POO LI N G O F I NT E RE ST S A C C OU N TIN G
Pooling of interests accounting for business combinations is a thing of the past under U.S.
GAAP. No new pooling combinations may be recorded after 2001. Many of the detailed issues
related to poolings concern the original recording of the combination. Because there are no new
poolings, this material is considerably less important than it was at the writing of prior editions of
this text. The information in this electronic supplement to Chapter 1 is primarily related to the
initial recording of poolings. Again, grandfathering of prior poolings makes it useful to understand
the recording of past poolings, but you will not need this accounting detail for transactions that
will not recur in the future.
ES1
Electronic Supplement to Chapter 1 ES1
The third condition for pooling was that none of the combining companies changed the equity
interest of the voting common stock in contemplation of effecting the combination within two
years before initiation of the plan of combination or between the dates of initiation and
consummation.
A fourth condition was that each of the combining companies reacquired shares of voting com-
mon stock only for purposes other than business combination, and that no company reacquired
more than a normal number of shares between the dates the plan was initiated and consummated.
This restriction on treasury stock transactions generally did not apply to shares purchased for stock
option or compensation plans.
The fifth condition required that the proportionate interest of each individual common stock-
holder in each of the combining companies remain the same as a result of the exchange of stock to
effect the combination. For example, if Stockholder A held 100 shares in the other combining
com- pany and Stockholder B held 200 shares, then Stockholder Hs interest in the pooled entity
must have been twice that of As for the combination to be a pooling of interests.
Condition 6 specified that the voting rights in the combined corporation be immediately
exercisable by the stockholders The final condition required resolution of the combination on the
date of consum- mation, with no provisions pending that related to the issue of securities or other
considerations.
ABSENCE OF PLANNED TRANSACTIONS The last group of conditions for a pooling of interests focused on
planned transactions of the combined entity. First, the combined corporation must not have
retired or reacquired stock issued to effect the combination. Second, the combined corporation
must not have entered into financial arrangements (such as long guarantees) for the benefit of
former stockholders of a combining company. Finally, the combined corporation must not have
planned to dispose of a significant part of the assets of the combining companies within two
years after the combination. Plants to dispose of assets that represented duplicate facilities were
permissible.
If all 12 of these conditions were met, the business combination was accounted for as a pooling
of interests; otherwise, the purchase method was used. Exhibit 1-1 reviews the 12 conditions for a
pooling of interests.
Attributes of Combining Companies EX H IB IT 1 -1
1 Autonomous (two-year rule) Tw e lv e Co n d it io n s
2 Independent (10% rule) fo r P ooli n g ( AP B
Op in io n N o .1 6 )
Manner of Combining Interests
1 Single transaction (or completed within one year after initiation)
2 Exchange of common stock (the substantially all rule: 90% or more)
3 No equity changes in contemplation of combination (two-year rule)
4 Shares reacquired only for purposes other than combination
5 No change in proportionate equity interests
6 Voting rights immediately exercisable
7 Combination resolved at consummation (no pending provisions)
Absence of planned Transactions
1 Issuing company cannot reacquire shares
2 Issuing company cannot make deals to benefit former stockholders
3 Issuing company cannot plan to dispose of assets within two years
In cases 1 and 2 that follow, the pooling was in the form of a merger, in which Jake
Corporation was the issuing corporation and the surviving entity. In cases 3, 4, and 5, the pooling
was in the form of a consolidation, and Pete Corporation was formed to take over the net assets of
Jake and Kate. Jake and Kate disappeared.
The previous cases illustrated accounting procedures for a merger accounted for as a pooling of
interests. Accounting procedures for consolidation of Jake and Kate are illustrated by assuming
that Pete Corporation was formed to take over the net assets of Jake and Kate Corporations.
CASE 3: CONSOLIDATION; PAID-IN CAPITAL EXCEEDS STOCK ISSUED
Pete Corporation issued 15,000 shares of $10 par capital stock, 10,000 to Jake and 5,000 to Kate,
for their net assets. In this case, the stockholders equity of Pete, the surviving entity, was the
same as for Jake Corporation in Case 1. Pete, however, opened its books with the following entry:
Net assets (+A) 260
Capital stock, $10 par (+SE) 150
Additional paid-in capital (+SE) 30
Retained earnings (+SE) 80
To record issuance of 10,000 shares to Jake and 5,000
shares to Kate in a business combination accounted
for as a pooling of interests.
