Solutions Manual, Chapter 10: 2005 Mcgraw-Hill Ryerson Limited. All Rights Reserved. 416

Chapter 10
Other Consolidation
Reporting Issues
Copyright 2005 McGraw-Hill Ryerson Limited. All rights reserved.
Solutions Manual, Chapter 10 416
DESCRIPTION OF CASES AND PROBLEMS
Case 1
In this case, the student must determine how to report two investments. One investment is
subject to joint control and should be accounted for as a joint venture. The other investment
is subject to control through means other than voting shares and should be accounted for as a
variable interest entity.
Case 2
In this case, the company plans to set up a variable interest entity (VIE) to renovate its
manufacturing plant and record a gain on the transfer to the VIE. The student is asked to
discuss the accounting issues for the proposed transactions.
Case 3 (prepared by Peter Secord, Saint Marys University)
This Case is a real life situation featuring the Coca-Cola Company and its less than 50%
ownership interests in its bottlers. Under U.S. GAAP, these are significant influence
investments. The student is asked to evaluate the accounting policies followed in light of
proposed changes that are being suggested, and to visit the companys Web site to obtain
current information on how these investments are being reported.
Problem 1 (25 min.)
This problem involves the preparation of a consolidated balance sheet at the date of acquisition
for a VIE under 3 different values attributed to the noncontrolling interest.
Problem 2 (15 min.)
A short case-like problem that requires determining whether pooling of interests can be used
after the formation of a joint venture.
Problem 3 (30 min.)
This problem involves the preparation of the consolidated financial statements of a venturer and
a joint venture and also involves unrealized inventory profits.
Problem 4 (20 min.)
This problem requires the calculation of balance sheet amounts to be used to consolidate
a 100% owned subsidiary where the purchase has just occurred and there are future tax
complications.
Problem 5 (15 min.)
This problem asks students to discuss the shortcomings of consolidated statements and review
how segment disclosures overcome some of these concerns.
Problem 6 (35 min.)
This problem requires the calculation of the purchase price discrepancy (PPD) and subsequent
amortization for an 80% owned subsidiary when there is an unrecognized loss carryforward and
future income taxes on temporary differences. It also requires a calculation of noncontrolling
interest along with an explanation as to why the PPD gives rise to a future income tax liability.
Problem 7 (30 min.)
The student is asked to prepare a consolidated balance sheet immediately after acquisition for a
parent and its 100% owned subsidiary where there are future tax complications.
Problem 8 (45 min.)
This problem is the same as Problem 7, except the subsidiary is 80% owned. A consolidated
balance sheet is required immediately after acquisition, and there are future tax complications.
The problem also requires an explanation as to how the definition of a liability supports the
recognition of a future tax liability.
Problem 9 (60 min.)
This is a complex problem involving the preparation of a consolidated balance sheet for a
primary beneficiary and a VIE five years after the date of acquisition. It involves negative
goodwill and amortization of the purchase price discrepancy. It also requires an explanation
of how the definition of a liability supports the inclusion of the VIEs liability on the consolidated
balance sheet.
Problem 10 (20 min.)
The student is asked to identify which segments should be reported from a list. The revenue
test, operating profit test, and asset test must be performed.
418 Modern Advanced Accounting in Canada, Fourth Edition
A consolidated balance sheet is required for an investor and its two investees, one of which is
a subsidiary, the other a joint venture. Preferred shares and unrealized profits in inventory are
also involved.
This problem requires the preparation of a company's income statement under the assumption
that its 40% investment in another company is either (a) a joint venture or (b) an equity
ownership that is not a control or portfolio investment.
This problem involves the preparation of the consolidated financial statements of a venturer and
a joint venture where intercompany sales have occurred during the year. It also requires an
explanation of how the gain recognition principle supports the elimination of only a portion of the
gain on intercompany transactions.
