period results from noncontrolling interest share and consolidated net income.

13 No. It relates to all interests in the consolidated entity. This difference is one of many inconsistencies in the concepts underlying consolidated financial statements. Consider, for example, the error that could result from dividing cash provided by operations by outstanding parent company shares to get a computation of cash flow per share.


Solution E4-11 d 6 d2 a 7 b3 a 8 b4 d 9 a5 b 10 b

Solution E4-2Preliminary computationsInvestment cost January 2 $300,000Implied total fair value of Sally Forth ($300,000 / 80%) $375,000Less: Book value (250,000)

Excess fair value over book value $125,000Excess allocated to:Inventory $ 12,500Remainder to goodwill 112,500


1 Income from Sally ForthSally Forth’s reported net income $ 70,000Less: Excess allocated to inventory (sold in 2009) (12,500)Sally Forth adjusted income $ 57,500Ponder’s 80% share $ 46,000

2 Noncontrolling interest shareSally Forth’s adjusted income $57,500 ´ 20% noncontrolling interest

$ 11,500

3 Noncontrolling interest December 31


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Sally Forth’s equity book value $260,000Add: Unamortized excess (Goodwill) 112,500Sally Forth’s equity fair value $372,50020% noncontrolling interest $ 74,500

4 Investment in Sally Forth December 31Investment cost January 2 $300,000Add: Income from Sally Forth (given)* 50,000Less: Dividends ($60,000 ´ 80%) (48,000)

Investment in Sally Forth December 31 $302,000* Assumes this is based on Sally Forth’s adjusted income

5 Consolidated net incomeNoncontrolling interest shareControlling interest share equals Parent NI under equity method.

$191,700$ 11,500$180,200


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Solution E4-31 $350,000 ($150,000 + $220,000 - $20,000 intercompany)

Preliminary computations for 2 and 3Investment cost on January 1, 2009 $14,000Implied total fair value of Starman ($14,000 / 70%) $20,000Book value of Starman 15,000Excess allocated entirely to Goodwill $ 5,000

2 Primrose’s separate income for 2011 $12,000Loss from investment in Starman ($500 ´ 70%) (350)Controlling share of consolidated net income $11,650

3 Investment cost January 1, 2009 $14,000Add: Share of income less dividends 2009 — 2011

($700 income - $500 dividends) ´ 70% 140Investment balance December 31, 2011 $14,140

Solution E4-4

Preliminary computationsInvestment cost $580,000Implied total fair value of Stine ($580,000 / 80%) $725,000Book value 600,000

Total excess fair value over book value $125,000

Excess allocated to:Equipment (5-year life) $ 50,000Patents (10-year amortization period) 75,000

Total excess fair value over book value $125,000

Income from Stine 2010 2011 Stine’s reported net income $120,000 $150,000Less: Depreciation of excess allocated to equipment (10,000) (10,000)Less: Amortization of patents (7,500) (7,500)Stine’s adjusted income $102,500 $132,500

Income from Stine (80%) $82,000 $106,000

1a Consolidated net income for 2010Penair’s net income = controlling share of consolidated net income under equity method $340,000

1b Investment in Stine December 31, 2010Cost January 1 $580,000Add: Income from Stine — 2010 82,000Less: Dividends from Stine — 2010 ($80,000 ´ 80%) (64,000)


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Investment in Stine December 31 $598,000

1c Noncontrolling interest share — 2010 ($102,500 adjusted income ´ 20%) $ 20,500

1d Noncontrolling interest December 31, 2011Stine’s equity book value at acquisition date $600,000Add: Income less dividends for 2010 and 2011 (see note) 100,000Stine’s equity book value at December 31, 2011 700,000Unamortized excess at December 31, 2011 90,000Stine’s equity fair value at December 31, 2011 $790,000Noncontrolling interest percentage 20%

Noncontrolling interest December 31, 2011 $158,000Solution E4-4 (continued)

Note: Stine’s income less dividends:

2010 Net Income $ 1202010 Dividends (80)2011 Net Income 1502011 Dividends (90) Total $ 100

Solution E4-5

1 c2 a3 b4 c5 d

Solution E4-6

Party Corporation and SubsidiaryPartial Consolidated Cash Flows Statement

for the year ended December 31,

Cash Flows from Operating ActivitiesControlling interest share of consolidated net income $75,000

Adjustments to reconcile net income to cash provided by operating activities:Noncontrolling interest share $25,000Undistributed income of equity investees (2,500)Loss on sale of land 5,000Depreciation expense 60,000


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Patents amortization 8,000Increase in accounts receivable (52,500)Increase in inventories (22,500)Decrease in accounts payable (10,000) 10,500

Net cash flows from operating activities $85,500

Solution E4-7Prolax Corporation and Subsidiary

Partial Consolidated Cash Flows Statementfor the year ended December 31,

Cash Flows from Operating ActivitiesCash received from customers $322,500Dividends received from equity investees 7,000

Less: Cash paid to suppliers $182,500Cash paid to employees 27,000Cash paid for other operating items 23,500Cash paid for interest expense 12,000 245,000

Net cash flows from operating activities $ 84,500


19-85


Solution P4-1 (in thousands of $)

Preliminary computationsInvestment in Seine (75%) January 1, 2009 $2,400Implied fair value of Seine ($2,400 / 75%) $3,200Book value of Seine (2,400)

Total excess of fair value over book value $ 800Excess allocated:10% to inventories (sold in 2009) $ 8040% to plant assets (use life 8 years) 32050% to goodwill 400

Total excess of fair value over book value $ 800

1 Goodwill at December 31, 2013 (not amortized) $ 400

2 Noncontrolling interest share for 2013Net income ($1,000 sales - $600 expenses) $ 400Less: Amortization of excess Plant assets ($320 / 8 yrs.) (40)Adjusted Seine income $ 36025% Share $ 90

3 Consolidated retained earnings December 31, 2012Equal to Pearl’s December 31, 2012 retained earningsSince this a trial balance, reported retained earnings equals beginning of 2013 retained earnings. $1,670

4 Consolidated retained earnings December 31, 2013Pearl’s retained earnings December 31, 2012 $1,670Add: Pearl’s net income for 2013 1,085Less: Pearl’s dividends for 2013 (500)Consolidated retained earnings December 31 $2,255

5 Consolidated net income for 2013Consolidated sales $5,000Less: Consolidated expenses ($3,785 + $40 depreciation) (3,825)Total consolidated income 1,175Less: Noncontrolling interest share (90)Controlling share of consolidated net income for 2013 $1,085

6 Noncontrolling interest December 31, 2012Seine’s stockholders’ equity at book value $2,400 Unamortized excess after four years: Inventory 0


19-86

Plant assets ($320 - $160) 160 Goodwill 400Seine’s stockholders’ equity at fair value $2,96025% Seine’s stockholders’ equity at fair value $ 740

7 Noncontrolling interest December 31, 2013Seine’s stockholders’ equity at book value $2,600 Unamortized excess after five years: Inventory 0 Plant assets ($320 - $200) 120 Goodwill 400Seine’s stockholders’ equity at fair value $3,12025% Seine’s stockholders’ equity at fair value $ 780


19-87

Solution P4-2

1 Palm Corporation and SubsidiaryConsolidation Working Papers


Palm80%Sail


ConsolidatedStatements

Income StatementSales $ 310,000 $ 100,000 $ 410,000

Income from Sail 10,500 a 10,500

Cost of goods sold 200,000* 65,000* 265,000*

Operating expenses 77,000* 20,000* 97,000*

Consolidated NI $ 48,000

Noncontrol. share($15,000 ´ 30%) c 4,500 4,500*

Net income – Control. share

$ 43,500 $ 15,000 $ 43,500

Retained EarningsRetained earnings — Palm $ 65,000 $ 65,000

Retained earnings — Sail $ 11,000 b 11,000

Net income 43,500 15,000 43,500

Dividends 30,000* 10,000* a 7,000

c 3,000 30,000*

Retained earnings December 31 $ 78,500 $ 16,000 $ 78,500

Balance SheetCash $ 45,500 $ 15,000 $ 60,500Acc. Receiv. — net 60,000 30,000 90,000

Inventories 24,000 20,000 44,000PP&E — net 120,000 35,000 155,000

Investment in Sail 49,000 a 3,500b 45,500

$ 298,500 $ 100,000 $ 349,500

Accounts payable $ 30,000 $ 18,000 $ 48,000

Other liabilities 20,000 12,000 32,000

Capital stock 150,000 50,000 b 50,000 150,000

Other paid-in capital 20,000 4,000 b 4,000 20,000

Retained earnings 78,500 16,000 78,500

$ 298,500 $ 100,000

Noncontrolling interest January 1 b 19,500

Noncontrolling interest December 31 c 1,500 21,000

$ 349,500* Deduct

Working paper entriesa To eliminate income from Sail and dividends received from Sail and adjust the investment in Sail account to its

beginning of the period balance.b To eliminate reciprocal investment in Sail and equity amounts of Sail and to enter beginning noncontrolling

interest.


19-88

c To enter noncontrolling interest share of subsidiary income and dividends.


19-89


2 Palm Corporation and SubsidiaryConsolidated Income Statement

for the year ended December 31, 2009Sales $410,000Less: Cost of goods sold 265,000

Gross profit 145,000Operating expenses 97,000 Total consolidated income 48,000Less: Noncontrolling interest share 4,500 Controlling share of consolidated net income $ 43,500

Palm Corporation and SubsidiaryConsolidated Retained Earnings Statement

for the year ended December 31, 2009Consolidated retained earnings January 1 $ 65,000Add: Controlling share of onsolidated net income 43,500Less: Dividends of Palm (30,000)

Consolidated retained earnings December 31 $ 78,500

Palm Corporation and SubsidiaryConsolidated Balance Sheet

at December 31, 2009AssetsCurrent assets:

Cash $ 60,500Receivables — net 90,000Inventories 44,000 $194,500

Plant assets — net 155,000Total assets $349,500

Liabilities and Stockholders’ EquityLiabilities:

Accounts payable $ 48,000Other liabilities 32,000 $ 80,000

Stockholders’ equity:Capital stock, $10 par $150,000Other paid-in capital 20,000Consolidated retained earnings 78,500

248,500Add: Noncontrolling interest 21,000 269,500Total liabilities and stockholders’ equity $349,500


19-90

Solution P4-3

Pan Corporation and SubsidiaryConsolidation Working Papers


Pan Saf 75%Adjustments and

EliminationsConsolidatedStatements

Income StatementSales $400 $100 $500Income from Saf 13.8 a 13.8Cost of sales 250* 50* 300*

Other expenses 97* 26* c 5.6 128.6*

Consolidated Net Income $ 71.4Noncontrolling share f 4.6 4.6*

Controlling shae of NI $ 66.8 $ 24 $ 66.8

Retained EarningsRetained earnings — Pan $180 $180Retained earnings — Saf $ 34 b 34Controlling share of NI 66.8 24 66.8Dividends 50* 16* a 12

f 4* 50*

Retained earnings December 31 $196.8 $ 42 $196.8

Balance SheetCash $ 53 $ 15 $ 68Accounts receivable 86 20 106Dividends receivable from Saf 6 e 6Inventories 95 10 105Note receivable from Pan 5 d 5Land 65 30 95Buildings — net 170 80 250Equipment — net 130 50 180Investment in Saf 181.8 a 1.8

b 180Patents b 56 c 5.6 50.4

$786.8 $210 $854.4

Accounts payable $ 85 $ 10 $ 95Note payable to Saf 5 d 5Dividends payable 8 e 6 2Capital stock, $10 par 500 150 b 150 500Retained earnings 196.8 42 196.8

$786.8 $210

Noncontrolling interest January 1 b 60Noncontrolling interest December 31 f .6 60.6

$854.4 Deduct


19-91


Supporting Calculations

Saf’s value at acquisitionBook value at December 31, 2009 $192Less: 2009 Net income (24)Add: 2009 Dividends 16Book value on January 1, 2009 $184Fair value of patents 56Saf’s fair value on January 1, 2009 $240

Purchase price (fair value) of Pan’s 75% share $180Noncontrolling interest (25%) $ 60

Patents have a ten-year life, so amortization is $5,600 per year.

Saf’s Adjusted IncomeSaf’s net income $24Less: Amortization of Patents (5.6) Saf’s adjusted income $18.4Pan’s 75% share $13.8Noncontrolling interest 25% share $ 4.6


19-92

Solution P4-4

Pal Corporation and SubsidiaryConsolidation Working Papers


Pal Sun 75%Adjustments and


Income StatementSales $400 $100 $500

Income from Sun 18 a 18

Cost of sales 250* 50* 300*

Other expenses 97* 26* 123*

Consolidated NI $ 77

Noncontrolling share c 6 6*

Controlling share of NI $ 71 $ 24 $ 71

Retained EarningsRetained earnings — Pal $180 $180

Retained earnings — Sun $ 34 b 34

Controlling share of NI 71 24 71

Dividends 50* 16* a 12

c 4 50*

Retained earnings – Dec 31 $201 $ 42 $201

Balance SheetCash $ 59 $ 15 $ 74

Accounts receivable 80 20 100

Dividends receivable from Sun 6 e 6


Note receivable from Pal 5 d 5

Land 65 30 95

Buildings — net 170 80 250


Investment in Sun 186 a 6b 180

Goodwill b 56 56

$791 $210 $860


Note payable to Sun 5 d 5

Dividends payable 8 e 6 2

Capital stock, $10 par 500 150 b 150 500

Retained earnings 201 42 201

$791 $210

Noncontrolling interest January 1 b 60

Noncontrolling interest December 31 c 2 62


19-93

$860* Deduct


19-94

Solution P4-4(continued)

Supporting CalculationsSun’s value at acquisition:Book value at December 31, 2009 $192Less: 2009 Net income (24)Add: 2009 Dividends 16Book value on January 1, 2009 $184

Purchase price of Pal’s 75% share $180Implied fair value of Sun ($180 / 75%) $240Sun’s book value 184Excess allocated to Goodwill $ 56Noncontrolling interest (25% x $240) $ 60

Saf’s Adjusted IncomeSaf’s net income $24Less: Amortization of Goodwill (0) Saf’s adjusted income $24Pan’s 75% share $18Noncontrolling interest 25% share $ 6

Solution P4-5

Preliminary computations

Allocation of excess fair value over book valueCost of 70% interest January 1 $490,000Implied fair value of Soul ($490,000 / 70%) $700,000Book value of Soul (600,000)

Excess fair value over book value $100,000Noncontrolling interest – 30% of fair value at acquisition $210,000

Excess allocatedUndervalued inventory items sold in 2009 $ 5,000Undervalued buildings (7 year life) 14,000Undervalued equipment (3 year life) 21,000Patents 40,000

Remainder to Goodwill 20,000Excess fair value over book value $100,000

Calculation of income from SoulSoul’s net income $100,000Less: Undervalued inventories sold in 2009 (5,000)Less: Additional Depreciation on building ($14,000/7 years) (2,000)Less: Additional Depreciation on equipment ($21,000/3 years) (7,000)


19-95

Less: Patent amortization ($40,000/40 years) (1,000)Soul’s adjusted income $ 85,000Pari’s 70% share $ 59,500Noncontrolling interest’s 30% share $ 25,500


19-96


Working paper entries for 2009

a Income from Soul 59,500Dividends (Soul) 35,000Investment in Soul 24,500

b Capital stock (Soul) 500,000Retained earnings (Soul) January 1 100,000Unamortized excess 100,000

Investment in Soul 490,000Noncontrolling interest January 1 210,000

c Cost of sales (for inventory items) 5,000Buildings — net 14,000Equipment — net 21,000Patents 40,000Goodwill 20,000

Unamortized excess 100,000

d Depreciation expense 2,000Buildings — net 2,000

e Depreciation expense 7,000Equipment — net 7,000

f Other expenses 1,000Patents 1,000

g Accounts payable 10,000Accounts receivable 10,000

h Dividends payable 14,000Dividends receivable 14,000

i Noncontrolling Interest Share 25,500Dividends — Soul 15,000Noncontrolling Interest 10,500


19-97

Solution P4-5 (continued)Pari Corporation and Subsidiary

Consolidation Working Papersfor the year ended December 31, 2009

(in thousands)

Pari Soul 70%Adjustments and


Income StatementSales $ 800 $ 700 $1,500

Income from Soul 59.5 a 59.5

Cost of sales 300* 400* c 5 705*

Depreciation expense 154* 60* d 2e 7

223*

Other expenses 160* 140* f 1 301*


Noncontrolling share i 25.5* 25.5*

Controlling share of NI $ 245.5 $ 100 $ 245.5

Retained EarningsRetained earnings — Pari $ 300 $ 300

Retained earnings — Soul $ 100 b 100

Net income 250 100 245.5


i 15 200*

Retained earnings – Dec 31 $ 345.5 $ 150 $ 345.5


Accounts receivable 100 70 g 10 160

Dividends receivable 14 h 14


Other current assets 70 30 100

Land 50 100 150

Buildings — net 140 160 c 14 d 2 312

Equipment — net 570 330 c 21 e 7 914

Investment in Soul 514.5 a 24.5b 490

Patents c 40 f 1 39

Goodwill c 20 20

Unamortized excess b 100 c 100

$1,694.5 $ 850 $2,091

Accounts payable $ 200 $ 85 g 10 $ 275

Dividends payable 100 20 h 14 106

Other liabilities 49 95 144

Capital stock, $10 par 1,000 500 b 500 1,000

Retained earnings 345.5 150 345.5

$1,694.5 $ 850


Noncontrolling interest December 31 i 10.5 220.5


19-98

$2,091* Deduct


19-99

Solution P4-6


Ownership percentage 13,500/15,000 shares = 90%

Investment cost (13,500 shares ´ $15) $202,500Implied fair value of Syn ($202,500 / 90%) $225,000Book value of Syn 165,000


Excess allocated toLand $ 20,000Remainder to patents 40,000


Income from SynSyn’s reported net income $ 24,000Less: Patents amortization (4,000)Syn’s adjusted income $ 20,000

Pen’s share of Syn’s income (90%) $ 18,000Noncontrolling interest share (10%) $ 2,000

Investment in Syn December 31, 2010Cost January 1, 2009 $202,500Pen’s share of the change in Syn’s retained earnings ($42,000 - $15,000) ´ 90% 24,300Less: Pen’s share (90%) of Patents amortization for 2 years (7,200)

Investment in Syn December 31 $219,600


19-100


Pen Corporation and SubsidiaryConsolidation Working Papers


Pen 90% SynAdjustments and


Income StatementSales $ 400 $ 100 $ 500

Income from Syn 18 a 18


Other expenses 100.6* 26* c 4 130.6*

Consolidated NI $ 69.4

Noncontrolling share g 2 2 *


Retained EarningsRetained earnings — Pen $ 177 $ 177

Retained earnings — Syn $ 34 b 34

Net income 67.4 24 67.4

Dividends 50* 16* a 14.4

g 1.6 50*



Accounts receivable 80 20 f 5 95

Dividends receivable 7.2 d 7.2


Note receivable — Pen 5 e 5

Investment in Syn 219.6 a 3.6b 216

Land 65 30 b 20 115



Patents b 36 c 4 32

$ 784.8 $ 210 $ 810

Accounts payable $ 85.4 $ 10 f 5 $ 90.4

Note payable to Syn 5 e 5

Dividends payable 8 d 7.2 .8

Capital stock 500 150 b 150 500


$ 784.8 $ 210


Noncontrolling interest December 31 g .4 24.4

$ 810* Deduct


19-101

Solution P4-7


Allocation of excess fair value over book valueCost of 70% interest January 1 $490,000Implied fair value of Sol ($490,000 / 70%) $700,000Book value of Sol (600,000)


Excess allocatedUndervalued inventory items sold in 2009 $ 5,000Undervalued buildings (7 year life) 14,000Undervalued equipment (3 year life) 21,000Remainder to goodwill 60,000Excess fair value over book value $100,000

Calculation of income from SolSol’s reported net income $100,000Less: Undervalued inventories sold in 2009 (5,000)Less: Depreciation on building ($14,000/7 years) (2,000)Less: Depreciation on equipment ($21,000/3 years) (7,000)Adjusted income from Soul $ 86,000Par’s 70% controlling share $ 60,20030% Noncontrolling interest share $ 25,800

Working paper entries for 2009a Income from Sol 60,200

Dividends (Sol) 35,000Investment in Sol 25,200

b Capital stock (Sol) 500,000Retained earnings (Sol) - January 1 100,000Unamortized excess 100,000

Investment in Sol 500,000Noncontrolling interest - January 1 200,000

c Cost of sales (for inventory items) 5,000Buildings — net 14,000Equipment — net 21,000Goodwill 60,000

Unamortized excess 100,000

d Depreciation expense 2,000Buildings — net 2,000


19-102

e Depreciation expense 7,000Equipment — net 7,000

f Noncontrolling Interest Share 25,800Dividends — Sol 15,000Noncontrolling Interest 10,800

g Accounts payable 10,000Accounts receivable 10,000

h Dividends payable 14,000Dividends receivable 14,000


19-103


Par Corporation and SubsidiaryConsolidation Working Papers


Par Sol 70%Adjustments and



Income from Sol 60.2 a 60.2Gain on equipment 10 10

Cost of sales 300* 400* c 5 705*

Depreciation expense 155* 60* d 2 224*

e 7



Noncontrolling share f 25.8 25.8*


Retained EarningsRetained earnings — Par $ 300 $ 300

Retained earnings — Sol $ 100 b 100

Controlling share of NI 255.2 100 255.2


f 15 200*







Land 50 100 150

Buildings — net 140 160 c 14 d 2 312

Equipment — net 570 330 c 21 e 7 914

Investment in Sol 515.2 a 25.2b 490

Goodwill c 60 60

Unamortized excess b 100 c 100

$1,705.2 $ 850 $2,102




Capital stock, $10 par 1,000 500 b 500 1,000


$1,705.2 $ 850


19-104


Noncontrolling interest December 31 f 10.8 220.8

$2,102* Deduct


19-105

Solution P4-8


Ownership percentage13,500/15,000 shares = 90%

Investment cost (13,500 shares ´ $15) $202,500Implied fair value of Son ($202,500 / 90%) $225,000Book value of Son 165,000


Excess allocated toLand $ 20,000Remainder to goodwill 40,000


Income from SonPun’s share of Son’s income ($24,000 ´ 90%) $ 21,600

Investment in Son December 31, 2010Cost January 1, 2009 $202,500Pun’s share of the change in Son’s retained earnings ($42,000 - $15,000) ´ 90% 24,300Investment in Son December 31 $226,800

Noncontrolling interest at December 31, 2010 (10% of fair value)(($225,000 + $42,000 - $15,000) x 10%)

$ 25,200


19-106


Pun Corporation and SubsidiaryConsolidation Working Papers


Pun 90% SonAdjustments and



Income from Son 21.6 a 21.6


Other expenses 100.6* 26* 126.6*


Noncontrolling share c 2.4 2.4*


Retained EarningsRetained earnings — Pun $ 181 $ 181

Retained earnings — Son $ 34 b 34


Dividends 50* 16* a 14.4

c 1.6 50*

Retained earnings – Dec 31 $ 202 $ 42 $ 202


Accounts receivable 80 20 f 5 95

Dividends receivable 7.2 d 7.2


Note receivable — Pun 5 e 5

Investment in Son 226.8 a 7.2b 219.6

Land 65 30 b 20 115



Goodwill b 40 40

$ 792 $ 210 $ 818

Accounts payable $ 85 $ 10 f 5 $ 90

Note payable to Son 5 e 5

Dividends payable 8 d 7.2 .8



$ 792 $ 210

Noncontrolling interest January 1 b 24.4

Noncontrolling interest December 31 c .8 25.2

$ 818* Deduct


19-107

Solution P4-9

Pas Corporation and SubsidiaryConsolidation Working Papers


Pas 80% SelAdjustments and



Income from Sel 17 a 17

Cost of sales 80* 40* b 12.5 132.5*


Other expenses 25.5* 10* g 1.25 36.75*




Retained EarningsRetained earnings — Pas $ 75 $ 75

Retained earnings — Sel $ 50 b 50



c 4 40*


Balance SheetCash $ 29.5 $ 30 $ 59.5

Trade receivables — net 28 40 e 4 64

Dividends receivable 8 f 8


Land 15 30 45


Equipment — net 200 100 b 25 d 5 320

Investment in Sel 211 a 1b 210

Patents b 25 g 1.25 23.75

$ 596.5 $ 300 $ 717.25

Accounts payable $ 40 $ 50 e 4 $ 86

Dividends payable 100 10 f 8 102




$ 596.5 $ 300


Noncontrolling interest December 31 c .25 52.75

$ 717.25* Deduct


19-108


Supporting computationsInvestment cost January 1, 2009 $210,000Implied fair value of Sel ($210,000 / 80%) $262,500Book value of Sel 200,000Excess fair value over book value $ 62,500Excess allocated:

Undervalued inventory $ 12,500Undervalued equipment 25,000Remainder to patents 25,000



19-109

Solution P4-10

Plastik Corporation and SubsidiaryConsolidation Working Papers


Plastik80%

SeldaneAdjustments and



Income from Seldane 18 a 18

Cost of sales 80* 40* b 12.5 132.5*






Retained EarningsRetained earnings — Plastik $ 75 $ 75

Retained earnings — Seldane $ 50 b 50



c 4 40*



Trade receivables — net 28 40 e 4 64

Dividends receivable 8 f 8


Land 15 30 45


Equipment — net 200 100 b 25 d 5 320

Investment in Seldane 212 a 2b 210

Goodwill b 25 25

$ 597.5 $ 300 $ 718.5

Accounts payable $ 40 $ 50 e 4 $ 86

Dividends payable 100 10 f 8 102




$ 597.5 $ 300


Noncontrolling interest December 31 c .5 53


19-110

$ 718.5* Deduct


19-111


Supporting computationsInvestment cost January 1, 2009 $210,000Implied fair value of Seldane ($210,000 / 80%) $262,500Book value of Seldane 200,000Excess fair value over book value $ 62,500Excess allocated:

Undervalued inventory $ 12,500Undervalued equipment 25,000Remainder to goodwill 25,000


Income from SeldaneSeldane’s reported net income $ 40,000Less amortization of excess fair value: Inventory (12,500) Depreciation ($25,000 / 5 years) ( 5,000)Seldane’s adjusted income $ 22,500

Plastik’s 80% controlling share $ 18,00020% Noncontrolling interest share $ 4,500


19-112

Solution P4-11

Supporting computationsInvestment cost December 31, 2009 $170,000Implied fair value of Stud ($170,000 / 80%) $212,500Book value of Stud 150,000


Allocationof Excess

Amortization2009 — 2013

UnamortizedExcess

December 31, 2013Inventories $ 8,750 $ 8,750 $ ---Plant assets — net 22,500 10,000 12,500Patents 31,250 25,000 6,250

$62,500 $43,750 $18,750

Pill Corporation and SubsidiaryConsolidated Balance Sheet Working Papers

on December 31, 2013

Pill Stud 80%Adjustments and


AssetsCash $ 41,000 $ 35,000 $ 76,000

Trade receivables 60,000 55,000 c 5,000 110,000

Dividends receivable 8,000 d 8,000

Advance to Stud 25,000 e 25,000

Inventories 125,000 35,000 160,000

Plant assets — net 300,000 175,000 b 12,500 487,500

Investment in Stud 191,000 a 191,000

Patents b 6,250 6,250

Unamortized excess a 18,750 b 18,750

Total assets $750,000 $300,000 $839,750

EquitiesAccounts payable $ 50,000 $ 45,000 c 5,000 $ 90,000

Dividends payable 10,000 d 8,000 2,000

Advance from Pill 25,000 e 25,000

Capital stock 400,000 100,000 a 100,000 400,000

Retained earnings 300,000 120,000 a 120,000 300,000

Noncontrolling interest a 47,750 47,750

Total equities $750,000 $300,000 $839,750


19-113

Solution P4-12

Preliminary computationsInvestment cost $240,000Implied fair value Sci ($240,000 / 80%) $300,000Book value of Sci 225,000


Allocation of differentialPlant assets $ 50,000Goodwill 25,000Excess fair value over book value $ 75,000

AmortizationPlant assets $50,000/4 years = $12,500 per year

Investment account balance at December 31, 2010Underlying book value $290,000Add: Unamortized excess allocated to plant assets ($50,000 - $25,000 depreciation) 25,000Add: Unamortized goodwill 25,000Fair value of Sci at December 31 $340,000Investment account balance at December 31 (80%) $272,000Noncontrolling interest at December 31 (20%) $ 68,000

The investment account balance is overstated at $280,000 forthe $8,000 dividend receivable.


19-114


Pat Corporation and SubsidiaryConsolidation Working Papers


Pat Sci 80%Adjustments and



Income from Sci 38 c 38

Cost of sales 600* 150* 750*

Operating expense 190* 90* e 12.5 292.5 *


Noncontrolling share f 9.5 9.5*


Retained Earnings

Retained earnings — Pat $ 122 $ 122

Retained earnings — Sci $ 50 d 50


Dividends 100* 20* c 16

f 4 100*

Retained earnings – Dec 31 $ 170 $ 90 $ 170

Balance SheetCash $ 6 $ 15 a 20 $ 41

Accounts receivable 26 20 h 5 41


Advance to Sci 20 a 20


Land 160 30 190

Plant assets — net 340 230 d 37.5 e 12.5 595

Investment in Sci 280 b 8c 22d 250

Dividends receivable b 8 g 8

Goodwill d 25 25

$ 994 $ 360 $1,119

Accounts payable $ 24 $ 15 h 5 $ 34

Dividends payable 10 g 8 2


Capital stock 700 200 d 200 700


$ 994 $ 360

Noncontrolling interest January 1 d 62.5

Noncontrolling interest December 31 f 5.5 68


19-115

$1,119* Deduct


19-116

Solution P4-13

Supporting computationsInvestment cost January 1, 2009 $ 80,000Implied fair value of Ski ($80,000 / 80%) $100,000Book value of Ski 90,000


Excess allocated toInventory (sold in 2009) $ 1,000Machinery (4-year remaining use life) 4,000Intangibles (40-year amortization period) 5,000


Income from Ski for 2009Ski’s net income $ 15,000Less: Excess allocated to inventories (1,000)Less: Amortization of excess allocated to machinery ($4,000/4 years) (1,000)Less: Amortization of intangibles ($5,000/40 years) (125)Ski’s adjusted income for 2009 $ 12,875

Ply’s 80% controlling interest share $ 10,300Noncontrolling interest share for 2009 (20%) $ 2,575

Income from Ski for 2010Ski’s net income $ 20,000Less: Amortization of excess allocated to machinery ($4,000/4 years) (1,000)Less: Amortization of intangibles ($5,000/40 years) (125)Ski’s adjusted income for 2010 $ 18,875

Ply’s 80% controlling interest share $ 15,100Noncontrolling interest share for 2010 (20%) $ 3,775

Note: Since the prior year’s income is not affected by the current year’s error of omission, the working papers for 2010 are easier to prepare without an additional conversion-to-equity entry.


19-117


Ply Corporation and SubsidiaryConsolidation Working Papers


Ply Ski 80%Adjustments and



Income from Ski 10,300 a 10,300

Cost of sales 105,000* 35,000* b 1,000 141,000*

Operating expenses 35,000* 30,000* c 1,000d 125

66,125*


Noncontrolling share f 2,575 2,575*

Controlling share of NI $ 30,300 $ 15,000 $ 30,300

Retained Earnings

Retained earnings — Ply $ 70,000 $ 70,000

Retained earnings — Ski $ 30,000 b 30,000

Controlling share of NI 30,300 15,000 30,300

Dividends 10,000* 5,000* a 4,000f 1,000 10,000*

Retained earnings – Dec 31 $ 90,300 $ 40,000 $ 90,300

Balance SheetCash $ 24,700 $ 15,000 $ 39,700

Trade receivables — net 25,000 20,000 45,000

Dividends receivable 4,000 0 e 4,000

Inventories 40,000 30,000 70,000

Plant & equipment — net 100,000 55,000 b 4,000 c 1,000 158,000

Investment in Ski 86,300 a 6,300b 80,000

Intangibles b 5,000 d 125 4,875

$ 280,000 $ 120,000 $ 317,575


Dividends payable 9,000 5,000 e 4,000 10,000

Capital stock 100,000 40,000 b 40,000 100,000



$ 280,000 $ 120,000


Noncontrolling interest December 31 f 1,575 21,575

$ 317,575* Deduct


19-118


Ply Corporation and SubsidiaryConsolidation Working Papers


Ply Ski 80%Adjustments and



Income from Ski 16,000 a 16,000

Cost of sales 110,000* 35,000* 145,000*

Operating expenses 30,000* 35,000* c 1,000d 125

66,125*




Retained Earnings

Retained earnings — Ply $ 90,300 $ 90,300

Retained earnings — Ski $ 40,000 b 40,000


Dividends 15,000* 10,000* a 8,000f 2,000 15,000*

Retained earnings – Dec 31 $ 121,300 $ 50,000 $ 120,400


Trade receivables — net 45,000 30,000 75,000

Dividends receivable 4,000 e 4,000

Inventories 40,000 30,000 70,000

Plant & equipment — net 95,000 60,000 b 3,000 c 1,000 157,000

Investment in Ski 94,300 a 8,000b 86,300

Patents b 4,875 d 125 4,750

$ 305,000 $ 140,000 $ 353,450


Dividends payable 6,000 5,000 e 4,000 7,000

Capital stock 100,000 40,000 b 40,000 100,000



$ 305,000 $ 140,000



$ 353,450* Deduct


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Solution P4-14

Preliminary computationsInvestment cost $ 99,000Implied fair value of Simple ($99,000 / 90%) $110,000Book value of Simple 80,000


Excess allocated to:Inventories (sold in 2009) $ 10,000Patents (10-year remaining useful life) 20,000


1 Analysis of investment in Simple account

Fair value of Simple January 5, 2009 $110,000Add: 90% of change in retained earnings from January 5, 2009 to December 31, 2011 50,000Less: Amortization of excess

Allocated to inventories and amortized in 2009 (10,000)Allocated to patents and amortized over 10 years ($20,000/10 years) ´ 3 years (6,000)

Fair value at December 31, 2011 144,000Add: Income from Simple for 2012 18,000Less: Dividends in 2012 (10,000)Fair value at December 31, 2012 $152,000

Investment in Simple on December 31, 2011 (90% fair value) $129,600Investment in Simple on December 31, 2012 (90% fair value) $136,800Noncontrolling interest on Dec. 31, 2011 (10% fair value) $ 14,400Noncontrolling interest on Dec. 31, 2012 (10% fair value) $ 15,200


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Pepper Company and SubsidiaryConsolidation Working Papers


Pepper SimpleAdjustments and

EliminationsIncome

StatementRetainedEarnings

BalanceSheet

DebitsCash $ 11,000 $ 15,000 $ 26,000

Accounts receivable 15,000 25,000 40,000

Plant assets 220,000 180,000 400,000

Investment in Simple 136,800

a 7,200b 129,600

Patents b 14,000 c 2,000 12,000

Cost of goods sold 50,000 30,000 $ 80,000*

Operating expenses 25,000 40,000 c 2,000 67,000*

Dividends 20,000 10,000 a 9,000 $ 20,000*

d 1,000

$477,800 $300,000 $478,000

CreditsAccumulated depreciation $ 90,000 $ 50,000 140,000

Liabilities 80,000 30,000 110,000

Capital stock 100,000 60,000 b 60,000 100,000

Paid-in-excess 20,000 20,000

Retained earnings 71,600 70,000 b 70,000 71,600

Sales 100,000 90,000 190,000

Income from Simple 16,200 a 16,200

$477,800 $300,000

Noncontrolling interest Dec 31, 2011 b 14,400

Noncontrolling interest share($18,000 adj. inc. x 10%) d 1,800 1,800*

Controlling share of NI $ 41,200 41,200

Consolidated retained earnings $ 92,800 92,800

Noncontrolling interest Dec 31, 2012 d 800 15,200

$478,000* Deduct

a To eliminate income from subsidiary and dividends received and reduce the investment account to its beginning-of-the-period balance.

b To eliminate reciprocal investment and subsidiary equity amounts, establish beginning noncontrolling interest, and adjust patents for the unamortized excess as of the beginning of the period.

c To amortize excess allocated to patents for 2012.d To enter noncontrolling interest share of subsidiary income and dividends.


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Solution P4-15

1 Journal entries on Peggy’s books

January 1, 2009Investment in Super (90%) 18,000

Cash 18,000To record purchase of 90% of Super’s stock for cash.

July 1, 2009Investment in Ellen (25%) 7,000

Cash 7,000To record purchase of 25% of Ellen’s stock for cash.

November 2009Cash 2,700

Investment in Super (90%) 2,700To record receipt of 90% of Super’s $3,000 dividends.

November 2009Cash 1,250

Investment in Ellen (25%) 1,250To record receipt of 25% of Ellen’s $5,000 dividends.

December 31, 2009Investment in Super (90%) 4,500

Income from Super 4,500To record Share of Super’s reported income ($28,000 - $23,000) ´ 90%

December 31, 2009Investment in Ellen (25%) 700

Income from Ellen 700To record investment income from Ellen for 2009 computed as:Share of Ellen’s reported income $ 750($30,000-$24,000)´1/2 year ´ 25%Less: Amortization of excess [$7,000 – ($24,000 ´ 25%)] ¸ 10 years ´ 1/2 year (50)

$ 700


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2 Peggy’s separate company financial statements

Peggy CorporationIncome Statement


RevenuesSales $100,000Income from Super 4,500Income from Ellen 700

Total revenue $105,200Costs and expenses

Cost of sales $ 60,000Other expenses 25,000

Total costs and expenses 85,000Net income $ 20,200

Peggy CorporationRetained Earnings Statement


Retained earnings January 1 $ 20,000Add: Net income 20,200Deduct: Dividends (10,000)

Retained earnings December 31 $ 30,200

Peggy CorporationBalance Sheet


AssetsCurrent assets:

Cash $ 18,950Other current assets 40,000 $ 58,950

Plant assets — net 120,000Investments:

Investment in Super (90%) $ 19,800Investment in Ellen (25%) 6,450 26,250

Total assets $205,200

Liabilities and stockholders’ equityCurrent liabilities $ 25,000Stockholders’ equity:


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Capital stock $150,000Retained earnings December 31 30,200 180,200

Total liabilities and stockholders’ equity $205,200


19-124


3 Consolidation working papers — trial balance format

Peggy Corporation and SubsidiaryConsolidation Working Papers


Peggy90%Super


IncomeStatement

RetainedEarnings

BalanceSheet

DebitsCash $ 18,950 $ 4,000 $ 22,950


Plant assets — net 120,000 14,000 134,000

Investment in Super 19,800

a 1,800b 18,000

Investment in Ellen 6,450 6,450

Cost of sales 60,000 16,000 $ 76,000*

Other expenses 25,000 7,000 32,000*

Dividends 10,000 3,000 a 2,700 $ 10,000*d 300*

Total debits $300,200 $55,000 $214,400

CreditsCurrent liabilities $ 25,000 $ 7,000 $ 32,000

Capital stock 150,000 18,000 b 18,000 150,000

Retained earnings 20,000 2,000 b 2,000 20,000

Sales 100,000 28,000 128,000

Income from Super 4,500 a 4,500

Income from Ellen 700 700

Total credits $300,200 $55,000

Noncontrolling interest - January 1 b 2,000

Noncontrolling interest share $4,500 ´ 10% d 450 450*

Controlling share of NI $ 20,250 20,250

Consolidated retained earnings $ 30,250 30,250

Noncontrolling interest December 31 d 150 2,150

$214,400


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4 Consolidated financial statementsPeggy Corporation and Subsidiary

Consolidated Income Statementfor the year ended December 31, 2009

RevenuesSales $128,000Income from Ellen (equity basis) 700

Total revenues $128,700Costs and expenses

Cost of sales $ 76,000Other expenses 32,000

Total costs and expenses 108,000Total consolidated income 20,700Less: Noncontrolling interest share 450

Controlling share of NI $ 20,250

Peggy Corporation and SubsidiaryConsolidated Retained Earnings Statement

for the year ended December 31, 2009Consolidated retained earnings January 1 $ 20,000Add: Controlling share of NI 20,250Deduct: Dividends (10,000)


Peggy Corporation and SubsidiaryConsolidated Balance Sheet

at December 31, 2009Assets

Current assets:Cash $ 22,950Other current assets 51,000 $ 73,950

Plant assets — net 134,000Investments and other assets:

Investment in Ellen 6,450Total assets $214,400

Liabilities and stockholders’ equityCurrent liabilities $ 32,000Stockholders’ equity:Capital stock $150,000Consolidated retained earnings 30,250Noncontrolling interest 2,150 182,400Total liabilities and stockholders’ equity $214,400

Solution P4-16


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Partial consolidated statement of cash flows using the direct methodPillory Corporation and Subsidiaries

Partial Consolidated Statement of Cash Flowsfor the current year

Cash Flows from Operating ActivitiesCash received from customers $1,600,000Dividends from equity investees 40,000Interest received from short-term loan 5,000Cash paid for other expenses (450,000)Cash paid to suppliers (630,000) Cash flow from operating activities $ 565,000


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Solution P4-17

Direct Method

Pesek Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2011

Cash Flows from Operating ActivitiesCash received from customers $670,000Cash paid to suppliers $348,000Cash paid for operating expenses 157,500 (505,500)Net cash flows from operating activities 164,500

Cash Flows from Investing ActivitiesPurchase of equipment (125,000)Net cash flows from investing activities (125,000)

Cash Flows from Financing ActivitiesPayment of cash dividends — controlling (36,000)Payment of cash dividends — noncontrolling (2,000)Payment of long-term liabilities (11,000)Net cash flows from financing activities (49,000)

Decrease in cash for the year (9,500)Cash on January 1 65,000Cash on December 31 $ 55,500

Reconciliation of net income to cash provided by operating activities

Controlling share of NI $130,000Adjustments to reconcile net income to cash provided by operating activities:

Noncontrolling interest share $ 5,000Depreciation expense 51,000Patents amortization 500Increase in accounts payable 22,000Increase in accounts receivable (5,000)Increase in inventories (20,000)Increase in other current assets (19,000) 34,500Net cash flows from operating activities $164,500


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Indirect Method

Pesek Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2011

Cash Flows from Operating ActivitiesControlling share of NI $130,000Noncontrolling interest share 5,000 $135,000Noncash expenses, revenue, gains and losses included in income:

Depreciation $ 51,000Patents amortization 500Increase in accounts receivable (5,000)Increase in inventories (20,000)Increase in other current assets (19,000)Increase in accounts payable 22,000 29,500

Net cash flows from operating activities 164,500Cash Flows from Investing Activities

Purchase of equipment (125,000)Net cash flows from investing activities (125,000)

Cash Flows from Financing ActivitiesPayment of cash dividends — controlling (36,000)Payment of cash dividends — noncontrolling (2,000)Payment of long-term liabilities (11,000)Net cash flows from financing activities (49,000)

Decrease in cash for the year (9,500)Cash on January 1 65,000Cash on December 31 $ 55,500

Note: The cash flows from investing activities and cash flows from financing activities sections of the statement of cash flows are the same under the direct and indirect method.


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Solution P4-18 [AICPA]

Indirect Method

Push, Inc. and SubsidiaryStatement of Cash Flows (Indirect Method)


Cash Flows from Operating ActivitiesControlling share of NI $ 198,000Adjustments to reconcile net income to cash provided by operating activities:

Noncontrolling interest share $ 33,000Depreciation expense 82,000Patents amortization 3,000Decrease in accounts receivable 22,000Increase in accounts payable 121,000Increase in deferred income taxes 12,000Increase in inventories (70,000)Gain on marketable equity securities (11,000)Gain on sale of equipment (6,000) 186,000


Purchase of equipment $(127,000)Proceeds from sale of equipment 40,000

Net cash flows from investing activities (87,000)Cash Flows from Financing Activities

Cash received from sale of treasury stock 44,000Payment of cash dividends — controlling (58,000)Payment of cash dividends — noncontrolling (15,000)Payment on long-term note (150,000)

Net cash flows from financing activities (179,000)Increase in cash for the year 118,000Cash on January 1 195,000Cash on December 31 $ 313,000

Listing of non-cash investing and financing activities:

Issued common stock in exchange for land with a fair value of $215,000.


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Indirect Method

Push, Inc. and SubsidiaryWorking Papers for the Statement of Cash Flows (Indirect Method)

for the year ended December 31, 2009Cash Flow Cash Flow Cash Flow

Year’s Reconciling Items From Investing FinancingChange Debit Credit Operations Activities Activities

Asset Changes

Cash 118,000

Allowance to reduce MES 11,000 e 11,000

Accounts receivable — net (22,000) f 22,000

Inventories 70,000 g 70,000

Land* 215,000 h 215,000

Plant and equipment 65,000 k 62,000 j 127,000

Accumulated depreciation (54,000) l 82,000 k 28,000

Patents — net (3,000) m 3,000

Total asset changes 400,000

Changes in Equities

Accounts & accrued payable 121,000 n 121,000

Note payable long-term (150,000) o 150,000

Deferred income taxes 12,000 p 12,000

Noncontrolling interest in Storr 18,000 b 33,000 d 15,000

Common stock, $10 par* 100,000 h 100,000

Additional paid-in capital 123,000 h 115,000

i 8,000

Retained earnings 140,000 a 198,000 c 58,000

Treasury stock at cost 36,000 i 36,000

Total changes in equities 400,000

Controlling share of NI a 198,000 198,000

Noncontrolling interest share b 33,000 33,000

Gain on MES e 11,000 (11,000)

Purchase of plant and equipment j 127,000 (127,000)

Sale of equipment k 40,000 40,000

Gain on equipment k 6,000 (6,000)

Depreciation expense l 82,000 82,000

Payment on long-term note o 150,000 (150,000)

Amortization of patents m 3,000 3,000

Decrease in receivables f 22,000 22,000

Increase in inventories g 70,000 (70,000)

Increase in accounts payable n 121,000 121,000

Increase in deferred income taxes p 12,000 12,000

Proceeds from treasury stock i 44,000 44,000

Payment of dividends — controlling c 58,000 (58,000)

Payment of dividends — noncontrolling d 15,000 (15,000)

1,229,000 1,229,000

384,000 (87,000) (179,000)

Cash increase for the year = $384,000 – $87,000 – $179,000 = $118,000.


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* Non-cash item: Purchased $215,000 land through common stock issuance.


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Solution P4-19

Indirect Method

Pilgrim Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2010

Cash Flows from Operating ActivitiesControlling share of NI $ 500,000

Adjustments to reconcile net income to cash provided by operating activities:

Noncontrolling interest share $ 40,000Depreciation expense 200,000Patents amortization 10,000Increase in accounts payable 17,000Income less dividends — equity investee (30,000)Increase in accounts receivable (210,000) 27,000


Purchase of equipment $(500,000)Net cash flows from investing activities (500,000)Cash Flows from Financing Activities

Cash received from long-term note $ 200,000Payment of cash dividends — controlling (137,000)Payment of cash dividends — noncontrolling (20,000)

Net cash flows from financing activities 43,000Increase in cash for the year 70,000Cash on January 1 360,000Cash on December 31 $ 430,000


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Indirect MethodPilgrim Corporation and Subsidiary

Working Papers for the Statement of Cash Flows (Indirect Method)for the year ended December 31, 2010

Cash Flows Cash Flows Cash Flows

Year’s Reconciling Items From Investing Financing

Change Debit Credit Operations Activities Activities

Asset Changes

Cash $ 70,000

Accounts receivable — net 210,000 e 210,000

Inventories 0

Plant & equipment — net 300,000 f 200,000 g 500,000

Equity investments 30,000 l 30,000 m 60,000

Patents (10,000) h 10,000

Total asset changes $ 600,000

Changes in Equities

Accounts payable $ 17,000 i 17,000

Dividends payable 13,000 k 13,000

Long-term note payable 200,000 j 200,000

Common stock 0

Other paid-in capital 0

Retained earnings 350,000 a 500,000 c 150,000

Noncontrol. interest 20% 20,000 b 40,000 d 20,000

Changes in

equities $ 600,000

Controlling share of NI a 500,000 $ 500,000

Noncontrolling interest share b 40,000 40,000

Purchase of plant & equipment g 500,000 $(500,000)

Depreciation — plant & equipment f 200,000 200,000

Amortization of patents h 10,000 10,000

Increase in accounts receivable e 210,000 (210,000)

Income less dividends from

investees m 60,000 l 30,000 (30,000)

Increase in accounts payable i 17,000 17,000

Received cash from long-term note j 200,000 0 $ 200,000

Payment of dividends — controlling c 150,000 k 13,000 (137,000)

Payment of dividends — noncontrolling d 20,000 (20,000)

1,950,000 1,950,000 $ 527,000 $(500,000) $ 43,000

Cash increase for the year = $527,000 – $500,000 + $43,000 = $70,000.


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Direct Method

Pilgrim Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2010

Cash Flows from Operating ActivitiesCash received from customers $2,390,000Cash received from equity investees 30,000Cash paid to suppliers $1,433,000Cash paid for operating expenses 460,000 (1,893,000)


Purchase of equipment $ (500,000)Net cash flows from investing activities (500,000)Cash Flows from Financing Activities

Cash received from long-term note $ 200,000Payment of cash dividends — controlling (137,000)Payment of cash dividends — noncontrolling (20,000)

Net cash flows from financing activities 43,000Increase in cash for the year 70,000Cash on January 1 360,000Cash on December 31 $ 430,000

Reconciliation of net income to cash provided by operating activitiesControlling share of NI $ 500,000Adjustments to reconcile net income to cash provided by operating activities:

Noncontrolling interest share $ 40,000Income less dividends — equity investee (30,000)Depreciation expense 200,000Patents amortization 10,000Increase in accounts payable 17,000Increase in accounts receivable (210,000) 27,000

Net cash flows from operating activities $ 527,000


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Direct Method

Pilgrim Corporation and SubsidiaryWorking Papers for the Statement of Cash Flows (Direct Method)


Cash Flow Cash Flow Cash Flow Year’s Reconciling Items From Investing Financing

Change Debit Credit Operations Activities Activities

Asset Changes

Cash $ 70,000Accounts receivable — net 210,000 a 210,000

Inventories 0Plant & equipment — net 300,000 b 200,000 c 500,000

Equity investments 30,000 d 30,000

Patents (10,000) e 10,000

Total asset changes $ 600,000

Changes in Equities

Accounts payable $ 17,000 f 17,000

Dividends payable 13,000 g 13,000

Long-term note payable 200,000 h 200,000

Retained earnings* 350,000

Noncontrol.interest 20% 20,000 i 40,000 j 20,000

Changes in equities $ 600,000

Ret. earnings change*

Sales $2,600,000 a 210,000 $2,390,000

Income from equity

investees 60,000 d 30,000 30,000

Cost of goods sold (1,450,000) f 17,000 (1,433,000)

Depreciation expense (200,000) b 200,000 0

Other operating expenses (470,000) e 10,000 (460,000)

Noncontrolling interest

share (40,000) i 40,000 0

Dividends declared —

Pilgrim (150,000) g 13,000

k 137,000

Retained earnings

change $ 350,000

Received cash from long-term note h 200,000 $ 200,000

Payment of dividends — controlling k 137,000 (137,000)

Payment of dividends — noncontrolling j 20,000 (20,000)

Purchase of equipment c 500,000 $(500,000)

1,377,000 1,377,000 $ 527,000 $(500,000) $ 43,000

* Retained earnings changes replace the retained earnings account for reconciling purposes.

Cash increase for the year = $527,000 - $500,000 + $43,000 = $70,000.


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Chapter 5

INTERCOMPANY PROFIT TRANSACTIONS — INVENTORIES


1 Profits and losses on sales between affiliated companies are realized for consolidated statement purposes when the purchasing affiliate resells the merchandise to parties outside of the consolidated entity. If all merchandise sold to affiliates is resold to outside parties in the same period, there will be no unrealized profit to eliminate in preparing the consolidated financial statements.

2 Gross profit, rather than net profit, is the concept that should be used in computing unrealized inventory profits according to SFAS No. 160 (This treatment was also prescribed by ARB No. 51).

3 The amount of unrealized profit to be eliminated in the preparation of consolidated financial statements is not affected by the existence of a noncontrolling interest. All unrealized profit must be eliminated. In the case of upstream sales, however, the unrealized profit should be allocated between controlling and noncontrolling interests.

4 The elimination of intercompany sales and purchases does not affect consolidated net income. This is because equal amounts are deducted from sales and cost of sales and the net effect on consolidated net income is nil. The importance of the elimination lies in a correct statement of consolidated sales and cost of sales.

5 Consolidated working capital is not affected by the elimination of intercompany accounts receivable and accounts payable balances. Since equal amounts are deducted from current assets and current liabilities, the effect on the computation "current assets less current liabilities" is nil.

6 Upstream sales are sales from subsidiary to parent company. Downstream sales are sales from parent company to subsidiary. The importance of this designation lies in the fact that the profit or loss on such transactions is the selling affiliate's profit or loss. In the case of unrealized profit or loss on downstream sales, all the profit or loss is assigned to the parent company-seller. But unrealized profit or loss on upstream sales is profit or loss of the subsidiary-seller and is assigned to the parent company and noncontrolling interest in relation to their proportionate holdings.

7 Yes. If unrealized profits are not eliminated at year end, consolidated net income will be overstated. The ending inventory of one year becomes the beginning inventory of the next year, and unrealized profits in the beginning inventory will understate consolidated net income. The analysis of the effect of unrealized inventory profits on consolidated net income is basically the same as the analysis for inventory errors. Like inventory errors,


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errors in eliminating unrealized profits are self-correcting over any two accounting periods. Consolidated net income for 2011 is not affected.

8 The noncontrolling interest share is affected by upstream sales if the merchandise has not been resold by the parent company to outside parties by the end of the accounting period. This is because the noncontrolling interest share is based on the income of the subsidiary. If the subsidiary has unrealized profit from intercompany sales, its realized income will be less than its reported income. The noncontrolling interest share should be based on the realized income of the subsidiary.


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9 A parent company's investment income and investment accounts are adjusted for unrealized profits on intercompany sales to subsidiaries in accordance with the one-line consolidation concept. The parent company reduces its investment and investment income accounts for the full amount of the unrealized profits in the year of intercompany sale. When the goods are sold to outside parties by the subsidiary, the profits of the parent company are realized and the parent company increases its investment and investment income accounts.

10 Combined cost of goods sold is overstated when there are unrealized profits in the beginning inventory and understated when there are unrealized profits in the ending inventory. The elimination of unrealized profits in the beginning inventory reduces (credits) cost of goods sold and the elimination of unrealized profits in the ending inventory increases (debits) cost of goods sold.

11 The effect of unrealized profits on consolidated cost of goods sold is not affected either by a noncontrolling interest or by the direction of the intercompany sales. All unrealized profit from both upstream and downstream sales is eliminated from consolidated cost of goods sold.

12 Unrealized profit in the beginning inventory is reflected in an overstatement of cost of sales and is eliminated by reducing (crediting) cost of sales and debiting the investment account if a correct equity method has been used and the intercompany sales are downstream. In the case of upstream sales, cost of sales is credited and the noncontrolling interest and the investment account are debited proportionately. When the parent company does not adjust its investment account for unrealized profits from intercompany sales, the above debits to the investment account would be to retained earnings.

13 There are two equally good approaches for computing noncontrolling interest share when there are unrealized profits from upstream sales in both beginning and ending inventories. One approach is to compute realized income of the subsidiary by adding unrealized profits in the beginning inventory to reported subsidiary net income and deducting unrealized profits in the ending inventory. The noncontrolling interest share is then equal to the realized income of the subsidiary multiplied by the noncontrolling interest percentage.

The other approach is to compute the noncontrolling interest percentage in reported subsidiary net income, in unrealized profits in beginning inventory, and in unrealized profits in ending inventory. Noncontrolling interest share is then computed by adding the noncontrolling interest percentage in unrealized profits in the beginning inventory to the noncontrolling interest share of reported income, and subtracting the noncontrolling interest percentage relating to the unrealized profits in the ending inventory.

14 The assumption that unrealized profits in an ending inventory are realized in the succeeding period is a convenience, but it does not result in incorrect measurements of consolidated net income as long as the unrealized profits at any statement date are correctly determined. This is because any unrealized profits in beginning inventory that


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are considered realized are credited to cost of sales. The same items will appear as unrealized profits in the ending inventory if they remain unsold, and the elimination of these items results in debiting cost of sales for the same amount. Thus, the working paper effects are offsetting as illustrated in the following working paper entries, which assume $5,000 unrealized profits from downstream sales.

Investment in subsidiary (retained earnings) 5,000Cost of sales 5,000

To eliminate unrealized profit in beginning inventory.

Cost of sales 5,000

Inventory 5,000

To eliminate unrealized profit in ending inventory.


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Solution E5-1

1 a 5 c2 d 6 a3 a 7 a4 c 8 c


1 a

2 cUnrealized profits from intercompany sales with Kent are eliminated from the ending inventory: $320,000 combined current assets less $12,000 unrealized profit ($60,000 ´ 20%).

3 cCombined cost of sales of $750,000 less $250,000 intercompany sales

Solution 5-3

1 dPhilly's separate income (in thousands) $1,000Add: Share of Silvio's income ($500 ´ 100%) 500

Add: Realization of profit deferred in 2009

$1,500 - ($1,500/150%) 500

Less: Unrealized profit in 2010 inventory

$1,200 - ($1,200/150%) (400)

Controlling share of consolidated net income $1,600

2 dCombined sales $1,400Less: Intercompany sales (50)

Consolidated sales $1,350

3 c


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Combined cost of sales $ 680Less: Intercompany purchases (50)

Less: Unrealized profit in beginning inventory (4)

Add: Unrealized profit in ending inventory 10

Consolidated cost of sales $ 636


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Solution E5-4

1 bPride's share of Sedita's income ($60,000 ´ 80%) $ 48,000Less: Unrealized profit in ending inventory

($20,000 ´ 50% unsold ´ 80% owned) (8,000)

Income from Sedita $ 40,000

2 dCombined cost of sales $ 450,000Less: Intercompany sales (100,000)

Add: Unrealized profit in ending inventory 10,000

Consolidated cost of sales $ 360,000

3 bReported income of Sedita $ 60,000Unrealized profit (10,000)

Sedita's realized income 50,000

Noncontrolling interest percentage 20%

Noncontrolling interest share $ 10,000

Solution E5-5

1 cCombined sales $1,800,000 Less: Intercompany sales (400,000)

Consolidated sales $1,400,000

2 cUnrealized profit in beginning inventory $100,000 - ($100,000/125%) $ 20,000


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Unrealized profit in ending inventory

$125,000 - ($125,000/125%) $ 25,000

3 bCombined cost of goods sold $1,440,000Less: Intercompany sales (400,000)

Less: Unrealized profit in beginning inventory

$100,000 - ($100,000/125%) (20,000)

Add: Unrealized profit in ending inventory

$125,000 - ($125,000/125%) 25,000

Consolidated cost of goods sold $1,045,000


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Solution E5-6

1 aPatti's separate income $200,000Add: Income from Susan (below) 144,550


Susan's reported income $200,000Less: Patents amortization (20,000)

Add: Unrealized profit in beginning inventory

[$112,500 - ($112,500/150%)] 37,500

Less: Unrealized profit in ending inventory

[$33,000 - ($33,000/150%)] (11,000)

Susan’s adjusted and realized income $206,500

Patti’s 70% controlling share of Susan’s realized income $144,550Noncontrolling interest share (30%) $ 61,950

2 cPackman's share of Slocum's reported net loss ($150,000 loss ´ 60%) $(90,000)

Add: Unrealized profit in ending inventory

($200,000 ´ 1/4 unsold) (50,000)

Income from Slocum (140,000)

Packman's separate income 300,000


3 bSantini's reported net income $300,000Add: Realized profit in beginning inventory


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$150,000 - ($150,000/1.25) 30,000

Less: Deferred profit in ending inventory

$200,000 - ($200,000/1.25) (40,000)

Income from Santini $290,000

Parnell’s 75% controlling share of Santini’s income $217,500

Noncontrolling interest share (25%) $ 72,500

Solution E5-7

(in thousands) 2009 2010 2011Pansy's separate income $300 $400 $350

Add: 80% of Sheridan's reported income 400 440 380

Add: Realization of profits in

beginning inventory 30 40

Less: Unrealized profits in ending

Inventory (30) (40) (20)

Controlling share of consolidated NI $670 $830 $750


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Solution E5-8

Pycus Corporation and SubsidiaryConsolidated Income Statement


Sales ($400 + $100 - $40 intercompany sales) $ 460Cost of sales ($200 + $60 - $40 intercompany

purchases + $10 unrealized profit in ending inventory) (230)

Gross profit 230

Other expenses ($100 + $30) (130)

Cnsolidated net income 100

Less: Noncontrolling interest share ($10 ´ 20%) (2)

Controlling share of consolidated net income $ 98

Solution E5-9

1 Noncontrolling interest shareSeven's reported net income $ 50,000Add: Intercompany profit from upstream sales in

beginning inventory 5,000

Less: Intercompany profit from upstream sales in

ending inventory (10,000)

Seven’s adjusted and realized income $ 45,000

Noncontrolling interest share (40%) $ 18,000

2 Consolidated salesCombined sales $1,250,000Less: Intercompany sales 100,000

Consolidated sales $1,150,000


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Consolidated cost of salesCombined cost of sales $ 650,000Less: Intercompany sales (100,000)

Add: Intercompany profit in ending inventory 10,000

Less: Intercompany profit in beginning inventory (5,000)


Total Consolidated Income

Combined income $ 300,000

Less: Intercompany profit in ending inventory (10,000)

Add: Intercompany profit in beginning inventory 5,000

Total Consolidated Income $ 295,000


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Solution E5-10

Papillion Corporation and SubsidiaryConsolidated Income Statement

December 31, 2011(in thousands)

Sales ($1,000 + $500 - $90 intercompany) $1,410Cost of sales ($400 + $250 - $90 intercompany -

$10 unrealized profit in beginning inventory + $15

unrealized profit in ending inventory (565)

Gross profit 845

Depreciation expense (170)

Other expenses ($90 + $60) (150)

Total consolidated income 525

Less: Noncontrolling interest share ($150 + $10 profit

in beginning inventory - $15 profit in end. inventory) ´ 20% (29)

Controlling interest share of consolidated net income $ 496


Cost of investment in Saiki at January 1, 2010 $ 600

Implied fair value of Saiki ($600 / 80%) $ 750

Book value of Saiki (700)Goodwill $ 50

Solution E5-11

1 bIncome as reported $ 200,000Add: Realization of profits in beginning inventory


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$120,000 - ($120,000/1.2) 20,000

Less: Unrealized profits in ending inventory

$360,000 - ($360,000/1.2) (60,000)

Realized income 160,000

Percent ownership 60%

Income from Suey $ 96,000

2 cSuey's equity as reported ($3,400,000 + $2,100,000) $5,500,000Less: Unrealized profit in ending inventory (60,000)

Realized equity 5,440,000

Noncontrolling share 40%

Noncontrolling interest December 31, 2011 $2,176,000

3 bRealized equity $5,440,000Controlling share 60%

Investment balance December 31, 2011 $3,264,000

Note: The excess fair value over book value is fully amortized. Therefore, the investment balance of $3,264,000 plus the noncontrolling interest of $2,176,000 is equal to the $5,440,000 realized equity at the balance sheet date.


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Solution E5-12

Pullen Corporation and SubsidiaryConsolidated Income Statement


Sales ($1,380,000 - $120,000 intercompany sales) $1,260,000Cost of sales ($920,000 - $120,000 - $5,000a + $12,000b) (807,000)

Gross profit 453,000

Operating expenses (160,000)

Total consolidated income 293,000

Less: Noncontrolling interest share [$40,000 - ($12,000 ´ .2)] (37,600)

Controlling share of consolidated net income $ 255,400

a Unrealized profit in beginning inventory (downstream) ($180,000 - $160,000) ´ .25 = $5,000b Unrealized profit in ending inventory (upstream ($120,000 - $90,000) ´ .4 = $12,000


Solution P5-1

Proctor Corporation and SubsidiaryConsolidated Statement of Income and Retained Earnings


Sales ($1,300,000 + $650,000 - $80,000 intercompany sales) $1,870,000Less: Cost of sales ($800,000 + $390,000 - $80,000 inter-

company purchases - $12,000 unrealized profit in beginning

inventory + $16,000 unrealized profit in ending inventory) (1,114,000)


Other expenses ($340,000 + $160,000) (500,000

Consolidated net income 256,000

Noncontrolling interest share($100,000+$12,000 - $16,000) ´ 10% (9,600)


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Controlling share of consolidated net income 246,400

Add: Beginning consolidated retained earnings 369,200

Less: Dividends for the year (100,000)


Solution P5-2

1 Consolidated cost of sales — 2011Combined cost of sales ($625,000 + $300,000) $ 925,000 Less: Intercompany purchases (300,000)

Add: Profit in ending inventory 24,000

Less: Profit in beginning inventory (12,000)


2 Noncontrolling interest share — 2011Slam's net income ($600,000 - $300,000 - $150,000) $ 150,000 Add: Profit in beginning inventory 12,000

Less: Profit in ending inventory (24,000)

Slam's realized income 138,000




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3 Consolidated Controlling share of NI— 2011Consolidated sales ($900,000 + $600,000 - $300,000) $1,200,000 Less: Consolidated cost of sales (637,000)

Less: Consolidated expenses ($225,000 + $150,000) (375,000)

Less: Noncontrolling interest share (13,800)


Alternatively,Putt's separate income $ 50,000 Add: Income from Slam 124,200


4 Noncontrolling interest at December 31, 2011Equity of Slam December 31, 2011 $ 520,000 Less: Unrealized profit in ending inventory (24,000)


Noncontrolling interest December 31 $ 49,600

Solution P5-3

1 Inventories appearing in consolidated balance sheet at December 31, 2010Beginning inventory — Potter ($60,000 - $4,000a) $ 56,000 Beginning inventory — Scan ($38,750 - $7,750b) 31,000

Beginning inventory — Tray ($24,000 - 0) 24,000

Inventories December 31 $111,000

Intercompany profit:

a Potter:Inventory acquired intercompany ($60,000 ´ 40%) $ 24,000 Cost of intercompany inventory ($24,000/1.2) (20,000)


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Unrealized profit in Potter's inventory $ 4,000

b Scan:Inventory acquired intercompany ($38,750 ´ 100%) $ 38,750 Cost of intercompany inventory ($38,750/1.25) (31,000)

Unrealized profit in Scan's inventory $ 7,750

2 Inventories appearing in consolidated balance sheet at December 31, 2011Ending inventory — Potter ($54,000 - $4,500c) $ 49,500 Ending inventory — Scan ($31,250 - $6,250d) 25,000

Ending inventory — Tray ($36,000 - 0) 36,000

Inventories December 31 $110,500

Intercompany profit:

c Potter:Inventory acquired intercompany ($54,000 ´ 50%) $ 27,000 Cost of intercompany inventory ($27,000/1.2) (22,500)

Unrealized profit in Potter's inventory $ 4,500

d Scan:Inventory acquired intercompany ($31,250 ´ 100%) $ 31,250 Cost of intercompany inventory ($31,250/1.25) (25,000)

Unrealized profit in Scan's inventory $ 6,250


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Solution P5-4

1 Plier's income from Stuff 2009 2010 201175% of Stuff's net income $ 300,000 $ 337,500 $ 262,500

Unrealized profit in December 31,

2009 inventory (downstream)

($200,000 ´ 1/2) ´ 100% (100,000) 100,000


2010 inventory (upstream)

$100,000 ´ 75% (75,000) 75,000

Plier's income from Stuff $ 200,000 $ 362,500 $ 337,500

2 Plier's net income

Plier's separate income $1,800,000 $1,700,000 $2,000,000

Add: Income from Stuff 200,000 362,500 337,500

Plier's net income $2,000,000 $2,062,500 $2,337,500

3 Consolidated net income

Separate incomes of Plier and

Stuff combined $2,200,000 $2,150,000 $2,350,000


2009 inventory (100,000) 100,000


2010 inventory (100,000) 100,000


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Total consolidated income 2,100,000 2,150,000 2,450,000

Less: Noncontrolling interest share

2009 $400,000 ´ 25% (100,000)

2010 ($450,000 - $100,000) ´ 25% (87,500)

2011 ($350,000 + $100,000) ´ 25% (112,500)

Controlling share of net income $2,000,000 $2,062,500 $2,337,500


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Solution P5-5Pane Corporation and Subsidiary


(in thousands)

Pane 100% SealAdjustments and


Income StatementSales $ 800 $ 400 a 120 $1,080

Income from Seal 102 d 102

Cost of sales 400* 200* b 12 a 120c 20

472*

Depreciation expense 110* 40* 150*

Other expenses 192* 60* f 6 258*

Net income $ 200 $ 100 $ 200

Retained EarningsRetained earnings — Pane $ 600 600

Retained earnings — Seal $ 380 e 380

Net income 200 100 200

Dividends 100* 50* d 50 100*

Retained earnings December 31 $ 700 $ 430 $ 700


Receivables — net 90 60 g 17 133

Inventories 100 80 b 12 168

Other assets 70 90 160

Land 50 50 100



Investment in Seal 736 c 20 d 52e 704

Patents e 24 f 6 18


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$1,800 $ 867 $1,920



Common stock, $10 par 600 300 e 300 600


$1,800 $ 867 $1,920

Supporting computationsUnrealized profit in beginning inventory ($40,000 ´ 1/2) = $20,000

Unrealized profit in ending inventory ($48,000 ´ 1/4) = $12,000

Seal's income of $100,000 plus $20,000 profit in beginning inventory, less $12,000 profit in ending inventory, and less $6,000 patents amortization equals $102,000 income from Seal.


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Solution P5-6 Patty Corporation and Subsidiary


(in thousands)

Patty Sue 75%Adjustments and


Income StatementSales $ 600 $ 400 a 130 $ 870

Income from Sue 102.5 d 102.5

Cost of sales 270* 210* b 20 a 130c 10

360*

Operating expenses 145* 40* 185*

Consolidated net income $ 325

Noncontrolling int.share f 37.5 37.5*


Retained EarningsRetained earnings — Patty $ 182.5 $ 182.5

Retained earnings — Sue $ 90 e 90


Dividends 150* 50* d 37.5f 12.5 150*






Land 80 50 130



Investment in Sue 385 c 10 d 65e 330


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Goodwill e 200 200

$1,220 $ 500 $1,485






$1,220 $ 500

Noncontrolling interest January 1 e 110

Noncontrolling interest December 31 f 25 135

$1,485

* DeductSupporting computationsInvestment in Sue at January 1, 2010 $300,000Implied fair value of Sue ($300,000 / 75%) $400,000

Book value of Sue 200,000Goodwill $200,000


19-160

Solution P5-7

Preliminary computationsInvestment cost $270,000Implied fair value of Susan $300,000

Less: Book value of Susan 250,000Patents $ 50,000

Patents amortization $50,000/10 years = $5,000 per year

Upstream salesUnrealized profit in December 31, 2009 inventory of Poly $28,000 - ($28,000 ¸ 1.4) = $8,000Unrealized profit in December 31, 2010 inventory of Poly $42,000 - ($42,000 ¸ 1.4) = $12,000

Income from SusanSusan's reported net income $100,000Less: Patents amortization (5,000)

Less: Unrealized profit in ending inventory (12,000)

Add: Unrealized profit in beginning inventory 8,000

Susan’s adjusted and realized income $ 91,000

Poly’s 90% controlling share of Susan’s income $ 81,90010% noncontrolling interest share of Susan’s income $ 9,100

Investment balanceInitial investment cost $270,000Increase in Susan's net assets from December 31, 2008

to December 31, 2010 ($70,000 ´ 90%) 63,000

Patent amortization for 2 years (90%) ( 9,000)

Unrealized profit in December 31, 2010 inventory (10,800)

Investment balance December 31, 2010 $313,200


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Poly Corporation and SubsidiaryConsolidation Working Papers


Poly Susan 90%Adjustments and


Income StatementSales $ 819,000 $ 560,000 a 560,000 $ 819,000

Income from Susan 81,900 d 81,900

Cost of sales 546,000* 400,000* b 12,000 a 560,000c 8,000

390,000*

Other expenses 154,400* 60,000* f 5,000 219,400*

Consolidated net income $ 209,600

Noncontrolling int.share h 9,100 9,100*


Retained EarningsRetained earnings — Poly $ 120,000 $ 120,000

Retained earnings — Susan $ 70,000 e 70,000


Dividends 100,000* 50,000* d 45,000h 5,000 100,000*



Inventory 42,000 80,000 b 12,000 110,000

Other current assets 60,000 20,000 g 10,000 70,000

Plant assets — net 300,000 300,000 600,000

Investment in Susan 313,200 c 7,200 d 36,900e 283,500

Patents e 45,000 f 5,000 40,000

$ 790,500 $ 450,000 $ 945,300


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Current liabilities $ 170,000 $ 130,000 g 10,000 $ 290,000

Capital stock 400,000 200,000 e 200,000 400,000


$ 790,500 $ 450,000

Noncontrolling interest January 1 c 800 e 31,500

Noncontrolling interest December 31 h 4,100 34,800

$ 945,300

* Deduct


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Solution P5-8

Pan Corporation and SubsidiaryConsolidation Working Papers


Pan100%

SalAdjustments and



Income from Sal 108 d 108

Cost of sales 400* 200* b 12 a 120c 20

472*

Depreciation expense 110* 40* 150*


Net income $ 206 $ 100 $ 206

Retained EarningsRetained earnings — Pan $ 606 606

Retained earnings — Sal $ 380 e 380


Dividends 100* 50* D 50 100*



Receivables — net 90 60 F 17 133

Inventories 100 80 B 12 168

Other assets 70 90 160

Land 50 50 100




19-164

Investment in Sal 748 c 20 d 58e 710

Goodwill e 30 30

$1,812 $ 867 $1,932

Accounts payable $ 160 $ 47 f 17 $ 190




$1,812 $ 867 $1,932

Supporting computationsUnrealized profit in beginning inventory ($40,000 ´ 1/2) = $20,000Unrealized profit in ending inventory ($48,000 ´ 1/4) = $12,000

Sal's income of $100,000 plus $20,000 profit in beginning inventory less $12,000 profit in ending inventory.


19-165

Solution P5-9 Pat Corporation and Subsidiary


Pat Sun 75%Adjustments and Eliminations Consolidated

StatementsIncome StatementSales $ 600,000 $ 400,000 a 130,000 $ 870,000

Income from Sun 90,000 d 90,000

Cost of sales 270,000* 210,000* b 20,000 a 130,000c 10,000

360,000*

Operating expenses 145,000* 40,000* f 20,000 205,000*

Consolidated net income $ 305,000

Noncontrolling int.share i 30,000 30,000*


Retained EarningsRetained earnings — Pat $ 172,500 $ 172,500

Retained earnings — Sun $ 90,000 e 90,000


Dividends 150,000* 50,000* d 37,500i 12,500 150,000*



Accounts receivable 165,000 100,000 g 15,000 250,000

Dividends receivable 15,000 h 15,000

Inventories 60,000 80,000 b 20,000 120,000

Land 80,000 50,000 130,000

Buildings — net 230,000 100,000 330,000

Equipment — net 200,000 140,000 340,000

Investment in Sun 362,500 c 10,000 d 52,500e 320,000


19-166

Patents e 180,000 f 20,000 160,000

$1,197,500 $ 500,000 $1,445,000

Accounts payable $ 225,000 $ 100,000 g 15,000 $ 310,000

Dividends payable 70,000 20,000 h 15,000 75,000


Common stock, $10 par 450,000 150,000 e 150,000 450,000


$1,197,500 $ 500,000

Noncontrolling interest January 1 e 100,000

Noncontrolling interest December 31 i 17,500 117,500

$1,445,000

* DeductSupporting computationsInvestment in Sun at January 1, 2010 $300,000Implied fair value of Sun ($300,000 / 75%) $400,000

Book value of Sun 200,000Patents (10 year amortization) $200,000


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Solution P5-10

Preliminary computationsInvestment cost $270,000Implied fair value of San ($270,000 / 90%) $300,000

Less: Book value of San 250,000Goodwill $ 50,000

Upstream salesUnrealized profit in December 31, 2011 inventory of Po $28,000 - ($28,000 ¸ 1.4) = $8,000Unrealized profit in December 31, 2012 inventory of Po $42,000 - ($42,000 ¸ 1.4) = $12,000

Income from SanSan's reported net income $100,000Less: Unrealized profit in ending inventory (12,000)

Add: Unrealized profit in beginning inventory 8,000

San’s adjusted and realized income $ 96,000

Po’s 90% controlling interest share of San’s income $ 86,40010% noncontrolling interest share of San’s income $ 9,600

Investment balanceInitial investment cost $270,000Increase in San's net assets from December 31, 2009

to December 31, 2012 ($70,000 ´ 90%) 63,000

Unrealized profit in December 31, 2012 inventory (90%) (10,800)



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Po Corporation and SubsidiaryConsolidation Working Papers


Po San 90%Adjustments and



Income from San 86.4 d 86.4

Cost of sales 546* 400* b 12 a 560c 8

390*


Consolidated net income $ 214.6

Noncontrolling int.share f 9.6 9.6*


Retained EarningsRetained earnings — Po $ 125 $ 125

Retained earnings — San $ 70 e 70


Dividends 100* 50* d 45f 5

100*



Inventory 42 80 B 12 110

Other current assets 60 20 G 10 70

Plant assets — net 300 300 600

Investment in San 322.2 c 7.2 d 41.4e 288

Goodwill e 50 50

$ 800 $ 450 $ 955.8


19-169

Current liabilities $ 170 $ 130 g 10 $ 290

Capital stock 400 200 e 200 400


$ 800 $ 450

Noncontrolling interest January 1 c .8 e 32

Noncontrolling interest December 31 f 4.6 35.8

$ 955.8

* Deduct

Chapter 6

INTERCOMPANY PROFIT TRANSACTIONS — PLANT ASSETS

Answers to Questions1 The objective of eliminating the effects of intercompany sales of plant assets is to reflect

plant assets and related depreciation amounts in the consolidated financial statements at cost to the consolidated entity.

2 Consolidation procedures for eliminating unrealized profit on plant assets are affected by the direction of the sale. The full amount of unrealized profit or loss on downstream sales (parent to subsidiary) is charged or credited to the controlling interest. In the case of upstream sales, however, unrealized profit or loss is allocated between controlling and noncontrolling interests. Because there is no allocation to noncontrolling interests in the case of a 100 percent owned subsidiary, consolidation procedures are the same for upstream sales as for downstream sales.

3 Unrealized gains and losses from intercompany sales of land are realized from the viewpoint of the selling affiliate when the purchasing affiliate resells the land to parties outside the consolidated entity. This is also the point at which the consolidated entity recognizes gain or loss on the difference between the selling price to outside parties and the cost to the consolidated entity.

4 Noncontrolling interest share is not affected by downstream sales of land because the realized income of the subsidiary is not affected by downstream sales. In the case of upstream sales of land, the reported income of the subsidiary is adjusted downward for


19-170

unrealized profits and upward for unrealized losses to determine realized income. Since noncontrolling interest share is computed on the basis of realized subsidiary income, the computation of noncontrolling interest share is affected by upstream sales of land.

5 Consolidation procedures are designed to eliminate 100 percent of all unrealized profit or loss on all intercompany transactions. The issue is not whether 100 percent of the unrealized profit or loss is eliminated, but if the amount eliminated is allocated between controlling and noncontrolling interests. In the case of an upstream sale of land, 100 percent of the unrealized profit from the sale is eliminated, but the amount is allocated between controlling and noncontrolling interests in relation to their ownership holdings.

6 Unrealized gains and losses from intercompany sales of depreciable assets are realized through use if the assets are held within the consolidated entity and through sale if the assets are sold to outside parties. The process of recognizing previously unrealized gains and losses through use is a piecemeal recognition over the remaining use life of the depreciable asset.

