Chapter CONSOLIDATIONS — CHANGES IN OWNERSHIP INTERESTS Answers to Questions 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 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 through December 31 The FASB reasons that acquirers purchase assets and assume liabilities, based on their fair values Acquirers not “purchase” preacquisition earnings, although fair values of net assets should reflect earning power of the acquired firm 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 through December 31 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 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 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 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 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-1 8-2 Consolidations — Changes in Ownership Interests increased noncontrolling interest only after the date of sale As a practical expedient, a beginning-of-theperiod 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 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 Additional paid-in capital XX 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 66 23 percent (8,000 of 12,000 shares) No gain or loss is recognized, the change in underlying book value, adjusted for one-sixth [(80% – 66 23 %) ÷ 80%] of any unamortized cost book value differential is 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 66 23 percent of the proceeds, the difference being the amount of adkustment to additional paid-in capital 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 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) 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 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 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-3 SOLUTIONS TO EXERCISES Solution E8-1 Allocation of Sweet’s net income: Controlling share of income ($100,000 × 70% × year) + ($100,000 × 20% × 1/2 year) $ 80,000 Noncontrolling interest share ($100,000 × 10% × year) $ 10,000 Preacquisition income ($100,000 × 20% × 1/2 year) Note: This does not appear on the consolidated income statement Companies only include subsidiary earnings subsequent to the acquisition date $ 10,000 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 Income from Superstore for 2009: 60% interest × $240,000 × 1/3 year 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) Noncontrolling interest share for 2009: $80,000 × 40% $ 48,000 $ 32,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-4 Consolidations — Changes in Ownership Interests Solution E8-3 (amounts in thousands) Entry to record sale of 15% interest: Cash Investment in Swamp Other paid-in capital 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%) Income from Swamp To record income from Swamp 750 660 90 510 510 Check: Investment balance January 1, 2009 Less: Book value of interest sold Add: Income from Swamp Investment balance December 31, 2009 Underlying equity ($4,600 × 85%) Add: 85% of Goodwill * Investment balance December 31, 2009 * Note that implied total goodwill is $400 ($340 / 85%) $4,400 (660) 510 $4,250 $3,910 340 $4,250 Solution E8-4 (amounts in thousands) Gain on sale of 20% interest: No gain or loss is recognized since Pauley maintains a 60% controlling interest Beginning of the period sale assumption Selling price $130 Book value of interest ($436 investment 109 account balance × 20%/80%) Adjustment to other paid-in capital $ 21 Actual sale date assumption Selling price Book value of interest sold: Beginning of the period balance Add: Income ($150 × 1/3 year × 80%) Interest sold Adjustment to increase additional paid-in capital Income from Savage Beginning of the period sale assumption Income from Savage($150 × 60%) Actual sale date assumption January to May 1: Share of Savage’s income ($150 × 80% × 1/3 year) May to December 31: Share of Savage’s income ($150 × 60% × 2/3 year) Income from Savage $130 $436 40 476 25% 119 $ 11 $ 90 $ 40 60 $100 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-5 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-6 Consolidations — Changes in Ownership Interests Solution E8-4 (continued) Investment in Savage December 31, 2009 Investment balance January Book value of interest sold Income from Savage Dividends Investment balance December 31, 2009 Beginning of Period Sale Assumption $436 (109) 90 (48) $369 Actual Sale Date Assumption $436 (119) 100 (48) $369 Solution E8-5 (amounts in thousands) 1a Fair value — book value differential Cost Implied fair value of Stork ($1,274 / 70%) Book value ($1,480 January balance + $100 income for months - $60 dividends in January and April) Goodwill 1b $ 98 Investment in Stork at December 31 Investment cost Add: Income from Stork Deduct: Dividends ($60,000 × 70%) Investment in Stork December 31, 2009 (1,520) $ 300 Income from Stork (Note: Only include earnings subsequent to the acquisition date) Income from Stork ($240,000 × 7/12 year × 70%) 1c $1,274 $1,820 $1,274 98 (42) $1,330 Consolidation working paper entries: a Income from Stork 98 Investment in Stork 56 Dividends 42 To eliminate income and dividends from Stork and adjust investment account to its cost on June b 1,000 Common stock, $10 par — Stork 580 Retained earnings — Stork Goodwill 300 Investment in Stork 1,274 Noncontrolling interest 564 Dividends 42 To eliminate reciprocal investment and equity balances, record preacquisition income and beginning noncontrolling interest, and eliminate preacquisition dividends © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-7 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-8 Consolidations — Changes in Ownership Interests Solution E8-6 Investment in Sower (in thousands) Investment balance December 31, 2009 ($9,000 × 80%) Cost of new shares ($25 × 60,000 shares) Investment in Sower after new investment $ 7,200 1,500 $ 8,700 Goodwill from new investment Sower’s stockholders’ equity after issuance ($9,000 + $1,500) Petal’s ownership percentage (480,000 + 60,000 shares)/660,000 shares Petal’s book value after issuance Less: Petal’s book value before issuance Increase in book value from purchase (book value acquired) Cost of 60,000 shares Book value acquired Goodwill from acquisition of new shares* * $10,500 8182 8,591.1 (7,200) $ 1,391.1 $ 1,500 (1,391.1) $ 108.9 This implies total goodwill is equal to $136,125 Solution E8-7 Sod issues 30,000 shares to Pod at $20 per share Pod’s ownership interest before issuance: 176,000/220,000 shares = 80% Pod’s ownership interest after issuance: 206,000/250,000 shares = 82.4% Sod sells 30,000 shares to the public at $20 per share Pod’s ownership interest after issuance: 176,000/250,000 shares = 70.4% Sod sells 30,000 shares to the public; no gain or loss recognized: Investment in Sod 115,200 Additional paid-in capital 115,200 To record increase in investment in Sod computed as follows: Book value before issuance ($3,200,000 × 80%) Book value after issuance ($3,800,000 × 70.4%) Additional paid-in capital $2,560,000 2,675,200 $ 115,200 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-9 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% Book value of interest before sale $2,100 × 2/3 Book value of interest acquired Cost of interest Goodwill from additional investment * * $1,820 1,400 420 500 $ 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 Primetime’s interest Book value of Primetime’s investment in Satellite after the sale Less: Book value before the sale Increase in book value of investment 2c $2,600,000 60% 1,560,000 1,400,000 $ 160,000 Entry to adjust investment account: Investment in Satellite