Advanced Accounting Ch. 1-3 – Flashcards
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Stock Acquisitions
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• One company controls the activities of another company usually through owning a majority of its voting stock • Parent Company = controlling company • Subsidiary = acquired company • Non-controlling Interest (formerly the minority interest) - stockholders who remain owners of the acquired company 0 other shareholders of subsidiary
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Control
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• Ownership of >50% of acquiree's stock (typically) • However, one firm can control another firm with less than 50% ownership • Under certain circumstances, majority-owned subsidiaries are not consolidated
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Variable Interest Entities (VIEs)
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• Subsidiaries where the parent does not own the majority of the shares, yet controls the entity • VIEs should be consolidated if the parent absorbs most or all of the risk associated with the entity, is the primary beneficiary of the returns of the entity, or both
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Circumstances Where Majority-Owned Subsidiaries May Not Be Consolidated
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1. Bankruptcy reorganization of the subsidiary 2. Subsidiary is under a government's control
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Reasons for Investing in Subsidiaries
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1. Stock acquisition is relatively simple 2. Often less expensive than asset acquisitions 3. Limited liability of corporate ownership by the parent
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1. Stock acquisition is relatively simple 2. Often less expensive than asset acquisitions 3. Limited liability of corporate ownership by the parent
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Financial statements prepared for the entire economic entity - both parent and subsidiary • Balance Sheet • Income Statement • Statement of Stockholders' Equity • Statement of Cash Flows Both the parent and subsidiary are separate legal entities There are times when separate financial statements are relevant, but not for filing annual reports & 10-Ks with the SEC Example: a creditor of the subsidiary may analyze the separate financial statements of the subsidiary
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Differences Between GAAP & IFRS
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1. Under GAAP, noncontrolling interest is recorded at fair value while under IFRS, noncontrolling interest can be recorded at fair or book value 2. IFRS test for goodwill impairment is slightly different than GAAP test for goodwill impairment. 3. There is potential for subsequent capitalization of future costs related to IPR under IFRS but not under GAAP. 4. Under IFRS, parent and subsidiary accounting practices need to conform, but not under GAAP. 5. Some differences exist relating to VIEs.
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Recording the Investment in Subsidiary
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• Debit "Investment in XYZ Company" for the price paid (excluding expenses) • Credit the consideration accounts • If it is a cash acquisition, initially, the recording of the investment is similar to the equity method
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Example: Hoya Corporation acquired 70% of Saxa Company's 100,000 voting shares for $60 per share by paying cash to Saxa's shareholders. Hoya paid consulting fees of $7,000 to help with the acquisition. Record Hoya's investment in Saxa including the consulting fees.
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Dr. Investment in Saxa 4.2m, Consulting Fees 7k Cr.: Cash 4.207m
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Example: Hoya Corporation acquired 70% of Saxa Company's 100,000 voting shares by issuing 35,000 shares of its $1 par stock to Saxa's shareholders. The market value of Hoya's stock at the date of acquisition is $50 per share. Hoya paid consulting fees of $7,000 to help with the acquisition as well as $25,000 registration fees for the new stock. Record Hoya's investment in Saxa including the registration and consulting fees
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Dr.: Investment in Saxa 1.75m, Consulting Fee Expense 7k Cr.: CS- APIC 25k, CS-par 35k, CS-APIC 1.715m Cash 32k
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Intercompany Accounts to be eliminated
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Parent's Account: Investment in subsidiary, intercompany receivable, intercompany payable, interest revenue, interest expense, dividend revenue, management fee received from subsidiary, sales to subsidiary, purchases of inventory from subsidiary Subsidiary account: equity accounts, intercompany payable, intercompany receivable, interest expense, interest revenue, dividends declared, management fee paid to parent, purchases of inventory from parent, sales to parent
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Implied Value
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1. Calculate the implied value of the firm by dividing the price paid by the percent of stock acquired 2. Compute the book value of the subsidiary 3. Calculate the difference between the implied value and the book value of the firm. 4. Allocate the difference to the assets and liabilities not shown at fair value. 5. Allocate any remainder difference to goodwill.