7 The computation of noncontrolling interest share in the year of an upstream sale of depreciable plant asset is as follows:

Unrealized UnrealizedGain on Sale Loss on Sale

Income of subsidiary as reported XXX XXXDeduct: Gain on sale of plant assets - XXAdd: Loss on sale of plant assets + XXAdd: Piecemeal recognition of gain on sale of plant assets + XDeduct: Piecemeal recognition of loss on sale of plant assets - XRealized subsidiary income XXX XXXNoncontrolling nterest percentage X% X%Noncontrolling interest share XXX XXX


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8 The effects of unrealized gains on intercompany sales of plant assets are charged against the parent company’s income from subsidiary account in the year of the intercompany sale, with equal amounts being deducted from the investment in subsidiary account. In subsequent years, the income from subsidiary and investment in subsidiary accounts are increased for depreciation on the unrealized gain that is recorded on the subsidiary books for downstream sales or for the parent’s proportionate share for upstream sales. If the unrealized gain relates to land, no entries are needed until the land is sold to entities outside of the affiliation structure.

9 Accounting procedures are designed to eliminate the effects of intercompany sales of plant assets on both parent company income and consolidated net income until the gains and losses on such sales are realized through use or through sale to outside parties. In years subsequent to intercompany sales of depreciable plant assets, the effect on parent company income is eliminated by adjusting depreciation expense to a cost basis for the consolidated entity.

10 Consolidation working paper entries to eliminate the effect of a gain on sale of depreciable plant assets from a downstream sale are illustrated as follows:

Year of saleGain on saleAccumulated depreciation

Depreciation expensePlant assets

To reduce plant assets and related depreciation amounts to a cost basis to the consolidated entity and to eliminate unrealized gain on intercompany sale.

Subsequent yearsInvestment in subsidiaryAccumulated depreciation

Depreciation expensePlant assets

To reduce plant assets and related depreciation amounts to a cost basis to the consolidated entity and to adjust the investment account for unrealized profits at the beginning of the current year.


Solution E6-1

1 c

2 a


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3 c

4 d


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Solution E6-2

1 Parsen’s income from Samit will be decreased by $25,000 as a result of the following entry:

Income from Samit 25,000Investment in Samit 25,000

To eliminate unrealized gain on downstream sale of land.

Parsen’s net income for 2012 will not be affected by the sale since the $25,000 gain will be offset by a $25,000 decrease in income from Samit. The investment in Samit account at December 31, 2012 will be $25,000 less as a result of the sale as indicated by the above entry. (The total balance sheet effect is to reduce land to its cost, reduce the investment account for the profit, and increase cash or other assets for the proceeds.)

2 The consolidated financial statements will not be affected because the gain on the sale is eliminated in the consolidated income statement and the land is reduced to its cost basis to the consolidated entity. A working paper adjustment would show:

Gain on sale of land 25,000Land 25,000

3 Neither Parsen’s income from Samit or net income for 2013 will be affected by the 2012 sale of land. The investment in Samit account, however, will still be $25,000 less than if the land had not been sold, even though there are no changes in the investment account during 2013.

4 The sale of the land will not affect Samit’s net income since it is being sold at Samit’s cost. However, the sale triggers recognition of the postponed gain on the original sale from Parsen to Samit.

Investment in Samit 25,000Income from Samit 25,000

To recognize the gain deferred in 2006.

Consolidated income will also feel the same impact of the recognition of the deferred gain.

Investment in Samit 25,000Gain on sale of land 25,000


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Solution E6-3

1a Consolidated net income 2009 2010

Pruitt’s separate income $ 300,000 $ 400,000Add: Equity in Silverman’s income

2009 $80,000 ´ 90% 72,0002010 $60,000 ´ 90% 54,000

Gain on sale of land (10,000) ---Consolidated net income $ 362,000 $ 454,000

1b Noncontrolling interest share

Silverman’s net income ´ 10% $ 8,000 $ 6,000

2a Consolidated net income

Pruitt’s separate income $ 300,000 $ 400,000Add: Equity in Silverman’s income 72,000 54,000Less: Gain on land ´ 90% (9,000) ---Consolidated net income $ 363,000 $ 454,000

2b Noncontrolling interest share

Silverman’s net income ´ 10% $ 8,000 $ 6,000Less: Gain on land ´ 10% (1,000) ---Noncontrolling interest share $ 7,000 $ 6,000

Solution E6-4

1 Entries for 2009

Cash 90,000Investment in Salmark 90,000

To record dividends received from Salmark.

Investment in Salmark 108,000Income from Salmark 108,000

To record income from Salmark computed as follows:Share of Salmark’s reported income ($150,000 ´ 90%) $ 135,000Less: Gain on building sold to Salmark (30,000)Add: Piecemeal recognition of gain on building ($30,000/10 years) 3,000Income from Salmark $ 108,000


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2 Pigwich Corporation and SubsidiaryConsolidated Income Statement

for the year ended December 31, 2009Sales $2,200,000Cost of sales (1,400,000)

Gross profit 800,000Operating expenses (447,000)

Total consolidated income 353,000Noncontrolling interest share (15,000)

Controlling interest share $ 338,000


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1 dThe equipment must be shown at its $1,400,000 book value to the consolidated entity and d is the only choice that provides a $1,400,000 book value. Ordinarily, the equipment would be shown at $1,500,000, its book value at the time of transfer, less the $100,000 depreciation after transfer.

2 cReciprocal receivables and payables accounts and purchases and sales accounts must always be eliminated. But dividend income (parent) and dividends paid (subsidiary) accounts are reciprocals only when the cost method is used.

3 aAmount to be eliminated from consolidated net income in 2009:Intercompany gain on downstream sale of machinery $10,000Less: Realized through depreciation of intercompany gain on machinery ($10,000/5 years) (2,000)

Decrease in consolidated net income from intercompany sale

$ 8,000

Amount to be added to consolidated net income in 2010 for realization through depreciation of intercompany gain on machinery $ 2,000

4 bOne-third of the unrealized intercompany profit is recognized through depreciation for 2009.

Solution E6-6

1 aSelling price in 2017 $ 55,000Cost to consolidated entity 15,000

Gain on sale of land $ 40,000

2 bGain on equipment $ 30,000 Less: Depreciation on gain (10,000)

Net effect on investment account $ 20,000 The investment account will be $20,000 less than the underlying equity interest.

3 bCombined equipment — net $ 800,000 Less: Unrealized gain (20,000)Add: Piecemeal recognition of gain 5,000

Consolidated equipment — net $ 785,000


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4 bThe working paper entry to eliminate the unrealized profit is:Gain on sale of equipment 1,500

Equipment 1,500

5 cInvestment income will be decreased by $12,000 gain less $3,000 piecemeal recognition of the gain.

6 cSartin’s net income $1,000,000 Less: Unrealized gain (50,000)Add: Piecemeal recognition 5,000 Realized income 955,000 Noncontrolling interest percentage 40%


Solution E6-7

Pod Corporation and SubsidiaryConsolidated Income Statement


Sales ($500,000 + $300,000) $800,000Gain on sale of machinerya 20,000

Total revenue 820,000

Cost of sales ($200,000 + $130,000) 330,000Depreciation expense ($50,000 + $30,000 - $5,000 from depreciation on intercompany profit for 2009) 75,000Other expenses ($80,000 + $40,000) 120,000

Total expenses 525,000Consolidated net income $295,000Noncontrolling share ($100,000+$5,000 piecemeal recognition from depreciation + $10,000 remaining deferred gain) ´ 25% noncontrolling interest 28,750

Controlling interest share $266,250

a Selling price of machinery at December 28, 2009 $ 36,000Book value on Pod’s books $65,000 – ($65,000/5 years ´ 3 years) 26,000

Gain on sale of machinery $ 10,000

Original intercompany profit $ 25,000Piecemeal recognition of gain $25,000/5 years ´ 3 years 15,000

Unamortized gain from intercompany sales $ 10,000

Gain on sale of machinery to outside entity $ 20,000


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Solution E6-8Preliminary computations:Investment in Salt (40%) at cost $100,000 Implied total fair value of Salt ($100,000 / 40%) $250,000Book value (200,000)

Excess allocated to patents $ 50,000 Annual amortization of patents ($50,000/5 years) $ 10,000

1 Income from Salt — 2009

Share of Salt’s net income ($40,000 ´ 1/2 year ´ 40%) $ 8,000 Amortization of patents ($10,000 ´ 1/2 year ´ 40%) (2,000)Unrealized inventory profit from upstream sale ($4,000 ´ 40%) (1,600)Unrealized gain from downstream sale of land ($2,000 ´ 100%) (2,000)

Income from Salt $ 2,400


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Solution E6-8 (continued)

2 Income from Salt — 2010

Salt’s net income $ 60,000 Amortization of patents (10,000)Unrealized inventory profits from upstream sales:

Recognition of profit in beginning inventory 4,000 Deferral of profit in ending inventory (6,000)

Salt’s adjusted and realized income $ 48,000Income from Salt (40% share) $ 19,200

Solution E6-9

1 Income from Simple, net income and consolidated net income:Simple’s reported net income $100,000 Less: Amortization of excess allocated to buildings ($500,000 - $400,000)/20 years (5,000)Less: $20,000 unrealized profit on equipment (20,000)Simple’s adjusted and realized income $ 75,000

Income from Simple (80% share) — 2011 $ 60,000 Add: Separate income of Plain for 2011 500,000

Net income of Plain — 2011 $560,000

Simple’s reported net income $110,000

Less: Amortization of excess allocated to buildings (5,000)Add: Piecemeal recognition of unrealized gain on equipment ($20,000/4 years) 5,000 Simple’s adjusted and realized income $110,000

Income from Simple (80%) — 2012 $ 88,000

Add: Separate income of Plain 600,000 Net income of Plain — 2012 $688,000

Consolidated net income for 2011 and 2012 = Plain’s net incomeAlternatively, 2011 2012 Separate incomes combined $600,000 $710,000 Less: Amortization of excess (buildings) (5,000) (5,000)Less: Unrealized gain on equipment in 2011 (20,000)Add: Piecemeal recognition of gain in 2012 5,000 Consolidated net income $575,000 $710,000Less: Noncontrolling interest share:

2011 ($100,000 - $20,000 - $5,000) ´ 20% (15,000)2012 ($110,000 + $5,000 - $5,000) ´ 20% (22,000)Controlling interest share $560,000 $688,000


19-180

2 Investment in SimpleCost of investment July 1, 2009 $400,000 Add: Plain’s share of Simple’s retained earnings increase from July 1, 2009 to December 31, 2010 ($150,000 - $100,000) ´ 80% 40,000 Less: 80% Amortization of excess ($4,000 ´ 1.5 years) (6,000)

Investment in Simple December 31, 2010 434,000 Add: 2011 income less dividends [$80,000 - ($50,000 ´ 80%)] 40,000

Investment in Simple December 31, 2011 474,000 Add: 2012 income less dividends [$88,000 - ($60,000 ´ 80%)] 40,000

Investment in Simple December 31, 2012 $514,000 Solution E6-9 (continued)

Alternative solution for check at December 31, 2012:

Share of Simple’s equity December 31, 2012 ($550,000 ´ 80%) $440,000 Add: 80% Unamortized excess on buildings

Original excess $100,000 - ($4,000 ´ 3.5 years) 86,000 Less: Unrealized profit on equipment ($20,000 gain - $5,000 recognized) ´ 80% (12,000)

Investment in Simple December 31, 2012 $514,000

Solution E6-10

Preliminary computationsTransfer price of inventory to Spano ($180,000 ´ 2) $360,000Cost to consolidated entity (180,000)

Unrealized profit on January 3 $180,000Amortization of unrealized profit from consolidated view: $180,000/6 years = $30,000 per year

1 Consolidated balance sheet amounts:2009Equipment (at transfer price) $360,000Less: Unrealized profit (180,000)Less: Depreciation taken by Spano ($360,000/6 years) (60,000)Add: Depreciation on unrealized profit ($180,000/6 years) 30,000Equipment — net to be included on consolidated balance sheet $150,000

Alternatively:Equipment (at cost to the consolidated entity) $180,000Less: Depreciation based on cost ($180,000/6 years) (30,000)Equipment — net $150,000

2010 Year after intercompany saleEquipment — net beginning of the period on cost basis $150,000


19-181

Less: Depreciation (based on cost) (30,000)Equipment — net $120,000

2 Consolidation working paper entries:2009

Sales 360,000Cost of goods sold 180,000Equipment — net 150,000Depreciation expense 30,000

To eliminate intercompany inventory sale, return equipment to its cost to the consolidated entity, and eliminate depreciation on the intercompany profit.

2010Investment in Spano 150,000

Equipment — net 120,000Depreciation expense 30,000

To eliminate unrealized profit from the equipment account and the current year’s depreciation on the unrealized profit and establish reciprocity between the investment account and beginning-of-the-period subsidiary equity accounts.


19-182

Solution E6-11

Pasco Corporation and SubsidiarySchedule for Computation of Consolidated Net Income

2009 2010 2011 2012 Combined separate incomes $260,000 $220,000 $120,000 $210,000Add: Amortization of negative differential assigned to plant assets ($50,000/10 years)* 5,000 5,000 5,000 5,000Unrealized gain on land (Note That Pasco’s $5,000 gain is included in Pasco’s separate income) (5,000) 5,000Unrealized gain on machinery (25,000)Piecemeal recognition of Gain on machinery 5,000 5,000 5,000Unrealized inventory profits (8,000) 8,000 Consolidated net income 260,000 205,000 122,000 233,000Less: Noncontrolling interest share2009 ($60,000-$5,000+$5,000) ´ 20% (12,000)2010 ($70,000+$5,000) ´ 20% ( 15,000)2011 ($80,000-$8,000+$5,000)) ´ 20% (15,400)2012 ($90,000 + $8,000 +

$5,000 + $5,000)) ´ 20% (21,600)Controlling share of NI $248,000 $190,000 $106,600 $211,400

Alternative Solution:Pasco’s separate income $200,000 $150,000 $ 40,000 $120,000Add: 80% of Slocum’s income 48,000 56,000 64,000 72,000Amortize the negative differential assigned to plant asset ´ 80%) 4,000 4,000 4,000 4,000Unrealized profit on upstream Sale of land ($5,000 ´ 80%) (4,000) 4,000Unrealized profit on downstream Sale of machinery (25,000)Piecemeal recognition of gain ($25,000/5 years) 5,000 5,000 5,000Unrealized profit on upstream Sale of inventory items $8,000 ´ 80% (6,400) 6,400Pasco’s net income and controlling share of consolidated net income $248,000 $190,000 $106,600 $211,400

* Note: Since Pasco paid $40,000 more than book value for its 80% share, the implied total fair value minus book value of Slocum is $50,000.


19-183


Solution P6-1

1 Income from Sear — 2009

Equity in Sear’s income ($100,000 ´ 90%) $ 90,000

Add: Deferred inventory profit from 2008 ($40,000 ´ 50%) 20,000

Less: Unrealized inventory profit from 2009 ($60,000 ´ 40%) (24,000)

Less: Intercompany profit on equipment ($100,000 - $60,000) (40,000)

Add: Piecemeal recognition of profit on equipment $40,000/4 years 10,000

Income from Sear (corrected amount) $ 56,000

2 Pearl Corporation and SubsidiaryConsolidated Income Statement


Sales [$1,600,000 combined - $150,000 intercompany] $1,450,000

Cost of sales [$1,000,000 combined - $150,000 intercompany + $24,000 ending inventory profits - $20,000 beginning inventory profits] 854,000


Other expenses [$300,000 combined - $10,000 piecemeal recognition of profit on equipment] 290,000 Consolidated net income $ 306,000Less: Noncontrolling interest share 10,000Controlling interest share $ 296,000

Check: Separate income of Pearl $ 240,000 Add: Income from Sear 56,000 Controlling interest share $ 296,000


19-184

Solution P6-2


NOTE: Since Pal paid a price $45,000 in excess of book value for its 90% share, the implied total excess of fair value over book is $50,000 ($45,000 / 90%).

Computation of income from Sim:Share of Sim’s reported income ($40,000 ´ .9) $36,000Add: Realization of deferred profits in beginning inventory 5,000Less: Unrealized profits in ending inventory (4,000)Less: Unrealized profit on intercompany sale of equipment ($30,000 - $21,000) (9,000)Add: Piecemeal recognition of deferred profit in equipment ($9,000/3 years) 3,000Income from Sim $31,000

Consolidation working paper entries

A Cash 2,000Accounts receivable 2,000

To record cash in transit from Sim on account.

B Sales 20,000Cost of sales 20,000

To eliminate intercompany purchases and sales.

C Investment in Sim 5,000Cost of sales 5,000

To recognize previously deferred profit from beginning inventory.

D Cost of sales 4,000Inventory 4,000

To defer unrealized profit from ending inventory.

E Investment in Sim 3,000Land 3,000

To reduce land to its cost basis and adjust the investment account to establish reciprocity with Sim’s beginning of the period equity accounts.

F Gain on sale of equipment 9,000Equipment — net 9,000

To eliminate gain on intercompany sale of equipment and reduce equipment to a cost basis.


19-185


g Equipment — net 3,000Operating expenses 3,000

To eliminate current year’s depreciation of unrealized gain.

h Income from Sim 31,000Dividends — Sim 18,000Investment in Sim 13,000

To eliminate income and dividends from Sim and return investment account to its beginning of the period balance.

i Retained earnings — Sim 70,000Capital stock — Sim 50,000Goodwill 50,000

Investment in Sim 153,000Noncontrolling interest — January 1 17,000

To eliminate reciprocal investment and equity amounts, establish beginning noncontrolling interest, and enter beginning-of-the-period fair value — book value differential (goodwill).

j Noncontrolling Interest Share 4,000Dividends — Sim 2,000Noncontrolling Interest 2,000

To record Noncontrolling interest share of subsidiary income and dividends.

k Dividends payable 9,000Dividends receivable 9,000

To eliminate reciprocal receivables and payables.


19-186




Pal Sim 90%Adjustments and


Income StatementSales $ 300 $ 100 b 20 $ 380

Income from Sim 31 h 31

Gain on equipment 9 f 9

Cost of sales 140* 50* d 4 b 20c 5 169*

Operating expenses 60* 10* g 3 67*

Consolidated NI 144

Noncontrolling share j 4 4*


Retained EarningsRetained earnings — Pal $ 157 $ 157

Retained earnings — Sim $ 70 i 70


Dividends 60* 20* h 18j 2 60*


Balance SheetCash $ 100 $ 17 a 2 $ 119

Accounts receivable 90 50 a 2 138

Dividends receivable 9 k 9

Inventories 20 8 d 4 24

Land 40 15 e 3 52


Equipment — net 165 60 g 3 f 9 219

Investment in Sim 158 c 5e 3

h 13i 153

Goodwill i 50 50

$ 717 $ 200 $ 787


Dividends payable 15 10 k 9 16


Capital stock 300 50 i 50 300


$ 717 $ 200


19-187

Noncontrolling interest January 1 i 17

Noncontrolling interest December 31 j 2 19

$ 787* Deduct

Solution P6-3


Cost January 1, 2009 $270,000Implied fair value of Stor ($270,000 / 90%) $300,000Book value of Stor (240,000)Excess of fair value over book value - Goodwill $ 60,000

Cost January 1, 2009 $270,000Add: Income from Stor for 2009

Equity in income ($40,000 ´ 90%) $ 36,000Less: Unrealized inventory profit (10,000)

Less: Unrealized profit on machinery (selling price $35,000 - book value $28,000) (7,000)Add: Piecemeal recognition of profit on machinery ($7,000/3.5 years ´ .5 year) 1,000

Income from Stor for 2009 20,000Less: Dividends $10,000 ´ 90% (9,000)

Investment balance January 1, 2010 281,000Add: Income from Stor for 2010

Equity in income ($50,000 ´ 90%) $ 45,000Add: Unrealized profit in beginning inventory 10,000Less: Unrealized profit in ending inventory (12,000)Add: Piecemeal recognition of profit on machinery ($7,000/3.5 years) 2,000Less: Gain on sale of land (5,000)

Income from Stor for 2010 40,000Less: Dividends ($20,000 ´ 90%) (18,000)



19-188


Pall Corporation and SubsidiaryConsolidation Working Papers

for the Year Ended December 31, 2010(in thousands)

Pall Stor 90%Adjustments and



Income from Stor 40 f 40

Gain on land 5 e 5

Cost of sales (200) (100) c 12 a 72b 10 (230)

Operating expense (113) (40) d 2 (151)

Consolidated NI 187

Noncontrolling share h 5 (5)


Retained EarningsRetained earnings — Pall $ 202 $ 202

Retained earnings — Stor $ 120 g 120


Dividends (150) (20) f 18h 2 (150)



Accounts receivable 180 100 i 10 270

Dividends receivable 18 j 18

Inventories 60 36 c 12 84

Land 100 30 e 5 125


Machinery — net 330 140 d 4 466

Investment in Stor 303 b 10d 6

f 22g 297

Goodwill g 60 60

Total assets $1,404 $ 400 $1,512

Accounts payable $ 200 $ 50 i 10 $ 240

Dividends payable 30 20 j 18 32


Capital stock 800 150 g 150 800


Total equities $1,404 $ 400

Noncontrolling interest January 1 g 33


19-189

Noncontrolling interest December 31 h 3 36

$1,512


19-190

Solution P6-4

Parch Corporation and SubsidiaryConsolidation Working Papers


Parch Sarg 90% Adjustments and



Income from Sarg 70 e 70

Gain on land 10 c 10

Gain on equipment 20 d 20

Cost of sales 300* 300* b 5 a 50 555*



Consolidated NI 210

Noncontrolling share h 10 10*


Retained EarningsRetained earnings — Parch $ 600 $ 600

Retained earnings — Sarg $ 200 f 200


Dividends 100* 50* e 45h 5 100*





Other current items 70 40 110

Land 50 70 c 10 110


Equipment — net 500 400 d 15 885

Investment in Sarg 655 e 25f 630

$1,700 $ 880 $1,885



Capital stock 500 500 f 500 500


$1,700 $ 880

Noncontrolling interest January 1 f 70


19-191

Noncontrolling interest December 31 h 5 75

$1,885* Deduct

NOTE: Purchase price implies book values are equal to fair values.


19-192

Solution P6-5


Cost January 1, 2009 $270,000Add: Income from Stor for 2009

Equity in income ($40,000 ´ 90%) $36,000Less: Patent amortize. ($60,000/10 years)x 90% (5,400)Less: Unrealized inventory profit (10,000)Less: Unrealized profit on machinery (selling price $35,000 - book value $28,000) (7,000)Add: Piecemeal recognition of profit on machinery ($7,000/3.5 years ´ .5 year) 1,000

Income from Stor for 2009 14,600Less: Dividends $10,000 ´ 90% (9,000)

Investment balance January 1, 2010 275,600Add: Income from Stor for 2010

Equity in income ($50,000 ´ 90%) $45,000Less: Patent amortization (90%) (5,400)Add: Unrealized profit in beginning inventory 10,000Less: Unrealized profit in ending inventory (12,000)Add: Piecemeal recognition of profit on machinery ($7,000/3.5 years) 2,000Less: Gain on sale of land (5,000)

Income from Stor for 2010 34,600Less: Dividends ($20,000 ´ 90%) (18,000)


Noncontrolling interest share of Stor’s income (10%) 2009 2010

Stor’s reported net income $40,000 $50,000 Less: Patent amortization (6,000) (6,000)Stor’s adjusted income $34,000 $44,00010% Noncontrollling interest share $ 3,400 $ 4,400


19-193


Pall Corporation and SubsidiaryConsolidation Working Papers

for the Year Ended December 31, 2010

Pall Stor 90% Adjustments and



Income from Stor 34,600 f 34,600

Gain on land 5,000 e 5,000

Cost of sales (200,000) (100,000) c 12,000 a 72,000b 10,000 (230,000)

Operating expense (113,000) (40,000) h 6,000 d 2,000 (157,000)

Consolidated NI 181,000

Noncontrolling share k 4,400 (4,400)


Retained Earnings

Retained earnings — Pall $ 200,000 $ 200,000

Retained earnings — Stor $ 120,000 g 120,000


Dividends (150,000) (20,000) f 18,000k 2,000 (150,000)



Accounts receivable 180,000 100,000 i 10,000 270,000

Dividends receivable 18,000 j 18,000

Inventories 60,000 36,000 c 12,000 84,000

Land 100,000 30,000 e 5,000 125,000

Buildings — net 280,000 80,000 360,000

Machinery — net 330,000 140,000 d 4,000 466,000

Investment in Stor 292,200 b 10,000d 6,000

f 16,600g 291,600

Patents g 54,000 h 6,000 48,000

Total assets $1,396,600 $ 400,000 $1,503,400

Accounts payable $ 200,000 $ 50,000 i 10,000 $ 240,000

Dividends payable 30,000 20,000 j 18,000 32,000


Capital stock 800,000 150,000 g 150,000 800,000


Total equities $1,396,600 $ 400,000

Noncontrolling interest January 1 g 32,400


19-194

Noncontrolling interest December 31 k 2,400 34,800

$1,503,400


19-195

Solution P6-6

Preliminary computationsInvestment cost $290,000Implied fair value of Sank ($290,000 / 80%) $362,500Book value of Sank (300,000)

Excess fair value over book value $ 62,500 - allocated 50% to Patents with a ten-year life ($31,250) - allocated 50% to Inventory sold in 2007 ($31,250)

Reconciliation of income from Sank:Pill’s share of Sank’s net income ($50,000 ´ 80%) $ 40,000Less: 80% of Patent amortization ($31,250/10 years) (2,500)Add: Depreciation on deferred gain on equipment ($15,000/5 years) ´ 80% 2,400Less: Unrealized profit on upstream sale of land ($10,000 ´ 80%) (8,000)

Income from Sank $ 31,900

Reconciliation of investment account:Share of Sank’s underlying equity ($400,000 ´ 80%) $320,000Add: 80% of Unamort. patent ($31,250 - ($3,125 ´ 3 years)) x 80% 17,500Less: Unrealized gain on equipment [$15,000 - ($3,000 ´ 2 years)] ´ 80% (7,200)Less: Share of unrealized gain on land (8,000)Investment in Sank December 31, 2009 $322,300

Noncontrolling interest share:Sank’s reported income $ 50,000Add: Piecemeal recognition of gain on sale of machinery 3,000Less: Patent amortization ( 3,125)Less: Unrealized gain on upstream sale of land (10,000)Realized income 39,875Noncontrolling percentage 20%Noncontrolling interest share $ 7,975


19-196


Pill Corporation and SubsidiaryConsolidation Working Papers


Pill Sank 80%Adjustments and



Income from Sank 31,900 c 31,900

Gain on land 10,000 b 10,000

Depreciation expense 40,000* 30,000* a 3,000 67,000*

Other expenses 110,000* 60,000* e 3,125 173,125*




Retained EarningsRetained earnings — Pill $ 140,400 $ 140,400

Retained earnings — Sank $ 50,000 d 50,000


Dividends 30,000* 30,000*


Balance SheetCurrent assets $ 200,000 $ 170,000 $ 370,000

Plant assets 550,000 350,000 a 15,000b 10,000

875,000

Accumulated depreciation 120,000* 70,000* a 6,000 184,000*

Investment in Sank 322,300 a 9,600 c 31,900d 300,000

Patent d 25,000 e 3,125 21,875

$ 952,300 $ 450,000 $1,082,875

Current liabilities $ 150,000 $ 50,000 $ 200,000

Capital stock 600,000 300,000 d 300,000 600,000


$ 952,300 $ 450,000

Noncontrolling interest January 1 a 2,400 d 75,000


$1,082,875* Deduct


19-197

Solution 6-6 (continued)


a Accumulated depreciation 6,000Investment in Sank 9,600Noncontrolling interest 2,400

Depreciation expense 3,000Plant assets 15,000

To eliminate unrealized profit on 2008 sale of plant assets.

b Gain on land 10,000Plant assets 10,000

To eliminate unrealized gain on 2009 upstream sale of land.

c Income from Sank 31,900Investment in Sank 31,900

To eliminate income from Sank against the investment in Sank.

d Capital stock—Sank 300,000Retained earnings—Sank January 1 50,000Patent 25,000

Investment in Sank 300,000Noncontrolling interest January 1 75,000

To eliminate investment in Sank and stockholders’ equity of Sank and enter beginning of the period patent.

e Other expenses 3,125Patent 3,125

To provide for patent amortization.

f Noncontrolling Interest Share 7,975Noncontrolling Interest 7,975

To enter noncontrolling interest share of subsidiary income.


19-198

Solution P6-7

Preliminary computations (amounts in thousands)

Investment cost for 100% of Skip, April 1, 2009 $15,000Book value acquired (7,000)Excess fair value over book value $ 8,000

Excess allocated:Undervalued inventory items (sold in 2009) $ 500Undervalued buildings (7-year remaining useful life) 3,500Goodwill 4,000Excess fair value over book value $ 8,000

Reconciliation of investment account balance:

Investment cost April 1, 2009 $15,000Add: Increase in Skip’s retained earnings 3,000Less: Excess allocated to inventories sold in 2009 (500)Less: Depreciation on excess allocated to buildings ($3,500/7 years) ´ 4.75 years (2,375)Less: Unrealized inventory profits December 31, 2013 (120)Less: Unrealized profit on equipment ($800 intercompany profit - $200 recognized) (600)Investment balance December 31, 2013 $14,405

Reconciliation of investment income balance:

Share of Skip’s income (100%) $ 2,000Add: Unrealized profit in beginning inventory 100Add: Realization of previously deferred profit on land 500Less: Unrealized profit in ending inventory (120)Less: Depreciation on excess allocated to buildings (500)Less: Unrealized profit on equipment (600)Income from Skip $ 1,380


19-199


Port Corporation and SubsidiaryConsolidation Working Papers


Port SkipAdjustments and


Income StatementSales $26,000 $11,000 b 1,500 $35,500

Gain on land 700 a 500 1,200

Gain on equipment 800 e 800

Income from Skip 1,380 g 1,380

Cost of sales 15,000* 5,000* d 120 b 1,500 18,520*

c 100

Depreciation expense 3,700* 2,000* i 500 f 200 6,000*

Other expenses 4,280* 2,800* 7,080*

Consolidated net income $ 5,100 $ 2,000 $ 5,100

Retained EarningsRetained earnings — Port $12,375 $12,375

Retained earnings — Skip $ 4,000 h 4,000

Consolidated net income 5,100 2,000 5,100

Dividends 3,000* 1,000* g 1,000 3,000*

Retained earnings December 31 $14,475 $ 5,000 $14,475

Balance SheetCash $ 1,170 $ 500 $ 1,670

Accounts receivable 2,000 1,500 j 300 3,200

Inventories 5,000 2,000 d 120 6,880

Land 4,000 1,000 5,000

Buildings — net 15,000 4,000 h 1,625 i 500 20,125

Equipment — net 10,000 4,000 f 200 e 800 13,400

Investment in Skip 14,405 a 500 g 380

c 100 h 14,625

Goodwill h 4,000 4,000

$51,575 $13,000 $54,275

Accounts payable $ 4,100 $ 1,000 j 300 $ 4,800


Capital stock 26,000 5,000 h 5,000 26,000


$51,575 $13,000 $54,275* Deduct


19-200

Solution P6-8

Preliminary computationsInvestment cost January 1, 2009 $136,000Implied fair value of Sic ($136,000 / 80%) $170,000Book value of Sic (170,000)

Excess fair value over book value 0

Analysis of investment in Sic account on Pic’s books:

Investment cost $136,000Share of Sic’s 2009 reported income ($30,000 ´ 80%) 24,000Investment in Sic as reported on Pic’s books at December 31, 2009 $160,000Share of Sic’s 2010 reported income ($40,000 ´ 80%) 32,000Investment in Sic as reported on Pic’s books at December 31, 2010 $192,000

Note that Pic has not eliminated intercompany profits from its investment income from Sic for either 2009 or 2010.

Investment balance as reported on Pic’s books December 31, 2009 $160,000Gain on machinery ($5,000 ´ 80%) (4,000)Piecemeal recognition of gain ($1,000 ´ 80%) 800Investment account balance under the equity method at December 31, 2009 $156,800Share of Sic’s 2010 reported income 32,000Piecemeal recognition of gain in 2010 ($1,000 ´ 80%) 800Investment account balance under the equity method at December 31, 2010 $189,600

Noncontrolling interest share for 2009:

Sic’s reported net income $ 30,000Less: Gain on sale of machinery (5,000)Add: Piecemeal recognition of gain on machinery through Depreciation 1,000Sic’s realized income $ 26,000Noncontrolling interest percentage 20%Noncontrolling interest share for 2009 $ 5,200

Noncontrolling interest share for 2010:

Sic’s reported net income $ 40,000Add: Piecemeal recognition of unrealized gain on machinery through depreciation 1,000


19-201

Sic’s realized income 41,000Noncontrolling interest percentage 20%Noncontrolling interest share for 2010 $ 8,200


19-202


Pic Corporation and SubsidiaryConsolidation Working Papers


Pic Sic 80% Adjustments and



Income from Sic 24,000 c 24,000

Gain on plant assets 5,000 a 5,000

Cost of sales 250,000* 130,000* 380,000*

Depreciation expense 50,000* 25,000* b 1,000 74,000*

Other expenses 60,000* 20,000* 80,000*


Noncontrolling share e 5,200 5,200*


Retained EarningsRetained earnings — Pic $ 126,000 $ 126,000

Retained earnings — Sic $ 70,000 d 70,000



Balance SheetCash and equivalents $ 50,000 $ 30,000 $ 80,000

Current assets 130,000 70,000 200,000

Plant and equipment 400,000 200,000 a 5,000 595,000

Accumulated depreciation 150,000* 50,000* b 1,000 199,000*

Investment in Sic 160,000 c 24,000d 136,000

$ 590,000 $ 250,000 $ 676,000

Liabilities $ 100,000 $ 50,000 $ 150,000

Capital stock 300,000 100,000 d 100,000 300,000


$ 590,000 $ 250,000

Noncontrolling interest January 1 d 34,000

Noncontrolling interest December 31 e 5,200 39,200

$ 676,000* Deduct


19-203


Pic Corporation and SubsidiaryConsolidation Working Papers


Pic Sic 80%Adjustments and



Income from Sic 32,000 b 32,000

Cost of sales 260,000* 140,000* 400,000*


Other expenses 55,000* 30,000* 85,000*


Noncontrolling share d 8,200 8,200*


Retained EarningsRetained earnings — Pic $ 190,000 a 3,200 $ 186,800

Retained earnings — Sic $ 100,000 c 100,000



Balance SheetCash and equivalent $ 63,000 $ 30,000 $ 93,000

Current assets 140,000 80,000 220,000

Plant and equipment 440,000 245,000 a 5,000 680,000


Investment in Sic 192,000 b 32,000c 160,000

$ 635,000 $ 280,000 $ 720,000

Liabilities $ 48,000 $ 40,000 $ 88,000

Capital stock 300,000 100,000 c 100,000 300,000


$ 635,000 $ 280,000

Noncontrolling interest January 1 a 800 c 40,000

Noncontrolling interest December 31 d 8,200 47,400

$ 720,000* Deduct


19-204

Solution P6-9


Investment cost January 1, 2009 $108,000Implied fair value of Spin ($108,000 / 80%) $135,000Book value of Spin (110,000)Excess fair value over book value allocated to patent $ 25,000Patent amortization: $25,000/10 years $ 2,500

Reconciliation of investment income:

Spin’s reported income $ 50,000Less: Patent amortization (2,500)Less: Unrealized profit in ending inventory (1,000)Add: Unrealized profit in beginning inventory 2,000Add: Piecemeal recognition of deferred profit on plant assets ($20,000 / 5 years) 4,000Spin’s adjusted income $ 52,500

Park’s 80% controlling share $ 42,000

20% Noncontrolling interest share $ 10,500


19-205


Park Corporation and SubsidiaryConsolidation Working Papers


Park Spin 80%Adjustments and



Income from Spin 42,000 e 42,000

Cost of sales 390,000* 40,000* b 1,000 a 8,000 421,000*

c 2,000

Other expenses 170,000* 30,000* g 2,500 d 4,000 198,500*


Noncontrolling share i 10,500 10,500*


Retained EarningsRetained earnings Park $ 95,600 $ 95,600

Retained earnings Spin $ 20,000 f 20,000


Dividends 70,000* 20,000* e 16,000i 4,000 70,000*



Accounts receivable 40,000 20,000 h 4,000 56,000

Inventories 60,000 35,000 b 1,000 94,000

Plant assets 290,000 205,000 d 20,000 475,000

Accumulated depreciation 70,000* 100,000* d 8,000 162,000*

Investment in Spin 121,600 c 1,600 e 26,000

d 12,800 f 110,000

Patent f 17,500 g 2,500 15,000

$ 499,600 $ 180,000 $ 556,000

Accounts payable $ 42,000 $ 30,000 h 4,000 $ 68,000

Capital stock 300,000 100,000 f 100,000 300,000


$ 499,600 $ 180,000

Noncontrolling interest January 1 c 400 f 27,500

d 3,200


$ 556,000* Deduct


19-206

Solution P6-10

Preliminary computationsInvestment cost $290,000Implied fair value of Sank ($290,000 / 80%) $362,500Book value of Sank (300,000)

Excess fair value over book value $ 62,500Excess allocated:Inventories (50%)- Sold in 2007 $ 31,250Goodwill 31,250


Reconciliation of income from Sank:Sank’s reporte4d net income $ 50,000Add: Depreciation on deferred gain on equipment ($15,000/5 years 3,000Less: Unrealized profit on upstream sale of land (10,000)Sank’s adjusted and realized income $ 43,000

Pill’s 80% controlling share $ 34,400

20% Noncontrolling interest share $ 8,600

Reconciliation of investment account:Share of Sank’s underlying equity ($400,000 ´ 80%) $320,000Add: 80% of unamortized goodwill 25,000Less: Unrealized gain on equipment [$15,000 - ($3,000 ´ 2 years)] ´ 80% (7,200)Less: Share of unrealized gain on land (8,000)Investment in Sank December 31, 2009 $329,800


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Pill Corporation and SubsidiaryConsolidation Working Papers


Pill Sank 80%Adjustments and



Income from Sank 34,400 c 34,400

Gain on land 10,000 b 10,000


Other expenses 110,000* 60,000* 170,000*




Retained EarningsRetained earnings — Pill $ 145,400 $ 145,400

Retained earnings — Sank $ 50,000 d 50,000

Consolidated share of NI 94,400 50,000 94,400

Dividends 30,000* 30,000*


Balance SheetCurrent assets $ 200,000 $ 170,000 $ 370,000

Plant assets 550,000 350,000 a 15,000b 10,000

875,000


Investment in Sank 329,800 a 9,600 c 34,400d 305,000

Goodwill d 31,250 31,250

$ 959,800 $ 450,000 $1,092,250

Current liabilities $ 150,000 $ 50,000 $ 200,000

Capital stock 600,000 300,000 d 300,000 600,000


$ 959,800 $ 450,000

Noncontrolling interest January 1 a 2,400 d 76,250


$1,092,250* Deduct


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a Accumulated depreciation 6,000Investment in Sank 9,600Noncontrolling interest 2,400

Depreciation expense 3,000Plant assets 15,000

To eliminate unrealized profit on 2008 sale of plant assets.

b Gain on land 10,000Plant assets 10,000

To eliminate unrealized gain on 2009 upstream sale of land.

c Income from Sank 34,400Investment in Sank 34,400

To eliminate income from Sank against the investment in Sank.

d Capital stock—Sank 300,000Retained earnings–Sank January 1 50,000Goodwill 31,250

Investment in Sank 305,000Noncontrolling interest January 1 76,250

To eliminate investment in Sank and stockholders’ equity of Sank and enter beginning of the period goodwill.

e Noncontrolling Interest Share 8,600Noncontrolling Interest 8,600

To enter noncontrolling interest share of subsidiary income.

Solution P6-11

1 The 90 percent ownership interest can be determined in several ways.

a. $13,500 dividends received ¸ $15,000 dividends paid = 90%

b. $37,200 noncontrolling interest ¸ ($340,000 Sach’s stockholders’ equity + $32,000 unamortized patent) = 10%

c. ($4,600 noncontrolling interest share ¸ ($50,000 net income of Sach less $4,000 patent amortization) = 10%

2 Yes. Pape’s net income of $200,400 equals the controlling interest share consolidated net income of $200,400. Pape’s retained earnings of $350,400 equals consolidated retained earnings.


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3 Yes.

Combined sales $800,000Consolidated sales 716,000Intercompany sales $ 84,000

4 Yes.

Combined inventories $150,000Consolidated inventories 136,000Unrealized inventory profits $ 14,000


5 Reconciliation of combined and consolidated cost of sales

Combined cost of sales (given) $350,000Less: Intercompany sales (see 3 above) (84,000)Add: Unrealized profits in ending inventory (see 4 above) 14,000Less: Unrealized profits in beginning inventory (solve for this)

(5,000)

Consolidated cost of sales (given) $275,000

6 Reconciliation of combined and consolidated equipment — net

Combined equipment — net of $565,000 less consolidated equipment — net of $550,000 shows a difference of $15,000. The working paper entry to eliminate the effects of an intercompany sale of equipment must have been:

Gain on equipment 20,000Depreciation expense 5,000Equipment — net 15,000

7 Yes. Intercompany receivables and payables are as follows:

Combined Consolidated IntercompanyAccounts receivable $ 80,000 $ 70,000 $10,000Accounts payable 110,000 100,000 10,000Dividends receivable 13,500 --- 13,500Dividends payable 15,000 1,500 13,500

8 Reconciliation of noncontrolling interest:

Noncontrolling interest January 1, 2010 ($320,000 ´ 10%) $ 32,000


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10% of unamortized patent at January 1 3,600 Add: Noncontrolling interest share for 2010 4,600Less: Noncontrolling interest dividends ($30,000 ´ 10%) (3,000)Noncontrolling interest December 31, 2010 $ 37,200

9 Patent at December 31, 2009

Patent December 31, 2010 $ 32,000Add: Patent amortization ($141,000 consolidated other expenses - $137,000 combined other expenses) 4,000

Patent December 31, 2009 $ 36,000

10 Analysis of investment in Sach account

Book value (Sach’s stockholders’ equity $340,000 ´ 90%) $306,000Less: Unrealized profit in ending inventory (14,000)Less: Unrealized profit in equipment (15,000)Add: 90% of Unamortized patent 28,800

Investment in Sach December 31, 2010 $305,800


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Chapter 7

INTERCOMPANY PROFIT TRANSACTIONS — BONDS


1 Intercompany borrowing gives rise to notes or advances receivable from and payable to affiliates, as well as reciprocal interest receivable and interest payable accounts and interest income and interest expense accounts.

2 Direct lending and borrowing transactions do not give rise to unrealized gains and losses. Any income reported by the lender is precisely reciprocal to an expense reported by the borrower, and the transactions are complete on the date consummated. Similarly, direct lending and borrowing transactions do not give rise to unrecognized gains and losses since intercompany amounts received and paid are both realized and recognized from the viewpoint of the separate legal entities.

3 Constructive gains and losses are gains and losses from the viewpoint of the consolidated entity but not from the viewpoint of the separate affiliated companies involved. The purchase of a parent company’s outstanding bonds by its subsidiary at a price below the book value of the bonds on the parent company’s books results in a constructive gain. Although the bonds are not actually retired, they are constructively retired from the viewpoint of the consolidated entity because they are no longer liabilities of the consolidated entity to outside parties.

4 The book value of the liability is $1,004,700, computed as $1,000,000 plus $10,000 minus $5,300. If an affiliated company purchases half of the bonds at 98, it will record a bond investment of $490,000. From the viewpoint of the consolidated entity, the purchase of the bonds results in a constructive retirement of $500,000 par of bonds payable. The constructive gain on the bonds is $12,350 [($1,004,700 ´ 50%) – $490,000].

5 A constructive gain on bonds is a gain for consolidated statement purposes that is not recorded on the books of the separate affiliated companies. The affiliated companies continue to carry the bonds as a liability (issuer) and investment (purchaser) on their separate books. Alternatively, an unrealized gain on the sale of land is recorded on the books of the selling affiliate, but it is not recognized as a gain for consolidated statement purposes because the land is still held within the consolidated entity. Thus, a constructive gain on bonds is realized and recognized from the viewpoint of the consolidated entity but it is not recognized on the books of the affiliated companies. An unrealized gain on the sale of land is recognized on the books of the selling affiliate but is not realized or recognized from the viewpoint of the consolidated entity.

6 Constructive gains on intercompany bonds are realized and recognized through the interest income and interest expense reported on the separate books of the affiliated companies. The difference between the interest income reported by the investing affiliate


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and the interest expense reported by the issuing affiliate on the intercompany bonds is the amount of constructive gain recognized in each period. Constructive gains and losses are recognized in the consolidated financial statements before they are recognized on the books of the affiliated companies.

7 If a subsidiary purchases parent company bonds in excess of their book value, a constructive loss results. The loss is attributed to the parent company since it is the parent company bonds that are constructively retired. This approach of associating constructive gains and losses on intercompany bonds with the issuing company is consistent with the procedures used in earlier chapters of associating gains and losses on intercompany sales transactions with the selling affiliates.


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8a Assume bonds were purchased at the beginning of the current year

10% bonds payable 52,000Interest income 5,250Interest payable 2,500

Investment in S bonds 49,000Interest expense 4,500Interest receivable 2,500Constructive gain on bonds 3,750

To eliminate reciprocal bond investment and bond liability amounts, reciprocal interest income and interest expense amounts, reciprocal interest receivable and interest payable amounts, and enter the constructive gain on bonds. The constructive gain is computed as the $52,500 book value of bonds that were retired for $48,750.

8b Assume bonds were purchased one year earlier

10% bonds payable 52,000Interest income 5,250Interest payable 2,500

Investment in S bonds 49,000Interest expense 4,500Interest receivable 2,500Investment in S stock (90%) 3,375Noncontrolling interest 375

To eliminate reciprocal bond investment and bond liability amounts, reciprocal interest income and interest expense amounts, reciprocal interest receivable and interest payable amounts, and adjust controlling and noncontrolling interest holdings for constructive gain less piecemeal recognition. The constructive gain is computed as: $53,000 book value - $48,500 cost = $4,500 of which $750 was recognized on the books of the separate affiliated companies in the prior year.

9 Separate entries are as follows:

Investment in S 40,000Income from S 40,000

To recognize income equal to 80% of reported subsidiary income.

Investment in S 4,000Income from S 4,000

To recognize gain on constructive retirement of bonds (parent’s books).

The full amount of the constructive gain on bonds is recognized as investment income because the full amount is assigned to the parent company issuer.


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10 Investment income from subsidiary75% of subsidiary’s $100,000 reported income $75,000Less: 75% of $8,000 constructive loss on retirement of subsidiary bonds

6,000

Investment income $69,000


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11a A constructive gain will result when interest income exceeds interest expense on the bonds that are constructively retired.

11b The constructive gain is associated with the parent company since the issuer reports interest expense.

11c The $200 difference between interest income and interest expense represents a piecemeal recognition of the constructive gain on the books of the separate companies.

12 Intercompany receivables and payables of associated companies (equity investees) are generally aggregated with the investments in such companies. In other words, receivables from associates are usually added to the investments in associates and payables are generally deducted from the investments in order to show the equity of the investor in its equity investees in a single amount, with separate disclosure of the components of such equity, either parenthetically or in statement notes.


Solution E7-11 C 3 D2 A 4 A

Solution E7-21 A

Book value of Pavone bond’s acquired by Showalter ($900,000 + $48,000) ´ 2/3 $632,000Cost to Showalter 602,000Constructive gain $ 30,000

2 DNominal interest on Pavone’s remaining outstanding bonds $300,000 ´ 8% $ 24,000Less: Amortization of premium ($48,000 ´ 1/3)/ 4 years 4,000Interest expense on consolidated income statement $ 20,000

Solution E7-31 C

Cost of $80,000 par of Palmer bonds January 1, 2009 $ 76,000Book value acquired ($400,000 par - $8,000 discount) ´ 20% 78,400Constructive gain $ 2,400

2 DPar value of bonds payable $400,000Less: Unamortized discount ($8,000 - $2,000) (6,000)Book value of bonds 394,000Percent outstanding 80%Bonds payable $315,200


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3 CConstructive gain $2,400/4 years ´ 3 years $ 1,800

4 CNominal interest $ 40,000Add: Amortization of discount 2,000

42,000Percent outstanding 80%Interest expense $ 33,600

5 bPiecemeal recognition of gain is $2,400 ´ 25% in 2009.


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Solution E7-4

1 Consolidated net income (in thousands)

Paul’s separate income $ 800Add: Income from SallyShare of Sally’s income ($500 ´ 80%) $400Less: Loss on bonds constructively retired

Book value ($1,000 - $40) ´ 40% $384Cost to Sally 400 (16)

Add: Piecemeal recognition of loss ($16,000/4 years) 4 388Consolidated net income $1,188

2 Noncontrolling interest share

Sally’s reported income $500 ´ 20% $ 100

Solution E7-5

Prim Corporation and SubsidiaryConsolidated Income Statement


Sales $1,500Less: Cost of sales (870)

Gross profit 630Add: Gain on constructive retirement of bondsb 6Less: Operating expenses (250)

Operating profit 386Other Items:Bond interest expensea (30)

Consolidated net income $ 356

a Parent’s bond interest expense $50,000 less interest on bonds held intercompany $20,000 = $30,000.b Book value of parent’s bonds purchased $200,000 less purchase price $194,000 = $6,000 gain on constructive retirement.


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Solution E7-6

1 Constructive loss

Cost paid to retire 1/2 of Smedley’s bonds $503,000Book value of bonds retired ($990,000 ´ .5) 495,000

Constructive loss on bond retirement $ 8,000

2 Income from Smedley

Share of Smedley’s reported income $14,000 ´ 70% $ 9,800Less: Constructive loss $8,000 ´ 70% (5,600)Add: Piecemeal recognition of constructive loss ($8,000/4 years) ´ 70% 1,400

Income from Smedley $ 5,600

Solution E7-7

1 aJanuary 1, 2009 cost of $200,000 par bonds $195,500Book value acquired ($1,000,000 + $45,000 premium) ´ 20% 209,000Constructive gain $ 13,500

2 bConstructive gain $13,500/5 years ´ 4 years $ 10,800

3 cBook value $1,036,000 ´ 80% outstanding $828,800

Solution E7-8

1a Constructive gain

Book value of bonds January 1, 2010 $970,000Amortization for 6 months ($30,000/5 years ´ 1/2 year) 3,000Book value of bonds July 1, 2010 973,000Percent purchased by Saydo 60%

Book value of bonds purchased $583,800Purchase price 574,800

Constructive gain $ 9,000

1b Consolidated bond interest expense for 2010


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Bond interest expense January 1 to July 1 ($1,000,000 ´ 8% ´ 1/2 year) + $3,000 amortization $ 43,000

Bond interest expense July 1 to December 31 [($1,000,000 ´ 8% ´ 1/2 year) + $3,000 amortization] ´ 40% 17,200

Consolidated bond interest expense $ 60,200


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1c Bond liability of Partie

Par Discount Book ValueJanuary 1, 2010 $1,000,000 $30,000 $970,000Amortization 2010 - 6,000 + 6,000December 31, 2010 $1,000,000 $24,000 $976,000

Consolidated bond liability $976,000 ´ 40% outstanding $390,400

2 The amounts would not be different if Saydo had been the issuer and Partie the purchaser. However, the constructive retirement gains would ‘belong’ to Saydo and would have been allocated to both Partie and the noncontrolling interests in Saydo.

Solution E7-9(amounts in thousands)

Subsidiary purchases parent company bonds:1a Gain on constructive retirement of bonds

Book value of Picker’s bonds constructively retired ($5,000 - $100 unamortized discount) ´ 40% $1,960Purchase price of $1,000 par bonds 1,900Gain on constructive bond retirement $ 60

1b Consolidated interest payable($3,000 + $1,000) ´ 10% interest ´ 1/2 year $ 200

1c Bonds payable at par ($3,000 + $1,000) $4,000

1d None But Skidden’s investment in Picker bonds will be $1,920,000.

Cost January 2 $1,900Add: Amortization ($100,000/5 years) 20

$1,920

Parent company purchases subsidiary bonds:2a Loss on constructive retirement of bonds

Skidden’s bonds payable ($1,000 + $20) $1,020Price paid by Picker 1,030Loss on constructive retirement of bonds $ (10)

2b Consolidated interest expensePicker bonds ($5,000 ´ 10% interest) + $20 amortization $ 520

2c None Interest receivable of $50 is eliminated in consolidation.


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2d Book value of bonds payablePicker’s bonds December 31, 2009 $4,900Add: Amortization for 2010 ($100 / 5 years) 20Book value of bonds payable $4,920


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Solution E7-10

1 Gain from constructive retirement of bondsBook value of bonds purchased by Shelly ($2,000,000 + $60,000) ´ 25% $515,000Price paid by Shelly 490,000Gain from constructive retirement of bonds $ 25,000

2 Working paper entry to eliminate effect of intercompany bond holdings12% bonds payable 512,000Interest incomea 62,000Interest payable 30,000

Investment in Perdue bonds 492,000Gain on retirement of bonds 25,000Interest expenseb 57,000Interest receivable 30,000

a ($500,000 ´ 12% interest) + $2,000 amortization = $62,000b [($2,000,000 ´ 12%) - $12,000 amortization] ´ 25% intercompany = $57,000

3 Consolidated income statement amounts — 2011a Constructive gain None

b Noncontrolling interest share ($300,000 ´ 20%) $ 60,000

c Bond interest expense [($2,000,000 ´ 12%) - $12,000] ´ 75% outsiders $ 171,000

d Bond interest income None

4 Consolidated balance sheet amounts — December 31, 2011a Investment in Perdue bonds None

b Book value of bonds payable ($2,000,000 + $36,000) ´ 75% outsiders $1,527,000

c Bond interest receivable None

d Bond interest payable $2,000,000 ´ 12% ´ 75% outsiders ´ 1/2 year $ 90,000


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Solution E7-11

Preliminary computations:

Book value of Sandwood bonds on January 1, 2010 $1,000,000Purchase price paid by Parrish 783,000

Gain on constructive retirement of Sandwood bonds $ 217,000

Amortization of discount on bonds ($217,000/7 years) $ 31,000

Computation of noncontrolling interest share:Share of Sandwood’s reported income ($140,000 ´ 20%) $ 28,000Add: Share of constructive gain ($217,000 ´ 20%) 43,400Less: Piecemeal recognition of constructive gain ($31,000 ´ 20%) (6,200)


Parrish Corporation and SubsidiaryConsolidated Income Statement


Sales $1,800Less: Cost of sales 950

Gross profit 850Add: Gain from constructive retirement of Sandwood 217Less: Operating expenses 400

Consolidated net income $ 667Less: Noncontrolling interest share 65.2Controlling interest share of NI $ 601.8

Solution E7-12

1 Public Corporation and Subsidiary, December 31, 2009Amounts Appearing

in ConsolidatedFinancial Statements

Interest receivable 0Investment in Spede bonds 0Interest payable ($40,000 ´ 90%) 36,0008% bonds payable (($1,000,000 ´ 90%)- 13,500 discount) 886,500Interest income 0Interest expense ($86,000/2) + .9(86,000/2) 81,700Loss on intercompany bonds 7,800a


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a Computation of loss on intercompany bondsBalance of investment in bonds at December 31, 2009 $105,000Add: Amount amortized for July 1 to December 31, 2009 ($5,000 balance at December 31 ¸ 30/36 months = $6,000 unamortized at July 1) 1,000Investment cost July 1, 2009 $106,000Less: Book value acquired [$1,000,000 - ($15,000 unamortized discount at December 31 ¸ 30/36 months)] ´ 10% 98,200

Loss on constructive retirement of bonds $ 7,800

2 Consolidation working paper entries at December 31, 2009Interest income 3,0008% bonds payable 98,500Loss on retirement of bonds 7,800

Investment in Spede bonds 105,000Interest expense 4,300

To eliminate intercompany bonds and record constructive loss on retirement of bonds, and eliminate intercompany interest income and interest expense.

Interest payable 4,000Interest receivable 4,000

To eliminate reciprocal interest payable and interest receivable amounts.

3 Consolidation working paper entries at December 31, 2010Investment in Spede (90%) 5,850Noncontrolling interest 650Interest income 6,0008% bonds payable 99,100

Investment in Spede bonds 103,000Interest expense 8,600

To eliminate intercompany bonds, interest income and interest expense, and to charge the unrecognized portion of the constructive loss at the beginning of the period 90% to the investment in Spede and 10% to the noncontrolling interest.


To eliminate reciprocal interest payable and interest receivable amounts.


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Solution E7-13

1 Gain on constructive retirement of bonds

Purchase price of bonds $48,800Book value 50,000

Gain on constructive retirement of bonds $ 1,200

2 Sonny accounts for its investment in Pappy bonds

January 1, 2011Investment in Pappy bonds 48,800

Cash 48,800To record investment in $50,000 par, 8% Pappy bonds.

July 1, 2011Cash 2,000Investment in Pappy bonds 200

Interest income 2,200To record interest and amortization.

December 31, 2011Interest receivable 2,000Investment in Pappy bonds 200

Interest income 2,200To accrue interest and record amortization.

3 Pappy accounts for its bonds payable

July 1, 2011Interest expense 4,000

Cash 4,000To record interest payable for 6 months.

December 31, 2011Interest expense 4,000

Interest payable 4,000To accrue interest for 6 months.

4 Pappy accounts for its investment in Sonny

December 31, 2011Investment in Sonny 40,800

Income from Sonny 40,800To record income from Sonny


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(80% ´ $50,000) + $1,200 constructive gain - $400 piecemeal recognition of gain.

5 Noncontrolling interest share ($50,000 ´ 20%) $ 10,000

Controlling share of NI ($200,000 + $40,800) $240,800


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Solution P7-1

1 Loss on constructive retirement of bonds

Purchase price of $50,000 par bonds April 1, 2009 $53,600Book value of bonds acquired:

Par value $100,000Less: Unamortized discount $1,800 for 27 of 36 months ($1,800 ¸ .75) 2,400Book value of bonds 97,600Intercompany bonds 50% 48,800

Loss on constructive retirement of bonds $ 4,800

2 Interest income and interest expense

Interest income in consolidated income statement — 2009 0Interest expense in consolidated income statement — 2009 $8,800 - ($8,800 ´ 3/4 year ´ 50%) $ 5,500

3 Interest receivable and interest payable

Interest receivable in consolidated balance sheet at December 31, 2009 0

Interest payable in consolidated balance sheet at December 31, 2009 $ 1,000

4 Consolidation working paper entries

Loss on constructive retirement of bonds 4,8008% bonds payable 49,100Interest income 2,100

Investment in Pongo bonds 52,700Interest expense 3,300

To eliminate reciprocal interest income and interest expense amounts and reciprocal bond investment and bond liability amounts and enter unrecognized constructive loss.


To eliminate reciprocal payables and receivables.


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Solution P7-2

Pewter Corporation and Steel CorporationSchedule to Determine Pewter’s Net Income and Consolidated Net Income

2009 2010 2011 2012 Total Pewter’s separate income $500,000 $375,000 $460,000 $510,000 $1,845,000

80% of Steel’s net income + 80,000 + 96,000 + 88,000 + 96,000 + 360,000

$5,000 unrealized profit in Steel’s December 31, 2009 Inventory - 5,000 + 5,000

$10,000 unrealized profit in Steel’s December 31, 2010 Inventory - 10,000 + 10,000

$15,000 unrealized profit in 2011 on sale of land upstream ´ 80% - 12,000 - 12,000

$30,000 unrealized profit on sale of equipment in 2011 - 30,000 - 30,000

$7,500 depreciation on unrealized profit on equipment in 2011 and 2012 + 7,500 + 7,500 + 15,000

$8,000 constructive loss on purchase of Pewter’s bonds in 2012 - 8,000 - 8,000

$2,000 piecemeal recognition of constructive loss in 2012 + 2,000 + 2,000

Pewter’s net income $575,000 $466,000 $523,500 $607,500 $2,172,000

Solution P7-3

Income from Storm for 2009:

Share of reported income of Storm ($200,000 ´ 75%) $ 150,000Add: Unrealized profit in beginning inventory of Storm 24,000Less: Unrealized profit in ending inventory of Storm (30,000)Add: Piecemeal recognition of gain on sale of equipment to Paar ($48,000/6 years) ´ 75% 6,000Less: Unrealized gain on sale of land to Storm (20,000)Less: Unrealized gain on sale of building to Storm less piecemeal recognition through depreciation ($40,000 - $2,000) (38,000)Add: Gain on constructive retirement of Paar bonds ($200,000 - $188,000) 12,000

Income from Storm $ 104,000


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Investment in Storm at December 31, 2009:

Underlying equity in Storm ($1,040,000 ´ 75%) $780,000Less: Unrealized profit in Storm’s ending inventory (30,000)Less: Unrealized gain on equipment sold to Placid ($48,000 - $24,000 recognized) ´ 75% (18,000)Less: Unrealized gain on sale of land to Storm (20,000)Less: Unrealized gain on sale of building to

Storm ($40,000 - $2,000 recognized) (38,000)Add: Gain on constructive retirement of Placid’s bonds 12,000

Investment in Storm December 31 $686,000

Noncontrolling interest share:

Net income of Storm $200,000Add: Piecemeal recognition of gain on equipment ($48,000/6 years) 8,000Storm’s realized income 208,000Noncontrolling interest percentage 25%



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Solution P7-3 (continued)Placid Corporation and Subsidiary


(in thousands)

Placid Storm 75%Adjustments and


Income StatementSales $ 1,260 $ 1,000 b 100 $2,160Gain on land 20 f 20Gain on building 40 f 40Income from Sahl 104 h 104Gain on bonds g 12 12Cost of sales 700* 600* d 30 b 100

c 24 1,206*

Depreciation expense 152* 80* e 8f 2 222*

Interest expense 40* 40*

Operating expense 92* 120* 212*

Consolidated NI 492Noncontrolling int. share k 52 52*


Retained EarningsRetained earnings — Placid $ 300 $ 300Retained earnings — Storm $ 200 i 200Controlling share of NI 440 200 440Dividends 320* 160* h 120

k 40 320*


Balance SheetCash $ 54 $ 162 a 20 $ 236Bond interest receivable 10 j 10Other receivables 80 60 a 20 120Inventories 160 100 d 30 230Land 180 140 f 20 300Buildings — net 300 360 f 38 622Equipment — net 280 180 e 24 436Investment in Storm stock 686 c 24 i 750

e 24h 16

Investment in Placid bonds 188 g 188$1,740 $1,200 $1,944

Accounts payable $ 100 $ 160 $ 260Bond interest payable 20 j 10 1010% bonds payable 400 g 200 200Common stock 800 800 i 800 800Retained earnings 420 240 420

$1,740 $1,200

Noncontrolling interest January 1 e 8 i 250


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Noncontrolling interest December 31 k 12 254$1,944


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Solution P7-4

Preliminary Computations:Acquisition price $ 320,000Implied fair value of Sher ($320,000 / 80%) $ 400,000Sher’s book value (300,000)Excess allocated to plant & equipment with 8 year life $ 100,000

Annual depreciation of excess ($100,000 / 8 years) $ 12,500

1 Loss is from the constructive retirement of bondsPurchase price of bonds $106,000Book value of bonds ($100,000 + $3,000 premium) 103,000

Loss on retirement of bonds $ 3,000

2 Consolidated salesCombined sales $280,000Less: Intercompany sales 50,000

Consolidated sales $230,000

3 Consolidated cost of goods soldCombined cost of goods sold $170,000Less: Intercompany sales (50,000)Less: Unrealized profits in beginning inventory (20,000)Add: Unrealized profits in ending inventory 10,000

Consolidated cost of goods sold $110,000

4 Unrealized profit in beginning inventoryForced computations ($170,000 + $10,000) - ($50,000 + $110,000) $ 20,000

5 Unrealized profit in ending inventoryCombined inventories ($100,000 + $50,000) $150,000Less: Consolidated inventories 140,000

Unrealized profit in ending inventory $ 10,000

6 Consolidated accounts receivableCombined accounts receivable ($120,000 + $60,000) $180,000Less: Intercompany receivables 15,000

Consolidated accounts receivable $165,000

7 Noncontrolling interest shareSher’s reported net income $ 30,000Less: Depreciation of excess (12,500)Add: Unrealized profit in beginning inventory 20,000Less: Unrealized profit in ending inventory (10,000)Sher’s realized income 27,500


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Noncontrolling interest percentage 20%Noncontrolling interest share $ 5,500


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8 Noncontrolling interest December 31, 2011Beginning noncontrolling interest (($335,000 + $75,000 unamortized excess) ´ 20%) $ 82,000Less: Unrealized profit in beginning inventory ($20,000 ´ 20%) (4,000)Less: Noncontrolling interest dividends ($15,000 ´ 20%) (3,000)Add: Noncontrolling interest share 5,500


Alternative computation:Ending equity of Sher (($350,000 + $62,500 unamortized excess( ´ 20%)

$ 82,500Less: Unrealized profit in ending inventory ($10,000 ´ 20%) (2,000)

Noncontrolling interest December 31, 2011 $ 80,500

9 Investment in Sher stock at December 31, 2010Investment in Sher stock at cost $320,000Add: Changes in retained earnings to December 31, 2010 ($135,000 - $100,000) ´ 80% 28,000Less: 80% of Excess of (($100,000/8 years x 80%) = $10,000 per year ´ 2 years) (20,000)Less: Unrealized profit in beginning inventory ($20,000 ´ 80%) (16,000)

Investment in Sher stock December 31, 2010 $312,000

Alternative computation:Investment in Sher stock December 31, 2011 $320,000Less: Income from Sher for 2011 (20,000)Add: Dividends from Sher ($15,000 ´ 80%) 12,000

Investment in Sher stock December 31, 2010 $312,000

10 Income from SherShare of Sher’s reported net income $ 30,000Less: Depreciation on excess ($100,000/8 years) (12,500)Add: Unrealized profit in beginning inventory 20,000Less: Unrealized profit in ending inventory (10,000)Sher’s adjusted and realized income $ 27,500Peter’s 80% controlling share $ 22,000Less: Constructive loss on retirement of bonds ($3,000 - $1,000) (2,000)

Peter’s income from Sher $ 20,000


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1 Consolidated cash ($50,000 + $15,000) $ 65,000

2 Equipment — net ($800,000 equipment - $320,000 accumulated depreciation - $21,000 unrealized profit + $7,000 profitrealized through depreciation of excess) $466,000

3 Investment in Shaw does not appear in consolidated statements.

4 Bonds payable (Shaw’s bonds payable of $200,000 ´ 1/2 heldoutside the consolidated entity) $100,000

5 Common stock (Poe’s stock) $100,000

6 Beginning retained earnings (Poe’s retained earnings) $272,000

7 Dividends paid (Poe’s dividends) $ 80,000

8 Gain on retirement of bonds (Book value of Shaw’sbonds acquired by Poe $100,000 less acquisition costof $91,000. Since bonds were acquired on December 31,2006, none of the $9,000 gain has been amortized.) $ 9,000

9 Cost of goods sold ($860,000 combined - $60,000intercompany sales + $10,000 unrealized profit in ending inventory) $810,000

10 Interest expense (Shaw paid interest for the entire year tooutside entities so all of Shaw’s interest is reported) $ 16,000

11 Depreciation expense ($45,000 combined - depreciation on the unrealized gain $7,000) $ 38,000

Solution P7-6

Income from Sahl for 2010:

Share of reported income of Sahl ($100,000 ´ 75%) $ 75,000Add: Unrealized profit in beginning inventory of Sahl 12,000Less: Unrealized profit in ending inventory of Sahl (15,000)Add: Piecemeal recognition of gain on sale of equipment to Paar ($24,000/6 years) ´ 75% 3,000Less: Unrealized gain on sale of land to Sahl (10,000)Less: Unrealized gain on sale of building to Sahl less piecemeal recognition through depreciation ($20,000 - $1,000) (19,000)


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Add: Gain on constructive retirement of Paar bonds ($100,000 - $94,000) 6,000

Income from Sahl for 2010 $ 52,000


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Investment in Sahl at December 31, 2010:

Underlying equity in Sahl ($520,000 ´ 75%) $390,000Less: Unrealized profit in Sahl’s ending inventory (15,000)Less: Unrealized gain on equipment sold to Paar ($24,000 - $12,000 recognized) ´ 75% (9,000)Less: Unrealized gain on sale of land to Sahl (10,000)Less: Unrealized gain on sale of building to

Sahl ($20,000 - $1,000 recognized) (19,000)Add: Gain on constructive retirement of Paar’s bonds 6,000

Investment in Sahl December 31 $343,000

Noncontrolling interest share:

Net income of Sahl $100,000Add: Piecemeal recognition of gain on equipment ($24,000/6 years) 4,000Sahl’s realized income 104,000Noncontrolling interest percentage 25%



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Solution P7-6 (continued)Paar Corporation and Subsidiary


(in thousands)

Paar Sahl 75%Adjustments and


Income StatementSales $ 630 $ 500 b 50 $1,080Gain on plant 30 f 30Income from Sahl 52 h 52Gain on bonds g 6 6Cost of sales 350* 300* d 15 b 50

c 12 603*

Depreciation expense 76* 40* e 4f 1 111*

Interest expense 20* 20*

Operating expense 46* 60* 106*

Consolidated NI 246Noncontrolling int. share k 26 26*


Retained EarningsRetained earnings — Paar $ 150 $ 150Retained earnings — Sahl $ 100 i 100Controlling share of NI 220 100 220Dividends 160* 80* h 60

k 20 160*


Balance SheetCash $ 27 $ 81 a 10 $ 118Bond interest receivable 5 j 5Other receivables 40 30 a 10 60Inventories 80 50 d 15 115Land 90 70 f 10 150Buildings — net 150 180 f 19 311Equipment — net 140 90 e 12 218Investment in Sahl stock 343 c 12 i 375

e 12h 8

Investment in Paar bonds 94 g 94$ 870 $ 600 $ 972

Accounts payable $ 50 $ 80 $ 130Bond interest payable 10 j 5 510% bonds payable 200 g 100 100Common stock 400 400 i 400 400Retained earnings 210 120 210

$ 870 $ 600

Noncontrolling interest January 1 e 4 i 125


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Noncontrolling interest December 31 k 6 127$ 972

* Deduct


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Chapter 8

CONSOLIDATIONS — CHANGES IN OWNERSHIP INTERESTS


1 Preacquisition earnings and dividends are the earnings and dividends applicable to an investment interest prior to its acquisition during an accounting period. Assume that P purchases an 80 percent interest in S on July 1, 2009 and that S has earnings of $100,000 between January 1 and July 1, 2009 and pays $50,000 dividends on May 1, 2009. In this case, preacquisition earnings and dividends are $80,000 and $40,000, respectively. Historically, preacquisition earnings purchased were shown as a deduction on the income statement to arrive at consolidated net income. Under SFAS No. 160, this is no longer the case. Instead, the consolidated income statement should only report revenues, expenses, gains and losses subsequent to the combination date. For example, in a Mmarch 31 acquisition, the consolidated income statement would only include income of the subsidiary from April 1 through December 31. The FASB reasons that acquirers purchase assets and assume liabilities, based on their fair values. Acquirers do not “purchase” preacquisition earnings, although fair values of net assets should reflect earning power of the acquired firm.

2 Preacquisition earnings are not recorded by a parent company under the equity method because the investor only recognizes income subsequent to acquisition on the interest acquired. Historically, preacquisition earnings purchased were shown as a deduction on the income statement to arrive at consolidated net income. Under SFAS No. 160, this is no longer the case. Instead, the consolidated income statement should only report revenues, expenses, gains and losses subsequent to the combination date. For example, in a Mmarch 31 acquisition, the consolidated income statement would only include income of the subsidiary from April 1 through December 31.

3 Noncontrolling stockholders of Sub Company held a 20 percent interest during the first half year and a 10 percent interest during the last half year and at year-end. But noncontrolling interest share for the year and total noncontrolling interest at year-end are computed for the 10 percent interest held by noncontrolling stockholders throughout the year.

4 Preacquisition income is similar to noncontrolling interest share because it represents the income of a subsidiary attributable to stockholders outside the consolidated entity. But preacquisition income is not income of the noncontrolling stockholder group at the date of the financial statements. In fact, preacquisition income relates to a previous controlling stockholder group when the interest acquired exceeds 50 percent. In such a case, it seems improper to report this as a deduction in the consolidated income statement. Rather, the fair value of net assets acquired should reflect the acquiree’s earnings history.


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5 Under FASB Statement No. 160, a gain or loss is only recorded when the sold interest results in deconsolidation of the subsidiary, i.e., the parent no longer holds a controlling interest. The gain or loss on the sale of an equity interest is the difference between the proceeds from the sale (the fair value) and the recorded book value of the interest sold, provided that the investment is accounted for as a one-line consolidation. If another method of accounting has been used, the investment account must be converted to the equity method so that any gain or loss on sale is the same as if a one-line consolidation had been used previously.

When the parent maintains a controlling interest after the sale, the sale is treated as an equity transaction, with no gain or loss recognition. The parent debits cash or other consideration received in the sale, credits the investment account based on percent of carrying value sold, and records the difference as an adjustment to other paid-in capital.

6 Conceptually, the income applicable to an equity interest sold during an accounting period should be included in investment income and consolidated net income. In this case, the gain or loss on sale is computed on the basis of the book value of the interest at the time of sale, and income is assigned to the increased noncontrolling interest only after the date of sale. As a practical expedient, a beginning-of-the-period sale date can be used such that no income is recognized on the interest sold up to the time of sale, and the gain or loss is computed on the book value at the beginning of the period. When this expedient is used, income must be assigned to the increased noncontrolling interest for the entire year of sale. The combined investment income and gain or loss on sale are the same under both approaches provided that the assumptions (beginning of the year and time of sale) are followed consistently. As noted in question 5, gain or loss on the sale of the equity interest is only recognized when the subsidiary is donconsolidated. Other wise, the gain or loss is an adjustment to other paid-in capital.

7 Assuming that no gain or loss is recognized, no adjustment of the parent’s investment account is necessary when the subsidiary sells additional shares to outside parties at book value because the parent’s share of underlying book value does not change. If additional shares are sold above book values, the parent’s share of the underlying equity of the subsidiary increases. This increase is recorded by the parent company as follows:

Investment in subsidiary XXAdditional paid-in capital XX

If the subsidiary sells additional shares below book value, the parent’s interest is decreased and the parent company records decreases in its investment and additional paid-in capital accounts. In all three cases (book value, above book value, or below book value), the parent company’s ownership percentage decreases from 80 percent (8,000 of 10,000 shares) to percent (8,000 of 12,000 shares).

No gain or loss is recognized, the change in underlying book value, adjusted for one-sixth [(80% – %) ¸ 80%] of any unamortized cost book value differential is


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reported as adjustment to additional paid-in capital, since the parent maintains its controlling interest. An alternative computation is to assume that the parent sold one-sixth of its interest for percent of the proceeds, the difference being the amount of adkustment to additional paid-in capital.

8 The acquisition of the 2,000 shares directly from the subsidiary increases the parent’s percentage interest from 80 percent (8,000 of 10,000 shares) to 5/6 (10,000 of 12,000 shares, or 83 1/3%). The change in the interest held does not affect the way in which the parent company records its additional investment. The parent company in all cases increases its investment account by the amount of cash paid or other consideration given for the additional investment. It makes no difference if the purchase price is above or below book value.

9 Treasury stock transactions by a subsidiary change the parent company’s proportionate interest in the subsidiary. Any changes in the parent’s share of the underlying book value of the subsidiary require adjustments in the parent company’s investment in subsidiary and additional paid-in capital accounts.

10 Gains and losses to a parent company (or equity investor) do not result from the treasury stock transactions of its subsidiaries (or equity investees). Although the parent’s investment interest may increase or decrease from such transactions, the predominate view is that such changes are of a capital nature and should be accounted for by additional paid-in capital adjustments rather than by recorded gains and losses.

11 Stock splits and stock dividends by a subsidiary do not affect the amounts that appear in the consolidated financial statements. But stock dividends by a subsidiary result in capitalization of subsidiary retained earnings and the amounts involved in eliminations for the subsidiary’s stockholders’ equity accounts are affected.


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Solution E8-1

Allocation of Sweet’s net income:

Controlling share of income ($100,000 ´ 70% ´ 1 year) + ($100,000 ´ 20% ´ 1/2 year) $ 80,000

Noncontrolling interest share ($100,000 ´ 10% ´ 1 year) $ 10,000

Preacquisition income ($100,000 ´ 20% ´ 1/2 year) $ 10,000Note: This does not appear on the consolidated income statement. Companies only include subsidiary earnings subsequent to the acquisition date.

Allocation of Sweet’s dividends:

Dividends to Pie ($30,000 ´ 70%) + ($30,000 ´ 90%) $ 48,000

Noncontrolling interest ($60,000 ´ 10%) $ 6,000

Preacquisition interests ($30,000 ´ 20%) $ 6,000

Solution E8-2

1 Income from Superstore for 2009:

60% interest ´ $240,000 ´ 1/3 year $ 48,000

2 Preacquisition income:Under SFAS No. 160, no preacquisition income appears on the consolidated income statement. The income statement only includes income of the subsidiary earned after the parent obtains its controlling interest. Control was established on September 1, when Pinnacle’s interest increased from 40% to 60%, so the consolidated income statement includes Superstore income of $80,000 ($240,000 x 1/3 of year).

3 Noncontrolling interest share for 2009:$80,000 ´ 40% $ 32,000


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Solution E8-3 (amounts in thousands)

Entry to record sale of 15% interest:Cash 750

Investment in Swamp 660Other paid-in capital 90

To record sale of 15% interest in Swamp. No gain or loss on sale is recognized

since Peat maintains an 85% controlling interest.

Entry to record investment income for 2009:Investment in Swamp($600 ´ 85%) 510

Income from Swamp 510To record income from Swamp.

Check:Investment balance January 1, 2009 $4,400Less: Book value of interest sold (660)Add: Income from Swamp 510Investment balance December 31, 2009 $4,250Underlying equity ($4,600 ´ 85%) $3,910Add: 85% of Goodwill * 340Investment balance December 31, 2009 $4,250* Note that implied total goodwill is $400 ($340 / 85%).

Solution E8-4 (amounts in thousands)

1 Gain on sale of 20% interest: No gain or loss is recognized since Pauley maintains a 60% controlling interest.Beginning of the period sale assumptionSelling price $130Book value of interest ($436 investment account balance ´ 20%/80%) 109Adjustment to other paid-in capital $ 21

Actual sale date assumptionSelling price $130Book value of interest sold:

Beginning of the period balance $436Add: Income ($150 ´ 1/3 year ´ 80%) 40

476Interest sold 25% 119

Adjustment to increase additional paid-in capital $ 11

2 Income from Savage


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Beginning of the period sale assumptionIncome from Savage($150 ´ 60%) $ 90Actual sale date assumptionJanuary 1 to May 1:Share of Savage’s income ($150 ´ 80% ´ 1/3 year) $ 40May 1 to December 31:Share of Savage’s income ($150 ´ 60% ´ 2/3 year) 60Income from Savage $100


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3 Investment in Savage December 31, 2009

Beginning of ActualPeriod Sale Sale DateAssumption Assumption

Investment balance January 1 $436 $436Book value of interest sold (109) (119)Income from Savage 90 100Dividends (48) (48)Investment balance December 31, 2009 $369 $369

Solution E8-5

(amounts in thousands)

1a Fair value — book value differential

Cost $1,274Implied fair value of Stork ($1,274 / 70%) $1,820Book value ($1,480 January 1 balance + $100 income for 5 months - $60 dividends in January and April) (1,520)Goodwill $ 300

1b Income from Stork (Note: Only include earnings subsequent to the acquisition date).

Income from Stork ($240,000 ´ 7/12 year ´ 70%) $ 98

1c Investment in Stork at December 31

Investment cost $1,274Add: Income from Stork 98Deduct: Dividends ($60,000 ´ 70%) (42)Investment in Stork December 31, 2009 $1,330

2 Consolidation working paper entries:

a Income from Stork 98Investment in Stork 56Dividends 42

To eliminate income and dividends from Stork and adjust investment account to its cost on June 1.

b Common stock, $10 par — Stork 1,000


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Retained earnings — Stork 580Goodwill 300

Investment in Stork 1,274Noncontrolling interest 564Dividends 42

To eliminate reciprocal investment and equity balances, record preacquisition income and beginning noncontrolling interest, and eliminate preacquisition dividends.


