Download - Beams10e Ch03 an Introduction to Consolidated Financial Statements

© Pearson Education, Inc. publishing as Prentice Hall 3-1

Chapter 3: An Introduction to Consolidated Financial Statementsby Jeanne M. David, Ph.D., Univ. of Detroit Mercy

to accompany

Advanced Accounting, 10th editionby Floyd A. Beams, Robin P. Clement,

Joseph H. Anthony, and Suzanne Lowensohn


Intro to Consolidations: Objectives

1. Recognize the benefits and limitations of consolidated financial statements.

2. Understand the requirements for inclusion of a subsidiary in consolidated financial statements.

3. Apply the consolidation concepts to parent company recording of the investment in a subsidiary at the date of acquisition.

4. Allocate the excess of the fair value over the book value of the subsidiary at the date of acquisition.


Objectives (continued)

5. Learn the concept of noncontrolling interest when the parent company acquires less than 100% of the subsidiary's outstanding common stock.

6. Amortize the excess of the fair value over the book value in periods subsequent to the acquisition.

7. Prepare consolidated balance sheets subsequent to the date of acquisition, including preparation of elimination entries.

8. Apply the concepts underlying preparation of a consolidated income statement.


1: Benefits & Limitations1: Benefits & LimitationsAn Introduction to Consolidated Financial Statements


Business Acquisitions

• FASB Statement 141R• Business combinations occur

– Acquire controlling interest in voting stock– More than 50%– May have control through indirect

ownership• Consolidated financial statements

– Primarily for owners & creditors of parent– Not for noncontrolling owners or subsidiary

creditors


2: Subsidiaries2: SubsidiariesAn Introduction to Consolidated Financial Statements


Who is a Subsidiary?

• ARB No. 51 allowed broad discretion• FASB Statement No. 94

– Control based on share ownership• FASB Statement No. 160

– Financial control

• Subsidiaries, or affiliates, continue as separate legal entities and reporting to their controlling and noncontrolling interests.


Consolidated Statements

• Prepared by the parent company• Parent discloses

– Consolidation policy, Reg. S-X– Exceptions to consolidation, temporary

control and inability to obtain control• Fiscal year end

– Use parent's FYE, but– May include subsidiary statements with FYE

within 3 months of parent's FYE.• Disclose intervening material events


3: Parent Company Recording3: Parent Company RecordingAn Introduction to Consolidated Financial Statements


Penn Example: Acquisition Cost = Fair Value = Book Value

Penn acquires 100% of Skelly for $40, which equals the book value and fair values of the net assets acquired.

Cost of acquisition $40

Less 100% book value 40

Excess of cost over book value $0

Skelly BV=FVCash $10Other current assets 15Net plant assets 40Total $65Accounts payable $15

Other liabilities 10

Capital stock 30

Retained earnings 10

Total $65 To consolidate, eliminate Penn's Investment account and Skelly's capital stock and retained earnings.


Balance sheets Separate Consolidated

Penn Skelly Penn & Sub.

Cash $20 $10 $30

Other curr. assets 45 15 60

Net plant 60 40 100

Investment in Skelly 40 0 0

Total $165 $65 $190

Accounts payable $20 $15 $35

Other curr. liabilities 25 10 35

Capital stock 100 30 100

Retained earnings 20 10 20

Total $165 $65 $190


4: Allocations at Acquisition Date4: Allocations at Acquisition DateAn Introduction to Consolidated Financial Statements


Cost, Fair Value and Book Value

Acquisition cost, fair values of identifiable net assets and book values may differ.– Allocate excess or deficiency of cost over

book value and determine goodwill, if any.– When BV = FV, excess is goodwill.

Cost less BV = Excess to allocate– Allocate first to FV-BV differences– Remainder is goodwill (or bargain purchase)


Example: BV ≠ FV but Cost = FVPiper acquires 100% of Sandy for $310.

BV = 100 + 145 = $245FV = 385 – 75 = $310

Cost – FV = $0 goodwill

Sandy BV FV

Cash $40 $40

Receivables 30 30

Inventory 50 75

Plant, net 200 240

Total $320 $385

Liabilities $75 $75

Capital stock 100


Total $320

Cost $310

100% BV 245

Excess of cost over BV $65


Piper and Sandy (cont.)Allocate to: Amt Amort.Inventory 100%(+25) 25 1st yrPlant 100%(+40) 40 10 yrs

Total $65

Piper's elimination worksheet entry:Capital stock 100


Inventory 25

Plant 40

Investment in Sandy 310


Example: BV ≠ FV and Cost ≠ FVPanda acquires 100% of Salty for $530.

BV = 250 + 190 = $440FV = 580 – 85 = $495

Cost – FV = $35 goodwill

Salty BV FV

Cash $100 $100

Receivables 40 40

Inventory 250 250

Plant, net 130 190

Total $520 $580

Liabilities $80 $85

Capital stock 250


Total $520

Cost $530

100% BV (250+190) 440



Panda and Salty (cont.)

