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Chapter 03 - The Reporting Entity and Consolidated Financial Statements

CHAPTER 3
THE REPORTING ENTITY AND CONSOLIDATED FINANCIAL STATEMENTS
ANSWERS TO QUESTIONS
Q3-1 The basic idea underlying the preparation of consolidated financial statements is the
notion that the consolidated financial statements present the financial position and the
results of operations of a parent and its subsidiaries as if the related companies actually
were a single company.
Q3-2 Without consolidated statements it is often very difficult for an investor to gain an
understanding of the total resources controlled by a company. A consolidated balance
sheet provides a much better picture of both the total assets under the control of the parent
company and the financing used in providing those resources. Similarly, the consolidated
income statement provides a better picture of the total revenue generated and the costs
incurred in generating the revenue. Estimates of future profit potential and the ability to
meet anticipated funds flows often can be more easily assessed by analyzing the
consolidated statements.
Q3-3 Parent company shareholders are liely to find consolidated statements more useful.
!oncontrolling shareholders may gain some understanding of the basic strength of the
overall economic entity by e"amining the consolidated statements# however, they have no
control over the parent company or other subsidiaries and therefore must rely on the assets
and earning power of the subsidiary in which they hold ownership. The separate statements
of the subsidiary are more liely to provide useful information to the noncontrolling
shareholders.
Q3-4 A parent company has the ability to e"ercise control over one or more other entities.
$nder e"isting standards, a company is considered to be a parent company when it has
direct or indirect control over a ma%ority of the common stoc of another company. The
&AS' has proposed adoption of a broader definition of control that would not be based
e"clusively on stoc ownership.
Q3-5 (reditors of the parent company have primary claim to the assets held directly by the
parent. Short)term creditors of the parent are liely to loo only at those assets. 'ecause
the parent has control of the subsidiaries, the assets held by the subsidiaries are potentially
available to satisfy parent company debts. *ong)term creditors of the parent generally must
rely on the soundness and operating efficiency of the overall entity, which normally is best
seen by e"amining the consolidated statements. +n the other hand, creditors of a
subsidiary typically have a priority claim to the assets of that subsidiary and generally
cannot lay claim to the assets of the other companies. (onsolidated statements therefore
are not particularly useful to them.
3-1
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
Q3-6 When one company holds a ma%ority of the voting shares of another company, the
investor should have the power to elect a ma%ority of the board of directors of that company
and control its actions. $nless the investor holds controlling interest, there is always a
chance that another party may ac,uire a sufficient number of shares to gain control of the
company, or that the other shareholders may %oin together to tae control.
Q3-7 The primary criterion for consolidation is the ability to directly or indirectly e"ercise
control. (ontrol normally has been based on ownership of a ma%ority of the voting common
stoc of another company. The &inancial Accounting Standards 'oard is currently woring
on a broader definition of control. At present, consolidation should occur whenever ma%ority
ownership is held unless other circumstances indicate that control is temporary or does not
rest with the parent.
Q3-8 (onsolidation is not appropriate when control is temporary or when the parent
cannot e"ercise control. &or e"ample, if the parent has agreed to sell a subsidiary or plans
to reduce its ownership below -. percent shortly after year)end, the subsidiary should not
be consolidated. (ontrol generally cannot be e"ercised when a subsidiary is under the
control of the courts in banruptcy or reorganization. While most foreign subsidiaries should
be consolidated, subsidiaries in countries with unstable governments or those in which
there are stringent barriers to funds transfers generally should not be consolidated.
Q3-9 Strict adherence to consolidation standards based on ma%ority ownership of voting
common stoc has made it possible for companies to use many different forms of control
over other entities without being forced to include them in their consolidated financial
statements. &or e"ample, contractual arrangements often have been used to provide
control over variable interest entities even though another party may hold a ma%ority /or all0
of the e,uity ownership.
Q3-1 Special purpose entities generally have been created by companies to ac,uire
certain types of financial assets from the companies and hold them to maturity. The special
purpose entity typically purchases the financial assets from the company with money
received from issuing some form of collateralized obligation. 1f the company had borrowed
the money directly, its debt ratio would be substantially increased.
Q3-11 A variable purpose entity normally is not involved in general business activity such
as producing products and selling them to customers. They often are used to ac,uire
financial assets from other companies or to borrow money and channel it other companies.
A very large portion of the assets held by variable purpose entities typically is financed by
debt and a small portion financed by e,uity holders. (ontractual agreements often give
effective control of the activities of the special purpose entity to someone other than the
e,uity holders.
Q3-12 FIN 46R provides a number of guidelines to be used in determining when a
company is a primary beneficiary of a variable interest entity. 2enerally, the primary
beneficiary will absorb a ma%ority of the entity3s e"pected losses or receive a ma%ority of the
entity3s e"pected residual returns.
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Chapter 03 - The Reporting Entity and Consolidated Financial Statements
Q3-13 1ndirect control occurs when the parent controls one or more subsidiaries that, in
turn, hold controlling interest in another company. (ompany A would indirectly control
(ompany 4 if (ompany A held 5. percent ownership of (ompany 6 and that company held
7. percent of the ownership of (ompany 4.
Q3-14 1t is possible for a company to e"ercise control over another company without
holding a ma%ority of the voting common stoc. (ontractual agreements, for e"ample, may
provide a company with complete control of both the operating and financing decisions of
another company. 1n other cases, ownership of a substantial portion of a company8s shares
and a broad based ownership of the other shares may give effective control to a company
even though it does not have ma%ority ownership. There is no prohibition to consolidation
with less than ma%ority ownership# however, few companies have elected to consolidate with
less than ma%ority control.
Q3-15 $nless intercorporate receivables and payables are eliminated, there is an
overstatement of the true balances. The result is a distortion of the current asset ratio and
other ratios such as those that relate current assets to noncurrent assets or current liabilities
to noncurrent liabilities or to stocholders8 e,uity balances.
Q3-16 The consolidated statements are prepared from the viewpoint of the parent
company shareholders and only the amounts assignable to parent company shareholders
are included in the consolidated stocholders8 e,uity balances. Subsidiary shares held by
the parent are not owned by an outside party and therefore cannot be reported as shares
outstanding. Those held by the noncontrolling shareholders are included in the balance
assigned to noncontrolling shareholders in the consolidated balance sheet rather than
being shown as stoc outstanding.
Q3-17 While it is not considered appropriate to consolidate if the fiscal periods of the
parent and subsidiary differ by more than 9 months, a difference in time periods cannot be
used as a means of avoiding consolidation. The fiscal period of one of the companies must
be ad%usted to fall within an acceptable time period and consolidated statement prepared.
Q3-18 The noncontrolling interest, or minority interest, represents the claim on the net
assets of the subsidiary assigned to the shares not controlled by the parent company.
Q3-19 The procedures used in preparing consolidated and combined financial statements
may be virtually identical. 1n general, consolidated statements are prepared when a parent
company either directly or indirectly controls one or more subsidiaries. (ombined financial
statements are prepared for a group of companies or business entities when there is no
parent)subsidiary relationship. &or e"ample, an individual who controls several companies
may gain a clearer picture of the financial position and operating results of the overall
operations under his or her control by preparing combined financial statements.