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Solution E8-6

1 Investment in Sower (in thousands)

Investment balance December 31, 2009 ($9,000 ´ 80%) $ 7,200Cost of new shares ($25 ´ 60,000 shares) 1,500

Investment in Sower after new investment $ 8,700

2 Goodwill from new investment

Sower’s stockholders’ equity after issuance ($9,000 + $1,500) $10,500Petal’s ownership percentage (480,000 + 60,000 shares)/660,000 shares .8182Petal’s book value after issuance 8,591.1Less: Petal’s book value before issuance (7,200)

Increase in book value from purchase (book value acquired) $ 1,391.1

Cost of 60,000 shares $ 1,500Book value acquired (1,391.1)

Goodwill from acquisition of new shares* $ 108.9

* This implies total goodwill is equal to $136,125.

Solution E8-7

1 Sod issues 30,000 shares to Pod at $20 per sharePod’s ownership interest before issuance: 176,000/220,000 shares = 80%Pod’s ownership interest after issuance: 206,000/250,000 shares = 82.4%

2 Sod sells 30,000 shares to the public at $20 per sharePod’s ownership interest after issuance: 176,000/250,000 shares = 70.4%

3 Sod sells 30,000 shares to the public; no gain or loss recognized:

Investment in Sod 115,200Additional paid-in capital 115,200

To record increase in investment in Sod computed as follows:

Book value before issuance ($3,200,000 ´ 80%) $2,560,000Book value after issuance ($3,800,000 ´ 70.4%) 2,675,200Additional paid-in capital $ 115,200


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Solution E8-8

Primetime buys shares

1a Percentage ownership after additional investment:

700,000/1,000,000 = 70%

1b Goodwill from additional investment (in thousands):

Book value of interest after sale$2,600 ´ 70% $1,820

Book value of interest before sale$2,100 ´ 2/3 1,400

Book value of interest acquired 420Cost of interest 500Goodwill from additional investment * $ 80

* This implies total goodwill is now equal to $114,286.

Outsiders buy shares

2a Percentage ownership after sale:

600,000/1,000,000 = 60%

2b Change in underlying book value of investment in Satellite:

Satellite’s underlying equity after sale $2,600,000Primetime’s interest 60%Book value of Primetime’s investment in Satellite after the sale 1,560,000Less: Book value before the sale 1,400,000Increase in book value of investment $ 160,000

2c Entry to adjust investment account:

Investment in Satellite 160,000Additional paid-in capital 160,000


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Solution E8-9

Preliminary computations of fair value — book value differentials:April 1, 2009 acquisitionCost of 4,000 shares (20% interest) $ 64,000Implied total fair value of Sum ($64,000 / 20%) $320,000Book value of Sum on april 1 acquisition date:

Beginning stockholders’ equity $280,000Add: Income for 3 months ($80,000 ´ ¼ year) 20,000Stockholders’ equity April 1 300,000

Goodwill $ 20,000

July 1, 2010 acquisitionCost of 8,000 shares (40% interest) $164,000Implied total fair value of Sum ($164,000 / 40%) $410,000Book value on July 1 acquisition date:

Beginning stockholders’ equity $360,000Add: Income for 6 months ($80,000 ´ 1/2 year) 40,000Less: Dividends May 1 (10,000)Stockholders’ equity July 1 390,000

Goodwill (amount is unchanged by this transaction) $ 20,000

1 Income from Sum

2009Income from Sum for 2009 ($80,000 ´ 20% ´ 3/4 year) $ 12,000

2010 Income from Sum for 201020% share of reported income ($80,000 ´ 20%) $ 16,00040% share of reported income ($80,000 ´ 40% ´ 1/2 year) 16,000

Income from Sum $ 32,000

2 Noncontrolling interest December 31, 2010 (($420,000 book value + $20,000 goodwill)´ 40%) $176,000

3 Preacquisition income (does not appear in come statement)

Sum income $ 80,000Time before acquisition 1/2Percent acquired in 2010 40%Preacquisition income ($80,000 ´ .5 ´ .4) $ 16,000

4 Investment balance at December 31, 2010

Cost of 20% investment $ 64,000Income from Sum for 2009 12,000


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Cost of 40% investment 164,000Income from Sum for 2010 32,000Less: Dividends ($2,000 + $6,000) (8,000)

Investment in Sum $264,000

Check:Share of Sum’s December 31, 2010 equity ($420,000 ´ 60%) $252,000Add: 60% of $20,000 Goodwill 12,000

Investment in Sum $264,000


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Solution E8-10


Investment cost July 1, 2010 $675,000

Implied total fair value of Sandridge ($675,000 / 90%) $750,000Less: Book value of Sandridge at acquisition:

Equity of Sandridge Mines December 31, 2009 $700,000Add: Income for 1/2 year 50,000Equity of Sandridge Mines July 1, 2010 750,000

Excess (book value = underlying equity) 0

1 Investment income from Sandridge Mines

Income from Sandridge — 2010 ($100,000 ´ 1/2 year ´ 90%) $ 45,000

Income from Sandridge — 2011:January 1 to July 1 ($80,000 ´ 1/2 year ´ 90%) $ 36,000July 1 to December 31 ($80,000 ´ 1/2 year ´ 80%) 32,000

$ 68,000

Investment in Sandridge Mines Cost July 1, 2010 $675,000Add: Income from Sandridge — 2010 45,000Less: Dividends paid in December ($50,000 ´ 90%) (45,000)

Investment balance December 31, 2010 675,000

Less: Book value of 1/9 interest sold on July 1, 2011a (79,000)Add: Income from Sandridge — 2011 68,000Less: Dividends paid in December ($30,000 ´ 80%) (24,000)


a Sale of 10% interest July 1, 2011:Equity of Sandridge Mines December 31, 2009 $700,000

Add: Income less dividends — 2010 50,000

Add: Income for 1/2 year — 2011 40,000

Equity of Sandridge Mines July 1, 2011 790,000Interest sold 10%

Underlying equity of interest sold $ 79,000

Gain on sale of 1/9 interest ($85,000 proceeds - $79,000)Since Piccolo maintains a controlling interest, the gain is not recorded, but shown as an adjustment to additional paid-in capital.

$ 6,000


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2 Noncontrolling interest share

Noncontrolling interest share — 2010: ($100,000 income ´ 10% interest) $ 10,000

Noncontrolling interest share — 2011: ($80,000 ´ 1/2 year ´ 10%) + ($80,000 ´ 1/2 year ´ 20%) $ 12,000

Noncontrolling interest December 31, 2010Equity of Sandridge Mines January 1 $700,000Add: Income less dividends for 2010 50,000Equity of Sandridge Mines December 31 750,000Noncontrolling interest percentage 10%


Noncontrolling interest December 31, 2011Equity of Sandridge Mines January 1 $750,000Add: Income less dividends for 2011 50,000Equity of Sandridge Mines December 31 800,000Noncontrolling interest percentage 20%

Noncontrolling interest December 31 $160,000

Solution E8-11

Preliminary computations:Investment cost January 1, 2010 $ 690,000

Implied total fair value of Sanyo ($690,000 / 75%) $ 920,000Book value of Sanyo (800,000)Excess fair value over book value = Goodwill $ 120,000

1 Underlying book value December 31, 2010

$1,000,000 equity ´ 75% $ 750,000

2 Percentage ownership before purchase of additional shares

30,000 shares owned/40,000 shares outstanding = 75% interest

Percentage ownership after purchase of additional shares



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3 Investment in Sanyo balance January 3, 2011

Investment cost January 1, 2009 $ 690,000Add: Share of Sanyo’s income less dividends for 2009 ($200,000 ´ 75%) 150,000Investment in Sanyo December 31, 2009 840,000Add: Additional investment — January 3, 2011 (10,000 shares ´ $30) 300,000

Investment in Sanyo balance January 3, 2011 $1,140,000


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4 Percentage ownership if shares sold to outside entities


5 Investment in Sanyo balance January 3, 2011

Investment in Sanyo December 31, 2009 (see 3 above) $ 840,000Add: Increase in book value from change in ownership interest:Book value after additional 10,000 shares

were issued ($1,300,000 equity ´ 60%) $780,000Book value before additional 10,000 shares

were issued ($1,000,000 equity ´ 75%) (750,000) 30,000Investment in Sanyo balance - January 3, 2011 $ 870,000

Solution E8-12

Preliminary computations:Cost of additional investment (2,000 shares ´ $80) $160,000

Implied total fair value of Saton $160,000 / (2,000/12,000) $960,000Less: Book value of Saton after issuance 710,000Excess fair value over book value $250,000

January 2, 2010Investment in Saton 160,000

Cash 160,000To record purchase of additional 2,000 shares of Saton.

December 2010Cash 50,000

Investment in Saton 50,000To record receipt of dividends ($60,000 ´ 10,000/12,000 shares).

December 31, 2010Investment in Saton 75,000

Income from Saton 75,000To record income from Saton($90,000 ´ 10,000/12,000).


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Solution E8-13

1 Investment in Striper (in thousands)Cost $1,800Add: 90% of $300 increase in equity since 2009 270

Investment in Striper January 1, 2011 $2,070

2 Entry on Patrick’s books (no gain or loss recognized)

Investment in Striper 180Additional paid-in capital 180

To recognize change in book value of investment from Striper’s sale of additional shares, computed as follows:Underlying equity after issuance ($2,400 ´ 75%) $1,800Underlying equity before issuance ($1,800 ´ 90%) (1,620)

$ 180


Solution P8-1

Preliminary computations (in thousands):Cost of 40,000 shares July 1, 2009 $620

Implied total fair value of Spindle ($620 / 80%) $775Book value of Spindle ($550 + $50 income) (600)Excess fair value over book value $175

Cost of 10,000 shares January 1, 2010 $162Book value after issuance ($762 ´ 5/6) $635Book value before issuance ($600 ´ 80%) (480) (155)Excess fair value over book value of 10,000 shares acquired $ 7

1 Investment in Spindle — December 31, 2009Investment cost $620Add: Income from Spindle- $100 ´ 1/2 year ´ 80% 40Less: Dividends ($50 ´ 80%) (40)

Investment in Spindle December 31, 2009 $620

2 Income from Spindle — 2010Share of Spindle’s income ($150 ´ 5/6) $125

3 Investment in Spindle — December 31, 2010Investment balance December 31, 2009 $620Add: Additional investment 162


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Add: Income from Spindle — 2010 125Less: Dividends for 2010 ($60 ´ 5/6) (50)


Check:Share of Spindle’s equity ($852 ´ 5/6) $710Goodwill [ ($175 x 80%) + ($210 x (5/6 – 80%) ] 147



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Solution P8-2

1 Investment in Smithtown (in thousands)Underlying equity $26,000 ´ 80% $20,800Goodwill (80%) 2,000

Investment in Smithtown January 1, 2011 $22,800

2 Percentage interest after stock issuanceShares owned 960,000/1,600,000 outstanding shares = 60% interest

3 No gain or loss recognized on issuance of additional sharesInvestment in Smithtown 2,000

Other paid-in capital 2,000To recognize change in ownership interest computed as: Underlying equity after sale ($38,000 ´ 60%) less underlying equity before sale of additional shares ($26,000 ´ 80%).

Solution P8-3

1 Journal entry to record sale as of actual sale dateCash 120,000Additional paid-in capital 1,500

Investment in Shawnee 121,500To record sale of 1/9 of investment in Shawnee. Book value of interest sold is computed as follows:

Investment balance December 31, 2008 $1,039,500Add: Income from Shawnee for one-half year

($280,000 ´ 1/2 year ´ 90%) 126,000Less: Dividends ($80,000 ´ 90%) (72,000)Book value of investment on July 1, 2009 $1,093,500Book value of interest sold ($1,093,500/9) $ 121,500

2 Journal entry to record sale as of January 1, 2009Cash 120,000

Additional paid-in capital 12,500Investment in Shawnee 107,500

To record sale of 1/9 of investment in Shawnee. Book value of interest sold is computed as follows:

Investment balance December 31, 2008 $1,039,500Less: Dividends (72,000)Book value adjusted for dividends $ 967,500Book value of interest sold ($967,500/9) $ 107,500

3 Reconciliation


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Investment in Shawnee

Actual Sale Date

Investment in Shawnee

Beginning of Year Sale Date

Balance January 1, 2009 $1,039,500 $1,039,500Add: Income from Shawnee

January 1 — July 1 126,000 112,000July 1 — December 31 112,000 1l2,000

Less: DividendsFirst half-year (72,000) (72,000)Last half-year (64,000) (64,000)

Less: Book value of interest sold (121,500) (107,500)Balance December 31, 2009 $1,020,000 $1,020,000

Solution P8-4

(in thousands)

Entries on Panama’s books to reflect the change in ownership interest:

Option 1 Panama sells 30,000 shares of Shenandoah

Cash 1,500Investment in Shenandoah 870Additional paid-in capital 630

To record sale of 30,000 shares at $50 per share. No gain or loss is recognized since parent maintains a controlling interest.

Option 2 Shenandoah issues and sells 40,000 shares to the public

Investment in Shenandoah 630Additional paid-in capital 630

To record adjustment in ownership computed as follows:Book value after sale of 40,000 shares ($12,440 ´ 75%) $9,330Book value before sale of 40,000 shares ($10,440 ´ 5/6) (8,700)Increase in book value of investment from sale $ 630

Option 3 Shenandoah reissues 40,000 shares of treasury stock

Investment in Shenandoah 630Additional paid-in capital 630

To record adjustment in ownership computed the same as 2 above.


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Consolidated Stockholders’ Equityat January 1, 2010

Option 1 Option 2 Option 3

Common stock $10,000 $10,000 $10,000Additional paid-in capital 3,630 3,630 3,630Retained earnings 7,000 7,000 7,000Noncontrolling interesta 2,610 3,110 3,110

Total stockholders’ equity $23,240 $23,740 $23,740

a Noncontrolling interest under option 1: $10,440 ´ 25%Noncontrolling interest under options 2 and 3: $12,440 ´ 25%


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Solution P8-5

Preliminary computations:Cost of 9,000 shares (90% interest) January 1, 2009 $ 810,000

Implied total fair value of Sala ($810,000 / 90%) $ 900,000Book value of Sala ($500,000 + $300,000) (800,000)

Excess fair value over book value = Goodwill $ 100,000

1 Investment balance December 31, 2009

Cost January 1, 2009 (9,000 shares ´ $90) $ 810,000Add: Share of Sala’s 2009 income ($50,000 ´ 90%) 45,000

Investment in Sala December 31 $ 855,000

2 Goodwill at December 31, 2010(Pallo purchased additional shares)

Goodwill from January 1, 2009 purchase $ 100,000Goodwill from January 1, 2010 purchase: Book value before purchase $ 850,000 Book value after purchase (1,350,000) Book value acquired (500,000) Cost of additional 5,000 shares 500,000 Goodwill from January 1, 2010 $ 0 Goodwill at December 31, 2010 $ 100,000

3 Additional paid-in capital (outsider purchased additional shares)

Book value after issuance ($1,350,000 ´ 60%) $ 810,000Book value before issuance ($850,000 ´ 90%) (765,000)

Additional paid-in capital (gain is not recognized) $ 45,000

4 Noncontrolling interest December 31, 2010 (outsider purchased shares)

Subsidiary equity January 1, 2009 $ 800,000Increase for 2009 50,000Increase for 2010 70,000Sale of additional shares 500,000 Book value $1,420,000Goodwill 100,000 Fair value of Subsidiary equity December 31, 2010 $1,520,000

Noncontrolling interest percentage 6,000/15,000 shares 40%Noncontrolling interest December 31, 2010 $ 608,000


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Solution P8-6

1 Investment in Stake December 31, 2010Investment in Stake January 2, 2009 $ 98,000Increase for 2009 ($30,000 retained earnings increase ´ 70%) 21,000Purchase of additional 20% interest June 30, 2010 37,000Increase 2010: ($30,000 ´ 1/2 year ´ 70%) + ($30,000 ´ 1/2 year ´ 90%) 24,000Dividends 2010: ($10,000 ´ 90%) (9,000)

Investment in Stake December 31, 2010 $171,000

2 Goodwill December 31, 2010January 2, 2009 purchase:Cost of 70% interest $ 98,000

Implied fair value of Stake ($98,000 / 70%) $140,000Less: Book value of Stake 120,000Goodwill $ 20,000

June 30, 2010 purchase:Cost of 20% interest $ 37,000

Implied fair value of Stake ($37,000 / 20%) $185,000Less: Book value of Stake 165,000Goodwill - December 31, 2010 $ 20,000

3 Consolidated net incomeSales $600,000Cost of sales (400,000)Expenses (70,000)Consolidated net income 130,000Noncontrolling interest share * 6,000Controlling share of net income $124,000

* Noncontrolling share is 10% for full year plus 20% for ½ year. Alternative:Post’s reported income = Controlling share of net income $124,000

4 Consolidated retained earnings December 31, 2010Beginning retained earnings $200,000Add: Controlling share of Consolidated net income — 2010 124,000Less: Dividends (64,000)

Consolidated retained earnings — ending $260,000Alternative solution:


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Post’s reported ending retained earnings = Consolidated retained earnings — ending $260,000

5 Noncontrolling interest December 31, 2010Equity of Stake December 31, 2010 $170,000Goodwill 20,000Fair value of Stake $190,000Noncontrolling interest percentage 10%



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Solution P8-7

1 Percy Corporation and SubsidiaryConsolidated Income Statement


Sales $3,200Cost of sales (1,900)

Gross profit 1,300Depreciation expense (700)Other expenses (150)

Consolidated net income 450Noncontrolling interest share ($150,000 ´ 20%) + ($150,000 ´ 1/4 year ´ 10%)

(33.75)

Controlling share of Consolidated net income $ 416.25

2 Schedule to allocate Sawyer’s income and dividendsControl. Noncontrol. Preacquisition Total

Sawyer’s income 70% $105,000 20% $33,75 $135,00010% 11,250 15,000

Allocation $116,250 $33,750 $150,000

Dividends 70% $ 56,000 20% $16,000 $ 72,00010% 4,000 $4,000 8,000

Allocation $ 60,000 $16,000 $4,000 $ 80,000

Solution P8-8

Preliminary computationsCost October 1, 2009 $ 82,400

Implied fair value of Sat ($82,400 / 80%) $103,000Book value on Octobwer 1 acquisition date:

Book value on January 1, 2009 $70,000Add: Income January 1 to October 1 ($24,000 ´ 3/4 year) 18,000Deduct: Dividends March 15 (5,000)Book value October 1 83,000

Goodwill $ 20,000

Income from Sat for 2009Share of Sat’s net income ($24,000 ´ 1/4 year ´ 80%) $ 4,800Less: Unrealized profit in Sat’s ending inventory (1,000)Income from Sat $ 3,800


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* Preacquisition income ($24,000 ´ 3/4 year ´ 80%) $14,400

* Preacquisition dividends ($5,000 ´ 80%) $ 4,000

* Noncontrolling interest share ($6,000 ´ 20%) $ 1,200

* Under SFAS No. 160, preacquisition earnings are not shown as a reduction of consolidated net income. Rather, we only include earnings and dividends subsequent to the acquisition date. Preacquistion amounts are disclosed in required pro-forma disclosures for acquisitions. The worksheet on the following page reflects these adjustments.


Pop Corporation and SubsidiaryConsolidation Working Papers


Pop Sat 80%Adjustments and


Income StatementSales $ 112,000 $ 50,000 a 12,000

c 37,500$ 112,500

Income from Sat 3,800 b 3,800

Cost of sales 60,000* 20,000* d 1,000 a 12,000c 15,000

54,000*

Operating expenses 25,100* 6,000* c 4,500 26,600*


Noncontrolling int. share f 1,200 1,200*


Retained EarningsRetained earnings — Pop $ 30,000 $ 30,000

Retained earnings — Sat $ 20,000 e 20,000

Net income 30,700 24,000 30,700

Dividends 20,000* 10,000* b 4,000c 5,000f 1,000 20,000*



Accounts receivable 10,400 17,000 G 6,000 21,400

Note receivable 5,000 10,000 15,000

Inventories 30,000 16,000 d 1,000 45,000

Plant assets — net 88,000 60,000 148,000

Investment in Sat 82,200 b 200

e 82,400


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Goodwill e 20,000 20,000

$ 220,700 $ 110,000 $ 261,500

Accounts payable $ 15,000 $ 16,000 g 6,000 $ 25,000

Notes payable 25,000 10,000 35,000

Capital stock 140,000 50,000 e 50,000 140,000


$ 220,700 $ 110,000

Noncontrolling interest — beginning c 13,000e 7,600

Noncontrolling interest December 31 f 200 20,800

$ 261,500* Deduct


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Solution P8-9

Supporting computations:

Fair value — book value differential

Investment cost $175,000

Implied total fair value of Sid ($175,000 / 70%) $250,000Less: Book value of Sid ($250,000 equity on January 1 plus $10,000 net income (1/4 year) less $10,000 dividends) 250,000Fair value — book value differential 0

Allocation of Sid’s reported net income

Parent company ($40,000 ´ 3/4 year ´ 70%) $ 21,000Preacquisition income ($40,000 ´ 1/4 year ´ 70%) 7,000Noncontrolling interest share ($40,000 ´ 1 year ´ 30%) 12,000

Sid’s net income $ 40,000

Pal’s income from Sid

Equity in Sid’s income $ 21,000

Constructive gain on parent’s bondsNote that bonds payable has a book value of $105,400 on December 31, 2009. A half-year of premium amortization ($300) yields a book value of $105,700 at July 1, 2009. ( $105,700 book value on July 1 less $102,850 on December 31) 2,850

Recognition of constructive gain on separate books ($2,850 ´ 6/114 months) (150)

Gain on intercompany sale of equipment — downstream [$30,000 - ($36,000/2)] (12,000)

Piecemeal recognition of gain on equipment — downstream ($12,000/3 years ´ 1/2 year) 2,000

Gain on intercompany sale of land — upstream ($10,000 - $8,000 cost) ´ 70% (1,400)

Income from Sid $ 12,300


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Worksheet entries in journal form

a Income from Sid 12,300 Dividends - Sid 7,000 Investment in Sid common 5,300Eliminate intercompany post-acquisition earnings and dividends and return Investment to beginning balance.

b Sales * 37,500 Cost of sales * 27,500 Dividends – Sid* 10,000Retained earnings - Sid 50,000Common stock - Sid 200,000 Investment in Sid - common 175,000 Noncontrolling interest 75,000Eliminate preacquisition earnings and dividends. Eliminate Sid’s equity accounts, the investment account and establish beginning noncontrolling interest.

c Gain on plan assets 12,000 Plan assets 12,000Eliminate intercompany gain on sale of equipment.

d Gain on plan assets 2,000 Plan assets 2,000Eliminate intercompany gain on sale of land.

e Interest income 5,850 Interest expense 5,700 Gain on bond retirement 2,850 Investment in Pal bonds 102,700Bonds payable 100,000Premium on bonds 5,400Record constructive retirement of bonds payable.

f Interest payable 6,000 Interest receivable 6,000Eliminate reciprocal interest accounts.

g Other current liabilities 7,000 Other current assets 7,000Eliminate reciprocal for unpaid intercompany dividends.

h Noncontrolling interest share 8,400 Dividends - Sid 3,000 Noncontrolling interest 5,400Record noncontrolling interest share of earnings and post-acquisition dividends.

i Plan assets 2,000 Expenses 2,000


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Eliminate excess depreciation on equipment.


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Pal Sid 70%Adjustments and


Income StatementSales $ 287,100 $ 150,000 b 37,500 $ 399,600

Income from Sid 12,300 a 12,300

Gain on bonds a 2,850 2,850

Gain on plant assets 12,000 2,000 c 12,000d 2,000

Interest income 5,850 e 5,850

Interest expense 11,400* e 5,700 5,700*Expenses — includes cost of goods sold 200,000* 117,850*

b 27,500i 2,000 288,350*


Noncontrolling int. share h 8,400 8,400*


Retained EarningsRetained earnings — Pal $ 250,000 $ 250,000

Retained earnings — Sid $ 50,000 b 50,000

Net income 100,000 40,000 100,000

Dividends 50,000* 20,000* a 7,000b 10,000h 3,000 50,000*



Interest receivable 6,000 f 6,000

Inventories 140,000 60,000 200,000

Other current assets 110,000 20,000 g 7,000 123,000

Plant assets — net 502,700 107,300 i 2,000 c 12,000d 2,000 598,000

Investment — Sid common 180,300 a 5,300b 175,000

Investment — Pal bonds 102,700 e 102,700

$ 950,000 $ 300,000 $ 942,000

Interest payable $ 6,000 f 6,000

Other current liabilities 38,600 $ 30,000 g 7,000 $ 61,600

12% bonds payable 100,000 e 100,000

Premium on bonds 5,400 e 5,400

Common stock 500,000 200,000 b 200,000 500,000


$ 950,000 $ 300,000

Noncontrolling interest ($250,000 ´ 30%) b 75,000

Noncontrolling interest December 31 ($268,000 ´ 30%) i 5,400 80,400


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$ 942,000


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Solution P8-10

Supporting computations:

Investment cost of 70% interest $420,000

Implied total fair value of Sam ($420,000 / 70%) $600,000Book value of Sam 500,000

Goodwill $100,000

Investment cost of 10% interest $ 67,500

Implied total fair value of Sam ($67,500 / 10%) $675,000Book value of Sam:

Beginning equity January 1, 2010 $550,000Add: Income for 1/2 year 50,000Less: June dividends (25,000)Book value at July 1, 2010 575,000

Goodwill (unchanged) $100,000

Investment in Sam account:Investment cost January 1, 2009 $420,000Add: 2009 share of retained earnings increase ($50,000 ´ 70%) $ 35,000Less: Unrealized profit in ending inventory (5,000)Less: Unrealized gain on land (8,000) 22,000Investment balance December 31, 2009 $442,000Add: Investment cost of 10% interest 67,500Add: Income from Sam for 2010

$100,000 ´ 70% interest ´ 1 year $ 70,000$100,000 ´ 10% interest ´ 1/2 year 5,000Add: Beginning inventory profits 5,000Less: Ending inventory profits (6,000)Less: Gain: intercompany sale machinery (40,000)Add: Piecemeal recognition of gain

($40,000/5 ´ 1/2 year) 4,000 38,000Less: Dividends from Sam

($25,000 ´ 70%) + ($25,000 ´ 80%) (37,500)Investment balance December 31, 2010 $510,000


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Poco Corporation and SubsidiaryConsolidation Working Papers


Poco80%Sam




Income from Sam 38 f 38

Gain on machinery 40 d 40

Cost of sales 400* 300* c 6 a 48b 5 653*



Consolidated net income 353

Noncontrolling int. share h 25 25*


Retained EarningsRetained earnings — Poco $ 155 $ 155

Retained earnings — Sam $ 250 g 250


Dividends 200* 50* f 37.5h 10g 2.5 200*



Accounts receivable 130 30 i 25 135

Dividends receivable 20 j 20

Inventories 90 70 c 6 154

Other current items 20 80 100

Land 50 40 e 8 82


Machinery — net 100 320 d 36 384

Investment in Sam 510 b 5e 8

g 522.5f .5

Goodwill g 100 100

1,000 $ 725 $1,220

Accounts payable $ 177 $ 40 i 25 $ 192

Dividends payable 100 25 j 20 105


Capital stock, $10 par 300 300 g 300 300


$1,000 $ 725

Noncontrolling interest, January 1 g 125

Noncontrolling interest, December 31 h 5 140

$1,220


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* Deduct


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Solution P8-11

Preliminary computations:

Investment cost of 85% of Sly August 1, 2009 $522,750

Implied fair value of Sly ($522,750 / 85%) $615,000Book value August 1, 2009:

Capital stock $500,000Retained earnings 100,000Add: Income for 7 months 35,000Less: Dividends for 1/2 year (20,000)Stockholders’ equity August 1, 2009 615,000

Fair value – book value differential $ 0

Investment cost August 1, 2009 $522,750

Equity in income $60,000 ´ 5/12 year ´ 85% $ 21,250Less: Deferred inventory profit from upstream sale $5,000 ´ 85% (4,250)Less: Deferred profit from sale of equipment $10,000 profit - ($2,000 ´ 1/4 year) (9,500)

Income from Sly 2009 7,500Less: Dividends from Sly $20,000 ´ 85% (17,000)Investment in Sly December 31, 2009 $513,250

Noncontrolling interest share of post-acquisition income, adjusted for the inventory profit: ($25,000 - $5,000) ´ 15% = $3,000

Preacquisition earnings ($35,000 ´ 85%) = $29,750Under SFAS No. 160, pre-acquisition earnings and dividends are closed to retained earnings, and the consolidated income statement reports only post-acquisition earnings.

Working paper entries:

a Sales 60,000Cost of sales 60,000

To eliminate intercompany sales.

b Cost of sales 5,000Inventories 5,000

To defer unrealized inventory profits.

c Sales 50,000Cost of sales 40,000Plant assets — net 10,000


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To eliminate intercompany sale of inventory item to be used as equipment.

d Plant assets — net 500Operating expense 500

To record depreciation for 1/4 year on intercompany gain on plant asset.


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P8-11 (continued)

e Income from Sly 7,500Investment in Sly 9,500

Dividends 17,000To eliminate income and dividends and return investment account to its beginning-of-the-period balance.

f Capital stock 500,000Retained earnings 100,000

Investment in Sly 522,750Noncontrolling interest 92,250

Sales * 233,333 Cost of sales * 145,833 Operating expenses * 52,500 Dividends * 20,000

To eliminate reciprocal equity and investment balances, and enter beginning noncontrolling interest (* adjusted for preacquisition earnings and dividends).

g Dividends payable 17,000Dividends receivable 17,000

To eliminate reciprocal dividends receivable and payable amounts.

h Noncontrolling Interest Share 3,000Dividends 3,000

To enter Noncontrolling Interest share of subsidiary post-acquisition income and dividends.

Alternative to entry c:Sales 50,000

Cost of sales 50,000

Cost of sales 10,000Plant assets — net 10,000


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Pak Corporation and SubsidiaryConsolidation Working Papers


Pak Sly 85%Adjustments and


Income StatementSales $ 910,000 $ 400,000 a 60,000

c 50,000f 233,333 $ 966,667

Income from Sly 7,500 e 7,500

Cost of sales 500,000* 250,000* b 5,000 a 60,000c 40,000f 145,833 509,167*

Operating expense 200,000* 90,000* d 500f 52,500

237,000*

Consolidated net income 220,,500*

Noncontrolling int. share h 3,000 3,000*


Retained EarningsRetained earnings — Pak $ 192,500 $ 192,500

Retained earnings — Sly $ 100,000 f 100,000

Net income 217,500 60,000 217,500

Dividends 100,000* 40,000* e 17,000f 20,000h 3,000 100,000*



Dividends receivable 17,000 g 17,000


Inventories 300,000 150,000 b 5,000 445,000

Plant assets — net 880,000 500,000 d 500 c 10,000 1,370,500

Investment in Sly 513,250 e 9,500 f 522,750

$1,864,000 $ 730,000 $2,049,250


Dividends payable 20,000 g 17,000 3,000

Capital stock 1,400,000 500,000 f 500,000 1,400,000


$1,864,000 $ 730,000

Noncontrolling interest January 1 f 92,250

Noncontrolling interest December 31 92,250


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$2,049,250


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Solution P8-12

Indirect Method

Poff Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2010

Cash Flows from Operating ActivitiesConsolidated net income – controlling share $300,000

Adjustments to reconcile net income to cash provided by operating activities:

Noncontrolling interest share $ 22,000Depreciation expense 528,000Decrease in accounts receivable 2,500Decrease in prepaid expenses 20,000Decrease in accounts payable (203,500)Increase in inventories (130,000)Gain on sale of 10% interest * (5,700) 233,300

Net cash flows from operating activities 533,300

Cash Flows from Investing ActivitiesPurchase of equipment $(100,000)Sale of 10% interest in subsidiary 72,700

Net cash flows from investing activities (27,300)

Cash Flows from Financing ActivitiesCash paid on long-term note $(300,000)Payment of cash dividends — controlling (200,000)Payment of cash dividends — noncontrolling (10,000)

Net cash flows from financing activities (510,000)

Decrease in cash for 2010 (4,000)Cash on hand January 1, 2010 50,500

Cash on hand December 31, 2010 $ 46,500

* Note: Since Poff maintains a controlling interest in Sato, no gain or loss should have been recognized on sale of the 10 interest. Rather, this amount should appear as an increase in other paid-in capital. The net effect on the statement of cash flows is the same.


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Solution P8-12 (continued)Poff Corporation and Subsidiary

Working Papers for the Statement of Cash Flows (Indirect Method)for the year ended December 31, 2010

Reconciling Items Cash Flows Cash Flows Cash FlowsYear’s from Investing FinancingChange Debit Credit Operations Activities Activities

Asset ChangesCash (4,000)Accounts receivable — net (2,500) e 2,500Inventories 130,000 k 130,000Prepaid expenses (20,000) l 20,000Equipment 90,000 h 10,000 g 100,000Accumulated depreciation

(498,000) f 500,000 h 2,000

Land and buildings 0Accumulated depreciation

(28,000) f 28,000

Total asset changes (332,500)

Changes in EquitiesAccounts payable (203,500) i 203,500Dividends payable 0Long-term note payable

(300,000) j 300,000

Common stock 0Retained earnings 100,000 a 300,000 c 200,000

Noncontrol. int. 20% 71,000 b 22,000 d 10,000

h 59,000Changes in equities (332,500)

Consolidated net income a 300,000 300,000

Noncontrolling int. share b 22,000 22,000

Purchase of equipment g 100,000 (100,000)

Depreciation — equipment

and buildings f 528,000 528,000Gain - sale of 10% subsidiary Interest h 5,700 (5,700)Decrease in accounts receivable e 2,500 2,500Increase in inventories k 130,000 (130,000)Decrease in prepaid expenses l 20,000 20,000Decrease in accounts payable i 203,500 (203,500)Cash paid on long-term note j 300,000 (300,000)

Paid dividends — controlling c 200,000 (200,000)

Paid dividends —noncontrol. d 10,000 (10,000)

Sale of 10% interest in Subsidiary h 72,700 72,700

1,890,700 1,890,700 533,300 (27,300) (510,000)


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Cash decrease for 2010 = $533,300 - $27,300 - $510,000 = $(4,000).* Note: Since Poff maintains a controlling interest in Sato, no gain or loss should have been recognized on sale of the 10 interest. Rather, this amount should appear as an increase in other paid-in capital. The net effect on the statement of cash flows is the same.


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Chapter 9

INDIRECT AND MUTUAL HOLDINGS


1 An indirect holding of the stock of an affiliated company gives the investor an ability to control or significantly influence the decisions of an investee not directly owned through an investee that is directly owned. Two primary types of indirect ownership situations are the father-son-grandson relationship and the connecting affiliates relationship.

2 No. Only 40 percent of T’s stock is held within the affiliation structure and P owns indirectly only 24 percent (60% ´ 40%) of T. T should be included as an equity investment in the consolidated statements of P Company and Subsidiaries.

3a Father-son-grandson b Connecting affiliates

Controlling stockholdersDirect ownership, 70% interest in Y. Indirect ownership, 42% interest in Z (70% ´ 60%).

Controlling stockholdersDirect ownership, 30% interest in B and 70% interest in A. Indirect ownership, 21% interest in B (70% ´ 30%)

Noncontrolling stockholdersDirect ownership, 30% interest in Y and 40% interest in Z. Indirect ownership, 18% interest in Z (30% ´ 60%).

Noncontrolling stockholdersDirect ownership, 30% interest in A and 40% interest in B. Indirect ownership, 9% interest in B (30% ´ 30%).

4 An indirect holding involves the ability of one corporation to control another corporation by virtue of its control over one or more other corporations. A mutual holding affiliation structure is a special type of indirect holding where affiliates indirectly own themselves.

5 The parent’s direct and indirect ownership of Subsidiary B is 49 percent (70% ´ 70%). However, consolidation of Subsidiary B is still appropriate because 70 percent of B’s stock is held within the affiliation structure and only 30 percent is held by the noncontrolling stockholders of B.


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6 Approach A

Combined separate earnings of Pat, Sam, and Stan ($100,000 + $80,000 + $50,000) $230,000Less: Noncontrolling interest share computed as follows:

Direct noncontrolling interest in Stan’s income ($50,000 ´ 30%) (15,000)

Indirect noncontrolling interest in Stan’s income ($50,000 ´ 70% ´ 20%) (7,000)Direct noncontrolling interest in Sam’s income

($80,000 ´ 20%) (16,000)Pat’s net income and consolidated net income $192,000

Approach B Pat Sam Stan

Separate earnings $100,000 $80,000 $50,000Allocate Stan’s income to Sam ($50,000 ´ 70%) + 35,000 -35,000Allocate Sam’s income to Pat ($115,000 ´ 80%) + 92,000 -92,000 0Consolidated net income $192,000Noncontrolling interest share $ 23,000 $15,000

7 When the schedule approach for allocating income is used, investment income from the lowest subsidiary must be added to the separate income of the next subsidiary to determine that subsidiary’s net income before it can be allocated to the next subsidiary, and so on.

8 P S1 80% S2 70%Separate earnings $20,000 $10,000 $5,000Deduct: Unrealized profit - 1,000

Separate realized earnings 20,000 9,000 5,000Allocate S2’s income + 3,500 -3,500Allocate S1’s income +10,000 -10,000 0P’s net income $30,000Noncontrolling int. share $ 2,500 $1,500

S1’s investment in S2 account was not adjusted for the unrealized profits because this would create a disparity between S1’s investment in S2 account and S1’s share of S2’s equity.


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9 A mutual holding situation exists because two affiliated companies hold ownership interests in each other.

10 The treasury stock approach considers parent company stock held by a subsidiary to be treasury stock of the consolidated entity. Accordingly, the subsidiary investment account is maintained on a cost basis and is deducted at cost from stockholders’ equity in the consolidated balance sheet.


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11 In situations in which a subsidiary holds stock in the parent, both the conventional and treasury stock approaches are acceptable, but they do not result in equivalent consolidated financial statements. The consolidated retained earnings and noncontrolling interest amounts will usually be different because of different amounts of investment income. The treasury stock approach is not applicable when the mutually held stock involves subsidiaries holding the stock of each other.

12 No. Parent company dividends paid to the subsidiary are eliminated.

13 The theory is that parent company stock purchased by a subsidiary is, in effect, returned to the parent company and constructively retired. By recording the constructive retirement of the parent company stock on parent company books, parent company equity will reflect the equity of stockholders outside the consolidated entity. Also, recording the constructive retirement, by reducing parent company stock and retained earnings to reflect amounts applicable to controlling stockholders outside the consolidated entity, will establish consistency between capital stock and retained earnings for the parent’s outside stockholders and parent company net income, dividends, and earnings per share which also relate to the outside stockholders of the parent.

14 Consolidated net income is computed as follows:

P = $50,000 + .8SS = $20,000 + .1PP = $50,000 + .8($20,000 + .1P)P = $71,739Consolidated net income = $71,739 ´ 90% = $64,565

15 For eliminating the effect of mutually held parent company stock, two generally accepted approaches are used—the treasury stock approach and the traditional approach. But when the mutually held stock involves subsidiaries holding stock of each other, the treasury stock approach is not applicable.

16 By adding beginning noncontrolling interest and noncontrolling interest share (determined by multiplying the company’s net income by the noncontrolling interest percentage) and subtracting the noncontrolling interest’s percentage of dividends, the noncontrolling interest can be determined without use of simultaneous equations.


Solution E9-1

Pent Sal Terp Separate earnings of the three affiliates (in thousands) $ 800 $500 $200Add: Dividend income from Sal’s investment in Wint accounted for by


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the cost method ($100,000 ´ 15%) 15Allocate 60% of Terp’s earnings 120 (120)Allocate 60% of Sal’s earnings 381 (381)Consolidated net income – Contr. Share $1,181Noncontrolling interest share $254 $ 80


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Solution E9-2Pumba Corporation and Subsidiaries

Income Allocation Schedulefor the year 2009

(in thousands) Pumba Simba Timon

Separate earnings or loss $400 $150 $(200)Allocate Simba’s income:

to Pumba ($150,000 ´ 60%) 90 (90)to Timon ($150,000 ´ 20%) (30) 30

Allocate Timon’s loss:to Pumba $(170,000) ´ 80% (136) 136

Consolidated net income – Contr. Share $354 Noncontrolling interest share $ 30 $ (34)

Solution E9-3Place Corporation and Subsidiaries

Income Allocation Schedulefor the year 2009

Place Lake Marsh Separate incomes $200,000 $80,000 $ 70,000Less: Unrealized profit on land (20,000)Separate realized incomes 200,000 60,000 70,000Allocate Lake’s income

60% to Place 36,000 (36,000)20% to Marsh (12,000) 12,000

Allocate Marsh’s income70% to Place 57,400 (57,400)

Consolidated net income – Contr. Share $293,400Noncontrolling interest share $12,000 $ 24,600

Solution E9-4

1 cIncome from Seron is equal to:

70% of Seron’s $160,000 income $112,00070% of Seron’s 80% interest in Trane’s $100,000 income 56,000

Income from Seron $168,000

2 dNoncontrolling interest share is equal to:

30% direct noncontrolling interest in Seron’s $160,000 income $ 48,00020% direct noncontrolling interest in Trane’s $100,000 income 20,000


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30% ´ 80% indirect noncontrolling interest in Trane’s $100,000 income 24,000

Total noncontrolling interest $ 92,000


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3 dConsolidated net income is equal to:Combined separate incomes of $360,000 + $160,000 + $100,000 $620,000Less: Noncontrolling interest share 92,000Controlling interest share of Consolidated net income $528,000

Alternative computation: Paine’s separate income $360,000Add: 70% of Seron’s $160,000 income 112,000Add: (70% ´ 80%) of Trane’s $100,000 income 56,000Controlling interest share of Consolidated net income $528,000

Solution E9-5

Pal Sal Tall Ulti Val Separate earnings $ 50,000 $30,000 $35,000 $(20,000) $40,000Less: Unrealized profit - 5,000Separate realized earnings 50,000 30,000 30,000 (20,000) 40,000Allocate Val’s income

70% to Tall +28,000 - 28,000Allocate Ulti’s income

10% to Tall - 2,000 + 2,00060% to Sal -12,000 + 12,000

Allocate Tall’s income80% to Pal + 44,800 -44,80010% to Sal + 5,600 - 5,600

Allocate Sal’s income80% to Pal + 18,880 -18,880

Pal’s net income (or consolidated net income) $113,680Noncontrolling interest share $ 4,720 $ 5,600 $ (6,000) $12,000


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Solution E9-6

Pete Mike Nina Ople Separate earnings $ 65,000 $18,000 $28,000 $9,000Unrealized profit - 4,000 + 2,000 -4,000Separate realized earnings 65,000 14,000 30,000 5,000Allocate Ople’s income

20% to Nina + 1,000 -1,00070% to Mike + 3,500 -3,500

Allocate Nina’s income70% to Pete + 21,700 -21,70010% to Mike + 3,100 - 3,100

Allocate Mike’s income90% to Pete + 18,540 -18,540

Pete’s net income (or Controlling share of NI) $105,240Noncontrolling interest share $ 2,060 $ 6,200 $ 500

Alternative solution

NoncontrollingReported + Adjusted Consolidated InterestIncome - Adjustments = Income - Net Income = Share

Pete $65,000 $ 65,000 $ 65,000 0

Mike 18,000 - $4,000 14,000a 12,600 $1,400

Nina 28,000 + 2,000 30,000b 23,700 6,300

Ople 9,000 - 4,000 5,000c 3,940 1,060

$114,000 $105,240 $8,760

a $14,000 divided 90% to consolidated net income (CNI)

10% to noncontrolling interest share (MIE)b $30,000 divided 70% + (90% ´ 10%) to CNI and 20% + (10% ´ 10%) to MIEc $5,000 divided (90% ´ 70%) + (70% ´ 20%) + (90% ´ 10% ´ 20%) to CNI [78.8%]

and 10% + (10% ´ 10% ´ 20%) + (20% ´ 20%) + (10% ´ 70%) to MIE [21.2%]


19-294

Solution E9-7

1 bSeparate income of Torry $200,000Included in consolidated net income (.9 ´ .7 ´ $200,000) (126,000)

$ 74,000Alternative solutionDirect noncontrolling interest (.3 ´ $200,000) $ 60,000Indirect noncontrolling interest (.1 ´ .7 ´ $200,000) 14,000

$ 74,000

2 aSeparate income = net income of Vance $120,000Noncontrolling interest (direct) 20%

$ 24,000

3 cTotal separate incomes $1,065,000Less: Consolidated net income

Pantela $620,000 ´ 100% $620,000Sincock $175,000 ´ 90% 157,500Torry $200,000 ´ 90% ´ 70% 126,000Unger $(50,000) ´ 90% ´ 60% (27,000)Vance $120,000 ´ 90% ´ 80% 86,400 (962,900)

Total noncontrolling interest share $ 102,100

Alternative solutionSincock $175,000 ´ 10% $ 17,500Torry $200,000 ´ 37% 74,000Unger $(50,000) ´ 46% (23,000)Vance $120,000 ´ 28% 33,600

Total noncontrolling interest share $ 102,100

4 a[See computations for question 3]

5 dNet income of Sincock

Separate income $ 175,000Add: 70% of Torry’s $200,000 140,000Deduct: 60% of Unger’s $(50,000) (30,000)Add: 80% of Vance’s $120,000 96,000

Net income of Sincock $ 381,000Pantela’s interest 90%

Investment increase 342,900Less: Dividends received from Sincock ($100,000 ´ 90%) (90,000)


19-295

Net increase $ 252,900


19-296

Solution E9-8

Affiliation diagram

1 bSeparate income of Savoy (net income) $ 80,000Separate income of Trent $40,000 - ($80,000 ´ 10%) 32,000Separate income of Pasko $240,000 - ($40,000 ´ 70%) - ($80,000 ´ 80%) 148,000Total separate income $260,000

2 d Pasko Savoy Trent

Separate income $148,000 $80,000 $32,000Unrealized profit on inventory (10,000)Unrealized profit on land (15,000)Separate realized income $148,000 $70,000 $17,000

3 aPasko’s separate income $148,000Add: Investment income from Savoy ($70,000 ´ 80%) 56,000Add: Investment income from Trent [$17,000 + ($70,000 ´ 10%)] ´ 70% 16,800Parent’s income (consolidated net income) $220,800

4 dTotal separate realized income $235,000Less: Consolidated net income 220,800


Alternative solutionDirect noncontrolling interest in Savoy ($70,000 ´ .1) $ 7,000Indirect noncontrolling interest in Savoy ($70,000 ´ .3 ´ .1) 2,100Direct noncontrolling interest in Trent ($17,000 ´ .3) 5,100Noncontrolling interest share $ 14,200

Solution E9-9

Consolidated net income


19-297

P = Income of Pant on a consolidated basis (including mutual income) S = Income of Solo on a consolidated basis (including mutual income) P = Separate income of $3,000,000 + 80% of S S = Separate income of $1,500,000 + 30% of P P = $3,000,000 + .8($1,500,000 + .3P) = $3,000,000 + $1,200,000 + .24P.76P = $4,200,000 P = $5,526,316Consolidated net income = $5,526,316 ´ 70% = $3,868,421


19-298

Solution E9-10

1 Affiliation diagram

2 P = Packard’s income on a consolidated basisS = Smedley’s income on a consolidated basisT = Tweed’s income on a consolidated basis

P = $200,000 + .7SS = $120,000 + .8TT = $80,000 + .1S

Solve for SS = $120,000 + .8($80,000 + .1S)S = $184,000 + .08SS = $200,000

Compute P and TP = $200,000 + .7($200,000)P = $340,000

T = $80,000 + .1($200,000)T = $100,000

Income AllocationConsolidated net income (equal to P) $340,000

Noncontrolling interest share in Smedley ($200,000 ´ 20%) 40,000Noncontrolling interest share in Tweed ($100,000 ´ 20%) 20,000

Total income $400,000


19-299


1 b

2 b

3 d

4 c


A = Akron’s income on a consolidated basisB = Benson’s income on a consolidated basisC = Cashin’s income on a consolidated basis

A = $190,000 + .8B + .7CB = $170,000 + .15CC = $230,000 + .25A

Solve for AA = $190,000 + .8[$170,000 + .15($230,000 + .25A)] + .7($230,000 + .25A)A = $190,000 + $136,000 + $27,600 + .03A + $161,000 + .175AA = $514,600 + .205A.795A = $514,600A = $647,295.59

Determine CC = $230,000 + .25($647,295.59)C = $391,823.90

Determine BB = $170,000 + .15($391,823.90)B = $228,773.58

Allocate income to consolidated net income and noncontrolling interest

Consolidated net income ($647,295.59 ´ 75%) $485,471.69Noncontrolling interest — Benson ($228,773.58 ´ 20%) 45,754.72Noncontrolling interest — Cashin ($391,823.90 ´ 15%) 58,773.59Total income $590,000.00


19-300

Solution E9-12

1 dCombined separate income $160,000Less: Noncontrolling interest share 6,750Consolidated net income $153,250

Alternatively:Petty’s separate income $100,000Add: Soma’s net income of $67,500 ´ 90% 60,750Less: Dividends received from Petty ($50,000 ´ 15%) (7,500)Controlling interest share of Consolidated net income $153,250

2 b P = $100,000 + .9($60,000 + .15P).865P = $154,000 P = $178,035 S = $60,000 + $26,705 = $86,705

Consolidated net income = $178,035 ´ .85 = $151,330Noncontrolling interest share = $86,705 ´ .10 = 8,670Total income $160,000

Solution E9-13

Pusan Skagg TaborSeparate earnings $50,000 $42,000 $20,000Intercompany profit 3,000

(5,000) Separate realized earnings $50,000 $40,000 $20,000

P = Pusan’s income on a consolidated basisS = Skagg’s income on a consolidated basisT = Tabor’s income on a consolidated basis

P = $50,000 + .8SS = $40,000 + .9TT = $20,000 + .1P + .1S

Solve for TT = $20,000 + .1($50,000 + .8S) + .1($40,000 + .9T)T = $20,000 + $5,000 + .08($40,000 + .9T) + $4,000 + .09TT = $25,000 + $3,200 + .072T + $4,000 + .09T.838T = $32,200T = $38,424.82S = $40,000 + .9($38,424.82)


19-301

S = $40,000 + $34,582.34S = $74,582.34P = $50,000 + .8($74,582.34)P = $50,000 + $59,665.87P = $109,665.87

Consolidated net income ($109,665.87 ´ .9) $ 98,699.28Noncontrolling interest share of Skagg ($74,582.34 ´ .1) 7,458.24Noncontrolling interest share of Tabor ($38,424.82 ´ .1) 3,842.48

Total income $110,000.00


19-302

Solution E9-14

1 Treasury stock approach

Investment in Scat balance December 31, 2009Investment balance December 31, 2008 $245,700Add: Income from Scat 26,900Less: Dividends received from Scat (24,000)Add: Dividends paid to Scat 6,000Investment in Scat December 31, 2009 $254,600

Supporting computationsComputation of income from Scat:Scat’s separate income $ 50,000Add: Scat’s dividend income from Pumel 6,000Scat’s net income 56,000Pumel’s ownership interest 70%Pumel’s equity in Scat’s income 39,200Less: Dividends paid to Scat ($60,000 ´ 10%) (6,000)Less: Excess amortization ($9,000 x 70%) (6,300)Income from Scat $ 26,900

2 Conventional approach

Pumel’s net income and consolidated net income

P = ($120,000 + .7S) - $6,300 S = $50,000 + .1P

P = $120,000 + .7($50,000 + .1P) - $6,300 P = $120,000 + $35,000 + .07P - $6,300.93P = $148,700 P = $159,892

S = $50,000 + .1($159,892) S = $65,989

Pumel’s net income and consolidated net income ($159,892 ´ 90%) $143,903Noncontrolling interest share ($65,989 ´ 30%) 19,797

Total income $163,700

Income from ScatConsolidated net income $143,903Less: Pumel’s separate income 120,000

Income from Scat $ 23,903


19-303

Or alternatively, ($65,989 ´ 70%) - ($159,892 ´ 10%) - $6,300 excess $ 23,903

Investment in Scat December 31, 2009Investment in Scat December 31, 2008 $245,700Add: Income from Scat 23,903Less: Dividends from Scat (21,000)

Investment in Scat December 31, 2009 $248,603


19-304


Solution P9-1

Pida Corporation and SubsidiariesSchedule to Compute Consolidated Net Income and Noncontrolling Interest Share

for the year 2009

Pida Staley Axel Bean Separate income (loss) $500,000 $300,000 $150,000 $(20,000)

Less: Unrealized profit (20,000)

Separate realized income (loss) 500,000 300,000 130,000 (20,000)Allocate Bean’s loss 70% to Staley (14,000) 14,000

Allocate Axel’s income 60% to Staley 78,000 (78,000)Patent (12,000)

352,000Allocate Staley’s income 90% to Pida 316,800 (316,800)Patent (40,000)

Controlling share of net income $776,800

Noncontrolling interest income $ 35,200 $ 52,000 $ (6,000)

Check:

Income allocated: $776,800 consolidated net income + $35,200 noncontrolling interest share in Staley + $52,000 noncontrolling interest share in Axel - $6,000 noncontrolling interest share (loss) in Bean = $858,000

Income to allocate: $500,000 Pida income + $300,000 Staley income + $130,000 realized income of Axel - $20,000 loss of Bean - $52,000 patent = $858,000

Controlling share of consolidated net income: $500,000 - $40,000 + 90%($300,000 - $12,000) + (90% ´ 60% ´ $130,000) - (90% ´ 70% ´ $20,000) = $776,800


19-305

Solution P9-2

1 Seaton’s books

Investment in Thayer (70%) 147,000Cash 147,000To record purchase of a 70% interest in Thayer Corporation.

Cash 7,000Investment in Thayer (70%) 7,000To record dividends received from Thayer ($10,000 ´ 70%).

Investment in Thayer (70%) 17,500Income from Thayer 17,500To record investment income computed as follows:Share of Thayer’s net income ($30,000 ´ 70%) $ 21,000Less: Unrealized profit from upstream sale of inventory items ($5,000 ´ 70%) (3,500)

$ 17,500

Posey’s books

Cash 24,000Investment in Seaton (80%) 24,000To record dividends received from Seaton ($30,000 ´ 80%).

Investment in Seaton (80%) 44,000Income from Seaton 44,000To record investment income computed as follows:

Share of Thayer’s net income($50,000 + $17,500) ´ 80% $ 54,000Less: Unrealized gain on land sold to Thayer (10,000)

$ 44,000


19-306

Solution P9-2 (Continued)

2 Schedule of income allocation Posey Seaton Thayer

Separate earnings $150,000 $50,000 $30,000Less: Unrealized profits (10,000) (5,000)

Separate realized earnings 140,000 50,000 25,000Allocate Thayer’s realized earnings to Seaton ($25,000 ´ 70%) 17,500 (17,500)

Seaton’s net income 67,500Allocate Seaton’s net income to Posey ($67,500 ´ 80%) 54,000 (54,000)

Posey’s net income and Controlling share of net income $194,000 Noncontrolling interest share $13,500 $ 7,500

Check: Realized earnings ($140,000 + $50,000 + $25,000) $215,000Less: Noncontrolling interest share (13,500+7,500) (21,000)Controlling share of net income $194,000

3 Schedule of assets and equities at December 31, 2010

Posey Seaton Thayer

Assets $ 924,000 $230,000 $270,000Investment in Seaton (80%) 220,000Investment in Thayer (70%) 157,500

Total assets $1,144,000 $387,500 $270,000

Liabilities $ 150,000 $100,000 $ 50,000Capital stock 600,000 200,000 150,000Retained earnings 394,000 87,500 70,000

Total liabilities and equity $1,144,000 $387,500 $270,000

Note: Posey’s assets other than investments consist of $800,000 assets at the beginning of the year, plus separate earnings of $150,000 and dividend income of $24,000, less dividends paid of $50,000.

Seaton’s assets other than investments consist of $350,000 assets at the beginning of the period, plus separate earnings of $50,000 and dividend income of $7,000, less investment cost of $147,000 and dividends paid of $30,000.


19-307

Solution P9-3


Check on consolidated net income Pony Star Teel Total

Net income as stated $184,500 $90,000 $25,000 $299,500Less: Investment income (84,500) (10,000) (94,500)Separate income 100,000 80,000 25,000 205,000Add: Unrealized profit in beginning inventory 8,000 8,000Less: Unrealized profit in ending inventory (20,000) (20,000)Separate realized incomes 108,000 80,000 5,000 193,000Allocate Teel’s income

50% to Pony 2,500 (2,500)40% to Star 2,000 (2,000)

Star’s net income 82,000Allocate Star’s income

80% to Pony 65,600 (65,600)Less: Depreciation on excess allocated to plant and Equipment (5,000) ( 1,250) (6,250)Total income of consolidated Entity $186,750Controlling share of NI $171,100 171,100Noncontrolling int. share $ 15,150 $ 500 15,650

$186,750

Investment in Star (80%) $420,000

Implied total fair value of Star ($420,000 / 80%) $ 525,000Book value of Star (500,000)Excess of fair value over book value $ 25,000

Excess allocated to equipment wit a four year lfe Amortization ($25,000 / 4 yrs) $ 6,250

Investment in Teel (50%) $ 75,000

Implied total fair value of Teel ($75,000 / 50%) $ 150,000Book value of Star (120,000)Excess of fair value over book value – Goodwill $ 30,000


19-308


Pony Corporation and SubsidiariesConsolidation Working Papers


Pony Star Teel Adjustments and


Income StatementSales $500,000 $300,000 $100,000 h 50,000 $ 850,000

Income from Star 72,000 d 72,000

Income from Teel 12,500 10,000 a 22,500

Cost of sales 240,000* 150,000* 60,000* i 20,000 g 8,000h 50,000 412,000*

Other expenses 160,000* 70,000* 15,000* f 6,250 251,250*

Noncont.int.share — Star c 15,150 15,150*

Noncont.int.share — Teel c 500 500*

Cont.int.shareof NI $184,500 $ 90,000 $ 25,000 $ 171,100

Retained Earnings

Retained earnings — Pony$115,500 f 12,500

g 8,000 $ 95,000

Retained earnings — Star 160,000 e 160,000

Retained earnings — Teel 45,000 b 45,000

Net income 184,500 90,000 25,000 171,100

Dividends 80,000* 40,000* 10,000* a 9,000c 9,000d 32,000 80,000*

Retained earnings December 31 $220,000 $210,000 $ 60,000 $ 186,100

Balance SheetCash $ 67,000 $ 36,000 $ 10,000 $ 113,000

Accounts receivable 70,000 50,000 20,000 j 10,000 130,000

Inventories 110,000 75,000 35,000 i 20,000 200,000

Plant and equipment — net 140,000 425,000 115,000 e 25,000 f 18,750 686,250

Investment in Star 80% 508,000

d 40,000e 468,000

Investment in Teel 50%

95,000 a 7,500b 87,500

Investment in Teel 40%

74,000 a 6,000b 68,000

Goodwill b 30,000 30,000

$990,000 $660,000 $180,000 $1,159,250

Accounts payable $ 70,000 $ 40,000 $ 15,000 j 10,000 $ 115,000

Other liabilities 100,000 10,000 5,000 115,000

Capital stock 600,000 400,000 100,000 b 100,000e 400,000 600,000

Retained earnings 220,000 210,000 60,000 186,100

$990,000 $660,000 $180,000

Noncontrolling interest — Star (beginning) e 117,000

Noncontrolling interest — Teel (beginning) b 19,500

Noncontrolling interest December 31 c 6,650 143,150

$1,159,250* Deduct


19-309

Solution P9-4

1 Affiliation diagram

2 Income allocation

DefinitionsP = Parish’s income on a consolidated basisS = Swift’s income on a consolidated basisT = Tolbert’s income on a consolidated basis

EquationsP = $200,000 + .8S + .5TS = $100,000 + .2TT = $50,000 + .1S

Solve for SS = $100,000 + .2($50,000 + .1S)S = $110,000 + .02S.98S = $110,000S = $112,244.90 or $112,245

Compute TT = $50,000 + .1($112,244.90)T = $50,000 + $11,224.49T = $61,224.49 or $61,224

Compute PP = $200,000 + .8($112,244.90) + .5($61,224.49)P = $320,408.16 or $320,408

Income allocationConsolidated net income = P = $320,408Noncontrolling interest share in Swift ($112,245 ´ .1) 11,225Noncontrolling interest share in Tolbert ($61,224 ´ .3) 18,367

$350,000


19-310


3 P, S, and T are as defined in part 2.

EquationP = ($200,000 - $20,000) + .8S + .5TS = $100,000 + .2TT = ($50,000 - $10,000) + .1S

Solve for SS = $100,000 + .2($40,000 + .1S)S = $108,000 + .02SS = $110,204.08

Compute TT = $40,000 + .1($110,204.08)T = $51,020.41

Compute PP = $180,000 + .8($110,204) + .5($51,020.41)P = $293,673.48

Income allocationConsolidated net income = P = $293,673.48Noncontrolling interest share in Swift ($110,204.08 ´ 10%) 11,020.40Noncontrolling interest share in Tolbert ($51,020.41 ´ 30%) 15,306.12

$320,000.00


19-311

Solution P9-5

Working paper entriesa Income from Skill 27,000

Dividend income 10,000Dividends 28,000Investment in Skill 9,000To eliminate income from Skill, dividend income, and 90% of Skill’s dividends, and return the investment in Skill account to the beginning-of-the-period balance under the equity basis.

b Capital stock — Skill 200,000Retained earnings — Skill 200,000Goodwill 50,000

Investment in Skill 405,000Noncontrolling interest — beginning 45,000To eliminate reciprocal investment and equity accounts, and enter beginning-of-the-period patent and noncontrolling interest.

c Treasury stock 80,000Investment in Prill 80,000To reclassify investment in Prill to treasury stock.

d Noncontrolling Interest Share 3,000Dividends 2,000Noncontrolling Interest 1,000To record noncontrolling interest share of subsidiary income and dividends.


19-312


Treasury Stock approachPrill Company and SubsidiaryConsolidation Working Papers


Prill Skill 90%Adjustments and



Income from Skill 27,000 a 27,000

Dividend income 10,000 a 10,000

Cost of sales 200,000* 50,000* 250,000*

Expenses 50,000* 30,000* 80,000*


Noncontrolling share d 3,000 3,000*


Retained EarningsRetained earnings — Prill $ 300,000 $ 300,000

Retained earnings — Skill $ 200,000 b 200,000

Net income (Controlling share in Consol. Column)

177,000 30,000 167,000

Dividends 100,000* 20,000* a 28,000d 2,000 90,000*


Balance SheetOther assets $ 486,000 $ 420,000 $ 906,000

Investment in Skill 90% 414,000 a 9,000b 405,000

Investment in Prill 10% 80,000 c 80,000

Goodwill b 50,000 50,000

$ 900,000 $ 500,000 $ 956,000

Liabilities $ 123,000 $ 90,000 $ 213,000

Capital stock 400,000 200,000 b 200,000 400,000


$ 900,000 $ 500,000


Noncontrolling interest December 31 d 1,000 46,000

Treasury stock c 80,000 80,000*

$ 956,000* Deduct


19-313

Solution P9-6

Calculations

Income from ScimpParoll separate income (140,000 - 80,000) $ 60,000Scimp separate income (100,000 + 3,000 - 60,000) $ 43,000

Formula:P income = Adjusted Paroll income + % interest ´ S incomeAdjusted Paroll income = $60,000 + $2,000 delayed gain on land

- $4,000 patent amortization (80%)S income = Scimp income + % interest ´ P incomeP income = $58,000 + 80% ´ ($43,000 + 20% ´ P income)P income = $92,400 + .16 ´ P incomeP income = $110,000S income = $43,000 + 20% ´ $110,000S income = $65,000Controlling share of consolidated net income = P income ´ % outstandingControlling share = $88,000Noncontrolling share = S income ´ % outstandingNoncontrolling share = $12,000 [($65,000 - $5,000 amortiz.) x 20%]Income from Scimp = consolidated income less P separate incomeIncome from Scimp = $28,000 ($88,000-$60,000)

Working paper entriesa Investment in Scimp 2,000

Gain on sale of land 2,000To recognize previously deferred gain on sale of land.

b Dividend income 4,000Investment in Scimp 4,000To eliminate intercompany dividends paid to Scimp

c Income from Scimp 28,000Dividends 16,000Investment in Scimp 12,000To eliminate income from Scimp and 80% of Scimp’s dividends, and return the investment in Scimp account to the beginning-of-the-period balance under the equity basis.

d Investment in Scimp 100,000Investment in Paroll 100,000To eliminate reciprocal investments.

e Capital stock — Scimp 50,000Retained earnings — Scimp 180,000Patent 20,000

Investment in Scimp 195,710


19-314

Noncontrolling interest — beginning 54,290To eliminate reciprocal investment and equity accounts, and enter beginning-of-the-period patent and noncontrolling interest.

f Expenses 5,000Patent 5,000

To record current year’s amortization of patent.

g Noncontrolling Interest Share 12,000Dividends 4,000Noncontrolling Interest 8,000To record the noncontrolling interest share of subsidiary income and dividends.


19-315


Prill Company and SubsidiaryConsolidation Working Papers


Paroll Scimp 90%Adjustments and



Income from Scimp 28,000 c 28,000

Dividend income 4,000 b 4,000

Gain on sale of land 3,000 a 2,000 5,000

Expenses 80,000* 60,000* f 5,000 145,000*


Noncontrolling share g 12,000 12,000*


Retained Earnings

Retained earnings — Paroll $ 405,710 $ 405,710

Retained earnings — Scimp $ 180,000 e 180,000


Dividends 16,000* 20,000* c 16,000g 4,000 16,000*


Balance SheetOther assets $ 448,000 $ 157,000 $ 605,000

Investment in Scimp 109,710 a 2,000d 100,000

b 4,000c 12,000e 195,710

Investment in Paroll 100,000 d 100,000

Patent e 20,000 f 5,000 15,000

$ 557,710 $ 257,000 $ 620,000

Capital stock 80,000 50,000 e 50,000 80,000


$ 557,710 $ 257,000


Noncontrolling interest December 31 g 8,000 62,290

$ 620,000

* Deduct


19-316

Solution P9-7

Preliminary Computations

Panco’s investment cost $170,000

Implied total fair value of Stoker ($170,000 / 80%) $212,500Book value of Stoker (200,000)Excess of fair value over book value - Goodwill $ 12,500

1 Consolidated net income and noncontrolling interest share (conventional approach)

DefinitionsP = Panco’s income on a consolidated basisS = Stoco’s income on a consolidated basis

P = $100,000 separate earnings + .8SS = $40,000 separate earnings + .1P

Solve for PP = $100,000 + .8($40,000 + .1P)P = $100,000 + $32,000 + .08PP = $143,478

Compute SS = $40,000 + .1($143,478)S = $54,348

Income allocationConsolidated net income ($143,478 ´ 90% outside ownership) $129,130Noncontrolling interest share ($54,348 ´ 20%) 10,870

Total (separate incomes) $140,000

2 Entries to account for investments on an equity basisPanco’s books

Capital stock 60,000Retained earnings 20,000

Investment in Stoco 80,000To record constructive retirement of 10% of Panco’s stock.

Investment in Stoco (80%) 29,130Income from Stoco 29,130


19-317

To record income from Stoco computed as follows: 80%($54,348) - 10%($143,478) = $29,130. Alternatively $129,130 - $100,000 separate income = $29,130.

Cash 16,000Investment in Stoco 16,000To record receipt of 80% of Stoco’s dividends.

Investment in Stoco (80%) 5,000Dividends 5,000To eliminate dividends on stock that was constructively retired and to adjust the investment in Stoco account for the transfer equal to 10% of Panco’s dividends.


19-318


3 Journal entries on Stoco’s books

Investment in Panco (10%) 80,000Assets 80,000

To record acquisition of a 10% interest in Panco at book value.

Investment in Panco 14,348Income from Panco 14,348

To record 10% of Panco’s $143,478 income on a consolidated basis.

Cash 5,000Investment in Panco (10%) 5,000

To record receipt of dividends from Panco ($50,000 ´ 10%).

4 Net income for 2011 Panco Stoco Separate incomes $100,000 $ 40,000Investment income 29,130 14,348

Net income $129,130 $ 54,348

5 Investment balance December 31, 2011 Panco Stoco Investments beginning of 2011 $208,000 $ 80,000Less: Constructive retirement of Panco’s stock (80,000)Add: Investment income 29,130 14,348Add: Dividends paid to Stoco 5,000Less: Dividends received (16,000) (5,000)

Investment balances December 31, 2011 $146,130 $ 89,348

6 Stockholders’ equity December 31, 2011 Panco Stoco Stockholders’ equity January 1, 2011 $720,000 $250,000Add: Net income 129,130 54,348Less: Dividends (45,000) (20,000) Stockholders’ equity December 31, 2011 $804,130 $284,348

7 Noncontrolling interest at December 31, 2011Stoco’s equity on a consolidated basis $284,348Noncontrolling interest percentage 20%

Noncontrolling interest at December 31, 2011 $ 56,870

Alternative solutionNoncontrolling interest January 1, 2011 ($250,000 ´ 20%) $ 50,000Noncontrolling interest share ($54,348 ´ 20%) 10,870Noncontrolling interest dividends (4,000)

Noncontrolling interest at December 31, 2011 $ 56,870


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8 Adjustment and elimination entries

a Income from Panco 14,348Dividends 5,000Investment in Panco 9,348To eliminate investment income and dividends from Panco and return the investment account to its beginning-of-the-period balance.

b Investment in Stoco 80,000Investment in Panco 80,000To eliminate investment in Panco balance and increase the investment in Stoco for the constructive retirement of Panco’s stock that was charged to the investment in Stoco account.

c Dividends 5,000Investment in Stoco 5,000To eliminate dividends.

d Income from Stoco 29,130Dividends 16,000Investment in Stoco 13,130To eliminate income and dividends from Stoco and return the investment in Stoco to its beginning-of-the-period balance.

e Capital stock — Stoco 150,000Retained earnings — Stoco 100,000Patent 12,500

Investment in Stoco 208,000Noncontrolling interest 54,500To eliminate Stoco’s equity account balances and the investment in Stoco, enter beginning-of-the-period patent and noncontrolling interest.

f Noncontrolling interest share 10,870Dividends 4,000Noncontrolling Interest 6,870To record the noncontrolling interest share of subsidiary income and dividends.

Chapter 10


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SUBSIDIARY PREFERRED STOCK, CONSOLIDATED EARNINGS PER SHARE,AND CONSOLIDATED INCOME TAXATION


1 Flora’s investment incomeArom’s net income $ 300,000Less: Preferred income ($500,000 ´ 10%) (50,000)

Income to common stockholders 250,000Flora’s percentage owned 60%

Investment income $ 150,000Flora’s investment account balance (equal to book value):Arom’s stockholders’ equity $2,500,000Less: Preferred equity (no arrearages or call premiums) (500,000)

Common equity 2,000,000Flora’s percentage ownership 60%

Investment account balance $1,200,000

2 The payment of two years preferred dividend requirements would not have affected Flora’s investment income. Since the preferred stock is cumulative, the preferred dividend requirements are deducted from net income each year regardless of whether preferred dividends are declared.

3 The preferred stock of a subsidiary does not appear in a consolidated balance sheet. If there is a noncontrolling interest in the preferred stock, it is reported as a noncontrolling interest in the consolidated balance sheet. In part a, the investment in preferred is eliminated against the preferred equity and there is no noncontrolling interest in preferred. When 50 percent of the stock is held by the parent (part b), the investment in preferred is eliminated against 50 percent of the preferred equity and the other 50 percent is reported as a noncontrolling interest. In part c, all of the preferred stock is reported as a noncontrolling interest.

4 Assuming that the parent does not hold any of the subsidiary’s preferred stock, the computation of noncontrolling interest share for an 80 percent owned subsidiary is 100 percent of the income allocated to preferred plus 20 percent of the income allocated to common.

5 There is no difference between the controlling share of consolidated and parent company EPS.

6 An investor company’s EPS computations must reflect the potential dilution of an equity investee’s common stock equivalents and other potentially dilutive securities if the effect is material.


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7 Procedures applied in computing a parent company’s EPS computations are the same as those for a corporation without equity investments except when the subsidiary has outstanding common stock equivalents or other potentially dilutive securities.

8 Subsidiary EPS computations are only needed when computing diluted EPS, never for basic EPS, and then it is only needed when the subsidiary has potentially dilutive securities convertible into subsidiary common stock.

9 If a subsidiary has dilutive securities convertible into subsidiary common stock, the parent’s diluted earnings are adjusted by replacing the parent’s equity in subsidiary realized income with its equity in subsidiary diluted EPS. Alternatively, when subsidiary securities are convertible into the parent’s common stock, the parent’s diluted earnings and common shares are adjusted as if the dilutive securities had been issued by the parent company.

10 The replacement computation does not involve unrealized profits from downstream sales because these items relate solely to parent company operations and do not affect the noncontrolling interest. In the case of unrealized profits from upstream sales, however, unrealized profits are deducted in the replacement computation which involves subtracting the parent’s equity in subsidiary realized income and adding back the parent’s equity in subsidiary primary or fully diluted EPS (also based on subsidiary realized income).

11 Consolidated tax returns are not required for a consolidated entity, but a consolidated entity that qualifies as an “affiliated group” may elect to file consolidated tax returns. Once consolidated returns are elected, it may be difficult to obtain IRS permission to file separate returns.

12 Yes. Consolidated entities that meet the requirements of an affiliated group can and often do elect to file separate income tax returns.

13 The primary advantages of filing consolidated tax returns are (1) losses of affiliates are offset against gains of other members of the affiliated group, (2) intercompany profits between group members are eliminated from taxable income until realized, and (3) intercorporate dividends are fully excluded from taxable income. (But note that 3 is not a unique advantage of filing a consolidated return.)

14 Dividends received by a member of an affiliated group from other group members are excluded from federal income taxation regardless of whether the affiliated group elects to file consolidated tax returns.

15 Temporary differences result because investors that are not members of an affiliated group record income from equity investments as it is earned, but pay taxes only when dividends are actually received.


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16 In providing for income taxes on undistributed earnings of equity investees, the parent company/investor debits income tax expense and credits deferred income taxes as part of the determination of all income taxes for the period. The investment and investment income accounts are not affected.

17 Unrealized and constructive gains and losses give rise to temporary differences unless the consolidated entity is a member of an affiliated group and elects to file consolidated tax returns.



1 aMoss income to preferred $10,000 ´ 20% owned $ 2,000Moss income to common $50,000 ´ 80% owned 40,000Income from Moss $ 42,000

2 b$180,000 ´ 20% taxable ´ 30% tax rate

3 dAll dividend income is excluded from a consolidated group.

4 dIntercompany profit is deferred in the consolidated tax return until realized through sale to an outside entity.


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Solution E10-2 [Preferred stock]

1 Cost/fair value differentialTotal stockholders’ equity January 1, 2010 $8,000,000Less: Preferred equity (10,000 shares ´ $115) 1,150,000Common equity $6,850,000

Cost $8,100,000

Implied total fair ($8,100,000 / 90%) $9,000,000Book value of investment 6,850,000Excess fair over book value – Goodwill $2,150,000

2 Income from Star for 2010Star’s net income $1,200,000Less: Preferred dividends for 2010 100,000Income to common $1,100,000Income from Star ($1,100,000 ´ 90%) $ 990,000

3 Investment in Star at December 31, 2010Investment cost January 1, 2010 $8,100,000Add: Income from Star 990,000Less: Dividends ($600,000 - $200,000 preferred) ´ 90% (360,000)Investment in Star $8,730,000

4 Noncontrolling interest for 2010Beginning stockholders’ equity $8,000,000Add: Net income 1,200,000Less: Dividends (600,000)Stockholders’ equity December 31, 2010 $8,600,000

Preferred equity ($105 ´ 10,000) $1,050,000Common noncontroling interest ($8,600,000 + $2,150,000 (Goodwill)-$1,050,000) ´ 10% 970,000Noncontrolling interest December 31, 2010 $2,020,000


1 Fair value — book value differential

Cost of 80% interest $1,536,000

Implied total fair value ($1,536,000 / 80%) $1,920,000Less: Book value ($2,500,000 total equity - $630,000 preferred equity) (1,870,000)Excess fair value over book value - Goodwill $ 50,000


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2 Loss from Sommerfeld — 2009

Sommerfeld’s net loss $ 100,000Add: Income to preferred stockholders 72,000Loss to common stockholders 172,000Percent owned 80%Loss on investment in Sommerfeld $ 137,600


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3 Income from Sommerfeld — 2010

Net income $ 500,000Less: Income to preferred stockholders (72,000)Income to common stockholders 428,000Percent owned 80%Income from investment in Sommerfeld $ 342,400

4 Parnell’s investment in Sommerfeld account

Total stockholders’ equity at December 31, 2010 ($2,500,000 - $100,000 loss in 2009 + $500,000 income in 2010 - $344,000 dividends in 2010) $2,556,000Less: Preferred equity (630,000)Common equity 1,926,000Percent owned 80%Underlying equity 1,540,800Add: 80% of Unamortized excess 40,000Investment in Sommerfeld at December 31, 2010 $1,580,800

Check: Cost of investment $1,536,000Loss — 2009 (137,600)Income — 2010 342,400Dividends 2010 ($344,000 - $144,000) ´ 80% (160,000)Investment in Sommerfeld at December 31, 2010 $1,580,800


1 Investment cost (fair value equals book value)

Total stockholders’ equity of Sandalwood $4,000,000Less: Preferred equity 10,000 shares ´ ($100 + $5 + $12) 1,170,000Common equity 2,830,000Percent owned 80%Investment cost (fair value and book value) $2,264,000

2 Consolidated net income and noncontrolling interest share

Penzance separate income $3,000,000Add: Income from Sandalwood ($500,000 - $120,000) ´ 80% 304,000Consolidated net income $3,304,000

Noncontrolling interest share ($380,000 common income ´ 20%) + $120,000 preferred income $ 196,000


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3 Underlying book value

Total stockholders’ equity $4,200,000Less: Preferred equity (10,000 shares ´ $105 call price) 1,050,000Common equity 3,150,000Percent owned 80%Underlying book value December 31, 2010 $2,520,000


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Solution E10-5

Preliminary computationsTotal equity of Shoshone at December 31, 2009 $3,500,000Less: Preferred equity (10,000 shares ´ $115) (1,150,000)Common equity December 31, 2009 $2,350,000

1 Entries to record preferred stock investment

Investment in Shoshone — preferred 600,000Cash 600,000

To record purchase of 50% of Shoshone’s preferred stock.

Additional paid-in capital 25,000Investment in Shoshone — preferred 25,000

To adjust investment in preferred account to underlying equity: $600,000 cost - ($1,150,000 underlying equity ´ 50%) = $25,000.

2 Excess of fair value over book value from common stock investmentCost of 80% investment in common stock $2,000,000

Implied total fair value ($2,000,000 / 80%) $2,500,000Book value (2,350,000)Excess fair value over book value $ 150,000

3 Pimlico’s income from Shoshone preferred — 2010$1,000,000 par ´ 15% ´ 50% owned $ 75,000

4 Pimlico’s income from Shoshone common — 2010Equity in Shoshone’s common income ($400,000 income - $150,000 preferred dividends) ´ 80% owned $ 200,000Amortization of excess ($150,000/10 years) ´ 80% owned (12,000)Income from Shoshone common $ 188,000

5 Noncontrolling interest at December 31, 2010Total equity at December 31 ($3,500,000 + $400,000 income - $300,000 dividends) $3,600,000Less: Preferred equity (1,000,000)Common equity $2,600,000Plus 20% of unamortized differential (20% ´ $135,000) 27,000Common equity plus excess fair value $2,627,000

Noncontrol. Int. — preferred ($1,000,000 ´ 50%) $500,000Noncontrol. interest — common ($2,627,000 ´ 20%) 525,400Total noncontrolling interest December 31 $1,025,400


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1 Fair value — book value differentials

Cost of preferred stock $ 6,500,000Book value of preferred 60,000 shares ´ ($100 par + $5 call premium + $10 dividend arrearage) (6,900,000)Excess book value of preferred stock over cost $ (400,000)

Cost of common stock $35,000,000

Implied total fair value ($35,000,000 / 70%) $50,000,000Book value of common ($60,000,000 total equity - $11,500,000 preferred equity) 48,500,000Excess fair value over book value of common $ 1,500,000

2 The $400,000 negative differential should be treated as an increase in the preferred investment and other paid-in capital accounts on Perry’s books. Perry will record its investment in Sketch preferred as follows:

Investment in Sketch preferred 6,500,000Cash 6,500,000

To record purchase of 60% of Sketch’s preferred stock.