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Example: Hoya Company acquired 80% of Saxa Company's outstanding stock by paying $500,000. The book value of Saxa's net assets at the date of acquisition is $350,000. It is determined that Saxa's book value of its property, plant & equipment is undervalued by $125,000. No other differences exist between book value and fair value of assets or liabilities. 1. What is the implied value of Saxa at the acquisition date? 2. What amount should be allocated to goodwill?
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1. 625,000 2. 150,000
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Actual Entries
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journal entries that are recorded in the ACTUAL accounting system of either the parent or the subsidiary Example: Recording the initial investment by the parent Example: Recording a sale of inventory to the sub by the parent
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Work-paper only Entries
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Elimination Entries - entries that only appear in the accounting workpapers for consolidation purposes; these do not go in the journal of either firm nor are they posted to actual t-accounts Example: eliminating the investment account upon consolidation
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Hoya Corporation paid $450,000 for 100% of Saxa Corporation's $10 par common stock on December 31, 2006, when Saxa Corporation's stockholders' equity was made up of $300,000 of Common Stock, $90,000 of Additional Paid-in Capital and $60,000 of Retained Earnings. Saxa's identifiable assets and liabilities reflected their fair values on December 31, 2006. Therefore, the fair value of Saxa's net assets on the acquisition date is $450,000. 1. Prepare Hoya's journal entry to record the investment in Saxa on December 31, 2006. 2. Work-paper entries
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(1) Dr. Investment in Saxa - 450,000 Cr. Cash - 450,000 (2) Cr. Capital stock -300k, APIC - 90k, RE - 60k; Dr. Investment in Saxa-450k
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Hoya Corporation paid $360,000 for 80% of Saxa Corporation's $10 par common stock on December 31, 2006, when Saxa Corporation's stockholders' equity was made up of $300,000 of Common Stock, $90,000 of Additional Paid-in Capital and $60,000 of Retained Earnings. Saxa's identifiable assets and liabilities reflected their fair values on December 31, 2006. Therefore, the fair value of Saxa's net assets on the acquisition date is $450,000. 1. Prepare Hoya's journal entry to record the investment in Saxa on December 31, 2006. 2. Work-paper only eliminations
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1. Dr. Investment in Saxa -360k; Cr. Cash - 360k 2. Implied Value = 450k; NC interest = 90k; Elimination Entry: Dr. CS-300k, APIC-90k, RE-60k; Cr. Investment in Saxa 360k, NC interest (in Saxa) -90k
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Hoya Corporation paid $420,000 for 70% of Saxa Corporation's $10 par common stock on December 31, 2006, when Saxa Corporation's stockholders' equity was made up of $300,000 of Common Stock, $90,000 of Additional Paid-in Capital and $60,000 of Retained Earnings. Saxa's identifiable assets and liabilities reflected their fair values on December 31, 2006, except for Saxa's inventory which was undervalued by $60,000 and their land which was undervalued by $25,000. In addition, at the time of acquisition, Hoya owed Saxa $5,000 for previous credit purchases. 1. Prepare Hoya's journal entry to record the investment in Saxa on December 31, 2006. 2. Work-paper only entries
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1. Dr. Investment in Saxa - 420k; Cr. Cash - 420k 2. Implied Value = 600k; Implied Value - BV = 600k- 450k = 150k; NC interest = 30%x600k = 180k Elimination Entries: (1) Dr.: CS-par - 300k, CS - APIC - 90k, RE - 60k, Diff. btw. IM + BV - 150k; Cr.: Investment in Saxa 420k, NC interest 180k (2) Dr.:Inventory - 60k, Land - 25k, Goodwill - 65k; Cr. Difference btw. IM and BV -150k (3) Dr. - A/P - Hoya - 5k; Cr.: A/R - Saxa 5k
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First elimination entry for subsidiary with treasury stock
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Dr. CS-par,CS-APIC, RE, Diff. btw. IM&BV; Cr. Investment in Saxa, NC interest, TS-saxa. The computation of the percentrage interest acquired, as well as the total equity acquired, is based on shares outstanding (Not shares of subsidiary's issue) and should exclude treasury stocks;
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Accounting for the Investment by the Parent
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• During the consolidation process, the "investment" account is eliminated against the equity of the subsidiary • However, the parent company must account for the "investment" in its own accounting system
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Stock given as consideration is valued at: A) Fair Market Value B)Par Value C)Historical Cost D) None of the Above
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A) Fair Market Value
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Which of the following advantages and/or disadvantages of stock acquisitions relative to asset acquisitions (and subsequent consolidated financial statements) is misstated? a) Consolidated statements need not be produced as long as a parent company owns less than 50% of the voting shares b) stocks can be acquired by open-market purchases or by cash tender offers to subsidiary's stockholders c) control of the subsidiary's operating can be accomplished with a much smaller investment, since not all of the stock need be acquired d) the separate legal existence of the individual affiliates provides an element of protection of the parent's assets from attachment by creditors of the subsidairy