Additional paid-in capital 160,000 160,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-10 Consolidations — Changes in Ownership Interests Solution E8-9 Preliminary computations of fair value — book value differentials: April 1, 2009 acquisition Cost of 4,000 shares (20% interest) $ 64,000 Implied total fair value of Sum ($64,000 / 20%) $320,000 Book value of Sum on april acquisition date: Beginning stockholders’ equity $280,000 20,000 Add: Income for months ($80,000 ì ẳ year) Stockholders’ equity April 300,000 Goodwill $ 20,000 July 1, 2010 acquisition Cost of 8,000 shares (40% interest) Implied total fair value of Sum ($164,000 / 40%) Book value on July acquisition date: Beginning stockholders’ equity Add: Income for months ($80,000 × 1/2 year) Less: Dividends May Stockholders’ equity July Goodwill (amount is unchanged by this transaction) $164,000 $410,000 $360,000 40,000 (10,000) Income from Sum 2009 Income from Sum for 2009 ($80,000 × 20% × 3/4 year) $ 12,000 2010 Income from Sum for 2010 20% share of reported income ($80,000 × 20%) 40% share of reported income ($80,000 × 40% × 1/2 year) Income from Sum $ 16,000 16,000 $ 32,000 Noncontrolling interest December 31, 2010 (($420,000 book value + $20,000 goodwill)× 40%) $176,000 Preacquisition income (does not appear in come statement) Sum income Time before acquisition Percent acquired in 2010 Preacquisition income ($80,000 × × 4) 390,000 $ 20,000 $ 80,000 1/2 40% $ 16,000 Investment balance at December 31, 2010 Cost of 20% investment Income from Sum for 2009 Cost of 40% investment Income from Sum for 2010 Less: Dividends ($2,000 + $6,000) Investment in Sum $ 64,000 12,000 164,000 32,000 (8,000) $264,000 Check: Share of Sum’s December 31, 2010 equity ($420,000 × 60%) Add: 60% of $20,000 Goodwill $252,000 12,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-22 Consolidations — Changes in Ownership Interests Solution P8-7 Percy Corporation and Subsidiary Consolidated Income Statement for the year ended December 31, 2010 (in thousands) Sales Cost of sales Gross profit Depreciation expense Other expenses Consolidated net income Noncontrolling interest share ($150,000 × 20%) + ($150,000 × 1/4 year × 10%) Controlling share of Consolidated net income $3,200 (1,900) 1,300 (700) (150) 450 (33.75) $ Schedule to allocate Sawyer’s income and dividends Noncontrol Preacquisition Control Sawyer’s income 70% 10% Allocation Dividends 70% 10% Allocation $105,000 11,250 $116,250 20% $ 56,000 4,000 $ 60,000 20% $33,75 Total $135,000 15,000 $150,000 $33,750 $16,000 $16,000 416.25 $ 72,000 8,000 $ 80,000 $4,000 $4,000 Solution P8-8 Preliminary computations Cost October 1, 2009 Implied fair value of Sat ($82,400 / 80%) Book value on Octobwer acquisition date: Book value on January 1, 2009 Add: Income January to October ($24,000 × 3/4 year) Deduct: Dividends March 15 Book value October Goodwill $ 82,400 $103,000 $70,000 18,000 (5,000) 83,000 $ 20,000 Income from Sat for 2009 Share of Sat’s net income ($24,000 × 1/4 year × 80%) Less: Unrealized profit in Sat’s ending inventory Income from Sat $ 4,800 (1,000) $ 3,800 * 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 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-23 * 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 Solution P8-8 (continued) Pop Corporation and Subsidiary Consolidation Working Papers for the year ended December 31, 2009 Pop Income Statement Sales $ 112,000 Income from Sat Cost of sales 3,800 60,000 * Operating expenses Consolidated net income Noncontrolling int share 25,100 * Controlling share of NI $ 30,700 Retained Earnings Retained earnings — Pop Retained earnings — Sat Net income Dividends Retained earnings December 31 Balance Sheet Cash Accounts receivable Note receivable Inventories Plant assets — net Investment in