Investment in Sketch preferred 400,000Other paid-in capital 400,000

To adjust other paid-in capital for the constructive retirement of 60% of Sketch’s preferred shares.

Solution E10-7 [EPS]

1 d2 c3 d

Solution E10-8 [EPS]1 a Solaid’s diluted earnings for consolidated EPS purposes

Polar’s equity in Solaid’s income $176,000/.8 $ 220,000

2 cSolaid’s outstanding shares 50,000 sharesAdd: Incremental shares 10,000 shares - ($100,000 assumed proceeds/$20 average market price) 5,000 sharesSolaid’s common shares and common share equivalents 55,000 shares


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3 bPolar’s net income $ 316,000Less: Equity in Solaid’s income (176,000)Add: Equity in Solaid’s diluted earnings (40,000 shares ´ Solaid’s $4 diluted EPS) 160,000Polar’s diluted earnings $ 300,000

4 dPolar’s diluted earnings $300,000/300,000 Polar outstanding common shares = $1


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Sheridan’s basic and diluted EPS Basic Diluted

Income to common (equal to Sheridan’s net income) = a $18,000 $18,000

Common shares and common share equivalents:Outstanding shares 5,000 5,000Additional shares using treasury stock method: 1,000 - (1,000 ´ $9)/$15 400

Common shares and common share equivalents = b 5,000 5,400Sheridan’s EPS = a/b $ 3.60 $ 3.33

Putman’s basic and diluted EPS

Income to common (equal to Putman’s net income) $20,000 $20,000

Replacement of Putman’s equity in Sheridan’s realized income with Putman’s equity in Sheridan’s diluted earnings: Equity in Sheridan’s income to common ($18,000 ´ 80%) (14,400)

Equity in Sheridan’s diluted earnings (4,000 shares ´ $3.33) 13,320

Putman’s basic and diluted earnings = a $20,000 $18,920Outstanding common shares = b 8,000 8,000Putman’s EPS = a/b $ 2.50 $ 2.37


Basic Diluted Stanley’s earnings per share

a Net income $26,400 $26,400Stanley’s common shares outstanding 20,000 20,000Incremental shares from warrantsDiluted: 5,000 — ($120,000 assumed proceeds/$30 average price) 1,000

b Common shares and equivalents 20,000 21,000Earnings per share $ 1.32 $ 1.26

Prince’s basic and diluted EPSPrince’s income to common ($80,467 - $12,000 to preferred) $68,467 $68,467Replacement computation:

Equity in Stanley’s income (21,120)Equity in Stanley’s EPS


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16,000 shares ´ $1.26 20,160

a Earnings $68,467 $67,507b Prince’s common shares outstanding 10,000 10,000

a/b Earnings per share $ 6.85 $ 6.75


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Diluted 1 Scony’s earnings per share

Scony’s earnings:a Income to Scony common (equals net income) $630,000

Scony’s outstanding shares 50,000Incremental shares from warrants

Diluted: 10,000 — ($240,000 assumed proceeds/$40 average price) 4,000

b Common and equivalent shares 54,000

a/b Scony’s earnings per share $ 11.67

2 Consolidated earnings per share Basic Diluted Poway’s income to common (equals net income) $1,480,000 $1,480,000Replacement:

80% of Scony’s income (504,000)Equity in diluted earnings

40,000 shares ´ $11.67 diluted EPS 466,800

a Poway’s earnings $1,480,000 $1,442,800

b Poway’s outstanding shares 1,000,000 1,000,000

a/b Consolidated earnings per share $ 1.48 $ 1.44

Solution E10-12 [Tax]

1 b 2 c 3 c 4 b


1 cAssigned value of equipment $6,000,000Related deferred tax liability ($6,000,000 - $4,000,000 tax basis) ´ 34% tax rate $ 680,000

2 cIncome tax expense = $500,000 investment income ´ 20% taxable ´ 34% tax rate

3 cIncome taxes currently payable: $30,000 dividends ´ 20% taxable ´ 34% tax rate = $2,040


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Income tax expense: $60,000 income from Springer ´ 20% taxable ´ 34% tax rate = $4,080

Deferred tax liability: $30,000 undistributed earnings ´ 20% taxable ´ 34% tax rate = $2,040


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4 dIncome taxes currently payable: $17,500 dividends ´ 20% taxable ´ 34% tax rate = $1,190

Deferred income taxes: $17,500 share of undistributed earnings ´ 20%

taxable ´ 34% tax rate = $1,190

5 aNo income tax is assessed on dividends received from a 100% owned domestic subsidiary


1 Separate company tax returnsPruit’s income taxes currently payable:

Pretax accounting income $300,000 ´ 34% tax rate = $102,000Solo’s income taxes currently payable:

Pretax accounting income $100,000 ´ 34% tax rate = 34,000Income taxes currently payable 136,000Less: Increase in deferred tax asset ($200,000 ´ 34%) (68,000)Consolidated income tax expense $ 68,000

2 Consolidated tax returnCombined pretax accounting income $400,000Less: Unrealized gain on downstream sale of land (200,000)Taxable income 200,000Tax rate 34%Consolidated income tax expense $ 68,000

3 Separate tax returnsPruit’s income taxes currently payable:

Pretax accounting income $300,000 ´ 34% tax rate = $102,000Solo’s income taxes currently payable:

Pretax accounting income $100,000 ´ 34% tax rate = 34,000Income taxes currently payable 136,000

Consolidated tax returnCombined pretax accounting income $400,000Less: Unrealized gain on downstream sale of land (200,000)Taxable income 200,000Tax rate 34%Income taxes currently payable $ 68,000


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Note: No tax is paid on intercompany profits when consolidated returns are filed.


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Preliminary computations — Because there is only one tax rate, a schedule approach to this solution is not necessary.

Paxton Sutter Sales $8,000,000 $4,000,000Gain on equipment 200,000Cost of sales (5,000,000) (2,000,000)Other expenses(includes $50,000 patent amortization) (1,850,000) (1,200,000)Pretax operating income 1,350,000 800,000Income taxes payable on operating income at 34% income tax rate (459,000) (272,000)Income taxes payable on dividends ($400,000 paid ´ 70% interest ´ 20% taxable ´ 34%) (19,040)Income taxes currently payable (478,040) (272,000)Increase in deferred tax asset* 48,307Income tax expense (429,733) (272,000)Separate incomes 920,267 528,000Add: Income from Sutter ($528,000 ´ 70% owned - $160,000 unrealized gain) 209,600

Net income $1,129,867 $ 528,000

* Deferred tax asset ($160,000 unrealized gain ´ 34%) - ($128,000 future dividends ´ 70% owned ´ 20% taxable ´ 34% enacted tax rate) = $48,307

Paxton Corporation and SubsidiaryConsolidated Income Statement

for the year 2009

Consolidated sales $12,000,000Less: Cost of sales (7,000,000)Less: Other expenses ($3,000,000 + $50,000 - $40,000) (3,010,000)

Income before income taxes and noncontrolling interest share 1,990,000Income tax expense** (701,733)

Total consolidated income 1,288,267Noncontrolling interest share (158,400)

Controlling share of onsolidated net income $ 1,129,867

** Taxes currently payable of $478,040 for Paxton + $272,000 for Sutter - $48,307 increase in deferred tax asset = $701,733


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1 One-line consolidation entriesSeparate tax returns are filedIncome from Sullivan 40,000

Investment in Sullivan 40,000To eliminate unrealized profit on downstream sale of merchandise. Computation: $50,000 gross profit ´ 80% unrealized.

Note: that the tax effect of the unrealized profit is $13,600, but that amount is a deferred tax asset to be included in the computation of Peddicord’s income tax expense. The deferred tax asset may be reduced by a valuation allowance following FIN 48.

Consolidated income tax returns are filedIncome from Sullivan 40,000

Investment in Sullivan 40,000To eliminate unrealized profit on downstream sale of merchandise. Computation: $50,000 gross profit ´ 80% unrealized.

Note: since no tax is paid on the inventory profit, no income tax adjustment is necessary.

2 Consolidation working paper entriesSeparate Income Tax

Returns Filed Consolidated Income Tax Returns Filed

Sales 100,000 100,000Cost of goods sold 100,000 100,000To eliminate reciprocal sales and purchases.

Cost of goods sold 40,000 40,000Inventory 40,000 40,000To eliminate unrealized profits in ending inventory.

Note: No adjustments for tax effects are needed because consolidated income tax is equal to combined separate company income taxes under FASB Statement No. 109.


1 One-line consolidation entry

Income from Sweeney 80,000Investment in Sweeney 80,000To eliminate unrealized profit on upstream sale. Computation: $100,000 unrealized profit ´ 80% owned.


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2 Consolidation working paper entries

Gain on sale of equipment 100,000Equipment 100,000To eliminate unrealized gain and reduce equipment to its cost basis.


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3 Noncontrollig interest share

Net income of Sweeney (includes the tax effect of the gain) $800,000Less: Unrealized profit (100,000)Realized income of Sweeney 700,000Noncontrolling interest percentage 20%Noncontrolling interest share $140,000

Solution E10-18

Possible EstimatedOutcome

Individual Probabilityof Occurring (%)

Cumulative Probabilityof Occurring (%)

$500,000 10 10

400,000 25 35

300,000 25 60

200,000 20 80

100,000 10 90

0 10 100

Because $300,000 is the largest amount of benefit that is greater than 50 percent likely of being realized, Pax would recognize a tax benefit of $300,000. in the financial statements (Deferred tax asset of $500,000 less a valuation allowance of $200,000).

Solution E10-19

Possible EstimatedOutcome

Individual Probabilityof Occurring (%)

Cumulative Probabilityof Occurring (%)

$150,000 50 50

125,000 20 70

100,000 10 80

50,000 10 90

0 10 100

Because $125,000 is the largest amount of benefit that is greater than 50 percent likely of being realized, Pony would recognize a tax benefit of $125,000. in the financial statements (Deferred tax asset of $150,000 less a valuation allowance of $25,000).


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Solution P10-1 [Preferred stock] (amounts in thousands)

1 Undervaluation of the building from Parrella’s investment in Stanley

Cost of 180,000 shares of common stock $3,600

Implied total fair value ($3,600 / 90%) $4,000Less: Book value

Stockholders equity $4,150Less: Preferred equity (10,000 ´ $115)* 1,150Common equity 3,000

Excess fair value = Goodwill $1,000* Preferred equity at liq. Pref. (!0,000 ´ $105) + Div. in arrears ($100,000)

2 Income from StanleyStanley’s reported income $ 500Less: Preferred dividend for 2009 ( 100)Stanley’s adjusted income to common $ 40090% of Stanley’s adjusted income $ 360

3 Noncontrolling interest share for 2009Income allocable to preferred $ 100Stanley’s adjusted income $400Noncontrol. common interest share (10%) $ 40Noncontrolling interest share $ 140

4 Noncontrolling interest December 31, 2009Total stockholders’ equity ($4,150,000 + $500,000 net income - $400,000 dividends) $4,250Less: Preferred equity (No div. in arrears) 1,050 ´ 100% $1,050Common equity – book value $3,200Plus Unamortized fair value at 12/31 1,000Common equity at fair value $4,200 ´ 10% 420Noncontrolling interest December 31 $1,470

5 Investment in Stanley December 31, 2009Investment cost $3,600Add: Income from Stanley 360Less: Dividends ($400,000 - $100,000 preferred dividends in arrears - $100,000 current preferred dividends) ´ 90% (180)Investment in Stanley December 31 $3,780


19-343

Check: Equity of common ($3,200,000 ´ 90%) $2,880Undepreciated excess ($1,000,000 ´ 90%) 900Investment in Stanley December 31 $3,780


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Solution P10-2 [Preferred stock]

Preliminary computationsStockholders’ equity July 1, 2009 $900,000 - ($46,000 income ´ 1/2 year) $877,000Less: Preferred equity July 1, 2009

Par value with call premium $210,000Dividend arrearage — 2008 ($200,000 ´ 9%) 18,000Dividend arrearage — 2009 ($200,000 ´ 9% ´ 1/2 year) 9,000 237,000

Common equity July 1, 2009 $640,000

Cost of 90% interest in Starky’s common stock $630,000

Implied total fair value ($630,000 / 90%) $700,000Book value of common equity (640,000)Goodwill $ 60,000

Cost of 80% interest in Starky’s preferred stock $175,000Book value acquired ($237,000 ´ 80%) (189,600)Book value over cost of preferred $(14,600)

1 Investment account balances at December 31, 2009 Common Preferred

Investment cost $630,000 $175,000Adjust preferred to book value and recognize a constructive retirement 14,600Income to preferred ($18,000 ´ 1/2 year ´ 80%) 7,200Income to common ($28,000 ´ 1/2 year ´ 90%) 12,600Investment balances December 31 $642,600 $196,800

2 Consolidated balance sheet working paper entries

9% preferred stock, $100 par 200,000Retained earnings — Starky 46,000

Investment in Starky — preferred 196,800Noncontrolling interest — preferred 49,200To eliminate reciprocal preferred equity and investment balances and enter noncontrolling interest. The preferred stockholders’ claim on Starky’s retained earnings consists of $18 per share preferred dividends in arrears plus a $5 per share call premium. Computations: Investment in Starky preferred = $123 ´ 1,600 shares. Noncontrolling interest — preferred = $123 ´ 400 shares.

Capital stock, $10 par — Starky 500,000Paid-in capital in excess of par — Starky 40,000Retained earnings — Starky 114,000


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Goodwill 60,000Investment in Starky — common 642,600Noncontrolling interest — common 71,400

To eliminate reciprocal common equity and investment amounts and enter goodwill and noncontrolling interest in common.NOTE: Noncontrolling interest includes 10% of Goodwill.


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Preliminary computationsCost of 70% interest in Sal January 1, 2008 $490,000Implied total fair value of Sal ($490,000 / 70%) $700,000 Book value acquired of common equity 700,000


Cost of 20% interest in Sal April 1, 2009 $152,000

Implied total fair value of Sal ($152,000 / 20%) $760,000Book value of Sal($850,000 + $22,500 - $12,500 - $100,000) 760,000


Pat’s investment income from Sal for 2009Sal’s net income $ 90,000Less: Preferred income ($100,000 ´ 10%) 10,000

Income to common $ 80,000Income from Sal($80,000 ´ 70% ´ 1 year)+($80,000 ´ 20% ´ 3/4 year) $ 68,000


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Pat Corporation and SubsidiaryConsolidation Working Papers


Pat SalAdjustments and


Income StatementSales $1,233 $ 700 $1,933

Income from Sal 68 a 68

Cost of sales 610* 400* 1,010*


Preacquisition income b 4 4*

Noncontrolling int. share d 18 18*


Retained Earnings

Retained earnings — Pat $ 501 $ 501

Retained earnings — Sal $ 200 b 200


Dividends 200* 50* a 34d 14b 2 200*




Plant assets 900 600 1,500

Investment in Sal** 711 a 34b 677

$2,002 $ 950 $2,241

Current liabilities $ 200 $ 60 $ 260

$10 preferred stock 100 c 100

Common stock 1,200 500 b 500 1,200

Other paid-in capital 50 b 50


$2,002 $ 950

Noncontrolling interest — common b 75

Noncontrolling interest — preferred c 100

Noncontrolling interest December 31 d 4 179

$2,241* Deduct

** Common equity of Sal = $790 x 90% = $711


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Fair value — book value differentialInvestment cost $240,000

Implied total fair value of Sak ($240,000 / 80%) $300,000Less: Book value acquired

Sak’s stockholders’ equity January 1, 2008 $325,000Less: Preferred equity 100,000Sak’s common equity 225,000Excess fair value over book value = Goodwill $ 75,000

Income from Sak for 2009Equity in Sak’s income ($60,000 - $10,000 pf) ´ 80% $ 40,000Add: Intercompany profits beginning inventory ($50,000 ´ 40% ´ 3/5) 12,000Less: Intercompany profits ending inventory ($60,000 ´ 40% ´ 4/6) (16,000)Add: Realization of 80% of $10,000 profit deferred on land from 2005 8,000Add: Constructive gain on bonds ($9,000 ´ 80%) 7,200Less: Piecemeal recognition of gain ($9,000/3 years ´ 1/2 year ´ 80%) (1,200)

Income from Sak $ 50,000

Investment in Sak December 31, 2009Underlying book value ($390,000 - $100,000) ´ 80% $232,000Add: 80% of Goodwill 60,000Less: Unrealized inventory profit (16,000)Add: Constructive gain less 1/2 year piecemeal recognition ($9,000 - $1,500) ´ 80% 6,000

Investment in Sak December 31 $282,000

Noncontrolling interest share — commonSak’s reported income less income to preferred ($60,000 - $10,000) $ 50,000Recognition of previously deferred gain on land 10,000Constructive gain on bonds less 1/2 year piecemeal recognition of gain ($9,000 - $1,500) 7,500Sak’s realized income to common 67,500Noncontrolling interest percentage 20%

Noncontrolling interest share — common $ 13,500


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Solution P10-4 (continued)Pari Corporation and Subsidiary


Pari Sak 80%Adjustments and


Income StatementSales $ 900,000 $ 300,000 a 60,000 $1,140,000

Gain on land 10,000 d 10,000 20,000

Interest income 6,500 e 6,500

Gain on bonds e 9,000 9,000

Income from Sak 50,000 f 50,000

Cost of sales 600,000* 140,000* c 16,000 a 60,000b 12,000 684,000*


Interest expense 10,000* e 5,000 5,000*


Noncontrolling share Preferred i 10,000 10,000*

Noncontrol. Share — common i 13,500 13,500*


Retained Earnings

Retained earnings — Pari $ 132,000 $ 132,000

Retained earnings — Sak $ 50,000 h 50,000


Dividends 100,000* 20,000* f 8,000i 12,000 100,000*



Accounts receivable 26,000 20,000 j 5,000 41,000

Inventories 80,000 60,000 c 16,000 124,000


Land 160,000 30,000 190,000

Plant and equipment 268,000 420,000 688,000

Investment — Sak bonds 92,500 e 92,500

Investment — Sak stock 282,000 b 12,000d 8,000

f 42,000h 260,000

Goodwill h 75,000 75,000

$1,014,000 $ 550,000 $1,243,500

Accounts payable $ 24,000 $ 15,000 j 5,000 $ 34,000

10% bonds payable 100,000 e 100,000


Capital stock 700,000 200,000 h 200,000 700,000

10% preferred stock 100,000 g 100,000


$1,014,000 $ 550,000


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Noncontrolling interest — common (beginning) d 2,000 h 65,000

Noncontrolling interest — preferred (beginning) g 100,000


$1,243,500


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Solution P10-5 [EPS]

Requirement 1 Requirement 2 Diluted Diluted

Skinner’s EPS

Skinner’s net income (equal to income to common stockholders) $ 60,000 $ 60,000Add: Net-of-tax interest on convertible bonds 6,000 NASkinner’s earnings = a $ 66,000 $ 60,000

Skinner’s outstanding common shares 50,000 50,000Add: Shares from assumed conversion of bonds 10,000 NACommon shares and common share equivalents = b 60,000 50,000Skinner’s EPS = a/b $ 1.10 $ 1.20

Palace’s EPSPalace’s net income (equal to income to common stockholders) $150,000 $150,000Add: Net-of-tax interest on convertible bonds of Skinner 6,000Replacement of Palace’s equity in Skinner’s income with Palace’s equity in Skinner’s diluted (42,000) (42,000)a

EPS (35,000 shares ´ $1.10) and convertible 38,500 to Palace securities (35,000 shares ´ $1.20) 42,000a

Palace’s earnings = a $146,500 $156,000

Palace’s outstanding common shares 100,000 100,000Add: Shares from assumed conversion of bonds 10,000Common shares and common share equivalents = b 100,000 110,000Palace’s EPS = a/b $ 1.47 $ 1.42

a When subsidiary securities are convertible into parent company common stock, the replacement calculation is not needed. The replacement is included in this solution only to show that it has no effect on the calculation.


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Basic Diluted Sheridan’s earnings per share

Income to common $ 45,000 $ 45,000Income to preferred assumed converted 10,000

a Earnings $ 45,000 $ 55,000Common shares and common share equivalents:Common shares outstanding 10,000 10,000Add: Common shares issuable on preferred 3,000Add: Incremental shares issuable on options2,000 - [($2,000 ´ $15)/$30] 1,000

b Common and common equivalent shares 10,000 14,000EPS a/b $ 4.50 $ 3.93Pensacola’s earnings per shareIncome to common $150,000 $150,000Replacement calculation

Equity in Sheridan’s income to common ($45,000 ´ 80%) (36,000)a (36,000)Equity in Sheridan’s EPS 8,000 ´ $4.50 basic EPS 36,000a

8,000 ´ $3.93 diluted EPS 31,440a Earnings $150,000 $145,440b Common shares 20,000 20,000

EPS a/b $ 7.50 $ 7.27

a A replacement calculation is never needed when calculating basic earnings per share. It is only included here to illustrate the point that the replacement will have no impact on the earnings per share calculation.


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1 Basic Diluted Starch’s earnings per shareIncome to common $50,000 - $14,000 $36,000 $ 36,000Add: Income to preferred assumed converted 14,000

a Earnings $36,000 $ 50,000Common shares outstanding 6,000 6,000Common shares from conversion of preferred 4,000

b Common and common equivalent shares 6,000 10,000

EPS a/b $ 6.00 $ 5.00

Consolidated earnings per shareNet income to Protein $93,800 $ 93,800Replacement calculation for diluted EPS $36,000 ´ 80% share of realized income (28,800) $5.00 diluted EPS ´ 4,800 shares 24,000

a Earnings $93,800 $ 89,000b Outstanding common shares 20,000 20,000

EPS a/b $ 4.69 $ 4.45

2 Net income of Protein $93,800 $ 93,800Add: Income to preferred 14,000

a Earnings $93,800 $107,800Common stock of Protein 20,000 20,000Common shares from conversion of preferred 5,000

b Common and common share equivalents 20,000 25,000EPS a/b $ 4.69 $ 4.312


Premble’s net income $1,262,000Replacement calculation:

Premble’s equity in Smithfield’s realized income ($500,000 - $60,000) ´ 80% $352,000Premble’s equity in Smithfield’s diluted EPS (40,000 shares ´ $7.44) 297,600 54,400

Consolidated diluted earnings = a $1,207,600Premble’s outstanding common shares = b 100,000Consolidated diluted EPS = a/b $ 12.08


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Basic Diluted Sim’s earnings per shareIncome to common $200,000 $200,000Less: Unrealized profit — upstream sale (20,000) (20,000)Add: Income to preferred 100,000

a Earnings $180,000 $280,000Common shares outstanding 50,000 50,000Add: Shares from conversion of preferred 30,000

Add: Incremental shares from warrants10,000 - ($150,000/$20) 2,500

b Common and common equivalent shares 50,000 82,500EPS a/b $ 3.60 $ 3.3939

Consolidated (and Pike’s) earnings per sharePike’s income to common $450,000 $450,000Replacement calculation

Equity in Sim’s realized income ($200,000 - $20,000) ´ 80% (144,000)

Equity in Sim’s diluted EPS 40,000 ´ $3.39 135,600a Earnings $450,000 $441,600b Outstanding common shares 100,000 100,000

EPS a/b $ 4.50 $ 4.42

Solution P10-10 [Tax]Pactor Corporation

Income Statementfor the current year

(a) (b)Assuming Separate Assuming Consolidated

Tax Returns Tax Return Sales $1,200,000 $1,200,000Gain on sale of land 50,000 50,000Income from Shrama 49,000 49,000Cost of sales (600,000) (600,000)Operating expenses (350,000) (350,000)

Income before income taxes 349,000 349,000Income tax expenseb (85,000) (85,000)

Net income $ 264,000 $ 264,000

Supporting computationsa Income from Shram

Equity in Shram’s income ($150,000 - $51,000 income taxes) ´ 100% $ 99,000 $99,000Less: Unrealized profit (50,000) (50,000)Income from Shram $ 49,000 $49,000

b Income tax expense


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Income tax currently payable:Pactor’s $300,000 taxable income ´ 34% $102,000Consolidated taxable income of $400,000 ´ 34% ´ $250,000/$400,000 $85,000

Deferred income taxes:Deferred tax asset ($50,000 ´ 34%) (17,000)

Income tax expense $ 85,000 $85,000

Note: There is no tax on undistributed income because Pactor and Shram are an affiliated group.


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Solution P10-11 [Tax]


Investment cost $577,500

Implied total fair value of Silky($577,500 / 70%) $825,000Less: Book value of Silky 800,000


1 Income tax expense (separate tax returns required)

Panama Silky Tax on operating income ($500,000 ´ 34%) $170,000 ($200,000 ´ 34%) $ 68,000Tax on dividends received ($50,000 ´ 70%) ´ 20% taxable ´ 34% tax rate 2,380Income taxes currently payable 172,380 68,000Deferred tax on undistributed income ($49,000* ´ 70%) ´ 20% taxable ´ 34% tax rate 2,332Deferred tax asset on unrealized inventory profit ($50,000 ´ 34%) (17,000)

Income tax expense $170,048 $ 51,000

* Undistributed income (Silky’s operating income of $200,000 - $51,000 tax - $50,000 unrealized profit - $50,000 dividends paid) = $49,000

2 Income from Silky

Equity in Silky’s net income ($200,000 - $51,000 tax) ´ 70% $104,300Unrealized inventory profit ($50,000 ´ 70%) (35,000)Income from Silky $ 69,300

3 Panama Corporation and SubsidiaryConsolidated Income Statement


Sales ($5,000,000 - $120,000) $4,880,000Cost of sales ($2,550,000 + $50,000 - $120,000) 2,480,000Gross profit 2,400,000Operating expenses 1,750,000Income before income taxes and noncontrolling interest 650,000Less: Income taxes ($170,048 + $51,000) 221,048Total consolidated income 428,952Less: Noncontrolling interest share ($149,000


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net income - $50,000 unrealized) ´ 30% 29,700

Controlling share of NI $ 399,252

Check: Panama’s separate income ($500,000 - $170,048) $ 329,952Income from Silky 69,300Panama’s and Controlling share of NI $ 399,252


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Pulaski Corporation and SubsidiaryPartial Consolidation Working Papersfor the year ended December 31, 2009

Pulaski70%

StewartAdjustments and

EliminationsNoncont.Interest


Income StatementSales $500,000 $300,000 a 90,000 $ 710,000

Dividends received from Stewart 28,000 c 28,000

Cost of sales 250,000* 120,000* b 10,000 a 90,000 290,000*


Income tax expense 58,222* 34,000* 92,222*

Noncont. Share** $19,800 19,800*

Control. Share - NI $141,778 $ 66,000 $ 149,978

Note: The offsetting credits to entries b and c are to inventory and dividend accounts, respectively.

* Deduct** Noncontrolling interest share = $66,000 ´ 30%

Supporting computationsPulaski Stewart

Income taxes currently payableTaxes on operating income

($172,000 ´ 34%) $58,480($100,000 ´ 34%) $ 34,000

Tax on dividends received($40,000 ´ 70%) ´ 20% taxable ´ 34% tax rate 1,904

60,384 34,000Tax on undistributed income

($26,000 ´ 70%) ´ 20% taxable ´ 34% tax rate 1,238Less: Deferred tax on inventory profit

$10,000 ´ 34% tax rate (3,400)Income tax expense $58,222 $ 34,000

Consolidated net income checkStewart’s net income of $66,000 ´ 70% $ 46,200Less: Unrealized inventory profit (10,000)Income from Stewart — equity basis 36,200Less: Stewart’s income — cost basis (28,000)Cost — equity method difference 8,200Add: Pulaski’s reported net income 141,778Controlling share of NI $149,978


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Preliminary computationsInvestment cost $900,000

Implied total fair value of Soo($900,000 / 90%) $1,000,000Less: Book value of Soo 900,000


Pen SooAdjustments and

Eliminations ConsolidatedSales $800,000 $200,000 $1,000,000

Gain on land sale 20,000 a 20,000

Income from Soo 36,430 b 36,430

Cost of sales (400,000) (75,000) (475,000)

Expenses (150,000) (30,000) (180,000)

Income tax expense (85,000)a (32,300) (117,300)

Noncontrolling share (6,270)

Controlling share of NI $221,430 $ 62,700 $ 221,430

a Pen’s income tax expense is calculated:Sales 800,000Cost of Sales (400,000)Expenses (150,000)Pretax income 250,000Tax rate .34Income tax expense 85,000

Preliminary computationsIncome from Soo for 2009Share of Soo’s net income ($62,700 ´ 90%) $ 56,430Less: Unrealized profit on intercompany sale of land (20,000)

Income from Soo $ 36,430Investment in Soo account December 31, 2009Cost of 90% interest in Soo January 1 $900,000Add: Income from Soo 36,430Less: Dividends from Soo (45,000)

Investment December 31 $891,430

a Gain on sale of land 20,000Land 20,000To eliminate unrealized intercompany profit from downstream sale of land.

b Income from Soo 36,430Investment in Soo 8,570

Dividends from Soo 45,000To eliminate investment income and dividends and return the investment in Soo account to its beginning of the period balance.


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c Capital stock — Soo 500,000Retained earnings — Soo 400,000Goodwill 100,000

Investment in Soo 900,000Noncontrolling interest January 1 100,000To eliminate reciprocal beginning of the period investment and equity balances, establish beginning noncontrolling interest, and enter goodwill.


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1 Allocation scheduleCost of investment = Fair value (100% purchase) $280,000Book value 170,000


Excess allocatedLand $ 40,000Buildings — net 30,000 (10 year life)Equipment — net 10,000 (2 year life)Goodwill for the remainder 30,000


Note: In a taxable combination transaction there are no deferred tax liabilities since the tax basis and book basis are the same. A current tax deduction will affect the future recognized income from Studio Corporation.

2 Allocation scheduleCost (fair value) of investment $280,000Book value 170,000


Excess allocated:Land $ 40,000Buildings — net 30,000 (10 year life)Equipment — net 10,000 (2 year life)Deferred tax liability

($80,000 ´ 35%) (28,000)a

Goodwill for the remainder 58,000Excess fair value over book value $110,000

a On a tax-free reorganization a deferred tax liability must be set up for all the tax basis/book basis differentials, other than goodwill. Since the transaction is recorded at purchase price on the books but has no change in tax basis from the original books, differences in basis occur and are equal to any fair value write-ups of the assets.

3 Parson’s income from Studio for 2009

TaxableStudio’s reported income $ 50,000Less: Depreciation on excess allocated to buildings — net ($30,000/10 years) (3,000)Less: Depreciation on excess allocated to equipment — net ($10,000/2 years) (5,000)Add: Income tax reductions due to the prior adjustments 2,800a

Income from Studio $ 44,800


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a Since all three items are currently deductible for tax purposes they will reduce the income taxes Parson will have to pay.


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Tax freeStudio’s reported income $50,000Less: Depreciation on excess allocated to buildings — net ($30,000/10 years) (3,000)Add: Amortization of deferred tax liability allocated to buildings ($3,000 ´ .35) 1,050Less: Depreciation on excess allocated to equipment — net ($10,000/2 years) (5,000)Add: Amortization of deferred tax liability allocated to equipment ($5,000 ´ .35) 1,750Income from Studio $44,800

Solution P10-15

1 Income tax expense Pommer Sooner

Income taxes currently payable:Taxes on operating income $1,400,000 ´ 34% $476,000 $800,000 ´ 34% $272,000Tax on dividends received: $280,000 ´ 20% taxable ´ 34% tax rate 19,040Income taxes currently payable 495,040 272,000

Tax on undistributed income: $128,000 ´ 70% ´ 20% taxable ´ 34% tax rate 6,093Less: Deferred tax on gain on equipment $400,000 ´ 34% tax rate (136,000)

Income tax expense $365,133 $272,000

2 Loss from Sooner

Income from Sooner on an equity basisSooner’s net income of $528,000 ´ 70% $ 369,600Less: Unrealized gain ($500,000 - $100,000) (400,000)

Income from Sooner — equity basis (loss) $ (30,400)

3 Pommer Corporation and SubsidiaryConsolidated Income Statement

for the year ended December 31, 2009Sales $12,000,000Cost of sales (7,000,000)Gross profit 5,000,000Other expenses ($2,100,000 + $1,200,000 - $100,000) (3,200,000)Income before income taxes 1,800,000


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Income tax expense ($365,133 + $272,000) (637,133)Total consolidated income 1,162,867Less: Noncontrolling interest share ($528,000 ´ 30%) (158,400)Controlling share of NI $ 1,004,467

Check: Pommer’s pretax income of $1,400,000 - $30,400 loss from Sooner - $365,133 income taxes = $1,004,467 Controlling share of NI


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1 Selica’s net income

Pretax income $ 430,000Less: Income tax expense:

Taxes currently payable ($430,000 ´ 34%) $146,200Less: Deferred tax asset — land ($30,000 ´ 34%) (10,200) (136,000)

Selica’s net income $ 294,000

2 Phoenix’s income from Selica

Share of Selica’s net income ($294,000 ´ 90%) $ 264,600Less: Unrealized gain on upstream sale of land ($30,000 ´ 90%) (27,000)Less: Unrealized inventory profit (15,000)Income from Selica on an equity basis $ 222,600

3 Phoenix’s net income

Sales $3,815,000Income from Selica 222,600Less: Cost of sales and expenses (3,200,000)Income before income taxes 837,600Income tax expense ($209,100 currently payable less $5,100a deferred tax asset) (204,000)Net income $ 633,600

a The deferred tax asset is $5,100 deferral for the inventory profit.


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Chapter 11

CONSOLIDATION THEORIES, PUSH-DOWN ACCOUNTING, ANDCORPORATE JOINT VENTURES


1 Parent company theory views consolidated financial statements from the viewpoint of the parent company and entity theory views consolidated financial statements from the viewpoint of the business entity under which all resources are controlled by a single management team. By contrast, traditional theory sometimes reflects the parent company viewpoint and at other times it reflects the viewpoint of the business entity. A detailed comparison of these theories is presented in Exhibit 11–1 of the text.

2 Only contemporary theory is changed by current pronouncements of the Financial Accounting Standards Board. While such pronouncements can and do change the current accounting and reporting practices, they do not change the logic or the consistency of either parent company or entity theory. For example, SFAS Nos. 141R and 160, replaced traditional theory with an almost pure entity approach to preparation of consolidated financial statements.

3 The valuation of subsidiary assets on the basis of the price paid for the controlling interest seems justified conceptually when substantially all of the subsidiary stock is acquired by the parent. But the conceptual support for this approach is less when only a slim majority of subsidiary stock is acquired. In addition, the valuation of the noncontrolling interest based on the price paid by the parent company has practical limitations because noncontrolling interest does not represent equity ownership in the usual sense. The ability of noncontrolling stockholders to participate in management is limited and noncontrolling shares do not possess the usual marketability of equity securities.

4 Consolidated assets are equal to their fair values under entity theory only when the book values of parent company assets are equal to their fair values. Otherwise, consolidated assets are not equal to their fair values under either parent company or entity theories.

5 The valuation of the noncontrolling interest at book value might overstate the equity of noncontrolling shareholders because of the limited marketability of shares held by noncontrolling stockholders and because of the limited ability of noncontrolling stockholders to share in management through their voting rights. Valuation of the noncontrolling interest at book value also overstates or understates the noncontrolling interest unless the subsidiary assets are recorded at their fair values.

6 Consolidated net income under parent company theory and income to the controlling stockholders under entity theory should be the same. This is illustrated in Exhibit 11–5, which shows different income statement amounts for cost of sales, operating expenses, and income allocated to noncontrolling stockholders, but the same income to controlling


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stockholders. Note that consolidated net income under parent company and traditional theories reflects income to controlling stockholders.

7 Income to the parent company stockholders under the equity method of accounting is the same as income to the controlling stockholders under entity theory. But income to controlling stockholders is not identified as consolidated net income as it would be under parent company or traditional theories.

8 Consolidated income statement amounts under entity theory are the same as under contemporary theory when subsidiary investments are made at book value because contemporary theory follows entity theory in eliminating the effects of intercompany transactions from consolidated financial statements.


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9 Traditional theory corresponds to entity theory in matters relating to unrealized and constructive gains and losses from intercompany transactions. In other words, unrealized and constructive gains and losses are allocated between controlling and noncontrolling interests in the same manner under these two theories.

10 Push-down accounting simplifies the consolidation process. The push-down adjustments are recorded in the subsidiary’s separate books at the time of the business combination; thus, it is not necessary to allocate the unamortized fair value-book value differentials in the consolidation working papers.

11 A joint venture is an entity that is owned, operated, and jointly controlled by a small group of investor-venturers to operate a business for the mutual benefit of the venturers. Some joint ventures are organized as corporations, while others are organized as partnerships or undivided interests. Each venturer typically participates in important decisions of a joint venture irrespective of ownership percentage.

12 Investors in corporate joint ventures use the equity method of accounting and reporting for their investment earnings and investment balances as required by APB Opinion No. 18. The cost method would be used only if the investor could not exercise significant influence over the corporate joint venture.

Alternatively, investors in unincorporated joint ventures use the equity method of accounting and reporting as explained in Interpretation No. 2 of APB Opinion No. 18 or proportional consolidation for undivided interests specified as a special industry practice.


Solution E11-1

1 A 5 B2 A 6 C3 C 7 D4 A

Solution E11-2

1 B 4 D2 B 5 C3 D

Solution E11-3

1 cTotal value of Smith implied by purchase price ($720,000/.8)

$900,000


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Noncontrolling interest percentage 20%Noncontrolling interest $180,000

2 aOnly the parent’s percentage of unrealized profits from upstream sales is eliminated under parent company theory.

3 bSubsidiary’s income of $200,000 ´ 10% noncontrolling interest $ 20,000Less: Patent amortization ($70,000/10 years ´ 10%) (700)Noncontrolling interest share $ 19,300


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4 aImplied fair value — $840,000 = patents at acquisitionBook value of 100% of identifiable net assets $840,000Add: Patents at acquisition ($54,000/90%) 60,000Total implied value 900,000Percent acquired 80%Purchase price under entity theory $720,000

5 bPurchase price — ($840,000 ´ 80%) = patents at acquisitionBook value $840,000 ´ 80% = underlying equity $672,000Add: Patents at acquisition ($54,000/90%) 60,000Purchase price (traditional theory) $732,000

Solution E11-4

1 GoodwillParent company theoryCost of investment in Staff $ 500,000Fair value acquired ($400,000 ´ 80%) 320,000Goodwill $ 180,000Entity theoryImplied value based on purchase price ($500,000/.8) $ 625,000Fair value of Staff’s net assets 400,000Goodwill $ 225,000

2 Noncontrolling interestParent company theoryBook value of Staff’s net assets $ 260,000Noncontrolling interest percentage 20%Noncontrolling interest $ 52,000Entity theoryTotal valuation of Staff $ 625,000Noncontrolling interest percentage 20%Noncontrolling interest $ 125,000

3 Total assetsParent company theory

Pond Staff Adjustment Total Current assets $ 20,000 $ 50,000 $ 40,000 ´ 80% $ 102,000Plant assets — net 480,000 250,000 110,000 ´ 80% 818,000Goodwill 180,000

$500,000 $300,000 $1,100,000


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Entity theoryCurrent assets $ 20,000 $ 50,000 $ 40,000 ´ 100% $ 110,000Plant assets — net 480,000 250,000 110,000 ´ 100% 840,000Goodwill 225,000

$500,000 $300,000 $1,175,000


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Solution E11-5

Preliminary computationsParent company theoryCost of 80% interest $300,000Fair value acquired ($350,000 ´ 80%) 280,000Goodwill $ 20,000

Entity theoryImplied total value ($300,000 cost ÷ 80%) $375,000Fair value of Shelly’s net identifiable assets 350,000Goodwill $ 25,000

1 Consolidated net income and noncontrolling interest share for 2009: Parent EntityCompany Theory Theory

Combined separate incomes $550,000 $550,000Depreciation on excess allocated to equipment: $75,000 excess ´ 80% acquired ÷ 5 years (12,000) $75,000 excess ÷ 5 years (15,000)Total consolidated income 538,000 535,000Less: Noncontrolling interest share $50,000 ´ 20% (10,000) ($50,000 -15,000) ´ 20% (7,000)Controlling interest share of NI $528,000 $528,000

2 Goodwill at December 31, 2009: $ 20,000 $ 25,000


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Solution E11-6

Preliminary computation

Interest acquired in Stahl: 72,000 shares ¸ 80,000 shares = 90%

1 Stahl’s net assets under entity theory

Implied value from purchase price: $1,800,000/90% interest $2,000,000

2 Goodwill

a Entity theoryImplied value $2,000,000Less: Fair value and book value of net assets 1,710,000Goodwill $ 290,000

b Parent company theoryCost of 90% interest $1,800,000Fair values of net assets acquired ($1,710,000 ´ 90%) 1,539,000Goodwill $ 261,000

c Contemporary theory (same as entity theory) $ 290,000

3 Investment income from Stahl

Income from Stahl ($80,000 ´ 1/2 year ´ 90% interest) $ 36,000

4 Noncontrolling interest under entity theory

Imputed value of Stahl at July 1, 2009 $2,000,000Add: Income for 1/2 year 40,000

2,040,000Noncontrolling percentage 10%Noncontrolling interest $ 204,000

Alternatively, $200,000 noncontrolling interest at July 1, plus $4,000 share of reported income = $204,000


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Solution E11-7

1 Parent company theory

Combined separate incomes of Palumbo and Seal $800,000Less: Palumbo’s share of unrealized profits from upstream inventory sales ($30,000 ´ 80%) (24,000)Less: Noncontrolling interest share ($300,000 ´ 20%) (60,000)Consolidated net income $716,000

2 Entity theory

Combined separate incomes $800,000Less: Unrealized profits from upstream sales (30,000)Total consolidated income $770,000

Income allocated to controlling stockholders ($500,000 + [$270,000 ´ 80%]) $716,000

Income allocated to noncontrolling stockholders ($300,000 - $30,000) ´ 20% $ 54,000

Solution E11-8 Parent

Traditional Company Entity Theory Theory Theory

Combined separate incomes $180,000 $180,000 $180,000Less: Unrealized inventory profits from downstream sales ($60,000 - $30,000) ´ 50% (15,000) (15,000) (15,000)Less: Unrealized profit on upstream sale of land ($96,000 - $70,000) ´ 100% (26,000) (26,000) ($96,000 - $70,000) ´ 80% (20,800)Less: Noncontrolling interest share ($60,000 - $26,000) ´ 20% (6,800) $60,000 ´ 20% (12,000)Controlling share of net income $132,200 $132,200

Total consolidated income $139,000 Allocated to controlling stockholders $132,200 Allocated to noncontrolling Stockholders ($60,000 - $26,000) ´ 20% $ 6,800


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Solution E11-9 [Push-down accounting]

1 Push down under parent company theoryRetained earnings 800,000Inventories 90,000Land 450,000Buildings — net 270,000Goodwill 360,000

Equipment 180,000Other liabilities 90,000Push down equity 1,700,000

To record revaluation of 90% of the net assets and elimination of retained earnings as a result of a business combination with Pioneer Corporation. Push down equity = ($600,000 fair value — book value differential ´ 90%) + $360,000 goodwill + $800,000 retained earnings.

2 Push down under entity theoryRetained earnings 800,000Inventories 100,000Land 500,000Buildings — net 300,000Goodwill 400,000

Equipment — net 200,000Other liabilities 100,000Push down equity 1,800,000

To record revaluation of 100% of the net assets and elimination of retained earnings as a result of a business combination with Pioneer. Push down equity = $600,000 fair value — book value differential + $400,000 goodwill + $800,000 retained earnings.

Solution E11-10

Each of the investments should be accounted for by the equity method as a one-line consolidation because the joint venture agreement requires consent of each venturer for important decisions. Thus, each venturer is able to exercise significant influence over its joint venture investment irrespective of ownership interest.

The 40 percent venturer:Income from Sun-Belt ($500,000 ´ 40%) $ 200,000Investment in Sun-Belt ($8,500,000 ´ 40%) $3,400,000

The 15 percent venturerIncome from Sun-Belt ($500,000 ´ 15%) $ 75,000Investment in Sun-Belt ($8,500,000 ´ 15%) $1,275,000


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Solution E11-11

In general, VIE accounting follows normal consolidation principles. Under that approach, the noncontrolling interest share would be 90% of VIE earnings, or $450,000. However, the intercompany fees must be allocated to the primary beneficiary, not to noncontrolling interests. Therefore, in this case, noncontrolling interest share would be 90% of $460,000, or $414,000.


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Solution E11-12

As primary beneficiary, Paxel must include Polo in its consolidated financial staements. Additionally, Paxel must make the following disclosures: (a) the nature, purpose, size, and activities of the variable interest entity, (b) the carrying amount and classification of consolidated assets that are collateral for the variable interest entity’s obligations, and (c) lack of recourse if creditors (or beneficial interest holders) of a consolidated variable interest entity have no recourse to the general credit of the primary beneficiary.

Darden will not consolidate Polo, since they are not the primary beneficiary. As in traditional consolidations, only one firm consolidates a subsidiary. However, since Darden has a significant interest in Polo, they must disclose: (a) the nature of its involvement with the variable interest entity and when that involvement began, (b) the nature, purpose, size, and activities of the variable interest entity, and (c) the enterprise’s maximum exposure to loss as a result of its involvement with the variable interest entity.

Solution E11-13

According to FIN 46(R), if an enterprise absorbs a majority of a variable interest entity’s expected losses and another receives a majority of expected residual returns, the enterprise absorbing the losses is the primary beneficiary and must consolidate the variable interest entity. The contractual arrangement makes Laura the primary beneficiary.


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SOLUTION TO PROBLEMS

Solution P11-1

Picody Corporation and SubsidiaryComparative Consolidated Balance Sheets


ParentCompany Theory Entity Theory

AssetsCash $ 52,000 $ 52,000Receivables — net 300,000 300,000Inventories 450,000 450,000Plant assets — neta 1,998,000 2,010,000Patentsb 64,000 80,000

Total assets $2,864,000 $2,892,000

LiabilitiesAccounts payable $ 304,000 $ 304,000Other liabilities 500,000 500,000Noncontrolling interestc 160,000

Total liabilities 964,000 804,000Capital stock 1,000,000 1,000,000Retained earnings 900,000 900,000Noncontrolling interestd 0 188,000

Total stockholders’ equity 1,900,000 2,088,000Total liabilities and stockholders’ equity $2,864,000 $2,892,000

a Parent company theory: Combined plant assets of $1,950,000 + ($80,000 ´ 3/5 undepreciated excess)Entity theory: Combined plant assets of $1,950,000 + ($100,000 ´ 3/5 undepreciated excess)

b Parent company theory: $80,000 patents - $16,000 amortizationEntity theory: $100,000 patents - $20,000 amortization

c Parent company theory: Noncontrolling interest equals Scone’s equity of $800,000 ´ 20%d Entity theory: [Scone’s equity of $800,000 + ($60,000 undepreciated plant assets + $80,000 unamortized patents)] ´ 20%


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Solution P11-2

Preliminary computationImplied value of Pisces based on purchase price ($160,000/.8) $200,000Book value 170,000Excess to undervalued equipment $ 30,000

1 Pisces Corporation and SubsidiaryConsolidated Income Statement


Sales $600,000Less: Cost of sales 380,000

Gross profit 220,000Other expenses $ 80,000Depreciationa 79,500 159,500

Total consolidated net income $ 60,500

Allocation of income to:Noncontrolling interestb $ 4,100

Controlling interest $ 56,400

a $75,000 depreciation - $500 piecemeal recognition of gain on equipment through depreciation + ($30,000 excess ¸ 6 years) excess depreciation

b ($30,000 reported income - $5,000 unrealized gain on equipment + $500 piecemeal recognition of gain on equipment - $5,000 excess depreciation) ´ 20% interest

2 Pisces Corporation and SubsidiaryConsolidated Balance Sheet


AssetsCurrent assets $241,600Plant and equipment — net ($595,000 - $199,500 + 25,000) 420,500Total assets $662,100

Liabilities and equityLiabilities $150,000Capital stock 300,000Retained earningsa 170,000Noncontrolling interestb 42,100Total liabilities and stockholders’ equity $662,100

a Pisces beginning retained earnings $163,600 + Pisces net income $56,400 - Pisces dividends of $50,000b ($190,000 stockholders’ equity + $25,000 excess - $4,500 unrealized gain on equipment) ´ 20%


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Check: $40,000 beginning noncontrolling interest + $4,100 noncontrolling interest share - $2,000 noncontrolling interest dividends = $42,100


19-381

Solution P11-3

Parent company theory1a Income from Sign for 2009 ($90,000 ´ 70%) $ 63,000

1b Goodwill at December 31, 2009 $ 70,000($595,000 cost - $525,000 fair value)

1c Consolidated net income for 2009

Palace’s separate income $300,000Add: Income from Sign 63,000 $363,000

1d Noncontrolling interest share for 2009

Net income of Sign of $90,000 ´ 30% $ 27,000

1e Noncontrolling interest December 31, 2009

Sign’s stockholders’ equity $790,000 ´ 30% $237,000

Entity theory

2a Income from Sign for 2009 ($90,000 ´ 70%) $ 63,000

2b Goodwill at December 31, 2009

Imputed value ($595,000/70%) $850,000Fair value of Sign’s net assets 750,000Goodwill $100,000

2c Total consolidated income for 2009

Income to controlling stockholders ($300,000 + $63,000) $363,000Add: Noncontrolling interest share ($90,000 ´ 30%) 27,000Total consolidated income $390,000

2d Noncontrolling interest share (computed in 2c above) $ 27,000

2e Noncontrolling interest at December 31, 2009

(Book equity $790,000 + $100,000 goodwill) ´ 30% $267,000


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Solution P11-4

Preliminary computationsParent company theoryInvestment in Smedley $224,000Fair value of 80% interest acquired ($240,000 ´ 80%) 192,000

Goodwill $ 32,000

Entity TheoryImplied value of Smedley ($224,000/.8) $280,000Fair value of identifiable net assets 240,000

Goodwill $ 40,000

Pierre used an incomplete equity method in accounting for its investment in Smedley. It ignored the intercompany upstream sales of inventory. Income from Smedley on an equity basis would be:Share of Smedley’s income ($50,000 ´ .8) $ 40,000Less: Unrealized profits in ending inventory from upstream sale ($8,000 ´ 50% ´ 80%) (3,200)Income from Smedley $ 36,800

Pierre Corporation and SubsidiaryComparative Consolidated Income Statements


ParentTraditional Company Entity Theory Theory Theory

Sales $1,000,000 $1,000,000 $1,000,000Less: Cost of sales (575,000) (575,000) (575,000)

Gross profit 425,000 425,000 425,000

Expenses (200,000) (200,000) (200,000)

Less: Unrealized profit on upstream sale of inventory ($23,000 - $15,000) ´ 50% ´ 100% (4,000) (4,000) ($23,000 - $15,000) ´ 50% ´ 80% (3,200)Noncontrolling interest share ($50,000 - $4,000) ´ 20% (9,200) $50,000 ´ 20% (10,000)Consolidated net income $ 211,800 $ 211,800Total consolidated income $ 221,000

Allocated to controlling Stockholders $ 211,800Allocated to noncontrolling Stockholders


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($50,000 - $4,000) ´ 20% $ 9,200


19-384


Pierre Corporation and SubsidiaryComparative Statements of Retained Earnings


Parent Traditional Company Entity Theory Theory Theory

Retained earnings December 31, 2009 $360,000 $360,000 $ 360,000Add: Consolidated net income 211,800 211,800Add: Net income to controlling stockholders 211,800

571,800 571,800 571,800Less: Dividends to controlling stockholders (120,000) (120,000) (120,000)Retained earnings December 31, 2010 $ 451,800 $ 451,800 $ 451,800

Pierre Corporation and SubsidiaryComparative Consolidated Balance Sheets


Parent Traditional Company Entity Theory Theory Theory

AssetsCash $ 110,800 $ 110,800 $ 110,800Accounts receivable 120,000 120,000 120,000Inventory 196,000 196,800 196,000Land 280,000 280,000 280,000Buildings — net 840,000 840,000 840,000Goodwill 32,000 32,000 40,000

Total assets $1,578,800 $1,579,600 $1,586,800

LiabilitiesAccounts payable $ 275,800 $ 275,800 $ 275,800Noncontrolling interest 52,000

Total liabilities 275,800 327,800 275,800

Stockholders’ equityCapital stock 800,000 800,000 800,000Retained earnings 451,800 451,800 451,800Noncontrolling interest 51,200 59,200

Total stockholders’ equity 1,303,000 1,251,800 1,311,000Total equities $1,578,800 $1,579,600 $1,586,800


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Solution P11-5

Packard Corporation and SubsidiaryComparative Balance Sheets


Traditional Entity Theory Theory

AssetsCash $ 70,000 $ 70,000Receivables — net 110,000 110,000Inventories 120,000 120,000Plant assets — net 300,000 300,000Goodwill 40,000 50,000

Total assets $640,000 $650,000

LiabilitiesAccounts payable $ 95,000 $ 95,000Other liabilities 25,000 25,000

Total liabilities 120,000 120,000

Stockholders’ equityCapital stock 300,000 300,000Retained earnings 194,000 194,000Noncontrolling interest ($150,000 - $20,000) ´ 20% 26,000 ($150,000 + $50,000 - $20,000) ´ 20% 36,000

Total stockholders’ equity 520,000 530,000Total equities $640,000 $650,000

Supporting computations Traditional Entity Theory Theory

Cost or imputed value $128,000 $160,000Book value of 80% 88,000Book value of 100% 110,000Goodwill $ 40,000 $ 50,000

Investment cost $128,000Add: 80% of retained earnings increase ($50,000 - $10,000) ´ 80% 32,000Less: 80% of $20,000 unrealized profits (16,000)Investment balance $144,000


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1 X carries its investment in Y on a cost basis. This is evidenced by the appearance of dividend revenue in X Company’s income statement and by the absence of income from subsidiary.

2 X holds 1,400 shares of Y. X Company’s percentage ownership is 70%, as determined by the relationship of X Company’s dividend revenues and Y Company’s dividends paid ($11,200/$16,000). Y has 2,000 outstanding shares ($200,000/$100) and X holds 70% of these, or 1,400 shares.

3 Y Company’s retained earnings at acquisition were $100,000.

Imputed value of Y ($245,000 cost/70%) $ 350,000Less: Patents (applicable to 100%) (50,000)Book value and fair value of Y’s identifiable net assets 300,000Less: Capital stock (200,000)Retained earnings $ 100,000

4 The nonrecurring loss is a constructive loss on the purchase of X bonds by Y Company.

Working paper entry:Mortgage bonds payable (5%) 100,000Loss on retirement of X bonds 3,000

X bonds owned 103,000To eliminate intercompany bond investment and bonds payable and to recognize a loss on the constructive retirement of X bonds.

5 Intercompany sales X to Y are $240,000 computed as follows:

Combined sales ($600,000 + $400,000) $1,000,000Less: Consolidated sales 760,000Intercompany sales $ 240,000

6 Yes, there are other intercompany debts:Intercompany

Combined Consolidated Balances Cash and receivables $143,000 $97,400 $ 45,600Current payables 93,000 53,000 40,000Dividends payable 18,000 12,400 5,600

Y Company owes X Company $40,000 on intercompany purchases and X Company owes Y Company $5,600 dividends.


19-387


7 Adjustment to determine consolidated cost of goods sold:

Consolidated Cost of Goods SoldCombined cost of goods sold

$640,000 $240,000 Intercompany purchases

Unrealized profit in ending inventory 8,000 5,000

Unrealized profit in beginning inventory

403,000 To balance$648,000 $648,000

Consolidated cost of goods sold $403,000

Unrealized profit in ending inventory is equal to the combined less consolidated inventories ($130,000 - $122,000).Unrealized profit in beginning inventory is plugged as follows: ($640,000 + $8,000) - ($240,000 + $403,000) = $5,000

8 Noncontrolling interest share of $8,700 is computed as follows:

Net income of Y $ 34,000Less: Patent amortization ($50,000/10 years) 5,000Adjusted income of Y 29,000Noncontrolling interest percentage 30%Noncontrolling interest share $ 8,700

9 Noncontrolling interest of $117,000 at the balance sheet date is computed:

Stockholders’ equity of Y Company $360,000Add: Unamortized patents 30,000Equity of Y plus unamortized patents 390,000Noncontrolling interest percentage 30%Noncontrolling interest on balance sheet date $117,000

10 Consolidated retained earnings

Retained earnings of X end of year $200,000Add: X’s share of increase in Y’s retained earnings since acquisition ($160,000 - $100,000) ´ 70% 42,000Less: Unrealized profit in Y’s ending inventory (8,000)Less: X’s patent amortization since acquisition $20,000 ´ 70% (14,000)Less: Loss on constructive retirement of X’s bonds (3,000)Consolidated retained earnings — end of year $217,000


19-388

Solution P11-7

1 Entry on Splash’s books at acquisition

Inventories 20,000Land 25,000Buildings — net 50,000Other liabilities 10,000Goodwill 20,000Retained earnings 90,000

Equipment — net 15,000Push-down capital 200,000

To push down fair value — book value differentials.

2 Splash CorporationBalance Sheet

at January 1, 2010AssetsCash $ 30,000Accounts receivable — net 70,000Inventories 80,000

Total current assets $180,000Land $ 75,000Buildings — net 150,000Equipment — net 75,000

Total plant assets 300,000Goodwill 20,000


Liabilities And Stockholders’ EquityAccounts payable $ 40,000Other liabilities 60,000

Total liabilities $100,000Capital stock $200,000Push-down capital 200,000

Total stockholders’ equity 400,000Total liabilities and stockholders’ Equity $500,000

3 If Splash reports net income of $90,000 under the new push-down system for the calendar year 2010, Played’s income from Splash will also be $90,000 under a one-line consolidation.


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Solution P11-8

1 Parent company theoryPreliminary computation:Cost of 80% interest in Sanue $3,000,000Book value acquired ($2,000,000 ´ 80%) 1,600,000

Excess cost over book value acquired $1,400,000Excess allocated to:Inventories $1,600,000 ´ 80% $1,280,000Equipment — net $(500,000) ´ 80% (400,000)Goodwill for the remainder 520,000

Excess fair value over book value acquired $1,400,000

Entry on Sanue’s books to reflect 80% push down:Inventories 1,280,000Goodwill 520,000Retained earnings 1,200,000

Equipment — net 400,000Push-down capital 2,600,000

2 Entity theoryPreliminary computation:Implied value of net assets ($3,000,000/.8) $3,750,000Book value of net assets 2,000,000

Total excess $1,750,000Excess allocated to:Inventories $1,600,000Equipment — net (500,000)Goodwill for remainder 650,000

Total excess $1,750,000

Entry on Sanue’s books to reflect 100% push down:Inventories 1,600,000Goodwill 650,000Retained earnings 1,200,000

Equipment 500,000Push-down capital 2,950,000

3 Noncontrolling interest (Parent company theory)

Sanue’s stockholders’ equity $2,000,000 ´ 20% $ 400,000

4 Noncontrolling interest (Entity theory)

Capital stock $ 800,000Push-down capital 2,950,000


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Stockholders’ equity 3,750,000Noncontrolling interest percentage 20%Noncontrolling interest $ 750,000


19-391

Solution P11-9

1 Push down under parent company theory

Buildings — net 18,000Equipment — net 27,000Goodwill 36,000Retained earnings 20,000

Inventories 9,000Push-down capital 92,000

To record revaluation of 90% of net assets and elimination of retained earnings as a result of a business combination with Power Corporation.

2 Push down under entity theory

Buildings — net 20,000Equipment — net 30,000Goodwill 40,000Retained earnings 20,000

Inventories 10,000Push-down capital 100,000

To record revaluation of net assets imputed from purchase price of 90% interest acquired by Power Corporation.

3 Swing CorporationComparative Balance Sheets

at January 1, 2010

Parent Company Theory Entity TheoryAssetsCash $ 20,000 $ 20,000Accounts receivable — net 50,000 50,000Inventories 31,000 30,000Land 15,000 15,000Buildings — net 48,000 50,000Equipment — net 97,000 100,000Goodwill 36,000 40,000

Total assets $297,000 $305,000

Liabilities and stockholders’ equityAccounts payable $ 45,000 $ 45,000Other liabilities 60,000 60,000Capital stock 100,000 100,000Push-down capital 92,000 100,000Retained earnings 0 0

Total equities $297,000 $305,000


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19-393

Solution P11-10

a Power Corporation and SubsidiaryConsolidation Working Papers

for the year ended December 31, 2010Push down 90% — parent company theory

Power90%

SwingAdjustments and



Income from Swing 37,800 b 37,800

Cost of sales 140,000* 33,000* 173,000*

Depreciation expense 29,000* 24,200* 53,200*

Other operating expenses 45,000* 11,000* 56,000*




Retained Earnings

Retained earnings — Power $ 147,000 $ 147,000

Retained earnings — Swing $ 0


Dividends 60,000* 10,000* b 9,000e 1,000 60,000*


Balance SheetCash $ 63,800 $ 27,000 a 8,000 $ 98,800

Accounts receivable — net 90,000 40,000 a 8,000 122,000


Inventories 20,000 35,000 55,000

Land 40,000 15,000 55,000

Buildings — net 140,000 43,200 183,200

Equipment — net 165,000 77,600 242,600

Investment in Swing 208,800 b 28,800c 180,000

Goodwill 36,000 36,000

$ 736,600 $ 273,800 $ 792,600


Dividends payable 15,000 10,000 d 9,000 16,000


Capital stock 300,000 100,000 c 100,000 300,000

Push-down capital 92,000 c 92,000


$ 736,600 $ 273,800


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Noncontrolling interest January 1 c 12,000


$ 792,600* Deduct


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Solution P11-10 (continued)b Power Corporation and Subsidiary


Push down 100% — entity theory

Power90%

SwingAdjustments and



Income from Swing 37,800 b 37,800

Cost of sales 140,000* 32,000* 172,000*


Other operating expenses 45,000* 11,000* 56,000*




Retained Earnings

Retained earnings — Power $ 147,000 $ 147,000

Retained earnings — Swing $ 0


Dividends 60,000* 10,000* b 9,000e 1,000 60,000*


Balance SheetCash $ 63,800 $ 27,000 a 8,000 $ 98,800

Accounts receivable — net 90,000 40,000 a 8,000 122,000


Inventories 20,000 35,000 55,000

Land 40,000 15,000 55,000

Buildings — net 140,000 45,000 185,000

Equipment — net 165,000 80,000 245,000

Investment in Swing 208,800 b 28,800c 180,000

Goodwill 40,000 40,000

$ 736,600 $ 282,000 $ 800,800


Dividends payable 15,000 10,000 d 9,000 16,000


Capital stock 300,000 100,000 c 100,000 300,000

Push-down capital 100,000 c 100,000


$ 736,600 $ 282,000


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Noncontrolling interest January 1 c 20,000


$ 800,800* Deduct


19-397

Solution P11-11

Pepper Corporation and SubsidiaryProportionate Consolidation Working Papers


Pepper Jerry 40%Adjustments and


Income StatementSales $ 800,000 $ 300,000 b 180,000 $ 920,000

Income from Jerry 20,000 a 20,000

Cost of sales 400,000* 150,000* b 90,000 460,000*

Depreciation expense 100,000* 40,000* b 24,000 116,000*

Other expenses 120,000* 60,000* b 36,000 144,000*

Net income $ 200,000 $ 50,000 $ 200,000

Retained Earnings

Retained earnings — Pepper $ 300,000 $ 300,000

Venture equity — Jerry $ 250,000 b 250,000

Net income 200,000 50,000 200,000

Dividends 100,000* 100,000*

Retained earnings/ Venture equity $ 400,000 $ 300,000 $ 400,000

Balance SheetCash $ 100,000 $ 50,000 b 30,000 $ 120,000

Receivables — net 130,000 30,000 b 18,000 142,000

Inventories 110,000 40,000 b 24,000 126,000

Land 140,000 60,000 b 36,000 164,000

Buildings — net 200,000 100,000 b 60,000 240,000

Equipment — net 300,000 180,000 b 108,000 372,000

Investment in Jerry 120,000 a 20,000b 100,000

$1,100,000 $ 460,000 $1,164,000

Accounts payable $ 120,000 $ 100,000 b 60,000 $ 160,000

Other liabilities 80,000 60,000 b 36,000 104,000

Common stock, $10 par 500,000 500,000

Retained earnings 400,000 400,000

Venture equity — Jerry 300,000

$1,100,000 $ 460,000 $1,164,000* Deduct


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Chapter 12

Derivatives and Foreign Currency Transactions


1 Derivative is the name given to a broad range of financial securities. Their common characteristic is that the derivative contract’s value to the investor is directly related to fluctuations in price, rate, or some other variable that underlies it. Interest rate, foreign currency exchange rate, commodity prices and stock prices are common types of prices and rate risks that companies hedge.

2 Hedge accounting refers to accounting designed to record changes in the value of the hedged item and the hedging instrument in the same accounting period. This enhances transparency because the hedged item and hedging instrument accounting are linked. Prior to hedge accounting, the financial statement effect of the hedged item and hedging instrument were not linked. Since companies enter into hedges to mitigate risks, the accounting should reflect the effect of this strategy and should clearly communicate the strategy. The accounting and footnote disclosures required for derivatives attempt to do this.

3 An option is a contract that allows the holder to buy or sell a security at a particular date. The holder is not obligated to buy or sell the security. They may allow the contract to expire. Typically, the holder must pay an upfront fee to the writer of the option.

A forward contract and futures contract are similar because both sides of the contract are obligated to perform. A forward contract is negotiated between two parties, they agree upon delivering a certain quantity of goods or currency at a specific date in the future. Many allow net settlement which means the “winner” of the contract receives cash consideration for the difference between the market price of the commodity and the contracted amount on the date the contract expires. The initial amount exchanged at the date the contract is entered into is negligible.

A futures contract is traded on a market. The amount of commodity to be exchanged and the date of delivery are standardized. The futures rate is determined by the market at the date the contract is entered into. These contracts are settled daily.

4 Hedge effectiveness involves assessing how well the hedge mitigates the gains or losses of the asset, liability and/or anticipated transaction that it is entered into to mitigate.

The most common approaches to determining hedge effectiveness are critical term analysis and statistical analysis.


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Under critical term analysis, the nature of the underlying variable, the notional amount of the derivative and the item being hedged, the delivery date of the derivative and the settlement date for the item being hedged are examined. If the critical terms of the derivative and the hedged item are identical, then an effective hedge is assumed.

A statistical approach is used if critical terms don’t match. One such approach involves comparing the correlation between changes in the price of the item being hedged and the derivative. While the FASB does not specify a specific benchmark correlation coefficient, correlations of between 80% and 125% are considered to be highly effective. Outside of these ranges, the hedge would not be considered highly effective.

5 Under a firm purchase or sales commitment, if the hedge is considered to be effective, then it would qualify as a fair value hedge.

6 A company that has an existing loan that involves a variable or floating interest rate enters into a pay-fixed, receive variable swap. The company is swapping its variable interest rate payments for fixed ones. These contracts are typically settled net. For example, if the fixed rate agreed upon is 10% for the term of the swap agreement and in one year the variable rate is 9%, then the company with the variable rate loan must pay the difference in rates multiplied by the notional amount of the loan to the other party. If the variable rate is 12%, then the company will receive the difference in rates multiplied by the notional amount of the loan. Regardless of the movement in interest rates over the term of the swap, the company will pay the fixed rate, net. This type of swap is aimed at reducing the variability in cash flows related to the debt therefore it is designated as a cash flow hedge.

7 A receive fixed, pay variable swap is entered into if a company has an existing loan that involves a fixed interest rate and desires to swap those fixed payments for variable payments. For example, a company has a loan with an 8% fixed rate and enters into a swap arrangement so that it will pay LIBOR + 1%. If the variable rate for a year is 9%, then the company will pay 1% multiplied by the notional amount as well as the 8% for the loan. Thus, the company has paid 9%, the floating rate.

If the variable rate is 6% (5% LIBOR + 1%), then the company will pay 8% on the loan, but will receive 2% related to the swap. Thus, the company will pay 6%, the floating rate.

This type of swap is aimed at reducing the variability in the fair value of the underlying loan therefore it is designated as a fair value hedge.

8 Fair value hedge accounting is used when the company is attempting to reduce the price risk of an existing asset/liability or firm purchase/sale commitment. Cash flow hedge accounting is appropriate when the company is attempting to reduce the variability in cash flows thus it is appropriate when hedging anticipated purchases and sales.


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Under certain circumstances, hedges of existing foreign currency denominated receivables and payables are accounted for as cash flow hedges instead of fair value hedges. See question 18’s solution for these cases.

9 A transaction is measured in a particular currency if its magnitude is expressed in that currency. Assets and liabilities are denominated in a currency if their amounts are fixed in terms of that currency.

10 Direct quotation: 1.20/1 = $1.20Indirect quotation: 1/1.20 = .83 euros per dollar

11 Official or fixed rates are set by a government and do not change as a result of changes in world currency markets. Free or floating exchange rates are those that reflect fluctuating market prices for currency based on supply and demand factors in world currency markets. The United States changed from fixed to floating (free) exchange rates in 1971. But the U.S. dollar is sometimes described as a “filthy float” because the United States has frequently engaged in currency transactions to support or weaken the dollar against other currencies. Such action is taken for economic reasons, such as to make U.S. goods more competitive in world markets. Both Japan and Germany have engaged in currency transactions in an attempt to support the U.S. dollar. In February 1987, the United States and six other industrial nations (the Group of 7 or G-7) entered the Louvre accord to cooperate on economic and monetary policies in support of agreed upon exchange rate levels.

12 Spot rates are the exchange rates for immediate delivery of currencies exchanged. The current rate for foreign currency transactions is the spot rate in effect for immediate settlement of the amounts denominated in foreign currency at the balance sheet date. Historical rates are the rates that were in effect on the date that a particular event or transaction occurred. Spot rates could be fixed rates if the currency was a fixed rate currency as determined by the government issuing the currency.

13 The transaction is a foreign transaction because it involves import activities, but it is not a foreign currency transaction for the U.S. firm because it is denominated in local currency. It is a foreign currency transaction for the Japanese company.

14 At the transaction date, assets and liabilities denominated in foreign currency are translated into dollars by use of the exchange rate in effect at that date, and they are recorded at that amount.

At the balance sheet date, cash and amounts owed by or to the enterprise that are denominated in foreign currency are adjusted to reflect the current rate. Assets carried at market whose current market price is stated in a foreign currency are adjusted to the equivalent dollar market price at the balance sheet date.

15 Exchange gains and losses occur because of changes in the exchange rates between the transaction date and the date of settlement. Both exchange gains and exchange losses can


19-401

occur in either foreign import activities or foreign export activities. The statement is erroneous.

16 Exchange gains and losses on foreign currency transactions are reflected in income in the period in which the exchange rate changes except for hedges of an identifiable foreign currency commitment where deferral is possible if certain requirements are met. Also hedges of a net investment in a foreign entity are treated as equity adjustments from translation. Intercompany foreign currency transactions of a long-term nature are also treated as equity adjustments.

17 There will be a $20 exchange loss in the period of purchase and a $10 exchange gain in the period of settlement:

Billing datePurchases $1,450

Accounts payable (fc) $1,450Year-end adjustment

Exchange loss $ 20Accounts payable (fc) $ 20

Settlement dateAccounts payable (fc) $1,470

Cash $1,460Exchange gain 10

18 Cash flow hedge accounting can be used when hedging recognized currency denominated assets and liabilities if the variability of cash flows is completely eliminated by the hedge. This criterion is generally met if all of the critical terms of the hedged item and the hedge match such as the settlement date, currency type and currency amounts. If these don’t match then it must be accounted for as a fair value hedge.

The key difference between this situation and the more general cash flow hedge case is that an existing asset or liability is being accounted for here. Under the more general case, the recognition of gains and losses is deferred because an anticipated transaction is being hedged. The foreign currency asset or liability is marked to fair value at year-end and the resulting gain or loss account is recognized, however, the gain or loss is offset by reclassifying an equal amount from other comprehensive income. Thus, the asset and liability are marked to fair value, but no gain or loss related to that adjustment is included in current period income.

The premium or discount related to the hedge contract is amortized to income over the length of the contract using the effective interest method. For example, if a 100,000 euro foreign currency receivable due in 60 days is recorded at the spot rate of $1.20/euro or $120,000 and at the same date, a forward contract is entered into to deliver 100,000 euros in 60 days at a forward rate of $1.18, the company knows that it will lose $2,000. This $2,000 must be amortized to income over the 60 day period.


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19 International Accounting Standards No. 32 and 39 prescribe the accounting for derivatives. Their requirements are similar to SFAS No. 133 and 138 in terms of determining when hedge accounting can be used. The requirements for determining hedge effectiveness are very similar. Both fair value and cash flow hedge definitions and general requirements are similar. However, under IAS 39, firm sale or purchase commitments can be accounted for as either fair value or cash flow hedges which differs from the FASB requirement that they must be accounted for as fair value hedges.

20 A forward contract of an anticipated foreign currency transaction is accounted for as a cash flow hedge. The contract is marked to fair value at each financial date and the corresponding gain or loss is included in other comprehensive income. Any premium or discount must be amortized to income over the contract term using an effective interest rate method. The gain (loss) credit (debit) is offset by a debit (credit) from other comprehensive income.

When the anticipated transaction occurs and the forward contract is settled, the resulting other comprehensive income balance is amortized to income in the same period as the underlying transaction is recognized in income.


19-403


Solution E12-1

1 a. December 1, 2008 No entry is necessary

b. December 31, 2008Other Comprehensive Income (-SE) $9,901

Forward Contract (+L) $9,901

Forward contract value at 12/31/08($1,000 - $980)*500 = $10,000/(1.005)2= $9,901 liability

c. Settlement date February 28, 2009

Forward Contract (-L) $9,901Forward Contract (+A) 2,500 Other Comprehensive Income (+SE) $12,401

Forward contract value at 2/28/09($1,000 - $1,005)*500 = $2,500 asset. The forward contract liability at 12/31/08 is eliminated and the asset established. Accordingly, the corresponding credit to other comprehensive income, $12,401, will result in an ending balance of $2,500 credit in other comprehensive income.

Rice Inventory ($1,005 * 500) $502,500 Cash $502,500

To record the rice purchase at market price

Cash $2,500 Forward Contract (-A) $2,500

To record the forward contract settlement

2 Cash $600,000 Sales $600,000

Cost of Goods Sold $500,000Other Comprehensive Income 2,500 Inventory $502,500

Solution E12-2

1 a. December 1, 2008 No entry is necessary

b. December 31, 2008Loss on forward contract $9,901 Forward Contract $9,901Forward contract value at 12/31/08($1,000 - $980)*500 = $10,000/(1.005)2= $9,901 liability


19-404

Firm Purchase Commitment $9,901 Gain on firm purchase commitment $9,901

c. Settlement date February 28, 2009

Forward Contract $9,901Forward Contract 2,500 Gain on forward contract $12,401Forward contract value at 2/28/09($1,000 - $1,005)*500 = $2,500 asset.

Loss on firm purchase commitment $12,401 Firm purchase commitment (-A) $9,901 Firm purchase commitment (+L) 2,500

Rice Inventory $500,000Firm purchase commitment 2,500 Cash $502,500

To record the rice purchase at market price

Cash $2,500 Forward Contract (-A) $2,500

To record the forward contract settlement

2. Cash $600,000 Sales $600,000

Cost of Goods Sold $500,000 Inventory $500,000

Solution E12-3

1 November 1, 2008 Memorandum entry only

December 31, 2008

2 Loss on forward contract $49,751 Forward Contract $49,751

(100,000 x .50)/1.05To record the change in fair value of the forward contract attributable to the discounted change in the forward price

2 Loss on firm sales commitment $49,751Firm sales commitment $49,751

To record the change in fair value of the firm commitment


19-405

January 31, 20093 Forward Contract $149,751

Gain on forward contract $149,751($6-$5= 1.00 x 100,000)

(To record the change in fair value of the forward contract attributable to the discounted change in the forward price

3 Firm Sales Commitment $149,751Gain on firm sales commitment $149,751

(To record the change in fair value of the firm commitment to sell)

3 Cash from firm sales commitment $500,000Widget inventory (B/S) $500,000COGS $500,000Gain on firm sales commitment $100,000

Cash for forward contract purchase $500,000Widget inventory (B/S) $500,000Sales $600,000

To record the settlement of the forward contract at January 31, 2009, and purchase of 100,000 widgets and sale pursuant to the contract

Solution E12-4 (Using a mixed attribute model; other solutions are acceptable)

October 1, 20081 Earnings $49,012

Forward contract $49,012(100,000 x ($2.00 - $1.50))/(1.05)^4

To record the change in fair value of the forward contract attributable to the discounted change in the forward price

1 Inventory $50,000Earnings $50,000

To record inventory marked to market

December 31, 20082 Forward contract $49,751

Earnings $49,751(100,000 x ($2.00 - $2.50))/(1.05)To record the change in fair value of the forward contract attributable to the discounted change in the forward price


19-406

2 Earnings $50,000Inventory $50,000

To record inventory marked to market

January 31, 20093 Cash $200,000

Earnings 739Forward Contract (-A) $200,739

To record the forward contract settlement(100,000 x ($2.00 -$2.30)

3 Cash $200,000Inventory $200,000

To sell inventory on contract

Solution E12-5

1 b2 d3 d

Solution E12-6

1 The dollar has weakened against the yen because it now costs more dollars to buy one yen.

2 10,000,000 yen ´ $.0075 = $75,000

3 Accounts payable $75,000Exchange loss 1,000

Cash $76,000

4 Zimmer would have entered a contract to purchase yen for future receipt.

Solution E12-7

December 16, 2008Inventory $36,000

Accounts payable (euros) $36,000To record purchase of merchandise from Wing Corporation for 30,000 euros at $1.20 spot rate.

December 31, 2008


19-407

Exchange loss $ 1,500Accounts payable (euros) $ 1,500

To adjust accounts payable to Wing: ($1.25 - $1.20) ´ 30,000 euros.

January 15, 2009Accounts payable (euros) $37,500

Exchange gain $ 300Cash 37,200

To record payment of 30,000 euros at $1.24 spot rate in settlement of account payable and to recognize gain.

Solution E12-8

Adjustment in value of account receivable for 2008:($.84 - $.80) ´ 90,000 C$ = $3,600 exchange gain

Adjustment in value of account receivable at settlement in 2009:($.83 - $.84) ´ 90,000 C$ = $900 exchange loss

Solution E12-9

May 1, 2008Accounts receivable (fc) $333,333

Sales $333,333To record sale of inventory items to Royal for 200,000 pounds: 200,000 pounds/.6000 pounds (indirect quotation).

May 30, 2008Cash (fc) $330,579Exchange loss 2,754

Accounts receivable (fc) $333,333To record receipt of 200,000 pounds from Royal in settlement of accounts receivable: 200,000 pounds/.6050 pounds.


1Receivable at 10/15/08 $420,000Euros received and sold for U.S. dollars on 11/16/08

415,000

Foreign exchange loss 2008 5,000


19-408

2 On December 31, 2008 Yumi Corp. adjusts its account payable denominated in euros from $12,000 (10,000*.$1.20) to $12,400 (10,000 ´ $1.24) and recognizes a loss of $400 [10,000 LCU ´ ($1.24 - $1.20)]

3December 31, 2008 note payable $240,000July 1, 2009 note payable 280,0002009 exchange loss $(40,000)

4Note receivable December 31, 2008 $140,000Amount collected July 1, 2009 (840,000 LCU ¸ 8) 105,0002009 exchange loss $ 35,000

Solution E12-11

1 Exchange gain or loss in 2008: Gain or (Loss)Account receivable December 16 $103,500December 31 adjusted balance

150,000 C$ ´ $0.68 102,000 $(1,500)Account payable December 2 $195,250December 31 adjusted balance

275,000 C$ ´ $0.68 187,000 8,250Net exchange gain for 2008 $ 6,750

2 Exchange gain or loss in 2009:Account receivable adjusted 12/31 $102,000Account receivable 1/15/09 101,250 $ (750)Account payable adjusted 12/31 $187,000Account payable 1/30/09 188,375 (1,375)Net exchange loss for 2009 $(2,125)

Solution E12-12

1 December 12, 2008Inventory $375,000 Accounts payable (yen) $375,000

Purchase from Toko Company (50,000,000 yen ´ $.00750).