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a) Consolidated statements need not be produced as long as a parent company owns less than 50% of the voting shares
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Which of the following is not (generally) an advantage of stock acquisitions over asset acquisitions? A)speed b)majority of ownership not required c) liability protection d) anonymity
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d) anonymity
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In its conceptual framework, the FASB set out a number of principles to be adhered to in standard setting and in interpreting financial statements. The decision to require a consolidated statement, rather than separate financial statements, for a parent firm and its subsidiary best illustrates which of the following principles or concepts? A)periodiocity b)going concern c)materiality d) economic entity
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d) economic entity
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Which of the following adjustemnets do not occur in the consolidation process? a) Elimination of parent's retained earnings b) elimination of intra-company balances c)allocations of difference between implied and book values d)elimination of the investment account
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B) elimination of itra-company balances
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The noncontrolling interest in the subsidiary is reported as: A)Asset B)Liability C)Equity D)Expense
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c) equity (preferably first because it is close to being a liability)
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T/F: In computing the difference between the implied and book values, the implied value of the acquired entity will always equal the purchase price to the parent
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false
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T/F: in the computation and allocation of the difference btw. IM and BV schedule for a stock acquisition, the implied value of subsidiary equity is computed as (purchase price) divided by (percentage acquired by parent)
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true
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T/F: once the eliminating/adjusting entry columns of the worksheet are completed, the entries are posted to the books of the company's general ledger and therefore need not be repeated in the following year in the consolidating process
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false
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in allocating the difference between implied and book values, if the difference is more than needed to adjust all net assets to market values, then the excess is goodwill
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true
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adjusting entries
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those needed to correct any accounts of the affiliates that may be incorrect or to recognize the unrecorded effect of transactions that have been recored by one party, but not by the other. Ultimately, adjusting entries are recorded on the books of one or more affiliations Given in LETTER notation in book Example: Dr. Investment in Sub, Acquisition Expense, APIC (stock issuance costs); Cr.: Cash, stock paid
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elimination entries
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made to cancel the ffects of intercompany transactions and are made on the work-paper only ex. eliminate investment in sub; allocate difference in implied and book value to under/over valued land, PPE etc; eliminate A/P and A/R between sub and parent
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Classifications of Equity Holdings
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1. Holdings of less than 20%:Passive interest; little or no influence 2. Holdings between 20% and 50%:Typically - significant influence 3. Holdings of more than 50%:A controlling interest
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Accounting for Holdings of Less Than 20% - Fair Value Method
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• Equity securities are recorded at cost upon purchase • At acquisition, securities need to be classified as either available-for-sale securities or trading securities • If classified as available-for-sale securities, can be a long-term or short-term investment • Investments are shown at market value on the balance sheet using an account called "Securities Fair Value Adjustment"
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Accounting for Holdings Between 20% and 50%
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Generally, an investor has the ability to exercise significant influence if holdings are between 20% and 50%. Ability to exercise significant influence can show in several ways. Some examples: 1. Representation on the Board of Directors 2. Participation in policy making processes 3. Material intercompany transactions There may be cases where significant influence does not exist, however, even with a 20% - 50% ownership. Some examples: 1. Majority ownership of the investee is concentrated among a small group of shareholders who operate the investee without regard to the views of the 20%-50% investor. 2. The investor tries and fails to obtain representation on the investee's Board of Directors.