Sat Adjustments and Eliminations Sat 80% $ 50,000 a 12,000 c 37,500 b 3,800 20,000 * d 1,000 6,000 * f $ $ $ $ 20,000 e 20,000 24,000ü 10,000 * 40,700 $ 34,000 $ 5,100 10,400 5,000 30,000 88,000 82,200 $ 7,000 17,000 10,000 16,000 60,000 b 54,000 * $ 26,600 * 31,900 1,200 * 30,700 $ 30,000 1,200 24,000 $ 112,500 a 12,000 c 15,000 c 4,500 30,000 30,700ü 20,000 * Consolidated Statements 30,700 b c f 4,000 5,000 1,000 G 6,000 d 1,000 20,000 * $ 40,700 $ 12,100 21,400 15,000 45,000 148,000 200 e 82,400 Goodwill e 20,000 Accounts payable Notes payable Capital stock $ 220,700 $ 110,000 $ 15,000 25,000 140,000 $ 16,000 10,000 50,000 $ g 6,000 e 50,000 $ 20,000 261,500 25,000 35,000 140,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-24 Consolidations — Changes in Ownership Interests Retained earnings $ 40,700ü 220,700 $ Noncontrolling interest — beginning Noncontrolling interest December 31 34,000ü 110,000 40,700 c 13,000 e 7,600 f 200 $ * 20,800 261,500 Deduct © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-25 Solution P8-9 Supporting computations: Fair value — book value differential Investment cost $175,000 Implied total fair value of Sid ($175,000 / 70%) Less: Book value of Sid ($250,000 equity on January plus $10,000 net income (1/4 year) less $10,000 dividends) Fair value — book value differential $250,000 250,000 Allocation of Sid’s reported net income Parent company ($40,000 × 3/4 year × 70%) Preacquisition income ($40,000 × 1/4 year × 70%) Noncontrolling interest share ($40,000 × year × 30%) Sid’s net income $ 21,000 7,000 12,000 $ 40,000 Pal’s income from Sid Equity in Sid’s income $ 21,000 Constructive gain on parent’s bonds Note 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 less $102,850 on December 31) 2,850 Recognition of constructive gain on separate books ($2,850 × 6/114 months) Gain on intercompany sale of equipment — downstream [$30,000 - ($36,000/2)] (150) (12,000) Piecemeal recognition of gain on equipment — downstream ($12,000/3 years × 1/2 year) Gain on intercompany sale of land — upstream ($10,000 - $8,000 cost) × 70% Income from Sid 2,000 (1,400) $ 12,300 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-26 Consolidations — Changes in Ownership Interests Solution P8-9 (continued) Worksheet entries in journal form a b c d e f g h i Income from Sid 12,300 Dividends - Sid Investment in Sid common Eliminate intercompany post-acquisition earnings and dividends and return Investment to beginning balance Sales * 37,500 Cost of sales * Dividends – Sid* Retained earnings - Sid 50,000 Common stock - Sid 200,000 Investment in Sid - common Noncontrolling interest Eliminate preacquisition earnings and dividends Eliminate Sid’s equity accounts, the investment account and establish beginning noncontrolling interest Gain on plan assets 12,000 Plan assets Eliminate intercompany gain on sale of equipment Gain on plan assets 2,000 Plan assets Eliminate intercompany gain on sale of land Interest income 5,850 Interest expense Gain on bond retirement Investment in Pal bonds Bonds payable 100,000 Premium on bonds 5,400 Record constructive retirement of bonds payable Interest payable 6,000 Interest receivable Eliminate reciprocal interest accounts Other current liabilities 7,000 Other current assets Eliminate reciprocal for unpaid intercompany dividends Noncontrolling interest share 8,400 Dividends - Sid Noncontrolling interest Record noncontrolling interest share of earnings and post-acquisition dividends Plan assets 2,000 Expenses Eliminate excess depreciation on equipment 7,000 5,300 27,500 10,000 175,000 75,000 12,000 2,000 5,700 2,850 102,700 6,000 7,000 3,000 5,400 2,000 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-27 Solution P8-9 (continued) Pal Corporation and Subsidiary Consolidation Working Papers for