stock acquisition homework help

Module1 – Business Combination and Consolidation

Stock Acquisition – Consolidated Financial Statements – AFTERDateofAcquisition

Instructor Comment:The followinglesson module was developed to assist students in their understandingofthe corresponding subject matterin the coursetextbook. The followingis nota replacementfor thedetailedpresentation providedby theauthors ofthe text, but instead is an attempt to providestudents with a pragmaticdirect review with heavyemphasis on process.

Myrecommendation is to approach the coursematerial in the followingsequence.

1. Read/studytheassignedcorrespondingsections of thetext.

2. Read the “Chapter Review” (PowerPoint)posted in D2L.

3. Read/completethe correspondinginstructordeveloped “InstructorSubject Matter Presentation” (THIS DOCUMENT)posted in D2L.

4. Completethe assigned text questions, exercises and problems (author recommended solutions for assigned odd exercises posted in D2L).

5. Reviewthe correspondinginstructordeveloped“InstructorProblemSolving Modules”posted in D2L.

As discussed inISMP #1(DateofAcquisition) forstock acquisitions wheresignificant influence and control exist, the acquirer (parent)is required bytheSEC, for financialreportingpurposes, to consolidatethe acquired company(subsidiary).Wediscussed a3-StepProcess(below)to be followed in the creationof consolidated financialstatements. The same3-Step Process is appliedin Stock Acquisition –AfterDateofAcquisition but involves increasedcomplexitydueto the fact that timehas passed(ongoingoperations ofthe acquired companymust be consolidated).

Unlikethe accountingforstock acquisitions as ofthedateofacquisition (which required the preparation of the consolidated balancesheet only)the accounting for stock

acquisitionsafterthedateof acquisition requireconsolidation for all financial statements (incomestatement, statement of retainedearnings, balancesheet and statement of cash flows). The focus ofthisISMP will beon theincomestatement, statement of retained earningsand the balancesheet.

3-Step Process:

Step 1 – Assess theBusiness Scenario Step 2 – PreparetheCAD

Step 3 – Determine Workpaper Entries

Note:RefertoISMP#1forfurtherdetail.

The first two steps ofthethreestep process arethesame forstockacquisitions on thedateof acquisition as theyareforstock acquisitions afterthedateofacquisition. The keychanges take placein Step 3.

Step3- Determine theRequired Workpaper Entries

•Complete Financial Statement(s)

To determinetherequired workpaper entriesforstock acquisitions afterthedateofacquisition themethod of accounting used bytheparent companyfortheInvestment in Subsidiarymust be determined. Thecompanyhas two accountingoptions formaintaining theinvestment in subsidiaryaccount, the “Cost Method”orthe “Equity Method.”The accounting method used dictates the workpaper entries requiredfor consolidation.In eithercase, the resulting consolidated financial statements areidentical. Thekeyto accurate consolidated financial statements is thedevelopment and application ofthe appropriate workpaper entries.

RECORDING ANDMAINTAININGTHE INVESTMENT INSUBSIDIARY

COST METHOD

RecordingtheinitialInvestment in Subsidiaryis the same whethertheCost Method orthe EquityMethod is applied.

Account	Debit	Credit
Investmentin Subsidiary	$1,000,000
*Cash		$1,000,000

* - Themethod ofpayment in this exampleis cash, but othersources of funds could also beused

to payfortheinvestment(i.e. issuanceofstock).

MaintainingtheInvestment in Subsidiaryis wheresignificant differencesexist between the Cost Method and EquityMethod, creatingtheneed for different workpaperentries. Maintaining

the“Investment in Subsidiary” account using theCost Methodcould bedescribedas NOT maintainingthe“Investment in Subsidiary”account. UndertheCost Method thereis no adjustment to the“Investment in Subsidiary”account balance(with the exception ofinstances wherealiquidatingdividend occurs). Thus, theonlyinvestment related entry,aftertheinitial investment (purchase) entry, is therecordingofdividend income.

When adividend is received theparent companymakes the followinginvestment related entry:

Account	Debit	Credit
Cash	$40,000
Dividend Income		$40,000

Asyoucan see bythe entryabovetheinvestment in subsidiaryaccount is not affected. Therefore, thebalanceoftheinvestment in subsidiaryremains at theinitial investment cost recorded on the dateofacquisition.

EQUITYMETHOD

RecordingtheinitialInvestment in Subsidiaryis the same whethertheCost Method orthe EquityMethod is applied.

Account	Debit	Credit
Investmentin Subsidiary	$1,000,000
*Cash		$1,000,000

* - Themethod ofpayment in this exampleis cash, but othersources of funds could also beused

to payfortheinvestment(i.e. issuanceofstock).

Maintainingthe“Investment in Subsidiary”account usingtheEquity Method of accounting could bedescribed as a continuous effort to maintain an accuratevaluationfor reporting purposes. The EquityMethod attempts to account for all income and dividends (based on the ownership %)recorded by thesubsidiary. Essentially, the changein theinvestment in subsidiary balancereflects the truevalueoftheinvestment assumingincomeless dividends is atrue reflection ofvalue change.