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If Significant Influence Exists
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Use the Equity Method • Investment is originally recorded at cost • Acquisition costs are expensed as incurred • The equity method recognizes that investee earnings increase investee net assets and dividends decrease investee net assets. Therefore, • The investment's carrying amount is periodically increased by the investor's proportionate share of the earnings of the investee • The investment's carrying amount is decreased by all dividends received by the investor from the investee.
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If Significant Influence Does Not Exist
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Use the Fair Value Method if Significant Influence Does Not Exist (same for passive interests)
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Equity Method Journal Entries
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Record commission and investment: Dr. Investment,Commission expense; Cr. Cash When investment records net income Dr. Investment, Cr.:Income from investment Fair value given at year-end: NO ENTRY TO MARK UP TO FV when investment pays cash dividend: Dr. Cash; Cr. Investment When investment record loss: Dr. Loss on investment; Cr.: Investment Numbers are based on percentage owned in investment
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Equity method: Journal Entries for Overvaluation of Land, Building, and patents
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Allocate the excess premium paid for assets except land over useful life Depreciate/amortize building/patent - do nothing with land. JE: Each year: Dr. Loss/Income from investment Cr. Investment Numbers are based on percentage owned in investment
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Holdings of More Than 50% - Controlling Interest
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1. Investor = Parent; Investee = Subsidiary 2. The investment in the common stock of the subsidiary is presented as a long-term investment on the separate financial statements of the parent 3. Consolidated financial statements are generally prepared instead of separate financial statements for the parent and subsidiary 4. Consolidated financial statements treat the parent and subsidiary corporations as a single economic entity
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Fair Value Method Journal Entries
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Record commission and investment: Dr. Investment,Commission expense; Cr. Cash When investment records net income/net loss NO ENTRY Fair value given at year-end: Dr. FV adjustment, Cr. OCI When investment pays dividend: Dr. Cash Cr. Dividend Revenue Numbers are based on percentages owned
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Business Combination
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the operations of two or more companies are brought under common control
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Friendly combination
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the boards of directors of the potential combining companies negotiate mutually agreeable terms of a proposed combination •
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Hostile (Unfriendly) combination
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the boards of directors of a company targeted for acquisition resists the combination
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Process in a Friendly Combination
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1. The two Boards agree on terms 2. Proposal is then submitted to the stockholders of the involved companies for approval 3. 2/3 or ¾ positive vote is required by corporate bylaws to bind all stockholders to the combination
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Process in a Hostile combination
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1. A tender offer allows acquiring firm to deal with individual shareholders rather than mutually agreeing with target firm 2. Tender offer = an offer made directly to the shareholders of a company targeted by another company in a potential business combination. Usually published in a newspaper, a tender offer typically provides a price higher than the current market price for shares made available by a certain date. 3. If a sufficient number of shares are not made available then the acquiring firm may reserve the right to withdraw the offer 4. Tender offers are the preferred means of acquiring public companies (quick to do less - than a month) 5. tender offer is the price per share the acquiring firm is offering the shareholders of the target firm 6. tender offers may be withdrawn if not enough shareholders choose to participate
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Hostile Takeover Defense Tactics (6)
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1. Poison Pill 2. Greenmail 3. White knight/White squire 4. Pac-man defense 5. Selling the crown jewels 6. Leveraged buyouts (LBOs)
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Poison pill
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Issuing stock rights to existing shareholders enabling them to purchase additional shares at a price below market value, but exercisable only in the event of a potential takeover a. A strategy used by corporations to discourage hostile takeovers. With a poison pill, the target company attempts to make its stock less attractive to the acquirer. There are two types of poison pills: i. A "flip-in" allows existing shareholders (except the acquirer) to buy more shares at a discount. 1. By purchasing more shares cheaply (flip-in), investors get instant profits and, more importantly, they dilute the shares held by the acquirer. This makes the takeover attempt more difficult and more expensive. ii. A "flip-over" allows stockholders to buy the acquirer's shares at a discounted price after the merger. 1. An example of a flip-over is when shareholders gain the right to purchase the stock of the acquirer on a two-for-one basis in any subsequent merger.