the year ended December 31, 2009 Pal Income Statement Sales Income from Sid Gain on bonds Gain on plant assets $ 287,100 12,300 200,000* 100,000 Retained Earnings Retained earnings — Pal $ 250,000 2,000 c d e 12,000 2,000 5,850 117,850* $ 40,000 $ 50,000 100,000ü 50,000* 300,000 $ 70,000 $ 17,000 $ 4,000 6,000 60,000 20,000 107,300 Plant assets — net Investment — Sid common 180,300 b Investment — Pal bonds 950,000 $ 6,000 38,600 100,000 5,400 500,000 300,000ü $ 950,000 Noncontrolling interest ($250,000 × 30%) Noncontrolling interest December 31 $ $ a 2,850 e b i 5,700 27,500 2,000 30,000 399,600 2,850 5,700* 288,350* 106,400 8,400* $ 100,000 $ 250,000 100,000 a b h f i 2,000 7,000 10,000 3,000 50,000* $ 300,000 $ 21,000 6,000 200,000 123,000 g 7,000 c 12,000 d 2,000 a 5,300 b 175,000 e 102,700 300,000 200,000 70,000ü $ $ 50,000 102,700 $ Consolidated Statements 8,400 40,000ü 20,000* $ 140,000 110,000 502,700 ($268,000 × 30%) 37,500 12,300 h Retained earnings — Sid Net income Dividends Interest payable Other current liabilities 12% bonds payable Premium on bonds Common stock Retained earnings b a 5,850 $ Balance Sheet Cash Interest receivable Inventories Other current assets 150,000 11,400* Consolidated NI Noncontrolling int share Controlling share of NI Retained earnings December 31 $ 12,000 Interest income Interest expense Expenses — includes cost of goods sold Adjustments and Eliminations Sid 70% f 6,000 g 7,000 e 100,000 e 5,400 b 200,000 598,000 $ 942,000 $ 61,600 500,000 300,000 300,000 b 75,000 i 5,400 80,400 $ 942,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-28 Consolidations — Changes in Ownership Interests Solution P8-10 Supporting computations: Investment cost of 70% interest $420,000 Implied total fair value of Sam ($420,000 / 70%) Book value of Sam Goodwill $600,000 500,000 $100,000 Investment cost of 10% interest $ 67,500 Implied total fair value of Sam ($67,500 / 10%) Book value of Sam: Beginning equity January 1, 2010 Add: Income for 1/2 year Less: June dividends Book value at July 1, 2010 Goodwill (unchanged) $675,000 Investment in Sam account: Investment cost January 1, 2009 Add: 2009 share of retained earnings increase ($50,000 × 70%) Less: Unrealized profit in ending inventory Less: Unrealized gain on land Investment balance December 31, 2009 Add: Investment cost of 10% interest Add: Income from Sam for 2010 $100,000 × 70% interest × year $100,000 × 10% interest × 1/2 year Add: Beginning inventory profits Less: Ending inventory profits Less: Gain: intercompany sale machinery Add: Piecemeal recognition of gain ($40,000/5 × 1/2 year) Less: Dividends from Sam ($25,000 × 70%) + ($25,000 × 80%) Investment balance December 31, 2010 $550,000 50,000 (25,000) 575,000 $100,000 $420,000 $ 35,000 (5,000) (8,000) 22,000 $442,000 67,500 $ 70,000 5,000 5,000 (6,000) (40,000) 4,000 38,000 (37,500) $510,000 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-29 Solution P8-10 (continued) Poco Corporation and Subsidiary Consolidation Working Papers for the year ended December 31, 2010 (in thousands) 80% Sam Poco Income Statement Sales Income from Sam Gain on machinery Cost of sales $ 900 38 40 400* Depreciation expense Other expenses Consolidated net income Noncontrolling int share Controlling share of NI $ 328 Retained Earnings Retained earnings — Poco $ 155 Balance Sheet Cash Accounts receivable Dividends receivable Inventories Other current items Land 500 300* 90* 160* $ 100 $ 250 283 $ 300 $ 20 130 20 90 20 50 60 $ 80 30 1,000 $ 177 100 140 300 283ü $1,000 Noncontrolling interest, January Noncontrolling interest, December 31 * $ 725 $ 40 25 60 300 300ü $ 48 653* 146* 200* 353 25* $ 328 $ 155 328 b e g 100 Goodwill a b d f h g 320 510 $1,352 g 250 70 80 40 105 100 Consolidated Statements 25 100ü 50* $ Machinery — net Investment