Professional Documents
Culture Documents
CHAPTER 7
CONSOLIDATED FINANCIAL STATEMENTS - OWNERSHIP
PATTERNS AND INCOME TAXES
Chapter Outline
I.
7-1
1. The cost paid to acquire the parent's stock is reclassified within the consolidation
process to a treasury stock account and no income is accrued.
7-2
2. The treasury stock approach is popular in practice because of its simplicity and is now
A.
B.
A.
B.
C.
A.
7-3
B.
If one company in a newly created combination has a tax carryforward, the future tax
benefits are recognized as a deferred income tax asset.
C.
However, a valuation allowance must also be recorded to reduce the deferred tax asset
to the amount that is more likely than not to be realized.
Answers to Questions
1.
2.
3.
Able100% of income accrues to the consolidated entity (as parent company).
Baker70% (percentage of stock owned by Able).
Carter56% (80% of stock owned by Baker multiplied by the 70% of Baker controlled by
Able).
Dexter33.6% (60% of stock owned by Carter multiplied by the 80% of Carter controlled by
Baker multiplied by the 70% of Baker owned by Able).
4. When an indirect ownership is present, the quantity of consolidation entries will increase,
perhaps significantly. An additional set of entries is included on the worksheet
for each separate investment. Furthermore, the determination of realized
income figures for each subsidiary must be computed in a precise manner. For
any company in both a parent and a subsidiary position, equity income accruals
are recognized prior to the calculation of that company's realized income. This
realized income total is significant because it serves as the basis for
noncontrolling interest calculations as well as the equity accruals to be
recognized by that company's parent.
5. In a connecting affiliation, two (or more) companies within a business combination own
shares in a third member. A mutual ownership, in contrast, exists whenever a
subsidiary possesses an equity interest in its own parent.
6.
In accounting for a mutual ownership, SFAS 160 requires the treasury stock approach.
The treasury stock approach presumes that the cost of the parent shares
should be reclassified as treasury stock within the consolidation process. The
subsidiary is being viewed, under this method, as an agent of the parent. Thus,
the shares are accounted for as if the parent had actually made the acquisition.
7-4
7. According to present tax laws, an affiliated group can be comprised of all domestic
corporations in which a parent holds 80 percent ownership. More
specifically, the parent must
8. own (directly or indirectly) 80 percent of the voting stock of the corporation as well as at
least 80 percent of each class of nonvoting stock.
9. Several basic advantages are available to combinations that file a consolidated tax
return. First, intra-entity profits are not taxed until realized. For companies
with large amounts of intra-entity transactions, the deferral of unrealized
gains causes a delay in the making of significant tax payments. Second,
losses incurred by one company can be used to reduce or offset taxable
income earned by other members of the affiliated group. In addition, intraentity dividends are not taxable but that exclusion applies to the members
of an affiliated group regardless of whether a consolidated or separate
tax return is filed.
Members of a business combination may be forced to file separate tax returns. Foreign
corporations, for example, must always file separately. Domestic companies that do not meet
the 80 percent ownership rule are also required to file in this manner. Furthermore,
companies that are in an affiliated group may still elect to file separately. If all companies
within the combination are profitable and few intra-entity transactions are carried out, little
advantage may accrue from preparing a consolidated return. With a separate filing, a
subsidiary has more flexibility as to accounting methods as well as its choice of a fiscal
year-end.
10. The allocation of income tax expense among the component companies of a business
combination has a direct bearing on realized income totals and, therefore,
noncontrolling interest calculations. Obviously, the more expense that is
assigned to a particular company the less realized income is attributed to
that concern. Income tax expense can be allocated based on the income
totals that would have been reported by various companies if separate tax
returns had been filed or on the portion of taxable income derived from
each company.
11. In filing a separate tax return (assuming that the two companies do not qualify as members
of an affiliated group), the parent must include as income the dividends
received from the subsidiary. For financial reporting purposes, however,
income is accrued based on the ownership percentage of the realized
income of the subsidiary. Because income is frequently recognized by the
parent prior to being received in the form of dividends (when it is subject
to taxation), deferred income taxes must be recognized.
Either the parent or the subsidiary might also have to record deferred income taxes in
connection with any unrealized intra-entity gain. On a separate tax return, such gains are
reported at the time of transfer while for financial reporting purposes they are appropriately
deferred until realized. Once again, a temporary difference is created which necessitates the
recognition of deferred income taxes.
7-5
12.
If the consolidated value of a subsidiarys assets exceeds their tax basis, depreciation
expense in the future will be less on the tax return than is shown for external
reporting purposes. The reduced expense creates higher taxable income and,
thus, increases taxes. Therefore, the difference in values dictates an anticipated
increase in future tax payments. This deferred liability is recognized at the time the
combination is created. Subsequently,
7-6
when actual tax payments do arise, the deferred liability is written off rather than
recognizing expense based solely on the current liability. In this manner, the
expense is shown at a lower figure, one that is matched with reported income
(which is also a lower balance because of the extra depreciation).