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Greenmail
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refers to the money that is paid by the target company to another company, known as a corporate raider, that has purchased a majority of the target company's stock. The greenmail payment is made in an attempt to stop the takeover bid. The target company is forced to repurchase the stock at a substantial premium (the greenmail payment) to prevent the takeover. This is also known as a "bon voyage bonus" or a "goodbye kiss." a. The purchased shares are then held as treasury stock or retired b. Tactic is ineffective because it results in an expensive excise tax c. Excess of the price paid over the market price is expensed
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White Knight/White Squire
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target firm encourages a third firm more acceptable to the target company management to acquire or merge with the target company
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Pac-man defense
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target firm encourages an unfriendly takeover of the would-be acquiring company
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Selling the crown jewels
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the sale of valuable assets to others to make the firm less attractive to the would-be acquirer. The negative aspect is that the firm, if it survives, is left without some important assets
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Leveraged Buyouts (LBO)
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= the purchase of a controlling interest in the target firm by its managers and third-party investors, who usually incur substantial debt in the process and subsequently take the firm private. a. The bonds issued often take the form of high-interest, high-risk "junk" bonds
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Ways for a Firm to Expand
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1. Internal Expansion • Expand business through internally generated product development 2. External Expansion • Acquiring another company or merging with another company in order to expand its operations
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Advantages of External Expansion
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1. Generally can expand faster with external expansion 2. Operating Synergies - economies of scale; potential cost savings 3. Easy access to international markets 4. Potential income tax advantages 5. Diversification • Increased flexibility • Internal capital market • Increase in debt capacity • Potentially more efficient use of firm's resources • More protection from competitors over proprietary information 6. Divestures/spin-offs ex. Cincinnati Bell spins off Convergys corporation
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Vertical versus Horizontal Integration
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Vertical Integration: merger between a supplier and a customer Horizontal Integration: merger between competitors
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Antitrust considerations for combinations
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Federal antitrust laws prohibit business combinations that restrain trade or impair competition
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History of Announced M Deals in USA; Peaks and Valleys
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Peaks: 1999 (second highest), 2007 (highest), 1988 (relative) Lows: 1991, 2002, 2008-2009
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Types of Combinations
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Asset Acquisition = • Statutory Merger = one company acquires all the net assets of one or more companies through an exchange of stock, payment of cash or other property, or issue of debt instruments (or combination of these methods) o A company + B company = A company • Statutory Consolidation = a new corporation is formed to acquire two or more other corporations through an exchange of voting stock; the acquired corporations then cease to exist as separate legal entities o A company + B company = C company Stock Acquisition = one corporation pays cash or issues stock or debt for all or part of the voting stock of another company, and the acquired company remains intact as a separate legal entity • Financial Statements of A company + Financial statements of B company = consolidated financial statements of A company and B company
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Typical consideration for the acquirer
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1) Cash 2) Stock 3) Combination of above
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Goodwill
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1. Value of the firm in excess of the fair value of the firm's net assets 2. The premium paid to acquire a firm
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Economic Entity Concept (ALWAYS LOOK AT IT LIKE THIS)
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1. Emphasizes control of the entire entity by one management. Consolidated financial statements are intended to provide information about a group of legal entities 2. consolidated net income consists of the total realized combined income of the parent company and its subsidiaries. The total combined income is then allocated proportionately to the noncontrolling interest and controlling interest. 3. Noncontrolling interest (formerly minority interest) should be presented as a component of of equity in the consolidated financial statement under the economic entity concept.