A year's equity method journal entries involving unrealized profits in opening and closing
inventory and equipment profits are required under the assumption that the investee is (a) a
subsidiary, and (b) a joint venture.
This problem involves the investment of nonmonetary assets in the formation of a joint venture.
The investor receives an equity interest plus cash.
The student is asked to discuss some aspects of the new Handbook Section 1701, and to
outline the quantitative guidelines used to establish reportable segments.
This problem requires the preparation of journal entries under the equity method for a venturer
who has contributed assets at a gain for an interest in a joint venture. As well, the student
must describe how the accounts will be shown on the consolidated statements. Finally equity
method entries are required for the case where the venturer receives cash back from the assets
contributed for an interest in a joint venture.
This problem requires the preparation of a balance sheet for a company with a 40% interest
in another company under three assumptions: (a) control exists, (b) the investment is a joint
venture, and (c) it is a significantly influenced investment. The date is five years after acquisition
and there are intercompany profits and balances.
REVIEW QUESTIONS
1. Both the subsidiary and the variable interest entity (VIE) are controlled. The subsidiary is
controlled by the parent whereas the VIE is controlled by the primary beneficiary. The
parent typically controls the subsidiary by owning the majority of the voting shares of the
subsidiary. The primary beneficiary controls the VIE through governing agreements and
may even have this control without owning any of the voting shares of the VIE.
2. Both the majority shareholder and the primary beneficiary have control of their respective
investees. The majority shareholder controls the subsidiary wheras the primary
beneficiary controls the variable interest entity. The majority shareholder typically controls
the subsidiary by owning the majority of the voting shares of the subsidiary. The primary
beneficiary controls the VIE through governing agreements and may even have this
control without owning any of the voting shares of the VIE.
3. Assets and liabilities should be presented on a balance sheet if they meet the definition of
assets and liabilities. Assets are economic resources controlled by an entity as a result
of past transactions or events and from which future economic benefits may be obtained.
When the primary beneficiary controls the variable interest entity, it indirectly controls
the economic resources of the VIE and receives the future economic benefits. Liabilities
are obligations of an entity arising from past transactions or events, the settlement of
which may result in the transfer or use of assets, provision of services or other yielding
of economic benefits in the future. When the primary beneficiary controls the variable
interest entity, it indirectly takes responsibility for and assumes the risk related to the
obligations of the VIE.
4. The full consolidation method combines 100% of the financial statement elements of
the parent and its subsidiaries and shows an amount for the noncontrolling interest
in the assets and liabilities and the revenue and expenses of these subsidiaries. The
proportionate consolidation method does not report an amount for noncontrolling interest.
Instead, it requires the combination of elements from the parent's financial statements with
the parent's proportionate share of the elements of the subsidiaries' financial statements.
5. Normally, a 62% interest in the voting shares of a company would be sufficient for control
to exist, and therefore Z would be a subsidiary. But if there were an agreement between Y
Company and the entities that hold the other 38% establishing joint control over Z
Company, then Z would not be a subsidiary; rather, it would be a joint venture.
6. In a parentsubsidiary affiliation, 100% of intercompany inventory profits are eliminated.
If the parent was the selling company, the elimination is entirely allocated to consolidated
retained earnings. If the subsidiary was the selling company, the elimination is allocated
to noncontrolling interest and consolidated retained earnings. In a venturerjoint venture
affiliation, only the venturer's share of the intercompany profit is eliminated, regardless
of which party was the selling company. If the joint venture was the selling company,
there is no noncontrolling interest to make an allocation to. If the venturer was the selling
company, the venturer realizes a portion of the profit equal to the interest of the other
venturers, provided that they are not related to the venturer.
7. The investment is recorded at the fair value of the nonmonetary assets transferred. The
gain is split between the amount represented by the interests of the other nonrelated
venturers (which is recognized in a systematic manner over the life of the assets), and the
amount represented by the venturer's own interest (which is deducted from the venturer's
share of the related asset when the consolidated statements are prepared).