Panda's elimination worksheet entry:Capital stock 250


Plant 60

Goodwill 35

Liabilities 5

Investment in Salty 530

Allocate to: Amt Amort.Plant 60 4 yrsLiabilities -5 5 yrsGoodwill 35 -

Total $90


Example: BV ≠ FV and Cost ≠ FVPrintemps acquires 100% of Summer for $185.

BV = 75 + 105 = $180FV = 250 - 40 = $210

Cost $185

100% BV (75+105) 180


Summer BV FV

Cash $10 $10

Receivables 30 30

Inventory 80 90

Plant, net 100 120

Total $220 $250

Liabilities $40 $40

Capital stock 75


Total $220


Printemps and Summer (cont.)Allocate to: Amt Amort.Inventory 10 1st yrPlant, land 20 - Bargain purchase (25) Gain

Total $5

Investment in Summer 210

Gain on Bargain purchase 25

Cash 185

Printemps records the acquisition of Summer assuming a cash purchase as follows. Note that the investment account is recorded at its fair value and the bargain purchase is treated immediately as a gain.


Worksheet Elimination Entry

Printemps' elimination worksheet entry:Capital stock 75


Unamortized excess 30

Investment in Summer 210

Inventory 10

Plant 20


Unamortized excess equals $30 (gain is recognized)• $10 for undervalued inventory• $20 for undervalued land included in plant assets


Printemps Summer Adjustments Consol-

BV BV DR CR idated

Cash $30 $10 $40

Receivables 50 30 80

Inventory 100 80 10 190

Plant, net 450 100 20 570Investment in Summer 210 210 0

Unamortized excess 30 30

Total $840 $220 $880

Liabilities $270 $40 $310

Capital stock 200 75 75 200

Retained earnings 370 105 105 370

Total $840 $220 $880

240 240


5: Noncontrolling Interests5: Noncontrolling InterestsAn Introduction to Consolidated Financial Statements


Noncontrolling InterestParent owns less than 100%

– Noncontrolling interest represents the minority shareholders

– Part of stockholders' equity– Measured at fair value, based on parent's

acquisition price

• Parent pays $40,000 for an 85% interest– Implied value of the full investee is

40,000/85% = $47,059.– Minority share = 15%(47,059) = $7,059.


Example: Noncontrolling InterestsPopo acquires 80% of Sine for $400 when Sine had

capital stock of $200 and retained earnings of $175. Sine's assets and liabilities equaled their fair values except for buildings which are undervalued by $50. Buildings have a 10-year remaining life.

Cost of 80% of Sine $400 Implied value of Sine (400/80%) $500 Book value (200+175) 375Excess over book value $125

Allocate to:Building $50 Goodwill 75Total $125


Elimination Entry

Popo's elimination worksheet entry:Capital stock 200


Building 50

Goodwill 75

Investment in Sine 400

Noncontrolling interest 100An unamortized excess account could have been used for the

excess assigned to the building and goodwill.


Popo Sine Adjustments Consol-

BV BV DR CR idated

Cash $50 $10 $60

Receivables 130 50 180

Inventory 80 100 180

Building, net 300 240 50 590

Investment in Sine 400 400 0

Goodwill 75 75

Total $960 $400 $1,085

Liabilities $150 $25 $175

Capital stock 250 200 200 250

Retained earnings 560 175 175 560

Noncontrolling interest 100 100

Total $960 $400 $1,085

500 500


6: Amortizations After Acquisition6: Amortizations After AcquisitionAn Introduction to Consolidated Financial Statements


Unamortized Excess

Excess assigned to assets and liabilities are amortized according to the account

Balance sheet account

Amortization period

Income statement account

Inventories and other current assets

Generally, 1st year Cost of sales and other expense

Buildings, equipment, patents,

Remaining life at business combination

Depreciation and amortization expense

Land, copyrights Not amortized

Long term debt Time to maturity Interest expense


Piper and Sandy (cont.)Allocate to: Amt Amort.Inventory 25 1st yrPlant 40 10 yrs

Total $65

Cost $310

100% BV 245

Excess $65

Beginning unamortized

excess

Current year's

amortization

Ending unamortized

excessInventory 25 (25) 0Plant 40 (4) 36Total 65 (29) 36


Panda and Salty (cont.)


excess

Current year's

amortization

Ending unamortized

excessPlant 60 (15) 45Liabilities (5) 1 (4)Goodwill 35 0 35Total 90 14 76

Cost $530

100% BV 440

Excess $90

Allocate to: Amt Amort.Plant 60 4 yrsLiabilities -5 5 yrsGoodwill 35 -

Total $90


Printemps and Summer (cont.)


excess

Current year's

amortization

Ending unamortized

excessInventory 10 (10) 0Land 20 0 20Total 30 (10) 20

Cost $185

100% BV 180

Excess $5

Allocate to: Amt Amort.