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Parent Company Concept (DO NOT USE)
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n contrast, parent company concept views consolidated net income as teh realized combined income of the parent company and its subsidiaries after deducting noncontrolling interest. Parent company concept views noncontrolling interest as a laibility since it is essentially a claim against the consolidated entity.
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1. Estimating offering price - discount pre-tax excess earnings
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1. Estimating excess pre-tax earnings (estimates goodwill separately) (a) normal earnings for similar firms = FV of Net Assets x Normal rate of return for industry (b) pretax income + losses on discontinued ops + extraordinary losses + reduced depreciation on undervalued assets - addiational depreciation on overvalued assets - extradordinary gain = typical earnings (may need to take average) (d) (Average) typical earnings - earnings for similar firms = excess earnings (c) 1. ordinary annuity for excess earnings using required rate of return = estimated goodwill 2. perpetuity for excess earnings using required rate of return = estimated goodwill 2. Undiscounted by multiplying number of years x excess earnings (d) implied offering price = FV Net Assets = est. goodwill
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Evaluation of 3 techniques used for excess earnings calculation of goodwill
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1. Undiscounted - no TVM, finite life 2. Ordinary annuity Discount excess earnings - best, TVM, finite life 3. Perpetuity for excess earnings - TVM, no finite life
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2. Estimating offering price - discount expected future cash based earnings (value of firm)
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(a) Given FV of identifiable Net Assets (b) total cash based earnings + losses on discontinued ops + extraordinary/nonrecurring losses + reduced depreciation on undervalued assets - addiational depreciation on overvalued assets - extradordinary gain = typical cash-based earnings (may need to take average) (c) DCF for (average) cash based earnings calculated in (b) = est. total valuation of firm using expected return on its investment (d) Goodwill = Total valuation - FV of Net Idenfiable Assets (e) if given purchase price, purchase price - FV of net idenfiable assets = goodwill
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3. Estimating future offer price - Discounting expected future free cash flows (value of entire firm)
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same as number 2 for estimating future offer price
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Takeover premium
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term applied to the excess of the amount offered, or agreed upon, in an acquisition over the prior stock price of the acquired firm
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Which one of the following is incorrect? a. In an asset acquisition, the books of the acquired company are closed out, and its assets and liabilities are transferred to the books of the acquirer b. In many cases, stock acquisitions entail lower total cost than asset acquisitions c. regulations pertaining to one of the firms do not automatically extend to the entire merged entity in a stock acquisition d. A stock acquisition occurs when one corporation pays cash, issues stock, or issues debt for all or part of the voting stock of another company; and the acquired company dissolves and ceases to exist as a separate legal entity
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d. A stock acquisition occurs when one corporation pays cash, issues stock, or issues debt for all or part of the voting stock of another company; and the acquired company dissolves and ceases to exist as a separate legal entity
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Which one of the following can be used as consideration in a stock acquisition? a. cash b. stock c. debt d. all of the above
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d. all of the above
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Purchase versus Pooling Methods
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1. Until 2001, there were 2 methods permitted for accounting for business combinations - purchase and pooling 2. Approximately 90% of the combinations were accounted for using the purchase method
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Purchase Method (Pre-2001)
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• At acquisition, record the business combination using the fair value of the net assets acquired • Goodwill is created as the difference between the purchase price and the fair value of the net assets acquired • Goodwill is amortized to future earnings
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Pooling Method (Pre-2001)
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• The 2 firms combining were considered equals and therefore there was no "acquirer" • The financial statements were combined using the current book values of the net assets • Therefore, no goodwill resulted
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Controversy over Purchase and Pooling Methods
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• Firms would go to great lengths to have their combinations satisfy the pooling requirements because they wanted to keep earnings up and not amortize goodwill