December 15, 2008Accounts receivable (pounds) $ 66,000


19-409

Sales $ 66,000Sale to British Products Company (40,000 pounds ´ $1.65).

2 December 31, 2008Exchange loss $ 5,000 Accounts payable (yen) $ 5,000

To adjust accounts payable denominated in yen for exchange rate change: 50,000,000 yen ´ ($.00760 - $.00750).

Exchange loss $ 2,000 Accounts receivable (pounds) $ 2,000

To adjust accounts receivable denominated in pounds for exchange rate change: 40,000 pounds ´ ($1.65 - $1.60).

3 January 11, 2009Accounts payable (yen) $380,000Exchange loss 2,500 Cash $382,500

To record payment to Toko Company (50,000,000 yen ´ $.00765).

January 14, 2009Cash $ 65,200

Accounts receivable (pounds) $ 64,000 Exchange gain 1,200

To record receipt from British Products Company: 40,000 pounds ´ $1.63.

Solution E12-13

March 1, 2008Inventory $16,300

Accounts payable (pesos) $16,300To record purchase of inventory items denominated in pesos:100,000 pesos ´ $.1630.

Forward contract—no entry is necessary

May 30, 2008Cash (pesos) $16,000Exchange loss 500

Cash $16,500To record receipt of 100,000 pesos from the exchange broker when the exchange rate is $.1600. Exchange loss: 100,000 pesos ´ ($.1650 - $.1600).

Accounts payable (pesos) $16,300Cash (pesos) $16,000Exchange gain 300


19-410

To record payment to Cavilier of 100,000 pesos. Gain: 100,000 pesos ´ ($.1630 - $.1600).

Solution E12-141 December 1, 2008

Inventory $5,500 Accounts Payable (yen) $5,500

Spot rate is $.00055*10,000,000 = $5,500

No entry is necessary related to the forward contract is necessary at this date.

December 31, 2008Exchange Loss $100 Accounts Payable (yen) $100Entry to mark the accounts payable to the spot rate at year-end.

Other Comprehensive Income $100 Exchange gain $100Amount reclassified out of other comprehensive income in order to offset

the exchange loss since this is a cash flow hedge situation.

Exchange Loss $99.10 Other comprehensive income $99.10

The discount resulting from the forward contract is amortized to income over the contract’s term. To solve for the effective interest rate $5,500*(1+r)2= $5,700. $5,700 = the forward rate .00057*10,000,000 = $5,700. Solving for r= 1.80195%. The discount amortization for this is .0180195*$5,500 = $99.10.

Summary: A loss of $99.10 is reflected in 2008 income.

2 January 30, 2009Exchange Loss $100

Accounts Payable $100To mark Accounts Payable to spot rate

Cash (yen) $5,700Cash $5,700

To record receipt of 10,000,000 pesos from the exchange broker.

Other Comprehensive Income $100Exchange Gain $100

To record payment of cash to the exchange broker.


19-411

Exchange Loss $100.90Other Comprehensive Income $100.90

To record amortization of discount for the last portion of the forward contract’s term.

Summary: A loss of $100.90 is reflected in 2009 income. Notice that the balance in Other Comprehensive Income is now $0. (12/31/08 $100 debit – $99.10 credit = $.90 debit 12/31/08. $.90 debit + 100 debit - $100.90 credit = $0 balance at 1/30/09).


1 Assuming that this is a fair value hedge. At 12/31/08, $3,000 is the forward contract fair value [100,000*($.90 forward rate contracted - $.93 Forward contract rate at 12/31/08) = $3,000].

Since this contract will not be settled for 72 days, the present value of the contract is $2,929 using .03288% [i=12%/365 days] , n=72 and future value of $3,000. The exchange gain related to this contract is recorded at 12/31/08 and the forward contract asset account is debited. December 31, 2008Forward Contract $2,929 Exchange Gain $2,929

To record forward contract at market

Exchange Loss $10,000 Accounts Payable $10,000

To mark accounts payable to fair value at 12/31/08 (this assumes that the accounts payable was marked to market on 12/12/08, the date the forward contract was entered into)

2 This firm purchase commitment would be accounted for as a fair value hedge. December 31, 2008Forward Contract $2,929 Exchange Gain $2,929

Exchange Loss $2,929 Firm purchase commitment $2,929

3 The forward contract would again be recorded at fair value throughout the life of the contract. Therefore, a $2,929 gain would be reported at 12/31/08.

Solution E12-16

April 1, 2008Contract receivable $35,250


19-412

Contract payable (fc) $35,250To record forward contract to sell 50,000 Canadian dollars to the exchange broker at the forward rate of .705 for delivery on May 31 for $35,250.

May 31, 2008Cash (fc) $36,250

Sales $36,250To record sale of fittings to Windsor for 50,000 Canadian dollars: ($.725 ´ 50,000 Canadian)

Contract payable (fc) $35,250Exchange loss on forward contract 1,000

Cash (fc) $36,250To record payment of the contract denominated in Canadian dollars to the exchange broker.

Cash $35,250Contract receivable $35,250

To record receipt of the $35,250 from the exchange broker to settle the account receivable denominated in U.S. dollars.

Sales $ 1,000Exchange loss $ 1,000

To reclassify exchange loss on forward contract as an adjustment of the selling price.

Alternative solution:On April 1, 2008, no entry is necessary if the forward contract allowed net settlement. If this is the case, the May 31, 2008 entries would be:

May 31, 2008Cash $36,250

Sales $36,250To record sale of fittings to Windsor for 50,000 Canadian dollars: ($.725 ´ 50,000 Canadian). Assuming immediate conversion of the Canadian dollars to U.S. dollars at the current exchange rate.

Exchange loss on forward contract 1,000Cash $1,000

To record net settlement of the exchange contract.

Sales $ 1,000Exchange loss $ 1,000


19-413

To reclassify exchange loss on forward contract as an adjustment of the selling price.

Solution E12-17

1 Entry on November 2 for contract with the exchange broker:

Contract receivable (fc) $ 7,800Contract payable $ 7,800

To record contract to purchase 1,000,000 yen in 90 days at the future rate.

If this contract allowed for net settlement, then no entry would be necessary on November 2.

2 No journal entry needed as the 30-day future rate at the end of the year is at $.0078 which was the same rate as the 90-day rate on November 2.

Solution E12-18Comment: The contract receivable and payable are both recorded instead of recording the contract net because Martin must deliver the euros to the exchange broker, net settlement is not allowed.

October 2, 2008Contract receivable $653,000

Contract payable (fc) $653,000To record contract to sell 1,000,000 euros to exchange broker in 180 days for the forward rate of $.6530.

December 31, 2008Contract payable (fc) $ 12,000

Exchange gain $ 12,000To adjust contract payable in euros to the 90-day forward rate of $.6410.

March 31, 2009Contract payable (fc) $641,000Exchange loss 14,000

Cash (fc) $655,000To record payment of 1,000,000 euros to exchange broker when spot rate is $.6550.

Cash $653,000Contract receivable $653,000

To record receipt of U.S. dollars from exchange broker in settlement of account.


19-414


Solution P12-1

1. This hedge is designed to mitigate the impact of price changes on natural gas. Since one would expect that natural gas price changes and futures market prices of natural gas to be highly correlated, this is likely to be a highly effective hedge.

2. This would be accounted for as a cash flow hedge since this is a hedge of an anticipated transaction.

3. November 2, 2008Futures contract $100,000

Cash $100,000Deposit is $5,000 * 20 contracts = $100,000

December 31, 2008Other Comprehensive Income $50,000

Futures Contract $50,000At 12/31/08, the futures contract price for delivery on the same date as our contract is

$6.75 - $7.00 = $.25 loss per MMBtu * 10,000 * 20 contracts = $50,000 loss.

February 2, 2009Futures contract $20,000

Other Comprehensive Income $20,000$6.85 - $6.75 = $.10 * 10,000 * 20 contract = $20,000 gain

Cash $70,000Futures contract $70,000

To record final settlement of futures contract.

Gas Inventory $1,370,000Cash $1,370,000

To record the purchase of natural gas at market rates.

February 3, 2009Cash $1,600,000

Gas Revenue $1,600,000To record gas sale at $8.00 per MMBtu

Cost of Goods Sold $1,370,000Gas Inventory $1,370,000


19-415

Cost of Goods Sold $30,000Other Comprehensive Income $30,000

To record cost of goods sold so that it reflects the futures contract rate per the hedging contract, $7.00 per MMBtu.

Solution P12-2

NOTE: Parts 4 and 5 below are computed using the corrected market prices of $9 per troy ounce on December 31, 2008 (part 4) and $9.50 on February 1, 2009 (part 5). The market prices listed in the problem are incorrect.

1. Yes, because the terms of the purchase commitment and the hedge instrument match.

2. This is a fair value hedge because a firm purchase commitment is being hedged instead of an anticipated purchase.

3.Silver options $1,000

Cash $1,000

4. December 31, 2008Loss on firm purchase commitment $1,194,030 Change in value of firm purchase commitment $1,194,030

Silver options $1,193,030Gain $1,193,030

1,200,000 * $1 change ($10-$9) = $1,200,000 which will occur in 1 month (purchase and option expiration). $1,200,000/1.005 = $1,194,030. This is the present value of the firm purchase commitment and the option at 12/31/08 assuming 6% annual interest.

Since the option already has a $1,000 balance, $1,193,030 will need to be recorded.

5. Change in value of firm purchase commitment $594,030

Gain $594,030To record the change in the firm purchase commitment. ($9 - $9.50)* 1,200,000. The ending balance is $600,000 after this adjustment.

Loss $594,030Silver option $594,030

The silver options value has also declined. However, the company will still exercise the option.

Cash $600,000


19-416

Silver option $600,000To record exercise of option.

Silver inventory $11,400,000Change in value of firm purchase commitment 600,000

Cash $12,000,000To record purchase of silver inventory.

Solution P12-3

1 The purpose of this hedge is to reduce variability in cash flows in the future since the firm entered into a variable interest loan and is swapping that for a fixed interest rate. This is therefore a cash flow hedge.

2 One would expect that this is a highly effective hedge because the notional amount, $400,000 and the length of the term of the swap agreement agree.

3 a. The LIBOR rate at 12/31/08 is 5%, thus 2009’s interest rate on the variable loan will be 5% + 2% = 7%. The swap fixed rate is 8%. Campion will pay .01 percent more than the variable rate. The fair value of the swap is the present value of the estimated future net payments.

Date of payment Estimated payment based on 12/31/08 LIBOR rate

Factor Present Value

12/31/09 .01*$400,000 1/(1.07) $ 3,73812/31/10 .01*$400,000 1/(1.07)2 3,49312/31/11 .01*$400,000 1/(1.07)3 3,26512/31/12 .01*$400,000 1/(1.07)4 3,051Total $13,547

b. December 31, 2008 Other Comprehensive Income (-SE) $13,547

Interest Rate Swap (+L) $13,547To record the fair value of interest rate swap, cash flow hedge at 12/31/08.

Interest Expense $32,000Cash $32,000

To record interest payment.

4. December 31, 2009Interest Expense $28,000

Cash $ 28,000


19-417

To record payment to Veneta Bank of the interest expense for the year under the variable rate loan. The rate set on the loan at 1/1/09 was 7%.

Interest Expense $ 4,000Cash $ 4,000

To record the payment due on the interest rate swap because the fixed rate is 8%. This represents the net settlement amount.

Interest rate swap (-L) $ 8,347Other Comprehensive Income (+SE) $ 8,347

To record the change in fair value of the interest rate swap.

The new variable rate for 2010 which is set at 12/31/09 is 5.5% + 2%. As a result, the estimated amount that Campion would pay is reduced from 1% to .5%.

Date of payment Estimated payment based on 12/31/08 LIBOR rate


12/31/08 .005*$400,000 1/(1.075) $ 1,86012/31/09 .005*$400,000 1/(1.075)2 1,73112/31/10 .005*$400,000 1/(1.075)3 1,610Total $ 5,200

The unadjusted Interest Rate Swap liability is $13,547 credit, the adjusted is $5,200 credit, the Interest Rate Swap Liability must be reduced by $8,347.

Solution P12-4

1, 2 Per Balance Exchange Gain Books Sheet or (Loss)

Accounts receivableU.S. dollars $28,500 $28,500

Swedish Krona (20,000 ´ $.66) 11,800 13,200 $1,400British pounds(25,000 ´ $1.65) 41,000 41,250 250

$81,300 $82,950 1,650Accounts payableU.S. dollars $ 6,850 $ 6,850Canadian dollars (10,000 ´ $.70) 7,600 7,000 $ 600British pounds (15,000 ´ $1.65) 24,450 24,750 (300)

$38,900 $38,600 300Net exchange gain $1,950

3 Collect receivables:

Cash $28,500


19-418

Accounts receivable $28,500To record collection of accounts receivable.

Cash $13,400Accounts receivable (Krona) $13,200Exchange gain 200

To collect 20,000 Krona at $.67 spot rate.

Cash $40,750Exchange loss 500

Accounts receivable (pounds) $41,250To collect 25,000 pounds at $1.63 spot rate.

4 Settlement of accounts payable:

Accounts payable $ 6,850Cash $ 6,850

To record payment of accounts denominated in dollars.

Accounts payable (Canadian $) $ 7,000Exchange loss 100

Cash $ 7,100To record payment of account denominated in Canadian dollars at $.71 spot rate.

Accounts payable (pounds) $24,750Cash $24,300Exchange gain 450

To record payment of 15,000 pounds at $1.62 spot rate.


19-419

Solution P12-5

1, 2 Balance Exchange GainPer Books Sheet or (Loss)

Accounts receivableBritish pounds (100,000 ´ 1.660) $165,000 $166,000 $1,000Euros (250,000 ´ $.670) 165,000 167,500 2,500Swedish krona (160,000 ´ $.640) 105,600 102,400 (3,200)Japanese yen (2,000,000 ´ $.0076) 15,000 15,200 200

$450,600 $451,100 500

Accounts payableCanadian dollars(150,000 ´ $.69) $105,000 $103,500 $1,500Swedish krona (220,000 ´ $.135) 28,600 29,700 (1,100)Japanese yen (4,500,000 ´ $.0076) 33,300 34,200 (900)

$166,900 $167,400 (500)

Net exchange gain $ 0

3 The company would need to enter into a contract to deliver 250,000 euros (sell them) since it would be receiving euros and would need to convert them into US dollars.

Solution P12-6

1. This is a fair value hedge because the fixed rate loan’s fair value fluctuates over time as market interest rates change. By entering into this swap agreement that fluctuation is eliminated. So while the interest rate fluctuates, the loan’s fair value remains constant reflecting the fixed rate in the swap.

2. Like P12-6, the terms match, thus this is considered to be a highly effective hedge.

3. a.Date of payment Estimated payment

based on 12/31/08 LIBOR rate


12/31/09 .01*$400,000 1/(1.09) $ 3,67012/31/10 .01*$400,000 1/(1.09)2 3,36712/31/11 .01*$400,000 1/(1.09)3 3,08912/31/12 .01*$400,000 1/(1.09)4 2,834Total $12,960


19-420

b. December 31, 2008Interest Expense $32,000

Cash $32,000To record interest due on fixed rate loan at 12/31/08

Loan Payable (-L) $12,960Interest Rate Swap $12,960

To record the interest rate swap at fair value, computations below.

Notice that the carrying value of the loan is now $387,040 ($400,000 - $12,960). This agrees with the present value of the loan at the market rate of 9%.Proof: $400,000/(1.09)4 = $283,370 <= the present value of the maturity value. The present value of the interest payments is $32,000*PVIFA(i=9,n=4)= $103,670. The total market value of the loan is $283,370 + $103,670 = $387,041.

4.Date of payment Estimated payment

based on 12/31/08 LIBOR rate


12/31/10 .005*$400,000 1/(1.085) 1,84312/31/11 .005*$400,000 1/(1.085)2 1,69912/31/12 .005*$400,000 1/(1.085)3 1,566Total $ 5,108

December 31, 2009Interest Expense $32,000

Cash $32,000

To record interest due on fixed rate mortgage

Interest Expense $4,000Cash $4,000

To record swap payment

Interest Rate Swap $7,852Loan Payable $7,852

To adjust interest rate swap to fair value, $5,108.

Notice that now the loan payable carrying value is: $400,000 – 12,960 + 7,852 = $394,892. This amount agrees with the present value of the loan at the market rate on this date, 8.5%. Proof: $400,000/(1.085)3 = $313,163—Present value of the maturity value of the loan.


19-421

The present value of the interest payments = $32,000*PVIFA(i=8.5,n=3)= $81,729.The present value of the loan at a market rate of 8.5% is therefore $313,163 + $81,729 = $394,892.

Solution P12-7

1 Entries on April 1Accounts receivable (pesos) $33,060

Sales $33,060To record sales on account denominated in pesos: 200,000 pesos / 6.0496 LCUs

No entry to record the contract is necessary

2 Entries on May 30Cash (pesos) $33,378

Accounts receivable (pesos) $33,060Exchange gain 318

To record collection of receivable in LCUs: 200,000 LCUs / 5.992 LCUs

Cash $33,228Exchange loss 150

Cash (pesos) $33,378To record delivery of 200,000 pesos to the exchange broker.

Solution P12-8

1 Entry on October 2, 2008Contract receivable (euros) $31,750

Contract payable $31,750To record forward contract to purchase 50,000 euros at $.6350 as a hedge of a firm commitment.

2 December 31, 2008 adjustmentContract receivable (euros) $ 350

Exchange gain $ 350To adjust the contract receivable for 50,000 euros to the $.6420 future exchange rate at December 31, 2008: 50,000 euros ´ ($.6420 - $.6350).

Exchange loss $ 350Change in value of firm commitment $ 350

To record the change in the value of the underlying firm commitment hedged.

3 Entries on March 31, 2009


19-422

Contract payable $31,750Cash $31,750

To pay exchange broker for 50,000 euros at the forward rate of $.6350 established on October 2, 2008.

Cash (euros) $32,800Contract receivable (euros) $32,100Exchange gain 700

To record receipt of 50,000 euros from exchange broker when spot rate is $.6560.

Exchange Loss $ 700Change in value of firm commitment $ 700

To record the change in the value of the underlying firm commitment hedged.

Purchases $32,800Cash (euros) $32,800

To record purchase and payment in euros at $.6560 spot rate.

Change in value of firm commitment $ 1,050Purchases 1,050

To record the adjustment of purchases for the change in the value of the firm commitment. This effectively fixes the purchase at the original forward rate.

Solution P12-9We will assume that the hedge contract is to be settled net.

December 2, 2008No entry

December 31, 2008Other comprehensive income: exchange loss $ 4,950

Forward contract $ 4,950Forward contract, 12/31/08, $1.69 – contract rate $1.68 = $.01 * 500,000 = $5,000. This is to be paid in two months so the present value assuming 6% annual interest rate is: $5,000/(1.005)2 = $4,950.

Exchange Loss $ 3,346Other comprehensive income $ 3,346

To record discount amortization. See table below

March 1, 2009Cash (fc) $855,000

Sales $855,000To record delivery of equipment to Ramsay Ltd. and collection of 500,000 pounds at the $1.71 spot rate.


19-423

Other comprehensive income: exchange loss $10,050Forward contract $10,050

To increase the forward contract to the final liability amount: $1.71-$1.68 = $.03*500,000 = $15,000 - $4,950 = $10,050 adjustment.

Exchange Loss $6,653Other comprehensive income $6,653

To record discount amortization. (See table below)

Forward contract $15,000 Cash $15,000

To record forward contract payment.

Sales $10,000Other comprehensive income $10,000

Discount amortization:The spot rate at the date the forward contract was entered into $1.70*500,000 = $850,000. $1.68 * 500,000 = $840,000. The discount of $10,000 must be amortized over the contract period. The effective interest rate equates these two amounts using a 3 month time period, that rate is .3937%.

Date Discount amortization Balance$ 850,000

December 31, 2008 $ 3,346 846,654January 31, 2009 3,333 843,320March 1, 2009 3,320 840,000

Solution P12-10

1 December 16, 2008Equipment $668,000

Accounts payable (fc) $668,000To record purchase of equipment (400,000 pounds ´ $1.67).

2 December 31, 2008Accounts payable (fc) $ 8,000

Exchange gain $ 8,000To adjust accounts payable for currency exchange rate change: 400,000 pounds ´ ($1.67 - $1.65).


19-424

Other Comprehensive Income $ 7,980Forward Contract $ 7,980

To record the forward contract loss at 12/31/08

Exchange loss $ 8,000Other Comprehensive Income $ 8,000

To reclassify an amount from Other Comprehensive Income to offset the gain on the accounts payable

Exchange Loss $ 1,994Other Comprehensive Income $ 1,994

To amortize the premium. The premium is the difference between the $668,000 spot price for pounds at the date the contract was entered into and $672,000, the contracted amount. This difference must be amortized to income over the 30 day period. The effective interest rate is computed as follows:$672,000 = $668,000* (1+r)30, solving for r (the daily interest rate) = .0199025%. $668,000*.000199025*15= $1,994.

December 31, 2008 account balances:Accounts Payable $660,000Forward Contract 7,980 creditOther comprehensive income 2,014 credit

Exchange loss (net) 1,994

3 January 15, 2009

Accounts payable (fc) $4,000Exchange gain $ 4,000

To mark the accounts payable to fair value.

Other comprehensive income $8,020Forward contract $ 8,020

To mark the forward contract to fair value.

Exchange loss $4,000Other Comprehensive Income $ 4,000

To record the reclassification from OCI to offset the exchange gain on the accounts payable

Exchange loss $2,006Other Comprehensive Income $2,006

To record the amortization of the premium


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The total premium is $4,000 ($672,000 - $668,000), the portion left to be amortized is $4,000 - $1,994 = $2,006.

Cash (fc) $656,000Forward contract 16,000

Cash $672,000To record the settlement of the forward contract.

Accounts payable (fc) $656,000Cash (fc) $656,000

To record payment of accounts payable in pounds.

January 15, 2009 account balances:Accounts Payable: $0Forward Contract:

$7,980 credit + $8,020 – $16,000 = $0Other Comprehensive Income:

$2,014 credit - $8,020 dr + $4,000 cr + $2,006 cr = $0

Exchange Loss (net): $2,006

Chapter 13

FOREIGN CURRENCY FINANCIAL STATEMENTS


1 A company’s functional currency is the currency of the primary economic environment in which it operates. It is normally the currency in which it receives most of its payments from customers and in which it pays most of its liabilities. Other factors that are considered in determining the functional currency include whether its sales prices are


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determined primarily by local competition or local government regulation instead of short-run exchange rate changes or worldwide markets.

The functional currency determination (local currency or parent currency or some other currency) is critical in determining what approach to converting financial statements to the ultimate reporting currency is used: the current rate or the temporal method. If the functional currency is the local currency, the current rate method is used. If it is the parent currency, the temporal method is used. If it is some other currency, then both approaches may need to be used.

2 A highly inflationary economy under Statement 52 is one that has cumulative inflation of approximately 100 percent or more over a three-year period. The functional currency is assumed to be the reporting currency (for U.S. companies, the dollar) which means that the foreign currency financial statements must be remeasured into the dollar using the temporal method. The effect of the hyperinflation is then reflected in the current year’s consolidated income statement which would not be the case if the current rate method were used. Judgment must be exercised in applying this rule to avoid changing functional currencies frequently due to minor differences in the inflation rate.

3 The functional currency of a foreign subsidiary does not affect the original recording of the business combination. This is because all assets, liabilities, and equities of the foreign subsidiary are converted into U.S. dollars at the current exchange rate in effect on the date of consummation of the business combination. As a result, no special procedure must be applied at the date of original recording of a foreign subsidiary.

4 The current rate method is used when the foreign subsidiary’s currency is determined to be the subsidiary’s functional currency. The subsidiary’s financial statements must be translated using the current rate method into the reporting entity’s currency (typically the parent’s currency).

5 The temporal method is used when the foreign subsidiary’s currency is determined to be the reporting entity’s currency (typically the parent’s currency). The subsidiary’s financial statements must be remeasured using the temporal method into the reporting entity’s currency.

6 Since the functional currency is not the parent’s, no direct impact on the reporting entity’s (parent’s) cash flows is expected due to exchange rate changes. The effects of exchange rate changes are reflected in the consolidated statement’s accumulated comprehensive income account instead of being included in the income statement.

7 Since the functional currency is assumed to be the reporting entity’s (or parent’s), a direct impact on the parent’s cash flows is expected due to exchange rate changes. The effects of exchange rate changes are reflected in the consolidated income statement.

8 A foreign subsidiary’s financial statements could be both translated and remeasured if the entity’s books are maintained in a different currency than the functional currency and the


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functional currency is not the reporting entity’s currency. In this case, the entity’s financial statements must be remeasured into the functional currency using the temporal method. The gain or loss on remeasurement is included in income. The functional currency financial statements are then translated into the reporting entity’s currency using the current rate method. The gain or loss on the translation is included in accumulated other comprehensive income. In this situation, the consolidated financial statements would include both a remeasurement gain or loss in income and the a translation adjustment included in accumulated other comprehensive income.

9 No, it would not be appropriate to use the annual average exchange rate. Theoretically, the exchange rate at the date each transaction occurs should be used. Given that this is not practical, reasonable assumptions are made concerning what exchange rate to use. The use of an average exchange rate is appropriate when sales are earned evenly during the year and expenses are incurred evenly during the year. A reasonable assumption for a holiday tree grower would be to use the average exchange rate during the quarter from October through December since those are the month’s that trees are typically sold. For expenses, examining the months that are the most labor intensive (such as planting, fertilizing and harvesting) and using a reasonable weighting of those months exchange rates would be a reasonable way of determining the rate for those costs.

10 The parent purchased the subsidiary for an amount in excess of book value. This excess was attributable to an unrecorded patent. Recall that the excess amount would not be included on the subsidiary’s books. The consolidated financial statements, however, would include both the amortization of the patent and the patent. Since the current rate method is being used, the impact of the change in exchange rates on the patent and the amortization is included in the translation adjustment to be included in consolidated comprehensive income. The subsidiary’s translation adjustment would not include this because the patent was not included in the books. Thus, the consolidated translation adjustment is larger than the subsidiary’s translation adjustment.

11 The temporal method requires remeasuring expenses of a foreign subsidiary. Expenses related to monetary items are remeasured at appropriately weighted average exchange rates for the period. Those types of expenses are either paid in cash or recorded as liabilities which will require the eventual payment of cash. Those that relate to nonmonetary items are remeasured at historical exchange rates. Expenses related to nonmonetary items would be those related to inventory and plant assets. [See FASB Statement No. 52, paragraph 48, for examples of nonmonetary items.] Under the current rate method, all accounts are translated at the weighted average rate.

12 If the current rate method is used the gain or loss on the hedge of a net investment in a foreign subsidiary is reported in other comprehensive income. If the temporal method is used, the gain or loss is included in current period income.

13 [Appendix A] Under the current rate method, the noncontrolling interest’s balance includes its share of the accumulated other comprehensive income translation adjustment, however, the noncontrolling interest expense would not be affected. This is logical since


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the translation adjustment bypasses the income statement. As one might expect, the remeasurement gain or loss from using the temporal method does affect the noncontrolling interest expense since the gain or loss is included in income.

14 [Appendix B] The translation adjustment of cash is presented on a separate line in the consolidated statement of cash flows immediately below the “cash flows from financing activities.” [See FASB Statement No. 95, “Statement of Cash Flows,” Appendix C, paragraphs 144 and 146.]

15 [Appendix C] Special care must be exercised in applying the lower-of-cost-or-market rule to inventories in remeasured statements because remeasured amounts are affected both by changes in exchange rates and changes in replacement costs. Write-downs to market may be appropriate for both foreign currency statements and translated statements, foreign currency statements but not translated statements, or translated statements but not foreign currency statements.


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Solution E13-1

1 b 7 a2 a 8 b3 c 9 b4 a5 b6 b


1 c 4 d2 d 5 b3 d

Solution E13-3

Paily Company and SubsidiaryConsolidated Balance Sheet

at January 1, 2006

Current assets [$3,000,000 - $990,000 + (100,000£ ´ $1.65)] $2,175,000

Land [$800,000 + (200,000£ ´ $1.65)] 1,130,000

Buildings — net [$1,200,000 + (250,000£ ´ $1.65)] 1,612,500

Equipment — net [$1,000,000 + (100,000£ ´ $1.65)] 1,165,000

Goodwill [$990,000 cost - (450,000£ fair value ´ $1.65)] 247,500

$6,330,000

Current liabilities [$600,000 + (50,000£ ´ $1.65)] $ 682,500

Notes payable [$1,000,000 + (150,000£ ´ $1.65)] 1,247,500

Capital stock 3,000,000

Retained earnings 1,400,000


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$6,330,000


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Solution E13-4

Foreign currency statements

Inventory will be carried at the 10,000 euros historical cost.

Remeasured statements (Temporal Method)

Inventory will be carried at cost of $5,300.

Under translated statements (Current Rate Method)

Inventory will be carried at year-end current rate of $6,000.

Solution E13-5

NOTE: The text rates are incorrect. The correct rates and the one’s that the solution below is based upon are:

January 1, 2006 $.030Average for 2006 $.032December 31, 2006 $.035

1 Patent at acquisition of Simenon

Cost of Simenon $1,200,000Book value acquired: (35,000,000 Euros ´ $.030) 1,050,000Patent in dollars $ 150,000

Patent in Euros ($150,000/$.030) 5,000,000 Eu

2 Patent amortization in dollars

Patent amortization in Euros (5,000,000/10 years) = 500,000 EurosPatent amortization in $ (500,000 Euros ´ $.032 average rate) $ 16,000

3 Entry to record patent amortization

Income from Simenon $16,000Investment in Simenon 3,000

Equity adjustment from translation of patent 19,000

To record patent amortization and the equity adjustment from translation of patent computed as follows:


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Beginning patent 5,000,000 Euros $.030 $ 150,000Amortization (500,000) .032 (16,000)

4,500,000 134,000Equity adjustment 19,000Ending patent 4,500,000 .034 $ 153,000


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Solution E13-6

Preliminary computationsCost of investment in Stanford $163,800Book value acquired (90,000 £ ´ $1.66) 149,400Excess in dollars $ 14,400

Excess allocated to equipment (6,000 £ ´ $1.66) $ 9,960

Patent $ 4,440$ 14,400

1 Equity adjustment from excess allocated to equipment on December 31, 2006

Depreciation of excess based on £ (6,000/3 years) 2,000 £

Undepreciated excess balance at year-end based on £ (4,000 £ ´ $1.64 current rate) $ 6,560Add: Depreciation on excess based on £ — 2006 2,000 £ ´ $1.65 average rate 3,300

9,860Less: Beginning excess based on U.S. dollars 9,960

Equity adjustment from translation of excess allocated to equipment (loss) $ 100

2 Equity adjustment from excess allocated to patent on December 31, 2006.

Patent (must be carried in £) $4,440/$1.66 = 2,675 £ patentPatent amortization is 2,675 £ / 10 years = 267 £

Unamortized excess balance at year-end based on £ (2,408 £ ´ $1.64 current rate) $ 3,949Add: Amortization of patent based on £ (267 £ ´ $1.65 average rate) 441

$ 4,390Less: Beginning patent based on U.S. dollars $ 4,440Equity adjustment from translation of patent (loss) $ 50

Not required: The entry to record the decrease in the equity adjustment related to equipment and patent would be as follows:

Income from Stanford Ltd. $3,741Equity adjustment from translation (equipment) 100Equity adjustment from translation of patent 50

Investment in Stanford $ 3,891


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To adjust the income from Stanford for depreciation on the excess allocated to equipment ($3,300) and amortization of patent ($441), and to record a decrease in the equity adjustment from translation for the foreign exchange rate changes.


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Solution E13-7

Preliminary computationsInvestment cost $1,350,000Book value acquired (1,400,000 Eu ´ $.75 exchange rate) 1,050,000Excess cost over book value acquired $ 300,000

Excess allocated to undervalued land (400,000 Eu ´ $.75) $ 300,000

Equity adjustment from translation on excess allocated to land

Excess on land at January 1, 2006 $ 300,000Less: Excess on land at December 31, 2006 (400,000 Eu ´ $.77 current rate at year-end) 308,000Equity adjustment from translation - gain (credit) $ 8,000


1 aExchange loss of $15,000 less an exchange gain on the account payable of $4,000 ($64,000 original payable - $60,000 year-end adjusted balance) = $11,000 loss.

2 bTranslated at historical rate: 25,000/2.2 = $11,364

3 dDepreciation on the property, plant, and equipment is computed as follows:

Property, Plant Exchange Property, Plant Amortization Annual and Equipment Rate and Equipment Period Depreciation

2006 2,400,000 LCU ¸ 1.6 = $1,500,000 ¸ 10 years = $150,0002007 1,200,000 LCU ¸ 1.8 = 666,667 ¸ 10 years = 66,667

3,600,000 LCU $2,166,667 $216,667

4 a5.7 LCU to $1, the rate in effect when the dividend was paid.

5 dLong-term receivables 1,500,000 LCU ¸ 1.5 = $1,000,000Long-term debt 2,400,000 LCU ¸ 1.5 = $1,600,000

6 cAll three accounts are translated at current rates.

7 cCumulative inflation rate = (330 - 150)/150 = 120%


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Solution E13-9

1 dNet income of Kasan $1,500,000 ´ 70% interest $1,050,000

2 cChange in Kasan’s stockholders’ equity $2,000,000 ´ 70% interest $1,400,000

3 bLoan balance measured in pesos on July 1 ($19,000/$.0019) 10,000,000 pesosLoan balance measured in pesos on December 31 ($19,000/$.0016 current exchange rate) 11,875,000

Exchange loss 1,875,000 pesos

4 cLoss in pesos 1,875,000 ´ $.0016 current rate at December 31, 2006 $ 3,000Percentage owned 90%

Equity adjustment from translation $ 2,700

Solution E13-10

Shinhan’s December 31, 2006 inventory

5,000,000 won ending inventory ´ $.00135 historical rate $ 6,750

Shinhan’s cost of sales for 2006

In Won Exchange

Rate In DollarsInventory January 1, 2006 9,000,000 $.0012 H $ 10,800Add: Purchases 2006 86,000,000 $.0013 A 111,800

Goods available for sale 95,000,000 122,600Less: Inventory December 31, 2006 (5,000,000) $.00135 H (6,750)

Cost of sales 90,000,000 $115,850


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Solution P13-1

1 Parkway’s income from Scorpio for 2006

Investment cost of 40% interest in Scorpio $1,080,000Less: Book value acquired ($2,400,000 ´ 40%) (960,000)Patent in dollars at acquisition $ 120,000

Patent in euros at acquisition $120,000/$.60 exchange rate = 200,000 euros

Equity in Scorpio’s income ($310,000 ´ 40%) $ 124,000Patent amortization for 2006 200,000 euros/10 years ´ $.62 average rate (12,400)

Income from Scorpio for 2006 $ 111,600

2 Investment in Scorpio at December 31, 2006

Investment cost $1,080,000Add: Income from Scorpio 111,600Less: Dividends ($192,000 ´ 40%) (76,800)Add: Equity adjustment from translation ($212,000 ´ 40%) 84,800Add: Equity adjustment from patent computed as:

Beginning balance $120,000Less: Patent amortization 12,400Less: Unamortized patent at year end 117,000 9,400

Investment in Scorpio December 31, 2006 $1,209,000

3 Proof of investment balance

Net assets at December 31, 2006 of $2,730,000 ´ 40% $1,092,000Add: Unamortized patent (180,000 euros ´ $.65) 117,000Investment balance $1,209,000


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Solution P13-2

1 Excess Patent at January 1, 2006:

Cost $342,000Book value of interest acquired

(4,000,000 LCUs ´ $.15) ´ 40% (240,000)Excess Patent $102,000Excess Patent in LCUs $102,000/$.15 = 680,000 LCUs

2 Excess Patent amortization — 2006:

Excess Patent in LCUs 680,000/10 years ´ $.14 average rate = $ 9,520

3 Unamortized Excess Patent at December 31, 2006:

(680,000 - 68,000 LCUs amortization) ´ $.13 current rate $ 79,560

4 Equity adjustment from Excess Patent:

Beginning balance in U.S. dollars $102,000Less: Amortization for 2006 (9,520)Less: Ending balance (79,560)Equity adjustment from Excess Patent $ 12,920

Alternatively,68,000 LCUs ´ ($.15 - $.14) = $ 680612,000 LCUs ´ ($.15 - $.13) = 12,240

$12,920

5 Income from Sorrier — 2006:

Equity in income ($112,000 ´ 40%) $ 44,800Less: Excess Patent amortization (9,520)Income from Sorrier — 2006 $ 35,280

6 Investment in Sorrier balance at December 31, 2006:

Cost January 1 $342,000Add: Income 2006 35,280Less: Dividends ($56,000 ´ 40%) (22,400)Less: Equity adjustment ($84,000 ´ 40%) (33,600)Less: Equity adjustment from Excess Patent (12,920)Investment in Sorrier December 31, 2006 $308,360


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Check: Net assets $228,800 ($572,000 ´ 40%) plus $79,560 unamortizedExcess Patent = $308,360 investment in Sorrier at December 31, 2006.


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Solution P13-3

1 Sooth Company, Ltd.Translation Worksheet for 2006

British Exchange Pounds Rate US Dollars

DebitsCash 20,000 $1.65 C $ 33,000Accounts receivable — net 70,000 1.65 C 115,500Inventories 50,000 1.65 C 82,500Equipment 800,000 1.65 C 1,320,000Cost of sales 350,000 1.63 A 570,500Depreciation expense 80,000 1.63 A 130,400Operating expenses 100,000 1.63 A 163,000Dividends 30,000 1.62 R 48,600

1,500,000 $2,463,500CreditsAccumulated depreciation 330,000 $1.65 C $ 544,500Accounts payable 70,000 1.65 C 115,500Capital stock 400,000 1.60 H 640,000Retained earnings 100,000 measured 160,000Sales 600,000 1.63 978,000Equity adjustment from translation 25,500

1,500,000 $2,463,500

2 Journal entries — 2006

January 1, 2006Investment in Sooth $800,000

Cash $800,000To record purchase of Sooth at book value.

During 2006Cash $ 48,600

Investment in Sooth $ 48,600To record dividends from Sooth.

December 31, 2006Investment in Sooth $139,600

Income from Sooth $114,100Equity adjustment from translation 25,500

To record income from Sooth and enter equity adjustment for currency fluctuations.

Check:


19-441

Investment in Sooth 1/1 $800,000 Capital stock 400,000 £Dividends (48,600) Retained earnings 1/1 100,000 £Income from Sooth 114,100 Add: Income 70,000 £Equity adjustment 25,500 Less: Dividends (30,000)£Investment in Sooth 12/31 $891,000 Stockholders’ equity 540,000 £

Current rate $ 1.65$891,000


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Solution P13-4

Preliminary computationsInvestment cost $3,200,000Less: Book value of interest acquired (7,000,000 euros ´ $.50 exchange rate ´ 80% interest) 2,800,000Patent $ 400,000Patent in euros ($400,000/$.50 exchange rate) = 800,000 eurosPatent amortization based on euros 800,000 euros/10 years = 80,000 euros

1 Schultz CorporationTranslation Worksheet

at and for the year ended December 31, 2006

Exchange Euros Rate U.S. Dollars

DebitsCash 1,000,000 $.6000 C $ 600,000Accounts receivable 2,000,000 .6000 C 1,200,000Inventories 4,000,000 .6000 C 2,400,000Equipment 8,000,000 .6000 C 4,800,000Cost of sales 4,000,000 .5500 A 2,200,000Depreciation expense 800,000 .5500 A 440,000Operating expenses 2,700,000 .5500 A 1,485,000Dividends 500,000 .5400 H 270,000

23,000,000 $13,395,000CreditsAccumulated depreciation — equipment 2,400,000 .6000 C $ 1,440,000Accounts payable 3,600,000 .6000 C 2,160,000Capital stock 5,000,000 .5000 H 2,500,000Retained earnings, January 1 2,000,000 .5000 H 1,000,000Sales 10,000,000 .5500 A 5,500,000Equity adjustment from translation 795,000

23,000,000 $13,395,000

2 Peter’s income from Schultz — 2006

Share of Schultz’s net income ($5,500,000 sales - $2,200,000 cost of sales - $440,000 depreciation - $1,485,000 operating expenses) $ 1,375,000Percentage owned 80%

Equity in Schultz’s net income 1,100,000Less: Patent amortization (80,000 euros ´ $.55 average rate) (44,000)


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Income from Schultz $ 1,056,000


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3 Investment in Schultz December 31, 2006

Investment January 1, 2006 $3,200,000Add: Income from Schultz 1,056,000Add: Equity adjustment from translation ($795,000 ´ 80%) 636,000Add: Equity adjustment from Patent [$400,000 Patent at beginning of the period - $44,000 Patent amortization — (720,000 euros unamortized Patent ´ $.60 current rate)] 76,000Less: Dividends ($270,000 ´ 80%) (216,000)Investment in Schultz December 31, 2006 $4,752,000

Check:Stockholders’ equity of Schultz $5,400,000 ´ 80% $4,320,000Add: Unamortized Patent (720,000 euros ´ $.60 current rate) 432,000

$4,752,000

Solution P13-5

Sari CompanyRemeasurement Worksheet at December 31, 2006

ExchangeBritish £ Rate U.S. Dollars

Cash 50,000 $1.70 C $ 85,000Accounts receivable 200,000 1.70 C 340,000Short-term note receivable 50,000 1.70 C 85,000Inventories 150,000 1.68 H 252,000Land 300,000 1.60 H 480,000Buildings — net 400,000 1.60 H 640,000Equipment — net 500,000 1.60 H 800,000Cost of sales 650,000 * H 1,058,000Depreciation expense 200,000 1.60 H 320,000Other expenses 400,000 1.65 A 660,000Dividends 100,000 1.64 164,000Exchange loss on remeasurement 61,000

3,000,000 $4,945,000

Accounts payable 180,000 $1.70 C $ 306,000Bonds payable — 10% 500,000 1.70 C 850,000Bond interest payable 20,000 1.70 C 34,000Capital stock 500,000 1.60 H 800,000


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Retained earnings 300,000 M 480,000Sales 1,500,000 1.65 A 2,475,000

3,000,000 $4,945,000

* Cost of sales = Beginning inventory (200,000 £ ´ $1.60) + purchases (600,000 £ ´ $1.65) - ending inventory (150,000 £ ´ $1.68) = $1,058,000


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Solution P13-6

Stuart CorporationRemeasurement Worksheet

December 31, 2006

New Zealand Dollars Exchange Rate U.S. Dollars

DebitsCash 15,000 $ 0.65 C $ 9,750Accounts receivable — net 60,000 0.65 C 39,000Inventories 30,000 0.66 H 19,800Prepaid expenses 10,000 0.70 H 7,000Land 45,000 0.70 H 31,500Equipment 60,000 Note 1 M 41,800Cost of sales 120,000 Note 2 M 82,200Depreciation expense 12,000 Note 3 M 8,360Other operating expenses 28,000 Note 4 M 19,000Dividends 20,000 0.66 H 13,200Remeasurement loss 1,450

400,000 $273,060CreditsAccumulated depreciation 22,000 Note 5 M $ 15,360Accounts payable 18,000 $ 0.65 C 11,700Capital stock 150,000 0.70 H 105,000Retained earnings 10,000 M 7,000Sales 200,000 0.67 A 134,000

400,000 $273,060

Note 1 Original equipment (50,000 NZ$ ´ $.70) + equipment purchased in 2006 (10,000 NZ$ ´ $.68)

Note 2 Beginning inventory (50,000 NZ$ ´ $.70) + purchases (100,000 NZ$ ´ $.67) - ending inventory (30,000 NZ$ ´ $.66)

Note 3 Depreciation on original equipment (50,000 NZ$ ´ 20% ´ $.70) + depreciation on new equipment (10,000 NZ$ ´ 20% ´ $.68)

Note 4 Other operating expenses consist of the prepaid supplies used (8,000 NZ$ ´ $.70) + current year outlays (20,000 NZ$ ´ $.67)

Note 5 Accumulated depreciation on the original equipment (20,000 NZ$ ´ $.70) + accumulated depreciation on the equipment purchased (2,000 NZ$ ´ $.68)


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Solution P13-7

1 Sapir CompanyTranslation Worksheet


Translation Shekels Rate U.S. $

DebitsCash 40,000 $.30 C $ 12,000Trade receivables 50,000 .30 C 15,000Inventories 150,000 .30 C 45,000Land 160,000 .30 C 48,000Equipment — net 300,000 .30 C 90,000Buildings — net 500,000 .30 C 150,000Expenses 400,000 .32 A 128,000Exchange loss (advance)* 20,000 .32 A 6,400Dividends 100,000 .33 R 33,000Equity adjustment 40,600

Total 1,720,000 $568,000CreditsAccounts payable 120,000 $.30 C $ 36,000Other liabilities 60,000 .30 C 18,000Advance from Pella 140,000 .30 C 42,000Common stock 500,000 .35 H 175,000Retained earnings January 1 300,000 .35 H 105,000Sales 600,000 .32 A 192,000

Total 1,720,000 $568,000* Sapir increased its advance by 20,000 shekels and recognized a 20,000 shekel loss.

2 Journal entries to account for the investment in Sapir:January 1, 2006Investment in Sapir $308,000

Cash $308,000To record the investment in Sapir Co.

January 2, 2006Advance to Sapir $ 42,000

Cash $ 42,000To record advance to Sapir denominated in U.S. dollars.

June 2006Cash $ 33,000

Investment in Sapir $ 33,000To record receipt of dividends (100,000 shekels ´ $.33).

December 31, 2006Investment in Sapir $ 17,000


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Equity adjustment from translation 40,600Income from Sapir $ 57,600

To record equity in Sapir.Income from Sapir $ 2,560Equity adjustment from translation 3,840

Investment in Sapir $ 6,400To record equity adjustment from Patent amortization computed as follows:Patent amortization 80,000 shekels/10 years ´ $.32 rate = $2,560Ending balance 72,000 shekels ´ $.30 rate = $21,600$28,000 beginning balance - $21,600 ending balance = $6,400


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Solution P13-8


Investment cost of SAA $1,710,000Book value acquired (8,000,000 LCU ´ $.190) (1,520,000)Patent $ 190,000

Patent based on LCU ($190,000/$.190) 1,000,000 LCUAmortization of Patent (1,000,000 LCU/10 years) 100,000 LCU

Patent amortization for 2006 (100,000 LCU ´ $.185) $ 18,500

Unamortized Patent at December 31, 2006 (900,000 LCU ´ $.180) $ 162,000

Equity adjustment for Patent for 2006:Beginning balance $190,000Less: Amortization (18,500)Less: Ending balance (162,000) $ 9,500

Reconciliation of investment account:Investment in SAA January 1, 2006 $1,710,000Add: Income from SAA for 2006

($360,750 - $18,500 Patent amortization) 342,250Equity adjustment from translation ($84,750 ´ 100%) (84,750)Equity adjustment from Patent (9,500)Dividends from SAA (185,000)Investment in SAA December 31, 2006 $1,773,000


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1 Journal entries to account for the investment in SAA

January 1, 2006Investment in SAA $1,710,000

Cash $1,710,000To record purchase of SAA stock for cash.

July 1, 2006Advance to SAA $ 333,000

Cash $ 333,000To record short-term advance to SAA denominated in dollars.

September 1, 2006Cash $ 185,000

Investment in SAA $ 185,000To record receipt of dividends when exchange rate is $.185.

December 31, 2006Investment in SAA $ 276,000Equity adjustment from translation 84,750

Income from SAA $ 360,750To record equity in income of SAA.

Income from SAA $ 18,500Equity adjustment from translation 9,500

Investment in SAA $ 28,000To record Patent amortization and equity adjustment from Patent computed as follows:

Patent amortization: 100,000 LCU ´ $.185 average rate = $18,500Equity adjustment: $190,000 beginning Patent balance - $18,500 amortization - (900,000 LCU unamortized Patent at year end ´ $.180 current rate) = $9,500


19-451


PWA Corporation and SubsidiaryConsolidation Working Papers


PWA SAAAdjustments and


Income StatementSales $ 569,500 $1,110,000 $1,679,500

Income from SAA 342,250 a 342,250

Expenses (400,000) (740,000) c 18,500 (1,158,500)

Exchange loss (9,250) (9,250)

Net income $ 511,750 $ 360,750 $ 511,750

Retained Earnings

Retained earnings — PWA $ 856,500 $ 856,500

Retained earnings — SAA $ 570,000 b 570,000

Net income 511,750 360,750 511,750

Dividends (300,000) (185,000) a 185,000 (300,000)

Retained earnings December 31, 2006 $1,068,250 $ 745,750 $1,068,250



Advance to SAA 333,000 d 333,000

Inventories 120,000 270,000 390,000

Land 100,000 288,000 388,000

Equipment — net 600,000 540,000 1,140,000

Buildings — net 300,000 900,000 1,200,000

Investment in SAA 1,773,000 a 157,250b 1,615,750

Patent b 180,500 c 18,500 162,000

$3,445,220 $2,187,000 $3,688,220


Advance from PWA 333,000 d 333,000


Capital stock 2,000,000 950,000 b 950,000 2,000,000

Retained earnings 1,068,250 745,750 1,068,250

Equity adjustment — PWA (94,250) (94,250)

Equity adjustment — SAA (84,750) b 84,750

$3,445,220 $2,187,000 $3,688,220


19-452

Solution P13-9

1 San CorporationAdjusted Trial Balance Translation Worksheet


LCUs Rate U.S. DollarsDebitsCash 150,000 $.20 C $ 30,000Accounts receivable 180,000 .20 C 36,000Inventories 230,000 .20 C 46,000Land 250,000 .20 C 50,000Buildings 600,000 .20 C 120,000Equipment 800,000 .20 C 160,000Cost of sales 200,000 .22 A 44,000Depreciation expense 100,000 .22 A 22,000Other expenses 120,000 .22 A 26,400Exchange loss 30,000 .22 A 6,600Dividends 100,000 .21 R 21,000Equity adjustment --- 44,000

2,760,000 $606,000

CreditsAccumulated depreciation — buildings 300,000 $.20 C $ 60,000Accumulated depreciation — equipment 400,000 .20 C 80,000Accounts payable 130,000 .20 C 26,000Short-term loan from Par 230,000 .20 C 46,000Capital stock 800,000 .24 H 192,000Retained earnings January 1 200,000 .24 H 48,000Sales 700,000 .22 A 154,000

2,760,000 $606,000

2 Journal entries for 2006 [Par’s books]

January 1, 2006Investment in San $216,000

Cash $216,000To record purchase of 90% interest in San: 1,000,000 LCU ´ $.24 exchange rate ´ 90% interest.

May 1, 2006Advance to San $ 46,000

Cash $ 46,000To record short-term loan to San denominated in U.S. dollars: 200,000 LCU ´ $.23 exchange rate.


19-453


September 2006Cash $ 18,900

Investment in San $ 18,900To record receipt of dividends from San (100,000 LCU ´ $.21 exchange rate ´ 90% interest)

December 31, 2006Investment in San $ 9,900Equity adjustment from translation 39,600

Income from San $ 49,500To record investment income from San of $49,500 computed as [$154,000 revenue – ($44,000 cost of sales + $22,000 depreciation expense + $26,400 other expenses + $6,600 exchange loss)] ´ 90% and to record equity adjustment from translation of $39,600 computed as $44,000 ´ 90%.


Investment balance January 1, 2006 $216,000Less: Dividends (18,900)Add: Income from San 49,500Less: Equity adjustment from translation (39,600)Investment balance December 31, 2006 $207,000

Noncontrolling interest at January 1, 2006 date of acquisition1,000,000 LCU ´ $.24 ´ 10% $ 24,000

Less: Noncontrolling interest’s share of the equity adjustment from translation for 2006 ($44,000 ´ 10%) (4,400)Beginning Noncontrolling interest in consolidation working papers $ 19,600


19-454


3 Par Corporation and SubsidiaryConsolidation Working Papers


Par San 90%Adjustments and

EliminationsNoncontrolli

ngInterest



Income from San 49,500 a 49,500

Cost of sales (400,000) (44,000) (444,000)

Depreciation expense (81,000) (22,000) (103,000)

Other expenses (200,000) (26,400) (226,400)

Exchange loss (6,600) (6,600)

Noncontrolling income $ 5,500 (5,500)

Net income $ 168,500 $ 55,000 $ 168,500

Retained EarningsRetained earnings — Par $ 220,000 $ 220,000

Retained earnings — San $ 48,000 b 48,000

Net income 168,500 55,000 168,500

Dividends (100,000) (21,000) a 18,900 (2,100) (100,000)

Retained earnings December 31, 2006 $ 288,500 $ 82,000 $ 288,500



Loan to San 46,000 c 46,000

Inventories 110,000 46,000 156,000

Land 150,000 50,000 200,000

Buildings — net 180,000 60,000 240,000

Equipment — net 160,000 80,000 240,000

Investment in San 207,000 a 30,600b 176,400

$ 990,000 $ 302,000 $1,039,000


Loan from Par 46,000 c 46,000

Capital stock 500,000 192,000 b 192,000 500,000


Equity adjustment — Par (39,600) (39,600)

Equity adjustment — San

(44,000) b 44,000

$ 990,000 $ 302,000

Noncontrolling interest January 1, 2006 b 19,600 19,600

Noncontrolling interest December 31, 2006 $23,000 23,000


19-455

$1,039,000


19-456

Solution P13-10

Translation Worksheets for Sevin Company

December 31, 2006 December 31, 2007 British Exchange U.S. British Exchange U.S.

Pounds Rate Dollar Pounds Rate Dollar

Cash 30,000 $1.70 51,000 50,000 $1.80 90,000Accounts receivable 60,000 1.70 102,000 90,000 1.80 162,000Inventories 80,000 1.70 136,000 150,000 1.80 270,000Equipment 900,000 1.70 1,530,000 1,000,000 1.80 1,800,000Cost of sales 300,000 1.65 495,000 360,000 1.75 630,000Depreciation expense 100,000 1.65 165,000 110,000 1.75 192,500Operating expenses 80,000 1.65 132,000 90,000 1.75 157,500Dividends 50,000 1.68 84,000 50,000 1.78 89,000

1,600,000 2,695,000 1,900,000 3,391,000Accumulated deprecia-

tion — equipment 200,000 1.70 340,000 310,000 1.80 558,000

Accounts payable 200,000 1.70 340,000 220,000 1.80 396,000Advance from Pence 20,000 1.70 34,000 20,000 1.80 36,000Capital stock 400,000 1.60 640,000 400,000 1.60 640,000Retained earnings 100,000 1.60 160,000 250,000 M 406,000Sales 680,000 1.65 1,122,000 700,000 1.75 1,225,000Equity adjustment 59,000 130,000

1,600,000 2,695,000 1,900,000 3,391,000

Income from Sevin

2006 2007 Pence’s equity of Sevin’s net income:

2006 income $330,000 ´ 90% $297,0002007 income $245,000 ´ 90% $220,500

Less: Patent amortization$48,000/$1.60 = 30,000£ 2006: 30,000£/10 years ´ $1.65 (4,950)2007: 30,000£/10 years ´ $1.75 (5,250)

Income from Sevin $292,050 $215,250


19-457


Investment in Sevin account

Investment balance January 1, 2007 $ 768,000Add: Income from Sevin for 2007 292,050Less: Dividends ($84,000 ´ 90%) (75,600)Add: Equity adjustment from translation for 2007

$59,000 ´ 90% 53,100Add: Equity adjustment from Patent for 2007

$48,000 Patent - $4,950 amortization - $45,900 ending balance 2,850

Investment in Sevin December 31, 2007 1,040,400Add: Income from Sevin for 2008 215,250Less: Dividends ($89,000 ´ 90%) (80,100)Add: Equity adjustment from translation for 2008

$71,000 ´ 90% 63,900Add: Equity adjustment from Patent for 2008

$45,900 beginning balance - $5,250 amortization - $43,200 ending balance 2,550

Investment in Sevin December 31, 2008 $1,242,000

Explanation of the investment in Sevin year-end balance:

2007 2008 Stockholders’ equity January 1 $ 800,000 $1,046,000Add: Net income 330,000 245,000Less: Dividends (84,000) (89,000)

1,046,000 1,202,000Add: Equity adjustment 59,000 130,000Stockholders’ equity December 31 1,105,000 1,332,000

90% 90%Underlying book value of interest 994,500 1,198,800Add: Unamortized Patent 45,900 43,200Investment in Sevin December 31 $1,040,400 $1,242,000


19-458

Solution P13-11 Appendix A

1 Freeman CorporationTrial Balance at December 31, 2006

Schedule to Remeasure Trial Balance into U.S. Dollars

Australian Exchange U.S. Dollars Rate Dollars

DebitsCash 50,000 $.80 C $ 40,000Accounts receivable 85,000 .80 C 68,000Inventories (FIFO) 170,000 .79 H 134,300Land 200,000 .70 H 140,000Buildings 700,000 .70 H 490,000Equipment 170,000 .70 H 119,000Equipment 60,000 .75 H 45,000Cost of sales 800,000 * 612,300Depreciation expense — buildings 50,000 .70 H 35,000 Depreciation expense — equipment 20,000 .70 H 14,000Depreciation expense — equipment 10,000 .75 H 7,500Other operating expenses 318,000 .78 A 248,040Other operating expenses 2,000 .80 C 1,600Dividends 200,000 .75 H 150,000Remeasurement loss 49,760

2,835,000 $2,154,500CreditsAllowance for bad debts 5,000 $.80 C $ 4,000Accumulated depreciation:

Buildings 200,000 .70 H 140,000Equipment 70,000 .70 H 49,000Equipment 10,000 .75 H 7,500

Accounts payable 150,000 .80 C 120,000Advance from Paragon 300,000 .80 C 240,000Capital stock 400,000 .70 H 280,000Retained earnings 200,000 R 144,000Sales 1,500,000 .78 A 1,170,000

2,835,000 $2,154,500

* Computation of cost of sales:Purchases (800,000 - 250,000 + 170,000) 720,000 ´ $.78 A = $ 561,600Add: Beginning inventory 250,000 ´ $.74 H = 185,000Goods available 746,600Less: Ending inventory 170,000 ´ $.79 H = (134,300)Cost of sales $ 612,300

C = current rateH = historical rateA = average rate


19-459

R = reciprocal amount from December 31, 2005


19-460


2 Freeman CorporationCombined Statement of Income and Changes in Retained Earnings


Sales $1,170,000Less: Cost of sales 612,300

Gross profit 557,700Expenses:

Depreciation expense — buildings $ 35,000Depreciation expense — equipment 21,500Other operating expenses 249,640Remeasurement loss 49,760 355,900Net income 201,800

Add: Retained earnings December 31, 2005 144,000 345,800

Less: Dividends 150,000Retained earnings December 31, 2006 $ 195,800

Freeman CorporationBalance Sheet


AssetsCash $ 40,000Accounts receivable (less allowance for bad debts) 64,000Inventories (FIFO) 134,300

Total current assets $ 238,300Land $140,000Buildings (less allowance for depreciation of $140,000) 350,000Equipment (less allowance for depreciation of $56,500) 107,500

Total plant assets 597,500Total assets $ 835,800

Liabilities and Stockholders’ EquityAccounts payable $120,000Advance from Paragon 240,000

Total liabilities $ 360,000Capital stock $280,000Retained earnings 195,800

Total stockholders’ equity 475,800Total equities $ 835,800


19-461


19-462



Cost of 80% interest in Saussure $2,255,000Book value of interest acquired (5,000,000 Kronas ´ $.55 exchange rate ´ 80%) (2,200,000)Patent in U.S. dollars at acquisition $ 55,000Patent in Kronas ($55,000/$.55 exchange rate) 100,000 Kronas

Patent amortization for 2006:Patent in Kronas 100,000/10 years ´ $.60 average rate $ 6,000

1 Investment in Saussure at December 31, 2006

Investment cost January 1, 2006 $2,255,000Less: Dividends November 1 ($252,000 ´ 80%) (201,600)Add: Equity in Saussure’s income for 2006

($360,000 ´ 80%) 288,000Add: Equity adjustment from translation

($522,000 ´ 80%) 417,600Less: Patent amortization (100,000 Kronas/10 years ´ $.60 average rate) (6,000)Equity adjustment from Patent computed as follows:

Ending balance based on Kronas $58,500Add: Amortization based on Kronas 6,000

64,500Less: Beginning Patent based on dollars (55,000) 9,500

Investment in Saussure December 31, 2006 $2,762,500

2 Unamortized Patent at December 31, 2006

Unamortized Patent in Kronas (90,000) ´ current exchange rate ($.65) $ 58,500

Equity adjustment from translation ($417,600 + $9,500) $ 427,100


19-463


1 Patent computations

Cost of 80% interest January 1, 2006 $ 75,000Book value acquired (600,000 LCU ´ 80% ´ $.15) 72,000

Patent $ 3,000Patent in LCU ($3,000/$.15 rate) = 20,000 LCUPatent amortization in LCU (20,000 LCU/10 years) = 2,000 LCU

Patent January 1, 2006 $ 3,000Less: Patent amortization—2006 (2,000 LCU ´ $.155) 310Less: Unamortized Patent December 31, 2006

(18,000 LCU ´ $.16) 2,880Equity adjustment from Patent — 2006 $ 190

Patent January 1, 2007 $ 2,880Less: Patent amortization — 2007 (2,000 LCU ´ $.165) 330Less: Unamortized Patent balance December 31, 2007

(16,000 LCU ´ $.17) 2,720Equity adjustment from Patent — 2007 $ 170

2 Equity adjustment calculations

2006Equity adjustment from translation ($6,900 ´ 80% interest) $ 5,520Add: Equity adjustment from Patent 190

Equity adjustment December 31, 2006 $ 5,710

2007Beginning balance $ 5,710Equity adjustment from translation ($15,000 - $6,900) ´ 80% 6,480Add: Equity adjustment from Patent 170

Equity adjustment December 31, 2007 $ 12,360

3 Noncontrolling interest calculations

2006Capital stock $ 75,000Retained earnings:

Beginning retained earnings $15,000Add: Net income less dividends 23,100 38,100

Equity adjustment from translation 6,900Stockholders’ equity December 31, 2006 120,000



19-464


2007Capital stock $ 75,000Retained earnings:

Beginning retained earnings $38,100Add: Net income less dividends 14,700 52,800

Equity adjustment from translation 15,000Stockholders’ equity December 31, 2007 142,800Noncontrolling interest percentage 20%Noncontrolling interest December 31, 2007 $ 28,560

Solution P13-14 APPENDIX B


Cost of 75% interest in Smithe on January 1, 2006 $1,421,000Book value acquired (1,300,000 LCU ´ $1.40 ´ 75%) (1,365,000)

Patent in dollars $ 56,000

Patent in LCU: $56,000/$1.40 rate = 40,000 LCU

Patent amortization for 200640,000 LCU/10 years ´ $1.43 average rate $ 5,720

Equity adjustment from Patent translation for 2006Beginning balance $56,000Less: Amortization for 2006 (5,720)Less: Unamortized Patent at December 31

36,000 LCU ´ $1.45 current rate (52,200)Equity adjustment from Patent translation $ 1,920

Patent amortization for 200740,000 LCU/10 years ´ $1.48 average rate $ 5,920

Equity adjustment from Patent translation for 2007Beginning balance $52,200Less: Amortization for 2007 (5,920)Less: Unamortized Patent at December 31

32,000 LCU ´ $1.50 current rate (48,000)Equity adjustment from Patent translation $ 1,720

Investment in Smithe accountInvestment in Smithe January 1, 2006 $1,421,000Income from Smithe ($100,100 ´ 75% - $5,720 Patent) 69,355Equity adjustment from translation ($64,900 ´ 75%) 48,675Equity adjustment from Patent 1,920


19-465

Dividends ($71,000 ´ 75%) (53,250)Investment in Smithe December 31, 2006 1,487,700Income from Smithe ($222,000 ´ 75% - $5,920 Patent) 160,580Equity adjustment from translation ($67,500 ´ 75%) 50,625Equity adjustment from Patent 1,720Dividends ($73,500 ´ 75%) (55,125)Investment in Smithe December 31, 2007* $1,645,500

* Stockholders’ equity of Smithe at December 31, 2007 of $2,130,000 ´ 75% = Perry’s interest of $1,597,500 + $48,000 unamortized Patent = $1,645,500.


19-466


Perry Corporation and SubsidiaryConsolidation Working Papers


Perry Smithe 75%Adjustments and

EliminationsNon-controlling

InterestConsolidatedStatements

Income StatementSales $2,000,000 $1,430,000 $3,430,000

Income from Smithe 69,355 a 69,355

Cost of sales (900,000) (858,000) (1,758,000)


Operating expense (669,355) (257,400) c 5,720 (932,475)


Net income $ 300,000 $ 100,100 $ 300,000

Retained EarningsRetained earnings $ 450,000 $ 420,000 b 420,000 $ 450,000

Net income 300,000 100,100 300,000

Dividends (250,000) (71,000) a 53,250 (17,750) (250,000)




Advance to Perry 58,000 d 58,000

Inventories 250,000 217,500 467,500

Equipment — net 2,000,000 1,740,000 3,740,000

Investment in Smithe

1,487,700 a 16,105b 1,471,595

Patent b 57,920 c 5,720 52,200

$4,000,000 $2,204,000 $4,710,500


Advance from Smithe 58,000 d 58,000

Capital stock 3,000,000 1,400,000 b 1,400,000 3,000,000


Equity adjustment+ 48,595 64,900 b 64,900 48,595

$4,000,000 $2,204,000

Noncontrolling interest $1,884,900 ´ 25% b 471,225 471,225


$4,710,500

+ Equity adjustment is computed as 75% ´ $64,900 from translation, plus $1,920 from translation of Patent, less $2,000 from translation of the long-term advance.


19-467


Perry Corporation and SubsidiaryConsolidation Working Papers


Perry Smithe 75%Adjustments and

EliminationsNoncontrolling



Income from Smithe 160,580 a 160,580

Cost of sales 900,000* 1,036,000* 1,936,000*


Operating expense 710,580* 296,000* c 5,920 1,012,500*

Noncontrolling income $55,500 55,500*

Net income $ 400,000 $ 222,000 $ 400,000

Retained EarningsRetained earnings $ 500,000 $ 449,100 b 449,100 $ 500,000

Net income 400,000 222,000 400,000

Dividends 250,000* 73,500* a 55,125 18,375* 250,000*




Advance to Perry 60,000 d 60,000

Inventories 200,000 300,000 500,000

Equipment — net 2,100,000 1,575,000 3,675,000

Investment in Smithe

1,645,500 a 105,455b 1,540,045

Patent b 53,920 c 5,920 48,000

$4,200,000 $2,325,000 $4,867,500


Advance from Smithe 60,000 d 60,000

Capital stock 3,000,000 1,400,000 b 1,400,000 3,000,000


Equity Adjustment+ 98,940 132,400 b 132,400 98,940

$4,200,000 $2,325,000

Noncontrolling interest $1,981,500 ´ 25% b 495,375 495,375


$4,867,500

+ Equity adjustment is computed as 75% ´ $132,400 from translation, plus $3,640 from translation of Patent, less $4,000 from translation of the long-term advance.


19-468


Perry Corporation and SubsidiaryComparative Consolidated Financial Statements

Year 2007 Year 2006Change

2007 — 2006Income StatementSales $3,876,000 $3,430,000 $446,000Cost of sales (1,936,000) (1,758,000) (178,000)Depreciation expense (472,000) (414,500) (57,500)Operating expenses (1,012,500) (932,475) (80,025)Noncontrolling interest income (55,500) (25,025) (30,475)

Consolidated net income $ 400,000 $ 300,000 $100,000

Retained Earnings StatementRetained earnings — beginning $ 500,000 $ 450,000 $ 50,000Consolidated net income 400,000 300,000 100,000Dividends (250,000) (250,000) 0

Retained earnings December 31 $ 650,000 $ 500,000 $150,000

Balance SheetCash $ 179,500 $ 213,800 $(34,300)Accounts receivable 465,000 237,000 228,000Inventories 500,000 467,500 32,500Equipment — net 3,675,000 3,740,000 (65,000)Patent 48,000 52,200 (4,200)

Total assets $4,867,500 $4,710,500 $157,000Accounts payable $ 586,060 $ 683,405 $(97,345)Capital stock 3,000,000 3,000,000 0Retained earnings 650,000 500,000 150,000Equity translation adjustment 98,940 48,595 50,345Noncontrolling interest 25% 532,500 478,500 54,000

Total equities $4,867,500 $4,710,500 $157,000


19-469


Perry Corporation and SubsidiaryIndividual Asset and Liabilities Translation Adjustments and Reconciliation


BalanceDec. 31

2006in LCU

RateChange

1stHalf*

$ Change1st

Halfof 2007

BalanceDec. 31

2007in LCU

RateChange

2ndHalf+

$ Change2ndHalf

of 2007

ConsolidatedTranslation

Changes

A B C D E F C + FCash 70,000 $0.030 $ 2,100 80,000 $0.020 $ 1,600 $ 3,700Cash (adjustment) 50,000 0.010 (500) 0.020 0 (500)Accounts receivable 60,000 0.030 1,800 180,000 0.020 3,600 5,400Inventories 150,000 0.030 4,500 200,000 0.020 4,000 8,500Equipment — net 1,200,000 0.030 36,000 1,050,000 0.020 21,000 57,000Patent 36,000 0.030 1,080 32,000 0.020 640 1,720

44,980 30,840 75,820

Accounts payable 200,000 0.030 6,000 130,000 0.020 2,600 (8,600)Effect of translation changes on consolidated net assets $67,220

ReconciliationNoncontrolling interest translation adjustment

($67,500 change ´ 25%) $16,875Equity adjustment of Perry

($67,500 ´ 75%) + $1,720 - $2,000 50,345Effect of translation changes on consolidated stockholders’ equity $67,220

* Average exchange rate of $1.48 - current exchange rate of $1.45 at year end 2006.+ Current exchange rate of $1.50 at year-end 2008 - average exchange rate of $1.48 for the year 2007


19-470


Indirect method

Perry Corporation and SubsidiaryConsolidated Statement of Cash Flows for the year ended December 31, 2007

Cash Flow from Operating ActivitiesConsolidated net income $ 400,000Add: Noncontrolling interest income 55,500 $ 455,500Noncash expenses, revenues, losses, and gains included in income:

Depreciation expense $ 472,000Patent amortization 5,920Increase in accounts receivable (222,600)Decrease in accounts payable (105,945)Increase in inventories (24,000) 125,375Cash flow from operating activities 580,875

Cash Flow from Investing ActivitiesPurchase of equipment $ (350,000)Net cash used in investing activities (350,000)

Cash Flow from Financing ActivitiesDividends paid to Perry’s stockholders $ (250,000)Dividends paid to Noncontrolling stockholders (18,375)

Net cash provided by financing activities (268,375)Effect of exchange rate changes on cash 3,200

Decrease in cash for 2007 (34,300)Cash and cash equivalents at December 31, 2006 213,800Cash and cash equivalents at December 31, 2007 $ 179,500

Direct Method [Cash Flow from Operating Activities Section]

Cash Flow from Operating ActivitiesCash received from customers $3,653,400Less: Cash paid to suppliers $2,065,945Cash paid for operating expenses 1,006,580 (3,072,525)

Cash flow from operating activities $ 580,875

[Cash flows from investing activities and cash flows from operating activities are the same as under the indirect method.]


19-471

Solution P13-15 APPENDIX B


Cost of 90% interest January 1, 2006 $2,070,000Book value acquired (5,000,000 LCU ´ $.45 ´ 90%) (2,025,000)

Patent (10 year amortization period) $ 45,000

Patent in LCU: $45,000/$.45 = 100,000 LCUPatent amortization for 2006: 100,000 LCU/10 years ´ $.42 = $ 4,200

Unamortized Patent December 31, 2006: 90,000 LCU ´ $.40 = $ 36,000

Equity adjustment from Patent for 2006: $45,000 Patent balance January 1, 2006 — $4,200 amortization - $36,000 unamortized balance December 31, 2006 Debit $ 4,800

Patent amortization for 2007: 100,000 LCU/10 years ´ $.38 = $ 3,800

Unamortized Patent December 31, 2007: 80,000 LCU ´ $.375 = $ 30,000

Equity adjustment from Patent for 2006: $36,000 Patent balance January 1, 2007 — $3,800 amortization - $30,000 unamortized balance at December 31, 2007 Debit $ 2,200

Investment in Scheele account:Investment in Scheele January 1, 2006 $2,070,000Income from Scheele ($420,000 ´ 90% - $4,200 Patent) 373,800Equity adjustment from translation ($270,000 ´ 90%) (243,000)Equity adjustment from Patent (4,800)Investment in Scheele December 31, 2006 2,196,000Income from Scheele ($418,000 ´ 90% - $3,800 Patent) 372,400Equity adjustment from translation ($155,500 ´ 90%) (139,950)Equity adjustment from Patent (2,200)Investment in Scheele December 31, 2007 $2,426,250

Check: Stockholders’ equity of Scheele at December 31, 2007 of$2,662,500 ´ 90% interest + $30,000 unamortized Patent = $2,426,250


19-472


Scheele CorporationTranslation Worksheet for 2006

LCU Rate U.S. DollarsDebitsCash 100,000 $.4000 C $ 40,000Accounts receivable 400,000 .4000 C 160,000Inventories 500,000 .4000 C 200,000Equipment 9,000,000 .4000 C 3,600,000Cost of sales 3,000,000 .4200 A 1,260,000Depreciation expense 900,000 .4200 A 378,000Operating expenses 975,000 .4200 A 409,500Exchange loss 125,000 .4200 A 52,500Equity adjustment — 2006 270,000

15,000,000 $6,370,000

CreditsAccumulated depreciation 1,800,000 .4000 C $ 720,000Accounts payable 1,075,000 .4000 C 430,000Advance from Progress 1,125,000 .4000 C 450,000Capital stock 4,000,000 .4500 H 1,800,000Retained earnings January 1, 2006 1,000,000 M 450,000Sales 6,000,000 .4200 A 2,520,000

15,000,000 $6,370,000

Translation Worksheet for 2007

DebitsCash 600,000 $.3750 C $ 225,000Accounts receivable 1,000,000 .3750 C 375,000Inventories 1,500,000 .3750 C 562,500Equipment 9,000,000 .3750 C 3,375,000Cost of sales 3,600,000 .3800 A 1,368,000Depreciation expense 900,000 .3800 A 342,000Operating expenses 1,325,000 .3800 A 503,500Exchange loss 75,000 .3800 A 28,500Equity adjustment January 1 M 270,000Equity adjustment 2007 155,500

18,000,000 $7,205,000

CreditsAccumulated depreciation 2,700,000 .3750 C $1,012,500


19-473

Accounts payable 1,100,000 .3750 C 412,500Advance from Progress 1,200,000 .3750 C 450,000Capital stock 4,000,000 .4500 H 1,800,000Retained earnings January 1, 2007 2,000,000 M 870,000Sales 7,000,000 2,660,000

18,000,000 $7,205,000


19-474


Progress Corporation and SubsidiaryConsolidation Working Papers


Progress Scheele 90%Adjustments and

EliminationsNoncontrolling



Income from Scheele 373,800 a 373,800

Exchange loss (52,500) (52,500)

Cost of sales (4,300,000) (1,260,000) 5,560,000)


Other expenses (2,000,000) (409,500) c 4,200 (2,413,700)

Noncontrolling income 42,000 (42,000)

Net income $1,000,000 $ 420,000 $ 1,000,000

Retained EarningsRetained earnings — Progress $1,200,000 $ 1,200,000

Retained earnings — Scheele $ 450,000 b 450,000

Net income 1,000,000 420,000 1,000,000

Dividends

Retained earnings December 31, 2006 $2,200,000 $ 870,000 $ 2,200,000


Accounts receivable 1,200,000 160,000 1,360,000

Advance to Scheele 450,000 d 450,000

Inventories 1,100,000 200,000 1,300,000

Equipment — net 1,300,000 2,880,000 4,180,000

Investment in Scheele 2,196,000

a 373,800b 1,822,200

Patent b 40,200 c 4,200 36,000

$6,652,200 $3,280,000 $ 7,322,200

Accounts payable $1,700,000 $ 430,000 $ 2,130,000

Advance from Progress 450,000 d 450,000

Capital stock 3,000,000 1,800,000 b 1,800,000 3,000,000

Retained earnings 2,200,000 870,000 2,200,000

Equity adjustment — Progress 247,800* 247,800*

Equity adjustment — Scheele 270,000* b 270,000

$6,652,200 $3,280,000

Noncontrolling interest January 1, 2006 10% b 198,000 198,000



19-475

$ 7,322,200* Deduct


19-476


Progress Corporation and Subsidiary


Progress Scheele 90%Adjustments and

EliminationsNoncontrollin

gInterest



Income from Scheele 372,400 a 372,400

Exchange loss (28,500) (28,500)

Cost of sales (4,800,000) (1,368,000) (6,168,000)

Depreciation expense (700,000) (342,000) (1,042,000)

Other expenses (2,200,000) (503,500) c 3,800 (2,707,300)


Net income $1,200,000 $ 418,000 $ 1,200,000

Retained EarningsRetained earnings — Progress $2,200,000 $ 2,200,000

Retained earnings — Scheele $ 870,000 b 870,000

Net income 1,200,000 418,000 1,200,000

Retained earnings December 31, 2007 $3,400,000 $1,288,000 $ 3,400,000


Accounts receivable 1,400,000 375,000 1,775,000

Advance to Scheele 450,000 d 450,000

Inventories 1,950,000 562,500 2,512,500

Equipment — net 1,100,000 2,362,500 3,462,500

Investment in Scheele 2,426,250

a 372,400b 2,053,850

Patent b 33,800 c 3,800 30,000

$7,510,050 $3,525,000 $ 8,188,800

Accounts payable $1,500,000 $ 412,500 $ 1,912,500

Advance from Progress 450,000 450,000

Capital stock 3,000,000 1,800,000 b 1,800,000 3,000,000

Retained earnings 3,400,000 1,288,000 3,400,000

Equity adjustment — Progress (389,950) (389,950)

Equity adjustment — Scheele (425,500) b 425,500

$7,510,050 $3,525,000


19-477

Noncontrolling interest January 1, 2007 10% b 224,450 224,450


$ 8,188,800


19-478


Progress Corporation and SubsidiaryComparative Consolidated Financial Statements

at and for the years ended December 31, 2006 and 2007

2007 2006 Change2007 — 2006

Income StatementSales $11,187,600 $10,046,200 $1,141,400Cost of sales (6,168,000) (5,560,000) (608,000)Depreciation (1,042,000) (978,000) (64,000)Other operating expenses (2,707,300) (2,413,700) (293,600)Exchange loss (28,500) (52,500) 24,000Noncontrolling interest income (41,800) (42,000) 200Consolidated net income $ 1,200,000 $ 1,000,000 $ 200,000

Retained Earnings StatementRetained earnings January 1 $ 2,200,000 $ 1,200,000 $1,000,000Add: Consolidated net income 1,200,000 1,000,000 200,000Retained earnings December 31 $ 3,400,000 $ 2,200,000 $1,200,000

Balance SheetCash $ 408,800 $ 446,200 $ (37,400)Accounts receivable 1,775,000 1,360,000 415,000Inventories 2,512,500 1,300,000 1,212,500Equipment — net 3,462,500 4,180,000 (717,500)Patent 30,000 36,000 (6,000)Total assets $ 8,188,800 $ 7,322,200 $ 866,600

Accounts payable $ 1,912,500 $ 2,130,000 $ (217,500)Capital stock 3,000,000 3,000,000 0Retained earnings 3,400,000 2,200,000 1,200,000Equity translation adjustment (389,950) (247,800) (142,150)Noncontrolling interest (10%) 266,250 240,000 26,250Total equities $ 8,188,800 $ 7,322,200 $ 866,600

Progress Corporation and SubsidiaryIndividual Asset and Liability Translation Adjustments and Reconciliation

at and for the year ended December 31, 2007Balance

12/31/2006in LCU

RateChange*

1st Half

$ Change1st Halfof 2007

Balance12/31/2007

in LCU

RateChange+

2nd Half

$ Change2nd Halfof 2007

ConsolidatedTranslation

ChangesA B C D E F C + F

Cash 100,000 $0.020 $ (2,000) 600,000 $0.005 $ (3,000) $ (5,000)Accounts receivable 400,000 $0.020 (8,000) 1,000,000 0.005 (5,000) (13,000)Inventories 500,000 $0.020 (10,000) 1,500,000 0.005 (7,500) (17,500)Equipment — net 7,200,000 $0.020 (144,000) 6,300,000 0.005 (31,500) (175,500)Patent 90,000 $0.020 (1,800) 80,000 0.005 (400) (2,200)


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(165,800) (47,400) (213,200)

Accounts payable 1,075,000 $0.020 21,500 1,100,000 0.005 5,500 27,000 Effect of translation changes on consolidated net assets $(186,200)

Reconciliation

Noncontrolling interest translation adjustment ($155,500 change ´ 10%) $ (15,550)Equity adjustment of Progress ($155,500 ´ 90% + $2,200) (142,150)Exchange loss on advance to Scheele (28,500)

Effect of translation changes on consolidated net assets $(186,200)

* Average exchange rate of $.42 - current exchange rate of $.40 at year end 2006.+ Current exchange rate of $.375 at year end 2007 - average exchange rate of $.38 for year 2007.