The $180,000 combined paid-in capital of Jake and Kate exceeded the $150,000 capital stock of
Pete, the surviving entity, so the $30,000 excess was the additional paid-in capital of the pooled
entity. Also, the $80,000 maximum retained earnings was pooled.
The $180,000 total paid-in capital of the combining entities exceeded the $170,000 capital stock
of
Pete; therefore, the $10,000 excess was the additional paid-in capital of the pooled entity, and the
$80,000 maximum retained earnings was pooled.
The $190,000 capital stock of Pete, the surviving entity, exceeded the $180,000 total paid-in capi-
tal of Jake and Kate, so the maximum pooled retained earnings was reduced by the $10,000 excess
to $70,000, and the pooled entity had no additional paid-in capital.
SUMMARY BALANCE SHEETS A summary balance sheet for the surviving entity in each of the five pool-
ing of interests business combinations is shown in Exhibit 1-2.
E XH I BI T 1- 2 Merger Jakes Books Consolidation Petes Books
S u mmar y B a la n c e Case 1 Case 2 Case 3 Case 4 Case 5
Sh ee t s fo r t h e F iv e
Po o lin g o f In t e re st s Net assets $260 $260 $260 $260 $260
C as e s
Capital stocks, $10 par $170 $190 $150 $170 $190
Retained earnings 80 70 80 80 70
STOCK OF ONE COMBINING COMPANY HELO BY ANOTHER COMBINING COMPANY The method of accounting for the
stock of one combining company held by another combining company depends on whether the
stock is stock of the surviving entity. An investment in the common stock of the surviving entity is
returned to the surviving company in the combination and is treated as treasury stock of the com-
bined entity. Alternatively, an investment by the surviving entity in another combining company is
treated as stock retired as part of the combination.
Let us illustrate this requirement by assuming that Kam Corporation owned 200 shares of Lax
Corporation common stock at the consummation of the Kam and Lax merger. Kam carried its
Investment in Lax account at its $3,000 cost. Summary data (in thousands) for Kam and Lax are as
follows:
Kam
Investment in Lax $ 3
Other assets 197
Total $200
Capital stock, $10 per $100
Additional paid-in capital 50
Retained earnings 50
Total $200
If Kam was the surviving entity and issued 19,800 shares to Lax (a 1:1 exchange ratio), the
pooling of interests merger was recorded on Kams books as follows:
Net assets (+A) 30
Capital stock $10 par (+SE)
Additional paid in capital (+SE)
Retained earnings (+SE)
Investment in Lax (A)
To record merger with Lax Corporation
If Lax was the surviving entity and issued 10,000 shares of its own stock for 10,000 shares of
Kam
(a 1:1 exchange ratio), the pooling of interests merger was recorded on the books of Lax as follows:
Net assets (+A) 19
Treasury stock (-SE)
Capital stock, $10 par (+SE)
Additional paid-in capital (+ SE)
Retained earnings (+ SE)
To record merger with Kam Corporation.
In each of these examples, the net assets of the surviving entity were $3,000 less than the
recorded assets of the combining companies. The related effect on the combined stockholders
equity was to reduce paid-in capital when the investment was in the combining company and to
record treasury stock when the investment was in stock of the surviving entity.
Expenses Related to Pooling Combinations
The costs incurred to effect a business combination and to integrate the operations of the combin-
ing companies in a pooling were expenses of the combined corporation. For example, costs of
registering and issuing securities, providing stockholders with information, paying accountants and
consultants fees, and paying finders fees to those who discovered the combinable situation were
recorded as expenses of the combined entity in the period in which they were incurred. If Jake or
Pete Corporation in the preceding cases had incurred accountants fees, consultants fees, costs of
security registration, and other costs of combining, the combined net assets of the surviving entity
would have been less and combined expenses would have been greater. However, the capital stock
and pooled retained earnings recorded at April 1, 2001, would have been the same.