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FASB solution to 2001 Problem over Pooling/Purchase methods
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In 2001, FASB produced two standards relating to business combinations (FAS #141 and #142): 1. Pooling method is no longer allowed 2. Goodwill is no longer amortized, just tested for impairment
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Goodwill Impairment Test
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1. Compare fair value and carrying value of the reporting unit annually. 2. If carrying value (Book Value) of reporting unit > Fair Value of Reporting unit, go to step 3. 3. If carrying value (Book value) of Goodwill > implied (fair) value of Goodwill, impairment exists 4. BV of Goodwill - FV of Good will = Impairment loss 5. dr. Impairment loss, cr. Goodwill
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Pro Forma Statements
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1. Pro Forma financial statements are often referred to as "as if" statements 2. Firms considering a business combination often prepare pro forma statements to help determine the offering price 3. Once a deal has been agreed upon by the Boards involved, pro forma statements are often sent out to the two sets of stockholders in order to help them in their voting decision 4. If a combination occurs during the year, there may be pro forma statements disclosed in the annual report showing what the combined statements would have looked like had the combination occurred at the start of the year • There may also be prior years' pro forma statements disclosed in the annual report in the year of the combination for comparison purposes
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Asset Acquisitions
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1. Acquiring firm acquires 100% of the net assets of the acquiree 2. Acquirer can use stock, cash, or a combination of these to acquire the assets 3. Once acquisition occurs, the acquiree ceases to exist
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Steps for Asset Acquisition Accounting
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1. Measure the fair value of all assets and liabilities of the acquiree (including (capitalize) in-process R) 2. Subtract the fair value of the net assets acquired from the fair value of the consideration è Difference = Goodwill 3. Acquirer records the acquisition of all the Fair Value net assets as well as the goodwill in its journal on the acquisition date (acquiree's accounting books are closed) dr. fv of assets, goodwill, cr. stock/cash, fv of liabilities IGNORE BOOK VALUES OF SAXA NO SAXA ACCUMULATED DEPRECIATION added to Hoya's value
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Bargain Acquisition
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Price paid in the asset acquisition is less than the fair value of the net assets acquired Acquirer should recognize the amount of the bargain as an ORDINARY gain
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Types of Indirect Costs of Acquisitions (expense)
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Maintaining a mergers & acquisition department Other ongoing expenses that would not exist would the company never engage in business combinations
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Types of Direct Costs of Acquisitions
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1. Legal fees associated with the combination 2. Accounting fees associated with the combination 3. Other professional and consulting fees associated with the combination 4. Security issuance fees associated with the combination
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Accounting for Direct and Indirect Expenses 1. Historical 2. Now
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1. Historically: • Expense only the indirect costs associated with the combination • Direct costs increased the purchase price at the time of the acquisition 2. Currently (Revised FAS #141): • Expense all indirect and direct (except security issuance costs) associated with the business combination • Stock/security/stock registration issuance costs will reduce APIC
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Continigent Consideration
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• Sometimes the purchasing company will agree to provide additional consideration to the acquiree's original shareholders if certain post-acquisition criteria are met • Examples of post-acquisition criteria include earnings goals and lawsuit resolutions • If the contingent consideration is cash, then a contingent liability is created at the time of acquisition • If the contingent consideration is stock, then an adjustment to equity is made at the time of acquisition
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JE for cash considerations
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1. JE at time of acquisition Dr. Goodwill, Cr. Liability for Contingent Consideration 2. Meets requirements Dr. Liability for Contingent Consideration, Cr. Cash 3. Does NOT meet requirements Dr. Liability for Contingent Consideration, Cr. Income from Change in Estimate When Saxa does not meet requirements, goodwill may be overstated on the balance sheet. When it is tested for impairment at the end of the period, its value is likely to be reduced on the balance sheet and an impairment loss recorded.