3-3
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
Q3-2! $nder the proprietary theory the parent company includes only a proportionate
share of the assets and liabilities and income statement items of a subsidiary in its financial
statements. Thus, if a subsidiary is :. percent owned, the parent will include only :.
percent of the cash and accounts receivable of the subsidiary in its consolidated balance
sheet. $nder current practice the full amount of the balance sheet and income statement
items of the subsidiary are included in the consolidated statements.
Q3-21! $nder both current practice and the entity theory the consolidated statements are
viewed as those of a single economic entity with a shareholder group that includes both
controlling and noncontrolling shareholders, each with an e,uity interest in the consolidated
entity. The assets and liabilities of the subsidiary are included in the consolidated
statements at ;.. percent of their fair value at the date of ac,uisition and consolidated net
income includes the earnings to both controlling and noncontrolling shareholders. A ma%or
difference occurs in presenting retained earnings in the consolidated balance sheet. +nly
undistributed earnings related to the controlling interest are included in the retained
earnings balance.
Q3-22! The entity theory is closest to the newly adopted procedures used in current
practice.
3-4
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
SOLUTIONS TO CASES
C3-1 C"#$%&'&(") "* T"&'+ A,,-& .'+%-,
The relationship observed should always be true. Assets reported by the parent company
include its investment in the net assets of the subsidiaries. These totals must be eliminated
in the consolidation process to avoid double counting. There also may be intercompany
receivables and payables between the companies that must be eliminated when
consolidated statements are prepared. 1n addition, inventory or other assets reported by the
individual companies may be overstated as a result of unrealized profits on intercorporate
purchases and sales. The amounts of the assets must be ad%usted and the unrealized
profits eliminated in the consolidation process. 1n addition, subsidiary assets and liabilities
at the time the subsidiaries were ac,uired by the parent may have had fair values different
from their boo values, and the amounts reported in the consolidated financial statements
would be based on those fair values.
C3-2 A//"%)&()0 E)&(&1 2AICPA A3'$&-34
a. /;0 The conventional or traditional approach has been used to define the accounting
entity in terms of a specific firm, enterprise, or economic unit that is separate and apart
from the owner or owners and from other enterprises. The accounting entity has not
necessarily been defined in the same way as a legal entity. &or e"ample, partnerships
and sole proprietorships are accounted for separately from the owners although such a
distinction might not e"ist legally. Thus, it was recognized that the transactions of the
enterprise should be accounted for and reported on separately from those of the
owners.
An e"tension of this approach is to define the accounting entity in terms of an
economic unit that controls resources, maes and carries out commitments, and
conducts economic activity. 1n the broadest sense an accounting entity could be
established in any situation where there is an input)output relationship. Such an
accounting entity may be an individual, a profit)seeing or not)for)profit enterprise, or a
subdivision of a profit)seeing or not)for)profit enterprise for which a system of
accounts is maintained. This approach is oriented toward providing information to the
economic entity which it can use in evaluating its operating results and financial
position.
An alternative approach is to define the accounting entity in terms of an area of
economic interest to a particular individual, group, or institution. The boundaries of
such an economic entity would be identified by determining /a0 the interested
individual, group, or institution and /b0 the nature of that individual8s, group8s, or
institution8s interest. 1n theory a number of separate legal entities or economic units
could be included in a single accounting entity. Thus, this approach is oriented to the
e"ternal users of financial reports.
3-5
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-2 /continued0
/<0 The way in which an accounting entity is defined establishes the boundaries of the
possible ob%ects, attributes, or activities that will be included in the accounting records
and reports. =nowledge as to the nature of the entity may aid in determining /;0 what
information to include in reports of the entity and /<0 how to best present information
about the entity so that relevant features are disclosed and irrelevant features do not
cloud the presentation.
The applicability of all other generally accepted concepts /or principles or postulates0 of
accounting /for e"ample, continuity, money measurement, and time periods0 depends
on the established boundaries and nature of the accounting entity. The other
accounting concepts lac significance without reference to an entity. The entity must
be defined before the balance of the accounting model can be applied and the
accounting can begin. Thus, the accounting entity concept is so fundamental that it
pervades all accounting.
b. /;0 $nits created by or under law, such as corporations, partnerships, and,
occasionally, sole proprietorships, probably are the most common types of accounting
entities.
/<0 Product lines or other segments of an enterprise, such as a division, department,
profit center, branch, or cost center, can be treated as accounting entities. &or
e"ample, financial reporting by segment was supported by investors, the Securities
and E"change (ommission, financial e"ecutives, and members of the accounting
profession.
/90 6ost large corporations issue consolidated financial reports. These statements
often include the financial statements of a number of separate legal entities that are
considered to constitute a single economic entity for financial reporting purposes.
/>0 Although the accounting entity often is defined in terms of a business enterprise
that is separate and distinct from other activities of the owner or owners, it also is
possible for an accounting entity to embrace all the activities of an owner or a group of
owners. E"amples include financial statements for an individual /personal financial
statements0 and the financial report of a person8s estate.
/-0 The entire economy of the $nited States also can be viewed as an accounting
entity. (onsistent with this view, national income accounts are compiled by the $. S.
?epartment of (ommerce and regularly reported.
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Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-3 R-/"0)(&(") "* F'(5 .'+%- ')3 G""36(++
6E6+
T+@ 6r. A. $. (leer, (hief &inancial +fficer
6arch (orporation
&rom@ , (PA
Ae@ Analysis of changes resulting from &AS' ;>;A
6arch (orporation purchased :- percent of the stoc of Ember (orporation for B7.5,-.. at
a time when the boo value of Ember3s net assets was B5;.,... and 6arch3s :- percent
share of that amount was B-<:,-... 6anagement determined that the fair value of Ember3s
assets was BC:.,..., and 6arch3s :- percent share of the difference between fair value
and boo value was BC7,-... The remaining amount of the purchase price was allocated to
goodwill, computed as follows@
Purchase price B7.5,-..
'oo value of :- percent share of net assets /-<:,-.. 0
?ifferential B;5<,...
&air value increment /C7,-.. 0
2oodwill B 5>,-..
The reporting standards in effect at Danuary <, <..5, re,uired 6arch to include in its
consolidated balance sheet ;.. percent of the boo value of Ember3s net assets. The
consolidated balance sheet also included the amount paid by 6arch in e"cess of its share
of boo value, assigned to depreciable assets and goodwill. The noncontrolling interest
was reported in the consolidated balance sheet at B<59,-.. /B5;.,... " .9-0 and did not
include any amounts related to the differential.
$nder FAS7 S&'&-#-)& N"8 141R, the amounts included in the consolidated balance sheet
are based on the B;,.C.,... total fair value of Ember at the date of combination, as
evidenced by the fair value of the consideration given in the e"change by 6arch
(orporation /B7.5,-..0 and the fair value of the noncontrolling interest /B95;,-..0. The
assets of Ember are valued at their BC:.,... total fair value, resulting in a B;-.,...
increase over their boo value. 2oodwill is calculated as the difference between the
B;,.C.,... total fair value of Ember and the BC:.,... fair value of its assets. The
noncontrolling interest is valued initially at its fair value at the date of combination.