Therefore, the investment related entries,aftertheinitial investment (purchase) entry, is the recordingofincome anddividends. The recording ofincomeis accounted for usingthe followingentry(assume thesubsidiaryis 80% owned and had incomeof$250,000):

Account	Debit	Credit
Investmentin Subsidiary	$200,000
Equity in Subsidiary Income		$200,000

Clearly, the aboveentryimpacts the investment in subsidiaryaccount balance (increasingthe account balanceby$200,000).

The accounting fordividend declared and paid follows thesamelogic.Iftheparentcompanyis receivingdividends, the parent is essentiallytakingvalueout of theinvestment. The recording ofdividendreceived is accounted forusing thefollowingentry(assume thesubsidiaryis 80% owned and declared adividend of$50,000):

Account	Debit	Credit
Cash	$40,000
Investmentin Subsidiary		$40,000

Clearly, the aboveentryimpacts the investment in subsidiaryaccount balance (decreasingthe account balanceby$40,000).

Q1.– Calculation – What it the “Investment in Subsidiary”account balance at the end ofthe year (in theexample above)usingtheCost Method and EquityMethod?

WORKPAPERENTRIES – ELIMINATIONOFTHE INVESTMENTINSUBSIDIARY

Theinvestment relatedentries (discussed above)must betaken into account when developing workpaper entries. Theworkpaperentries essentiallyeliminatetheinvestment in subsidiary(key offset is the equityaccounts ofthesubsidiary)which upon elimination allows forthe consolidation of theparent and subsidiary,whichcombines the related incomestatement, statement of retained earnings, and balancesheetaccounts oftheparentand subsidiary.

COST METHOD

Workpaper entriesrequired fortheCost Methodmust account for all oftheinvestment entries made (ornot made)to theinvestment in subsidiaryaccount. Inaddition, fortheCost Method, thetimingofthe consolidation impacts the application ofthe workpaperentries. The two time periods arethe Yearof Acquisition and After Yearof Acquisition.

Cost Method -YearofAcquisition–Is thefirstyearofownership of thesubsidiary. Thus, ifthe subsidiarywas purchasedon January1, 2010 andwe are reporting fortheyear endingDecember31, 2010, we would bereportingYearof Acquisition.

Assumethefollowing baseinformation:

COST METHOD USEDBYPARENT
REALEntry			Debit	Credit
Jan.1,2010	InvestmentinSubsidiary	$	500,000
			Cash		$	500,000
		Purchased80%ofsubsidiary.

SubsidiaryEquityPositionasof1/1/2010:
CommonStock	$ 10,000
APIC		$ 300,000
RetainedEarnings	$ 240,000
		$ 550,000

CAD
80%	Ownership		80%	20%		100%
			Parent	NCI		TotalImplied
	FairValueGiven Up	$	500,000	$	125,000		$	625,000
	BookValueReceived	$	440,000	$	110,000		$	550,000
	Difference		$	60,000	$	15,000		$	75,000
	Land		$	60,000	$	15,000		$	75,000
	Balance		$	-	$	-		$	-

				100%		80%
During2010,Subsidiarydeclareddividendsintheamountof	$	50,000		$	40,000
During2010,Subsidiaryhadnetincomeinthe amountof	$	250,000		$	200,000
SubsidiaryRetainedEarningsasof12/31/2009was	$	240,000

For theYearof Acquisition–COSTMETHOD-thefollowingthree workpaperentries arerequired:

		1	Eliminate(parentsshare)ofcurrentyearsubsidiarydividendincome.
	REALEntry			Debit	Credit
			Cash		$ 40,000
				DividendIncome		$ 40,000
			WorkpaperEntry(1) Debit DividendIncome $ 40,000 DividendDeclared-Subsidiary		$	Credit 40,000

2 EliminatetheInvestmentinSubsidiaryaccountagainst(offsetby)thesubsidiary equityaccounts.
WorkpaperEntry(2) Debit Credit
A	CommonStock-Subsidiary		$ 10,000
A	APIC-Subsidiary		$ 300,000
B	RetainedEarnings-Subsidiary		$ 240,000
C	Difference			$ 75,000
D		InvestmentinSubsidiary			$ 500,000
E		NCI				$ 125,000
Notes:						Remember,100%ofthesub's equityaccount balancesneed tobeeliminated.
A	No changefromthedateofacquisition.
B	Weneedto eliminateREbalanceas ofthebeginnngofthecurrentyear.
C	Neverchanges.
D	Investment inSubsidiary(Investment AccountValueattheBeg.OftheCurrent Year)
E	NCI(NCIAccountValueat theBeg.OftheCurrentYear)

Q2. –Short Answer- The adjustment to the“Investment in Subsidiary” account is as ofthe beginningoftheyear. What is the logicorreasonthe adjustment is as ofthebeginningofthe year?