in Sam 48 38 40 60* 40* 328ü 200* Buildings — net Accounts payable Dividends payable Other liabilities Capital stock, $10 par Retained earnings a f d c h Retained earnings — Sam Controlling share of NI Dividends Retained earnings December 31 $ Adjustments and Eliminations 37.5 10 2.5 i j c 25 20 e d 36 200* $ 283 $ 100 135 154 100 82 165 384 g 522.5 f 100 $1,220 i j 25 20 $ g 300 192 105 200 300 283 725 g 125 h 140 $1,220 Deduct © 2009 Pearson Education, Inc publishing as Prentice Hall 8-30 Consolidations — Changes in Ownership Interests Solution P8-11 Preliminary computations: Investment cost of 85% of Sly August 1, 2009 $522,750 Implied fair value of Sly ($522,750 / 85%) Book value August 1, 2009: Capital stock Retained earnings Add: Income for months Less: Dividends for 1/2 year Stockholders’ equity August 1, 2009 Fair value – book value differential $615,000 $500,000 100,000 35,000 (20,000) 615,000 $ Investment cost August 1, 2009 Equity in income $60,000 × 5/12 year × 85% Less: Deferred inventory profit from upstream sale $5,000 × 85% Less: Deferred profit from sale of equipment $10,000 profit - ($2,000 × 1/4 year) Income from Sly 2009 Less: Dividends from Sly $20,000 × 85% Investment in Sly December 31, 2009 $522,750 $ 21,250 (4,250) (9,500) 7,500 (17,000) $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%) = $29,750 Under SFAS No 160, pre-acquisition earnings and dividends are closed to retained earnings, and the consolidated income statement reports only postacquisition earnings Working paper entries: a Sales 60,000 Cost of sales To eliminate intercompany sales b Cost of sales Inventories To defer unrealized inventory profits 60,000 5,000 5,000 c Sales 50,000 Cost of sales 40,000 10,000 Plant assets — net To eliminate intercompany sale of inventory item to be used as equipment d 500 Plant assets — net Operating expense 500 To record depreciation for 1/4 year on intercompany gain on plant asset © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-31 P8-11 (continued) e Income from Sly 7,500 Investment in Sly 9,500 Dividends 17,000 To eliminate income and dividends and return investment account to its beginning-of-the-period balance f Capital stock 500,000 Retained earnings 100,000 Investment in Sly 522,750 Noncontrolling 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 17,000 Dividends receivable 17,000 To eliminate reciprocal dividends receivable and payable amounts h Noncontrolling Interest Share 3,000 Dividends 3,000 To enter Noncontrolling Interest share of subsidiary postacquisition income and dividends Alternative to entry c: Sales Cost of sales Cost of sales Plant assets — net 50,000 50,000 10,000 © 2009 Pearson Education, Inc publishing as Prentice Hall 10,000 8-32 Consolidations — Changes in Ownership Interests Solution P8-11 (continued) Pak Corporation and Subsidiary Consolidation Working Papers for the year ended December 31, 2009 Pak Income Statement Sales $ 910,000 Income from Sly Cost of sales 7,500 500,000* Operating expense 200,000* Consolidated net income Noncontrolling int share Controlling share of NI $ Retained Earnings Retained earnings — Pak Retained earnings — Sly Net income Dividends Retained earnings December 31 Balance Sheet Cash Dividends receivable Accounts receivable Inventories Plant assets — net Investment in Sly Accounts payable Dividends payable Capital stock Retained earnings $ $ 217,500 $ a 60,000 c 50,000 f 233,333 $ e 7,500 250,000* b 5,000 a 60,000 c 40,000 f 145,833 90,000* d 500 f 52,500 60,000 100,000 f 100,000 60,000ü 40,000* e f h 966,667 509,167* 237,000* $ 220,,500* 3,000* 217,500 $ 192,500 3,000 192,500 217,500ü 100,000* Consolidated Statements 400,000 h $ $ Adjustments and Eliminations Sly 85% 217,500 17,000 20,000 3,000 100,000* 310,000 $ 120,000 $ 310,000 33,750 17,000 