Recognition of this deferred liability at date of acquisition also reduces the net amount
attributed to the subsidiary's assets and liabilities in the initial allocation process. Therefore,
the residual asset (goodwill) is increased by the amount of any liability that must be
recognized.
13.
A net operating loss carryforward allows the company to reduce taxable income for
up to 20 years into the future. Thus, a benefit may possibly be derived from the
carryforward but that benefit is based on Wilson (the subsidiary) being able to
generate taxable income to be decreased by the carryforward. To reflect the
potential tax reduction, a deferred income tax asset is recorded for the total
amount of anticipated benefit. However, because of the uncertainty, unless the
receipt of this benefit is more likely than not to be received, a valuation allowance
must also be recorded as a contra account to the asset. The valuation allowance
may be for the entire amount or just for a portion of the asset.
14. At the date of acquisition, the valuation allowance was $150,000. As a contra asset
account, recognition of this amount reduced the net assets attributed to the
subsidiary and, hence, increased the recording of goodwill (assuming that the
price did not indicate a bargain purchase). If the valuation allowance is
subsequently reduced to $110,000, the net assets have increased by $40,000.
This change is reflected by a decrease in income tax expense.
Answers to Problems
1. D
2. B
3. D
4. C
5. C
6. C
7. A Damson's accrual-based income:
Operational income ....................................................................
Defer unrealized gain .................................................................
Damson's accrual-based income ........................................
Crimson's accrual-based income:
Operational income ....................................................................
Investment Income (90% of Damsons realized income) ........
Crimson's accrual-based income ........................................
7-7
$200,000
(40,000)
$160,000
$200,000
144,000
$344,000
$300,000
275,200
$575,200
$220,000
(60,000)
$160,000
20%
$32,000
$300,000
(30,000)
128,000
$398,000
20%
$79,600
$50,000
14,000
$64,000
10%
$6,400
$120,000
24,000
$96,000
(76,800)
$19,200
30%
$5,760
$30,000
20%
$6,000
25%
$1,500
7-8
$420,000
$400,000
(30,000)
370,000
$50,000
$252,000
108,000
360,000
(300,000)
$60,000
30 years
$2,000
14. (continued)
Consideration transferred for Leaf (by Limb) ...............
Noncontrolling interest fair value ..................................
Leafs business fair value ...............................................
Book value
.................................................................
Trade name........................................................................
Life ....................................................................................
Annual amortization ........................................................
$91,000
39,000
$130,000
(100,000)
$30,000
30 years
$1,000
a. Investment in Limb
Limb's reported income-2009
Amortization expense
Accrual-based income
Limbs percentage ownership
Equity accrual-2009
Dividends received 2009
Limb's reported income-2010
Amortization expense
Income from Leaf
Accrual-based income
Limbs percentage ownership
Equity accrual-2010
$252,000
$40,000
(2,000)
$38,000
70%
$26,600
(7,000)
$60,000
(2,000)
6,300
$64,300
70%
$45,010
7-9
(14,000)
$302,610
$10,000
(1,000)
$9,000
70%
$6,300
(1,400)
$4,900
$40,000
60,000
(4,000)
6,300
102,300
70%
71,610
(21,000)
$50,610
15. (continued)
c. Consolidated sales (total for the companies)
Consolidated expenses (total for the companies)
Total amortization expense (see a.)
Consolidated net income for 2011
d. Noncontrolling interest in income of Leaf
Revenues less expenses
Excess amortization
Accrual-based income
Noncontrolling interest percentage
Noncontrolling interest in income of Leaf
$30,000
(1,000)
$29,000
30%
7-10
$1,260,000
(1,025,000)
(3,000)
$232,000
$8,700
$24,990
$33,690
$64,300
10,000
(16,000)
$58,300
$83,300
16,000
(25,000)
$74,300
f.
$500,000
125,000
$625,000
600,000
$25,000
10 years
$2,500
$50,000
(2,500)
47,500
80%
$38,000
b. To the outside owners, the $6,000 intra-entity dividends ($20,000 30%) paid by
Uncle are viewed as income because the book value of Nephew is increasing.
Thus, the noncontrolling interest's share of income is $10,700 or 20% of
[$47,500 income ($50,000 operational income less $2,500 excess amortization)
7-11
$250,000
98,000
140,000
(22,500)
(8,000)
$457,500
$59,400
$29,620
$89,020
16. (Continued)
Mesas operating income
$250,000
Mesas share of Buttes operating income (80% $98,000)
78,400
Mesas share of Valleys operating income (80% 55% $140,000)
61,600
Mesas share of Buttes excess amortization (80% $22,500)
(18,000)
Mesas share of Valleys excess amortization (80% 55% $8,000)
(3,520)
Controlling interest in consolidated net income
$368,480
Noncontrolling interest in consolidated net income
89,020
Consolidated net income
$457,500
17. (30 Minutes) (Consolidated income figures for a connecting affiliation)
UNREALIZED GAINS:
Cleveland ($12,000 remaining inventory 25% markup) = $3,000
Wisconsin ($40,000 remaining inventory 30% markup) = $12,000
NONCONTROLLING INTERESTS:
CLEVELAND:
7-12
17. (continued)
Expenses
Dividend
above)
Controlling interest in consolidated net income = $350,380 (consolidated
net income less noncontrolling interest share)
18. (12 Minutes) (Acquisition accounting for a subsidiarys operating loss
carryforward)
a. Consideration transferred 1/1/11
Fair value of identifiable assets acquired:
7-13
$900,000
(continued)
$126,000
30%
$37,800
DOWN:
Reported income .............................................................