As discussed previously, financial statements of a pooled entity for the year of combination
should have been presented as if the combination had been consummated at the beginning of the
period. In addition, if comparative financial statements for prior years were presented, they must
have been restated on a combined basis with disclosure of the fact that the statements of
previously separate companies had been combined.5
POO LI N G AN D AC Q U IS IT IO N M ET HO D S CO M P AR E D
EXH IB I T 1 -3
COMPARATIVE TRIAL BALANCES DECEMBER 30, 2000 (IN THOUSANDS)
Pre me r ge r Bo o k
Black White White Val ue a n d F ai r Val ue
Corporation Corporation Corporation In f o rmat io n
per Books per Books Fair Values
Cash (-A) 60 60
Allocation of Investment
Cash (+A) 125 125
The Black and White merger was consummated on December 31, 2000, with Black
Corporation, the surviving entity, issuing 50,000 shares of $10 par common stock with a total
market value of
$885,000 for the net assets of White Corporation. The cost of registering and issuing the common
stock was $20,000, and other direct costs of the business combination amounted to $40,000. These
costs were paid by Black Corporation on December 31, 2000. Under GAAP, all costs related to
the acquisition must be expensed.
JOURNAL ENTRIES Journal entries to record the Black and White merger as a pooling of interests are
compared with entries necessary to record the merger as an acquisition in Exhibit 1-4. The first set
of entries compares the differences in recording the stock issued by Black Corporation in the
merger. Under the pooling method, we record the investment in White at $650,000, the book value
of Whites net assets on January 1, 2000 (capital stock plus additional paid-in capital plus retained
earnings). Under the acquisition method, we record the investment in White at the $885,000 mar-
ket value of the shares issued by Black Corporation on December 31, 2000, the date on which the
business combination was consummated. We combine the retained earnings of Black and White in
the entry to record the stock issuance under the pooling of interests method, but there is no change
in Black Corporations retained earnings when recording the combination as an acquisition.
The second section of Exhibit 1-4 shows journal entries to record additional costs of the busi-
ness combination under the pooling and acquisition methods. All additional costs of combination
are expenses when recording the combination.
A third set of comparative journal entries in Exhibit 1-4 shows assignment of the Investment in
White balance to specific assets and liabilities, and in the case of a pooling of interests, to sales and
expenses. We record assets and liabilities at their fair market values when applying the acquisition
method and at their book values under the pooling method. We record the excess of investment
cost ($925,000) over the fair value of identifiable net assets ($825,000) as goodwill under the
acquisition
method. The excess of fair value over historical cost to White, which was allocated to inventories
($60,000) and to plant and equipment ($100,000) under acquisition accounting, also will increase
future expenses and decrease future income as compared with the pooling method. Thus, income
of Black Corporation in subsequent years will be lower if we record the Black and White merger
as an acquisition rather than a pooling of interests.
FINANCIAL STATEMENTS Exhibit 1-5 compares the combined financial statements for Black Corporation
for 2000 for the acquisition and pooling methods. The differences in the comparative income
statements result from the combining of sales and expenses under the pooling method but not
under acquisition accounting.
Balance Sheet
Assets
Goodwill 100
D IS C LOS U R E RE Q UI R EM EN T S FO R A PO OL IN G
The combined corporation must disclose that the business combination was accounted for as a
pooling of interests. In addition, financial statement notes for the period of pooling should include
the names of the combined companies, a description of the shares issued, the details of the results
of operations of the separate companies before pooling, the nature of any asset adjustments to
adopt the same accounting practices, the details of the effect on retained earnings of changing the
fiscal period of a combining company, and a reconciliation of the issuing companys revenue and
earnings with combined amounts after the pooling. When a new corporation was formed in a
pool- ing, this last disclosure requirement could be met by disclosing the earnings of the separate
com- panies that comprised the combined earnings for the period.
ASSIGNMENT MA TERIAL
W 1-1
Explain the basic differences between the acquisition and pooling of interests methods of accounting for business
combinations.
W 1-2
Ordinarily, the retained earnings of the surviving corporation in a pooling of interests would be equal to the combined
retained earnings of the combining companies. Under what conditions would combined retained earnings be less than
or greater than the total retained earnings of the combining companies?