The following comparison shows the amounts related to Ember that were reported in
6arch3s consolidated balance sheet prepared immediately after the ac,uisition of Ember
and the amounts that would have been reported had FAS7 S&'&-#-)& N"8 141R been in
effect@
Prior Standards &AS' ;>;A
'oo value of Ember3s net assets B5;.,... B 5;.,...
&air value increment C7,-.. ;-.,...
2oodwill 5>,-.. ;9.,...
Total BCC<,... B;,.C.,...
!oncontrolling interest B<59,-.. B95;,-..
C3-3 /continued0
3-
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
Amortization of the fair value increment in 6arch3s <..5 consolidated income statement
was BC,7-. /BC7,-..E;.0. $nder FAS7 S&'&-#-)& N"8 141R, the annual write)off would
have been B;-,... /B;-.,...E;.0.
Primary citations:
&AS' ;>;
&AS' ;>;A
C3-4 9"()& .-)&%5- I):-,&#-)&
a. AR7 N"8 51 and FAS7 I)&-5$5-&'&(") N"8 46R /FIN 46R0 are the primary authoritative
pronouncements dealing with the types of ownership issues arising in this situation. $nder
normal circumstances, the company holding ma%ority ownership in another entity is
e"pected to consolidate that entity in preparing its financial statements. Thus, unless other
circumstances dictate, ?ell should have planned to consolidate ?&S as a result of its 7.
percent e,uity ownership. While FIN 46R is a highly comple" document and greater detail
of the ownership agreement may be needed to decide this matter, the interpretation
appears to permit e,uity holders to avoid consolidating an entity if the e,uity holders /;0 do
not have the ability to mae decisions about the entity3s activities, /<0 are not obligated to
absorb the e"pected losses of the entity if they occur, or /90 do not have the right to receive
the e"pected residual returns of the entity if they occur FFIN 46R, Par. -bG.
1t does appear that ?ell and (1T 2roup do, in fact, have the ability to mae operating and
other decisions about ?&S, they must absorb losses in the manner set forth in the
agreement, and they must share residual returns in the manner set forth in the agreement.
(ontrol appears to reside with the e,uity holders and should not provide a barrier to
consolidation.
?ell might argue that it need not consolidate ?&S because the %oint venture agreement
apparently did allocate losses initially to (1T. However, these losses were to be recovered
from future income. Thus, both ?ell and (1T were to be affected by the profits and losses of
?&S. 2iven the importance of ?&S to ?ell and representation on the board of directors by
(1T, ?&S would not be e"pected to sustain continued losses.
1n light of the %oint venture arrangement and ?ell3s ownership interest, consolidation by ?ell
seems appropriate and there seems to be little support for ?ell not consolidating ?&S.
b. ?ell fully consolidated ?&S in its latest financial statements in which the %oint venture is
reported. ?ell indicated that it is the primary beneficiary of ?&S. $nder the revised %oint
venture agreement, both profits and losses of ?&S are shared 7. percent to ?ell and 9.
percent to (1T. Thus, with a 7. percent ownership interest and an allocation of losses in
addition to profits, the re,uirement to consolidate ?&S is ,uite clear. !ote /from ?ell3s SE(
&orm ;.)=0 that ?ell has an option to purchase (1T3s interest in ?&S. Thus, ?&S may
become wholly owned by ?ell.
c. Ies, ?ell does employ off)balance sheet financing. 1t sells customer financing
receivables to ,ualifying special purpose entities. 1n accordance with current standards,
,ualifying SPEs are not consolidated.
3-!
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-5 N--3 *"5 C"),"+(3'&(") 2AICPA A3'$&-34
a. All identifiable assets ac,uired and liabilities assumed in a business combination,
whether or not shown in the financial statements of 6oore, should be valued at their fair
values at the date of ac,uisition. Then, the e"cess of the fair value of the consideration
given by Sharp to ac,uire its ownership interest in 6oore, plus the fair value of the
noncontrolling interest, over the sum of the amounts assigned to the identifiable assets
ac,uired less liabilities assumed should be recognized as goodwill.
b. (onsolidated financial statements should be prepared in order to present the financial
position and operating results for an economic entity in a manner more meaningful than if
separate statements are prepared.
c. The usual first necessary condition for consolidation is a controlling financial interest.
$nder current accounting standards, a controlling financial interest is assumed to e"ist
when one company, directly or indirectly, owns over fifty percent of the outstanding voting
shares of another company.
C3-6 W;'& C"#$')1 (, T;'&<
1nformation for answering this case can be obtained from the SE(8s E?2AA database
/www.sec.gov0 and from the home pages for Jiacom /www.viacom.com0, (onAgra
/www.conagra.com0, and IumK 'rands /www.yum.com0.
a.. Jiacom is well nown for ownership of companies in the entertainment industry. +n
Danuary ;, <..:, Jiacom divided its operations by spinning off to Jiacom shareholders
ownership of ('S (orporation. &ollowing the division Jiacom continues to own 6TJ,
!icelodeon, !ic at !ite, (omedy (entral, (6T, (ountry 6usic Television, Paramount
Pictures, Paramount Home Entertainment, S=2, 'ET, ?reamwors, and other related
companies. Summer Aedstone holds controlling interest in both Jiacom and ('S and
serves as E"ecutive (hairman of both companies.
b. Some of the well)nown product lines of (onAgra include Healthy (hoice, Pam, Peter
Pan, Slim Dim, Swill 6iss, +rville Aedenbacher3s, Hunt3s, Aeddi)Wip, Jan(amp, *ibby3s,
*a(hoy, Egg 'eaters, Wesson, 'an,uet, 'lue 'onnet, (hef 'oyardee, Paray, and
Aosarita.
c. IumK 'rands, 1nc., is the world3s largest ,uic service restaurant company. Well nown
brands include Taco 'ell, ALW, =&(, and Pizza Hut. Ium was originally spun off from
Pepsico in ;CC7. Prior to its current name, Ium3s name was TA1(+! 2lobal Aestaurants,
1nc.
3-"
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-7 S%=,(3('5(-, ')3 C"5- 7%,()-,,-,
6ost of the information needed to answer this case can be obtained from articles available
in libraries, on the 1nternet, or through various online databases. Some of the information is
available in filings with the SE( /www.sec.gov0.
a. 2eneral Electric was never able to turn =idder, Peabody into a profitable subsidiary. 1n
fact, =idder became such a drain on the resources of 2eneral Electric, that 2E decided to
get rid of =idder. $nfortunately, 2E was unable to sell the company as a whole and
ultimately broe the company into pieces and sold the pieces that it could. 2E suffered
large losses from its venture into the broerage business.
b. Sears, Aoebuc and (o. has been a ma%or retailer for many decades. &or a while,
Sears attempted to provide virtually all consumer needs so that customers could purchase
financial and related services at Sears in addition to goods. 1t owned more than <.. other
companies. ?uring that time, Sears sold insurance /Allstate 1nsurance 2roup, consisting of
many subsidiaries0, real estate /(oldwell 'aner Aeal Estate 2roup, consisting of many
subsidiaries0, broerage and investment advisor services /?ean Witter0, credit cards /Sears
and ?iscover (ard0, and various other related services through many different subsidiaries.