8. The gain recognition principle states that gains should be recorded when they are realized
i.e. when a transaction has occurred with an outside entity and consideration is received.
For transactions between a venturer and the joint venture, the portion of the gain equal
to the outside interest in the joint venture is considered to be realized because the other
parties in the joint venture are not related to the venturer and are considered to be
outsiders.
9. The fact that the fair values of Y's assets exceeded their tax bases on the date that X
Company acquired control over Y will have the following impact on the consolidated
balance sheet:
a. A future tax liability for the consolidated balance sheet will be determined for
the difference between the fair value excess plus Ys book values and the tax
bases of Y's net assets, and the purchase discrepancy will be allocated to this
amount before calculating goodwill.
b. As a result of (a), goodwill will be different than it would have been if Y's assets
had fair values equal to tax bases.
c. The future tax liability determined in (a) will be disclosed on the consolidated
balance sheet and will be reassessed each year.
d. Finally, as a result of (a), the noncontrolling interest on the consolidated balance
sheet will be different than it would have been if Y's assets had fair values equal
to their tax bases.
10. The parent company may be able to recognize its own unused income tax losses and
those of the acquired company at the date of acquisition if it can now meet the "more likely
than not" test for these losses. This test may now be met because of synergies created
by the combining of the two companies. If this is so, this will result in future tax assets
appearing on the consolidated statements that were not on the separate entity statements.
11. Temporary differences exist when the carrying value of an asset or liability is different
from its tax basis. A deductible temporary difference is one that can be deducted in
determining taxable income in the future when an asset or liability is recovered or settled
for its carrying amount. Deductible temporary differences exist when the carrying amount
of an asset is less than its tax basis, or when an amount related to a liability can be
deducted for tax purposes. Deductible temporary differences represent a future tax asset
to the company. A taxable temporary difference will result in a taxable amount in the future
when the carrying amount of an asset or liability is recovered or settled and represents a
future tax liability to the company. A taxable temporary difference arises mainly when the
carrying amount of an asset is greater than its tax basis.
12. A future tax asset would exist on a subsidiary's balance sheet if the subsidiary carried an
asset on its books at less than its tax basis. If this same asset had a fair value that was
greater than the tax basis, a future tax liability would be reported on the consolidated
balance sheet. The reason for the change is that the carrying value of the asset on the
consolidated balance sheet has changed as a result of the acquisition transaction.
13. Since tax returns are filed for separate legal entities and not the consolidated entity, the fair
value excess in a business combination is not considered to be a deductible cost for tax
purposes. If the asset acquired in a business combination were subsequently sold at its
fair value, a gain would be reported for tax purposes even though no gain may be realized
from a consolidated point of view. This future tax obligation is reported as a future tax
liability on the consolidated financial statements at the date of acquisition.
14. A company should report information about an operating segment that meets any ONE of
the following:
a. The operating segment's reported revenue (intersegment sales plus transfers,
plus external sales) is 10% or more of the combined internal and external
revenue of the company.
b. The absolute amount of the segment's reported profit or loss is 10% or more of
the greater of:
i. the combined reported profit of all operating segments that did not report
a loss
ii. the combined reported loss of all operating segments that did report a
loss.
c. The segment's assets are 10% or more of the combined assets of the company.
15. The following information must be disclosed for each operating segment:
factors used to identify the reportable segments
types of products and services offered by reportable segments
profit or loss
total assets
In addition, the following should also be disclosed if they are included in the measure of
profit or loss reviewed by the chief operating decision maker:
external and intersegment revenue
interest revenue and expense (separately)
amortization and other significant noncash items
unusual items
equity in income of investees
income tax expense or benefit
extraordinary items
amount of investment in investees subject to significant influence
total expenditures for additions to capital assets and goodwill
16. In addition to segmented information based on operating segments, the financial
statements must also disclose segmented information on an enterprise-wide basis. In
other words, the financial statements must provide segmented information regardless
of whether there are operating segments to report. Unless it is impractical to do so, the
financial statements should disclose the following:
Information about external revenues, capital assets, and goodwill on the basis of
geographic areas.