Tax rate ............................................................................
$100,000
30%
7-14
$30,000
$198,000
+18,000
$216,000
30%
$64,800
The $3,000 difference between the liability and the expense is an increase in the
Deferred Income Tax Asset account. It is created by the tax effect (30%) on the
net unrealized gain for the period ($10,000 or $40,000 $30,000).
20. (45 Minutes) (Series of questions requires computation of income tax expense
and the related payable balance)
a. $260,000 ($650,000 40%)
The affiliated group would be taxed on its operating income of $650,000 (the
net unrealized gain is deferred on a consolidated return). The intra-entity
income and dividends are not relevant since a consolidated return is filed.
b. $260,000 ($650,000 40%)
The affiliated group would be taxed on its operating income of $650,000 (the
net unrealized gain is deferred on a consolidated return). The intra-entity
income and dividends are not relevant because a consolidated return is filed.
The percentage ownership does not affect the figures on a consolidated
return.
20.(continued)
c. $296,000 ($96,000 + $200,000)
Rogers would pay $96,000 or 40% of its $240,000 operating income. Clarke
would pay $200,000 or 40% of its $500,000 operating income. The unrealized
gain is not deferred when separate returns are filed. Intra-entity dividends are
not taxable because the parties qualify as an affiliated group even though
separate returns are being filed. Answer (c.) differs from (a.) and (b.) because
tax on the $90,000 unrealized gain (40% or $36,000) is paid immediately.
d. $268,064
Rogers would record income tax expense of $96,000 or 40% of its $240,000
operating income.
7-15
Clarke must record its expense based on the revenue recognized during the
period. Thus, the tax expense is based on operating income of $410,000 (the net
unrealized gain is not being recognized in this period) plus equity income
accruing from Rogers of $100,800 (70% of that company's after-tax income).
Clarke will record an income tax expense of $164,000 in connection with the
operating income ($410,000 40%). The expense recognized in connection with
the equity accrual is affected by the dividends-received deduction:
Equity income of subsidiary............................................
Dividends-received deduction (when received) (80%).
Income subject to taxation .............................................
Tax rate ............................................................................
Income tax expenseequity income (Clarke) ..............
Income tax expenseoperating income (Clarke)
(above) .........................................................................
Income tax expenseoperating income (Rogers)
(above) .........................................................................
Income tax expense .........................................................
$100,800
80,640
$20,160
40%
$8,064
164,000
$172,064
96,000
$268,064
e. $204,480
Clarke will pay $200,000 in connection with its operating income ($500,000
40%) because the unrealized gain cannot be deferred. Clarke also receives
$56,000 in dividends from Rogers ($80,000 70%). Tax payment on these
dividends is $4,480 ($56,000 20% 40%). The difference between the payment
by Clarke ($204,480) and the company's expense in (d.) ($172,064) is created by
the premature payment of the tax (a deferred tax asset) on the unrealized gain
($90,000) less the deferred tax liability on the parent's equity accrual ($100,800)
in excess of dividends received ($56,000).
21. (20 Minutes) (Comparison of income tax expense and payable on separate and
consolidated tax returns.)
a. Consolidated Return2011
Piranto income 2011 (sales less expenses) .......................................
Slinton income 2011 (sales less expenses) .......................................
2010 gain realized in 2011.....................................................................
2011 deferred gain..................................................................................
Taxable income ................................................................................
Tax rate ..................................................................................................
Income tax payablecurrent ..........................................................
7-16
$300,000
100,000
120,000
(150,000)
$370,000
40%
$148,000
$300,000
120,000
(150,000)
$270,000
40%
$108,000
The $12,000 difference between the expense and the payable is the tax effect on
the net unrealized gain ($30,000 40%).
Slinton will have an expense and payable of $40,000 ($100,000 40%).
22. (45 Minutes) (Comparison of income tax expense and payable on separate and
consolidated tax returns. Includes question on mutual ownership and the
conventional approach.)
a. Total income tax expense is $156,877. Because of the level of ownership,
separate returns must be filed. Unrealized gains are taxed immediately as are
intra-entity dividends.
Because the unrealized gains are deferred on the consolidated financial
statements, Boxwood's expense would be $34,400 or 40% of $86,000 in realized
income ($100,000 + $18,000 $32,000).