?uring the mid)nineties, Sears sold or spun off most of its subsidiaries that were unrelated
to its core business, including Allstate, (oldwell 'aner, ?ean Witter, and ?iscover. +n
6arch <>, <..-, Sears Holding (orporation was established and became the parent
company for Sears, Aoebuc and (o. and = 6art Holding (orporation. &rom an accounting
perspective, =mart ac,uired Sears, even though =mart had %ust emerged from banruptcy
proceedings. &ollowing the merger the company now has appro"imately <,9-. full)line and
off)mall stores and ;,;.. specialty retail stores in the $nited States, and appro"imately 97.
full)line and specialty retail stores in (anada.
c. Pepsi(o entered the restaurant business in ;C77 with the purchase of Pizza Hut. 'y
;C5:, Pepsi(o also owned Taco 'ell and =&( /=entucy &ried (hicen0. 1n ;CC7, these
subsidiaries were spun off to a new company, TA1(+! 2lobal Aestaurants, with TA1(+!8s
stoc distributed to Pepsi(o8s shareholders. TA1(+! 2lobal Aestaurants changed its name
to I$6K 'rands, 1nc., in <..<. Although Pepsi(o e"ited the restaurant business, it
continued in the snac)food business with its &rito)*ay subsidiary, the world8s largest maer
of salty snacs.
d. When consolidated financial statements are presented, financial statement users are
provided with information about the company8s overall operations. Assessments can be
made about how the company as a whole has fared as a result of all its operations.
However, comparisons with other companies may be difficult because the operations of
other companies may not be similar. 1f a company operates in a number of different
industries, consolidated financial statements may not permit detailed comparisons with
other companies unless the other companies operate in all of the same industries, with
about the same relative mi". Thus, standard measures used in manufacturing and
merchandising, such as gross margin percentage, inventory and receivables turnover, and
the debt)to)asset ratio, may be useless or even misleading when significant financial)
services operations are included in the financial statements. Similarly, standard measures
used in comparing financial institutions might be distorted when financial statement
information includes data relating to manufacturing or merchandising operations. A partial
solution to the problem results from providing disaggregated /segment or line)of)business0
information along with the consolidated financial statements, as re,uired by the &AS'.
3-10
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-8 I)&-5)'&(")'+ C"),"+(3'&(") I,,%-,
The following answers are based on information from the &inancial Accounting Standards
'oard website at www.fasb.org, the 1nternational Accounting Standards 'oard website at
www.iasb.org, and from the Pricewaterhouse(oopers publication entitled Similarities and
Differences A Comparison of IFRS and US GAAP, available at
www.pwc.comEe"twebEpwcpublications.nsfEdocidE7>d:c.Ce.a>ee:;.5.<-:Ca;..99->c5.
PW( updates the site regularly, and more current information may be available.
a. Parent companies must prepare consolidated financial statements that include all
subsidiaries. However, if the parent itself is wholly owned by another entity, the company
may be e"empt from this re,uirement. &or the company to be e"empt, the owners of the
minority interest must have been informed and they must indicate that they do not ob%ect to
omitting the consolidated statements. Additionally, the parent3s securities must not be
publicly traded and the parent must not be in the process of issuing such securities. &urther,
the immediate or ultimate parent must still publish consolidated financial statements that
comply with 1&AS.
b. According to 1&AS, if any e"cess of fair value over the purchase price arises, the
ac,uiring company must reassess the ac,uired identifiable assets, liabilities and contingent
liabilities to determine that they have been properly identified and valued. The ac,uiring
company must also reassess the cost of the combination. 1f there is still a differential after
reassessment, this amount is recognized immediately in the income statement. This
treatment is consistent with the &AS'3s current standard on business combinations /FAS7
S&'&-#-)& N"8 141R0.
c. $nder 1&AS, 2oodwill is reviewed annually /or more fre,uently0 for impairment. 2oodwill
is initially allocated at the organizational level where cash flows can be clearly identified.
These cash generating units /(2$s0 may be combined for purposes of allocating goodwill
and for the subse,uent evaluation of goodwill for potential impairment. However, the
aggregation of (2$s for goodwill allocation and evaluation must not be larger than a
segment.
Similar to $.S. 2AAP, the impairment review must be done annually, but the evaluation
date does not have to coincide with the end of the reporting year. However, if the annual
impairment test has already been performed prior to the allocation of goodwill ac,uired
during the fiscal year, a subse,uent impairment test is re,uired before the balance sheet
date.
While $.S. 2AAP re,uires a two)step impairment test, 1&AS re,uires a one)step test. The
recoverable amount, which is the greater of the net fair maret value of the (2$ and the
value of the unit in use, is compared to the boo value of the (2$ to determine if an
impairment loss e"ists. A loss e"ists when the carrying value e"ceeds the recoverable
amount. This loss is recognized in operating results. The impairment loss applies to all of
the assets of the unit and must be allocated to assets in the unit. 1mpairment is allocated
first to goodwill. 1f the impairment loss e"ceeds the boo value of goodwill, then allocation is
made on a pro rata basis to the other assets in the (2$.
3-11
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-9 O**-7'+')/- S;--& F()')/()0 ')3 .IE,
a. +ff)balance sheet financing refers to techni,ues that allow companies to borrow while
eeping the debt, and related assets, from being reported in the company3s balance sheet.
b. /;0 &unds to ac,uire new assets for a company may be borrowed by a third party such
as a J1E, with the ac,uired assets then leased to the company.
/<0 A company may sell assets such as accounts receivable instead of using them as
collateral.
/90 A company may create a new J1E and transfer assets to the new entity in e"change for
cash.
c. J1Es may serve a genuine business purpose, such as ris sharing among investors and
isolation of pro%ect ris from company ris.
d. J1Es may be structured to avoid consolidation. To the e"tent that standards for
consolidation are rule)based, it is possible to structure a J1E so that it is not consolidated
even if the underlying economic substance of the entity would indicate that it should be
consolidated. 'y artificially removing debt, assets, and e"penses from the financial reports
of the sponsoring company, the financial position of a company and the results of its
operations can be distorted. The &AS' has been woring to ensure that rule)based
consolidation standards result in financial statements that reflect the underlying economic
substance.
C3-1 A+&-5)'&(:- A//"%)&()0 M-&;"3,
a. Amerada Hess3s /www.hess.com0 interests in oil and gas e"ploration and production
ventures are proportionately consolidated /pro rata consolidation0, a fre,uently found
industry practice in oil and gas e"ploration and production. 1nvestments in affiliated
companies, <. to -. percent owned, are reported using the e,uity method. A -. percent
interest in a trading partnership over which the company e"ercises control is consolidated.
b. Although En(ana (orporation /www.encana.com0 reports investments in companies
over which it has significant influence using the e,uity method. 1nvestments in %ointly
controlled companies and ventures are accounted for using proportionate consolidation.