Information about external revenues on a product-by-product basis, or by each
group of similar products.
If the company's revenue to a single external customer is 10% or more of total
revenue, the company must disclose this fact, the total amount of the revenue to
that customer, and the identity of the operating segment(s) reporting the revenue.
17. The following reconciliations are required for segment reporting:
The total of the reportable segments revenues reconciled to the enterprises total
revenues.
The total of the reportable segments measures of profit or loss to the
enterprises income before tax, discontinued operations, and extraordinary items,
or to income after these items if these items are allocated to the reportable
segments.
The total of the reportable segments assets to the enterprises total assets.
The total of the reportable segments amounts for other significant amounts to
the total for the enterprise. Each significant item should be separately identified.
MULTIPLE CHOICE
1. a
2. a
3. c
4. c 600 + .4(217) (80 x .5 x .7 x .4) = 675.6
5. a 1,560 + .4(580) (80 x .5 x .4) = 1,776
6. a
7. c 315.9 + 35 = 350.9 x .1 = 35.09, therefore E.
8. b 2,718 x .1 = 271.8, therefore B, D, and E; 2,415 x .1 = 241.5, therefore C, D, E.
9. a
10. c
11. a
12. c [(500,000 70,000) (500,000 75,000)] x 30% = 1,500
13. b
14. b 240,000 + .2(110,000 7,500) = 260,500
15. c 495,000 + .2(95,000 10,000) = 512,000
16. b 420,000 [400,000 .3(400,000 270,000)] = 59,000
17. d 98,000 + (600,000 375,000).4 = 188,000
CASES
Case 1
Holdcos 30% interest in Elgin Company should be reported using proportionate consolidation
because Elgin Company is a joint venture. Although Mr. Richer owns 70% of the common
shares of Elgin, he does not control Elgin. The shareholders agreement indicates that the two
shareholders must agree on all major operating, investing and financing decisions. Therefore,
the two shareholders jointly control Elgin and Elgin should be accounted for as a joint venture.
Metcalfe Inc. should be consolidated with Holdco because Metcalfe is a variable interest entity
and Holdco is the primary beneficiary. Although Holdco only owns 40% of Metcalfe, it controls
Metcalfe because Mr. Landman, the sole owner of Holdco, has veto power on all key operating,
investing and financing decisions. Furthermore, Holdco has the obligation to absorb Metcalfes
expected losses and the right to receive Metcalfes expected residual returns if they occur.
Case 2
Memorandum
To: CFO
From: Consultant
Re: Accounting for Renovation of Manufacturing Facility
You have asked me to comment on the proposed accounting for the sale of the unrenovated
facility and subsequent repurchase of the renovated facility. My comments are presented below
along with supporting arguments.
First of all, I understand your frustration with historical cost accounting. It prevents you from
reporting the fair value of the manufacturing plant and makes your debt to equity ratio appear to
be very high at 4:1. If the fair value of the unrenovated plant is $600,000 and if you were able to
report the plant at fair value, the debt to equity ratio would be 1.14:1 prior to the renovation and
1.67:1 after the renovation.
Under current accounting rules, a manufacturing plant must be reported at historical cost less
accumulated amortization. Any appreciation in the value of the plant can only be reported in
income if the plant is sold to an outside entity. At first glance, it may appear that SPE is an
outside entity because Mr. Renovator who is not related to P Co. is the sole owner of SPE.
According to the new Handbook section on Variable Interest Entities, SPE is a variable interest
entity for the following reasons:
SPE is indirectly controlled by P Co because P Co. must approve all activities carried out
by SPE
P Co is paying $400,000 for the renovation of the plant. This price is expected to cover
SPEs cost and provide a reasonable return to SPE. P Co. is, in effect, guaranteeing a
return to SPE. Mr. Renovator has little or no risk of incurring any losses in this venture.