19-480


Indirect Method

Progress Corporation and SubsidiaryConsolidated Statement of Cash Flowsfor the year ended December 31, 2007

Cash Flows from Operating ActivitiesConsolidated net income $1,200,000Add: Noncontrolling interest income 41,800 $ 1,241,800Noncash expenses, revenues, losses, and gains included in income:

Depreciation expense $1,042,000Patent amortization 3,800Exchange loss 28,500Increase in accounts receivable (428,000)Decrease in accounts payable (190,500)Increase in inventories (1,230,000) (774,200)Net cash flows from operating activities 467,600

Cash Flows from Investing ActivitiesPurchase of equipment $ (500,000)

Net cash used in investing activities (500,000)Cash Flows from Financing Activities ---Effect of exchange rate changes on cash (5,000)Decrease in cash for 2007 (37,400)Add: Cash and cash equivalents at beginning of year 446,200Cash and cash equivalents at December 31, 2007 $ 408,800

Direct Method [Cash Flows from Operating Activities Section]

Cash Flows from Operating Activities

Cash received from customers $10,759,600Less: Cash paid to suppliers $7,588,500

Cash paid for operating expenses 2,703,500 (10,292,000)Net cash flows from operating activities 467,600


19-481

Chapter 14

SEGMENT AND INTERIM FINANCIAL REPORTING


1 An operating segment is a component of an enterprise: (1) that engages in business activities from which it may earn revenues and incur expenses, either internal or external; (2) whose operating results are regularly reviewed by the enterprise’s chief operating decision maker and (3) for which discrete financial information is available.

2 A reportable segment is an operating segment, either single or aggregated, for which information has to be reported under FASB Statement No. 131. An operating segment is a reportable segment if (a) its revenue is 10 percent or more of the combined revenue of all operating segments, (b) its absolute operating profit or loss is 10 percent or more of the greater of combined operating profit of all segments that have operating profit or combined operating losses of all segments that have losses, or (c) its identifiable assets are 10 percent or more of the combined identifiable assets of all operating segments.

3 Segments not meeting one of these tests are subject to a reevaluation, and possible aggregation, if the combined revenue from sales to external customers of all reportable segments is less than 75 percent of consolidated revenue. Segments that are not reportable segments are combined with other business activities and reported under an “all other” category.

4 The 10 percent revenue test applies to the $480,000. Revenue for purposes of FASB Statement No. 131 includes revenue from both external and intersegment customers.

5 An industry segment is a reportable segment under the 10 percent operating profit test if its operating profit or loss, in absolute amount, equals or is greater than the greater of combined operating profits for all operating segments having operating profits or combined operating losses for all operating segments having operating losses.

6 A segment is a reportable segment under the 10 percent asset test if its assets are 10 percent or more of the combined assets of all operating segments. The allocation of general corporate assets depends on the internal operations of the enterprise. The key is the asset figure given to the chief operating decision maker on which he or she evaluates performance. If corporate assets are not allocated, they become part of the reconciliation between the reportable segments’ assets and consolidated assets.

7 A segment is a reportable segment under the 10 percent revenue test if its intersegment and external sales is 10 percent or more of the combined intersegment and external sales of all the operating segments.


19-482

8 No. If the combined revenue from sales to external customers is less than 75 percent of total consolidated revenues, additional operating segments must be identified as reportable segments until the 75 percent test is met. Either some of the remaining segments must be aggregated, if they meet the aggregation criteria, so that the combined segment meets the materiality criteria of 10%, or one or more of the five operating segments that were not reportable segments under the 10 percent tests must be identified as reportable segments.


19-483

9 The following information must be disclosed for reportable segments and for the remainder of the enterprise’s operating segments and other business activities in the aggregate:a Revenue, with separate amounts to unaffiliated and affiliated customers, and

disclosure of the basis of accounting for intersegment sales.b Operating profit or loss, based on the information reviewed by the chief operating

officer.c Identifiable assets for each reportable segment.d Interest revenuee Interest expensef Aggregate amount of depreciation, depletion, and amortization expense.g Unusual items as described in paragraph 26 of APB Opinion No. 30.h Equity in the net income of investees accounted for by the equity method.i Income tax expense or benefit.j Extraordinary items.k Significant noncash items other than depreciation, depletion, and amortization.

10 If the enterprise is segmented on a geographic basis, complete segment information would be supplied by country of operation. If a different criteria is used for segmentation, more limited geographic information is supplied. Revenues and long lived assets attributed to the country of domicile and all foreign operations are disclosed. Any single country with material operations exist must also be disclosed separately.

11 The fact and amount of revenue from each customer must be disclosed if 10 percent or more of an enterprise’s revenue is derived from that customer. If 10 percent or more of an enterprise’s revenue is derived from sales to the federal government, or to a state, local, or foreign governmental unit, that fact and the amount of revenue must be disclosed. The identity of the segment making such sales must be disclosed, but the customer need not be identified by name.

12 The requirements of FASB Statement No. 131 do apply to interim financial statements. Like other aspects of interim reporting, segment disclosure is more limited in the interim reports than in the annual reports. Required disclosure for each reportable segment in the interim reports include: (1) revenues from external customers, (2) intersegment revenues, (3) a measure of segment profit or loss, (4) total assets for which there has been a material change since the amount disclosed in the annual report, (5) a description of any changes in the basis for segmentation or the basis of measurement of segment profit or loss, (6) a reconciliation of total reportable segment profit or loss and consolidated income before income taxes.

13 An annual effective tax rate is computed as the sum of estimated income taxes for each quarter of the year, divided by the estimated income for the year. This approach spreads any progression in tax rates over the entire year in accordance with the integral theory of interim reporting.


19-484

14 The discrete theory assumes that each quarter is a separate and independent accounting period that stands alone. By contrast, the integral theory treats each interim period as an essential part of each annual period. The integral theory is required under GAAP reporting for interim reports.

15 APB Opinion No. 28 specifies that minimum disclosures for interim reports should include gross revenues, provision for income taxes, extraordinary items and cumulative-effect-type changes on a net-of-tax basis, and net income and related EPS amounts as basic reporting items. In addition, disclosures are required of seasonal cost and revenue, significant changes in income tax estimates, or changes in financial position, and material contingencies, extraordinary and unusual or infrequently occurring items.


19-485


Solution E14-1

1 d 4 b2 a 5 d3 d 6 b

Solution E14-2

1 Revenue tests

10% revenue test:Revenue from Affiliated Reportable Segment

and Unaffiliated Customers Test Value $215,000Concrete and stone products $ 200,000 noConstruction 500,000 yesLumber and wood products 900,000 yesBuilding materials 500,000 yesOther 50,000 no

$2,150,000

75% revenue test:Combined Revenue from Combined Revenue fromReportable Segments to All Segments toUnaffiliated Customers Unaffiliated Customers

Concrete and stone products $ 200,000Construction $ 500,000 500,000Lumber and wood products 500,000 500,000Building materials 300,000 300,000Other 50,000

$1,300,000 $1,550,000

Since the $1,300,000 combined revenue from reportable segments to unaffiliated customers is greater than 75% of $1,550,000 revenue for all unaffiliated customers ($1,162,500), no additional segments have to be reported.

2 Schedule for disclosing revenue by segment:

LumberConstruction and Wood Building Other Totals

Unaffiliated sales $500,000 $500,000 $300,000 $250,000 $1,550,000

Affiliated sales $400,000 $200,000 600,000Total Sales $500,000 $900,000 $500,000 $250,000 $2,150,000

3 Reconciliation of segment revenue to corporate revenue

Total revenue of reportable segments $1,900,000Other revenue 250,000


19-486

Eliminations of intersegment revenue (600,000)Total consolidated revenue $1,550,000


19-487

Solution E14-3

Revenue test: 10% of combined revenues (total sales) = $68,800,000

The food service industry, copper mine, and chemical industry are reportable segments under the revenue test because they each have revenue in excess of $68,800,000.

Operating profit test: 10% of the greater of the combined operating profit of all industries having operating profit ($88,500,000) or the combined operating loss of all industries having operating losses ($25,500,000).

The food service industry, copper mine, chemical industry, and agricultural products industry are reportable segments because they each have operating profit or loss in excess of $8,850,000.

Asset test: 10% of combined assets ($638,000,000 total assets less $33,000,000 corporate assets) = $60,500,000.

The food service industry and chemical industry are reportable segments because they have assets in excess of $60,500,000.

Reportable segments (those that meet at least one of the tests): food service industry, copper mine, chemical industry, and agricultural products industry.

Solution E14-4

Worldwide CorporationSegment Revenue for 2008

(in thousands)

United Other

States Canada ForeignSales to unaffiliated customers $50,000 $18,000 $21,000Intersegment sales 15,000 8,000 4,000Total $65,000 $26,000 $25,000

Since revenue from reportable operating segments of $68,000 is greater than 75% of consolidated revenue ($89,000), no additional segments need be reported.

Revenue Reconciliation:

Reportable Segments $91,000Other segments 25,000Intersegment revenue (27,000)Consolidated revenue $89,000


19-488


19-489


1 cRevenue test value = $3,275 Industries A, B, C, and E

Operating profit test value = $580 Industries A, B, C, and E

Identifiable assets test value = $6,750 Industries A, B, C, D, and E

2 dTen percent of combined revenues of all industry segments.

3 bRevenue test value: 10% of sales to unaffiliated ($2,000) and affiliated ($600) customers = $260

4 bOnly Beck and DG have total revenues ³ 10% of $83,000 combined revenues:

Beck $12,000 total revenue > $8,300DG $59,000 total revenue > $8,300

5 dIf sales to a single customer total 10% or more of Grum’s reported revenues ($50,000,000 ´ 10%), major customer data should be disclosed.

6 aIf revenues generated by foreign operations in one country are material (10% or more) of consolidated revenue, Grum should report information about that country’s foreign operations.

7 cThe materiality criteria for reporting a segment based on revenue is 10 percent of total (both external and intersegment, eliminating b) revenue (not income eliminating a) of all operating segments (not just those reporting a profit, eliminating d).

8 bSales to other segments are always included in segment income. The other three options generally would not be included but any of them could be included. Inclusion would depend on whether it was included in the performance report evaluated by the chief operating decision maker.


19-490

Solution E14-6

1 cJapan is the only foreign segment that has segmental revenues (including intersegment revenues) of over 10% of total segment revenues of $126,000.

2 c Assets Test Value Reportable Geographic Area

United States $100,000 < $15,700 yesCanada 15,000 < $15,700 noGermany 17,000 < 15,700 yesJapan 18,000 < 15,700 yesMexico 4,000 < 15,700 noOther foreign 3,000Total foreign $157,000

The test value to determine reportability is 10 percent of consolidated segment assets of $157,000, not total consolidated assets.

3 bUnited States on all three tests, Japan on the revenue and asset tests, and Germany on the operating profit and asset tests.

Solution E14-7

1 d

2 c

3 d1st Quarter 2nd Quarter

Income year to date $120,000 $210,000Tax rate 34% 30%

40,800 63,000Less: Tax in prior return periods 0 40,800Quarterly period tax expense $ 40,800 $ 22,200

4 aEstimated total taxes of $26,150 ¸ $110,000 estimated pretax income = 23.77%

Solution E14-8

Endicott CorporationSchedule of Income by Quarter for 2008

1stQuarter

2ndQuarter

3rdQuarter

4thQuarter

Year 2006

Income year-to-date $30,000 $70,000 $110,000 $150,000 $150,000


19-491

Quarterly period income $30,000 $40,000 $ 40,000 $ 40,000 $150,000Income tax expense* (8,350) (11,133) (11,133) (11,134) (41,750)Net income $21,650 $28,867 $ 28,867 $ 28,866 $108,250* Income tax expense computations:

1st Quarter $30,000 ´ .278333 = $8,3502nd Quarter $70,000 ´ .278333 = $19,483 - $8,350 = $11,1333rd Quarter $110,000 ´ .278333 = $30,616 - $19,483 = $11,1334th Quarter $150,000 ´ .278333 = $41,750 - $30,616 = $11,134


19-492


1 bThe inventory loss was not expected to be temporary, and therefore, the decline was recognized in the first period. The subsequent recovery to the original cost is recognized in the third period.

2 bThe extraordinary loss of $70,000 has to be disclosed, and the annual insurance premium has to be allocated $25,000 per quarter.

3 dThe full $360,000 loss is included in the second quarter interim report because the loss is permanent.

4 aAn extraordinary loss is allocated to the quarter to which it relates. In this case the $300,000 extraordinary loss is assigned to the third quarter.

5 aUnder the integral theory each quarterly period is an integral part of each annual period. Thus, property taxes of $20,000 ($80,000 ´ 25%) and executive bonuses of $80,000 ($320,000 ´ 25%) should be allocated to each of the four quarters.

Solution E14-10

Current cost to replace 4,000 units at $8 $ 32,000Historical cost of inventory liquidated 4,000 units at $5 20,000

Adjustment to cost of sales [4,000 units ´ ($8 - $5)] 12,000Cost of sales 550,000

Adjusted cost of sales for the first quarter $562,000


19-493


Solution P14-1

1 Reportable segments under the 10% revenue test:

Test value is 10% of $1,158,000 total sales, or $115,800. Reportable industry segments include the apparel, furniture, lumber and wood products, and textiles segments.

2 Test value for 75% revenue test is the combined revenue from sales to unaffiliated customers by all industry segments of $892,000 ´ 75% = $669,000

Reportable segments:Apparel $164,000Furniture 208,000Lumber and wood products 175,000Textiles 50,000

Total $597,000

Sales to unaffiliated customers by the reportable industry segments of $597,000 is less than the $669,000 test value. Therefore, additional segments must be identified as reportable segments. The construction industry, as closest to the 10% criteria, should be included as a reportable segment.

3 Under the assumption that tobacco and paper share the majority of their operating characteristics they would be combined into one segment that now meets the 10% test and complies with the 75% criteria. Construction would no longer need to be reported. Note to disclose information about segment data:

Sales to Sales toUnaffiliated Affiliated Customers Customers Total Sales

Apparel $ 164,000 --- $ 164,000Tobacco and paper 183,000 183,000Furniture 208,000 $ 6,000 214,000Lumber and wood products 175,000 90,000 265,000Textiles 50,000 170,000 220,000Other segments 112,000 --- 112,000Total revenue $ 892,000 $266,000 $1,158,000

Reconciliation of Segment Revenue to Consolidated Revenue:

Reportable segment revenue $1,046,000Other revenue 112,000Intersegment revenue (266,000)


19-494

Consolidated revenue $ 892,000


19-495

Solution P14-2

1 Reportable segments

Revenue test ($600,000 + $105,000) ´ 10% = $70,500Reportable segments: Food $350,000

Chemical $150,000Beverages $ 72,000

Operating profit test ($85,000 + $10,000) ´ 10% = $9,500Reportable segments: Food $ 45,000

Chemical $ 23,000Beverages $ 18,000

Asset test $645,000 ´ 10% = $64,500Reportable segments: Food $310,000

Chemical $150,000

2 Reportable segments test

Test value $600,000 consolidated sales ´ 75% = $450,000

Unaffiliated sales: Food $300,000Chemical 110,000

Beverages 62,000Total $472,000

Sales by reportable segments ($472,000) are greater than the $450,000 test value and no additional reportable segments are required.


19-496

Solution P14-3

1 Operating segments (foreign geographic areas):

Revenue testReportable

Test Value GeographicRevenue ($240,000 ́ 10%) Area

Canada $ 24,000 ³ $24,000 yesMexico 20,000 < 24,000 noBrazil 22,000 < 24,000 noSouth Africa 25,000 > 24,000 yesUnited States 149,000 ³ 24,000 yes

$240,000

Asset testTest Valuea

Assets ($250,000 ́ 10%) ReportableCanada $ 30,000 ³ $25,000 yesMexico 19,000 < 25,000 noBrazil 20,000 < 25,000 noSouth Africa 31,000 ³ 25,000 yesUnited States 150,000 ³ 25,000 yes

a Total segment assets = $250,000.

Profit testTest Valuea

Profit ($50,000 ́ 10%) ReportableCanada $ 6,000 ³ $5,000 yesMexico 8,000 ³ 5,000 yesBrazil 5,000 ³ 5,000 yesSouth Africa 7,000 ³ 5,000 yesUnited States 24,000 ³ 5,000 yes

2 All five geographic segments (Canada, Mexico, Brazil, South Africa, and the United States) are reportable segments.


19-497


3 Daton-Paulo CorporationSchedule of Operations in Different Geographic Segments


United South States Mexico Brazil Africa Canada Total

Sales to unaffiliated customers $120,000 $20,000 $22,000 $15,000 $13,000 $190,000Intersegment transfers 29,000 10,000 11,000Total revenue $149,000 $20,000 $22,000 $25,000 $24,000 $240,000

Operating profit $ 24,000 $ 8,000 $ 5,000 $ 7,000 $ 6,000 $ 50,000

Identifiable assets $150,000 $19,000 $20,000 $31,000 $30,000 $250,000

Reconciliations:

Revenue:Total revenue of reportable segments $240,000Other revenues 0Elimination of intersegment revenues (50,000)

Total consolidated revenues $190,000

Profit or Loss:Total profit or loss for reportable segments $ 50,000Other profit or loss 0Elimination of intersegment profit and loss 0Unallocated amounts 0Consolidated income before taxes $ 50,000

Assets:Total assets for reportable segments $250,000Other assets 55,000

Consolidated total $305,000


19-498

Solution P14-4

1 Reportable segments:

Revenue testSales to Affiliatedand Unaffiliated Reportable Customers Test Value Segment

Foods $ 210 < $240 noSoft drinks 1,060 ³ 240 yesDistilled spirits 570 ³ 240 yesCosmetics 200 < 240 noPackaging 120 < 240 noOther (4 minor segments) 240

Total revenue $2,400

75% revenue test

Sales to Unaffiliated CustomersReportableSegments

AllSegments

Foods $ 180Soft drinks $ 900 900Distilled spirits 550 550Cosmetics 200Packaging 110Other (4 minor segments) 240

$1,450 $2,180

Since $1,450 < (75% ´ $2,180), other reportable segments must be identified to bring the total revenue from unaffiliated customers for reportable segments up to $1,635.

If no further aggregation is possible, a logical approach is to include cosmetics, the next largest segment in terms of sales to unaffiliated customers.

If further aggregation of some of the otherwise non-reportable segments were possible (they met the majority of the aggregation criteria), a combined segment may then meet the reportability criteria and would be reported instead of cosmetics.

The test: $900 + $550 + $200 = $1,650

Since $1,650 > $1,635, the reportable segments are soft drinks, distilled spirits, and cosmetics.


19-499


2 Mid-America CorporationSchedule of Sales to Affiliated and Unaffiliated Customers

by Segmentsfor the year ended December 31, 2008

SoftDrinks

Distilled Spirits Cosmetics

OtherSegments Totals

Sales to unaffiliated customers $ 900 $550 $200 $530 $2,180Sales to affiliated customers 160 20 40 220

Total revenue $1,060 $570 $200 $570 $2,400

Reconciliation:

Revenue from reportable segments $1,830Other revenue 570Elimination of intercompany revenue (220)Consolidated revenue $2,180

3 Mid-America CorporationDisclosure of Revenue from Domestic and Foreign Operations


United States Total Foreign JapanSales to unaffiliated customers $1,850 $330 $250Interarea sales 200 20Total revenue $2,050 $350 $250


19-500

Solution P14-5

1 Reportable segments:

Revenue test

Identified Segment Reportable Revenues Test Value Segment

Food $17,000 ³ $7,400 yesTobacco 17,000 ³ 7,400 yesLumber 7,000 < 7,400 noTextiles 26,000 ³ 7,400 yesFurniture 7,000 < 7,400 no

$74,000

Operating profit test

Before Tax Operating Reportable Profit Loss Test Value Segment

Food $ 2,000 ³ $1,050 yesTobacco 4,000 ³ 1,050 yesLumber $(500) < 1,050 noTextiles 3,000 ³ 1,050 yesFurniture 1,500 ³ 1,050 yes

$10,500 $(500)

Asset test

Identifiable Reportable Assets Test Value Segment

Food $19,000 ³ $7,500 yesTobacco 21,000 ³ 7,500 yesLumber 6,000 < 7,500 noTextiles 22,000 ³ 7,500 yesFurniture 7,000 < 7,500 no

$75,000

2 Food, tobacco, textile, and furniture segments are reportable segments.


19-501


3 Sales to Unaffiliated CustomersReportable AllSegments Segments

Food $12,000 $12,000Tobacco 10,000 10,000Lumber 7,000Textiles 18,000 18,000Furniture 7,000 7,000

$47,000 $54,000

Since the $47,000 revenue from unaffiliated customers of previously identified reportable operating segments is greater than 75% consolidated revenue (75% ´ $54,000 = $40,500), no additional reportable segments have to be identified.

4Random Choice Company

Schedule of Operations in Different Segmentsfor the year ended December 31, 2008

Furni- Food Tobacco Textiles ture Other Total

RevenuesSales to unaffiliated customers $12,000 $10,000 $18,000 $7,000 $7,000 $54,000Sales to affiliated customers 5,000 7,000 8,000 20,000Segment revenue $17,000 $17,000 $26,000 $7,000 $7,000 $74,000

Operating profitSegment operating profit $ 4,000 $ 4,000 $ 5,000 $1,500 $ (500) $14,000

AssetsIdentifiable assets $18,000 $19,000 $22,000 $7,000 $6,000 $72,000Depreciation $ 1,000 $ 2,000 $ 3,000 $ 500 $2,500 $ 9,000

Reconciliation of revenue:Revenue from reportable segments $ 67,000Revenue from equity investees 9,000Other revenue 7,000Intersegment eliminations (20,000)Consolidated revenue $ 63,000

Reconciliation of income:Reportable segment income $ 14,500Income from equity investees 9,000Other income (500)Interest expense (7,000)Consolidated income before taxes $ 16,000

Reconciliation of assets:Reportable segment assets $ 66,000Other segment assets 6,000Investment in equity affiliates 60,000Corporate assets 4,000


19-502

Consolidated assets $136,000


19-503

Solution P14-6

Truetest CorporationSchedule of Disclosures for Industry Segments


Chemical Food DrugSegment Segment Segment Totals

RevenueSales to unaffiliated customers $125,000 $115,000 $120,000 $360,000Intersegment sales 35,000 25,000 60,000Total sales 160,000 140,000 120,000 420,000ExpensesCost of sales $ 80,000 $ 70,000 $ 60,000General expenses 15,000 10,000 10,000Selling expenses 20,000 15,000 15,000Interest expense 5,000 5,000Total expenses 120,000 95,000 90,000Segment operating profit $ 40,000 $ 45,000 $ 30,000 125,000

Assets $200,000 $180,000 $150,000 $530,000

Reconciliation of revenue:Revenue from reportable segments $ 420,000Revenue from equity investees 30,000Interest revenue 10,000Intersegment eliminations (60,000)Consolidated revenue $ 400,000

Reconciliation of income:Reportable segment income $ 115,000Income from equity investees 30,000Interest income 10,000Corporate expense (5,000)Minority interest income (15,000)Intersegment eliminations (30,000)

Consolidated income before taxes $ 105,000

Reconciliation of assets:Reportable segment assets $ 530,000Investment in equity affiliates 300,000Corporate assets 200,000Elimination of intersegment balances (30,000)Consolidated assets $1,000,000


19-504


19-505

Solution P14-7

1 Reportable segments

Revenue test

OperatingIndustry Segment Test Value Reportable

Segment Revenue (10% ´ $2,600,000)

Segment

Food $1,010,000 ³ $260,000 yesPacking 560,000 ³ 260,000 yesTextile 630,000 ³ 260,000 yesAll other 400,000

$2,600,000

Operating profit test

Operating Test Value Reportable Segment Profit (10% ´ $325,000)

Segment

Food $110,000 ³ $32,500 yesPacking 110,000 ³ 32,500 yesTextile 30,000 < 32,500 noAll other 75,000

$325,000

Asset test

SegmentOperating Test Value Reportable

Segment Assets (10% ´ $2,125,000)

Segment

Food $ 750,000 ³ $220,000 yesPacking 500,000 ³ 220,000 yesTextile 550,000 ³ 220,000 yesAll other 400,000

$2,200,000


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2 Colby CompanyOperations in Different Segments

at or for the year ended December 31, 2008(Data in Thousands of Dollars)

Food Packing Textile Foreign AllIndustry Industry Segments Operation Other Totals

RevenuesSales to unaffiliated customers $ 950 $500 $300 $250 $400 $2,400Intersegment sales at market 60 60 30 50 200Segment sales 1,010 560 330 300 400 $2,600

Total $1,010 $560 $630 $300 $400

Operating profitSegment operating profit $ 110 $110 $ 5 $ 25 $ 75

Income before taxes $ 110 $110 $ 5 $ 25 $ 75 $ 325

AssetsIdentifiable assets $ 700 $500 $325 $200 $400 $2,125

Reconciliation of revenue:Revenue from reportable segments $2,200Other segment revenue 400Intersegment eliminations (200)Income from equity investees 100Consolidated revenue $2,500

Reconciliation of income:Reportable segment income $ 250Other segment income 75Income from equity investees 100Interest expense (20)Corporate expense (25)Consolidated income before taxes $ 380

Reconciliation of assets:Reportable segment assets $1,725Other segment assets 400Investment in equity affiliates 1,000Corporate assets 50Consolidated assets $3,175


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Solution P14-8

Trotter CorporationSchedule of Income by Quarter for 2008

1 First $50,000 ´ 20% $ 10,000Remainder ($160,000 – 50,000) ´ 34% 37,400Less amount subject to dividends received deduction

($20,000 ´ 80% ´ 34%) (5,440)

Total tax for the year $ 41,960Total Income $160,000Effective tax rate 26.225%

2 1stQuarter

2ndQuarter

3rdQuarter

4thQuarter

Year 2006

Income year-to-date $20,000 $50,000 $110,000 $160,000 $160,000Quarterly period income $20,000 $30,000 $ 60,000 $ 50,000 $160,000Income tax expense* (5,245) (7,868) (15,734) (13,113) (41,960)Net income $14,755 $22,132 $ 44,266 $ 36,887 $118,040

* Income tax expense computations:

1st Quarter $20,000 ´ .26225 = $5,2452nd Quarter $50,000 ´ .26225 = $13,113 - $5,245 = $7,8683rd Quarter $110,000 ´ .26225 = $28,847 - $13,113 = $15,7344th Quarter $160,000 ´ .26225 = $41,960 - $28,847 = $13,113


19-508

Chapter 15

PARTNERSHIPS — FORMATION, OPERATIONS, ANDCHANGES IN OWNERSHIP INTERESTS


1 Noncash investments of partners should be recorded at their fair values in order to provide equitable treatment to the individual partners. The recording of noncash assets at less than fair value will result in allocating the amount of understatement between the partners in their relative profit and loss sharing ratios as the undervalued assets are used for partnership business or when they are sold by the partnership.

2 Conceptually, there is no difference between the drawings and the withdrawals of partners since both represent disinvestments of resources from the partnership entity. From a practical viewpoint, the distinction between withdrawals and drawings may be important because allowable drawings are not usually deducted in determining the amount of partnership capital to be used for purposes of dividing profits among the partners. Since withdrawals are deducted, the distinction can affect the division of profits and losses.

3 In the absence of an agreement for dividing profits, an equal division among the partners is required by the Uniform Partnership Act. The agreement also applies to losses. And it applies irrespective of the relative investments by the partners.

4 Salary and interest allowances are included in some partnership agreements in order to reward partners for the time and effort that they devote to partnership business (salary allowances) and for capital investments (interest allowances) that they make in the business.

5 Salary allowances to partners are not expenses of a partnership. Rather, they are a means of recognizing the efforts of individual partners in the division of partnership income.

6 When profits are divided in the ratio of capital balances, capital balances should be computed on the basis of weighted average capital balances in the absence of evidence that another interpretation of capital balances is intended by the partners.

7 An individual partner may have a loss from his share of partnership operating activities even though the partnership has income. This situation results if priority allocations to other partners exceed partnership net income. For example, if net income for the A and B Partnership is $5,000 and profits are divided equally after a salary allowance of $8,000 to A, A will have partnership income of $6,500 and B will have a partnership loss of $1,500.

8 Partnership dissolution under the Uniform Partnership Act is the change in the relation of the partners caused by any partner ceasing to be associated in the carrying on of the


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business, as distinguished from the winding up of the business. Thus, the assignment of a partnership interest to a third party by one of the partners does not, by itself, dissolve the partnership because the assignee does not become a partner unless accepted as a partner by the continuing partners.

9 The sale of a partnership interest to a third party dissolves the old partnership if the continuing partners accept the third party purchaser as their partner. In this case, the relation among the partners is changed and a new partnership agreement is necessary.

10 A partnership is both a legal entity and a business entity. The partnership as a legal entity is dissolved by the death or retirement of a partner as provided by the Uniform Partnership Act. But the partnership as a business entity continues until the business entity is liquidated, irrespective of the changes in the interests held by individual partners.

11 When a new partner acquires an interest by purchase from existing partners, the partnership receives no new assets because the payment for the new partner’s interest is distributed to the old partners. Alternatively, an investment in a partnership increases the net assets of the partnership. This difference is important in accounting for the admission of a new partner.

12 The admission of a new partner may be recorded by the goodwill approach (or revaluation approach) or by the bonus approach (or nonrevaluation approach).

13 The goodwill procedure for recording the admission of a new partner is best described as a revaluation approach because identifiable assets and liabilities that are over or undervalued are adjusted to their fair values before the unidentifiable asset goodwill is recorded. For example, if a new partner’s investment reflects the fact that land owned by the old partnership is undervalued, it would be misleading to record the amount of revaluation as goodwill, rather than as a revaluation of the land account.

14 A bonus procedure for recording an investment in a partnership involves adjusting the partnership capital account to the extent necessary to meet the new partnership agreement without a revaluation of the assets and liabilities of the old partnership.

If a new partner receives a capital credit in excess of his or her investment, the excess is a bonus to the new partner. A bonus to a new partner is charged against the old partners’ capital balances in relation to their old profit sharing ratios.

If a new partner’s investment exceeds his or her capital credit, the excess is a bonus to the old partners. A bonus to the old partners is credited to the old partners’ capital balances in accordance with the old partners’ profit sharing ratios.

15 The amounts received by the individual partners in final liquidation will be the same under the bonus and goodwill procedures provided that the relative profit and loss sharing ratios of the old partners remain unchanged in the new partnership and that the new partners’ capital interest and profit and loss sharing ratio are aligned.


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16 Parts a and b assume that the partnership assets are to be revalued upon the admission of Bob into the partnership.Goodwill would be recorded if identifiable assets and liabilities are equal to their fair values and1. $10,000 ¸ 25% > $10,000 + old capital; or2. Old capital ¸ 75% > $10,000 + old capital; or3. An independent assessment of earning power or other factors indicate goodwill.Old partnership assets would be written down if1. $10,000 ¸ 25% < $10,000 + old capital; or2. Old capital ¸ 75% < $10,000 + old capital; or3. An independent assessment of earning power or other factors indicate that

partnership assets are overvalued.Parts c and d assume that partnership assets are not to be revalued upon the

admission of Bob into the partnership. A bonus to the old partners would be recorded if 25% ´ ($10,000 + old capital) is less than $10,000. A bonus to Bob would be recorded if 25% ´ ($10,000 + old capital) is greater than $10,000.


19-511


Solution E15-1

If the partners’ contributions were erroneously recorded at cost rather than fair market value, the account balances would be:

Cash $ 30,000Delivery equipment 40,000Furniture inventory 60,000

$130,000Lamb capital $ 70,000Carson capital 60,000

$130,000

Inequity is calculated as follows:

60% to 40% to Carson Lamb Total

Carson’s appreciation ($30,000) $18,000 $12,000 $ 30,000Lamb’s depreciation ($10,000) (6,000) (4,000) (10,000)

12,000 8,000 20,000Actual appreciation 30,000 (10,000) 20,000Inequity (18,000) 18,000 0

Solution E15-2

Computation of Beverly’s bonus:

Let B = bonus B = 10% ´ ($506,000 - B) B = $50,600 - .1B 1.1B = $50,600 B = $46,000

Schedule to Allocate Partnership Income

Arnold Beverly Carolyn Net income to distribute $506,000Bonus to Beverly (46,000) $ 46,000Remainder to divide 460,000Divided 40:40:20 (460,000) $184,000 184,000 $ 92,000Income allocation 0 $184,000 $230,000 $ 92,000


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Solution E15-3

Schedule to Allocate Partnership Income for 2006

Balance Cari Helen BrandieIncome to distribute $14,000Salary allocation (21,000) $ --- $ 9,000 $12,000Interest on capital* (26,000) 10,500 8,000 7,500Loss to divide (33,000)Divided equally 33,000 (11,000) (11,000) (11,000)Income to partners 0 $ (500) $ 6,000 $ 8,500

* Interest on average capital:

January 1, 2006 Average Interest Balances Capital on Capital

Cari $100,000 ´ 1/2 year = $ 50,000 120,000 ´ 1/4 year = 30,000 100,000 ´ 1/4 year = 25,000

105,000 ´ 10% = $10,500

Helen $ 80,000 ´ 1 year = $ 80,000 ´ 10% = 8,000

Brandie $ 75,000 ´ 1 year = $ 75,000 ´ 10% = 7,500$26,000

Solution E15-4

Melanie David 2007 income to divide ($25,000 - $4,000) $21,000Salary to Melanie (18,000) $18,000Remainder to divide 3,000Divided equally (3,000) 1,500 $ 1,500

02006 income understatement $ 4,000Divided in the 2006 60:40 ratio (4,000) 2,400 1,600Income allocation 0 $21,900 $ 3,100

Solution E15-5

Bird, Cage, and Dean PartnershipStatement of Partnership Capital


Bird Cage Dean Total Capital Capital Capital Capital


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Balance January 1 $120,000 $ 90,000 $140,000 $350,000Add: Investments 20,000 20,000 40,000Less: Withdrawals (30,000) (30,000) (60,000)Less: Drawings (10,000) (10,000) (10,000) (30,000)

Net contributed capital 80,000 100,000 120,000 300,000Add: Net incomea 24,000 24,000 24,000 72,000

Balance December 31 $104,000 $124,000 $144,000 $372,000

a Net income = $372,000 ending capital - $300,000 net contributed capital.

Solution E15-6

1 Batty capital $70,000Peters capital $70,000

To record assignment of half of Batty’s capital account to Peters.

2 The total capital of BIG Entertainment Galley remains at $400,000. The amount paid by Peters to Batty does not affect the partnership and Peters does not become a partner with the assignment of half of Batty’s interest.

Solution E15-7

Capital balances after Ring is admitted when assets are not revalued:

Old Capital Capital Transfer New Capital

Klaxon capital $140,000 x 40% $(56,000) $ 84,000Bell capital 60,000 x 40% (24,000) 36,000Ring capital 80,000 80,000

Total capital $200,000 0 $200,000

Solution E15-8

Journal entries to admit Johnson to the Bowen/Monita partnership:

Goodwill $ 90,000Bowen capital $ 54,000Monita capital 36,000

To record goodwill computed as follows:New capital = $150,000 ¸ 1/3 = $450,000Goodwill = $450,000 new capital - $360,000 old capital = $90,000


19-514

Bowen capital $ 78,000Monita capital 72,000

Johnson capital $150,000To record capital transfer to Johnson: ($180,000 + $54,000)/3 from Bowen and ($180,000 + $36,000)/3 from Monita.


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Solution E15-9

1 Investment of $50,000 in partnership with revaluation:

Cash $50,000Goodwill 10,000

Walk capital $60,000The new partnership valuation is computed as: old capital of $240,000/80% retained interest = $300,000 new capital. Goodwill is computed as: new capital of $300,000 - $290,000 (the old capital plus investment) = $10,000 goodwill.

2 Investment of $70,000 in partnership with revaluation:

Goodwill $40,000Sprint capital $12,000Jog capital 20,000Run capital 8,000

New partnership capital is computed on the basis of new investment of $70,000/20% interest = $350,000 new capital. New capital of $350,000 - ($240,000 old capital + $70,000 investment) = $40,000 goodwill.

Cash $70,000Walk capital $70,000

To record Walk’s investment in the partnership.

Solution E15-10

1 Investment of $120,000 in the partnership with no revaluation:

$400,000 old capital + $120,000 additional investment = $520,000Boudreaux’s interest = $520,000 ´ 25% = $130,000Therefore, the old partners are giving a bonus to Boudreaux of $10,000.

Cash $120,000Manda capital 3,600Emeril capital 2,400Fotenot capital 4,000

Boudreaux capital $130,000To record Boudreaux’s admission to a 25% interest in the partnership capital and earnings.

Capital accounts after Boudreaux’s admission to the partnership:

Manda capital ($140,000 - $3,600) $136,400Emeril capital ($100,000 - $2,400) 97,600


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Fotenot capital ($160,000 - $4,000) 156,000Boudreaux capital 130,000

$520,000

2 The profit and loss sharing ratios of the new partnership will depend on the provisions of the new partnership agreement. If the old partners wish to maintain their old partnership relationship, one possible division would be to reduce each of the old partners ratio by 25% (in other words, a new ratio of 27:18:30:25). However, if the issue is not addressed in the new partnership agreement, the partners will share profits equally, 25:25:25:25, in accordance with the Uniform Partnership Act.

Solution E15-11

Retirement of Nixon with revaluation:

Goodwill $70,000Nixon capital (30%) $21,000Mann capital (30%) 21,000Peter capital (40%) 28,000

To record goodwill implied by the excess payment to Nixon computed as: ($85,000 - $64,000)/30% = $70,000.

Nixon capital $85,000Cash $85,000

To record payment to Nixon upon his retirement.

Solution E15-12

Entry to write-up assets to fair valueAssets $20,000

Beck capital $10,000Dee capital 8,000Lynn capital 2,000

Entry to record settlement with DeeDee capital $38,000Beck capital (5/6 ´ $3,000 excess payment) 2,500Lynn capital (1/6 ´ $3,000 excess payment) 500

Dee loan $10,000Cash 31,000

Beck capital ($30,000 + $10,000 - $2,500) $37,500

Lynn capital ($10,000 + $2,000 - $500) $11,500


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Solution E15-13

1 Income Allocation Schedule Kathy Eddie Total

Net income $30,000Bonus to Kathy (1,500) 1,500 1,500Remainder 28,500Salary allowance (25,000) 10,000 15,000 25,000Remainder 3,50050/50 split (3,500) 1,750 1,750 3,500Remainder -0- $13,250 $16,750 $30,000

2 Revenue and Expense Summary $30,000Kathy Capital $13,250Eddie Capital $16,750

Allocate partnership net income for the year to the partners.

Kathy Capital $15,000Kathy Drawing $15,000

Eddie Capital $10,000Eddie Drawing $10,000

Close the drawing accounts to the capital accounts.

3 Capital AccountsK & E Partnership

Statement of Partners’ CapitalFor the year ended December 31 2006

Kathy Eddie Capital balances January 1, 2006 $496,750 $268,250Add: Additional investments 5,000 5,000Deduct: Withdrawals 0 0Deduct: Drawings 15,000 10,000Add: Net income 13,250 16,750Capital balances December 31, 2006 $500,000 $280,000


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Solution E15-14

1 Valuation of assets and liabilities as implied by excess payment to Boxer:Building $20,000Goodwill 80,000

Byder capital $ 30,000Boxer capital 20,000Danner capital 40,000Foust capital 10,000

To record revaluation of building and goodwill implied by the excess payment to Boxer on his retirement ($20,000 ¸ 20% = $100,000 revaluation).

Boxer capital $70,000Cash $ 70,000

To record cash payment to Boxer on his retirement from the business.

2 Revaluation of assets recognized only to the extent of the excess payment to Boxer:Building $20,000Boxer capital 50,000

Cash $ 70,000To record revaluation and cash payment to Cegal on his retirement.

3 No revaluation; bonus to retiring partner:Boxer capital $50,000Byder (30/80) 7,500Danner (40/80) 10,000Foust(10/80) 2,500

Cash $ 70,000To record a $20,000 bonus to Cegal upon retirement.

Solution E15-15

1 aBill’s contribution ($20,000 + $60,000 + $15,000 - $30,000) $ 65,000Ken’s contribution 50,000Total tangible contributions $115,000

Ken’s contribution $50,000/.4 interest = $125,000 total capital

Total capital based on Ken’s contribution $125,000 less amount contributed by Ken and Bill $115,000 = $10,000 goodwill

2 cJay’s investment of $65,000 is greater than his capital credit of 1/3 of $175,000; thus, there is goodwill to the old partners.

New capital = $65,000 ¸ 1/3 = $195,000


19-519

New capital of $195,000 - (old capital $110,000 + $65,000 investment) = $20,000 goodwill.

Revaluation is recorded: Goodwill (other assets) $20,000

Thomas capital (50%) $ 10,000Mark capital (50%) 10,000

Mark’s capital = $60,000 + $10,000 goodwill = $70,000


3 cTotal capital ($170,000 + $200,000 + $200,000) = $570,000Zen’s interest $570,000 ´ 1/3 = $190,000Therefore, Tina and Warren receive a $10,000 bonus, shared equally.

4 c$90,000 investment > 25% ´ ($100,000 + $80,000 + $90,000), thus, there is goodwill to the old partners.

New capital $90,000/25% $360,000Old capital + new investment $180,000 + $90,000 (270,000)

Goodwill $ 90,000

Finney capital $100,000 + (50% ´ $90,000 goodwill) $145,000Rhoads capital $80,000 + (50% ´ $90,000 goodwill) 125,000Chesterfield capital 90,000

Total capital $360,000

5 bPayment to Gini at retirement $200,000Capital account before recording share of goodwill 170,000Gini’s share of goodwill $ 30,000

Total goodwill for partnership ($30,000/.3) $100,000

Total assets before Gini’s retirement ($240,000 cash + $360,000 other assets + $100,000 goodwill) $700,000Less: Payment to Gini on retirement 200,000Total assets after Gini retires $500,000


19-520

Solution E15-16

1 aCapital Interest Income Interest

Tony capital $ 30,000 30% 50%Olga capital 70,000 70% 50%

$100,000

Since capital and income interests were not aligned at the time of Shirley’s purchase, the $40,000 payment to Tony does not provide a basis for revaluation. Thus, half of Tony’s $30,000 capital balance should be transferred to Shirley.

2 aImplied total valuation of partnership based on Duncan’s $60,000 payment to partners ($60,000/.4) $150,000

Entry to record goodwill:Goodwill $30,000

Linkous capital $ 15,000Quesenberry capital 15,000

Entry to transfer equal capital amounts to Duncan:Linkous capital $30,000Quesenberry capital 30,000

Duncan capital $ 60,000

Capital accounts after admission of Duncan:Linkous capital ($50,000 + $15,000 - $30,000) $ 35,000Quesenberry capital ($70,000 + $15,000 - $30,000) 55,000Duncan capital 60,000Total capital $150,000

3 cOakes’s investment of $50,000 is less than his capital credit of $56,667 [($120,000 old capital + $50,000 investment) ´ 1/3] under the bonus approach; therefore, goodwill accrues to Oakes.Old capital of $120,000 ¸ 2/3 interest retained by old partners = $180,000 capitalization. $180,000 - $170,000 old capital and new investment = $10,000 goodwill.

Old Admission New Capital of Oakes Capital

McCall $ 70,000 $ 70,000Newby 50,000 50,000Oakes $60,000 60,000Total $120,000 $60,000 $180,000


19-521

4 bBonus to Oakes = ($170,000/3) - $50,000 = $6,667 bonus

Old Admission New Capital of Oakes Capital

McCall $ 70,000 $(3,333) $ 66,667Newby 50,000 (3,334) 46,666Oakes 56,667 56,667Total $120,000 $50,000 $170,000


19-522


5 a Bennett Carter Davis Total

Capital balances $100,000 $200,000 $200,000 $500,000Revalue assets 20,000 30,000 50,000 100,000Adjusted balances 120,000 230,000 250,000 600,000Excess payment to Carter 20/50 (4,000) 14,000 (10,000)Ending balances $116,000 $244,000 $240,000


19-523


1 b

2 a

3 aWithdrawal $130,000Less: Additional investment 25,000Net withdrawal 105,000Less: Net decrease in capital 60,000

Plack’s share of net income $ 45,000

Total net income ($45,000/.3 Plack’s interest) $150,000

4 a Fox Greg Howe

Loss $ (33,000)Interest (22,000) $ 12,000 $ 6,000 $ 4,000Salaries (50,000) 30,000 20,000Loss to divide (105,000)Divided equally 105,000 (35,000) (35,000) (35,000)

0 $ 7,000 $(29,000) $(11,000)

5 bThe bonus to Beck is $60,000, computed as follows:

B = bonus B = .25($300,000 - B) B = $75,000 - .25B1.25B = $75,000 B = $60,000


19-524

Solution E15-18 [AICPA]

1 cOld capital at fair value = $300,000 = 80% of new capitalNew capital ($300,000/.8) $375,000Less: Old capital 300,000)Cash to be invested $ 75,000

2 bOld Capital Capital Changes New Capital

Elton $ 70,000 $(7,000) $ 63,000Don 60,000 (3,000) 57,000Kravitz 60,000 60,000

$130,000 $50,000 $180,000

3 bWilliam’s $40,000 capital investment > capital credit ($140,000 ´ 25%) Thus, goodwill to old partners.

New capital ($40,000/.25) $160,000Old capital 140,000

Goodwill $ 20,000

Revaluation entry:Goodwill $20,000

Eli capital ($20,000 ´ 60%) $ 12,000George capital ($20,000 ´ 30%) 6,000Dick capital ($20,000 ´ 10%) 2,000

Admission of William:Eli capital ($92,000 ´ 25%) $23,000George capital ($46,000 ´ 25%) 11,500Dick capital ($22,000 ´ 25%) 5,500

William capital $ 40,000

New capital balances:Eli capital ($92,000 - $23,000) $ 69,000George capital ($46,000 - $11,500) 34,500Dick capital ($22,000 - $5,500) 16,500William capital 40,000Total capital $160,000


19-525


4 bPurchase price paid by Sidney $132,000Capital transferred to Sidney ($444,000 ´ 20%) 88,800Combined gain to Newton and Sharman $ 43,200

Because capital balances are not aligned with profit and loss sharing ratios, the $88,800 capital transferred to Sidney will be charged to Newton and Sharman by agreement.

5 dOld capital ($60,000 + $20,000) $ 80,000Additional capital invested by Grant 15,000New capital 95,000Grant’s capital interest 20 %Grant’s capital account $ 19,000

6 aExcess payment to Dixon [$74,000 - ($210,000 - $160,000)] $ 24,000

Implied goodwill ($24,000 excess payment/.2 profit and loss interest of Dixon) $120,000

7 b20% 20% 60%

Williams Brown Lowe Total Per books $ 70,000 $65,000 $150,000 $285,000Asset revaluationa 12,000 12,000 36,000 60,000Balance after revaluation 82,000 77,000 186,000 345,000Goodwill recognitionb 20,000 20,000 60,000 100,000Balance before retirement 102,000 97,000 246,000 445,000Retirement of Williams (102,000) (102,000)

0 $97,000 $246,000 $343,000

a Asset revaluation: $360,000 - $300,000 = $60,000b Goodwill: ($102,000 - $82,000)/.2 = $100,000


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Solution E15-19

Kray, Lamb, and Mann PartnershipStatement of Partners’ Capital


Kray Lamb Mann Total

Capital January 1, 2006 $65,000 $75,000 $70,000 $210,000Additional investment 4,000 4,000Withdrawals (5,000) (4,000) (9,000)

Net contributed capital 69,000 70,000 66,000 205,000Net income (see schedule) 11,500 23,500 12,000 47,000

Capital December 31, 2006 $80,500 $93,500 $78,000 $252,000

Kray, Lamb, and Mann PartnershipSchedule of Income Allocation


Net Income Kray Lamb Mann

Income to divide $47,000Salary to Lamb (11,000) $11,000Interest allowances (21,000) $ 6,500 7,500 $ 7,000

Remainder to divide 15,000Divided equally (15,000) 5,000 5,000 5,000

Income allocation 0 $11,500 $23,500 $12,000


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Solution E15-20

1 If assets are not revalued:

Before Admission Transfers on Capital Balances of Iota Admission of Iota After Admission

Grosby $ 45,000 $(22,500) $ 22,500Hambone 65,000 (32,500) 32,500Iota 55,000 55,000

$110,000 0 $110,000

If assets are revalued:

Capital Capital CapitalBalances Balances BalancesBefore Revaluation After Transfers After

Revaluation ($30,000) Revaluation to Iota Admission

Grosby $ 45,000 $13,500 $ 58,500 $(29,250) $ 29,250Hambone 65,000 16,500 81,500 (40,750) 40,750Iota 70,000 70,000

$110,000 $30,000 $140,000 0 $140,000

2 Since old partners transferred 50% of their interests in future profits, profits should be divided: 22.5% to Grosby, 27.5% to Hambone, and 50% to Iota. The partners can, of course, agree to any profit and loss sharing arrangement that they choose.

3 In the absence of a new partnership agreement, profits will be divided equally.


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Solution E15-21

Method 1: Bonus to retiring partner

Case capital $140,000Donley capital 9,000Early capital 12,000

Cash $161,000To record Case’s retirement with a $21,000 bonus, shared by Donley and Early in their relative profit and loss sharing ratios (3/7 and 4/7, respectively).

Method 2: Goodwill to retiring partner only

Case capital $140,000Goodwill 21,000

Cash $161,000To record Case’s retirement and to record the $21,000 excess payment to Case as goodwill.

Method 3: Goodwill implied by excess payment

Goodwill $ 70,000Case capital $ 21,000Donley capital 21,000Early capital 28,000

To record goodwill implied by the excess payment to Case on her retirement. Goodwill is computed as the excess payment divided by Case’s profit and loss sharing ratio ($21,000/30%).

Case capital $161,000Cash $161,000

To record retirement of Case.


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Solution P15-1

Preliminary computationBeginning capital ($69,000 + $85,500 + $245,500) $400,000Capital adjustments: Additional investment less withdrawals (4,000)

396,000Ending capital (481,000)Net income $ 85,000

Ellen, Fargo, and GaryStatement of Partnership Capital


Ellen Fargo Gary Total Capital balance January 1 $69,000 $85,500 $245,500 $400,000Add: Additional investment 20,000 20,000Deduct: Salary allowances (12,000) (12,000) (24,000)

Net contributed capital 57,000 73,500 265,500 396,000Income allocation (see schedule) 24,200 24,200 36,600 85,000Capital balance December 31 $81,200 $97,700 $302,100 $481,000

Income allocation schedule:Total Ellen Fargo Gary

Income to divide $85,000Salary allowances (24,000) $12,000 $12,000Remainder to divide 61,000Divided 20:20:60 (61,000) 12,200 12,200 $ 36,600Income allocation 0 $24,200 $24,200 $ 36,600


19-530

Solution P15-2

1 Mortin, Oscar, and Trent PartnershipBalance Sheet

at January 2, 2006

Cash ($20,000 + $95,000) $115,000Accounts receivable — net 100,000Inventories 200,000Plant assets — net ($120,000 + $120,000) 240,000Goodwill 40,000a


Accounts payable $ 50,000Mortin capital (1/3 interest) ($120,000 + $85,000b + $20,000) 225,000Oscar capital (1/3 interest) ($100,000 + $85,000b + $20,000) 205,000Trent capital (1/3 interest) 215,000c

Total equities $695,000

a Trent’s $215,000 ¸ 1/3 = $645,000 total capitalization $645,000 - $605,000 fv of old assets + Trent’s investment = $40,000 goodwill $40,000 goodwill is divided equally between Mortin and Oscar

b Revaluation of assets to fair value ($170,000 divided equally between Mortin and Oscar)c Trent’s investment ($95,000 cash + $120,000 building) = $215,000

2 Mortin, Oscar, and Trent PartnershipBalance Sheet

at January 2, 2006

Cash ($20,000 + $95,000) $115,000Accounts receivable — net 100,000Inventories 50,000Plant assets — net ($100,000 + $120,000) 220,000

Total assets $485,000Accounts payable $ 50,000Mortin capital (1/3 interest) ($120,000 + $35,000a) 155,000Oscar capital (1/3 interest) ($100,000 + $35,000a) 135,000Trent capital (1/3 interest) 145,000b

Total equities $485,000

a Trent is paying a bonus to Mortin and Oscar because his investment of $215,000 ($95,000 cash and $120,000 building) is worth more than a 1/3 interest in the book value of the combined assets ($215,000 + $220,000). The $70,000 bonus is evenly divided between Mortin and Oscar based on their profit sharing ratios. The journal entry to record Trent’s admission in the partnership is:Cash 95,000


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Building 120,000Trent Capital 145,000Mortin Capital 35,000Oscar Capital 35,000

b Trent’s investment ($95,000 cash + $120,000 building) = $215,000Book value plus Trents investment is $220,000 + $215,000 = $435,000Trent gets a 1/3 interest or $145,000.


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Solution P15-3

Ashe and Barbour PartnershipIncome Distribution Schedule for 2006

Ashe Barbour Total Net income to divide $105,000Interest allowance (9,000) $ 4,000 $ 5,000 $ 9,000Remainder to divide 96,000Salary to Ashe (12,000) 12,000 12,000Remainder to divide 84,000Bonus to Ashe B = .2($84,000 - B) 1.2B = $16,800 B = $14,000 (14,000) 14,000 14,000Remainder to divide 70,000Divided equally (70,000) 35,000 35,000 70,000Income distribution 0 $65,000 $40,000 $105,000

Solution P15-4

1 Profit allocation schedule Alex Carl Erika

Net loss for 2006 $(12,000)Salary to Alex (10,000) $ 10,000Loss to divide (22,000)Interest allowances: Alex $60,000 ´ 10% (6,000) 6,000 Carl $100,000 ´ 10% (10,000) $ 10,000 Erika $110,000 ´ 10% (11,000) $ 11,000Loss to divide (49,000)Divided 30:30:40 49,000 (14,700) (14,700) (19,600)Allocation of loss 0 $ 1,300 $ (4,700) $ (8,600)

2 Alex, Carl, and Erika PartnershipStatement of Partnership Capital


Alex Carl Erika Total Capital January 1, 2003 $ 60,000 $ 90,000 $110,000 $260,000Add: Additional investments 30,000 20,000 50,000

60,000 120,000 130,000 310,000Deduct: Withdrawals (10,000) (10,000)Deduct: Drawings (8,000) (8,000)Net contributed capital 52,000 120,000 120,000 292,000Net loss for 2003 1,300 (4,700) (8,600) (12,000)


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Capital December 31, 2003 $ 53,300 $115,300 $111,400 $280,000

3 Correcting entry:

Erika capital $1,200Alex capital $1,100Carl capital 100

To correct capital accounts for error in loss allocation:

Alex Carl Erika Correct loss allocation $ 1,300 $(4,700) $(8,600)Less: Actual loss allocation (200) 4,800 7,400Adjustment $ 1,100 $ 100 $(1,200)


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Solution P15-5

1 Assumptions: Net income = $60,000, divided on basis of average capital balances.

Katie: $ 80,000 ´ 3 months = $240,000 100,000 ´ 3 months = 300,000 90,000 ´ 6 months = 540,000 $1,080,000/12 = $90,000

Lynda: $ 80,000 ´ 4 months = $320,000 65,000 ´ 8 months = 520,000 $ 840,000/12 = $70,000

Molly: $ 90,000 ´ 8 months = $720,000 60,000 ´ 4 months = 240,000 $ 960,000/12 = $80,000

Allocation to Katie: $60,000 net income ´ 9/24 = $22,500Allocation to Lynda: $60,000 net income ´ 7/24 = 17,500Allocation to Molly: $60,000 net income ´ 8/24 = 20,000Net income $60,000

2 Assumptions: Net income = $50,000, 10% bonus to Katie, remainder divided on basis of beginning capital balances.

Profit Katie Lynda Molly Net income $50,000Bonus to Katie (5,000) $ 5,000Remainder to divide 45,000Capital allowances $45,000 ´ $80,000/$250,000 (14,400) 14,400 $45,000 ´ $80,000/$250,000 (14,400) $14,400 $45,000 ´ $90,000/$250,000 (16,200) $16,200Allocation of net income 0 $19,400 $14,400 $16,200

3 Assumptions: Net loss = $35,000, Salary of $12,000 for Molly and a 10% interest on beginning capital balances, and remainder divided equally.

Loss Katie Lynda Molly Net loss $(35,000)Salary allowance (12,000) 12,000Loss to divide $(47,000)Interest on beginning capital (25,000) $ 8,000 $ 8,000 $ 9,000Loss to divide (72,000)Divided equally 72,000 (24,000) (24,000) (24,000)Loss allocation 0 $(16,000) $(16,000) $ (3,000)


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Solution P15-6

1 Computation of reported capital balances: Jones Keller Glade Total

Capital January 2, 2006 $30,000 $30,000 $30,000 $ 90,000Add: Investments for 2006 5,000 5,000Less: Withdrawals for 2006 (5,000) (4,000) (9,000)Net contributed capital 25,000 26,000 35,000 86,000Income allocation — Schedule A 11,000 4,000 4,000 19,000Capital December 31, 2006 36,000 30,000 39,000 105,000Add: Investments for 2007 5,000 5,000Less: Withdrawals for 2007 (3,000) (8,000) (11,000)Net contributed capital 41,000 27,000 31,000 99,000Income allocation — Schedule B 12,100 4,500 5,400 22,000Capital December 31, 2007 53,100 31,500 36,400 121,000Add: Investments for 2008 6,000 6,000Less: Withdrawals for 2008 (4,000) (2,000) (6,000)Net contributed capital 53,100 27,500 40,400 121,000Income allocation — Schedule C 15,610 6,450 6,940 29,000Capital January 1, 2009 $68,710 $33,950 $47,340 $150,000

Schedule A Net Income Jones Keller Glade Income to allocate $19,000Interest allowances:

Jones ($30,000 ´ 10%) (3,000) $ 3,000Keller ($30,000 ´ 10%) (3,000) $ 3,000Glade ($30,000 ´ 10%) (3,000) $ 3,000

Remainder to divide 10,000Salary to Jones (7,000) 7,000Remainder to divide 3,000Divided equally (3,000) 1,000 1,000 1,000Income allocation 0 $11,000 $ 4,000 $ 4,000

Schedule B Net Income Jones Keller Glade Income to allocate $22,000Interest allowances:




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Schedule C Net Income Jones Keller Glade Income to allocate $29,000Interest allowances:




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2 Correct income and capital account balances:

2006 2007 2008 Reported income $19,000 $22,000 $29,000Understatement of depreciation (2,000) (2,000) (2,000)Understatement of inventory at December 31, 2008 8,000Corrected income $17,000 $20,000 $35,000

Jones Keller Glade Total Capital per books $68,710 $33,950 $47,340 $150,000Understatement 666 667 667 2,000Capital as corrected $69,376 $34,617 $48,007 $152,000

3 Correcting entry on January 1, 2009:

Inventory $ 8,000

Jones capital $ 666 Keller capital 667 Glade capital 667

Accumulated depreciation 6,000To correct prior years’ profits and adjust accumulated depreciation.

Note: Since residual income is divided equally, it is not necessary to recompute the income allocation and capital balances for each of the three years.


19-538

Solution P15-7

1 Revaluation of assets and admission of Cathy:

Inventories $ 10,000Plant assets — net 15,000Note payable 10,000Goodwill 75,000

Accounts receivable — net $ 5,000Addie capital 63,000Bailey capital 42,000

To revalue assets and liabilities and record goodwill on the basis of the $150,000 paid by Cathy for a 40% interest. Total capital of $375,000 [computed as $150,000/.4] less ($150,000 fair value of recorded net assets plus $150,000 investment by Cathy) equals $75,000 goodwill.

Cash $150,000Cathy capital $150,000

To record Cathy’s investment for a 40% interest in partnership capital and profits.

2 Addie, Bailey, and Cathy PartnershipBalance Sheet

at January 2, 2006

AssetsCash $165,000Accounts receivable — net 40,000Inventories 60,000Plant assets — net 105,000Goodwill 75,000Total assets $445,000

EquitiesAccounts payable $ 30,000Note payable (15%) 40,000Addie capital (33.3%) 127,000Bailey capital (26.7%) 98,000Cathy capital (40%) 150,000Total equities $445,000


19-539

Solution P15-8

1 Cabel sells one-half of her interest to Darling for $90,000:

Capital account balances: Abed capital $ 75,000Batak capital 100,000Cabel capital 62,500Darling capital 62,500


There is no basis for revaluation because the capital balances are not aligned with profit and loss sharing ratios. The entry to admit Darling transfers one-half of Cabel’s capital account to Darling, regardless of the amount Darling pays Cabel:

Cabel capital $62,500Darling capital $ 62,500

To admit Darling to a 25% interest in the partnership.

2 Darling invests $75,000 in the partnership for a 25% interest, and partnership assets are revalued:



Since Darling’s investment of $75,000 is less than his capital credit under the bonus procedure [($300,000 + $75,000) ´ 25%] and the assets are to be revalued, goodwill accrues to the new partner. The entry to record the admission of Darling to the partnership is:


Darling capital $100,000

To admit Darling to a 25% interest in the partnership and record goodwill computed as follows:Old capital $300,000/.75 interest retained by the old partners = $400,000 new capital.$400,000 new capital - ($300,000 old capital + $75,000 new investment) = $25,000 goodwill to new partner.


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3 Darling invests $80,000 for a 20% interest in the partnership and partnership assets are revalued:



Since Darlings’s investment of $80,000 is greater than his capital credit under the bonus procedure [($300,000 + $80,000) ´ 20%], and assets are to be revalued, goodwill accrues to the old partners. The entries are as follows:

Goodwill $20,000Abed capital $ 5,000Batak capital 5,000Cabel capital 10,000

To record goodwill and adjust the partners’ capital accounts:Darling’s investment $80,000/20% = $400,000 new capital$400,000 - $380,000 old capital plus new investment = $20,000 goodwill to the old partners.

Cash $80,000Darling capital $ 80,000

To admit Darling to a 20% interest in the partnership for $80,000.

4 Darling invests $90,000 for a 30% interest in the partnership and assets are not revalued:



Since Darlings’s investment of $90,000 for a 30% interest is less than his capital credit [($300,000 + $90,000) ´ 30%], and no goodwill is to be recorded, Darling receives the bonus. The entry is as follows:

Cash $90,000Abed capital 6,750Batak capital 6,750Cabel capital 13,500

Darling capital $117,000


19-541

To record Darling’s $90,000 investment for a 30% interest and allow him a bonus of $27,000 computed as follows:($390,000 total capital ´ 30%) - $90,000 investment = $27,000


19-542

Solution P15-9

1 Revaluation (goodwill to new partner)


Con capital $90,000To record admission of Con and goodwill to Con computed as:Old capital of $450,000 = 5/6 new capitalNew capital = $540,000Con’s capital = $540,000 ´ 1/6 = $90,000Goodwill to Con = $90,000 - $85,080 = $4,920

No revaluation (bonus to new partner)

Cash $85,080Pat capital 1,640Mike capital 2,050Hay capital 410

Con capital $89,180To record admission of Con and bonus to Con computed as:New capital = $450,000 + $85,080 = $535,080Con capital = $535,080 ´ 1/6 interest = $89,180Bonus = $89,180 - $85,080 = $4,100, allocated 40:50:10

2 Revaluation

Goodwill $60,480Pat capital (40%) $24,192Mike capital (50%) 30,240Hay capital (10%) 6,048

To record revaluation of old partnership computed as:New capital = $85,080 ¸ 1/6 = $510,480$510,480 - $450,000 = $60,480 undervaluation

Pat capital $28,032Mike capital 41,040Hay capital 16,008

Con capital $85,080To record capital transfers equal to 1/6 of old partners’ capital balances as adjusted: Pat ($144,000 + $24,192)/6 = $28,032Mike ($216,000 + $30,240)/6 = $41,040 Hay ($90,000 + $6,048)/6 = $16,008

No revaluationPat capital $24,000


19-543

Mike capital 36,000Hay capital 15,000

Con $75,000To transfer 1/6 of capital balances to Con.


19-544

Solution P15-10

1 Carmen pays $450,000 directly to Aida and Thais for 40% of each of their interests and the bonus procedure is used.

Aida capital $200,000Thais capital 112,000

Carmen capital $312,000Existing capital $780,000 ´ 40% = $312,000.

2 Carmen pays $600,000 directly to Aida and Thais for 40% of each of their interests and goodwill is recorded.

Goodwill $720,000Aida capital $360,000Thais capital 360,000

Goodwill = Payment to old partners $600,000/.4 - $780,000 existing capital = $720,000

Aida capital $344,000Thais capital 256,000

Carmen capital $600,000Aida capital = ($500,000 + $360,000) ´ .4Thais capital = ($280,000 + $360,000) ´ .4

3 Carmen invests $450,000 in the partnership for her 40% interest, and goodwill is recorded.


Carmen capital $520,000Old capital $780,000/.6 = $1,300,000 new capitalNew capital $1,300,000 - old capital $780,000 + new investment $450,000 = goodwill $70,000

4 Carmen invests $600,000 in the partnership for her 40% interest, and goodwill is recorded.

Goodwill $120,000Aida capital $ 60,000Thais capital 60,000

Goodwill = new investment $600,000/.4 = $1,500,000 total capital$1,500,000 - $1,380,000 old capital and new investment = $120,000

Cash $600,000Carmen capital $600,000


19-545

To record new partner’s investment.


19-546

Solution P15-11

Harry, Iona, and Jerry PartnershipStatement of Partnership Capital

for the years ended December 31, 2006 and 2007

Harry Iona Jerry TotalCapital Capital Capital Capital

Investment January 1, 2004 $20,000 $20,000 $20,000 $ 60,000Additional investment — 2004 8,000 8,000Withdrawal — 2004 (4,000) (4,000)

Net contributed capital 16,000 28,000 20,000 64,000Net income — 2004 4,000 4,000 16,000 24,000

Capital December 31, 2004 20,000 32,000 36,000 88,000Withdrawal — 2005 (4,000) (8,000) (12,000)

Net contributed capital 16,000 24,000 36,000 76,000Net income — 2005 2,727 4,364 16,909 24,000Capital December 31, 2005 $18,727 $28,364 $52,909 $100,000

Computation of net income:Assets $129,500 - liabilities $29,500 = $100,000 capital December 31, 2005Beginning capital $60,000 + investment $8,000 - withdrawals $16,000 = $52,000$100,000 - $52,000 = $48,000 net income for the two year period.

Schedule of Profit and Loss Distribution

Net Income Harry Iona Jerry Income for 2004 $24,000Salary allowance to Jerry (12,000) $ 12,000Remainder to divide 12,000One-third to each partner (12,000) $ 4,000 $ 4,000 4,000

Allocation of income 0 $ 4,000 $ 4,000 $ 16,000

Income for 2005 $24,000Salary allowance to Jerry (12,000) $ 12,000Remainder to divide 12,000Divided in beginning capital ratios: 20/88, 32/88, 36/88 (12,000) $ 2,727 $ 4,364 4,909

Allocation of income 0 $ 2,727 $ 4,364 $ 16,909


19-547

Solution P15-12

1 Closing entries for Parker and Boone Partnership

Service revenue $50,000Supplies expense $17,000Utilities expense 4,000Other miscellaneous expenses 5,000Income summary 24,000

To close revenue and expense to profit and loss summary account.

Parker capital $ 8,000Boone capital 10,000

Salaries to partners $18,000To close salaries to partners (drawings) to partners’ capital accounts.

Income summary $24,000Parker capital $12,000Boone capital 12,000

To close income summary and to divide profits equally as required in the absence of a profit sharing agreement.

2 Parker and Boone PartnershipStatement of Partners’ Capital

for the ten months ending December 31, 2006

Parker Boone Total Investments March 1, 2006 $30,000 $30,000 $60,000Add additional investments:

Boone July 1 10,000 10,000Parker October 1 4,000 4,000

34,000 40,000 74,000Less Parker withdrawal May 2 (4,000) (4,000)Less monthly drawings (salaries) (8,000) (10,000) (18,000)Net contributed capital 22,000 30,000 52,000Add: Partnership net income 10,625 13,375 24,000Partnership capital December 31, 2006 $32,625 $43,375 $76,000


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Schedule of Profit and Loss Distribution

Net Income Parker Boone Net income $24,000Salary allowances (18,000) $ 8,000 $ 10,000Remainder to divide 6,000Divide in average capital ratios:

Parker 28/64 (or 43.75%) (2,625) 2,625Boone 36/64 (or 56.25%) (3,375) 3,375

Distribution of income 0 $10,625 $ 13,375

Computation of Average Capital Balances

Average capital of Parker Average capital of Boone $30,000 ´ 2 months = $ 60,000 $30,000 ´ 4 months = $120,000$26,000 ´ 5 months = 130,000 $40,000 ´ 6 months = 240,000$30,000 ´ 3 months = 90,000 Total $360,000

Total $280,000Average capital Average capital ($280,000/10 ($360,000/10 months) $ 28,000 months) $ 36,000

3 Parker and Boone PartnershipSchedule of Profit and Loss Distribution

for the ten months ending December 31, 2006

Net Income Parker Boone Net income $24,000Salary allowances (18,000) $ 8,000 $ 10,000Remainder to divide 6,000Interest allowance:

Parker $28,000 ´ 12% ´ 10/12 year (2,800) 2,800Boone $36,000 ´ 12% ´ 10/12 year (3,600) 3,600

Loss to divide (400)Divide loss 50:50 400 (200) (200)Distribution of income 0 $10,600 $ 13,400


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Solution P15-13

1 No revaluation of partnership assets

Proposal 1. Tom purchases one-half of Peter’s capital from PeterPeter capital $37,500

Tom capital $37,500To record Tom’s admission to the partnership for a one-fourth interest in capital and profits by direct purchase of one-half of Peter’s 50% interest. Tom’s capital credit is equal to capital transferred from Peter to Tom ($75,000 ´ 50%).

Proposal 2. Tom purchases one-fourth of each partners’ capital from partnersPeter capital $18,750Quarry capital 12,500Sherel capital 6,250

Tom capital $37,500To record Tom’s admission to the partnership by direct purchase of one-fourth of each partner’s capital and future profits. Tom’s capital credit is equal to the capital transferred from the other partners: ($75,000 ´ 25%) + ($50,000 ´ 25%) + ($25,000 ´ 25%).

Proposal 3. Tom invests cash in the partnership for a one-fourth interestCash $55,000

Peter capital $ 1,875Quarry capital 1,125Sherel capital 750Tom capital 51,250

To record Tom’s $55,000 investment for a one-fourth interest in capital and future profits. Total capital is $150,000 + $55,000. Tom’s share of total capital is $205,000 ´ 25%, or $51,250. Tom’s investment of $55,000 less Tom’s capital credit of $51,250 equals $3,750 bonus to old partners.

2 Partnership assets are revalued

Proposal 1. Tom purchases one-half of Peter’s capital from PeterGoodwill $90,000

Peter capital $45,000Quarry capital 27,000Sherel capital 18,000

To record goodwill on basis of the price paid by Tom for a one-fourth interest in capital and profits. Total capital is $240,000 ($60,000/25%). Total capital of $240,000 less recorded capital of $150,000 equals $90,000 goodwill.

Peter capital $60,000Tom capital $60,000


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To record Tom’s purchase of one-half of Peter’s capital and right to Peter’s profits.


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Proposal 2. Tom purchases one-fourth of partners’ capital from partnersGoodwill $30,000


To record goodwill on the basis of the price paid by Tom for one-fourth of the capital and profits of each of the partners. Total capital is $180,000 ($45,000/25%). Total capital of $180,000 less recorded capital of $150,000 equals $30,000 goodwill.


Tom capital $45,000To record Tom’s admission to a one-fourth interest in partnership capital and profits. Tom’s capital is equal to the capital transferred after revaluation: ($90,000 ´ 25%) + ($59,000 ´ 25%) + ($31,000 ´ 25%).

Proposal 3. Tom invests cash in the partnership for one-fourth interestGoodwill $15,000

Peter capital $ 7,500Quarry capital 4,500Sherel capital 3,000

To record goodwill based on Tom’s investment of $55,000 for a one-fourth interest in partnership capital and profit. Total capital of $220,000 - ($150,000 recorded capital + $55,000 investment) = $15,000 goodwill.

Cash $55,000Tom capital $55,000

To record Tom’s $55,000 investment for a one-fourth interest in capital and profits. Total capital = $220,000; Tom’s capital is $220,000 ´ 25%, or $55,000.


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Solution P15-14

1 Average capital balances

Timmy Lassie$60,000 ´ 3 months = $180,000 $75,000 ´ 4 months = $300,000 70,000 ´ 5 months = 350,000 63,000 ´ 6 months = 378,000 64,000 ´ 4 months = 256,000 57,000 ´ 2 months = 114,000

$786,000 $792,000$786,000/12 months = $ 65,500 $792,000/12 months = $ 66,000

2 Timmy Lassie Total Beginning balances $ 60,000 $75,000 $135,000Add: Investments 10,000 0 10,000Less: Withdrawals (6,000) (18,000) (24,000)Less: Drawings (18,000) (24,000) (42,000)Net contributed capital 46,000 33,000 79,000Add: Net income (see schedule) 54,600 48,400 103,000Ending capital balances $100,600 $81,400 $182,000

Schedule of income allocation:

Timmy Lassie Net income to allocate $103,000Salary allowances (42,000) $18,000 $ 24,000Remainder to divide 61,000Divided 60 - 40 (61,000) 36,600 24,400Income allocation 0 $54,600 $ 48,400


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Chapter 16

PARTNERSHIP LIQUIDATION


1 Dissolution of a partnership terminates the partnership as a legal entity, but the partnership business may continue under a new agreement. When a partnership is liquidated, however, the partnership is terminated both as a legal and as a business entity. Thus, a partnership may be dissolved without liquidation, but it may not be liquidated without dissolution.

2 A simple partnership liquidation is the liquidation of a solvent partnership in which all partners have equity capital and all gains and losses are realized and recognized before any distributions are made to the partners. In simple partnership liquidations, only one cash distribution is made and the amounts distributed to individual partners are equal to their predistribution capital account balances.

3 The priority ranking for the distribution of assets in liquidation pursuant to RUPA is

Rank I Amounts owed to creditors other than partners andamounts owed to partners other than for capital and profits

Rank II Amounts due to partners after all assets have been liquidated and liabilities paid.

4 The distribution of assets for capital interests (Rank III) prior to the payment of loan balances to the partners (Rank II) is not in accordance with the Revised Uniform Partnership Act. But the partners may agree to distribute cash or other assets for capital interests before all losses on liquidation are known. With agreement among all partners, distributions to the partners would be based on each partner’s equity (combined capital and loan balances) in relation to his share of possible future losses. A partner with sufficient equity to absorb his share of possible future losses would be included in distributions, but a partner with loans to the partnership would not be included in distributions until his equity was sufficient to absorb his share of possible future losses.

5 The assumptions for determining distributions to partners prior to recognition of all gains and losses on liquidation are (1) all partners are personally bankrupt such that no partner could contribute personal assets into the partnership and (2) all noncash assets are possible losses and should be considered actual losses for purposes of determining amounts to be distributed. In addition, liquidation expenses and probable loss contingencies should be estimated and assumed to be actual losses for purposes of determining advance distributions.

6 Capital balances represent one factor in determining a partner’s equity, but loans and advances payable to and receivable from the partnership are factors that must also be considered in calculating safe payments. Partner equities, rather than capital balances, are


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used in safe payment schedules in order to avoid making distributions to partners that may end up with debit capital balances; i.e., owing money to the partnership.

7 Safe payment computations per se do not affect ledger account balances. Actual cash distributions based on safe payments computations do reduce partnership assets and equities and require recognition in ledger accounts.


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8 A statement of partnership liquidation is a summary of transactions and balances for a partnership during its liquidation stage. Such statements provide continuous records of liquidation events. Interim liquidation statements are particularly helpful in showing the progress that has been made toward liquidation to date and in identifying remaining assets to be liquidated and liabilities to be paid. Interim liquidation statements are helpful to partners and creditors in providing a basis for current decisions as well as future planning. Liquidation statements are important legal documents for partnership liquidations that come under the jurisdiction of a court.

9 Available cash may be distributed to partners according to their profit and loss sharing ratios only when nonpartner liabilities have been satisfied and partner equities (capital and loan balances combined) are aligned with the relative profit and loss sharing ratios of the partners. In the absence of loans or advances payable to or receivables from individual partners, cash can be distributed to partners in their profit and loss sharing ratios when capital balances are in the relative profit and loss sharing ratios of the partners and all nonpartner liabilities have been paid.

10 Vulnerability ranks are an ordering of partners on the basis of the adequacy of their equities in the partnership to absorb possible partnership losses. The ordering is typically from the most vulnerable to the least vulnerable. Vulnerability ranks are used in the preparation of assumed loss absorption schedules, which, in turn, are used in the construction of cash distribution plans.

11 Partnership insolvency occurs when partnership liabilities exceed partnership assets. In this case, all available cash is distributed to partnership creditors. Individual partners will be called upon to use their personal assets to satisfy the remaining claims of the partnership creditors.

12 Partners with credit capital balances after all partnership assets have been distributed in liquidation have a claim against partners with debit capital balances. If the partners with debit balances are personally solvent, they should pay amounts equal to their debit balances into the partnership so that partners with credit balances can receive their partnership claims in full. If partners with debit capital balances are insolvent, the partners with credit balances will absorb the losses of the insolvent partners with debit capital balances in relation to their relative profit and loss sharing ratios.


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Solution E16-1

Schedule of Capital Balances

60% Folly 40% FrillCapital balances January 1, 2008 $40,000 $20,000January losses: Lumber($40,000 book value- $25,000 sales price)

$15,000 (9,000) (6,000)

Receivables($25,000 - $21,000 collection)

4,000 (2,400) (1,600)

Capital balances before distribution $28,600 $12,400

Cash distribution:Accounts payable $15,000Folly 28,600Frill 12,400

Total cash $56,000

Cash balance: Beginning balance, $10,000 + $25,000 + $21,000 = $56,000

Solution E16-2

Sale of inventoryCash $10,000

Inventory $10,000To record sale of inventory items.

Distribution of cashAccounts payable $ 5,000

Cash $ 5,000To record payment to creditors.