En(ana is a (anadian company. Proportionate consolidation is found more fre,uently
outside of the $nited States. Although not considered generally accepted in the $nited
States, proportionate /pro rata0 consolidation is nevertheless sometimes found in the oil and
gas e"ploration and transmission industries.
c. 1f a %oint venture is not incorporated, its treatment is less clear than for corporations.
2enerally, the e,uity method should be used, but companies sometimes use proportionate
consolidated citing %oint control as the reason.
3-12
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
C3-11 C"),"+(3'&(") D(**-5-)/-, '#")0 M'>"5 C"5$"5'&("),
a. ;$nion Pacific is rather unusual for a large company. 1t has only two subsidiaries@
$nion Pacific Aailroad (ompany
Southern Pacific Aail (orporation
b.; E""on 6obil does not consolidate ma%ority owned subsidiaries if the minority
shareholders have the right to participate in significant management decisions. E""on
6obil does ;consolidate some variable interest entities even though it has less than
ma%ority ownership according to its &orm ;.)= Mbecause of guarantees or other
arrangements that create ma%ority economic interests in those affiliates that are greater than
the (orporation3s voting interests.N The company uses ;the e,uity method, cost method,
and fair value method to account for investments in the common stoc of companies in
which it holds less than ma%ority ownership.
3-13
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
SOLUTIONS TO E?ERCISES
E3-1 M%+&($+--C;"(/- Q%-,&("), ") C"),"+(3'&(") O:-5:(-6
2AICPA A3'$&-34
;. d
<. c
9. b
>. a
-. b
E3-2 M%+&($+--C;"(/- Q%-,&("), ") .'5('=+- I)&-5-,& E)&(&(-,
;. c
<. d
9. a
>. b
-. b
E3-3 M%+&($+--C;"(/- Q%-,&("), ") C"),"+(3'&-3 7'+')/-, 2AICPA A3'$&-34
;. a
<. b
9. b
>. c
-. a
3-14
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-4 M%+&($+--C;"(/- Q%-,&("), ") C"),"+(3'&(") O:-5:(-6
2AICPA A3'$&-34
;. d
<. a
9. b
>. d
E3-5 7'+')/- S;--& C"),"+(3'&(")
a. B>7.,... O B>7.,... ) B--,... P B--,...
b. B:.-,... O /B>7.,... ) B--,...0 P B;C.,...
c. B>.-,... O B<7.,... P B;9-,...
d. B<..,... /as reported by 2uild (orporation0
E3-6 7'+')/- S;--& C"),"+(3'&(") 6(&; I)&-5/"#$')1 T5'),*-5
a. B:>-,... O B-;.,... P B;9-,...
b. B5>-,... O B-;.,... P B9-.,... ) B;-,...
c. B:--,... O /B9<.,... P B;9-,...0 P B<;-,... ) B;-,...
d. B;C.,... /as reported by Potter (ompany0
E3-7 I)&-5/"#$')1 T5'),*-5,
a. (onsolidated current assets will be overstated by B97,... if no eliminations are made.
1nventory will be overstated by B<-,... and accounts receivable will be overstated by
B;<,....
b. !et woring capital will be overstated by B<-,... due to unrealized intercompany
inventory profits. The overstatement of accounts payable and accounts receivable will
offset.
c. !et income of the period following will be understated by B<-,... as a result of
overstating cost of goods sold by that amount.
3-15
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-8 S%=,(3('51 A/@%(5-3 *"5 C',;
&ineline Pencil (ompany and Subsidiary
(onsolidated 'alance Sheet
Danuary <, <.Q9
(ash /B<..,... ) B;-.,... P B-.,...0 B;..,...
+ther Assets /B>..,... P B;5.,...0 -5.,...
Total Assets B:5.,...
(urrent *iabilities /B;..,... P B5.,...0 B;5.,...
(ommon Stoc 9..,...
Aetained Earnings <..,...
Total *iabilities and Stocholders8 E,uity B:5.,...
E3-9 S%=,(3('51 A/@%(5-3 6(&; 7")3,
'yte (omputer (orporation and Subsidiary
(onsolidated 'alance Sheet
Danuary <, <.Q9
(ash /B<..,... P B-.,...0 B<-.,...
+ther Assets /B>..,... P B;5.,...0 -5.,...
Total Assets B59.,...
(urrent *iabilities B;5.,...
'onds Payable B;>.,...
'ond Premium ;.,... ;-.,...
(ommon Stoc 9..,...
Aetained Earnings <..,...
Total *iabilities and Stocholders8 E,uity B59.,...
E3-1 S%=,(3('51 A/@%(5-3 =1 I,,%()0 P5-*-55-3 S&"/A
'yte (omputer (orporation and Subsidiary
(onsolidated 'alance Sheet
Danuary <, <.Q9
(ash /B<..,... P B-.,...0 B<-.,...
+ther Assets /B>..,... P B;5.,...0 -5.,...
Total Assets B59.,...
(urrent *iabilities /B;..,... P B5.,...0 B;5.,...
Preferred Stoc /B: " ;-,...0 C.,...
Additional Paid)1n (apital /B> " ;-,...0 :.,...
(ommon Stoc 9..,...
Aetained Earnings <..,...
Total *iabilities and Stocholders8 E,uity B59.,...
3-16
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-11 R-$"5&()0 *"5 ' .'5('=+- I)&-5-,& E)&(&1
2amble (ompany
(onsolidated 'alance Sheet
(ash B ;5,:..,.../a0
'uildings and E,uipment B97.,:..,.../b0
*ess@ Accumulated ?epreciation /;.,;..,... 0 9:.,-..,...
Total Assets B97C,;..,...
Accounts Payable B -,...,...
'onds Payable <.,9..,...
'an !otes Payable ;>.,...,...
!oncontrolling 1nterest -,:..,...
(ommon Stoc B;.9,...,...
Aetained Earnings ;.-,<..,... <.5,<..,...
Total *iabilities and E,uities B97C,;..,...
/a0 B;5,:..,... O B9,...,... P B-,:..,... P /B;>.,...,... R B;9.,...,...0
/b0 B97.,:..,... O B<>.,:..,... P B;9.,...,...
E3-12 C"),"+(3'&(") "* ' .'5('=+- I)&-5-,& E)&(&1
Teal (orporation
(onsolidated 'alance Sheet
Total Assets B:5<,-../a0
Total *iabilities B--.,.../b0
!oncontrolling 1nterest <<,-../c0
(ommon Stoc B;-,...
Aetained Earnings C-,... ;;.,...
Total *iabilities and E,uities B:5<,-..
/a0 B:5<,-.. O B-..,... P B;C.,... ) B7,-..
/b0 B--.,... O B>7.,... P B5.,...
/c0 B<<,-.. O /B-..,... ) B>7.,...0 " .7-
3-1
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-13 C"#$%&'&(") "* S%=,(3('51 N-& I)/"#-
6esser (ompany reported net income of B:.,... /B;5,... E .9.0 for <.QC.
E3-14 I)/"#$+-&- C"),"+(3'&(")
a. 'elchfire apparently owns ;.. percent of the stoc of Premium 'ody Shop since the
balance in the investment account reported by 'elchfire is e,ual to the net boo value
of Premium 'ody Shop.
b. Accounts Payable
'onds Payable
(ommon Stoc
Aetained Earnings
B :.,...