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JE for Stock considerations
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1. JE at time of acquisition Dr. Goodwill, Cr. APIC - contingent consideration 2. Meets requirements Dr. APIC - contingent Consideration, Cr. CS - par, CS - APIC 3. Does NOT meet requirements Dr. APIC - contingent consideration, Cr. Income from Change in Estimate
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Which of the following statements is true with respect to the accounting for business combinations under US GAAP? a) Incomparability of FS under the previous rules permitting purchase and pooling methods was corrected by making amortization of goodwill optional b) under the current standards, impairment of goodwill is not accounted for because it does not affect the actual profit of the company c) the acquired business should be recognized at its fair value on the acquisition date, regardless of whether the acquirer purchases all or only a controlling percentage d) any goodwill acquired in previous acquisitions should continue to be amortized after the year 2001 for the continuity of the accounting practice
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c) the acquired business should be recognized at its fair value on the acquisition date, regardless of whether the acquirer purchases all or only a controlling percentage
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Goodwill impairment exists only if the fair value of the business unit: a) equals the carrying value of the reporting unit (including goodwill) b) is greater than the carrying value of the reporting unit (including goodwill) c) is less than the carrying value of the reporting unit (including goodwill) d) None of the above
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c) is less than the carrying value of the reporting unit (including goodwill)
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Which of the following is incorrect? a) Under acquisition accounting, direct acquisition costs are recorded by decreasing goodwill as a contra account. b) under acquisition method accounting, indirect acquisition costs (such as expenses incurred by a firm's permanent M department) are expensed c) Security issue costs, such as brokerage fees, reduce the Excess Paid In Capital account (i.e., are recorded as a debit to that account) d) Accounting and consulting fees incurred in a business combination are expenses under the current standards for acquisitions
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a) Under acquisition accounting, direct acquisition costs are recorded by decreasing goodwill as a contra account.
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Measurement Period
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1. The period after the initial acquisition date during which the acquirer may adjust the provisional amounts recognized at the acquisition date. 2. During the measurement period, the acquirer can adjust the provisional amounts initially recorded (usually an increase or decrease in goodwill, unless new information relates to a specific asset or liability) to reflect new information that surfaces during this period that would have altered the measurement if it had been known on the acquisition date. 3. The measurement period ends as soon as the acquirer has the needed information about facts and circumstances (or learns that the information is unobtainable), not to exceed one year from the acquisition date.
question
In the year of a material business combination, pro forma disclosures must include all of the following except: a) revenue b) net income c) tax expenses d) nonrecurring items
answer
c) tax expenses
question
Which of the following statements best describes the current authoritative position with regard to the accounting for contingent consideration? a) If contingent consideration depends on both future earnings and future security prices, an additional cost of the acquired company should be recorded only for the portion of consideration dependent on future earnings b) the measurement period for adjusting provisional amounts always ends at the year-end of the period in which the acquisition occured c) a contingency based on security prices has no effect on the determination of cost to the acquiring company d) the purpose of the measurement period is to provide a reasonable time to obtain the information necessary identify and measure the fair value of the acquiree's assets and liabilities, as well as the fair value of the consideration transferred
answer
d) the purpose of the measurement period is to provide a reasonable time to obtain the information necessary identify and measure the fair value of the acquiree's assets and liabilities, as well as the fair value of the consideration transferred
question
Which of the following statements concerning bargain purchase prices is correct? a) any previously recorded goodwill on the seller's books is eliminated and no new goodwill is recorded b) long-lived assets, including in-process R&D and excluding marketable securities, are recorded at fair market value minus an adjustment for the bargain under current GAAP c) an extradordinary gain in the event that all long-lived assets other than marketable securities are reduced to the original purchase price, under current GAAP d) current assets, long-term investments in marketable securities (other than those accounted for by the equity method), assets to be disposed by sale, deferred tax assets, prepaid assets relating to pension or other post-retirement benefit plans, and assumed liabilities are the only accounts that are always recorded at fair market value, under current GAAP
answer
a) any previously recorded goodwill on the seller's books is eliminated and no new goodwill is recorded
question
Asset acquisition vs. stock acquisition
answer
Asset acquisition - no investment in sub account, no work-paper/elimination entries, only entries are to dr. assets, gw and cr. liabilities, cash, gain stock acquisition - investment in sub account, work-paper/elimination entries