Inventory 10 1st yr

Plant, land 20 -

Bargain purchase (25) Gain

Total $5


7: Subsequent Balance Sheets7: Subsequent Balance SheetsAn Introduction to Consolidated Financial Statements


Balance Sheets After AcquisitionIn preparing a consolidated balance sheet

– Eliminate the parent's Investment in Subsidiary

– Eliminate the subsidiary's equity accounts (common stock, retained earnings, etc.)

– Adjust asset and liability accounts for any unamortized excess balance

– Record goodwill, if any– Record Noncontrolling Interest, if any


Popo and Sine (cont.)

Cost of 80% of Sine $400 Implied value of Sine $500 Book value 375Excess $125

Allocate to:Building $50 10 yrsGoodwill 75 -

Total $125


excess

Current year's

amortization

Ending unamortized

excessBuilding 50 (5) 45Goodwill 75 0 75Total 125 (5) 120


After 1 year: Popo SineCash $40 $15 Receivables 110 85Inventory 90 100Building, net 280 235Investment in Sine 404 Total $924 $435

Popo SineLiabilities $100 $50 Capital stock 250 200Retained earnings 574 185

Total $924 $435 Popo's elimination worksheet entry:Capital stock 200



Investment in Sine (80%) 404

Noncontrolling interest (20%) 101

Building 45

Goodwill 75



After 1 year: Popo Sine Adjustments Consol- BV BV DR CR idated

Cash $40 $15 $55 Receivables 110 85 195Inventory 90 100 190Building, net 280 235 45 560Investment in Sine 404 404 0Goodwill 75 75Unamortized excess 120 120

Total $924 $435 $1,075 Liabilities $100 $50 $150 Capital stock 250 200 200 250Retained earnings 574 185 185 574Noncontrolling interest 101 101Total $924 $435 $1,075 505 505


Key Balance Sheet Items

• Investment in Subsidiary does not exist on the consolidated balance sheet

• Equity on the consolidated balance sheet consists of the parent's equity plus the noncontrolling interest.

• Noncontrolling interest is proportional to the Investment in Subsidiary account when the equity method is used.

$101 = $404 x .20/.80


8: Consolidated Income Statements8: Consolidated Income StatementsAn Introduction to Consolidated Financial Statements


Comprehensive Example, Data

Pilot acquires 90% of Sand on 12/31/2009 for $4,333 when Sand's equity consists of $4,000 common stock, $1,000 other paid in capital, and $900 retained earnings. On that date Sand's inventories, land and buildings are understated by $100, $200, and $1,000, respectively and its equipment and notes payable are overstated by $300 and $100.


Assignment and AmortizationCost of 90% of Sand $10,200

Implied value of Sand 10,200/.90 $11,333

Book value (4000+1000+900) 5,900

Excess over book value $5,433 Unamortized excess 1/1/10

Current amortization

Unamortized excess 12/31/10

Inventory 100 (100) 0Land 200 0 200Building 1,000 (25) 975Equipment (300) 60 (240)Note payable 100 (100) 0Goodwill 4,333 0 4,333Total 5,433 (165) 5,268

Allocate to:Inventory $100 1st yrLand 200 - Building 1,000 40 yrsEquipment (300) 5 yrsNote payable 100 1st yrGoodwill 4,333 -

Total $5,433


Pilot Sand Consol.*Sales $9,523.50 $2,200.00 $11,723.50

Income from Sand 571.50 $0.00 Cost of sales (4,000.00) (700.00) (4,800.00)Depreciation exp - bldg (200.00) (80.00) (305.00)Depreciation exp - equip (700.00) (360.00) (1,000.00)Other expense (1,800.00) (120.00) (1,920.00)Interest expense (300.00) (140.00) (540.00)

Net income $3,095.00 $800.00

Total consolidated income $3,158.50 Noncontrolling interest share 63.50

Controlling interest share $3,095.00 * Cost of sales, building depreciation and interest expense are increased by $100, $25, and $100, and equipment depreciation is $60 lower than the sum of Pilot and Sand.


Key Income Statement Items• The Income from Subsidiary account is

eliminated.• Current period amortizations are included in

the appropriate expense accounts.• Noncontrolling interest share of net income is

proportional to the Income from Subsidiary under the equity method.

$571.50 x .10/.90= $63.50


Push-Down Accounting

• SEC requirement– Subsidiary is substantially wholly-owned (approx.

90%)– No publicly held debt or preferred stock

• Books of the subsidiary are adjusted– Assets, including goodwill, and liabilities revalued

based on acquisition price– Retained earnings is replaced by Push-Down

Capital which includes retained earnings and the valuation adjustments


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Download - Beams10e Ch03 an Introduction to Consolidated Financial Statements

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