P Co retains the right to receive the expected residual returns on the use and/or sale of
the manufacturing plant.
Since SPE is a variable interest entity, it must be consolidated with P Co. for reporting
purposes. The $500,000 gain on the sale of the plant and the intercompany note receivable
and payable are considered to be intercompany transactions that must be eliminated on
consolidation. On December 31, Year 5, the consolidated balance sheet would appear as
follows (in 000s):
Manufacturing plant (960 500 or 100 + 360) $460
Other assets 900
$1,360
Other liabilities $800
Noncontrolling interest 360
Common shares 10
Retained earnings 190
$1,360
If the noncontrolling interest were viewed as a part of P Co.s liabilities, the debt to equity ratio
would be 5.8:1 ([800 + 360] / [10+ 190]) on the consolidated financial statements on December
31, Year 5. Therefore, your proposed transaction would not circumvent the rules for historical
cost accounting and P Co.s debt to equity ratio would be even higher than it was before.
If P Co. was to report its results on a nonconsolidated basis, the CICA Handbook rules on
related party transactions would have to be applied. Since SPE is a variable interest entity,
it is considered to be a related party. Under the rules for related party transactions in section
3840.26 of the Handbook, the proposed sale and repurchase would have to be measured at
carrying value for the following reasons:
The sale and repurchase of the manufacturing plant is not in the normal course of
operations
Since P Co. indirectly controls SPE and enjoys 100% of the benefits of the plant, the
change in the ownership interests in the plant is not substantive
The sale price of $600,000 is not supported by independent evidence
Therefore, the renovated manufacturing plant would be reported at its total cost of $500,000
($100,000 + $400,000). On January 1, Year 6, after P Co. repurchases the renovated plant
from SPE for $400,000 and SPE is wound up, the balance sheet for P Co. would appear as
follows (in 000s):
Manufacturing plant (100 + 400) $500
Other assets 900
$1,400
Bank loan payable $400
Other liabilities 800
Common shares 10
Retained earnings 190
$1,400
The debt to equity ratio would be 6:1 ([400+800] / [10+190]). Therefore, your proposed
transaction would not circumvent the rules for historical cost accounting and P Co.s debt to
equity ratio would be even higher than it was before.
Case 3
A Case of Coca-Cola Teaching Note
It is suggested that the instructor review the recent annual reports of The Coca-Cola Company
and CocaCola Enterprises Inc. before assigning this case, and strongly encourage students
to do the same. These are dynamic companies in competitive markets, and financial reporting
rules and practices, as well as the underlying economic realities of the companies, are evolving.
The purpose of this case is to push students to examine financial reporting practices for
intercorporate investments critically, and, in particular, to consider the implications of de facto
control relative to de jure, as well as international differences in GAAP. This note considers only
a few of the potential issues that could be raised during class.
The relationship of The Coca-Cola Company ( with the anchor bottlers is extremely complex.
Many of these companies were initially founded by The Coca-Cola Company as bottlers of
their product, and have systematically been spun off. Others were founded on the initiative
of Coke, and /or received significant financial assistance from Coke during the early stages of
operations.
If these various companies were accounted for as subsidiaries of The Coca-Cola Company,
consolidated sales would increase by at least US$25 billion. Many of these companies do little
other than bottle and distribute products of the Coca-Cola Company; most are clearly subject
to at least significant influence. Several were reported as subsidiaries in earlier annual reports.
Chief among these associated companies is CocaCola Enterprises.
CocaCola Enterprises Inc. (CCE, ) is the world's largest bottler and distributor of CocaCola
products, and accounts for almost 70% of all North American sales of bottled and canned
beverages sold by 44% owner The CocaCola Company. CocaCola products (such as
CocaCola classic, Diet Coke, Barq's, and Sprite) account for nearly 90% of its sales. CCE also
bottles and distributes other beverage brands, including Dr. Pepper, Canada Dry, and Nestea.
