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CHAPTER 6. THE PURCHASE METHOD: POSTACQUISITION PERIODS AND PARTIAL OWNERSHIPS. FOCUS OF CHAPTER 6. Consolidation Worksheets: 100% Ownerships — Post acquisition Periods The Purchase Method: Partial Ownerships Conceptual issues Analyzing cost

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chapter 6

CHAPTER 6

THE PURCHASE METHOD:

POSTACQUISITION PERIODS

AND PARTIAL OWNERSHIPS

focus of chapter 6
FOCUS OF CHAPTER 6
  • Consolidation Worksheets: 100% Ownerships—Postacquisition Periods
  • The Purchase Method: Partial Ownerships
    • Conceptual issues
    • Analyzing cost
  • Consolidation Worksheets: Partial Ownerships
    • At the Acquisition Date
    • Postacquisition Periods
postacquisition subsidiary earnings the only reportable earnings under the purchase method
Postacquisition Subsidiary Earnings: The Only Reportable Earnings Under The Purchase Method
  • ONLY the subsidiary’s postacquisition earnings are reported in the consolidated financial statements.
  • The subsidiary’s preacquisitionearnings(included in its retained earnings account) are ALWAYSeliminated against the parent’s Investment account in consolidation.
parent s amortization of cost in excess of book value how handled
Parent’s Amortization of Cost in Excess of Book Value: How Handled?
  • Non-Push-Down Accounting:
    • Equity Method:
      • Recorded in parent’sgeneral ledger.
      • Maintains built-in checking features.
    • Cost Method:
      • Recorded on consolidation worksheets.
  • Push-Down Accounting:
    • Parent has no amortization—sub records it.

GL

parent s amortization of excess cost what is sub s true earnings
Parent’s Amortization of Excess Cost: What is Sub’s True Earnings?
  • Non-Push-Down Accounting: Sub’s reported net income (based on OLD BASIS)........... $24,000 Less—Parent’s amortization of excess cost................. (8,000) Sub’s true net income (based on NEW BASIS)......... $16,000
  • Push-Down Accounting: Sub’s reported net income....... $16,000
liquidating dividends a special situation
Liquidating Dividends: A Special Situation
  • Because an acquired subsidiary usually has a retained earnings balance at the acquisition date, a unique issue arises for acquired subsidiaries: HOW TO REPORT DIVIDENDS THAT ARE IN EXCESS OF THE SUBSIDIARY’S POSTACQUISITION EARNINGS?
    • Such dividends are called liquidating dividends.
liquidating dividends they differ from regular dividends
Liquidating Dividends: They Differ From “Regular” Dividends
  • Dividendsin excess ofpostacquisition earnings are a return of the parent’s original investment.
  • Parent’s Accounting Treatment:
    • CREDIT to the Investment account under:
      • Equity method (the usual treatment).
      • Cost method (the usual treatmentis to credit Dividend Income).
liquidating dividends acquired vs created subsidiaries
Liquidating Dividends: Acquired vs. Created Subsidiaries
  • Can a createdsubsidiary declare a liquidating dividend?

NO

  • No such thing exists for a created subsidiary.
liquidating dividends what is their significance for tax
Liquidating Dividends: What Is their Significance for Tax?
  • A central issue in taxation is whether a distribution to a shareholder is a dividend or a return of capital.
  • The concept of “EARNINGS & PROFITS” (E & P) exists in the Internal Revenue Code for making this determination.
goodwill it must be assigned to a reporting unit
Goodwill: It Must be Assignedto a “Reporting Unit”
  • A reporting unit is (1) an “operating segment” (as defined in FAS 131) or (2) one level below an operating segment.
  • The reporting unit could be:
    • The acquired business alone (the subsidiary or division).
    • The acquired business and the parent combined.
    • The acquired business and one or more of the parent’s other subsidiaries or divisions.
testing goodwill for impairment a two step process
Testing Goodwill for Impairment:A Two-Step Process
  • Step 1: Is the reporting unit’s fair value (FV) below the reporting unit’s carrying value (CV)?
    • If NO, stop. If YES, perform step 2.
testing goodwill for impairment a two step process12
Testing Goodwill for Impairment:A Two-Step Process
  • Step 2: Calculate the “implied value” of goodwill as follows:
    • On a memo basis, allocate the reporting unit’s FV to its assets and liabilities in a “purchase price allocation fashion.”
    • Excess of reporting unit’s FV over FV of assets/liabilities (as allocated) is “implied goodwill” of the reporting unit. (Thus implied GW is residually determined.)
testing goodwill for impairment a two step process13
Testing Goodwill for Impairment:A Two-Step Process
  • Step 2 (cont.)
    • If the implied FV of GW is less than the carrying value of GW, the excess carrying value is the GW impairment loss to be reported.
    • Report any GW impairment loss in earnings—as a separate line item, if material.
testing goodwill for impairment a two step process14
Testing Goodwill for Impairment:A Two-Step Process
  • Goodwill Impairment Test—How Often?
    • At least annually.
    • At interim periods when certain “triggering events” occur that indicate that goodwill of a reporting unit may be impaired.
testing goodwill for impairment a two step process15
Testing Goodwill for Impairment:A Two-Step Process
  • The Annual GW Impairment Test—It does not require a formal FV determination each year if:
    • Components of the reporting unit have not changed significantly.
    • Previous FV of the reporting unit exceeded its CV by a substantial margin.
    • The likelihood that the reporting unit’s FV is less than its CV is remote.
goodwill determining the reporting unit s fair value
Goodwill: Determining the“Reporting Unit’s” Fair Value
  • The following items are included in determining the reporting unit’s fair value:
    • Tangible net assets.
    • Recognized intangible assets.
    • Unrecognized intangible assets.
partial ownerships the purchase method partial or full valuation
Partial Ownerships: The Purchase Method—”Partial” or “Full “Valuation
  • Extent of Revaluation of Undervalued Assets and Goodwill:
    • Parent Company Concept: Partial valuation (could be anywhere from 51% to 99%)