:..,...
<..,...
<:.,...

B;,;<.,...
Accounts receivable were reduced by
B;.,..., presumably as a reduction
of receivables and payables.
There is no indication of intercorporate
ownership.
(ommon stoc of Premium must be
eliminated.
Aetained earnings of Premium also must
be eliminated in preparing
consolidated statements.
E3-15 N")/")&5"++()0 I)&-5-,&
a. The total noncontrolling interest reported in the consolidated balance sheet at Danuary
;, <.Q7, is B;<:,... /B><.,... " .9.0.
b. The stocholders8 e,uity section of the consolidated balance sheet includes the claim of
the noncontrolling interest and the stocholders8 e,uity section of the subsidiary is
eliminated when the consolidated balance sheet is prepared@
(ontrolling 1nterest@
(ommon Stoc B >..,...
Additional Paid)1n (apital <<<,...
Aetained Earnings 9-5,...
Total (ontrolling 1nterest B C5.,...
!oncontrolling 1nterest ;<:,...
Total Stocholders3 E,uity B;,;.:,...
c. Sanderson is mainly interested in assuring a steady supply of electronic switches. 1t can
control the operations of =line with 7. percent ownership and can use the money that
would be needed to purchase the remaining shares of =line to finance additional
operations or purchase other investments.
3-1!
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-16 C"#$%&'&(") "* C"),"+(3'&-3 N-& I)/"#-
a. Ambrose should report income from its subsidiary of B;-,... /B<.,... " .7-0 rather
than dividend income of BC,....
b. A total of B-,... /B<.,... " .<-0 should be assigned to the noncontrolling interest in the
<.Q> consolidated income statement.
c. (onsolidated net income of B7.,.... should be reported for <.Q>, computed as follows@
Aeported net income of Ambrose B-C,...
*ess@ ?ividend income from =roop /C,... 0
+perating income of Ambrose B-.,...
!et income of =roop <.,...
(onsolidated net income B7.,...
d. 1ncome of B7C,... would be attained by adding the income reported by Ambrose
/B-C,...0 to the income reported by =roop /B<.,...0. However, the dividend income
from =roop recorded by Ambrose must be e"cluded from consolidated net income.
E3-17 C"#$%&'&(") "* S%=,(3('51 7'+')/-,
a. *ight8s net income for <.Q< was B9<,... /B5,... E .<-0.
b
.
(ommon Stoc +utstanding /;0 B;<.,...
Additional Paid)1n (apital /given0 >.,...
Aetained Earnings /B7.,... P B9<,...0 ;.<,...
Total Stocholders8 E,uity B<:<,...
/;0 (omputation of common stoc outstanding@
Total stocholders8 e,uity /B:-,-.. E .<-0 B<:<,...
Additional paid)in capital />.,...0
Aetained earnings /;.<,... 0
(ommon stoc outstanding B;<.,...
3-1"
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-18 S%=,(3('51 A/@%(5-3 '& N-& 7""A .'+%-
'anner (orporation and Subsidiary
(onsolidated 'alance Sheet
?ecember 9;, <.Q5
(ash /B>.,... P B<.,...0 B :.,...
Accounts Aeceivable /B;<.,... P B7.,...0 ;C.,...
1nventory /B;5.,... P BC.,...0 <7.,...
&i"ed Assets /net0 /B9-.,... P B<>.,...0 -C.,...
Total Assets B;,;;.,...
Accounts Payable /B:-,... P B9.,...0 B C-,...
!otes Payable /B9-.,... P B<<.,...0 -7.,...
(ommon Stoc ;-.,...
Aetained Earnings <C-,...
Total *iabilities and Stocholders8 E,uity B;,;;.,...
E3-19! A$$+1()0 A+&-5)'&(:- A//"%)&()0 T;-"5(-,
a. Proprietary theory@
Total revenue FB>..,... P /B<..,... " .7-0G B--.,...
Total e"penses FB<5.,... P /B;:.,... " .7-0G >..,...
(onsolidated net income FB;<.,... P /B>.,... " .7-0G ;-.,...
b. Parent company theory@
Total revenue /B>..,... P B<..,...0 B:..,...
Total e"penses /B<5.,... P B;:.,...0 >>.,...
(onsolidated net income FB;<.,... P /B>.,... " .7-0G ;-.,...
c. Entity theory@
Total revenue /B>..,... P B<..,...0 B:..,...
Total e"penses /B<5.,... P B;:.,...0 >>.,...
(onsolidated net income /B;<.,... P B>.,...0 ;:.,...
d. (urrent accounting practice@
Total revenue /B>..,... P B<..,...0 B:..,...
Total e"penses /B<5.,... P B;:.,...0 >>.,...
(onsolidated net income /B;<.,... P B>.,...0 ;:.,...
3-20
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-2! M-',%5-#-)& "* G""36(++
a. B<>.,... O computed in the same manner as under the parent company
approach.
b. B>..,... O B<>.,... E .:.
c. B>..,... O computed in the same manner as under the entity theory.
E3-21! .'+%'&(") "* A,,-&, %)3-5 A+&-5)'&(:- A//"%)&()0 T;-"5(-,
a. Entity theory@
'oo Jalue /B<>.,... " ;...0 B<>.,...
&air Jalue 1ncrease /B-.,... " ;...0 -.,...
B<C.,...
b. Parent company theory@
'oo Jalue /B<>.,... " ;...0 B<>.,...
&air Jalue 1ncrease /B-.,... " .7-0 97,-..
B<77,-..
c. Proprietary theory@
'oo Jalue /B<>.,... " .7-0 B;5.,...
&air Jalue 1ncrease /B-.,... " .7-0 97,-..
B<;7,-..
d. (urrent accounting practice@
'oo Jalue /B<>.,... " ;...0 B<>.,...
&air Jalue 1ncrease /B-.,... " ;...0 -.,...
B<C.,...
3-21
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
E3-22! R-$"5&-3 I)/"#- %)3-5 A+&-5)'&(:- A//"%)&()0 T;-"5(-,
a. Entity theory@
Total revenue /B>;.,... P B<..,...0 B:;.,...
Total e"penses /B9<.,... P B;-.,...0 >7.,...
(onsolidated net income FBC.,... P /B-.,... " ;...0G ;>.,...
b. Parent company theory@
Total revenue /B>;.,... P B<..,...0 B:;.,...
Total e"penses /B9<.,... P B;-.,...0 >7.,...
(onsolidated net income FBC.,... P /B-.,... " .5.0G ;9.,...
c. Proprietary theory@
Total revenue FB>;.,... P /B<..,... " .5.0G B-7.,...
Total e"penses FB9<.,... P /B;-.,... " .5.0G >>.,...
(onsolidated net income FBC.,... P /B-.,... " .5.0G ;9.,...
d. (urrent accounting practice@
Total revenue /B>;.,... P B<..,...0 B:;.,...
Total e"penses /B9<.,... P B;-.,...0 >7.,...
(onsolidated net income FBC.,... P /-.,... " ;...0G ;>.,...