The CocaCola Company and other beverage companies supply concentrates and syrups for
Peter Secord, Saint Marys University.

the drinks and share in advertising and promotional expenses. CCE bottles and distributes
CocaCola products through operations in Canada, Europe, and the U.S.A. (Hoovers Capsule
(see ), CocaCola Enterprises).
Coke uses the equity method to account for CCE and most of the other anchor bottlers. Coke
freely acknowledges that these investments are subject to significant influence. An important
question is raised: Are these investments (such as CCE) actually controlled? Are there other
accounting practices in use by Coke that do not provide the most meaningful presentation?
As noted in the case, U.S. GAAP (SFAS 94) does require consolidation of all majorityowned
subsidiaries unless control is temporary or does not rest with the majority owner. There are no
other exceptions to consolidation permitted. However, the concept of control is limited to that
of de jure control: only majorityowned subsidiaries are consolidated. Other situations, where
there could be control in substance, are not contemplated.
Canadian GAAP (as well as IAS 27), by contrast, uses what is best described as a de facto
standard of control. Arguments and definitions included in CICA Handbooks Section 1590
clearly are based on the underlying economic substance, not the legal form. For example,
control has a definite meaning, and leads to consolidation:
(a) A subsidiary is an enterprise controlled by another enterprise (the parent) that has the
right and ability to obtain future economic benefits from the resources of the enterprise
and is exposed to the related risks.
(b) Control of an enterprise is the continuing power to determine its strategic operating,
investing, and financing policies without the cooperation of others (1590.03).
Further sections expand on this argument, and make it clear that a narrow definition based on
majority ownership is not contemplated. The statement that the right and ability of the parent
to obtain future economic benefits from the resources of an enterprise that it controls and the
parent's exposure to the related risks are necessary characteristics of a parentsubsidiary
relationship (1590.04) is key. If we were to evaluate the economic reality of the relationship
between Coke and CCE, would we find that control was in fact present? Are Coke and CCE in
fact one economic entity? Under Canadian rules, would we consolidate the investment in CCE?
Would consolidation provide the most meaningful presentation of this relationship?
Evidence, which suggests that there is control in fact, is bountiful: note the various factors,
which distinguish an anchor bottler:
A pursuit of the same strategic aims as The CocaCola Company in the development of
the non-alcoholic beverage business.
A commitment to longterm growth.
Commitment to the CocaCola System.
Service to a large, geographically diverse area.
Sufficient financial resources to make longterm investments.
Managerial expertise and depth.
Note also that:
The Company provides certain administrative and other services to CocaCola
Enterprises under negotiated fee arrangements, as well as providing direct support for
certain marketing activities of CocaCola Enterprises and participating in cooperative
advertising and other marketing programs (amounting to $604 million in 1997). In
addition, during 1997 and 1996, the Company committed approximately $190 million to
CocaCola Enterprises under a Company program that encourages bottlers to invest in
building and supporting beverage infrastructure [from the case].
These are clearly material amounts. Coke is involved in both the operating activities and the
capital expenditure program. As the only significant shareholder, does Coca-Cola have the
continuing power to determine the strategic operating, investing, and financing policies of
Coca-Cola Enterprises without the cooperation of others? Technically, perhaps not, as there
are 56% of the shares owned by other investors (this proportion has been increasing as CCE
has issued new shares). Yet there are no other significant individual shareholders among this
group, so is there truly a control risk to Coke? Who really sits on the board of CCE? Would an
important decision ever be reached that was opposed by Coke?
Look beyond the accounting policy choices made. Consider the underlying facts. The U.S.
position on legal control has been under review for some time, and presently is a minority
view internationally, with most major countries having adopted the potentially more meaningful
de facto control approach. However, as at December 31, 2001, FASB had not changed its
requirement that a majority of shares must be owned in order for consolidation to take place.