Lake's income subject to taxation includes its $300,000 in operating income
plus $30,960 in income accruing from its investment in Boxwood (60% of the
after-tax income of $51,600 [$86,000 $34,400]). Income tax expense for Lake is
computed as follows:
7-17
$300,000
$30,960
20%
6,192
$306,192
40%
$122,477
34,400
$156,877
b. Boxwood will pay $40,000 ($100,000 40%) because separate returns are filed.
Lake, however, will pay its taxes based on dividends received rather than on the
equity accrual. A deferred income tax liability would be established for the
difference. Lake's payment for the current year is computed as follows:
Operating income.............................................................
Dividend income (60% $10,000) ..................................
Taxable portion ................................................................
Income currently taxable ................................................
Tax rate ............................................................................
Income tax payableLake ..............................................
Income tax payableBoxwood (above) .......................
Total income tax payable current ..................................
$300,000
$6,000
20%
1,200
$301,200
40%
$120,480
40,000
$160,480
22.(continued)
The $3,603 difference between the expense in a. and the payable in b. is created
by the following two effects:
Deferred income tax liability on equity income accrual not yet taxed
($30,960 $6,000 = $24,960 20% 40%)...................................
Deferred income tax asset on net unrealized gain
($32,000 $18,000 = $14,000 40%)............................................
Net decrease in expense.....................................................................
$1,997
5,600
$3,603
c. Because a consolidated tax return is filed, unrealized gains are deferred in the
same manner as for external reporting purposes. Dividend income is not
taxable.
Lake's operating income .................................................
Boxwood's operating income ........................................
Prior year unrealized gain ...............................................
Current year unrealized gain ..........................................
Income subject to taxation (and currently taxable)......
Tax rate .............................................................................
7-18
$300,000
$100,000
18,000
(32,000)
86,000
$386,000
40%
$154,400
23. (30 Minutes) (Computation of income tax expense and income tax payable on
consolidated and separate tax returns.)
a. Operating income ............................................................
Tax rate .............................................................................
Taxes to be paid ..............................................................
$450,000
40%
$180,000
The affiliated group would be taxed on its operating income of $450,000 (the
$50,000 unrealized gain is deferred). Intra-entity income and dividends are not
relevant because a consolidated return is filed.
b. Total taxes to be paid are $200,000. Robertson would have to pay $80,000 or
40% of its $200,000 operating income. Garrison would pay $120,000 or 40% of
its $300,000 operating income. The unrealized gain is not deferred because
separate returns are being filed. Intra-entity dividends are not taxable because
the parties still qualify as an affiliated group even though separate returns are
being filed.
c. Robertson must report an income tax expense of $80,000 or 40% of its $200,000
operating income.
23. (continued)
Garrison records its expense based on the revenue recognized during the
period. Thus, the expense is computed on an operating income of $250,000 (the
net unrealized gain is not recognized in this period) along with equity income
from Robertson of $84,000 (70% of that company's $120,000 after-tax income).
Garrison will record an income tax expense of $100,000 in connection with the
operating income ($250,000 40%) and $6,720 resulting from its equity income
($84,000 20% 40%). Total expense to be reported amounts to $186,720 for
Garrison and Robertson ($80,000 + $100,000 + $6,720).
d. Garrison will pay $120,000 in connection with its operating income ($300,000
40%) and $2,400 because of the dividends received from Robertson. Garrison
will receive $30,000 in dividends based on its 60% ownership. Of this total, only
$6,000 (20%) is taxable. Thus, at a 40% rate, the tax on the dividends would
amount to $2,400 ($6,000 40%). The total income taxes payable by Garrison is
$122,400 ($120,000 + $2,400).
24. (10 Minutes) (Impact on goodwill of assets with a different tax vs. book value.)
7-19
The assets and liabilities of Kew (the subsidiary) will be consolidated at their
individual fair values (netting to $500,000). However, both the buildings and
equipment have a tax basis that is lower than fair value. Thus, for tax purposes,
future depreciation expense will be lower on the tax return so that taxable
income will exceed book income. The higher taxable income (anticipated in the
future) creates a deferred tax liability at the time the combination is created.
Tax
Basis
$140,000
150,000
Buildings ..........................................
Equipment ........................................
Total temporary difference .......
Tax rate .......................................
Deferred tax liability ..................
Fair
Value
$180,000
200,000
Temporary
Difference
$40,000
50,000
$90,000
30%
$27,000
$110,000
130,000
100,000
180,000
200,000
24. (continued)
Liabilities...........................................................................
Deferred tax liability ........................................................
Assigned to specific accounts .......................................
Purchase price .................................................................
Excess assigned to goodwill .........................................
(220,000)
(27,000)
473,000
650,000
$177,000
7-20
CONSOLIDATION ENTRIES
Entry *G
Retained earnings, 1/1/11 (Wilson) ...........................
12,000
Cost of goods sold ...............................................