Mike capital $12,600Nancy capital 6,200Okey capital 25,200

Cash $44,000To record distribution of available cash to partners computed as follows:

Capital Possible Loss fromBalance - Unsold Inventory = Balance

Mike capital $15,000 $2,400 $12,600Nancy capital 8,000 1,800 6,200Okey capital 27,000 1,800 25,200Totals $50,000 $6,000 $44,000


19-557

Solution E16-3

30% Fred 30% Ethel 40% LucyJanuary 1 balances $85,000 $25,000 $90,000Contingency fund of $10,000 (3,000) (3,000) (4,000)Possible losses on asset disposal ($120,000) (36,000) (36,000) (48,000)

46,000 (14,000) 38,000Loss on Ethel’s possible defaulta divided 3/7 and 4/7 (6,000) 14,000 (8,000)Available cash is distributed 40,000 0 30,000

a Notice that Ethel would have a debit balance in her capital account if the contingencies occurred and if the assets were a total loss. In order to determine how much cash is available for distribution, Fred and Lucy’s balances must absorb Ethel’s debit balance.


19-558

Solution E16-4

Creditors 50% Jan 30% Kim 20% LeeBeginning balances $60,000 $59,000 $29,000 $52,000Offset Kim’s loan (20,000)Loss on sale of assets ($180,000 - $120,000) (30,000) (18,000) (12,000)Additional liability 5,000 (2,500) (1,500) (1,000)

65,000 26,500 (10,500) 39,000Distribute Kim’s debit balance 5/7, 2/7 (7,500) 10,500 (3,000)Cash distribution $65,000 $19,000 0 $36,000

Kim owes $7,500 to Jan and $3,000 to Lee.

Solution E16-5

Schedule to Correct Capital Accounts

Anita Bernice ColleenCapital (50%) Capital

(30%)Capital(20%)

December 31, 2008 balance $40,000 $35,000 $25,000Overvalued inventory $10,000 (5,000) (3,000) (2,000)Corrected balances $35,000 $32,000 $23,000

The capital balances are adjusted for the error in computing net income in the partners’ residual equity ratios.

Solution E16-6

Schedule to Correct Capital Accounts

Ali Bart CarrieCapital (40%) Capital

(20%)Capital(40%)

December 31, 2008 balance $60,000 $25,000 $65,000Undervalued inventory ($15,000) 6,000 3,000 6,000Corrected balances $66,000 $28,000 $71,000

The capital balances are adjusted for the error in computing net income in the partners’ residual equity ratios.


19-559

Solution E16-7

Evers, Freda, and Grace PartnershipSafe Payment Schedule

40% Evers 40% Freda 20% Grace Total Partner equities $100,000 $250,000 $170,000 $520,000Loss on sale of assets (52,000) (52,000) (26,000) (130,000)

48,000 198,000 144,000 390,000Possible lossesa (84,000) (84,000) (42,000) (210,000)

(36,000) 114,000 102,000 180,000Allocate Evers’ loss 36,000 (24,000) (12,000)

0 $ 90,000 $ 90,000 $180,000

a Remaining noncash assets of $200,000 plus contingency fund of $10,000 equals $210,000 possible losses.

Cash to distribute: Beginning cash balance of $100,000 plus $170,000 from sale of assets less $10,000 contingency fund equals $260,000.

Distribution of cash: Accounts payable $ 80,000Freda 90,000Grace 90,000

$260,000


19-560

Solution E16-8

Jerry, Joan, and Jill PartnershipStatement of Partnership Liquidation

at November 30, 2008

40% 50% 10%Noncash Jerry Joan Jill

Cash Assets Liab. Capital Capital Capital

Balances Nov. 30 $8,000 $27,000 $8,000 $10,800 $13,200 $3,000

Offset receivable from Jerry (3,000) (3,000)

Write-off patent (8,000) (3,200) (4,000) (800)

Balances after adjustments 8,000 16,000 8,000 4,600 9,200 2,200

Cash distribution: Creditors (4,000) (4,000) Partners (4,000) (4,000)

Balances 0 $16,000 0 $ 4,600 $ 9,200 $2,200

(This solution assumes that Joan agrees to a distribution of amounts that can be distributed safely. If she does not agree, no distribution can be made to either Joan or Jill.)

Jerry, Joan, and Jill PartnershipSafe Payments Schedule at November 30, 2008

40% 50% 10%Possible Jerry Joan Jill Losses Equity Equity Equity

Partners’ equities $ 4,600 $13,200 $ 2,200Possible inventory losses $16,000 (6,400) (8,000) (1,600)

(1,800) 5,200 600Allocate Jerry’s deficit 1,800 (1,500) (300)Safe payments to partners 0 $ 3,700 $ 300


19-561

Solution E16-9

Schedule for Phase-out of the Partnership

30% Alice 40% Betty 30% Carle Total Capital balances $ 20,000 $(120,000) $ 70,000 $(30,000)Creditors’ recovery from Betty 30,000 30,000

20,000 (90,000) 70,000 0Partnership recovery from Betty a 20,000 20,000

20,000 (70,000) 70,000 20,000Write-off of Betty’s deficit (35,000) 70,000 (35,000)

(15,000) 0 35,000 20,000Partnership recovery from Alice 10,000 10,000

(5,000) 35,000 30,000Write-off of Alice’s deficit 5,000 (5,000)

0 30,000 30,000Cash distribution to Carle (30,000) (30,000)

0 0a Betty’s personal net assets after partnership creditor recovery are $80,000 personal assets - $60,000 personal liabilities = $20,000.

Solution E16-10

Daniel, Eric, and Fred PartnershipSchedule for Phaseout of Partnership

40% Daniel 30% Eric 30% Fred Capital Capital Capital Total

Capital balances $10,000 $60,000 $(90,000) $(20,000)Fred’s payment to creditors 20,000 20,000

10,000 60,000 (70,000) 0Fred’s payment to the partnershipa 40,000 40,000

10,000 60,000 (30,000) 40,000Write-off of Fred’s deficit in the relative profit sharing ratio of Daniel and Eric 4/7:3/7 (17,143) (12,857) 30,000

(7,143) 47,143 0 40,000Daniel’s payment to the partnership for his deficit 5,000 5,000

(2,143) 47,143 45,000


19-562

Write off of Daniel’s deficit to Eric 2,143 (2,143) 0

0 45,000Payment to Eric (45,000) (45,000)

0 0

a Fred’s personal assets of $100,000 less the $40,000 owed to his personal creditors, and less the $20,000 paid to partnership creditors, equals $40,000 available for his debit capital account balance.


19-563

Solution E16-11

Ace, Ben, Cid, and DonStatement of Partnership Liquidation

for the period June 30 to July 31, 2008

Ace (50%) Ben (20%) Cid (20%) Don (10%) Cash Liabilities Capital Capital Capital Capital

Balances June 30, 2008 $200,000 $400,000 $ 40,000 $10,000 $(170,000) $(80,000)July 1, 2008Investment of Ace 200,000 200,000

400,000 400,000 240,000 10,000 (170,000) (80,000)July 1, 2008Payment of liabilities (400,000) (400,000)Balances July 1, 2008 0 0 240,000 10,000 (170,000) (80,000)

July 15, 2008Investment of Cid 100,000 100,000Investment of Don 80,000 80,000

180,000 240,000 10,000 (70,000) 0

Loss on Cid’s (50,000) (20,000) 70,000 Insolvency a 180,000 190,000 (10,000) 0

Loss on Ben’s (10,000) 10,000 insolvency 180,000 180,000 0July 31, 2008Final distribution (180,000) (180,000)

0 0() Debit capital balance or deduct.a Allocating Cid’s insolvency to Ace & Ben: 70,000*5/7 = 50,000 Ace, 70,000*2/7 = 20,000 Ben

Solution E16-12

Denver, Elsie, Fannie and George PartnershipSafe Payment Schedule

January 31, 2008

Possible Losses Denver

(20%) Elsie (10%)

Fannie (50%)

George (20%)

Partner’s equity at 1/1 $170,000 $80,000 $140,000 $78,000January profit/loss transactions:

Inventory sale (6,000) (3,000) (15,000) (6,000)Land sale 20,000 10,000 50,000 20,000

Partner’s equity at 1/31 $164,000 $87,000 $175,000 $92,000Possible losses — noncash $395,000 (79,000) (39,500) (197,500) (79,000)Possible losses — contingent 20,000 (4,000) (2,000) (10,000) (4,000)

$ 81,000 $45,500 $(32,500) $ 9,000


19-564

Possible losses — Fannie (13,000) (6,500) 32,500 (13,000)$ 68,000 $39,000 $ 0 $(4,000)

Possible losses — George (2,667) (1,333) 4,000$ 65,333 $37,667 $ 0


19-565

Solution E16-12 (cont’d)

Payments of $103,000 can be safely made to Denver and Elsie in the amounts shown above.Check: Cash availablea $ 523,000

Accounts payable $(400,000)Contingencies (20,000)Available to partners $ 103,000

a(250,000 land + 45,000 inv. + 28,000 rec. + 200,000 cash)

Solution E16-13

1 b

2 d

3 a

Supporting computations: See cash distribution plan that follows.

Vulnerability RankingsPartners’ Loss Absorption VulnerabilityEquities a Potential Ranks

Quen $45,000 ¸ 30% $150,000 3Reed $25,000 ¸ 50% 50,000 1Stacy $25,000 ¸ 20% 125,000 2

Schedule of Assumed Loss Absorption Quen Reed Stacy Total

Predistribution equities $ 45,000 $ 25,000 $ 25,000 $ 95,000Loss to absorb Reed (15,000) (25,000) (10,000) (50,000)

30,000 0 15,000 45,000Loss to absorb Stacy $15,000/40% (22,500) (15,000) (37,500)Balance $ 7,500 0 $ 7,500

Cash Distribution PlanPriority Quen Reed Stacy Stacy

Creditors Capital Capital Loan CapitalFirst $50,000 100%Next $7,500 100%Next $37,500 60% 26.667% 13.333%Remainder 30% 50% 20%

a Equity balance = Equity +/- loans to/from


19-566

Solution E16-14

1 dAnswer b is correct for situations in which all partners have equity in partnership assets; in other words, credit capital balances.

2 d

3 cThe debit balance in Maris’s capital account should be charged against the loan payable to Maris.

4 dPossible 50% Gwen 25% Bill 25% Sissy Losses Capital Capital Capital

Net capital balances $40,000 $45,000 $35,000Possible loss on inventories $100,000 (50,000) (25,000) (25,000)

(10,000) 20,000 10,000Gwen’s debit balance 50:50 10,000 (5,000) (5,000)Distribution of cash after payment of accounts payable 0 $15,000 $ 5,000

5 cPossible 20% Dick 40% Frank 40% Helen Losses Capital Capital Capital

Net capital balances $ 50,000 $220,000 $155,000Noncash assets:

Accounts receivable $ 60,000Inventories 85,000

Plant assets — net 200,000

Contingency fund 5,000$350,000 (70,000) (140,000) (140,000)

(20,000) 80,000 15,000Allocate Dick’s possible deficit 20,000 (10,000) (10,000)Distribution of cash after payment of $60,000 liabilities 0 $ 70,000 $ 5,000

6 c30% Unsel 30% Vance 40% Wayne Capital Capital Capital

Capital balances $90,000 $(60,000) $(100,000)Wayne’s contribution 70,000

90,000 (60,000) (30,000)Vance’s personal net assets 39,000 a

90,000 (21,000) (30,000)Vance’s remaining deficit divided 3/7 to Unsel and 4/7 to Wayne (9,000) 21,000 (12,000)

81,000 0 (42,000)Wayne’s remaining personal net assets to offset his deficit capital balance 40,000 b

81,000 (2,000)


19-567

Wayne’s final deficit allocated to Unsel and uncollectible (2,000) 2,000Amount of Unsel’s partnership equity that should be recoverable $79,000 0

Personal net assets= personal assets- personal liabilitiesa (100,000 - 61,000) = 39,000b (190,000 – 70,000 – 80,000) = 40,000


19-568


Solution P16-1

1 Journal entry to distribute available cash on January 1

Barney capital $25,000Cash $25,000

To distribute available cash to Barney computed as follows:

Safe Payments Schedule January 1, 2008Possible Losses Barney Betty Rubble

Partners’ capital balances $72,000 $28,000 $15,000Allocation of possible losses $90,000 (30,000) (30,000) (30,000)

42,000 (2,000) (15,000)Allocate deficits to Barney (17,000) 2,000 15,000Safe payments to Barney $25,000 0 0

2 Journal entry to record sale of assets on February 9

Cash $81,000Barney capital 3,000Betty capital 3,000Rubble capital 3,000

Inventory $72,000Supplies 18,000

To record sale of inventory items and supplies and recognize gain or loss.

3 Journal entry to distribute cash on February 10

Barney capital $44,000Betty capital 25,000Rubble capital 12,000

Cash $81,000To distribute cash to partners in final liquidation. [Amounts are equal to final capital account balances.]


19-569

Solution P16-2

Chan, Dickerson, and Grunther PartnershipCash Distribution Plan

Vulnerability ranksProfit and Loss Vulnerability

Equity Loss Ratio Absorption Rank Chan $ 80,000 ¸ 20% $400,000 1Dickerson 210,000 ¸ 30 700,000 3Grunther 205,000 ¸ 50 410,000 2

Schedule of assumed loss absorption

Chan Dickerson Grunther Total Equities $80,000 $210,000 $205,000 $495,000Loss to absorb Chan (80,000) (120,000) (200,000) (400,000)

0 90,000 5,000 95,000Loss to absorb Grunther ($5,000 ¸ 5/8) (3,000) (5,000) (8,000)

$ 87,000 0 $ 87,000

Cash distribution plan

Priority Loan from Chan Dickerson GruntherCreditors Dickerson Capital Capital Capital

First $90,000 100%Second $50,000 100%Third $37,000 100%Fourth $8,000 3/8 5/8Remainder 20% 30% 50%


19-570

Solution P16-3

Fred, Flint, and Wilma PartnershipCash Distribution Plan

Vulnerability RankingPartnership Profit and Loss Absorption Vulnerability

Equity Loss Ratio Potential Ranking Fred $75,000 ¸ 30% $250,000 3Flint 20,000 ¸ 20% 100,000 1Wilma 60,000 ¸ 50% 120,000 2

Schedule of Assumed Loss Absorption30% Fred 20% Flint 50% Wilma Total

Predistribution equity $75,000 $20,000 $60,000 $155,000Assumed loss to absorb Flint $20,000 ¸ 20% (30,000) (20,000) (50,000) (100,000)

45,000 0 10,000 55,000Assumed loss to absorb Wilma $10,000 ¸ 5/8 (6,000) (10,000) (16,000)

$39,000 0 $ 39,000

Cash Distribution PlanPriority

Creditors 30% Fred 20% Flint 50% WilmaFirst $20,000 100%Next $39,000 100%Next $16,000 3/8 5/8Remainder 30% 20% 50%


19-571

Solution P16-4

1 Gary, Henry, Ian, and Joseph PartnershipCash Predistribution Plan

Schedule of Vulnerability Ranks:

Gary Henry Ian Joseph Equity Equity Equity Equity

Capital balance $300,000 $320,000 $100,000 $ 110,000Loan to Henry (20,000)Partner equity $300,000 $300,000 $100,000 $ 110,000Divided by profit ratio 40% 30% 20% 10%

Loss absorption potential $750,000 $1,000,000 $500,000 $1,100,000

Vulnerability ranks 2 3 1 4

Schedule of Assumed Loss Absorption:

Gary Henry Ian Joseph Equities $300,000 $300,000 $100,000 $110,000Loss to absorb Ian’s equity (200,000) (150,000) (100,000) (50,000)

100,000 150,000 0 60,000Loss to absorb Gary’s equity (100,000) (75,000) (25,000)

0 75,000 35,000Loss to absorb Henry’s

equity (75,000) (25,000) 0 $ 10,000

Cash Distribution Plan:

PriorityLiabilities

Contingency Fund Gary Henry Ian Joseph

First $100,000 100%Next $50,000 100%Next $10,000 100%Next $100,000 3/4 1/4Next $200,000 1/2 3/8 1/8Remainder 40% 30% 20% 10%

(Profit and loss sharing ratios)

2 Available cash to distribute ($200,000 + $100,000) $300,000


19-572

Priority ContingencyLiabilities Fund Gary Henry Ian Joseph

First $100,000 $100,000Next 50,000 $50,000Next 10,000 $10,000Next 100,000 75,000 25,000Next 40,000 20,000 $15,000 5,000Distribution to partners $20,000 $90,000 $40,000


19-573

Solution P16-5

Eli, Joe, and Ned, ConsultantsStatement of Partnership Liquidationfor the month ended August 31, 2008

Noncash Accounts 20% Eli 30% Joe 50% Ned Cash Assets Payable Capital Capital Capital

July 31 balances $13,000 $47,000 $6,000 $24,000 $15,000 $15,000Receivables: Collections 8,000 (8,000) Assumption (3,000) (3,000) Write-off (1,000) (200) (300) (500)Liabilities paid (6,000) (6,000)Expenses paid (3,000) (600) (900) (1,500)Furniture: Sold 15,000 (25,000) (2,000) (3,000) (5,000) to Joe (4,000) (1,000)

(600) (900) (1,500) Donated (6,000) (1,200) (1,800) (3,000)Predistribution balances 27,000 0 0 19,400 7,100 500To partners (27,000) (19,400) (7,100) (500)

0 0 0 0

Solution P16-6

Jones, Smith, and Tandy PartnershipStatement of Partnership Liquidation

for the liquidation period January 1, 2008 to March 31, 2008

20% 30% 50%Noncash Accounts Jones Smith Tandy

Cash Assets Payable Capital Capital Capital Balances $ 15,000 $215,000 $80,000 $40,000 $60,000 $50,000January 2008Inventories sold 20,000 65,000* 9,000* 13,500* 22,500*Receivables collections 14,000 14,000*Predistribution balance 49,000 136,000 80,000 31,000 46,500 27,500Cash distribution to creditors 40,000* 40,000*

Balances January 31 9,000 136,000 40,000 31,000 46,500 27,500February 2008Land sold 60,000 40,000* 4,000 6,000 10,000Land and buildings sold 40,000 70,000* 6,000* 9,000* 15,000*Receivables collections 3,000 6,000* 600* 900* 1,500*Balances February 28 112,000 20,000 40,000 28,400 42,600 21,000March 2008Write-off of furniture and fixtures 20,000* 4,000* 6,000* 10,000*Predistribution balance 112,000 0 40,000 24,400 36,600 11,000Cash distribution:

Creditors 40,000* 40,000*Partners 72,000* 24,400* 36,600* 11,000*

Balances March 31 0 0 0 0 0


19-574


19-575

Solution P16-7

1 Cash distribution plan for Lin, Mary, and Nell partnership

Vulnerability ranksProfit Loss

Capital Equity in and Loss Absorption VulnerabilityBalances Partnership Ratio Potential Ranking

Lin $55,000 $55,000 50% $110,000 3Mary 12,000 12,000 30 40,000 1Nell 20,000 20,000 20 100,000 2

$80,000 $87,000

Schedule of assumed loss absorption Lin Mary Nell Total

Predistribution equities $55,000 $12,000 $20,000 $87,000Assumed loss to absorb Mary’s equity 50/30/20 20,000 12,000 8,000 40,000

35,000 0 12,000 47,000Assumed loss to absorb Nell’s equity 50/20 30,000 12,000 42,000

$ 5,000 0 $ 5,000

Cash distribution planPriority

Creditors Lin Mary NellFirst $55,000 100%Next $5,000 100%Next $42,000 5/7 2/7Remainder 50% 30% 20%

2 Cash of $25,000 is realized from inventories and receivables with a $45,000 book value

Cash balance December 31, 2008 $47,000Realized during 2009 25,000

72,000Less: Amount reserved for contingencies (10,000)Cash available for distribution $62,000

Lin, Mary, and Nell PartnershipSchedule of January 2009 Cash Distribution

Cash PriorityAvailable Creditors Lin Mary Nell Total

Cash to be distributed $62,000


19-576

Payments to creditors (55,000) $55,000 $55,000

Remainder 7,000

To Lin (for loan balance) (5,000) $5,000 5,000

Remainder 2,000

To Lin (5/7) and Nell (2/7) (2,000) 1,429 $ 571 2,000

Cash distribution 0 $55,000 $6,429 0 $ 571 $62,000


19-577

Solution P16-8

Jason, Kelly, and Becky PartnershipStatement of Partnership Liquidation

for the period January 1, 2008 through February 28, 2008

50% 30% 20% Noncash Priority Jason Kelly Becky

Cash Assets Liabilities Capital Capital CapitalBalances January 1 $ 16,500 $163,500 $21,000 $69,000 $47,000 $43,000Offset loan to Jason 14,000* 14,000*Collection of receivables 25,000 28,000* 1,500* 900* 600*Liquidation expenses 2,000* 1,000* 600* 400*Predistribution balances 39,500 121,500 21,000 52,500 45,500 42,000Cash distribution:

Creditors 21,000* 21,000*

Partners — Schedule A 13,500* 1,100* 12,400*

Balances January 31 5,000 121,500 0 52,500 44,400 29,600Liability discovered 3,000 1,500* 900* 600*Liquidation expenses 2,000* 1,000* 600* 400*Sale of remaining assets 108,000 121,500* 6,750* 4,050* 2,700*Predistribution balances 111,000 0 3,000 43,250 38,850 25,900Cash distribution:Creditors 3,000 3,000*

Partners — Schedule B 108,000* $43,250 38,850* 25,900*

Balances February 28 0 0 0 0

Schedule A

50% 30% 20%Possible Jason Kelly Becky Losses Equity Equity Equity

Partners’ equity January 31 $52,500 $45,500 $42,000Allocate possible losses $126,500 (63,250) (37,950) (25,300)

(10,750) 7,550 16,700Allocate Jason’s deficit 10,750 (6,450) (4,300)Safe payments to partners January 31 0 $ 1,100 $12,400

Schedule B

Partners’ equity February 28 $43,250 $38,850 $25,900Safe payments to partners February 28 $43,250 $38,850 $25,900


19-578

Solution P16-9

Roger, Susan, and Tom PartnershipStatement of Partnership Liquidation

for the period January 1, 2008 through February 28, 2008

30% 30% 40%Noncash Priority Roger Roger Susan Tom

Cash Assets Liabilities Loan Capital Capital CapitalBalances January 1 $20,000 $140,000 $40,100 $5,000 $ 9,900 $45,000 $60,000Offset loan to Susan 10,000* 10,000*Sale of assets 40,000 40,000*Predistribution balances 60,000 90,000 40,100 5,000 9,900 35,000 60,000Cash distribution:

Creditors 40,100* 40,100*

Partners — Schedule A 19,900* 2,814* 17,086*

Balances January 31 0 90,000 0 5,000 9,900 32,186 42,914Sale of remaining assets 21,000 90,000* 20,700* 20,700* 27,600*Offset loan to

Roger capital 5,000* 5,000Predistribution balances 21,000 0 0 5,800* 11,486 15,314Cash distribution:

Partners — Schedule B 21,000* 9,000* 12,000*

Balances February 28 0 $ 5,800* $ 2,486 $ 3,314

Note: Roger owes Susan $2,486 and Tom $3,314. These balances remain on the partnership books until it is determined if Roger is personally solvent and able to pay $5,800 to the other partners.

Schedule A 30% 30% 40%

Possible Roger Susan Tom Losses Equity Equity Equity

Partners’ equity January 1 $14,900 $35,000 $60,000Allocate possible losses $90,000 (27,000) (27,000) (36,000)

(12,100) 8,000 24,000Allocate Roger’s deficit 12,100 (5,186) (6,914)Safe payments to partners January 31 0 $ 2,814 $17,086

Schedule B

Partners’ equity February 28 $(5,800) $11,486 $15,314Allocate Roger’s deficit 5,800 (2,486) (3,314)Safe payments to partners February 28 0 $ 9,000 $12,000


19-579

Note: Since cash was distributed to Susan and Tom in January and since Roger has negative equity, the distribution in February is necessarily in the 3/7 and 4/7 relative profit and loss sharing ratio of Susan and Tom.


19-580

Solution P16-10

Noncash 30% Rob 50% Tom 20% Val Cash Assets Liabilities Capital Capital Capital

Balances October 1 $21,000 $348,000 $130,000 $43,600 $150,000 $45,400Write-off Rob’s loan against capital (15,000) (15,000)Collected accounts receivable 40,000 (44,000) (1,200) (2,000) (800)Sale of inventory 50,000 (60,000) (3,000) (5,000) (2,000)Sale of equipment 60,000 (55,000) 1,500 2,500 1,000Payment of bank loan and accrued interest (50,600) (50,000) (180) (300) (120)Payment of accounts payable (80,000) (80,000)Liquidation expenses (2,000) (600) (1,000) (400)Predistribution balances 38,400 174,000 --- 25,120 144,200 43,080October 31 distribution 33,400 (33,400)Balance November 1 5,000 174,000 25,120 110,800 43,080Sale of equipment 38,000 (95,000) (17,100) (28,500) (11,400)Accounts receivable 10,000 (19,000) (2,700) (4,500) (1,800)Inventory to Val (20,000) (3,000) (5,000) (12,000)Write-off remaining inventory (40,000) (12,000) (20,000) (8,000)Liquidation expenses (800) (240) (400) (160)Predistribution balances 52,200 --- (9,920) 52,400 9,720Cash distributed (52,200) (45,314) (6,886)Balances --- (9,920) 7,086 2,834

Schedule of Safe Payments 30% Rob 50% Tom 20% Val

October 31Partners’ equity October 31, 2008 $25,120 $144,200 $43,080Possible losses $174,000 (52,200) (87,000) (34,800)Possible loss on contingency fund 5,000 (1,500) (2,500) (1,000)

(28,580) 54,700 7,280Possible loss from Rob allocated 5/7 and 2/7 (rounded) 28,580 (20,414) (8,166)

0 34,286 (886)Possible loss from Val (886) 886Cash distribution 33,400 0November 30Partners’ equity November 30 $(9,920) $ 52,400 $ 9,720Possible loss from Rob’s debit balance 5/7 and 2/7 9,920 (7,086) (2,834)Cash distribution 0 $ 45,314 $ 6,886


19-581

Solution P16-11

1 Closing entry

Revenue $200,000Jee capital 25,000Moore capital 75,000Olsen capital 100,000

Expenses $400,000

To close revenue and expense items and distribute loss to partners as follows: Net Loss 20% Jee 40% Moore 40% Olsen$(200,000)

Salaries (50,000) $ 25,000 $ 25,000Loss to divide (250,000)Divided 20:40:40 250,000 (50,000) (100,000) $(100,000)Loss allocated 0 $(25,000) $(75,000) $(100,000)

2 Cash distribution plan

Vulnerability ranks

Loss Vulner-ability

Equity Absorption RankJee: $250,000 balance - $25,000 loss $225,000/20% $1,125,000 3Moore: $450,000 balance - $75,000 loss $375,000/40% 937,500 2Olsen: $370,000 balance - $100,000 loss $270,000/40% 675,000 1

Assumed loss absorption Jee Moore Olsen Total

Predistribution equities $ 225,000 $375,000 $270,000 $870,000Loss to absorb Olsen (135,000) (270,000) (270,000) (675,000)

90,000 105,000 0 195,000Loss to absorb Moore $105,000 ¸ 40/60 (52,500) (105,000) (157,500)

$ 37,500 0 $ 37,500

Cash distribution planPriority

Creditors Jee Moore OlsenFirst $80,000 100%Second $37,500 100%


19-582

Third $157,500 2/6 4/6Remainder 20% 40% 40%

3 Cash distribution schedule

PriorityCreditors Jee Moore Olsen

First $ 80,000 $80,000Second 37,500 $37,500Third 18,000 6,000 $12,000 0

$135,500 $80,000 $43,500 $12,000


19-583

Solution P16-12

Beams, Plank, and Timbers PartnershipStatement of Partnership Liquidation

for the period January 1, 2009 to March 31, 2009

50% 30% 20% Noncash Beams Plank Timbers

Cash Assets Liabilities Capital Capital Capital Balances January 1 $120,000 $560,000 $250,000 $170,000 $180,000 $ 80,000Collection of receivables 100,000 100,000*Sale of inventory 100,000 80,000* 10,000 6,000 4,000Predistribution balances 320,000 380,000 250,000 180,000 186,000 84,000January distribution (schedule 1) Creditors 250,000* 250,000* Plank 60,000* 60,000*Balances February 1 10,000 380,000 0 180,000 126,000 84,000Plant assets to Beams 60,000* 50,000* and loss distribution 5,000* 3,000* 2,000*Sale of inventory 60,000 120,000* 30,000* 18,000* 12,000*Liquidation expenses paid 2,000* 1,000* 600* 400*Liability discovered 8,000 4,000* 2,400* 1,600*Predistribution balances 68,000 200,000 8,000 90,000 102,000 68,000February distribution (schedule 2) Creditors 8,000* 8,000* Plank 30,000* 30,000* Timbers 20,000* 20,000*Balances March 1 10,000 200,000 0 90,000 72,000 48,000Sale of plant assets and write-off 110,000 200,000* 45,000* 27,000* 18,000*Liquidation expenses paid 5,000* 2,500* 1,500* 1,000*Predistribution balances 115,000 0 42,500 43,500 29,000March distribution 115,000* 42,500* 43,500* 29,000*Liquidation completed March 31 0 0 0 0


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Schedule 1

Beams, Plank, and Timbers PartnershipSchedule of Safe Payments to Partners

January Distribution

Possible Beams Plank Timbers Losses Capital Capital Capital

Noncash assets $380,000 $180,000 $186,000 $84,000Contingency reserve 10,000Possible losses 390,000Distribution 50:30:20 390,000* 195,000* 117,000* 78,000*

0 15,000* 69,000 6,000Distribution of Beams’ deficit 60:40 15,000 9,000* 6,000*Safe payment to Plank 0 $ 60,000 0

Schedule 2

Beams, Plank, and Timbers PartnershipSchedule of Safe Payments to Partners

February Distribution

Possible Beams Plank Timbers Losses Capital Capital Capital

Noncash assets $200,000 $ 90,000 $102,000 $68,000Contingency reserve 10,000Possible losses 210,000Distribution 50:30:20 210,000* 105,000* 63,000* 42,000*

0 15,000* 39,000 26,000Distribution of Beams’ deficit 60:40 15,000 9,000* 6,000*

Safe payment to Plank and Timbers 0 $ 30,000 $20,000

* Deduct or deficit


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Chapter 17

CORPORATE LIQUIDATIONS and REORGANIZATIONS


1 Equity insolvency occurs when a debtor is unable to pay its debts as they come due. Bankruptcy insolvency occurs when a debtor’s liabilities exceed the fair value of all assets.

2 A bankruptcy proceeding is designated voluntary if the debtor corporation files the petition to place itself under the protection of the bankruptcy court and involuntary if creditors file the petition to bring the debtor into bankruptcy court. An involuntary petition may be filed by a single creditor with an unsecured claim of $12,300 or more if there are fewer than twelve unsecured creditors. Otherwise, three or more entities with unsecured claims totaling at least $12,300 must file in order to commence an involuntary case. The requirements are the same for Chapter 7 and Chapter 11 cases.

3 The duties of the U.S. trustee are to maintain and supervise a panel of private trustees eligible to serve in Chapter 7 cases, to serve as trustee or interim trustee in some bankruptcy cases, to supervise the administration of bankruptcy cases, and to preside over creditor meetings. Bankruptcy judges still supervise cases in districts without U.S. trustees.

4 The debtor corporation in a bankruptcy case has the following duties: (1) to file a list of creditors, a schedule of assets and liabilities, and a statement of the debtor’s financial affairs; (2) to cooperate with the trustee so that the trustee may perform his duties; (3) To surrender all property, including books, documents, records, and so on, to the trustee; and (4) to appear at hearings of the bankruptcy court as required.

5 A trustee is not appointed in all Title 11 cases. In Chapter 7 cases a trustee will be elected by unsecured creditors if a majority vote in amount of holders with at least 20 percent of the claims is obtained. Otherwise, an appointed interim trustee serves as trustee. In Chapter 11 cases a trustee is appointed only if deemed necessary by the court, but otherwise, the debtor remains in possession of the estate and performs the duties of a trustee. Within 30 days from the time the court orders the appointment of a trustee in a Chapter 11 case, a party in interest may request the election of a trustee.


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6 The trustee in a liquidation case takes possession of the debtor’s estate, converts estate assets into cash, and distributes the proceeds as directed by the court. He also performs other duties such as investigating the financial affairs of the debtor, providing information about the estate to parties of interest, examining creditor claims and objecting to those that appear improper, operating the debtor’s business if authorized to do so by the court, providing financial reports and summaries about the estate to the court, and filing reports on trusteeship as directed by the court.

7 The priority rankings in a Chapter 7 liquidation case are summarized in Exhibit 17–2 of the text. The priorities recognized for unsecured claims (Rank II) are: (1) administrative expenses, (2) claims incurred between an involuntary filing and appointment of a trustee, (3) salary claims up to $10,000 per individual earned within 90 days of filing, (4) employee benefit plan contribution claims up to $10,000 per individual earned within 180 days of filing, (5) individual claims up to $1,800 for goods and services purchased from, but not provided by the debtor, and (6) claims of governmental units for taxes owed by the debtor (subject to time restrictions), including taxes collected and withheld for which the debtor is liable.

8 Four ranks within the unsecured nonpriority claim category (general unsecured claims) are: (1) claims allowed that were timely filed, (2) claims allowed where proof was filed late, (3) claims allowed for fines, penalties or forfeitures, or damages, and arising before the court order for relief or appointment of a trustee, and (4) claims for interest on unsecured claims.

9 The accountant’s statement of affairs is a financial statement that is designed to provide information about liquidation values and priority rankings for use by the trustee, the court, creditors, and other interested parties in the debtor’s estate. Assets are measured at expected net realizable values in the statement, but book values are also included for reference purposes. (The Bankruptcy Act refers to a statement of affairs, but that statement is a questionnaire that includes various financial and nonfinancial and legal section

10 A debtor corporation’s estate may be liquidated even though the filing is under Chapter 11. This can occur when the case is transferred to Chapter 7 for liquidation. It can also be carried out in accordance with an approved Chapter 11 plan of reorganization that calls for sale and distribution of the proceeds from the debtor corporation’s estate.

11 A debtor in possession reorganization case is a Chapter 11 case in which the bankruptcy court does not appoint a trustee, but instead, allows the debtor corporation to carry out the duties that otherwise would be performed by a trustee.

12 A creditor committee can file a plan of reorganization under a Chapter 11 case after 120 days from the date the court order for relief is granted. The order for relief occurs when the debtor or creditor’s filing petition is approved by the court.


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13 The approval of a plan of reorganization requires acceptance of the plan by at least two-thirds in amount and over half in number of claims in each class of claims. Further, each class of claims must accept the plan or not be impaired under it. A class of claims that would receive nothing if the corporation were liquidated is not impaired if it receives nothing under a plan and, accordingly, acceptance by that class of claims is not required.


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14 Prepetition liabilities are the liabilities of an enterprise that were incurred prior to a Chapter 11 filing. They are reported at the amounts allowed by the bankruptcy court. Prepetition liabilities subject to compromise are those liabilities that may be impaired by a plan and that are eligible for compromise because they are either unsecured or undersecured.

15 Reorganization value is an estimate of the value of the reconstituted entity that will emerge from reorganization, plus the expected net realizable value of the assets that will be disposed of before reconstitution occurs. It is also described as the fair value of the entity before considering liabilities. Reorganization value approximates the amount a willing buyer would pay for the assets of the entity immediately after the restructuring.

16 Fresh start reporting should be used by a company emerging from Chapter 11 if the following two conditions are met: (1) the reorganization value of the assets of the emerging entity immediately before the date of confirmation is less than the total of all postpetition liabilities and allowed claims and (2) holders of existing voting shares immediately before confirmation receive less than 50 percent of the voting shares of the emerging entity.

17 Entities not qualifying for fresh start reporting report liabilities compromised by a confirmed reorganization plan in a manner similar to that of a note issued in a noncash transaction under APB Opinion No. 21. Forgiveness of debt should be reported as an extraordinary item.


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Solution E17-1 Solution 17-21 b 1 a2 d 2 d3 c 3 c4 d 4 d5 d6 c7 a8 d9 c10 d11 c12 d13 c

Solution E17-3

Note receivable from Patriots Supply $100,000Amount secured by inventory items at expected recoverable value (30,000)

Unsecured portion of note receivable from Patriots Supply 70,000Expected recovery on the dollar for unsecured claims .35

Expected recovery on unsecured portion of note 24,500Add: Secured portion 30,000

Total expected recovery on note from Patriots Supply $ 54,500

Solution E17-4

1 On the basis of the reorganization value, Baxter Hardware qualifies for fresh start reporting because the estimated reorganization value of $2,000,000 is less than the postpetition liabilities and allowed claims.

Estimated reorganization value $2,000,000Liabilities:

Postpetition liabilities $1,200,000Prepetition liabilities 1,500,000Fully secured debt 900,000 3,600,000

Excess liabilities over reorganization value $1,600,000

2 Old stockholders must retain less than a 50% interest in the “new entity.”


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Reorganization value $2,000,000Less: Payment to prepetition claimants 150,000

1,850,000Reorganized capital structure:Postpetition liabilities $1,200,000Notes payable 300,000Fully secured debt 900,000New common stock to prepetition claimants 375,000 2,775,000New common stock to old stockholders $ (925,000)

Solution E17-5

Cash available for distribution $100,000Mortgage payable (secured portion) (50,000)

50,000Priority claims (administrative expenses and salaries) (10,000)Available for unsecured, nonpriority claims $ 40,000

Unsecured, nonpriority claims:Balance of mortgage payable $ 30,000Accounts payable 50,000Unsecured, nonpriority claims $ 80,000

$40,000 available cash/$80,000 claims = $.50 on the dollar

Schedule of Distribution of Available Cash

Mortgage payable — secured portion $ 50,000Unsecured, priority claims 10,000Mortgage payable — unsecured portion ($30,000 ´ $.50) 15,000Accounts payable ($50,000 ´ $.50) 25,000

Total cash distributed $100,000


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Solution P17-1

1 Entries on trustee’s books:

March 1, 2008Cash $ 4,000Accounts receivable — net 8,000Inventories 36,000Land 20,000Buildings — net 100,000Intangible assets 26,000

Accounts payable $50,000Note payable — unsecured 40,000Revenue received in advance 1,000Wages payable 3,000Mortgage payable 80,000Estate equity 20,000

To record custody of Scott Corporation in liquidation.

March 2008Cash $ 7,200Estate equity 800

Accounts receivable — net $ 8,000To record collection of receivables and recognize loss.

Cash $ 19,400Estate equity 16,600

Inventories $36,000To record sale of inventories at a loss.

Cash $ 90,000Estate equity 30,000

Land $ 20,000Buildings — net 100,000

To record sale of land and buildings at a loss.

Estate equity $ 26,000Intangible assets $ 26,000

To write off intangible assets at a loss.

Estate equity $ 8,200Administrative expenses payable — new $ 8,200

To accrue trustee expenses.


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2 Scott Corporation in TrusteeshipBalance Sheet

at March 31, 2008

AssetsCash $120,600

Liabilities And DeficitAccounts payable $ 50,000Note payable — unsecured 40,000Revenue received in advance 1,000Wages payable 3,000Mortgage payable 80,000Administrative expenses payable — new 8,200

Total liabilities 182,200Less: Estate deficit (61,600)

Total liabilities less deficit $120,600

Statement of Cash Receipts and Disbursementsfrom March 1 to March 31, 2008

Cash balance, March 1, 2008 $ 4,000

Add: Cash receiptsCollections of receivables $ 7,200Sale of inventories 19,400Sale of land and buildings 90,000 116,600

120,600Less: Cash disbursements (none) 0

Cash balance, March 31, 2008 $120,600

Statement of Changes in Estate Equityfrom March 1 to March 31, 2008

Estate equity, March 1, 2008 $20,000

Less:Loss on uncollectible receivables $ 800Loss on sale of inventories 16,600Loss on sale of land and buildings 30,000Loss on write-off of intangibles 26,000Administrative expenses 8,200 81,600


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Estate deficit, March 31, 2008 $61,600


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3 Entries on trustee’s books:

April 2008Mortgage payable $80,000

Cash $80,000To record payment of secured creditors from proceeds from sale of land and buildings.

Administrative expenses payable — new $ 8,200Revenue received in advance 1,000Wages payable 3,000

Cash $12,200To record payment of priority liabilities.

Accounts payable $15,800Note payable — unsecured 12,600

Cash $28,400To record payment of $.32 per dollar to unsecured creditors (available cash of $28,400 divided by unsecured claims of $90,000).

Accounts payable $34,200Note payable — unsecured 27,400

Estate equity $61,600To write off remaining liabilities and close trustee’s records.


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Solution P17-2

1 Amount expected to be available for unsecured claims:

Total amount expected to be available for all claims $445,000

Less: Payments to secured and priority claimsMortgage payable $220,000Note payable 75,000Priority claims 80,000 375,000

Expected to be available for unsecured nonpriority claims $ 70,000

2 Expected recovery per dollar of unsecured claims:

Expected to be available (from 1) = $70,000Unsecured claims ($550,000 - $375,000) = $175,000

Expected recovery on the dollar: $70,000/$175,000 = $.40

3 Expected recovery by class of creditors:

Fully secured — mortgage payable $220,000Partially secured — note payable $75,000 + ($25,000 ´ $.40) 85,000Priority unsecured — liabilities to priority creditors 80,000Unsecured nonpriority creditors — accounts payable ($150,000 ´ $.40) 60,000

Total $445,000


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Solution P17-3

1 Ranking of claims:

Fully secured:Holders of first mortgage and related interest $228,500

Unsecured priority:1. Administrative expenses $ 12,5003. Wages payable up to $4,000 per employee 47,0005. Customer claims for merchandise paid for

and not delivered (maximum $1,800 per individual)

1,500

6. State government for gross receipts taxes $ 3,000Local government for property taxes 4,000 7,000

Total unsecured priority claims 68,000

Unsecured nonpriority:1. Merchandise creditors $99,000

Local bank for principal of loan 30,000President for salary due over $4,000 1,000 130,000

4. Interest on unsecured bank loan 4,500Total unsecured nonpriority claims 134,500

$431,000Total all claims

2 Distribution of available cash:

1st Mortgage holders (100%) $228,500

2nd Administrative expenses (100%) 12,500

3rd Employees (up to $4,000 each) (100%) 47,000

4th Customers for merchandise not delivered (100%) 1,500

5th State government (100%) $ 3,000Local government (100%) 4,000 7,000

[Remaining cash ($374,500 - $296,500) of $78,000/$130,000 claim of next rank = $.60 return on dollar]


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6th Merchandise creditors ($99,000 ´ .60) $59,400Local bank for loan principal ($30,000 ´ .60) 18,000Company president ($1,000 ´ .60) 600 78,000

Total distributed (equal to available cash) $374,500


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Solution P17-4

1 Hanna CorporationStatement of Affairs

on June 30, 2008

AssetsRealizable

Values-LiabilityOffsets

RealizableValue

Available for Book for Secured Unsecured Value Creditors Creditors

Pledged for partially secured creditors

$55,000 Equipment — net $28,000Less: Mortgage note payable and accrued interest (31,000) $ 0

Available for priority and unsecured creditors

2,200 Cash 2,200 15,000 Accounts receivable — net 13,500 20,000 Inventories 22,500

Total available for priority and unsecured creditors 38,200Less: Priority liabilities 12,000

Total available for unsecured creditors 26,200 Estimated deficiency 10,800$92,200 $37,000

Liabilities And Stockholders’ Equity

Book Secured and Unsecured Non- Value Priority Claims priority Claims

Priority liabilities$12,000 Wages payable (assumed under

$4,000 per employee) $12,000

Partially secured creditors 31,000 Note payable and accrued

interest $31,000Less: Equipment pledged as security (28,000) $ 3,000


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Unsecured creditors 26,400 Accounts payable 26,400 7,600 Rent payable 7,600

Stockholders’ equity 55,000 Capital stock(39,800) Retained earnings (deficit)$92,200 $37,000


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2 Estimated payments per dollar for unsecured creditors

Cash available $66,200

Distribution to partially secured and unsecured priority creditors:

Note payable and interest $28,000Administrative expenses 4,000Wages payable 12,000 44,000

Available to unsecured nonpriority creditors = A $22,200

Note payable and interest (unsecured portion) $ 3,000Accounts payable 26,400Rent payable 7,600

Unsecured nonpriority claims = B $37,000

A/B = $22,200/$37,000 = $.60 per dollar

Expected recovery for each class of claims

Partially secured

Note payable and interestSecured portion $28,000Unsecured portion ($3,000 ´ $.60) 1,800 $29,800

Unsecured priority

Administrative expenses $ 4,000Wages payable 12,000 16,000

Unsecured nonpriority

Accounts payable ($26,400 ´ $.60) $15,840Rent payable ($7,600 ´ $.60) 4,560 20,400

Total payments $66,200


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Solution P17-5

1 Dawn Corporation — in Chapter 7Statement of Affairs at July 10, 2008

AssetsRealizable Realizable

Value- Value Book Liability Available for Value Offsets Unsecured

Fully secured$210,000 Accounts receivable — net $160,000

Less: Notes payable 100,000 $ 60,000Partially secured

250,000 Land and buildings — net $140,000Less: Mortgage and interest payable 205,000 0Unsecured

80,000 Cash 80,000 200,000 Inventories 210,000 150,000 Equipment — net 60,000 10,000 Intangible assets 0

Available for priority and unsecured 410,000

Priority liabilities 150,000Available for nonpriority unsecured 260,000

Estimated deficiency 155,000$900,000 $415,000

EquitiesSecured and Unsecured-

Book Priority Nonpriority Value Claims Claims

Priority liabilities$ 50,000 Accounts payable $ 50,000 24,000 Wages payable 24,000 76,000 Taxes payable 76,000

150,000Fully secured

100,000 Note payable $100,000Less: Accounts receivable — net 160,000

60,000Partially secured

205,000 Mortgage and interest payable $205,000Less: Land and buildings — net 140,000


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65,000 $ 65,000Unsecured

350,000 Accounts payable 350,000 300,000 Capital stock(205,000) Retained earnings deficit$900,000 $415,000


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2 Claims by Amounts to Amounts to BePriority Ranks Be Paid Written Off

Priority claimsAdministrative expenses $ 11,000 $ 11,000Accounts payable 50,000 50,000Wages payable 24,000 24,000Taxes payable 76,000 76,000Fully secured claimsNote payable 100,000 100,000Partially secured claimsMortgage and interest payable 205,000 140,000 $ 26,000

39,000UnsecuredAccounts payable 350,000 210,000 140,000

$816,000 $650,000 $166,000

Calculation of recovery for unsecured nonpriority claims

Cash available $650,000Less: Paid to priority claims (161,000)Less: Paid to fully secured claims (100,000)Less: Paid to partially secured creditors – secured portion (140,000)

A Cash available for unsecured $249,000

Unsecured claims:Partially secured ($205,000 - $140,000 secured) $ 65,000Accounts payable — nonpriority 350,000

B Total unsecured claims $415,000

A ¸ B = $249,000/$415,000 = $.60 recovery on the dollar


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Solution P17-6

1 Everlast Window CorporationStatement of Affairs on June 30, 2008

AssetsRealizable

Values- RealizableLiability Value

Offsets for Available for Book Secured Unsecured Value Creditors Creditors

Pledged for fully secured creditors

$230,000 Land and building $170,000Less: Mortgage payable and accrued interest (165,000) $ 5,000Available for priority and unsecured creditors

40,000 Cash 40,000 70,000 Accounts receivable — net 63,000 50,000 Inventories 42,000 60,000 Machinery — net 20,000 50,000 Goodwill 0

Total available for priority and unsecured creditors 170,000Less: Priority liabilities 70,000Total available for unsecured creditors 100,000

Estimated deficiency 65,000$500,000 $165,000

Liabilities and Stockholders’ EquitySecured and Unsecured

Book Priority Non-priority Value Claims Claims

Priority liabilities$ 60,000 Wages payable $ 60,000 10,000 Property taxes payable 10,000

70,000Fully secured creditors

150,000 Mortgage payable $150,000 15,000 Interest on mortgage payable 15,000

165,000Unsecured creditors

110,000 Accounts payable $110,000 50,000 Note payable — unsecured 50,000


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5,000 Interest payable — unsecured 5,000Stockholders’ equity

200,000 Capital stock(100,000) Retained earnings (deficit)$500,000 $165,000

2 Settlement per dollar of rank 1 unsecured creditors is $.6250 ($100,000 available for unsecured/$160,000 accounts and notes payable). No payment is made for the $5,000 unsecured interest claim.


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Solution P17-7

1 The reorganization is eligible for fresh start accounting because the liabilities on June 30, 2008 of $16,500 exceed the reorganization value of $16,000 by $500. Also, the common stock of the new entity is allocated $5,000 to prepetition creditors and $2,000 to Lowstep’s old stockholders, so that the old stockholders have less than a 50 percent interest in the new entity.

2 Entries to adjust Lowstep’s accounts for the reorganization plan:

Prepetition liabilities $12,500Accounts payable (old) $ 800Wages payable (old) 400Note payable (new) 3,800Common stock (new) 5,000Gain on debt restructuring 2,500

To adjust prepetition liabilities to conform with the plan.

Loss on asset adjustments to fair values $ 4,000Inventories 400Land 1,000

Buildings — net $1,400Patent 4,000

To adjust assets to their fair values.

Common stock (old) $ 7,000Common stock (new) $2,000Additional paid-in capital 5,000

To record exchange of common stock.

Gain on debt discharge $ 2,500Additional paid-in capital 5,000Reorganization value in excess of fair value 1,000

Loss on asset adjustments to fair values $4,000Deficit 4,500

To eliminate deficit and record adoption of fresh start reporting.


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3 Lowstep CorporationFinal Balance Sheetas of July 8, 2008

AssetsCash $ 6,700Trade receivables — net 1,000Inventories 2,000Land 2,000Buildings — net 1,500Equipment — net 1,800Reorganization value in excess of fair values 1,000



Accounts payable $ 3,000Accounts payable (old) 800Wages payable 1,000Wages payable (old) 400Notes payable (new) 3,800

Total liabilities 9,000Common stock (new) 7,000

Total liabilities and stockholders’ equity $16,000

Note: The final balance sheet of Lowstep Corporation will be the same as the beginning balance sheet of Highstep Corporation.


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Chapter 18

AN INTRODUCTION TO ACCOUNTING FOR STATE AND LOCALGOVERNMENTAL UNITS

Questions

1 The Governmental Accounting Standards Board has primary responsibility for setting standards that provide GAAP for state and local governmental units. The most authoritative literature includes GASB Statements of Standards and GASB Interpretations. The second level of authoritative literature includes GASB Technical Bulletins and those AICPA audit and accounting guides and statements of position that the AICPA intended to make applicable to governments and that the GASB has cleared.

Before 1984, the Municipal Finance Officers Association (MFOA) and its National Committee on Governmental Accounting provided guidance via the publication of Municipal Accounting and Auditing in 1951 and Governmental Accounting, Auditing, and Financial Reporting (GAAFR) in 1968. Since 1974, the AICPA has also issued industry audit guides for audits of state and local governmental units.

2 The Municipal Finance Officers Association (MFOA), now referred to as the Government Finance Officers Association (GFOA), first issued Governmental Accounting, Auditing, and Financial Report (GAAFR) in 1968. For many years, this resource book – often referred to as the Blue Book due to its distinctive blue cover - constituted the most complete frameworks of accounting principles specific to governmental units, and provided standards for preparing and evaluating the financial reports of governmental units. Updated periodically to reflect changes to governmental accounting, the 2005 GAAFR is the most recent version.

3 According to the AICPA’s Audit and Accounting Guide, a governmental entity is generally created for the administration of public affairs and has one or more of the following characteristics:

▪ Popular election of officers or appointment (or approval) of a controlling majority of the members of the organization’s governing body by officials of one or more state or local governments;

▪ The potential for unilateral dissolution by a government with the net assets reverting to a government; or

▪ The power to enact or enforce a tax.

An organization may also be classified as a governmental entity if it possesses the ability to issue debt that is exempt from federal taxation.

4 A fund is a separate fiscal and accounting entity with a self-balancing set of accounts, “segregated for the purpose of carrying on specific activities or attaining certain objectives in accordance with special regulations, restrictions, or limitations.” [GASB Codification] Fund accounting facilitates budgetary control.


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A governmental unit may have hundreds of funds, but only eight fund types. The Codification discusses three fund categories (governmental, proprietary, and fiduciary) and eight fund types (general, special revenue, permanent, capital projects, debt service, internal service, enterprise, and trust and agency funds).

5 Governmental funds are “expendable” or “source and disposition” funds through which most governmental functions are financed. These funds are essentially working capital entities. They include the general fund, special revenue funds, permanent funds, capital projects funds, and debt service funds.

Proprietary funds are “nonexpendable” or “commercial type” funds used to account for ongoing activities that are similar to those found in private enterprise. They use the business accounting equation and their reporting parallels that of a business entity in most regards. They include two fund types—enterprise funds and internal service funds.

Fiduciary funds are used to account for assets held by the governmental unit as trustee or agent for individuals, private organizations, and other governmental units. Fiduciary funds include trust funds (pension, investment, and private purpose) and agency funds.

6 The five types of governmental funds are the general fund, permanent funds, special revenue funds, capital projects funds, and debt service funds. Each is a working capital entity, therefore, each is used to account for a portion of a government’s general government working capital. They are distinguished by the purpose for which the resources of each fund may (must) be used. Working capital to be used for construction/acquisition of major general government fixed assets should be accounted for in capital projects funds; that to be used to pay principal and interest on general long-term debt should be accounted for in debt service funds. Special revenue funds are used to account for portions of working capital to be used for other specific general operating purposes. Permanent funds report resources that are legally restricted to the extent that only earnings, and not principal, may be used for purposes that support the reporting government’s programs—that is, for the benefit of the government of its citizenry.

7 The governmental fund accounting equation is:

Current Assets - Current Liabilities = Fund Balance

8 The two types of proprietary funds are enterprise funds and internal service funds. Both charge fees for their services that are intended to recover part, if not all, of the costs of providing goods or services. The key distinction between the two is that the predominant customers of internal service funds are other departments or agencies of the government, whereas the predominant customers of enterprise funds are outside entities or individuals.

9 The accounting equation for a proprietary fund is essentially the business accounting equation—

Current + Noncurrent – Current – Noncurrent = Net Assetsassets assets liabilities liabilities

10 Under the modified accrual basis of accounting, fixed assets are not recorded in the general fund, because general fixed assets do not represent financial resources available for current


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expenditures, i.e., they are not working capital items. In the fund financial statements, the general fund is used to account for unrestricted resources that can be expended currently for operating purposes. Since fixed assets result from expending resources for long-term needs, they are not included in the fund financial statements.

With the advent of GASB 34, the general fund is reported in the governmentwide statements under the accrual basis of accounting. General fund fixed assets – which have typically been documented informally in the accounting records and noted in the old general fixed asset account group – will appear in the governmentwide statement of net assets.

11 Modified accrual accounting is the system of accounting in which revenues are recognized in the accounting period in which they become available and measurable and expenditures are recognized in the accounting period in which the related fund liability is incurred and objectively measurable. Unmatured interest on general long-term debt is an exception for which the expenditure is recognized when due. Modified accrual accounting applies to governmental funds (general fund, special revenue funds, permanent funds, debt service funds, and capital projects funds) and to asset and liability accounting for agency funds.

12 Governmental and proprietary funds use different focuses when measuring financial positions and operating results in the fund financial statements. The two types of focuses are the “economic resources” measurement focus and the “flow of current financial resources” measurement focus. The accrual basis (used with proprietary funds and trust funds) refers to recognition of revenues and expenses as in business accounting and follows the economic resources measurement focus, whereby all economic resources, whether current or noncurrent, are reported. The modified accrual basis of accounting (used with governmental funds) is consistent with a flow of current financial resources measurement focus, whereby funds report on current resources and current obligations.

Under GASB 34, both governmental funds and proprietary funds use the accrual basis of accounting and the “economic resources” measurement focus in the governmentwide statements.

13 Governmental revenue sources, addressed in GASB 33, are varied and include taxes, grant receipts, and collections of user fees and fines. Exchange transactions are those “in which each party receives and gives up essentially equal values.” Nonexchange transactions are those “in which a government gives (or receives) value without directly receiving (or giving) equal value in exchange.” Many of the transactions in governmental funds are nonexchange in nature, because general governmental activities often address the needs of the public and are funded by taxpayers who generally do not receive benefits in direct relation to their tax payments.

14 A short term note payable will generally be paid with current resources, thus it is accounted for as a liability of the governmental fund. Long-term debt is not included in the fund financial statements, since it will be repaid with future, not current financial resources. The long term debt will, however, appear as a liability in the governmentwide statement of net assets. This is one of the reconciling items between the fund and governmentwide statements.

15 Interfund transfers are not expenditures or expenses, and they are classified separately from revenues, expenditures, and expenses in the financial statements of the various funds. Interfund transfers are essentially shifts of resources between funds, not costs or liabilities incurred by the


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entity. Interfund transfers consist of residual equity transfers (nonrecurring or nonroutine transfers of equity between funds) and operating transfers (all other legally authorized transfers between funds). Interfund transactions that would be treated as revenues, expenditures, or expenses if they involved an external entity are not interfund transfers, but rather are quasi-external transactions and are treated as revenue, expenditures, or expenses in the normal fashion.

16 An appropriation is an authorization from the legislative body to make expenditures for specified purposes. If approval by the legislative body is for each detailed expenditure item in the budget (a line-item budget), the legislative body will have maximum control because each detailed change would require legislative approval. If the budget is approved in total or by major categories but not for each detailed item, the city manager (or other chief executive) can shift resources within the categories approved without legislative approval. An appropriation by department, for example, permits a city manager to shift appropriations for police supplies to police equipment or overtime pay without legislative approval.

17 Under GASB 34, the governmental and proprietary fund financial statements of a general-purpose government include the following:

Fund financial statementsGovernmental Funds

Balance sheet – governmental funds (modified accrual basis)Statement of revenues, expenditures, and changes in fund balances (modified

accrual basis)

Proprietary FundsStatement of net assets (accrual basis)Statement of revenues, expenses, and changes in net assets (accrual basis)Statement of cash flows (accrual basis, direct method)

18 A reciprocal transfer is one which is expected to be repaid by the fund borrowing the money; whereas with a nonreciprocal transfer repayment is not expected.

19 The GAAP Guidelines, listed in descending order of authority are as follows:1. GASB Statements and GASB Interpretations. This category also includes AICPA and

FASB pronouncements made applicable to state and local governments by a GASB Statement or Interpretation.

2. GASB Technical Bulletins. This category also includes AICPA Industry Audit and Accounting Guides and Statements of Position if specifically made applicable to state and local governments by the AICPA and cleared by the GASB.

3. Consensus positions of GASB’s Emerging Issues Task Force (EITF) and AICPA Practice Bulletins if specifically made applicable to state and local governments by the AICPA and cleared by the GASB.

4. Implementations Guides published by the GASB staff and industry practices that are widely recognized and prevalent in state and local government.

5. Other accounting literature (including FASB standards not made applicable to governments by a GASB standard).


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GASB statements are the most authoritative.

20 Interfund loans are loans that are made by one fund to another and must be repaid. Interfund transfers occur when one fund provides resources to another for legally authorized purposes (an operating transfer) or when one fund helps to establish or enhance another (a residual equity transfer). Interfund services provided and used include sales and purchases between funds at approximate external market value. An interfund reimbursement is necessary when an expenditure applicable to one fund is made by a different fund.

21 Expenses reflect the cost of assets or services used by an entity, and they are recognized in the period incurred. Expenditures, unique to government accounting, typically reflect the use of governmental fund working capital. Proprietary funds recognize expenses, whereas governmental funds recognize expenditures.

22 A comprehensive annual financial report (CAFR) contains three major sections—introductory, financial and statistical. The introductory section of a CAFR includes a table of contents, a letter of transmittal, a list of principal officers, and an organizational chart. The financial section includes the management’s discussion and analysis, the auditor’s report, the government-wide financial statements, and the fund financial statements. The statistical section contains statistical tables with comparative data from several periods of time.

23 Fiscal accountability is the responsibility of a government to demonstrate compliance with public decisions regarding the use of financial resources. Operational accountability measures the extent of a government’s success at meeting operating objectives efficiently and effectively and its ability to meet operating objectives in the future.


E18-1 E18-2[AICPA adapted]

E18-3

1 c 1 d 1 b2 a 2 c 2 a3 c 3 c 3 a4 d 4 a 4 d5 d 5 c 5 b


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E18-4 E18-5 E18-61 c 1 c 1 trust and agency funds2 b 2 b 2 enterprise funds3 d 3 d 3 general funds4 c 4 b 4 debt service funds5 d 5 d 5 permanent funds

6 special revenue funds7 internal service funds8 capital projects funds

E18-7

1 Current assets -30,000Current liabilities +2,500Fund balance -32,500

2 Current assets +98,000Current liabilities --Fund balance +98,000

3 Current assets +60,000Current liabilities +60,000Fund balance --

4 Current assets -63,150Current liabilities -60,000Fund balance -3,150Assumes repayment during the same year borrowed. If the note had not matured by the end of the year of the borrowing, interest expenditures and interest payable would be accrued.

5 Current assets +600,000Current liabilities --Fund balance +600,000At the same time a memo entry will be made noting a liability in the long-term debt records. This is used to prepare the governmentwide statements where long-term debts are recorded in governmental funds.

6 Current assets -25,000Current liabilities --Fund balance -25,000


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At the same time a memo entry will be made noting an asset in the fixed asset records. This is used to prepare the governmentwide statements where fixed assets are recorded in governmental funds.

7 Current assets +1,200Current liabilities --Fund balance +1,200At the same time a memo entry will be made removing the asset from the fixed asset records.

8 Current assets --Current liabilities --Fund balance --

At the same time a memo entry will be made noting a liability in the long-term debt records. This is used to prepare the governmentwide statements where long-term debts are recorded in governmental funds.

E18-8

1 Current assets -30,000Noncurrent assets --Current liabilities +2,500Long-term liabilities --Net Assets -32,500

2 Current assets +98,000Noncurrent assets --Current liabilities --Long-term liabilities --Net Assets +98,000Actually, the net asset increase is reported as a $100,000 increase (revenues) and a $2,000 decrease (uncollectible accounts expense). Further, it is relatively uncommon to have tax revenues in proprietary activities

3 Current assets +60,000Noncurrent assets --Current liabilities +60,000Long-term liabilities --Net Assets --Assumes repayment during the same year borrowed. If the note had not matured by the end of the year of the borrowing, interest expense and interest payable would be accrued.


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4 Current assets -63,150Noncurrent assets --Current liabilities -60,000Long-term liabilities --Net Assets -3,150

5 Current assets +600,000Noncurrent assets --Current liabilities --Long-term liabilities +600,000Net Assets --Interest expense should be accrued on proprietary fund long-term debt as well as on proprietary fund short-term debt.

6 Current assets -25,000Noncurrent assets +25,000Current liabilities --Long-term liabilities --Net Assets --

7 Current assets +1,200Noncurrent assets (Fully depreciated) 0Current liabilities --Long-term liabilities --Net Assets +1,200

8 Current assets --Noncurrent assets --Current liabilities --Long-term liabilities +50,000Net Assets -50,000

E18-9

1 debt service fund2 permanent fund3 special revenue fund 4 agency fund5 capital projects fund, debt service fund

E18-10

1 capital projects fund, debt service fund2 internal service fund


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3 enterprise fund4 special revenue fund5 general fund

E18-11

1 pension trust fund2 enterprise fund3 internal service fund4 general fund5 general fund (may also be allocated to other funds after collection)

E18-12

1 General FundCurrent assets -95,000Current liabilities --Fund balance -95,000

2 General FundCurrent assets --Current liabilities +25,000Fund balance -25,000

Year end accrualCurrent assets --Current liabilities ($25,000 ´ .08 ´ .5) +1,000Fund balance -1,000At the same time a memo entry will be made noting an asset in the fixed asset account records.

3 General FundCurrent assets +30,000Current liabilities --Fund balance +30,000At the same time a memo entry will be made removing the asset from the fixed asset records.

4 General FundCurrent assets -27,000Current liabilities -26,000Fund balance -1,000

5 General FundCurrent assets +500,000


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Current liabilities --Fund balance +500,000

Enterprise FundCurrent Assets -500,000Noncurrent Assets --Current liabilities --Long-term liabilities --Net Assets -500,000

6 General FundCurrent assets +70,000Current liabilities --Fund balance +70,000

E18-13

1 Capital Projects FundCurrent assets +10,000,000Current liabilities --Fund balance +10,000,000At the same time a memo entry will be made noting a liability in the long-term debt records. This is used to prepare the governmentwide statements where long-term debts are recorded in governmental funds.

2 General FundCurrent assets -22,000Current liabilities --Fund balance -22,000At the same time a memo entry will be made noting an asset in the fixed asset records.

3 Enterprise FundCurrent assets +500,000Noncurrent assetsCurrent liabilitiesLong-term liabilitiesNet Assets +500,000

4 Capital ProjectsCurrent assets -2,000,000Current liabilities --Fund balance -2,000,000


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At the same time a memo entry will be made noting a construction work in process asset in the fixed asset records.

5 General FundCurrent assets -4,500Current liabilities +500Fund Balance -5,000

6 General FundCurrent assets +7,500Current liabilities +7,500Fund balance --


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Chapter 19

ACCOUNTING FOR STATE AND LOCAL GOVERNMENTAL UNITS — GOVERNMENTAL FUNDS

Questions

1 The governmental fund accounting equation is:

Current Assets – Current Liabilities = Fund Balance

2 Taxpayers are billed the full $200,000. The amount recorded as Revenue would be $194,000 with $6,000 recorded as Allowance for Uncollectible Taxes.

3 Encumbrance means “commitment,” and encumbrance accounting records commitments made for goods on order and for unperformed contracts in order to provide additional control over expenditures.

4 The required governmental fund financial statements include a statement of net assets or balance sheet and a statement of revenues, expenditures, and changes in fund balance. The fund financial statements for the governmental funds are prepared on the modified accrual basis of accounting.

5 Capital projects funds are used to account for the financing and acquisition of major general government capital facilities (general fixed assets) of a governmental unit. They are not used to account for the acquisition of capital facilities financed through internal service or enterprise funds. General fixed assets may be purchased through the general fund or special revenue funds. General fixed assets may be acquired by donation in which case the capital projects fund would not likely be involved.

6 Capital projects funds may receive resources from numerous sources such as the proceeds of general obligation bond issues, state and federal grants, shared revenues, and transfers from other funds. A CPF is terminated when the capital facilities have been acquired and project liabilities settled. This may involve a short period of time in the case of assets acquired by purchase and several years in the case of assets acquired by construction. Assets remaining after a capital project has been completed and paid for are ordinarily transferred to the general fund or to the debt service fund with responsibility for servicing the debt issued to finance the project.


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7 A government may treat supply acquisitions as expenditures either when purchased (purchases method) or when used (consumption method), as long as it reports significant amounts of inventory in the balance sheet. While the consumption method is similar to the manner in which commercial businesses record supplies, the purchases method better allows for comparison of expenditures and appropriations. Under the purchases method, a government with significant inventory balances at year end will recognize the balances as assets in the fund balance sheet and establish an accompanying reservation of fund balance to reflect the fact that the supply amount is not an available financial asset. This reservation of fund balance is optional under the consumption method.

8 Debt service funds may be used to account for debt service on any long-term, general government liabilities including debt service on special assessment debt for which the government is obligated in some manner. Debt issued for and intended to be repaid from resources of enterprise, internal service, or trust funds is accounted for in those funds.


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9 A transfer of resources by the general fund to the debt service fund to be used to retire all or a portion of the general long-term debt would affect the general fund and the debt service fund at the same time. Assuming that the amount of the transfer is $10,000, the entries would be:

GFNonreciprocal operating transfer to debt service fund 10,000

Cash 10,000

DSFCash 10,000

Nonreciprocal operating transfer from general fund 10,000

10 Special assessment levies are charges made against specific property owners (or citizens) to pay for improvements (or services) that provide special benefits to the property owners. Such improvements are usually requested by those who receive the benefits and agree to pay their share of the cost.

General tax levies are levied against all citizens of the governmental unit on a uniform basis to finance the general cost of government. General tax levies are determined by elected officials, apply to all (or virtually all) property in the jurisdiction, and may have little or no relationship to the actual benefits received by individual taxpayers.

A final difference is that property taxes are levied each year for that year (or sometimes the following year). Special assessment levies often are for amounts to be collected over several years.

11 Capital project funds are used to account for the construction activities of general government special assessment projects and the debt service fund is used to account the related debt service if the government is obligated in some manner. Debt service for special assessment liabilities for which the government is not obligated in any manner is accounted for in agency funds, with the special assessment obligation being disclosed in notes to the financial statements.

12 When governments enter into capital lease agreements, the governmental fund acquiring the general fixed asset records an expenditure and other financing source, as if long-term debt had been issued. At the same time, the town notes a liability (capital lease payable) in the general long-term debt account records for the amount remaining due and adds an asset to the general fixed asset account records at the present value of the minimum lease payments determined by FASB 13 criteria. The asset and liability, as well as associated depreciation, will appear in the government-wide financial statements; however, only an expenditure and other financing source appear in the governmental fund statements. The town may record future capital lease payments as expenditures of principal and interest in the general fund or transfer resources to the debt service fund, which will recognize the expenditures. The notes to the financial statements disclose minimum lease payments for each of the following five years and in five-year increments thereafter.


19-623

13Expenditures 20,000

Supplies Inventory 20,000To adjust the supplies inventory and supplies expenditures accounts.

14 Governments record details of the planned revenues (such as property taxes, sales taxes, and license revenue) and appropriations (such as police supplies, mayor’s office expenses, and maintenance of the town hall) in subsidiary revenue and expenditure ledgers. The detail allows for better control over expenditures, as appropriations can be compared to expenditures and encumbrances at any time.


19-624

15 The amount that city officials can order prior to year end is $75,000 ($250,000 – $175,000). If they have not spent the full $250,000 in appropriations prior to year end, depending on the laws of the Village of Lester, all appropriations lapse at the end of the year for which they are made, with the exception of committed appropriations (encumbrances outstanding), which can continue to serve as authorizations for items on order or under contract. Since total expenditure and encumbrance amounts are closed to fund balance at year end, reserve for encumbrance credits remain in the accounting records as reservations of fund balance within the governmental fund statements.

16 Reserve for encumbrances 60,000Reserve for encumbrances – prior year 60,000

To reclassify encumbrances from the prior year

Expenditures – prior year 59,800Vouchers Payable 59,800

To record expenditures for prior year

Reserve for encumbrances – prior year 60,000Expenditures – prior year 59,800Unreserved fund balance 200

To close excess reserve to fund balance.

17 Permanent funds (PF) account for contributions for which the grantor specifies that a principal amount must be maintained but for which interest accumulation or asset appreciation, or both, are to be used for a specified purpose. Funds that are expendable are accounted for in a special revenue fund. If contributions benefit parties external to the government, they are accounted for in private purpose trust funds.

18 The general fund is always a major fund. Other funds are considered major funds if they meet both of the following criteria:1. Total assets, liabilities, revenues, or expenditures/expenses (excluding

extraordinary items) of that individual governmental or enterprise fund are at least 10% of the corresponding total (assets, liabilities, etc.) for all funds of that category or type.

2. Total assets, liabilities, revenues, or expenditures/expenses (excluding extraordinary items) of that individual governmental or enterprise fund are at least 5% of the corresponding total for all governmental and enterprise funds combined.

19 A budgetary comparison schedule, which is required supplementary information for the general fund and for all special revenue funds with legally adopted budgets, includes columns for the original budget, the final budget, actual balances (on the budgetary basis) and variances (optional). The budgetary comparison schedule includes the same classifications as the GAAP operating statement, however, the amounts reported for revenues, expenditures, and fund balances often differ between the two statements.


19-625

Differences exist when a government uses a non-GAAP basis of accounting for budgeting purposes.

20 Since the government-wide statements are prepared on the accrual basis of accounting while the fund financial statements for the governmental funds are prepared on the modified accrual basis of accounting, governments must convert governmental fund financial information to the accrual basis of accounting for inclusion in the government-wide statements of activities and net assets. A conversion worksheet is an optional tool that facilitates reconciliation of the two statements.

21 Examples of items that might appear on the reconciliation between the governmental fund balance sheet and the government-wide statement of net assets include:1. Governmental fund fixed assets are recorded as expenditures in the fund

statements and must be recorded at cost in the government-wide statements.2. The depreciation associated with the governmental fixed assets must be recorded

in the government-wide statements.3. Capital project fund construction expenditures should be recorded as

“construction in progress” in the government-wide statements.

Examples of items that might appear on the reconciliation between the governmental fund operating statement and the government-wide statement of activities include:1. Governments must also adjust for instances where revenue recognition differs

between the modified accrual and accrual bases of accounting.2. It is necessary to eliminate interfund balances within the governmental funds.3. Bond proceeds provide current financial resources in the fund statement, but

issuing debt increases long-term liabilities in the statement of net assets.

EXERCISES

E19-1 E19-2 E19-3[AICPA adapted]

1 a 1 c2 b 2 d 1 b 3 b 3 a 2 d4 a 4 a 3 d5 c 5 b 4 d

5 a

E19-4 E19-5[AICPA adapted]

E19-6[AICPA adapted]

1 a 1 c 1 c2 c 2 c 2 b3 d 3 b 3 c, if u/c relates to

2009&104 a 4 c 4 b


19-626

5 a 5 c 5 b


19-627

E19-7

1 Journal entries to account for property taxes in the general fund

March 21, 2008Taxes receivable — current 2,500,000

Allowance for uncollectible current taxes 50,000Revenue 2,450,000

To record the property tax levy.

May 4, 2008Cash 1,900,000

Taxes receivable — current 1,900,000To record collection of property taxes.

Taxes receivable-delinquent 600,000Allowance for uncollectible current taxes 50,000

Taxes receivable — current 600,000 Allowance for uncollectible delinquent

taxes 50,000To reclassify uncollected taxes as delinquent.

May 5-December 31, 2008Cash 150,000

Taxes receivable — delinquent 150,000To record collection of property taxes.

November 1, 2008Allowance for uncollectible taxes — delinquent 5,000

Taxes receivable — delinquent 5,000To write off tax receivable determined to be uncollectible.

Adjusting EntryRevenue 312,250

Deferred revenue 312,250To record deferred revenues for taxes not collected within 60 days after year end. ($2,500,000 - $1,900,000 - $150,000 - $5,000 - $45,000 - $87,750)

January 1, 2008 — February 28, 2008Cash 87,750

Taxes receivable — delinquent 87,750To record collection of 2006 taxes.

2 Jedville TownshipPartial Balance SheetDecember 31, 2008


19-628

AssetsTaxes receivable — delinquent (net of $45,000 estimated uncollectible taxes) $ 400,000

LiabilitiesDeferred tax revenues $ 312,250

3 Revenue would equal tax levy less uncollectible amounts less amounts not collected within 60 day period. Since governmental units rarely complete the closing process within 60 days of year end, the amounts collected within 60 days of year end will be known.

($2,500,000 - $50,000 - $312,250 = $2,137,750)

E19-8

Closing entries:

Unreserved fund balance 500Appropriations 17,500

Estimated revenues 18,000To reverse entry to record budget.

Reserve for encumbrances — prior year 2,000Revenues 17,380Nonreciprocal transfer in 3,200

Expenditures — current year 16,450Expenditures — prior year 1,900Encumbrances 1,000Unreserved fund balance 3,230

To close accounts, including the prior year’s reserve for encumbrances.

E19-9

Millar CityGeneral FundBalance SheetJune 30, 2008

AssetsCash $12,000Taxes receivable $30,000


19-629

Less: Allowance for uncollectibleAccounts 2,000 28,000

Due from other funds 3,000Supplies inventory 4,000


Liabilities and Fund BalanceLiabilities:Vouchers payable $15,000Due to other funds 5,000

Total liabilities $20,000

Fund balance:Reserved for:

Encumbrances $ 6,000Inventory of supplies 4,000 10,000

Unreserved fund balance 17,000Total fund balance 27,000Total liabilities and fund balance $47,000

Check:Unreserved Fund Balance

Estimated revenues $300,000 $ 10,000 Preclosing balanceEncumbrances 6,000 300,000 Appropriations

Expenditures 290,000 5,000 Reserve for encumbrances— prior yearExpenditures—prior year 5,000 305,000 Revenues

Adjust—Reserve for inventory of supplies 2,000

Ending balance 17,000$620,000 $620,000

E19-10

McGwire City General FundStatement of Revenues, Expenditures, and Changes in Fund Balance


Revenues $101,000Expenditures 98,800

Excess of revenues over expenditures 2,200Other financing sources (uses):

Reciprocal transfers in 27,000Nonreciprocal transfers out (18,000)Excess of revenues and other financing sources over (under) expenditures and other financing uses $ 11,200

Total fund balance, January 1, 2008 25,000Total fund balance, December 31, 2008 $ 36,200

Unreserved Fund Balance


19-630

Estimated revenues $100,000 $ 25,000 Preclosing balanceEncumbrances 4,000 95,000 Appropriations

Expenditures 94,000 5,000 Reserve for encumbrances— prior yearExpenditures—prior year 4,800 101,000 Revenues

Nonreciprocal transfers out 18,000 27,000 Reciprocal transfers inEnding balance 32,200

$253,000 $253,000

Total ending fund balance = $32,200 + $4,000 (Reserve for encumbrances) = $36,200.


19-631

E19-11

Journal entries in the general fund:

1 Estimated revenues 250,000Appropriations 248,000Unreserved fund balance 2,000

To record the annual budget.

2 Taxes receivable—current 200,000Revenues 198,000Allowance for uncollectible taxes—Current 2,000

To record tax levy for the year (1% estimated uncollectible).

3 Cash 150,000Taxes receivable—current 150,000

To record tax collections.

4 Due from special revenue fund 15,000Cash 15,000

To record loan to SRF.

5 Encumbrances 18,000Reserve for encumbrances 18,000

To encumber orders for supplies.

6 Reserve for encumbrances 18,000Encumbrances 18,000

To reverse encumbrance entry on receipt of supplies ordered.

Expenditures 18,150Vouchers payable 18,150

To record purchase of supplies.

7 Expenditures 800Due to stores fund (ISF) 800

To record materials acquired from the stores fund.

8 Operating transfer to debt service fund 5,000Cash 5,000

To record payment to DSF for debt service.

9 Expenditures 15,000Cash 15,000

To record purchase of equipment.

10 Cash 3,000


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Revenues 3,000To record collection of license revenue.

11 Taxes receivable—delinquent 50,000Allowance for uncollectible taxes—current 2,000

Taxes receivable—current 50,000 Allowance for uncollectible taxes—delinquent 2,000

To reclassify uncollected current taxes as delinquent.


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E19-11 (continued)

12 Cash 30,000Taxes receivable—delinquent 30,000

To record collection of delinquent taxes.

Revenues ($20,000 - $2,000)/2 9,000Deferred revenues 9,000

To defer revenue recognition on taxes expected to be collected after the 60 day revenue recognition cutoff.

E19-12

1 Cash 75,000Tax anticipation notes payable 75,000

To record issuance of short-term notes.

2 Encumbrances 33,000Reserve for encumbrances 33,000

To record order of equipment.

3 Reserve for encumbrances 33,000Expenditures 33,250

Encumbrances 33,000Vouchers payable 33,250

To record receipt of equipment.

4 Operating transfer to DSF 200,000Cash 200,000

To record transfer to debt service fund.

5 Property taxes receivable—current 1,000,000Allowance for uncollectible current Taxes 50,000Deferred revenues 50,000Revenues 900,000

To record property tax levy.

6 Cash 100,000Deferred revenues $100,000

To record receipt of restricted grant.


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7 Expenditures 75,000Vouchers payable (or cash) 75,000

To record expenditures for grant program.

Deferred revenues 75,000Revenues 75,000

To record revenues to date on the grant.


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E19-13

1 CPFCash 769,000 Other financing sources—proceeds from bond issue

769,000

To record issuance of bonds.

CPF

Other financing uses—nonreciprocal transfer to DSF 19,000

Cash 19,000To transfer the premium to the debt service fund.

DSFCash 19,000 Other financing sources— nonreciprocal transfer from CPF

19,000

To record receipt of bond premium.

2 SRFCash (or Grants receivable) 33,000

Grant revenue 33,000To record grant revenue. (This entry assumes that the appropriate expenditures will take place within the same fiscal year.)