E3-23! A/@%(,(&(") "* M'>"5(&1 O6)-5,;($
a. !et identifiable assets@ B:C.,... O B-<.,... P B;7.,...
b. 2oodwill@ B9.,... O B<..,... ) B;7.,...
c. !oncontrolling interest@ B-.,... O B<..,... " .<-
3-22
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
SOLUTIONS TO PRO7LEMS
P3-24 M%+&($+--C;"(/- Q%-,&("), ") C"),"+(3'&-3 ')3 C"#=()-3 F()')/('+
S&'&-#-)&, 2AICPA A3'$&-34
;. d
<. c
9. b
>. c
P3-25 I)&-5/"#$')1 S'+-,
a. !et income will be overstated by B9.,... /B-.,... ) B<.,...0 if no ad%ustment is made
to eliminate the effects of the intercompany transfer.
b.
=night (orporation and Subsidiary
(onsolidated 1ncome Statement
Iear Ended ?ecember 9;, <.Q:
Sales B9..,...
(ost of goods sold /<..,... 0
(onsolidated net income B;..,...
c.
=night (orporation and Subsidiary
(onsolidated 1ncome Statement
Iear Ended ?ecember 9;, <.Q:
Sales B<-.,...
(ost of goods sold /;5.,... 0
(onsolidated net income B 7.,...
d. Each of the three income statement items is changed when the effects of the
intercompany sale are eliminated.
3-23
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-26 I)&-5/"#$')1 I):-)&"51 T5'),*-5
a. 1nventory on Danuary ;, <.Q9@
'alance reported by Aiver Products B<-,...
$nrealized profits recognized by (layborn /;-,... 0
(onsolidated inventory B;.,...
b. (ost of 2oods Sold for <.Q<@
(ost of goods sold recorded by (layborn B;.,...
(ost of goods sold recorded on intercompany sale /;.,... 0
(ost of goods sold recorded on sales to outsiders B ).)
c. (ost of 2oods Sold for <.Q9@
(ost of goods sold recorded by Aiver Products B<-,...
Profit recorded on intercompany sale by (layborn /;-,... 0
(onsolidated cost of goods sold B;.,...
d. Sales for <.Q<@
Sales recognized by (layborn B<-,...
1ntercompany sale recorded by (layborn /<-,... 0
(onsolidated sales B ).)
e. Sales for <.Q9@
Sales recognized by Aiver Products B--,...
1ntercompany sales during <.Q9 /).) 0
(onsolidated sales B--,...
3-24
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-27 D-&-5#()()0 N-& I)/"#- "* P'5-)& C"#$')1
(onsolidated net income B;:>,9..
1ncome of subsidiary /B;-,<.. E .>.0 /95,... 0
1ncome from Tally8s operations B;<:,9..
P3-28 R-$"5&-3 7'+')/-,
a. The investment balance reported by Aoof will be B;C<,....
b. Total assets will increase by B9;.,....
c. Total liabilities will increase by BC-,....
d. The amount of goodwill for the entity as a whole will be B<-,...
F/B;C<,... P B>5,...0 ) /B9;.,... ) BC-,...0G.
e. !oncontrolling interest will be reported at B>5,... /B<>.,... " .<.0.
P3-29 A/@%(,(&(") P5(/-
a. B-7,... O /B;<.,... ) B<-,...0 " .:.
b. B5;,... O /B;<.,... ) B<-,...0 P B>.,... ) B->,...
c. B>5,5.. O /B;<.,... ) B<-,...0 P B<7,... ) B79,<..
3-25
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-3 C"),"+(3'&(") "* ' .'5('=+- I)&-5-,& E)&(&1
Stern (orporation
(onsolidated 'alance Sheet
Danuary ;, <.Q>
(ash B 5,;-.,... /a0
Accounts Aeceivable B;<,<..,... /b0
*ess@ Allowance for $ncollectibles /:;.,...0 /c0 ;;,-C.,...
+ther Assets -,>..,...
Total Assets B<-,;>.,...
Accounts Payable B C-.,...
!otes Payable 7,-..,...
'onds Payable C,5..,...
Stocholders3 E,uity@
(ontrolling 1nterest@
(ommon Stoc B 7..,...
Aetained Earnings :,;-.,...
Total (ontrolling 1nterest B :,5-.,...
!oncontrolling 1nterest >.,...
Total Stocholders3 E,uity :,5C.,...
Total *iabilities and Stocholders3 E,uity B<-,;>.,...
/a0 B 5,;-.,... O B7,C:.,... P B;C.,...
/b0 B;<,<..,... O B>,<..,... P B5,...,...
/c0 B :;.,... O B<;.,... P B>..,...
3-26
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-31 R-$"5&()0 *"5 .'5('=+- I)&-5-,& E)&(&(-,
Purified +il (ompany
(onsolidated 'alance Sheet
(ash B :>.,...
?rilling Supplies ><.,...
Accounts Aeceivable :>.,...
E,uipment /net0 5,-..,...
*and -,;..,...
Total Assets B;-,9..,...
Accounts Payable B -C.,...
'an *oans Payable ;;,5..,...
Stocholders3 E,uity@
(ontrolling 1nterest@
(ommon Stoc B -:.,...
Aetained Earnings <,;-.,...
Total (ontrolling 1nterest B<,7;.,...
!oncontrolling 1nterest <..,...
Total Stocholders3 E,uity <,C;.,...
Total *iabilities and Stocholders3 E,uity B;-,9..,...
P3-32 C"),"+(3'&-3 I)/"#- S&'&-#-)& D'&'
a. Sales@ /B9..,... P B<..,... ) B-.,...0 B>-.,...
b. 1nvestment income from *o(al 'aeries@ B ).)
c. (ost of goods sold@ /B<..,... P B;9.,... ) B9-,...0 B<C-,...
d. ?epreciation e"pense@ /B>.,... P B9.,... P B:,<-.0 B 7:,<-.
3-2
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-33 I)/"#$+-&- C"#$')1 ')3 C"),"+(3'&-3 D'&'
a. A total of B<;.,... /B;<.,... P BC.,...0 should be reported.
b. As shown in the investment account balance, 'eryl paid B;;.,... for the ownership of
Stargel. The amount paid was B9.,... greater than the boo value of the net assets of
Stargel and is reported as goodwill in the consolidated balance sheet at Danuary ;, <.Q-.
c. 1n determining the amount to be reported for land in the consolidated balance sheet,
B;-,... /B7.,... P B-.,... ) B;.-,...0 was eliminated. 'eryl apparently sold the land
to Stargel for B<-,... /B;.,... P B;-,...0.
d. Accounts payable of B;<.,... /B7-,... P B--,... ) B;.,...0 will be reported in the
consolidated balance sheet. A total of B;.,... was deducted in determining the balance
reported for accounts receivable /BC.,... P B-.,... ) B;9.,...0. The elimination of an
intercompany receivable must be offset by the elimination of an intercompany payable.
e. The par value of 'eryl8s stoc outstanding is B;..,....
3-2!
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-34 C"),"+(3'&(") F"++"6()0 I)&-5/"#$')1 S'+- "* E@%($#-)&
Potash (ompany and Subsidiary
(onsolidated 'alance Sheet
Danuary ;, <.Q7
(ash /B-.,... P B9-,...0 B 5-,...