12,000
(To recognize income on intra-entity inventory transfers made in previous
year but not resold until current year as per above computation.)
Entry *C
Retained earnings, 1/1/11 (House) .................................
11,200
Investment in Wilson ............................................
11,200
(To convert investment account from partial equity method to equity method.
Unrealized gain shown in Entry *G is not properly reflected by parent under
partial equity method [12,000 70% = $8,400 income decrease] nor would the
$2,800 in amortization expense for 20092010. Thus, a reduction of $11,200 is
required. Because Cuddy is a current year acquisition, no prior conversion to
equity method is required for the investment.)
25. (continued)
Entry S1
Common stock (Cuddy) ..................................................
150,000
Retained earnings, 1/1/11 (Cuddy) .................................
150,000
Investment in Cuddy (80%).........................................
240,000
Noncontrolling interest in Cuddy common stock (20%)
60,000
(To eliminate Cuddy's stockholders' equity against the corresponding
investment balance and to recognize noncontrolling interest on common stock.)
Entry S2
Common stock (Wilson) .................................................
310,000
Retained earnings, 1/1/11 (Wilson)
(adjusted by Entry *G) ................................................
578,000
Investment in Wilson (70%) .................................
621,600
Noncontrolling interest in Wilson (30%) ............
266,400
(To eliminate Wilson's stockholders' equity against corresponding investment
balance and to recognize noncontrolling interest.)
Entry A
Buildings............................................................................
7-21
54,000
40,000
25. (continued)
Entry D2
Investment in Wilson .................................................
67,200
Dividends paid (70%) (Wilson) ............................
(To eliminate effects of intra-entity dividend payments.)
67,200
Entry E
Operating expenses ...................................................
2,000
Equipment .................................................................
5,000
Franchise contracts ..............................................
4,000
Buildings.................................................................
3,000
(To record 2011 amortization on excess payment made in connection with
acquisition of Wilson Company.)
Entry TI
Sales and other revenues ..........................................
200,000
Cost of goods sold ...............................................
(To eliminate intra-entity inventory sales for the current year.)
7-22
200,000
Entry G
Cost of goods sold ....................................................
Inventory.................................................................
(To defer unrealized gain in ending inventory.)
18,000
18,000
$70,000
20%
$14,000
7-23
$130,000
28,000
(2,000)
12,000
(18,000)
$150,000
30%
$ 45,000
25. (continued)
HOUSE CORPORATION AND CONSOLIDATED SUBSIDIARIES
Consolidation Worksheet
December 31, 2011
Accounts
Sales and other revenue
Cost of goods sold
Operating expenses
Income of Wilson Company
Income of Cuddy Company
Net income
Consolidated net income
Noncontrolling interest in
Wilson net income
Noncontrolling interest in
Cuddy net income
To House Corporation
Retained earnings, 1/1/11:
House Corporation
Wilson Company
Cuddy Company
Net Income
Dividends paid
House Corporation
Wilson Company
Cuddy Company
Retained earnings, 12/31/11
House
Corp.
Wilson
Company
Cuddy
Company
Consolidation EntriesNoncontrollingConsolidated
Debit
Credit
Interest
Balance
(900,000)
(700,000)
551,000
300,000
219,000
(91,000)
(28,000)
(249,000)
270,000
90,000 (E)
2,000
(I2) 91,000
(I1) 56,000
(70,000)
(28,000)
(158,000)
(1,700,000)
(*G) 12,000
(TI) 200,000
797,000
581,000
-0-0(322,000)
(820,000)
(590,000)
(249,000)
(158,000)
(45,000)
45,000
(14,000)
14,000
(263,000)
(*C) 11,200
(*G) 12,000
(S2)578,000
(150,000) (S1)150,000
(70,000)
(808,800)
-0-0(263,000)
100,000
96,000
(969,000)
(652,000)
7-24
50,000
(170,000)
(D2) 67,200
(D1) 40,000
28,800
10,000
100,000
-0-0(971,800)
25. (continued)
Accounts
House
Corp.
Wilson
Company
Cuddy
Company
Consolidation EntriesNoncontrollingConsolidated
Debit
Credit
Interest
Balance
220,000
390,200
807,800
334,000
320,000
128,000
128,000
(D1) 40,000
Buildings
Equipment
Land
Goodwill
Franchise Contracts
Total assets
385,000
310,000
180,000
320,000
130,000
300,000
2,421,000
1,532,000
Liabilities
Noncontrolling interest in Cuddy
Noncontrolling interest in Wilson
Noncontrolling interest in
subsidiary companies
Common stock
Retained earnings (above)
Total liabilities and equities
(632,000)
67,000
103,000
(D2) 67,200
(570,000)
(G)
(*C)
(S2)
(I2)
(A)
(S1)
(I1)
(E)
(A)
(E)
(310,000)
(969,000)
(2,421,000)
(652,000)
(1,532,000)
7-25
-0900,000
523,000
496,000
140,000
28,000
3,503,200
4,000
(98,000)
(1,300,000)
(S1) 60,000
(S2) 266,400
(A) 64,800
(820,000)
621,000
795,200
-0-
18,000
11,200
621,600
91,000
151,200
240,000
56,000
3,000
10,000
1,916,400
(60,000)
(331,200)
411,400
(411,400)
(820,000)
(971,800)
(3,503,200)
26. (20 Minutes) (Consolidation entries for a mutual holding business combination)
a. Acquisition Price Allocation and Amortization Mighty's Purchase of Lowly
Consideration transferred .............................................