W 1-3
Explain how the direct and indirect costs of combination are recorded for acquisition business combinations and for
poolings of interests.
W 1-14
Expenses of a business combination
Carrier Corporation issued 100,000 shares of $20 par common stock for all the outstanding stock of Homer Corporation in
a business combination consummated on July 1, 2000. Carrier Corporation common stock was selling at $30 per share at
the time the business combination was consummated. Out-of-packet costs of the business combination were as follows:
1. If the business combination were treated as a pooling of interests, the acquisition cost of the combination would
have been:
a $3,097,000
b $2,097,000
c $2,080,000
d None of the above
2. If the combination were treated as an acquisition, the acquisition cost of the combination would have been:
a $3,097,000
b $3,000,000
c $3,017,000
d None of the above
W 1-5
Income after a combination
Franklin and Harlow Corporations were combined on April 1, 2000, in a pooling of interests business combination, and
Harlow was dissolved. For the year 2000, the companies had the following earning records:
1. Franklin, the surviving corporation, would have reported income for 2000 of:
a $660,000
b $700,000
c $860,000
d $900,000
2. Franklins financial statement notes for 2000 should have included:
a A description of all classes of preferred and common stock exchanged in the consummation of the pooling
b A reconciliation of Franklins revenue and earnings with combined amounts after the pooling of interests
c A description of any contingent payments that may result in 2001 from the pooling of interests
d The cost of acquiring Harlow
ES14 CHAPTER 1
W 1-6
Combining assets and equities
Patter Corporation issued 500,000 shares of its own $10 par common stock for all the outstanding stock of Simpson
Corporation in a merger consummated on July 1, 2000. On this date, Patter stock was quoted at $20 per share. Summary
balance sheet data for the two companies at July 1, 2000, just before combination, were as follows (in thousands):
Patte
1. If the business combination were treated as a pooling of interests, the pooled retained earnings immediately after
the combination would have been:
a $5,000
b $6,000
c $7,000
d $8,000
2. If the business combination were treated as a pooling of interests, the additional paid in capital immediately after
the combination would have been:
a $5,000
b $4,000
c $3,000
d $2,000
3. If the business combination were treated as an acquisition and Simpsons identifiable net assets had a fair value of
$9,000,000, Patters balance sheet immediately after the combination would have showed goodwill of:
a $1,000
b $2,000
c $3,000
d $4,000
W 1-7
Journal entries to record business combinations
IceAge Company issued 120,000 shares of $10 par common stock with a fair value of $2,550,000 for all the voting
common stock of Jester Company. In addition, IceAge incurred the following additional costs:
Legal fees to arrange the business combination
Cost of SEC registration, including accounting and legal fees
Cost of printing and issuing new stock certificates
Indirect costs of combining including allocated
overhead and executive salaries
Immediately before the business combination in which Jester Company was dissolved, Jesters assets and equities
were as follows (in thousands):
R E Q U I R E D : Assume that the business combination is a pooling of interests. Prepare all journal entries on
IceAges books to record the business combination.
Electronic Supplement to Chapter 1 ES15
W 1-8
Journal entries to record a pooling
On January 1, 2000, Placate Corporation held 2,000 shares of Service Corporation common stock acquired at $15 per
share several years earlier, On this date, Placate issued 1.5 of its $10 per shares for each of the other 98,000 out-
standing shares of Service in a pooling of interests in which Service Corporation was dissolved. Service Corporations
after-closing trial balance on December 31, 1999, consisted of the following (in thousands):
Current assets $ 800
Plant and equipmentnet 1,500
Liabilities $ 200
Capital stock, $5 par 500
Additional paid-in capital 1,000
Retained earnings 600
$2,300 $2,300
R E Q U I R E D : Prepare a journal entry (or entries) on Placates books to account for the pooling of interests.
(Hint: Do not forget to consider the 2,000 shares of Service held by Placate on January 1, 2000.)
