Consolidated Statements: Subsequent to Acquisition Chapter 3

Accounting for the Investment in a Subsidiary Simple Equity Method Every change in sub’s Retained Earnings in recorded on a pro-rata basis in the Investment account Cost Method Investment account remains at its original cost-of-acquisition balance

Accounting for the Investment in the Subsidiary Sophisticated Equity Method Parent records controlling interest in the subsidiary’s income Parent also records the amortization adjustment for the excess

Elimination Procedures Consolidation process is performed independently each year All elimination entries are Workpaper Only --- not posted to the general ledger of parent or subsidiary Steps for dates subsequent to acquisition: Date Alignment (varies by method) Eliminate parent’s share of sub equity Distribute excess purchase price Amortize/Depreciate the excess

Date Alignment for Simple Equity Method Investment in Sub carries information through the end of the fiscal year Subsidiary’s Retained Earnings is at its beginning-of-year balance Must align the content of the two accounts before eliminating sub equity against the investment account Eliminate the effects of the current year’s recognition of income and dividends

Date Alignment: Simple Equity Eliminate Parent’s recognition of Sub income: Investment Revenue XX Investment in Sub XX Eliminate Parent’s share of Sub’s dividends: Investment in Sub XX Dividends Declared-Sub XX Investment in Sub account has been returned to its beginning-of-year balance; it has been aligned with the Sub’s Retained Earnings account

Income Distribution Schedules Subsidiary - Full amortization of excess Internally generated net income + Other adjustments, if any = Adjusted income × NIC interest = Distribute to NCI Parent Internally generated net income + Parent share Sub adj income = Controlling interest

Date Alignment for Cost Method Investment account carries information as of the date of acquisition Subsidiary’s Retained Earnings is at its beginning-of-year balance Must align the content of the two accounts before eliminating sub equity against the investment account Convert the Investment account to its simple equity balance as of the beginning of the period Required at end of second and subsequent years

Date Alignment: Cost Method End of First Year No date alignment required Eliminate Parent’s share of Sub’s dividends: Subsidiary (Dividend) Inc XX Dividends Declared-Sub XX End of Second and Subsequent Years Bring Investment account to its simple equity balance as of the beginning of the year: Investment in Sub XX RE-Parent XX

Further Consolidation Procedures After date alignment is completed The cost method investment is converted to its simple equity balance at the beginning of the year Same procedure regardless of method (simple equity or cost) to account for investment in subsidiary Next steps Eliminate P% of Sub’s beginning of year equity Distribute excess to controlling interest and NCI Amortize/Depreciate the excess

D&D Schedule for Example

Elimination Procedures Eliminate Parent’s share of Sub’s Equity C Stk-Sub (P%) 80,000 Addn’l Pd-In Capt-Sub (P%) 120,000 Retained Earnings-Sub (P%) NOTE Investment in Sub XX NOTE: Controlling interest in the Sub’s Beginning of Current Year R/E is eliminated.

Elimination Procedures Distribute excess per D&D schedule Cost of Goods Sold* 5,000 Land 50,000 Buildings 200,000 Patent 25,000 Discount on B Pay 13,240 Goodwill 126,770 Equipment 20,000 Investment in Sub 320,000 RE-Sub 80,000 *Inventory valuations are distributed: On date of acquisition: to Inventory End of first year: to Cost of Goods Sold End of subsequent years: split between RE-P & RE-S

Elimination Procedures Amortize/Depreciate the excess per the D&D Schedule Dep Exp-Bldgs 10,000 A/D-Bldgs 10,000 A/D-Equipment 4,000 Dep Exp-Equipment 4,000 Other expenses 2,500 Patent 2,500 Interest Exp 3,310 Disc on Bond Pay 3,310 First year: Current year amortization is recorded as an adjustment to expense Balance sheet account changed accordingly

Elimination Procedures Amortize/Depreciate the excess per the D&D Schedule Subsequent years: Current year amortization is recorded as an adjustment to expense Balance sheet account changed for all years’ amortization Prior years’ amortization allocated to RE-P and RE-S Dep Exp-Bldgs 10,000 A/D-Bldgs (2 yr) 20,000 A/D-Equipment (2 yr) 8,000 Dep Exp-Equipment 4,000 Other expenses 2,500 Patent (2 yr) 5,000 Interest Exp 3,310 Disc on Bond Pay (2 yr) 6,620 RE-Par 9,448 RE-Sub 2,362

Effect of the Sophisticated Equity Method Ramifications: Current year’s equity adjustment is net of excess amortizations The investment account contains only the remaining unamortized excess applicable to the investment Distribution and amortization of excess procedures are altered: Distribute the remaining unamortized excess applicable to the controlling interest to the balance sheet account; adjust the NCI for the remaining excess attributable to its share Amortize the excess for the current year only

Determination of the Method Being Used Investment account balance is original acquisition cost? Cost Method Yes Parent records subsidiary income that is Sub’s Net Income × P% Equity Method Yes Parent records subsidiary income that is less than Sub’s Net Income × P% Sophisticated Equity Method Yes

Intraperiod Purchase Simple Equity Method D&D schedule developed as of the date of purchase Sub closes nominal accounts on purchase date Consolidated income includes Sub income from date of purchase Only subsidiary income earned after the purchase date is distributed to the NCI and controlling interest Cost Method same as above except Eliminate intercompany dividends only Cost-to-Equity conversion is from date of purchase

Goodwill Impairment Losses Impairment loss is reported in the consolidated income statement for the period in which it occurs presented on a before-tax basis as part of continuing operations Recognizing and recording the impairment Parent records its share of the impairment loss on its books and credits the investment in subsidiary account; NCI share of the loss is recorded on the worksheet or Impairment loss could be recorded only on the consolidated worksheet

Goodwill Impairment Losses Impairment calculation: Estimated fair value of 80% sub $900,000 Estimated fair value of identifiable net assets 850,000 Estimated goodwill 50,000 Existing goodwill 165,000 Impairment loss 115,000 Parent’s Journal Entry: Goodwill Impairment Loss 92,000 Investment in Sub 92,000 Consolidating worksheet: Record the remaining $23,000 loss

Tax-Related Adjustments Occurs when seller is not taxed; buyer gets book value for future depreciation Adjustment from market to book accompanied by DTL = tax % × market adjustment DTL is amortized over same period as asset adjustment; increases tax liability in future years Tax loss carryover is asset recorded in purchase Limitations on its use in year of purchase and later years All amortizations and tax adjustments are carried to Sub’s Income Distribution Schedule