$420,000
Noncontrolling interest fair value ..................................
280,000
Lowlys business fair value.............................................
700,000
Book value acquired.........................................................
(600,000)
Trademarks........................................................................
$100,000
Annual amortization (20-year life)...................................
$ 5,000
CONSOLIDATION ENTRIES
Entry *C
Investment in Lowly ...................................................
117,000
Retained earnings, 1/1/11 (Mighty) .....................
117,000
(To accrue income to parent during the previous years as measured by
increase in book value [$200,000 60%] and amortization expense of $3,000
[$5,000 60%] for the previous year.)
Entry S1
Common stock (Lowly) ..............................................
300,000
Retained earnings, 1/1/11 (Lowly) ............................
500,000
Investment in Lowly (60%) ...................................
480,000
Noncontrolling interest in Lowly 1/1/11 (40%) ...
320,000
(To eliminate subsidiary stockholders' equity accounts against investment
account and to recognize noncontrolling interest ownership.)
Entry S2
Treasury stock ............................................................
240,000
Investment in Mighty ............................................
(To reclassify cost of parent shares as treasury stock.)
240,000
Entry A
Trademarks .................................................................
95,000
Investment in Lowly ..............................................
57,000
Noncontrolling interest in Lowly 1/1/11 (40%) ...
38,000
(To recognize unamortized portion of acquisition-date excess fair value.)
Entry E
Amortization Expense ................................................
Trademarks ............................................................
(To record trademarks amortization expense for 2011.)
5,000
5,000
7-26
$344,000
86,000
$430,000
(380,000)
$ 50,000
10 Years
$ 5,000
$720,000
80,000
$800,000
740,000
$ 60,000
15 Years
$ 4,000
CONSOLIDATION ENTRIES
Entry *G
Retained earnings, 1/1/11 (Stookey) ........................
7,680
Cost of goods sold ...............................................
7,680
(To give effect to unrealized gain from 2010. Amount is calculated based on
normal 48% markup [found from Income Statement] multiplied by $16,000
retained inventory [20% of $80,000])
Entry *C1
Investment in Stookey ...............................................
85,856
Retained earnings, 1/1/11 (Yarrow) .....................
85,856
(To recognize equity income accruing from Yarrow's investment in Stookey
during 2010. Because the initial value method is applied and no dividends
paid, no income has been recognized in connection with the 2010 ownership
of Stookey. Reported income of $120,000 [2010] less unrealized gain of
$7,680 deferred above indicates income of $112,320. Based on 80%
ownership, an $89,856 accrual is needed, which is reduced by the $4,000
amortization (80% $5,000) for that year.
7-27
27.(continued)
Entry *C2
Investment in Yarrow .................................................
217,670
Retained earnings, 1/1/11 (Travers) ....................
217,670
(To recognize equity income accruing from Travers' investment in Yarrow
during 2010. Because the initial method is applied and no dividends paid,
income has not been recognized in connection with the 2010 ownership of
Yarrow. Income of $245,856 is calculated based on reported income of
$160,000 [2010] plus the $85,856 accrual recognized in Entry *C1. Ownership
of 90% dictates a $221,270 accrual that is then reduced to $217,670 by the
$3,600 [90% $4,000] amortization applicable to 2010.)
Entry S1
Common stock (Stookey) ..........................................
200,000
Retained earnings, 1/1/11 (Stookey, as adjusted
by Entry *G) ...........................................................
292,320
Investment in Stookey (80%) ..........................
393,856
Noncontrolling interest in Stookey (20%) .....
98,464
(To eliminate stockholders' equity accounts of subsidiary [Stookey] against
corresponding balance in investment account and to recognize
noncontrolling interest ownership.)
Entry S2
Common stock (Yarrow) ............................................
300,000
Retained earnings, 1/1/11 (Yarrow, as adjusted
by Entry *C1) ..........................................................
685,856
Investment in Yarrow (90%) ............................
887,270
Noncontrolling interest in Yarrow (10%) .......
98,586
(To eliminate stockholders equity accounts of subsidiary Yarrow against
corresponding balance in investment account and to recognize
noncontrolling interest ownership.)
Entry A1
Customer list................................................................
Investment in Stookey ..........................................
Noncontrolling interest in Stookey (20%) ..........
45,000
36,000
9,000
27. (continued)
Entry A2
Copyright .....................................................................
Investment in Yarrow ............................................