There are other issues of interest in this case. For example, under the heading Issuances of
Stock by Equity Investees, the 1997 Annual Report of The Coca-Cola Company notes that:
When one of our equity investees issues additional shares to third parties, our
percentage ownership interest in the investee decreases. In the event the issuance price
per share is more or less than our average carrying amount per share, we recognize a
noncash gain or loss on the issuance. This noncash gain or loss, net of any deferred
taxes, is recognized in our net income in the period the change of ownership interest
occurs.
This is one of the factors that has led to the carrying value of the investment in CCE being so
low relative to its market value (the multiple is about 30). Is this carrying value meaningful?
Is the note disclosure (which is provided) a substitute for a more meaningful value actually
reported on the balance sheet?
Additional issues included transactions with CocaCola Enterprises and with other associated
companies:
In February 1997, we sold our 49 percent interest in CocaCola & Schweppes
Beverages Ltd. to CocaCola Enterprises. This transaction resulted in proceeds for our
Company of approximately $1 billion and an aftertax gain of approximately $.08 per
share (basic and diluted). In August 1997, we sold our 48 percent interest in CocaCola
Beverages Ltd. of Canada and our 49 percent ownership interest in The CocaCola
Bottling Company of New York, Inc. to CocaCola Enterprises in exchange for aggregate
consideration valued at approximately $456 million. This sale resulted in an aftertax
gain of approximately $.04 per share (basic and diluted). (1997 Annual Report, The
Coca Cola Company)
In July 1996, we sold our interests in our French and Belgian bottling and canning
operations to CocaCola Enterprises in return for cash consideration of approximately
$936 million. Also in 1996, we contributed cash and our Venezuelan bottling interests
to a new joint venture, Embotelladora CocaCola y Hit de Venezuela, S.A. (CocaCola
y Hit), in exchange for a 50 percent ownership interest. In 1997, we sold our interest in
CocaCola y Hit to Panamerican Beverages, Inc. (Panamco) in exchange for shares in
Panamco. (1997 Annual Report, the Coca Cola Company).
Among the questions, which these raise: If Coke and CCE are in fact parent and subsidiary,
are these gains reportable? Should gains of this nature and magnitude be recognized in what is
essentially a nonarms length transaction?
PROBLEMS
Problem 1
A B C
Implied Value (i.e., acquisition cost) of Pharmas net assets
Fair value of amount invested by Benefit 0 0 0
Fair value of NCI (= value of common shares) 25 15 30
Total implied value 25 15 30
Assessed Value of Pharmas assets
Carrying value of amount invested by Benefit 0 0 0
Fair value of Pharmas own assets 210 210 210
Less: Fair value of liabilities of Pharma (185) (185) (185)
Total assessed value 25 25 25
Difference between implied and assessed values 0 (10) 5
Assigned on consolidation to:
Loss on investment 5
Intangible assets . (10) .
Balance to assign 0 0 0
The consolidated balance sheets would appear as follows:
Current assets $300 $300 $300
Property, plant & equipment 490 490 490
Intangible assets 120 110 120
$910 $900 $910
Current liabilities $205 $205 $205
Long-term debt 450 450 450
Noncontrolling interest 25 15 30
Common shares 10 10 10
Retained earnings (220 5) 215
Retained earnings 220 220
$910 $900 $910
Problem 2
The pooling of interests method used to be one possible method of accounting for a business
combination, but since June 30, 2001, its use is no longer permitted.
A business combination occurs when one company gains control over the net assets of another
company. In this particular case, Bayle Resources Inc. has just been formed by Exacto Ltd.
(and others) and as such this transaction is not a business combination. In order for a business
combination to exist, Exacto would have to gain control over a previously existing company, not
one that it has formed.
Furthermore, Bayle Resources is a joint venture because the three venturers have signed an
agreement establishing joint control and no one venturer can unilaterally control the venture.