W 1-9
Prepare balance sheets of pooled companies
Tansy Corporation issued its own common stock for all the outstanding shares of Vatters Corporation in a pooling of
interests business combination on January 1, 2000. The balance sheets of the two companies at December 31, 1999,
were as follows (in thousands):
Tansy Vatters
R E Q U I R E D : Prepare balance sheets for Tansy Corporation on January 1, 2000, immediately after the
pool- ing of interests in which Vatters was dissolved under the following assumptions:
1. Tansy issued 800,000 of its common shares for all of Vatters outstanding shares.
2. Tansy issued 1,000,000 of its common shares for all of Vatters outstanding shares.
ES16 CHAPTER 1
W 1-10
Journal entries to record pooling business combinations
Gladfresh and Farmstone Corporations entered into a business combination accounted for as a pooling of interests in
which Farmstone was dissolved. Net assets and stockholders equities of the two companies immediately before the
pooling follow (in thousands):
Gladfresh Farmstone
REQUIRED
1. Prepare the journal entry on Gladfresh Corporations books to record the pooling with Farmstone if
Gladfresh issued 35,000, $10 par common shares in exchange for all of Farmstone common shares.
2. Prepare the journal entry on Gladfresh Corporations books to record the pooling with Farmstone if
Gladfresh issued 77,000, $10 par common shares in exchange for all of Farmstone common shares.
W 1-11
Journal entries and balance sheet for a pooling of Interests
On January 2, 2000, Dual and Cowhill Corporation merged their operations through a business combination accounted
for as a pooling of interests. The $300,000 direct costs of combination were paid in cash by the surviving entity on
Electronic Supplement to Chapter 1 ES17
January 2,2000. At December 31, 1999, Cowhill held 25,000 shares of Dual stock acquired at $20 per share. Summary
balance sheet information for Dual and Cowhill Corporations at December 31, 1999, was as follows (in thousands):
R E Q U I R E D : Assume that the surviving corporation was Dual Corporation and that Dual issued 1,000,000
shares of its own stock for all the outstanding shares of Cowhill Corporation.
a. Prepare journal entries on the books of Dual Corporation to record the business combination.
b. Prepare a balance sheet for Dual Corporation on January 2, 2000, immediately after the business combination.
W 1-12
Journal entries and balance sheet for a consolidation under a pooling of Interests
Patio Corporation was formed on January 2, 2000, to consolidate the operations of EPA Corporation and Century
Corporation. Summary balance sheets for the two companies at December 31, 1999, were as follows (in thousands):
Assets
Cash $ 3,000 $ 1,000
Receivablesnet 3,500 1,500
Inventories 6,000 7,000
Land 1,000 2,000
Buildingnet 7,500 3,000
Equipmentnet 3,000 5,500
Total assets $24,000 $20,000
REQUIRED
1. Prepare journal entries on the books of Patio Corporation to:
a. Record the issuance of 1,300,000 shares to the stockholders of EPA Corporation.
b. Record the issuance of 1,200,000 shares to the stockholders of Century Corporation.
c. Record payment of the costs of business combination.
2. Prepare a balance sheet for Patio Corporation at January 2,2000, immediately after the business combina-
tion has been consummated.
W 1-13
Comparative balance sheets under the pooling and acquisition methods
On January 1, 2000, Ainsley Corporation issued 500,000 shares of its capital stock for all of Biker
Corporations outstanding shares and Biker was dissolved. The fair value of Ainsleys common stock on
this date was
$25 per share. The book values and fair values of Ainsley and Biker at December 31, 1999, were as follows (in thousands):
Assets
Cash $ 3,000 $ 3,000 $ 1,000
Receivablesnet 5,500 5,500 2,000
Inventories (LIFO) 6,000 7,000 3,500
Other current assets 1,500 1,500 500
Plant assetsnet 16,000 19,000 5,000
Total assets $32,000 $ 36,000 $12,000
Equities
Accounts payable $ 5,000 $ 5,000 $ 1,800
Other liabilities 3,800 4,000 3,200
Capital stock $10 par 15,000 3,000
Other paid-in capital 3,000 1,200
Retained earnings 5,200 2,800
Total equities $32,000 $12,000
R E Q U I R E D : Prepare comparative balance sheets for Ainsley Corporation immediately after the business
combination, assuming that (a) the combination was a pooling of interests and (b) the combination was an
acquisition.