7-28
56,000
50,400
100,000
Entry G
Cost of goods sold ....................................................
9,600
Inventory (current assets) ....................................
9,600
(To defer unrealized gain on ending inventory$20,000 48% markup.)
Noncontrolling Interest in Stookey's Net Income
2011 Reported net income ..............................................
Customer list amortization .............................................
Realization of 2010 deferred income (*G) .....................
Deferral of 2011 unrealized gain (G) ..............................
Realized income 2011 .....................................................
Outside ownership ..........................................................
Noncontrolling interest in Stookey's net income .........
Noncontrolling Interest in Yarrow's Net Income
2011 Reported net income ..............................................
Copyright amortization ...................................................
Accrual of Stookey's income (80% of $93,080
realized income [computed above]) .........................
Realized income2011 ...................................................
Outside ownership ..........................................................
Noncontrolling interest in Yarrow's net income ..........
7-29
$100,000
(5,000)
7,680
(9,600)
$93,080
20%
$18,616
$200,000
(4,000)
74,464
$270,464
10%
$27,046
.
27. (continued)
Accounts
(900,000)
480,000
(600,000)
320,000
(500,000)
260,000
(Tl)
(G)
100,000
9,600
Operating expenses
Separate company net income
Consolidated net income
NCI in Yarrow's net income
NCI in Stookey's net income
To controlling interest
Retained earnings, 1/1/11:
Travers Company
Yarrow Company
Stookey Company
100,000
(320,000)
80,000
(200,000)
140,000
(100,000)
(E)
9,000
(700,000)
(600,000)
(300,000)
(320,000)
128,000
(892,000)
(200,000)
329,000
444,000
720,000
380,000
(800,000)
2,113,000
(*C2) 217,670
836,000
1,560,000
(*C1)
(917,670)
-0-0-
85,856
(G)
(S2)
(A2)
(S1)
(A1)
9,600
887,270
50,400
393,856
36,000
1,094,400
-0-0-
520,000
(A2)
800,000
(460,000)
(300,000)
(200,000)
(200,000)
(892,000)
(800,000)
(400,000)
(1,560,000)
(*C2) 217,670
(*C1) 85,856
(800,000)
(609,080)
27,046
18,616
(563,418)
(563,418)
128,000
(1,353,088)
280,000
(721,000)
(500,000)
(2,113,000)
685,856
7,680
292,320
(400,000)
344,000
949,000
(S2)
(*G)
(S1)
(100,000)
Liabilities
Common stock
(1,900,000)
961,920
7,680
100,000
(27,046)
(18,616)
(*G)
(TI)
(A1)
45,000
56,000
(E)
(E)
4,000
2,305,000
40,000
5,000
52,000
3,491,400
(1,381,000)
(S1)
(S2)
200,000
300,000
(S1)
(A1)
(S2)
(A2)
2,008,982
98,464
9,000
98,586
5,600
2,008,982
(500,000)
(1,353,088)
(107,464)
(104,186)
(257,312)
(257,312)
(3,491,400)
27.(continued)
b. Travers' reported income .....................................................................
Yarrow's reported income ....................................................................
Dividend income (none collected) .......................................................
Intra-entity gains (no transfers) ...........................................................
Amortization expense ...........................................................................
Taxable income ......................................................................................
Tax rate ...................................................................................................
Income tax payable ...............................................................................
$320,000
200,000
-0-0(9,000)
$511,000
45%
$229,950
$100,000
45%
$45,000
$9,600
(7,680)
$1,920
45%
$ 864
$229,950
45,000
$274,950
(864)
$274,086
27. d. (continued)
Because a single rate is used, income tax expense can also be computed by
taking consolidated net income (prior to noncontrolling interest reduction) of
$609,080 (part a.) and multiplying by the 45% tax rate to obtain $274,086.
274,086
864
274,950
28. (40 Minutes) (Series of questions about a business combination and its income
tax reporting)
a. Partial equity method. "Income of Soludan" is 80% of Soludan's reported total.
b. $12,000. Reduction is evidenced by a $338,000 figure reported for consolidated
inventory rather than the $350,000 total for the two companies.
c. $37,500. Consolidated operating expenses have increased by $2,500, evidently
the annual amortization. Because a 15-year life is assumed by the combination,
the amount originally allocated to trademarks must have been $37,500.
d. $120,000. Decrease shown in consolidated sales account.
e. Upstream. "Noncontrolling interest in Soludan Company's income" is $18,700.
Because this amount is not equal to 20% of Soludan's reported income less
excess amortization ($100,000 $2,500), realized income must have been
adjusted for unrealized gains. Subsidiary income is only adjusted to show the
effects of upstream transfers.
f. $20,000. For both receivables and liabilities, the consolidated total is $20,000
less than the sum of the two companies.
g. $8,000. Consolidated cost of goods sold is decreased by $120,000 (to $780,000)
in eliminating intra-entity sales. The increase of $12,000 created by the ending
unrealized gain (see part b.) would then leave a $792,000 balance. Because
$784,000 is the ending balance reported for consolidated cost of goods sold, an
$8,000 unrealized gain must have been deferred from the previous year.