Accounts Aeceivable /B;;.,... P B:.,... ) B;7,...0 ;-9,...
6erchandise 1nventory /BC-,... P B7-,...0 ;7.,...
E,uipment /net0 /B<9.,... P B;.-,... ) B<-,...0 9;.,...
Total Assets B7;5,...
Accounts Payable /B5<,... P B<5,... ) B;7,...0 B C9,...
!otes Payable /B<..,... P B;.7,...0 9.7,...
(ommon Stoc ;5.,...
Aetained Earnings /B;:9,... ) B<-,...0 ;95,...
Total *iabilities and Stocholders8 E,uity B7;5,...
!ote@ The B<-,... /B;;.,... ) B5-,...0 profit recorded by Potash on the sale of
e,uipment to 'ortz must be eliminated by reducing the amount reported as
e,uipment and the retained earnings balance reported by Potash.
A total of B;7,... /B;;.,... ) BC9,...0 remains as an account receivable on the
boos of Potash and a payable on the boos of 'ortz at Danuary ;, <.Q7. These
amounts must be eliminated in preparing the consolidated balance sheet.
3-2"
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-35 P'5-)& C"#$')1 ')3 C"),"+(3'&-3 A#"%)&,
a. (ommon stoc of Tempro (ompany
on ?ecember 9;, <.Q- B C.,...
Aetained earnings of Tempro (ompany
Danuary ;, <.Q- B;9.,...
Sales for <.Q- ;C-,...
*ess@ E"penses /;:.,...0
?ividends paid /;-,... 0
Aetained earnings of Tempro (ompany
on ?ecember 9;, <.Q- ;-.,...
!et boo value on ?ecember 9;, <.Q- B<>.,...
Proportion of stoc ac,uired by Suoton " .5.
Purchase price B;C<,...
b. !et boo value on ?ecember 9;, <.Q- B<>.,...
Proportion of stoc held by
noncontrolling interest " .<.
'alance assigned to noncontrolling interest B >5,...
c. (onsolidated net income is B;>9,.... !one of the <.Q- net income of Tempro
(ompany was earned after the date of purchase and, therefore, none can be included
in consolidated net income.
d. (onsolidate net income would be B;75,... FB;>9,... P /B;C-,... ) B;:.,...0G.
3-30
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-36 P'5-)& C"#$')1 ')3 C"),"+(3'&-3 7'+')/-,
a. 'alance in investment account, ?ecember 9;, <.Q7 B<-C,5..
E"acto net assets on date of ac,uisition B<:.,...
(umulative earnings since ac,uisition ;;.,...
(umulative dividends since ac,uisition />:,... 0
!et assets on ?ecember 9;, <.Q7 B9<>,...
Proportion of stoc held by True (orporation " .7-
'oo value of claim by True (orporation /<>9,...0
$namortized differential ?ecember 9;, <.Q7 B ;:,5..
!umber of years remaining for amortization T 7
Annual amortization B <,>..
Total years of amortization " ;.
Amount paid in e"cess of boo value B <>,...
b. B9<,... /B<>,... E .7-0 will be added to buildings and e,uipment each year.
c. BC,:.. /B9,<.. " 9 years0 will be added to accumulated depreciation at
?ecember 9;, <.Q7.
d. B5:,:.. O F/B9<>,... P B9<,... ) BC,:..0 " .<-G will be assigned to
noncontrolling interest in the consolidated balance sheet prepared at ?ecember 9;,
<.Q7.
3-31
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-37 I)3(5-/& O6)-5,;($
The following ownership chain e"ists@
The earnings of 'lue (ompany and +range (orporation are included under cost method
reporting due to the ;. percent ownership level of +range (orporation.
!et income of 2reen (ompany@
Aeported operating income B <.,...
?ividend income from +range /B9.,... " .;.0 9,...
E,uity)method income from Iellow /B:.,... " .>.0 <>,...
2reen (ompany net income B >7,...
(onsolidated net income@
+perating income of Purple B C.,...
!et income of 2reen >7,...
(onsolidated net income B;97,...
Purple company net income /!ot Ae,uired0@
+perating income of Purple B C.,...
Purple8s share of 2reen8s net income /B>7,... " .7.0 9<,C..
Purple3s net income B;<<,C..
3-32
Purple
.60
.10 #40
.70
2reen
Iellow +rang
e
'lue
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-38 C"#$5-;-),(:- P5"=+-#B C"),"+(3'&-3 F()')/('+ S&'&-#-)&,
a. (ash@ B7;,... P B99,... O B;.>,...
b. Aeceivables /net0@ B>9;,... P B;<<,... ) B>-,... O B-.5,...
c. 1nventory@ BC.C,... P B97.,... ) /B>-,... ) B9>,...0 O B;,<:5,...
d. 1nvestment in 6angle Stoc@ !ot reported in consolidated statements
e. E,uipment /net0@ B;,-<5,... P B>7-,... P B<-,.../;0 ) B-,.../<0 O B<,.<9,...
/;0 B<-,... O FB--,... R /B;,<-.,... ) B;,<<.,...0G
/<0 B-,... O B<-,... E - years
f. 2oodwill@ /B;,<-.,... ) B;,<<.,...0 O B9.,...
g. (urrent Payables@ B<<7,... P BC-,... ) B>-,... O B<77,...
h. (ommon Stoc /par0@ B;,...,...
i. Sales Aevenue@ B5,9<-,... P B<,C5.,... ) B>-,... O B;;,<:.,...
%. (ost of 2oods Sold@ B-,;-.,... P B<,.;.,... ) B9>,... O B7,;<:,...
. ?epreciation E"pense@ B9.<,... P B5-,... P B-,... O B9C<,...
3-33
Chapter 03 - The Reporting Entity and Consolidated Financial Statements
P3-39! 7'+')/- S;--& A#"%)&, %)3-5 A+&-5)'&(:- A//"%)&()0 T;-"5(-,
a. Proprietary theory@
(ash and inventory FB9..,... P /B5.,... " .7-0G B9:.,...
'uildings and E,uipment /net0
FB>..,... P /B;5.,... " .7-0G -9-,...
2oodwill FB<;.,... ) /B<:.,... " .7-0G ;-,...
b. Parent company theory@
(ash and inventory /B9..,... P B5.,...0 B95.,...
'uildings and E,uipment /net0
FB>..,... P B;<.,... P /B:.,... " .7-0G -:-,...
2oodwill FB<;.,... R /B<:.,... " .7-0G ;-,...
c. Entity theory@
(ash and inventory /B9..,... P B5.,...0 B95.,...
'uildings and E,uipment /net0
/B>..,... P B;5.,...0 -5.,...
2oodwill F/B<;.,... E .7-0 ) B<:.,...G <.,...
d. (urrent accounting practice@
(ash and inventory /B9..,... P B5.,...0 B95.,...
'uildings and E,uipment /net0
/B>..,... P B;5.,...0 -5.,...
2oodwill F/B<;.,... E .7-0 ) B<:.,...G <.,...
3-34