3 GF

Other financing uses—(non)reciprocal transfer to CPF 500,000 Cash 500,000

To record transfer to establish CPF.

CPF

Cash 500,000 Other financing sources— (non)reciprocal transfer from GF

500,000

To record the transfer from the GF.

4 PFCash 10,000,000

Revenue – contribution/endowment 10,000,000To record a permanent fund contribution.


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5 GFExpenditures 375,000

Vouchers payable (or cash) 375,000To record vehicle purchases.

6 GFCash 30,000 Other financing sources – sale of assets 30,000

To record the sale of governmental assets. (This is a governmental fund entry. Under accrual accounting, the asset would be removed and a gain on sale recognized.)

7 GFCash 1,200

Other financing sources – sale of assets 1,200To record the sale of governmental assets. (This is a governmental fund entry. Under accrual accounting, the asset would be removed and a gain on sale recognized.)

8 GF

Other financing uses—nonreciprocal transfer to DSF 50,000Cash 50,000

To record transfer to debt service.

DSFCash 50,000 Other financing sources— nonreciprocal transfer from GF

50,000

To record receipt of transfer from GF.

DSFExpenditures 50,000 Cash 50,000


E19-14

Trial Balance Adjustments GW Stmt of Net AssetsDR CR DR CR DR CR

Cash $410,000 410,000Investments 300,000 300,000Tax receivable—delinquent 150,000 150,000


19-637

Accounts receivable 30,000 30,000Supplies inventory 60,000 60,000Allowances for uncollectible taxes—delinquent 10,000 10,000Vouchers payable 140,000 140,000Deferred revenue 40,000 d) 40,000 0Note payable (short-term) 150,000 150,000Reserve for encumbrances 90,000 90,000

Unreserved fund balance 520000b) 100,000

a) 35,000420,000

c) 75,000 d) 40,000$950,000 $950,000

Fixed Assetsa) 100,000 100,000

Accumulated depreciation a) 65,000 65,000Long term debt payable b) 100,000 100,000Capital Lease payable c) 75,000 75,000

$315,000 $315,000Total Net Assets $1,050,000 $1,050,000

E19-15

Net change in fund balance—total governmental funds $1,408,950

Amounts reported for governmental activities in the statement of net assets differ from those in the governmental fund balance sheet because: Governmental funds report capital outlays as expenditures; the assets are capitalized and depreciated in the government-wide statements 225,000 Grant revenues in the statement of activities that do not provide current financial resources are not reported as revenues in the funds 165,000 Debt proceeds provide current financial resources in the fund statement, but issuing debt increases long-term liabilities in the statement of net assets (350,000) A capital lease is treated as an expenditure in the governmental funds in the year that the lease agreement is entered into; however, it increases long-term liabilities in the statement of net assets (55,000 )

Change in net assets of governmental activities $1,033,950


19-638

PROBLEMS

P19-1

City of Orchard ParkGeneral FundBalance Sheet

December 31, 2008

AssetsCash $ 40,000Taxes receivable — delinquent (net of $30,000 allowance for uncollectible taxes) 180,000Accounts receivable (net of $2,000 allowance for bad debts) 23,000Supplies on hand 3,000Due from Agency Fund 10,000

$256,000Liabilities and Fund BalanceVouchers payable $155,000Due to Utility Fund 20,000Taxes received in advance 10,000

Liabilities 185,000

Reserve for encumbrances 50,000Reserve for supplies 3,000Unreserved fund balance 18,000

Fund balance 71,000Total liabilities and fund balance $256,000

Supporting computationsAdjusting entry:Supplies on hand 3,000

Reserve for supplies 3,000To record supplies on hand and related reserve.

Closing entriesAppropriations 900,000Unreserved fund balance 10,000

Estimated revenues 910,000To reverse budget entry.

Revenues 910,000Expenditures 858,000Encumbrances 50,000Unreserved fund balance 2,000

Ending fund balance:


19-639

Unreserved fund balance = $26,000 (preclosing balance) - $10,000 + 2,000 = $18,000

Reserve for encumbrances = $50,000Reserve for supplies = $3,000Total ending fund balance = $18,000 + $50,000 + $3,000 = $71,000


19-640

P19-2

City of BataviaGeneral Fund

Statement of Revenues, Expenditures, and Changes in Fund BalanceFor the year ended June 30, 2009

Revenues $980,000Expenditures 940,000

Excess revenues over expenditures 40,000Other financing sources (uses):

Nonreciprocal transfers out (10,000)Excess of revenues and other financing sources over (under) expenditures and other financing uses 30,000

Total fund balance, July 1, 2008 (given) 80,000Total fund balance, June 30, 2009 $110,000

City of Batavia General FundBalance SheetJune 30, 2009

AssetsCash $ 80,000Taxes receivable — delinquent $160,000Less: Allowance for uncollectible taxes 30,000 130,000Due from County 18,000


Liabilities and Fund BalanceLiabilities:Vouchers payable $ 58,000Notes payable 60,000

Total liabilities 118,000

Fund balance:Reserve for encumbrances $ 20,000Unreserved fund balance 90,000

Total fund balance 110,000Total liabilities and fund balance $228,000


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P19-3

1 Journal entries for the Town of Tyler

Estimated Revenues 400,000Appropriations 395,000Unreserved Fund Balance 5,000

To record the budget for the year July 1, 2008 to June 30, 2009.

Reserve for Encumbrances 9,000 Reserve for Encumbrances–prior year 9,000

To reclassify the prior year reserve.

a Taxes Receivable 200,000Revenue — Taxes 198,000 Allowance for uncollectible taxes 2,000

To record tax levy for the year.

b Cash 190,000Taxes Receivable — current 176,000Taxes Receivable — delinquent 14,000

To record cash collections for the year.

c Allowance for uncollectible taxes — Delinquent 1,000Taxes Receivable — delinquent 1,000

To record write-off of uncollectible account.

d Cash 20,000Licenses and Permits 20,000

To record hunting licenses.

e Cash 200,000Miscellaneous Revenues 200,000

To record Miscellaneous revenues.

f Expenditures 20,000Vouchers Payable 20,000

To record salaries for the year.

g Encumbrances 15,000Reserve for encumbrances 15,000

To record order of equipment.

h Reserve for encumbrances 15,000Expenditures 14,000

Encumbrances 15,000


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Vouchers Payable 14,000To record receipt of equipment.

i Expenditures–prior year 9,500Vouchers Payable 9,500

To record receipt of equipment ordered during the prior year and chargeable against the prior year’s reserve for encumbrances.


19-643

P19-3 (continued)

j Encumbrances 11,000Reserve for encumbrances 11,000

To record the purchase order for operating supplies.

Reserve for encumbrances 5,000Encumbrances 5,000

To reverse the encumbrance entry upon receipt of the supplies.

Supplies inventory 5,000Vouchers Payable 5,000

To record receipt of operating supplies.

k Note Payable 15,000Cash 15,000

To record payment of note payable.

l Expenditures 348,040Cash 348,040

To record payment of various expenditures.

m Expenditures 8,000Supplies inventory 8,000

To adjust the supplies inventory & expenditures.

n Taxes Receivable–delinquent 24,000Allowance for uncollectible taxes–current 2,000

Taxes Receivable — current 24,000Allowance for uncollectible taxes–delinquent 2,000

To reclassify past-due taxes receivable as delinquent.

Closing Entries

o Appropriations 395,000Unreserved Fund Balance 5,000

Estimated Revenues 400,000

Revenues 418,000Expenditures 390,040Encumbrances 6,000Unreserved Fund Balance 21,960

Unreserved Fund Balance 500Reserve for encumbrances–prior year 9,000


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Expenditures–prior year 9,500


19-645

P19-3 (continued)

2Town of TylerGeneral Fund

Statement of Revenues, Expenditures, and Changes in Fund BalanceBudget and Actual (Budgetary Basis)

For the year ended June 30, 2009

OriginalBudget

FinalBudget

Actual(Budgetary

Basis)

VariancePositive

(Negative)Revenues

Taxes $250,000 $250,000 $198,000 $(52,000)Licenses and permits 20,000 20,000 20,000 -Miscellaneous revenue 130,000 130,000 200,000 70,000

Total Revenues 400,000 400,000 418,000 18,000

Expenditures Total expenditures (not

detailed)$395,000 $395,000 $396,040* (1,040)

Excess of revenues over expenditures 5,000 5,000 21,960 16,960Budgetary fund balance June 30, 2008 16,000 16,000 16,000 -Less excess prior year’s encumbrance over actual expenditure (9,500) (9,500)Budgetary Fund Balance at June 30, 2008

$ 21,000 $ 21,000 28,460 $ 7,460

Encumbrances outstanding 6,000Fund balance June 30, 2009 $ 34,460

* Actual expenditures on a budgetary basis includes the $6,000 supplies purchase commitment chargeable against the 2008-9 appropriations, but excludes the $9,500 expenditures chargeable against the prior year’s carryover appropriation.

3. Given the limited information, the reconciling items which are certain include the playground equipment in item h and the other equipment in item i.


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P19-4 Statement of Statement of Statement of Statement of

Adjustments Adjustments Activities Activities Net Assets Net Assets

DR CR DR CR DR CR DR CR

Cash and cash equivalents 541,100 541,100

Investments 520,000 520,000

Taxes receivable 520,000 520,000

Accounts receivable 187,500 187,500

Due from other governments 364,970 364,970

Supplies inventory 290,000 290,000

Vouchers payable 379,500 379,500

Contracts payable 47,500 47,500

Deferred revenue 55,000 f) 55,000 0

Fund balance/Net Assets, beg 912,720 b) 30,000 942,720

Revenues 3,507,450 f) 55,000 3562450

Expenditures 3,043,600 a) 9,000 3,014,600

c) 20,000

OFS—Bond proceeds 500,000 d) 500,000 0

OFS—Capital lease 65,000 e) 65,000 0

OFS—Transfers in 75,250 g) 75,250 0

OFU—Transfers out 75,250 g) 75,250 0

5,542,420 5,542,420

Fixed Assets a) 9,000 104,000

b) 95,000

Accumulated Depreciation b) 65,000 65,000

Construction in Progress c) 20,000 20,000

Bonds Payable d) 500,000 500,000

Capital leases payable e) 65,000 65,000

819,250 819,250

11,084,840 11,084,840 2,547,570 1,999,720

Change in net assets 547,850 547,850

2,547,570 2,547,570

New net asset balance = 942,720 + 547,850 = 1,490,570

a) Assume no depreciation in the first year, since no depreciation policy is provided.

© 2009 Pearson Education, Inc. publishing as Prentice Hall19-1

P19-5 [AICPA adapted]

Oslo School District General Fund TransactionsJuly 1, 2007 — June 30, 2008

a Estimated revenues 3,000,000Appropriations 2,980,000Unreserved fund balance 20,000

To record the budget for the year.

b Taxes receivable 2,870,000Revenues — taxes 2,800,000Allowance for uncollectible taxes 70,000

To record tax levy for the year.

c Estimated uncollectible taxes 40,000Taxes receivable 40,000

To write-off uncollectible taxes.

d Cash 2,940,000Taxes receivable 2,810,000Miscellaneous revenues 130,000

To record cash collections for the year.

e Vouchers payable 2,640,000Cash 2,640,000

To record cash payments for the year.

f Encumbrances 2,700,000Reserve for encumbrances 2,700,000

To record encumbrances.

g Reserve for encumbrances 2,700,000Encumbrances 2,700,000

To reverse encumbrances.

h Expenditures 2,700,000Vouchers payable 2,700,000

To record vouchers for payment of current operations.

i Expenditures — prior year 58,000Vouchers payable 58,000

To record expenditures for prior year.

j Reserve for encumbrances 60,000Expenditures — prior year 58,000Unreserved fund balance 2,000

To close excess reserve to fund balance.


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k Due to other funds 210,000Vouchers payable 210,000

To record vouchers for payment to other funds.

l Expenditures 142,000Due to other funds 142,000

To record expenditures for amounts due other funds.

m Encumbrances 91,000Reserve for encumbrances 91,000

To record encumbrances for new contract.


Journal entries for the City of Lahti General Fund

1 Estimated revenues 2,000,000Appropriations 1,940,000Unreserved fund balance 60,000

To record the budget.

2 Taxes receivable 1,870,000Revenues 1,860,000Allowance for uncollectible taxes 10,000

To record the property tax levy.

3 Allowance for uncollectible taxes 8,000Taxes receivable 8,000

To write off uncollectible taxes receivable.

4 Cash 1,820,000Taxes receivable 1,820,000

To record property tax collections.

5 Encumbrances 1,070,000Reserve for encumbrances 1,070,000

To record purchase commitments.

6 Reserve for encumbrances 1,000,000Expenditures 1,840,000

Encumbrances 1,000,000Vouchers payable 1,840,000

To record actual expenditures.

7 Vouchers payable 1,852,000


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Cash 1,852,000To record payment of vouchers.

8 Revenues 1,860,000Unreserved fund balance 140,000

Estimated revenues 2,000,000To close revenues accounts.

9 Appropriations 1,940,000Expenditures 1,840,000Encumbrances 70,000Unreserved fund balance 30,000

To close expenditure — related accounts


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P19-7

Volendam CountyGeneral Fund

Statement of Revenues, Expenditures, and Changes in Fund BalanceFor the year ended December 31, 2008

Revenues:Taxes $10,000,000Licenses and permits 2,000,000Intergovernmental grants 300,000

Total revenues $12,300,000

Expenditures:Current operating:General government $ 8,000,000Public safety 1,500,000Judicial 1,000,000Health and welfare 1,200,000

Total current operating 11,700,000Capital outlay 600,000

Total expenditures 12,300,000

Excess of revenues over expenditures 0

Other financing sources (uses):Operating transfer to debt service fund (320,000)

Excess (Deficiency) of revenues and othersources over expenditures and other uses (320,000)

Fund balance, January 1, 2008 3,130,000Residual equity transfer from other fund 2,000,000Fund balance, December 31, 2008 $ 4,810,000

Note: The short-term note affects only the balance sheet. The interfund collection affects the balance sheet only.


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P19-8

1 Cash ($3,000,000 ´ .06 ´ .5) 90,000OFS - Nonreciprocal transfer from GF 90,000

To record transfer from general fund.

2 Expenditures — interest 90,000Cash 90,000


3 Cash 1,090,000OFS - Nonreciprocal transfer from GF 1,090,000


4 Expenditures — interest 90,000Expenditures — principal retirement 1,000,000

Cash 1,090,000To record payment of principal and interest.

5 None.

6 Cash ($2,000,000 ´ .06 ´ .5) 60,000OFS - Nonreciprocal transfer from GF 60,000


7 Expenditures — interest 60,000Cash 60,000



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P19-9

1 October 1, 2008GF OFU – nonreciprocal transfer to CPF 200,000

Cash 200,000To record transfer of cash to CPF.

CPF Cash 200,000OFS – (Non)reciprocal transfer from general

fund200,000

To record receipt of cash from GF.

2 November 1, 2008CPF Encumbrances 580,000

Reserve for encumbrances 580,000To record encumbrances for the amount of the contract.

3 April 15, 2009CPF Cash 401,000

Proceeds from bond issue 401,000To record sale of bonds.

CPF OFU - nonreciprocal transfer to debt service fund 1,000Cash 1,000

To transfer of bond premium to the DSF.

DSF Cash 1,000OFS - nonreciprocal transfer from

CPF 1,000

To record receipt of bond premium.

4 May 2, 2009CPF Expenditures — capital outlay 580,000

Contracts payable 580,000To record expenditures on the municipal building project.

Reserve for encumbrances 580,000Encumbrances 580,000

To remove encumbrances when construction is complete.

5 May 12, 2009CPF Contracts payable 580,000

Cash 580,000To record payment to Crooked Construction for building contract.


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CPF Residual equity transfer to general fund 20,000Cash 20,000

To record transfer to general fund.

CPF OFS - nonreciprocal transfer from general fund 200,000Proceeds from bond issue 401,000

Expenditures 580,000Residual equity transfer to general fund 20,000OFU - nonreciprocal transfer to debt

service fund1,000

To close the books of the CPF.

GF Cash 20,000Residual equity transfer from CPF 20,000To record receipt of cash from CPF.

P19-10

1 Journal entries for Malmo City

July 1, 2008CPF Encumbrances 480,000

Reserve for encumbrances 480,000To encumber the construction contract.

CPF Cash 255,000OFS - Proceeds from bond issue 255,000

To record proceeds of bond issue.

CPF OFU - nonreciprocal transfer to debt service fund 5,000Cash 5,000

To transfer premium to the DSF.(This premium transfer is commonly presumed in problems.)


CPF 5,000

To record receipt of premium transferred from CPF.

December 20, 2008CPF Reserve for encumbrances 160,000

Encumbrances 160,000To reduce encumbrances for work completed.

CPF Expenditures 160,000


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Contracts payable 160,000To record expenditures for one-third of Gunnarsson contract.

January 1, 2009CPF Contracts payable 160,000

Contracts payable — retained percentage

16,000

Cash 144,000To record partial payment on the contract.

GF OFS - nonreciprocal transfer to debt service fund 2,500Cash 2,500

To transfer funds to DSF for January 1, 2009 interest payment.


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P19-10 (continued)

DSF Cash ($250,000 ´ .06 ´ .5) - $5,000 2,500OFS - nonreciprocal transfer from general

fund2,500

To receive funds from GF for the January 1, 2009 interest payment.

DSF Expenditures–interest 7,500Cash 7,500

To record the January 1, 2009 interest payment on the 6% serial bonds ($250,000 ´ 6% ´ 1/2 year).

June 30, 2009CPF Encumbrances 160,000

Reserve for encumbrances 160,000To reduce encumbrances for work completed.

CPF Expenditures — capital outlay 160,000Contracts payable 160,000

To record billing for work completed.

2 Closing entry

CPF OFS - Proceeds from bond issue 255,000Unreserved fund balance 230,000

Expenditures–capital outlay 320,000 Encumbrances 160,000 OFU - nonreciprocal transfer to debt

service fund5,000

To close the books of CPF at end of fiscal year.

At June 30, 2009 the balance sheet of the CPF would appear as follows:

AssetsCash $106,000


LiabilitiesContracts payable $160,000Contracts payable — retained percentage 16,000 $176,000

Fund balanceReserve for encumbrances $160,000Unreserved* (230,000) (70,000)

Total liabilities and fund balance $106,000


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* This deficit will be provided for by issuing the additional $250,000 of bonds.


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1 City of CeroneCivic Center Construction Fund

General Journal

July 1, 2008(1) Cash 500,000

Due to general fund 500,000To record the loan from the general fund.

(2) Expenditures 320,000Cash 320,000

To record payment of engineering and planning costs.

December 1, 2008(3) Cash 10,100,000

OFS - Proceeds from bond issue 10,100,000To record receipt of proceeds from 6% bond issue.

OFU - nonreciprocal transfer to DSF 100,000Cash 100,000

To transfer bond premium to debt service fund.

March 15, 2009(4) Encumbrances 12,000,000

Reserve for encumbrances 12,000,000To record construction commitment to Candu Construction Company.

(5) Encumbrances 55,000Reserve for encumbrances 55,000

To record commitment for materials on order.

April 1, 2009(6) Cash 2,500,000

Deferred grant revenue 2,500,000To record receipt of state grant for construction.

(7) Expenditures 51,000Reserve for encumbrances 55,000

Vouchers payable 51,000Encumbrances 55,000

To record receipt of materials and elimination of encumbrances.

Vouchers payable 51,000


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Cash 51,000To record payment of voucher.


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P19-11 (continued)

June 15, 2009(8) Expenditures 2,000,000

Contracts payable — current 1,880,000Contracts payable — retained percentage 120,000

To record progress billing on contract with a 6% retained percentage.

Reserve for encumbrances 2,000,000Encumbrances 2,000,000

To reduce encumbrances for amounts billed.

(9) Due to general fund 500,000Cash 500,000

To record repayment of initial financing to the general fund.

June 30, 2009Deferred grant revenue 2,371,000

Revenue 2,371,000To recognize grant revenue earned.

Note that the entry recognizing grant revenue presumes that the first $5 million of expenditures will be recoverable from the state. In some cases, the grantor only agrees to pay a certain percentage of the cost, up to some maximum. If this were the case in this problem, the amount of revenue recognized would be one-third of $2,371,000, or approximately $790,000.

Closing entriesRevenue 2,371,000OFS - Proceeds from bond issue 10,100,000

Expenditures 2,371,000OFU - nonreciprocal transfer to DSF 100,000Encumbrances 10,000,000

To close the books at June 30, 2009.

2 City of CeroneCivic Center Construction Fund

Balance Sheet June 30, 2009

AssetsCash $12,129,000

Total assets $12,129,000


19-479

Liabilities and Fund BalanceDeferred state grant $ 129,000Contracts payable — current 1,880,000Contracts payable — retained percentage 120,000

Total liabilities $ 2,129,000Fund balance:Reserve for encumbrances $10,000,000Unreserved ---

Total fund balance 10,000,000Total liabilities and fund balance $12,129,000


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P19-12

1CPF Cash 510,000

OFS - Proceeds from bonds 510,000To record issuance of bonds at a premium.

OFU - nonreciprocal transfer to debt service fund 10,000Cash 10,000

To record transfer of bond premium to DSF.


CPF 10,000

To record transfer of bond premium.

2 CPF Encumbrances 960,000Reserve for encumbrances 960,000

To encumber contract awarded for construction.

3 CPF Reserve for encumbrances 320,000Encumbrances 320,000

To reduce encumbrances for work completed.

Expenditures 320,000Contracts payable 320,000

To record expenditures for work completed.

4 CPF Contracts payable 320,000Contracts payable — retained

percentage 32,000

Cash 288,000To record partial payment on construction contract.

5 GF OFU - nonreciprocal transfer to DSF 30,000Cash 30,000

To record transfer to DSF.


GF 30,000

To record transfer from GF.

6 DSF Expenditures–interest 20,000Cash 20,000

To record payment of interest (500,000 ´ .08 ´ .5).


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7 CPF Reserve for encumbrances 320,000Encumbrances 320,000

To reduce encumbrances for work completed.

Expenditures 320,000Contracts payable 320,000

To record expenditures for work completed.

8 GF OFU - nonreciprocal transfer to DSF 90,000Cash 90,000

To record transfer to DSF.P19-12 (continued)


GF 90,000

To record transfer from GF.

9 DSF Expenditures — interest 20,000Expenditures — principal retirement 50,000

Cash 70,000To record debt service payment.

10 CPF Cash 500,000OFS - Proceeds from bonds 500,000

To record issuance of bonds.

2 City of CatalinaCapital Projects Fund

Statement of Revenues, Expenditures, and Changes in Fund Balancefor the year ended June 30, 2009

Other financing sources:Proceeds from bonds $1,010,000

Expenditures:Capital outlay $640,000

Other financing usesOFS - nonreciprocal transfer out 10,000Total expenditures and other financing uses 650,000

Excess of revenues and other financing sources over expenditures and other financing uses 360,000


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Fund balance, July 1, 2008 ---Fund balance June 30, 2009 $ 360,000

City of CatalinaCapital Projects Fund

Balance SheetJune 30, 2009

AssetsCash $ 712,000

Total assets $ 712,000

Liabilities and Fund BalanceLiabilities:

Contracts payable $320,000Contracts payable — retained percentage 32,000 $ 352,000

Fund balance:Reserve for encumbrances $320,000Unreserved 40,000 360,000Total liabilities and fund balance $ 712,000


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Chapter 20

AN INTRODUCTION TO ACCOUNTING FOR STATE AND LOCAL GOVERNMENTAL UNITS — PROPRIETARY AND FIDUCIARY FUND


1 Enterprise and internal service funds are similar in the sense that their operations are like those of similar business enterprises. They use full accrual accounting practices (including depreciation), have a capital maintenance or profit objective, are financed through user charges, and have the same financial reporting requirements. The primary difference between the two fund types is that an EF provides goods and services to citizens and customers outside the government on a user charge basis, while an ISF provides services to other departments and agencies within the same governmental unit (or occasionally to other governmental units).

2 Typical operations of internal service funds include motor pools, centralized risk financing activities, data processing services, printing shops, centralized purchasing, repair shops, and storage or warehouse operations. Internal service funds may engage in almost any kind of operations that one would find in private enterprise.

3 An EF (and also an ISF) is required to prepare a statement of net assets, a statement of revenues, expenses, and changes in net assets (or fund equity), and a statement of cash flows for fair presentation in accordance with GAAP. The governmentwide statement of net assets and statement of activities both include enterprise fund data.

4 In the fund financial statements, governments include internal service funds with the proprietary funds. They are aggregated into a single column within the proprietary fund statement of net assets, the statement of revenues, expenses, and changes in net assets, and the statement of cash flows. Within the government-wide statements, governments report internal service funds with the governmental activities. The internal service fund asset and liability accounts are generally included in the governmental activity column of the statement of net assets. The statement of activities will include only those internal service fund transactions involving entities other than the primary reporting entity. Governments add external internal service fund revenues and expenditures to the statement of activities, but they exclude internal governmental transactions. (See also Question 7.)

5 Internal service funds are never considered major funds and proprietary fund statements report internal service funds in a single column with the enterprise funds. Major enterprise funds are reported in a single column on the proprietary


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fund statement of net assets and statement of revenues, expenses, and changes in net assets.

6 Because proprietary funds account for transactions in much the same manner as commercial business organizations, the GASB allows some reference to FASB statements. GASB Statement No. 20, “Accounting and Financial Reporting for Proprietary Activities,” governs which accounting and reporting standards apply to proprietary activities.

7 It is important to differentiate between revenues generated by interfund transactions and transactions with external parties because of the way that these transactions are reported on the government-wide statements. The statement of activities will include only those internal service fund transactions involving entities other than the primary reporting entity. To avoid double counting of interfund transactions, governments add external service fund revenues and expenditures to the statement of activities, while they exclude internal governmental transactions.

8 First, GASB Statement No. 34 makes the direct method mandatory for statement presentation. Second, GASB Statement No. 9 requires separating financing activities into noncapital and capital related.

9 The fiduciary fund category includes trust funds (private-purpose, investment, and pension) and agency funds. They are reported in the fund financial statements only in a statement of fiduciary net assets and a statement of changes in fiduciary net assets.

10 Governmental units often provide the initial financing of an ISF through a contribution of cash or operating facilities, expecting the ISF to be self-sustaining in future periods. Alternatively, the governmental unit may provide a loan to the ISF to be repaid from future operating flows of the fund. A contribution is classified as a nonreciprocal transfer, which flows through the statement of revenues, expenses, and changes in fund net assets; whereas a loan is recorded as a long-term liability of the ISF in the statement of net assets. A government records short-term interfund loans as due to Fund A and due from Fund B.

11 Private-purpose trust funds are fiduciary funds used to account for resources (other than investment pools and employee benefits) that are held for the benefit of parties outside the governmental entity. Permanent funds are governmental funds which report resources whose use is permanently restricted, but whose earnings are expendable for the benefit of the government or its citizens.

12 The governmentwide statement of net assets would need at least three columns—one for governmental activities (including the general fund, special revenue funds, and internal service funds), one for business-type activities (enterprise funds), and


19-485

one for the component unit. Most governments also present optional total and comparative total columns.

13 No. The required financial statements for a pension trust fund are a statement of plan net assets and a statement of changes in plan net assets. Neither of these statements contains information as to the present value of future benefits payable by the plan. Therefore, the statements provide no indication of whether the plan is adequately funded. The statements are designed to reflect the “current status” of the plan—the net assets available to pay pension benefits and changes therein. To determine if the plan is adequately financed, one must review the pension trust fund schedules, particularly the schedule of funding progress, that must be included in a government’s required supplementary information.

14 The accounting equation for an agency fund is Assets = Liabilities.

15 If an enterprise fund issues debt that is backed by its revenue-generating activity (i.e., revenue-backed debt instruments), the government must present certain detailed segment information in the notes to the financial statements.

16 Since the government-wide statement of activities and statement of net assets report all items using the accrual basis of accounting, conversion between the fund and government-wide statements is not necessary. Also, recall that governments report internal service funds with the governmental activities in the government-wide statements.


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Solution E20-1 Solution E20-2 Solution E20-31 b 1 d 1 c2 c 2 d 2 d3 d 3 d 3 c4 c 4 c 4 b5 d 5 a 5 c

Solution E20-4 Solution E20-5[AICPA adapted]

1 b 1 d2 a 2 d3 a 3 b4 a 4 b5 c 5 a

6 c

Solution E20-6

City of Laramee Tax Collection Agency FundStatement of Fiduciary Net Assets

Tax Collection Agency Fundat December 31, 2008

AssetsTaxes receivable $50,000 Total assets $50,000 LiabilitiesLiability to Laramee $15,000 Liability to Bloomer County 10,000Liability to Bloomer School District

25,000

Total liabilities $50,000Total Net Assets 0

Schedule of Taxes Receivable

Taxing UnitsAmounts Certified for Collection Collections

Balance at Year End

City of Laramee $ 60,000 $ 45,000 $15,000Bloomer County 40,000 30,000 10,000Bloomer School District 100,000 75,000 25,000

$200,000 $150,000 $50,000


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NOTE: This solution assumes that the collection fee is recognized when cash is collected.


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Solution E20-7

1 Cash 3,000,000Deferred operating grant revenue 3,000,000

To record receipt of grant.

Deferred grant revenue is reported as a liability in the balance sheet. Operating grant revenues are reported as nonoperating revenues in the period qualifying costs are incurred.

2 Expenses — Program A 1,200,000Vouchers payable (or Cash) 1,200,000

To record expenses incurred for the program financed by the grant.

Deferred operating grant revenues 1,200,000Revenues — operating grant 1,200,000

To record revenues earned on the grant.

Nonoperating revenues of $1,200,000 should be reported in the enterprise fund’s statement of revenues, expenses, and changes in retained earnings (fund equity).

3 Cash 7,000,000Deferred capital grant 7,000,000

To record receipt of capital grant.

Deferred capital grants are reported as a liability in the balance sheet. When qualifying costs are incurred, the deferred capital grant liability is reduced and contributed capital from intergovernmental grants, not revenues, is recognized.

4 Construction in progress 4,000,000Cash 4,000,000

To record construction costs incurred on capital grant project.

Deferred capital grant 4,000,000Contributed capital–capital grants 4,000,000

To record increase in contributed capital as a result of incurring qualifying costs under capital grant.

The increase in contributed capital of $4,000,000 is reported as an addition to contributed capital. It does not affect income or retained earnings.

Solution E20-8

1 Enterprise Fund


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2 Capital Projects Fund and Debt Service Fund3 Capital Projects Fund and Debt Service Fund4 Private PurposeTrust Fund5 Internal Service Fund6 Enterprise Fund7 Special Revenue Fund8 General Fund9 Agency Fund10 Investment Trust Fund


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Solution E20-9

1 Enterprise FundCash 4,500

Operating Revenue 4,500

2 Agency FundCash 125,000

Due to other governmental units 125,000

3 Capital Projects FundCash 1,050,000

Other financing source — proceeds from bond issue 1,050,000

Other financing use — nonreciprocal transfer to Debt Service Fund 50,000

Cash 50,000

Debt Service FundCash 50,000

Other financing source — nonreciprocal transfer from Capital Projects Fund 50,000

4 Private Purpose Trust FundCash 50,000

Contributions 50,000

Investments 50,000Cash 50,000

5 Internal Service FundCash 150,000

Other financing source – Nonreciprocal transfer from General Fund 150,000

General FundOther financing use - Nonreciprocal transfer to Internal Service Fund

150,000

Cash 150,000

6 Enterprise FundCash 1,000,000

Bonds payable 1,000,000


19-491


7 Special Revenue Fund*Cash 50,000

Other Financing Source – Reciprocal transfer from General Fund

50,000

General FundOther Financing Use - Reciprocal transfer to Special Revenue – Highway Beautification

50,000

Cash 50,000

8 General FundTaxes Receivable — current 5,000,000

Allowance for uncollectible taxes — current 50,000Revenue 4,950,000

* An entry recording grants receivable (debit) and deferred grant revenue (credit) is optional.

Solution E20-9 1. decrease in Net Assets Invested in Capital Assets, Net of Related Debt; increase in Unrestricted Net Assets2. decrease in Net Assets Invested in Capital Assets3. There will be no effect on net assets, since the asset debit will be offset by the liability credit. Also the net asset amount is offset by the related debt.4. increase in Net Assets Invested in Capital Assets, Net of Related Debt; decrease in Unrestricted Net Assets5. increase in Unrestricted Net Assets6. decrease in Unrestricted Net Assets

SOLUTIONS TO PROBLEMSSolution P20-1

1 Cash 500,000Equipment 550,000 OFS - Nonreciprocal transfer from General Fund 550,000 OFS - Reciprocal transfer from General Fund 500,000

2 Equipment 200,000Cash 200,000

3 Due from Various Funds 345,000Service Revenue 345,000

Cash 300,000


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Due from Various Funds 300,000

4 Salaries expense 180,000Payroll taxes 37,800OFU - Transfer to General Fund for repayment 50,000Other operating expenses 120,000

Cash 387,800

12/31 Depreciation Expense 20,000 Accum. Depr. - Equipment 20,000

(Assume half year depreciation)

Solution P20-2

1 Cash 30,000,000 OFS - Nonreciprocal transfer from General Fund 30,000,000

2 Building 25,250,000Cash 25,250,000

3 Cash 5,000,000Bonds payable 5,000,000

4 Accounts Receivable 4,500,000Charges for services 4,500,000

5 Cash 4,400,000Accounts Receivable 4,400,000

6 Building improvements 3,500,000Cash 3,500,000

7 Salaries expense 700,000Cash 700,000

8 Interest Expense 400,000Interest Payable 100,000Cash 300,000

9 Operating Expenses 1,100,000Accounts Payable 100,000Cash 1,000,000

10 Depreciation Expense 1,050,000Accumulated Depreciation 1,050,000


19-493

Fiedler County Utility PlantAdjusted Trial Balance

Cash $ 8,650,000Accounts Receivable 100,000Building 28,750,000Accumulated Depreciation 1,050,000Interest Payable 100,000Accounts Payable 100,000OFS - Nonreciprocal transfer from General Fund 30,000,000Proceeds from Bond Issue 5,000,000Charges for Services 4,500,000Salaries Expense 700,000Interest Expense 400,000Operating Expenses 1,100,000Depreciation Expense 1,050,000

$40,750,000 $40,750,000


19-494

Solution P20-3

Douwe County Motor Pool FundStatement of Revenues, Expenses, and Changes in Fund Net Assetsfor the year ended June 30, 2008

RevenuesRevenue from billings $120,000

ExpensesSupplies used $68,000Salaries expense 25,000Utilities expense 9,000Depreciation expense 16,000 118,000

Operating income 2,000

Operating transfers out 12,000

Net loss (10,000)

Net assets June 30, 2007 42,000

Net assets June 30, 2008 $ 32,000

Douwe County Motor Pool FundStatement of Net Assets

On June 30, 2008

Current assetsCash $37,000Due from electric fund 4,000Supplies on hand 14,000 $55,000

Noncurrent assetsAutos $99,000Less: Accumulated depreciation 56,000 43,000


LiabilitiesAccounts payable $11,000Advance from general fund 5,000

Total liabilities $16,000


19-495

Net AssetsInvested in capital assets, net of related debt $43,000Unrestricted 39,000

Total net assets $ 82,000


19-496


Douwe County Motor Pool FundStatement of Cash Flows

for the Year Ended June 30, 2008

Cash Flows from Operating ActivitiesCash received from users (plug) $127,000Less: Cash paid to suppliers* $(69,000)

Cash paid for salaries (25,000)Cash paid for utilities (9,000) (103,000)

Net cash provided by operating activities 24,000Cash Flows from Noncapital Financing ActivitiesOperating transfers to general fund (12,000)Cash from Capital and Related Financing ActivitiesPurchase of automobiles (19,000)

Cash Flows from Investing Activities ---Decrease in cash for 2005 (7,000)Add: Cash and cash equivalents June 30, 2007 44,000Cash and cash equivalents June 30, 2008 $ 37,000

* Change in supplies (12,000 beginning + 70,000 [plug] – 68,000 used = 14,000 ending); Cash paid is 70,000 less change in accounts payable (11,000 – 10,000 = 1,000)

Reconciliation of Net Operating Incometo Net Cash Used by Operating Activities

Cash Flows from Operating ActivitiesOperating income $ 2,000

Adjustments for noncash expenses, revenues, losses and gains included in income:

Depreciation 16,000Change in due from general fund 8,000Change in due from electric fund (1,000)Supplies on hand (2,000)Accounts payable 1,000Total adjustments 22,000

Cash flows from operating activities $24,000


19-497

Solution P20-4

Summary Calculations for Principal Trust Fund

Increase Decrease Net Cash $ 100,000

40,000 550,000

donatedrentalsbonds sold

$600,000

stock purchase$ 90,000

Investments 500,000 600,000

donated bondsstock purchases

500,000 bonds sold 600,000

Building — net 400,000 donated 20,000 Depreciation 380,000Dividends receivable

60,000 on stock 60,000

Held in trust for student aid

40,000 30,000 60,000 20,000

RentalsBond interestDividend incomeGain on bonds

20,000 Depreciation

130,000

Student Aid Principal Trust FundStatement of Fiduciary Net Assets


Assets Net Assets

Cash $ 90,000Investments 600,000 Held in trust for endowment $1,000,000Building — less accumulated depreciation 380,000

Held in trust for student aid 130,000

Dividends receivable 60,000Total assets $1,130,000 Total Net Assets $1,130,000

Student Aid Earnings Trust FundStatement of Changes in Fiduciary Net Assets

For the Year ending December 31, 2006

AdditionsContributions:Cash $100,000Investments 500,000Buildings 400,000 Total contributions $ 1,000,000

Investment earningsRental income 40,000Dividend income 60,000Gain on bonds 20,000Bond interest 30,000Depreciation expense (20,000 ) Total earnings 130,000


19-498

Total additions 1,130,000

Deductions Total deductions 0 Change in net assets 1,130,000Net assets—beginning 0

Net assets -ending $1,130,000


19-499

Solution P20-5

Duchy County Trust FundStatement of Changes in Fiduciary Net Assets

Trust Fundfor the year ended June 30, 2009

AdditionsContributions $500,000

Investment earningsInterest 18,750

Total Additions $518,750

DeductionsDistributions to homeless shelters $ 12,500

Total Deductions 12,500

Changes in Net Assets 506,250Net Assets — beginning of the year 0Net assets — end of the year $506,250

Duchy County Trust FundStatement of Fiduciary Net Assets

at June 30, 2009

Assets Net AssetsInvestments $500,000 Held in trust for endowment $ 500,000Interest receivable 6,250 Held in trust for homeless

shelters 6,250

Total assets $ 506,250 Total Net Assets $ 506,250


19-500


CITY OF MERINGENCentral Garage Fund

Journal EntriesJuly 1, 2008 to June 30, 2009

1 Inventory of Materials and Supplies 74,000Vouchers Payable 74,000

To record purchases on account.

2 Materials and Supplies Expense 96,000Inventory of Materials and Supplies 96,000

To record ending inventory and materials and supplies used.

3 Salaries and Wages Expense 230,000Cash 230,000

To record salaries and wage expense paid.

4 Utility Expense 30,000Cash 30,000

To record payment of utility charges.

5 Depreciation Expense — Building 5,000Depreciation Expense — Machinery and Equipment 8,000

Accumulated Depreciation — Buildings 5,000Accumulated Depreciation — Machinery and Equipment 8,000

To record depreciation.

6 Due from General Fund 262,000Due from Water and Sewer Fund 84,000Due from Special Revenue Fund 32,000

Service Revenue 378,000To record billings to departments for services.

7 Cash 376,000Due from General Fund 276,000Due from Water and Sewer Fund 84,000Due from Special Revenue Fund 16,000

To record collection of receivables.

8 Vouchers Payable 98,000Cash 98,000

To record payment of vouchers.


19-501


2 CITY OF MERINGENCentral Garage Fund

Closing EntriesJune 30, 2009

Service Revenue 378,000Materials and Supplies Expense 96,000Salaries and Wage Expense 230,000Utility Expense 30,000Depreciation Expense — Building 5,000Depreciation Expense — Machinery and Equipment 8,000Excess of Revenues over Expenses 9,000

To close revenue and expense accounts.

Excess of Revenues over Expenses 9,000Retained Earnings 9,000

To close Excess of Revenues over Expenses to Retained Earnings.


19-502

Solution P20-7

Caleb County Enterprise FundStatement of Cash Flowsfor the Year Ended . . .

Cash Flows from Operating ActivitiesCash received from customers $3,276,500 Less: Cash paid to suppliers

(2,694,500)Cash paid for salaries

(479,300)Cash paid for operations

(819,200)Net cash provided by operating activities

(716,500)Cash Flows from Noncapital Financing ActivitiesPropety Taxes Received

217,000 Long-term debt repayment

(515,000)Net cash provided by noncapital financing activities

(298,000)

Cash from Capital and Related Financing ActivitiesCapital grant proceeds

750,000 Proceeds from sale of asset

522,000 Net cash provided by capital and related financing activities 1,272,000Cash Flows from Investing ActivitiesPurchase of equity investments

(165,000)Net cash provided by investing activities (165,00

0)Increase in cash 92,500Add: Cash and cash equivalents, beginning

$714,525

Cash and cash equivalents, ending $807,025


19-503

Chapter 21

ACCOUNTING FOR NOT-FOR_PROFIT ORGANIZATIONS

Questions

1 The financial statements required for nongovernmental not-for-profit entities include a statement of financial position, a statement of activities, and a cash flow statement. Voluntary health and welfare organizations also provide a statement of functional expenses.

2 Each hospital, college, and voluntary health and welfare organization (and other not-for-profit organizations as well) must be evaluated to determine whether it meets the definition of a government in the authoritative literature. Those that meet the definition of a government must apply the government GAAP hierarchy. GASB standards are the most authoritative guidance for these entities. All other entities are to apply FASB standards.

3 A conditional promise to give depends on the occurrence of a specified future and uncertain event to bind the promisor. An unconditional promise to give depends only on the passage of time or demand by the promisee for performance.

Organizations recognize conditional promises to give as contribution revenue and receivables when the conditions are substantially met (in other words, when the conditional promise to give becomes unconditional); however, they account for a conditional gift of cash or other asset that may have to be returned to the donor if the condition is not met as a refundable advance (liability). Organizations recognize unconditional promises to give as restricted or unrestricted contribution revenue and receivables in the period in which the promise is received.

4 A donor-imposed condition provides that the donor will have his resources returned (or will be released from the promise to give) if the condition is not met. A donor-imposed restriction only limits the purpose or timing of use of the contributed assets.

5 Unconditional promises to give with payments due in the next period are reported as restricted support (net of an appropriate allowance for uncollectible accounts) that increase temporarily restricted net assets, even if the resources are not restricted for specific purposes.

6 When a time restriction is met, temporarily restricted net assets are reclassified as unrestricted net assets. The entry includes a debit to temporarily restricted net assets—reclassifications out and a credit to unrestricted net assets—reclassifications in. (Different account titles, such as amounts released from restrictions, are permitted as well.)

7 Gifts in kind are reported as unrestricted support that increases unrestricted net assets if the not-for-profit entity has discretion over the disposition of the resources and a fair value can be reasonably determined. If fair value cannot be determined, the items are


19-504

recorded as sales revenue when they are sold. If the not-for-profit entity has little or no discretion over disposition of the items, the gifts in kind should be accounted for as agency transactions.

8 Program services of voluntary health and welfare organizations are expenses incurred in meeting the social service objectives of the organization. Examples are research, public education, community services, and patient services. Supporting services consist of the organization’s administrative and fund-raising costs, and expenses for these items are so classified in the statement of activities.

9 The statement of functional expenses for voluntary health and welfare organizations is intended to reconcile the functional classification of expenses (which results in highly aggregated data) with basic object-of-expenditure classifications that are less aggregated and easier for many users to understand.

10 Contributed services are recognized only if the services (a) create or enhance nonfinancial assets of the organization or (b) require specialized skills, are provided by individuals possessing those skills, and would typically need to be purchased if not provided by donation.

11 Charity care is excluded from both gross patient service revenue and from expense. The hospital’s policy for providing charity care and the level of charity care provided are disclosed in notes to the financial statements.

12 Net patient service revenues of hospitals are measured by deducting courtesy allowances and contractual adjustments from gross patient revenues. Uncollectible accounts expenses are not deducted in computing net patient service revenues. Net patient service revenues are reported in the statement of activities.

13 The three major revenue groupings used by hospitals are patient service revenues, other operating revenue, and nonoperating gains. Examples are:Patient service revenues—routine care, emergency room, recovery room, pharmacyOther operating revenues—tuition from educational programs, research grants for specific purposes, gift shop salesNonoperating gains—unrestricted gifts, unrestricted endowment income, gain on sale of plant assets, rents from property not used in hospital operations(Premium fees also are significant for many hospitals today. They would be reported as a separate line item under operating revenues.)

14 Both the provision for bad debts (other than for charity care, which is not recorded as revenue) and depreciation are expenses of a hospital. Hospitals use full accrual accounting procedures.

15 FASB Statement No. 117 requires private not-for-profit universities to provide a set of financial statements that includes a statement of financial position, statement of activities, statement of cash flows, and accompanying notes. Governmental universities are


19-505

considered special-purpose governments under GASB Statements No. 34 and 35. Special-purpose governments with more than one governmental program or both governmental and business-type activities present both government-wide and fund financial statements, as well as the MD&A, notes, and required supplementary information. Special-purpose governments with only one governmental program may combine fund and government-wide statements, whereas those with only business-type activities should report only the financial statements required for enterprise funds, as well as the MD&A, notes, and required supplementary information.

16 Government colleges and universities no longer have the option of using the AICPA college guide; however, many organizations may have retained AICPA model features for internal accounting and control purposes.

17 Much guidance comes from the Financial Accounting and Reporting Manual, an accounting manual prepared by the National Association of College and University Business Officers (NACUBO) which is available as an online subscription service.

18 GASB Statements No. 34 and 35 require special-purpose government with more than one governmental program or both governmental and business-type activities to present both government-wide and fund financial statements, as well as the MD&A, notes, and required supplementary information. Special-purpose governments with only one governmental program may combine fund and government-wide statements, whereas those with only business-type activities should report only the financial statements required for enterprise funds, as well as the MD&A, notes and required supplementary information.


19-506

19 Functional classifications include the following:

Instruction. Expenses for the educational programs Resource. Expenses to produce research outcome Public Service. Expenses for activities to provide noninstructional services to

external groups Academic support. Expenses to provide support for instruction, research, and

publications Student Services. Amounts expended for admissions and registrar, and amounts

expended for students’ emotional, social, and physical well-being Institutional support. Amounts expended for administration and the long-range

planning of the university Operation and maintenance of plant. Expenses for operating and maintaining

the physical plant (net of amounts to auxiliary enterprises and university hospitals)

Student aid. Expenses from restricted or unrestricted funds in the form of grants, scholarships, or fellowships to students.

20 Property, plant, and equipment acquired by a not-for-profit organization with unrestricted or restricted resources may be recorded at acquisition as unrestricted or temporarily restricted. If temporarily restricted, the assets are reclassified when depreciation is recognized.

EXERCISES

E21-1 E21-2 E21-31 d 1 b 1 b2 a 2 a 2 b3 d 3 d 3 c4 c 4 b 4 d5 b 5 c 5 a

E21-4 E21-5 E21-61 a 1 b 1 b2 b 2 b 2 a3 a 3 c 3 a4 a 4 c 4 c5 c 5 d 5 b

E21-71 b2 a3 c4 a5 d


19-507

E21-8

Program services:Education $20,400Public Health 15,700Research 12,000 $48,100

Supporting services:Fund raising $11,400Management and general 5,500 $16,900

E21-9

1) Contributions receivable 20,000Allowance for uncollectible contributions 600Unrestricted support — contributions 13,580Restricted support — contributions 5,820

To record contribution revenues and an allowance for uncollectible accounts.

Contributions that are not due until the next period imply a time restriction unless the donor explicitly stipulates that the pledge is for current expenditures. Thus, unrestricted net assets are increased by $13,580 and temporarily restricted net assets are increased by $5,820.

2) Cash 200Restricted support — contributions 200

To record a gift restricted to a special project. (Recall that some NFPs may record as unrestricted if the restriction is met in the same period.)

Expenses — community service [program services] 200Cash 200

To record expenditures for restricted purpose.

Temporarily restricted net assets — reclassifications out 200 Unrestricted net assets — reclassifications in 200

To record satisfaction of temporary restriction.

3) Equipment 6,000Unrestricted support — Contributions 6,000

To record receipt of donated equipment.

Depreciation expense — community services 1,500Accumulated depreciation — equipment 1,500


19-508

To record depreciation expense for the year on unrestricted long-lived assets.

The organization may also adopt an accounting policy that implies a time restriction that expires over the useful life of the donated asset. If the gift is reported as restricted support in temporarily restricted net assets, depreciation is recorded as an expense in unrestricted net assets, which results in a reclassification for the amount of the depreciation from temporarily restricted to unrestricted net assets.

4) Cash 8,000Restricted support — contributions 8,000

To record receipt of donation restricted to the purchase of a truck.

Accrued interest receivable 215Restricted revenue — investment income 215

To record accrual of interest on funds restricted for the purchase of a truck.

The contribution of cash restricted for long-lived asset purchases increased temporarily restricted net assets, as did the donor-restricted investment income on those funds.

5) Accounts receivable 735,000Unrestricted revenues — tuition and fees 735,000

To record tuition and fees.

Tuition reduction: unrestricted—student aid 65,000 Accounts receivable 65,000

To record tuition reductions.

Expenses—educational and general—institutional support 7,350 Allowance for uncollectible accounts 7,350 To record allowance for uncollectible accounts.

6) Cash 3,000,000Temporarily restricted contribution — tobacco

research 3,000,000

To record receipt of restricted grant.

Expenses — tobacco research 1,200,000Cash 1,200,000

To record expenses for tobacco research.

Temporarily restricted contribution — tobacco research 1,200,000Contribution (unrestricted) 1,200,000

To reclassify the contribution as unrestricted.


19-509

PROBLEMS

P21-1

Voluntary Health and Welfare Organization gift1 a Cash 5,000,000

Unrestricted support—contributions 5,000,000To record cash contribution received.

b Expenses (by function) 2,300,000Cash 2,300,000

To record operating expenses paid.

Private University Gift2 a Cash 5,000,000

Restricted support—contributions — research

5,000,000

To record restricted cash gift received.

b Expenses—research 2,300,000Cash 2,300,000

To record research expenses.

Temporarily restricted net assets— reclassifications out

2,300,000

Unrestricted net assets — reclassifications in 2,300,000To record release of assets from temporary restrictions.

Local Hospital Gift3 a Cash 5,000,000

Restricted support — contributions 5,000,000To record cash gift restricted for capital additions.

b Construction in progress 2,300,000Cash 2,300,000

To record construction costs incurred.

Temporarily restricted net assets — reclassifications out

2,300,000

Unrestricted net assets — reclassifications in 2,300,000To record release of assets from temporary restrictions.

P21-2


19-510

Payment of salariesExpenses — management and general 2,920Expenses — community service 11,680

Cash 14,600To record payment of salaries allocated 20% to management and general services and 80% to program services.

Donated servicesExpenses — management and general 900

Unrestricted support — donated services 900To record donated services.

Donated facilitiesExpenses — management and general 600Expenses — community service 2,400

Unrestricted support — donated facilities 3,000To record allocation of donated facilities 20% to management and general and 80% to program services.

Payment of utilitiesExpenses — management and general 360Expenses — community service 1,440

Cash 1,800To record payment of utilities allocated 20% to management and general and 80% to program services.

Purchase and use of suppliesSupplies inventory 300

Cash 300To record purchase of supplies.

Expenses — management and general 60Expenses — community service 240

Supplies inventory 300To record allocation of supplies expense 20% to management and general and 80% to program services.

Administration and other expensesExpenses — management and general 1,200Expenses — community service 4,800

Cash 6,000To record payment of recordkeeping expenses allocated 20% to management and general and 80% to program services.


19-511

Gifts in kind are reported as contributions since Share Shop has discretion over their distribution and a fair value is determinable. When gifts in kind are distributed to recipients, they are recorded as program expenses. If fair value cannot be determined, neither the contribution nor distribution would be recorded.

Inventory — nonperishable food 60,000Inventory — household items 40,000

Unrestricted support — donated assets 100,000To record receipt of donated food and household items.

Expenses — community service 65,000Inventory — nonperishable food 45,000Inventory — household items 20,000

To record distribution of food and household items to qualified recipients.

Cash contributionsCash 10,000

Unrestricted support — contributions 10,000To record receipt of cash contributions.

Unconditional promises to give (solution assumes all pledges were due in 2008)

Pledges receivable 20,000Unrestricted support — contributions 18,000Allowance for uncollectible pledges 2,000

To record pledges received and 10% estimated uncollectible pledges.

Cash 15,000Unrestricted support — contributions 3,000Allowance for uncollectible pledges 1,000

Contributions receivable 15,000 Temporarily restricted support — contributions 4,000

To record receipt of cash, adjust the allowance account for the overstatement of uncollected pledges, and reclassify uncollected support.

GrantGrant receivable 25,000

Temporarily restricted support — grant 25,000To accrue grant from Town of North Ptarmigan due in 2009.


19-512

P21-3

Hometown Memorial HospitalStatement of Operations

For the year ended December 31, 2007

Unrestricted revenues, gains, and other support:Net patient service revenues

($2,500,000 - $400,000 - $100,000) $2,000,000Other operating revenues ($300,000 + $50,000) 350,000Income from investment in affiliate 80,000Investment income 270,000Unrestricted contributions 200,000Net assets released from restrictions for operating purposes 80,000

Total operating revenues, gains, and net assets released from restrictions for operations 2,980,000

Expenses and Losses:Nursing services 1,000,000Other professional services 500,000General services 290,000Administrative services 310,000Uncollectible accounts 150,000Loss on sale of fixed assets 50,000Depreciation 200,000

Total expenses and losses 2,500,000

Excess of revenues, gains, and other support over expenses and losses 480,000

Net assets released from restrictions for acquisitions of fixed assets 97,000Increase in unrestricted net assets $ 577,000


19-513

P21-4

Accounts receivable 2,000,000 Unrestricted revenues — tuition and fees 2,000,000

To record tuition and fees.

Tuition reduction: unrestricted—student aid 120,000 Accounts receivable 120,000

To record tuition reductions.

Cash 1,100,000 Unrestricted revenues — state appropriation 800,000

Unrestricted revenues — local appropriation 300,000To record governmental appropriations.

Cash 500,000 Revenue – auxiliary operations 500,000

To record auxiliary revenues.

Expenses – auxiliary operations 480,000 Cash 480,000 To record auxiliary expenses.

Cash 90,000 Unrestricted revenues—contributions 20,000 Temporarily restricted revenues— contributions 70,000 To record contributions received.

Cash 380,000 Unrestricted revenues—gifts and grants 80,000 Temporarily restricted revenues—Gifts and grants 300,000 To record gifts and grants received.

Expenses – educational and general - instruction 2,100,000 Expenses – educational and general - research 100,000 Expenses – educational and general – student services 120,000 Expenses – educational and general – operation of plant 180,000 Expenses – educational and general – student aid 200,000 Cash (or payables) 2,700,000 To record educational and general expenses.

Temporarily restricted net assets — reclassifications out 300,000 Unrestricted net assets — reclassifications in 300,000


19-514

To reclassify temporarily restricted assets (assumes all scholarships and

research were from temporarily restricted funds).


19-515

Nongovernmental NFP CollegeStatement of Activities

for the year 200X

RevenuesTuition and fees (net) $1,880,000

State appropriations 1,100,000

Federal grants and contracts

Private grants and gifts 80,000

Endowment income 20,000

Sales and services of educational departments

Sales and services of auxiliary enterprises 500000

Total current revenues $3,580,000

Total net assets released from

restrictions for operations 300,000

Total revenues and reclassifications $ 3,880,000

ExpensesEducational and general

Instruction 2,100,000

Research 100,000

Student services 120,000

Operation and maintenance

of plant 180,000

Student aid 200,000

Auxiliary operations 480,000

Total operating expenses 3,180,000

Net increase in unrestricted net assets 700,000

Changes in temporarily restricted net assets:

Federal grants and contracts

Private grants and gifts 300,000

Endowment income 70,000

Net assets released from restrictions* -300,000

Increase in temporarily restricted net assets 70000

Change in net assets 770,000

Net assets, beginning 0

Net assets, ending $ 770,000

*assumes all scholarships and research were from temporarily restricted funds


19-516

P21-5

Community SocietyStatement of Activities

For the Year Ended December 31, 2008

Changes in Unrestricted Net AssetsRevenues and gainsContributions $3,000,000Membership dues 400,000Investment income 83,000

Total revenue and gains 3,483,000Net assets released from restrictions:

For research $ 500,000For fixed assets 3,789,000 4,289,000Increase in unrestricted net assets 7,772,000

Expenses:Program Services:

Research 2,300,000Education 300,000

Total Program Services 2,600,000Supporting Services:

Management and general 117,000Fund raising 223,000

Total Supporting Services 340,000Total expenses 2,940,000Net increase in unrestricted net assets 4,832,000

Changes in Temporarily Restricted Net AssetsContributions ($438,000 + $409,000) 847,000Investment income 22,500Gain on sale of investments 5,000Net assets released from restrictions * (4,289,000)Decrease in temporarily restricted net assets (3,414,500)

Changes in Permanently Restricted Net AssetsContributions 37,000Increase in permanently restricted net assets 37,000

Increase in net assets 1,454,500Net assets, beginning 5,475,000Net assets, ending $6,929,500


19-517


19-518

P21-6

1 Tuition and fees receivable 6,000,000Revenues — educational and general 6,000,000

To record tuition revenues.

Expenditures — scholarships 200,000Expenditures — bad debts 100,000

Tuition and fees receivable 200,000Allowance for uncollectible accounts 100,000

To record scholarships and estimated bad debts.

Cash 4,800,000Tuition and fees receivable 4,800,000

To record collections of receivables.

2 Cash 800,000Revenues — sales and services of auxiliary

enterprises 800,000

To record sales of bookstore.

3 Expenditures — educational and general 2,430,000Expenditures — auxiliary enterprises 170,000

Cash 2,600,000To record payroll.

4 Mortgage payable 1,000,000Cash 1,000,000

To record mortgage payment.

5 Mortgage payable 360,000Interest expense 600,000

Cash 960,000To record debt service payment.

6 Cash 440,000 Temporarily restricted revenues— contributions 440,000

To record restricted gift.

7 Expenditures — instruction 237,000Cash 237,000

To record expenditures for program.

Temporarily restricted net assets— reclassifications out 237,000Unrestricted net assets—reclassifications in 237,000


19-519

To reclassify revenues equal to qualifying expenditures.

8 Temporarily restricted net assets— reclassifications out 44,000Unrestricted net assets—reclassifications in 44,000To reclassify revenues equal to qualifying expenditures.

Equipment 44,000Cash 44,000

To record equipment purchased.

P21-7

1 Temporarily restricted net assets — reclassifications out 20,000 Unrestricted net assets — reclassifications in 20,000To record satisfaction of time restriction.

2 Pledges receivable 65,000Cash 35,000

Allowance for uncollectible pledges 3,250Unrestricted support — contributions* 96,750

To record contributions.

* To the extent that pledges are not collected by year end a time restriction will be implied. An adjusting entry reducing unrestricted support and recording temporarily restricted support for the net realizable value of the uncollected pledges will be required.

3 Inventory of materials 150,000 Unrestricted support — donated materials 150,000

To record donations of food.

Expenses — Program services 151,200Inventory of materials 151,200

To record expenses for food used.

4 Inventory of supplies 27,000Cash 27,000

To record purchases of supplies.

Expenses — management and general 10,000Expenses — Program services* 100,000

Inventory of supplies 22,000Cash 88,000

To record expenses incurred.* ($8,000 + 70,000 + [27,000 – 5,000 account increase])

5 Pledges receivable 300,000


19-520

Allowance for uncollectible pledges 15,000Temporarily restricted support —

contributions285,000

To record restricted pledges.

Solution P21-8

1 Patient accounts receivable 102,300Patient service revenues—unrestricted 102,300

To record patient service charges at established rates.

Contractual adjustments 30,000Patient accounts receivable 30,000

To record contractual adjustments.

Bad debt expense 2,046Patient service revenues—unrestricted 2,046To establish an allowance for uncollectible receivables.

2 Cash 54,000Premium Revenue — unrestricted 54,000

To record premium revenue from capitation agreements

3 Cash 16,000Other operating revenue - unrestricted 16,000To pharmacy revenue.

4 Nursing services expense 35,000Other professional services 11,000General services 10,000Fiscal services 2,000Administrative services 20,000

Cash 78,000To record salaries and wages.

5 Cash 12,000Grant revenue - restricted 12,000

To record receipt of restricted grant funds.

6 Supplies inventory 13,000 Cash (or accounts payable) 13,000

To record the purchase of nursing supplies.

Supplies expense 6,700 Supplies inventory 6,700


19-521

To record the use of nursing supplies.


19-522

Chapter 22

ESTATES AND TRUSTS


1 No, trust accounting is essentially cash basis accounting.

2 Income is earned on the principal amounts of estate and trust assets. Estates frequently realize income from various investments between the time that the property inventory is filed by the executor and the time the estate is fully administered. A primary reason for dividing estate principal and income is that the beneficiaries are likely to be different. Separation of principal and income is also important for trusts, because often a trust’s principal is to be maintained intact until the death of the beneficiary.

3 A devise is a testamentary disposition of real or personal property.

4 If a decedent had a valid will in force at the time of death, he or she is said to have died testate. In the absence of a valid will, the decedent is said to have died intestate.

5 The Uniform Probate Code entitles the surviving spouse to a homestead allowance that is exempt from and has priority over all claims against the estate. The surviving spouse and minor children who were dependent on the deceased are also entitled to a reasonable family allowance to be paid out of estate property during the period in which the estate is being administered. The family allowance is exempt from and has priority over all claims except the homestead allowance. Allowance amounts vary across the states.

6 Yes, the value of the estate is reduced by funeral expenses, settlements of estate liabilities, bequests to qualified charities, a marital deduction, state-level taxes, expenses of estate administration, and a tax exempt amount.

7 The taxable amount of an estate is based on fair values of all estate assets at the date of death.

8 Yes, within certain limitations. Currently any number of annual gifts of $12,000 each can be made, with a lifetime limit of $1,000,000.

9 Income for estates and trusts and applicable tax rates are defined in essentially the same manner as for individuals. Income includes interest and dividends, rent, etc. Deductions and/or exemptions for estate administration fees, charitable donations and distributions to beneficiaries reduce taxable income. The fiduciary of the estate must provide applicable information to the beneficiary on Schedule K-1.


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10 An estate may be subject to taxation (referred to as estate or inheritance taxes) at both the state and federal levels. Accountants and attorneys play a vital role in estate planning to minimize these tax burdens for their clients and heirs. Even if the federal tax is permanently repealed, estate planning services will remain critical for larger estates subject to state level taxation.

Federal taxation of estates is currently in a period of flux. The Economic Growth and Tax Relief Reconciliation Act of 2001 proposed reduction of the tax, and a total repeal in 2010. However, unless Congress acts to make the repeal permanent, the tax will return in 2011.

11 A valid will ensures the disposition of estate assets in accordance with the wishes of the deceased. If a valid will is not in place, assets will be distributed in accordance with state probate laws. Preparation of a will is also an important part of overall estate planning and can be useful in reducing estate and inheritance taxes.

12 In addition to federal and state estate and inheritance taxes, estates are also subject to federal (and possibly state) income taxes. An estate is a taxable entity and is subject to tax on income earned from the date of death until final settlement of the estate. The tax may be paid by the estate or by the beneficiary if estate property has already been distributed to the beneficiary.


Solution E22-1

a Cash (+A) 4,500

Interest receivable - bonds (-A) 2,200

Estate income (R,+SE) 2,300

b Devise - Atlanta Animal Shelter (E,-SE) 50,000

Cash (-A) 50,000

c Funeral expenses (E,-SE) 8,200

Cash (-A) 8,200

d Cash (+A) 25,000

Interest receivable (+A) 600

Assets subsequently discovered (-A) 25,600

Cash (+A) 1,500

Interest receivable (-A) 600


19-524

Estate income (R,+SE) 900


19-525

Solution E22-2

a Cash (+A) 7,500



b Devise - symphony orchestra (E,-SE) 75,000

Cash (-A) 75,000

c Probate expenses (E,-SE) 1,400

Cash (-A) 1,400

d Funeral expenses (E,-SE) 6,400

Cash (-A) 6,400

e Estate principal (-SE) 22,000

Accounts payable (+L) 22,000

Solution E22-3

a Dividend receivable (+A) 150,000


b No entry on this date, since no distribution has yet been made.

c Probate court expenses (E,-SE) 1,900

Cash (-A) 1,900


Cash (-A) 5,800

e Hospital fees and expenses (E,-SE) 18,500

Cash (-A) 18,500

f Cash (+A) 150,000

Dividends receivable (-A) 150,000


19-526

Solution E 22-4

Melanie Triciao, TestatorInventory of Estate Assets

As of the date of Death on August 15, 2009

Description of Property Fair Value

Cash $ 118,225

Savings accounts 250,000

ViaReggio common stock 225,000

City of Roma municipal bonds 412,000

Mercedes sports car 41,000

Condominium on Italian Riviera 1,265,500

Atlanta personal residence 430,000

Collection of rare hand puppets 85,000

Fully restored Model T Ford 125,000

$2,951,725

Submitted by K. T. Tim, executor

Solution E22-51. Estate Inventory

Jeff Carpenter, TestatorInventory of Estate AssetsAs of the date of death on August 25, 2009

Description of Property Fair Value

Cash in Oxford National Bank $15,000

Certificates of deposit, includes $7,000 accrued interest 807,000

Personal effects* -

$822,000

*The probate court permitted exclusion of Jeff’s personal effects from the estate inventory. Prepared by Ms. Colleen Ryan, Executrix, Oxford National Bank


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2. a Cash (+A) 11,500



b Cash (+A) 800,000

Certificates of deposit (-A) 800,000

c Devise- Sooner XXV trust account (E,-SE) 100,000

Cash (-A) 100,000


Cash (-A) 7,200

e Executrix expenses (E,-SE) 2,500

Cash (-A) 2,500

Devise - J.J. Kara (E,-SE) 716,800

Cash (-A) 716,800

3. Closing Entries

Estate principal (-SE) 822,000

Estate income (-R,-SE) 4,500

Funeral expenses (-E,+SE) 7,200

Executrix expenses (-E,+SE) 2,500

Devise - Sooner XXV trust (-E,+SE) 100,000

Devise - J.J. Kara (-E,+SE) 716,800


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4. Charge-Discharge StatementEstate of Jeff Carpenter

Charge-Discharge StatementFor the period of estate administration,

August 25 to September 28, 2009

Estate principal

I charge myself for:

Assets included in estate inventory - total estate principal charge $822,000

I credit myself for:

Funeral expenses paid $ 7,200

Executrix expenses paid 2,500

Devise paid in cash to Sooner XXV trust account 100,000

Devise paid in cash to J.J. Kara 712,300

Total estate principal discharge $822,000

Estate income


Estate income received during estate administration $4,500


Payment of estate income to J.J. Kara $4,500

Respectfully submitted, Colleen Ryan, Estate Executrix, September 28, 2009.


19-529

Solution E22-6

9/15 Cash (+A) 100,000

Trust fund principal (+SE) 100,000

9/16 Money market investment (+A) 100,000

Cash (-A) 100,000

10/16 Cash (+A) 417

Trust fund income (R,+SE) 417

10/19 Trust fund expenses (E,-SE) 300

Cash (-A) 300


Cash (-A) 22

11/16 Cash (+A) 417



Cash (-A) 300

12/16 Cash (+A) 417



Cash (-A) 700


Cash (-A) 100

12/31 Interest receivable (+A) 208

Trust fund income (R,+SE)- Accrued interest for last ½ month.

208

12/31 Trust fund principal (-SE) 100,000

Trust fund income (-R,-SE) 1,459

Trust fund expenses (-E,+SE) 1,422

Interest receivable (-A) 208


19-530

Money market investment (-A) 100,000

Cash (-A) 37


19-531

Solution E22-7

Sooner XXV TrustCharge-Discharge Statement

For the period of trust administration,September 15 to December 31, 2009

Trust principal


Assets included in trust - total estate principal charge $100,000


Transfer of money market investment to J.J. Kara $100,000

Trust income


Trust income received during trust administration $1,459


Funeral expenses paid $ 700

Trust administration fee paid 100

Payments to Puppy Paradise 622

Total trust income discharge $1,422

Payment of remaining trust income to J.J. Kara $ 37

Respectfully submitted, Colleen Ryan, Trust Officer, December 31, 2009.

Solution E22-8

6/1 Cash (+A) 1,000,000

Trust fund principal (+SE) 1,000,000

6/2 Investment in certificate of deposit (+A) 500,000

Cash (-A) 500,000

6/2 Investment in stock mutual fund (+A) 500,000

Cash (-A) 500,000

7/2 Cash (+A) 2,500

Trust fund income (R,+SE)($500,000 x 6% x 1/12 year)

2,500


19-532


Cash (-A) 41


19-533

Solution E 22-9

Cash (+A) 218,220

Savings accounts (+A) 300,000

Microsystems common stock (+A) 400,000

Big Casino common stock (+A) 120,000

Vintage sports car (+A) 31,000

Mountain cottage (+A) 114,500

Personal residence (+A) 457,500


- To record receipt of property transferred from executor.

Solution E 22-10a.

Fair value of gross estate $5,300,000

2009 Tax Exempt Estate (3,500,000)

Taxable estate $1,800,000

45% Estate Tax Due $810,000

Balance inherited by Emily $4,490,000

b. There were many estate planning options for Mr. Dogbert. For example, he could have given assets to Emily during his lifetime or bequeathed funds to his church or some favorite charities, excluding those amounts from his estate. If the reduced estate value would fall below the federal tax threshold, it would have left a zero inheritance tax. However, all of these options expired with Dogbert’s demise.


19-534

Solution E 22-11



Taxable estate $100,000

45% Estate Tax Due $45,000

Balance inherited by Emily, Laura and Tom $3,555,000

Solution E 22-12



Taxable estate $19,900,000

45% Estate Tax Due $8,955,000

Balance inherited by Maggie $14,445,000


19-535

Solution P 22-1

Part 1 Cash (+A) 15,000

June 22 Interest receivable (-A) 5,000


June 24 Cash (+A) 12,000


June 30 Estate expense (E,-SE) 250

Cash (-A) 250

July 4 Estate expense (E,-SE) 4,900

Cash (-A) 4,900

July 12 Cash (+A) 501,300

Certificate of deposit (-A) 500,000


July 15 Cash (+A) 750,000

Certificate of deposit (+A) 500,000

Interest receivable (+A) 5,000

Common stocks (+A) 460,000

Dividend receivable (+A) 12,000

Lake Michigan cottage (+A) 40,000

2005 Corvette (+A) 35,000

Estate principal (+SE) 1,802,000

July 20 Devise - 2005 Corvette - Clark Olson (E,-SE) 35,000

Devise- Lake cottage - Kent Olson (E,-SE) 40,000

Devise - ½ stocks - Clark Olson (E,-SE) 230,000

Devise - ½ stocks - Kent Olson (E,-SE) 230,000

Lake Michigan cottage (-A) 40,000

2005 Corvette (-A) 35,000

Common stocks (-A) 460,000


19-536

Solution P 22-1 (continued)

July 21 Devise - cash fees - Clark Olson (E,-SE) 5,000

Devise - Lana Lang (E,-SE) 200,000

Devise - Jimmy’s church (E,-SE) 50,000

Devise - Metropolis Symphony (E,-SE) 50,000

Cash (-A) 305,000

Part 2 Closing Entries

July 22 Estate income (-R,-SE) 11,300

Estate expenses (-E,+SE) 5,150

Cash (-A) 6,150

- Close estate income and expenses and distribute estate net income to Lois


Devise- 2005 Corvette - Clark Olson (-E,+SE) 35,000

Devise - Lake cottage - Kent Olson (-E,+SE) 40,000

Devise - ½ stocks - Clark Olson (-E,+SE) 230,000

Devise - ½ stocks - Kent Olson (-E,+SE) 230,000

Devise - cash fees - Clark Olson (-E,+SE) 5,000

Devise - Lana Lang (-E,+SE) 200,000

Devise - Jimmy’s church (-E,+SE) 50,000

Devise - Metropolis Symphony (E,-SE) 50,000

- Close devise distributions


Cash (-A) 962,000

- Close estate and transfer remaining cash balance to Trust


19-537


Part 3

Estate of Jimmy OlsonCharge-Discharge StatementFor the Period of Estate AdministrationJune 15 to July 22, 2009

Estate Principal


Assets included in estate inventory $1,802,000


Devises paid in cash to:

Clark Olson $ 5,000

Lana Lang 200,000

Jimmy’s church 50,000

Metropolis Symphony Orchestra 50,000 305,000

Devises distributed in kind to:

Clark Olson 265,000

Kent Olson 270,000 535,000

Transferred to Trust account for Lois Olson:

Cash 962,000

Total estate principal discharge $1,802,000

Estate Income




Funeral expenses paid $4,900

Cottage repairs paid 250 $ 5,150

Payment of estate net income to Lois Olson 6,150

Total estate income discharge $11,300

Respectfully submitted: Clark Olson, Estate Executor, July 22, 2009


19-538


19-539

Solution P 22-2

Date Accounts Debit Credit

July 22 Cash (+A) 962,000


July 23 Certificate of deposit (+A) 300,000

Cash (-A) 300,000

July 25 Super Stock Mutual Fund (+A) 500,000

Cash (-A) 500,000

July 31 Smallville Municipal Bonds (+A) 100,000

Cash (-A) 100,000

August 22 Cash (+A) 1,500

Trust income (R,+SE) 1,500

August 23 Cash (+A) 305

Trust income (R,+SE) 405

Trust fund expenses (E,-SE) 100

August 31 Trust fund expenses (E,-SE) 3,700

Cash (-A) 3,700


19-540

Solution P 22-3


March 15 Cash (+A) 66,500

Dividends receivable (+A) 400


Life insurance receivable (+A) 500,000

Personal residence (+A) 325,000

Household furnishings and personal effects (+A) 76,000

Automobile (+A) 21,000

Investments in stocks (+A) 25,000

Investments in bonds (+A) 200,000


- Record estate inventory at fair values.

March 25 Funeral expenses (E,-SE) 2,800

Cash (-A) 2,800

March 30 Cash (+A) 500,000

Life insurance receivable (-A) 500,000

April 9 Land (+A) 10,000


- Record lakefront property at cost, awaiting an appraisal.

April 15 Cash (+A) 3,000

Interest receivable (-A) 2,400


April 19 Land (+A) 18,000


- Adjust lakefront property to appraisal.

April 28 Debts of decedent paid (E,-SE) 13,250

Cash (-A) 13,250


19-541


April 29 Cash (+A) 500

Dividends receivable (-A) 400


April 30 Devise - Helen Wilson (Home, furnishings and personal effects) (E,-SE)

401,000

Devise Helen (cash) (E,-SE) 66,500

Personal residence (-A) 325,000

Household furnishings and personal effects (-A)

76,000

Cash (-A) 66,500

- Transfer cash and property to Helen

Devise (stocks)- Denise (E,-SE) 25,000

Devise (automobile) - Dennis (E,-SE) 21,000

Devise (cash) - Denise (E,-SE) 700

Automobile (-A) 21,000

Investments in stocks (-A) 25,000

Cash (-A) (Estate Income) 700

- Transfer property to Denise & Dennis

April 30 Assets subsequently discovered (+A) 28,000


Devise - Helen Wilson (-E,+SE) 467,500

Devise - Denise (-E,+SE) 25,700

Devise - Dennis (-E,+SE) 21,000

Debts of decedent paid (-E,+SE) 13,250


Estate income (-R,-SE) 700

- Closing entries

April 30 Estate principal (-SE) 714,750


19-542

Cash (-A) 486,750

Investment in bonds (-A) 200,000

Land (-A) 28,000

- Transfer estate property to Wilson Family Trust.


19-543

Solution P 22-4Estate of George Wilson


March 1 to April 30, 2009

Estate principal



Assets subsequently discovered 28,000

Assets included in estate inventory - total estate principal charge $1,244,300



Estate debts paid 13,250

Devise - transfer cash, residence & furnishings to Helen 467,500

Devise - Transferred automobile to Dennis 21,000

Devise - Transferred stocks to Denise 25,000

Transferred bond investments to Wilson Family Trust 200,000

Transferred Land to Wilson Family Trust 28,000

Transferred cash to Wilson Family Trust 486,750


Estate income


Estate income received during estate administration $700


Payment of estate income to Denise Wilson $700

Respectfully submitted, Estate Executrix, April 30, 2009.

Required: Prepare the entry to record the creation of the Wilson Family Trust on April 30. Prepare all required entries to account for trust activities through June 30.


19-544

Solution P 22-5


April 30 Cash (+A) 486,750

Land (+A) 28,000

Investment in Bonds (+A) 200,000


May 3 Certificate of deposit (+A) 450,000

Cash (-A) 450,000

May 25 Cash (+A) 31,300

Land (-A) 28,000


May 31 Trust income (E,-SE) 165

Cash (-A) 165

June 3 Cash (+A) 2,250


June 15 Trust income (E,-SE) 8,700

Cash (-A) 8,700

June 30 Trust income (E,-SE) 165

Cash (-A) 165


19-545

Solution P 22-6


May 31 Dividends receivable (+A) 1,200



Automobile (+A) 2,600

Investments in stocks (+A) 52,000

Investments in bonds (+A) 400,000


- Record estate inventory at fair values.

June 5 Government bonds (+A) 200,000



June 15 Cash (+A) 750,000


June 16 Cash (+A) 8,000



June 18 Funeral expenses (E,-SE) 4,300

Cash (-A) 4,300

June 22 Interest receivable (+A) 15,000


Cash (+A) 215,000

Government bonds (-A) 200,000


June 23 Cash (+A) 50,000


June 24 Debts of decedent paid (E,-SE) 18,250

Cash (-A) 18,250


19-546


June 28 Cash (+A) 1,600



June 30 Devise (stocks) - Sue (E,-SE) 52,000

Devise (automobile) - Pat (E,-SE) 2,600

Executrix fees (E,-SE) 2,500

Devise - Humane society (E,-SE) 1,650

Automobile (-A) 2,600

Investments in stocks (-A) 52,000

Cash (-A) 4,150

June 30 Assets subsequently discovered (+A) 265,000


Devise - Sue (-E,+SE) 52,000

Devise - Pat (-E,+SE) 2,600

Devise - Humane society (-E,+SE) 1,650

Debts of decedent paid (-E,+SE) 18,250

Executrix fees (-E,+SE) 2,500


Estate income (-R,-SE) 1,650

- Closing entries

June 30 Estate principal (-SE) 1,397,900

Cash (-A) 997,900

Investment in bonds (-A) 400,000

- Transfer estate property to Josephson Family Trust.


19-547

Solution P 22-7Estate of Tom Josephson


May 16 to June 30, 2009

Estate principal



Assets subsequently discovered 265,000

Assets included in estate inventory - total estate principal charge $1,477,550



Estate debts paid 18,250

Executrix fees paid 2,500

Devise - Transferred automobile to Pat 2,600

Devise - Transferred stocks to Sue 52,000

Transferred bond investments to Josephson Family Trust 400,000

Transferred cash to Josephson Family Trust 997,900


Estate income




Payment of estate income to Humane Society $1,650

Respectfully submitted, Estate Executrix, June 30, 2009.


19-548

Solution P 22-8


June 30 Cash (+A) 997,900

Investment in Bonds (+A) 400,000


July 5 Certificate of deposit (+A) 750,000

Cash (-A) 750,000

July 31 Trust income (E,-SE) 275

Cash (-A) 275

August 5 Cash (+A) 3,750


August 19 Trust income (E,-SE) 15,000

Cash (-A) 15,000


19-549


19-550

advanced accounting

Documents

combination investment

type of business combination

form of business combination

term business combination

investment fair value

acquisition investment

capital investment expense

par additional paid