28. (continued)
h. Because the trademarks balance now stands at $32,500, amortization expense
of $2,500 has been recognized, $2,500 in the previous year. In addition, an
$8,000 unrealized gain from the prior year (see part g.) is recognized.
Amortization expenseprior year 80%.......................
Unrealized gainupstream effect on
parent's retained earnings is $8,000 80%..............
Adjustment to parents beginning retained earnings...
$2,000
6,400
$8,400
$370,000
(8,000)
$362,000
35,000
397,000
20%
$79,400
18,700
(4,000)
$94,100
117,400
117,400
80,000
80,000
28. k. (continued)
On a separate return, Soludan would report $100,000 operating income for a
payable of $40,000. The unrealized gains are accounted for in different time
periods in the financial statements, thus, a temporary difference is created. The
beginning gain of $8,000 was taxed in the previous year rather than currently.
The current gain of $12,000 is taxed now rather than next year; the tax paid this
year on the net $4,000 ($1,600) is a prepayment.
Income tax expense .........................................................
38,400
1,600
40,000
$100,000
8,000
(12,000)
$96,000
40%
$38,400
40,000
$ 1,600
29. (45 Minutes) Develop worksheet entries that were used to consolidate the
financial statements of a father-son-grandson combination.
Entry *G
Retained earnings, 1/1/11 (Delta) ..............................
15,000
Cost of goods sold ...............................................
15,000
(To recognize gain that was unrealized in 2010 [amount provided].)
Entry *C1
Retained earnings, 1/1/11 (Delta) ..............................
7,000
Investment in Omega Company ..........................
7,000
(To recognize amortization expense from Deltas acquisition for 2010.)
29. (continued)
Entry *C2
Retained earnings, 1/1/11 (Alpha) ............................
27,600
Investment in Delta Company ..............................
27,600
To recognize accrual adjustments for excess amortization
and inventory deferral as follows:
Excess amortization from Delta acquisition
(80% $6,250 2 years).........................................
$10,000
Deltas share of excess amortization from Omega acquisition
(80% [70% $10,000] 1 year)...........................
5,600
Inventory profit deferral at 1/1/11 (80% $15,000). .
12,000
*C2 adjustment............................................................
$27,600
Entry S1
Common stock (Omega) ............................................
Retained earnings, 1/1/11 (Omega) ..........................
Investment in Omega (70%) .................................
100,000
100,000
140,000
Entry E
Operating expenses ...................................................
16,250
Copyrights .............................................................
16,250
(Current year amortization, $6,250 on first acquisition and $10,000 on
second.)
Entry Tl
Sales ............................................................................
Cost of goods sold ...............................................
(To eliminate intra-entity inventory transfer.)
200,000
200,000
Entry G
Cost of goods sold ....................................................
22,000
Inventory.................................................................
(To defer ending unrealized gain on intra-entity transfers.)
Noncontrolling Interest in Omega's Income:
Reported income .............................................................
Excess fair value amortization .......................................
Accrual-based income.....................................................
Outside ownership ..........................................................
Noncontrolling interest in Omegas income .................
22,000
$70,000
(10,000)
60,000
30%
$18,000
29. (continued)
Noncontrolling Interest in Delta's Income:
Reported operating income ............................................
Equity income investment in Omega (70% $60,000) .
Amortization expense .....................................................
2010 Unrealized income realized in 2011.......................
2011 Unrealized income realized in 2011 ......................
Accrual-based incomeDelta (2011) ............................
Outside ownership ..........................................................
Noncontrolling interest in Delta's income (2011) .........
Noncontrolling interest in Delta Company....................
Noncontrolling interest, 1/01/11 (Entry S2)..............
Noncontrolling interest, 1/01/11 (Entry A)................
Noncontrolling interest in Deltas income (above)..
Dividends paid to noncontrolling interest
($40,000 20%).........................................................
$131,000
42,000
(6,250)
15,000
(22,000)
$159,750
20%
$31,950
$99,600
22,500
31,950
(8,000)
$146,050
$60,000
18,000
33,000
(15,000)
$96,000
Summit
Treeline
Basecamp
Operating
income
$345,000
$280,000
$175,000
Ownership percentages
Summit-->Treeline
Treeline-->Basecamp
Dividends
paid
$150,000
$100,000
$40,000
Excess
amortizations
$20,000
$25,000
90%
70%
$175,000
(25,000)
$150,000
70%
$105,000
$280,000
105,000
(20,000)
$365,000
90%
$328,500
$345,000
328,500
$673,500
Comparison
Consolidated net income (operating incomes less
amortizations)
Noncontrolling interest in consolidated net income
(30% $150,000 plus 10% $365,000)
Controlling interest in consolidated net income
$755,000
$81,500
$673,500