Economic Unit Concept: Full valuation

partial ownerships the purchase method undervalued assets
Partial Ownerships: The Purchase Method—Undervalued Assets
  • Extent of Revaluation of Subsidiary’s Undervalued Assets:
    • Parent company concept..... < 100% of CV
      • Revalued only to the extent of the parent’sOWNERSHIP INTEREST.
    • Economic unit concept........ 100% of CV
      • The offsetting credit for the additional valuation increases the NCI in the consolidated B/S.
partial ownerships the purchase method goodwill
Partial Ownerships:The Purchase Method—Goodwill
  • Extent of Valuation of Goodwill:
    • Parent company concept................. < 100%
      • Valued only to the extent it is bought and paid for by the parent.
    • Economic unit concept.................... 100%
      • The offsetting credit for the additional valuationincreases the NCI in the consolidated B/S.
review question 1
Review Question #1

A parent records amortization of cost in excess of book value under which method?

A. Push-down basis of accounting.

B. Non-push down basis of accounting.

C. Both A and B.

D. None of the above.

review question 1 with answer
Review Question #1With Answer

A parent records amortization of cost in excess of book value under which method?

A. Push-down basis of accounting.

B. Non-push down basis of accounting.

C. Both A and B.

D. None of the above.

review question 2
Review Question #2

A parent charges the amortization of its cost in excess of book value to:

A. Goodwill expense.

B. Excess cost expense.

C. Excess cost & goodwill expense.

D. Equity in net income of subsidiary.

E. None of the above.

review question 2 with answer
Review Question #2With Answer

A parent charges the amortization of its cost in excess of book value to:

A. Goodwill expense.

B. Excess cost expense.

C. Excess cost & goodwill expense.

D. Equity in net income of subsidiary.

E. None of the above.

review question 3
Review Question #3

A special type of dividend that can occur only with an acquired subsidiary is a:

A. Treasury stock dividend.

B. Liquidating dividend.

C. Deemed dividend.

D. Constructive dividend.

E. None of the above.

review question 3 with answer
Review Question #3With Answer

A special type of dividend that can occur only with an acquired subsidiary is a:

A. Treasury stock dividend.

B. Liquidating dividend.

C. Deemed dividend.

D. Constructive dividend.

E. None of the above.

review question 4
Review Question #4

When a liquidating dividend occurs, the parent credits which account?

A. Retained earnings.

B. Dividend income.

C. Investment in subsidiary

D. Liquidating dividend income.

E. None of the above.

review question 4 with answer
Review Question #4With Answer

When a liquidating dividend occurs, the parent credits which account?

A. Retained earnings.

B. Dividend income.

C. Investment in subsidiary.

D. Liquidating dividend income.

E. None of the above.

review question 5
Review Question #5

Goodwill’s book value is $90,000 and its implicit value is $60,000. The reporting unit’s carrying value is $800,000 and its fair value is $810,000. What is the goodwill impairment write-down?

A. Zero.

B. $10,000.

C. $20,000.

D. $30,000.

D. $50,000.

review question 5 with answer
Review Question #5With Answer

Goodwill’s book value is $90,000 and its implicit value is $60,000. The reporting unit’s carrying value is $800,000 and its fair value is $810,000. What is the goodwill impairment write-down?

A. Zero. (Step 2 was not needed)

B. $10,000.

C. $20,000.

D. $30,000.

D. $50,000.

review question 6
Review Question #6

Under which concept is goodwill imputed to the noncontrolling interest for consolidated financial reporting purposes?

A. The economic unit concept.

B. The parent company concept.

C. Both A and B.

D. None of the above.

review question 6 with answer
Review Question #6With Answer

Under which concept is goodwill imputed to the noncontrolling interest for consolidated financial reporting purposes?

A. The economic unit concept.

B. The parent company concept.

C. Both A and B.

D. None of the above.

end of chapter 6
End of Chapter 6
  • Time to Clear Things Up—Any Questions?