120,000 300,000 880,000 513,250 $1,864,000 $ 10,000 $ 43,750 $ 730,000 $2,049,250 $ $ 90,000 20,000 g 17,000 500,000 f 500,000 120,000ü 730,000 $ $ 154,000 g 70,000 150,000 500,000 1,400,000 310,000ü $1,864,000 $ Noncontrolling interest January Noncontrolling interest December 31 d e 17,000 190,000 445,000 1,370,500 b 5,000 500 c 10,000 9,500 f 522,750 f 244,000 3,000 1,400,000 310,000 92,250 92,250 $2,049,250 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-33 © 2009 Pearson Education, Inc publishing as Prentice Hall 8-34 Consolidations — Changes in Ownership Interests Solution P8-12 Indirect Method Poff Corporation and Subsidiary Consolidated Statement of Cash Flows for the year ended December 31, 2010 Cash Flows from Operating Activities Consolidated net income – controlling share Adjustments to reconcile net income to cash provided by operating activities: Noncontrolling interest share Depreciation expense Decrease in accounts receivable Decrease in prepaid expenses Decrease in accounts payable Increase in inventories Gain on sale of 10% interest * $300,000 $ 22,000 528,000 2,500 20,000 (203,500) (130,000) (5,700) Net cash flows from operating activities Cash Flows from Investing Activities Purchase of equipment Sale of 10% interest in subsidiary 533,300 $(100,000) 72,700 Net cash flows from investing activities Cash Flows from Financing Activities Cash paid on long-term note Payment of cash dividends — controlling Payment of cash dividends — noncontrolling Net cash flows from financing activities 233,300 (27,300) $(300,000) (200,000) (10,000) (510,000) Decrease in cash for 2010 Cash on hand January 1, 2010 Cash on hand December 31, 2010 (4,000) 50,500 $ 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 © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-35 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 Year’s Change Asset Changes Cash Accounts receivable — net Inventories Prepaid expenses Equipment Accumulated depreciation Land and buildings Accumulated depreciation Total asset changes Changes in Equities Accounts payable Dividends payable Long-term note payable Common stock Retained earnings Noncontrol int 20% Debit Credit Cash Flows Cash Flows Cash Flows from Investing Financing Operations Activities Activities (4,000) (2,500) 130,000 (20,000) 90,000 (498,000) e 2,500 k 130,000 l 20,000 h 10,000 g 100,000 f 500,000 h 2,000 (28,000) f 28,000 (332,500) (203,500) (300,000) 100,000 71,000 Changes in equities (332,500) Consolidated net income Noncontrolling int share Purchase of equipment Depreciation — equipment and buildings Gain - sale of 10% subsidiary Interest Decrease in accounts receivable Increase in inventories Decrease in prepaid expenses Decrease in accounts payable Cash paid on long-term note Paid dividends — controlling Paid dividends —n oncontrol Sale of 10% interest in Subsidiary i 203,500 j 300,000 a 300,000 c 200,000 b 22,000 d 10,000 h 59,000 a 300,000 b 22,000 300,000 22,000 g 100,000 (100,000) f 528,000 h 5,700 e 2,500 l 20,000 k 130,000 i 203,500 j 300,000 c 200,000 d 10,000 528,000 (5,700) 2,500 (130,000) 20,000 (203,500) (300,000) (200,000) (10,000) h 72,700 1,890,700 1,890,700 72,700 533,300 (27,300) (510,000) © 2009 Pearson Education, Inc publishing as Prentice Hall 8-36 Consolidations — Changes in Ownership Interests 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 © 2009 Pearson Education, Inc publishing as Prentice Hall ... 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 not affect the amounts... 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 Treasury stock transactions by. .. accounts are affected © 2009 Pearson Education, Inc publishing as Prentice Hall Chapter 8-3 SOLUTIONS TO EXERCISES Solution E8-1 Allocation of Sweet’s net income: Controlling share of income ($100,000