An acquisition of an investment in a joint venture cannot be a business combination because it
does not provide for the control that is required.
Exacto will have to report its investment by consolidating Bayle Resources, using the
proportionate consolidation method according to the CICA Handbook.
Problem 3
Intercompany eliminations
Sales and purchases (70,000 30%) 21,000
Receivables and payables (12,000 30%) 3,600
Inventory profits Before Tax After
tax 40% tax
Closing inventory 10,000
Considered realized 70%
Unrealized Able selling 30% 3,000 1,200 1,800
Able Ltd.
Consolidated Income Statement
for the Year Ended December 31, Year 6
Revenues (900,000 + [30% 100,000] 21,000) 909,000
Cost of sales and expenses
(812,000 + [30% 70,000] 21,000 + 3,000 1,200) 813,800
Net income 95,200
Able Ltd.
Consolidated Retained Earnings Statement
Balance Jan. 1 (110,000 97,000) 13,000
Net income 95,200
Balance Dec. 31 (110,000 1,800) 108,200
Able Ltd.
Consolidated Balance Sheet
as at December 31, Year 6
Current assets (247,000 + [30% 40,000] 3,600 3,000) 252,400
Other assets (530,000 + [30% 70,000]) 551,000
Deferred charge - income taxes 1,200
804,600
Current liabilities (94,000 + [30% 20,000] 3,600) 96,400
Long-term debt 400,000
Capital stock 200,000
Retained earnings (110,000 1,800) 108,200
804,600
Problem 4
Future tax assets and liabilities
Fair value Tax basis Difference
Instalment accounts receivable 120,000)
)
120,000
Inventory 150,000) 150,000) 0
Land 100,000) 100,000) 0
Buildings 180,000) 110,000) 70,000
Equipment 200,000) 130,000) 70,000
Trade liabilities (240,000) (240,000) 0
510,000) 250,000) 260,000
Subsidiary's tax rate 45.00%
Future tax liability 117,000
Cost of 100% of Knightbridge 700,000
Fair value of Knightbridge:
Inventory 150,000)
Land 100,000)
Buildings 180,000)
Equipment 200,000)
Trade liabilities (240,000)
510,000)
Leighton's percentage ownership 100.00% 510,000
Purchase discrepancy 190,000
Allocated to future tax liability 117,000
Goodwill 307,000
The following amounts would be used to prepare Leighton's consolidated balance sheet:
Inventory 150,000)
Land 100,000)
Buildings 180,000)
Equipment 200,000)
Goodwill 307,000)
Trade liabilities (240,000)
Future tax liabilities (117,000)
700,000)
Investment account 700,000)
This could be arranged as an investment elimination entry, as follows:
Instalment accounts receivable 120,000
Inventory 150,000
Land 100,000
Buildings 180,000
Equipment 200,000
Goodwill 307,000
Trade liabilities 240,000
Future tax liabilities 117,000
Investment in Knightbridge 700,000

Problem 5
When several companies' financial statements are consolidated, much of the detail about
any one specific company is lost. As a result, it is difficult to determine if any one company
or operation within the group is performing well, or is being carried by the others due to poor
returns. As well, it is impossible to know what types of businesses have been aggregated
into the one set of consolidated statements, or in which countries those businesses operate.
Shareholders must find out this information from other sources, or do without.
Section 1701 was drafted to overcome some of the shortcomings of consolidation. This section
requires that companies disclose information regarding operating segments that meet certain
size thresholds (generally, those which represent 10% of the entity's total revenues, profits or
assets). Detailed information is disclosed for each operating segment, including a description of
the segment, and financial information including total assets, revenues, amortization, and other
items. Further disclosure includes revenues from each product or service or each group of
similar products or services, and external revenues, capital assets, and goodwill for each foreign
country in which the parent operates. Finally, if revenue to a single customer is greater than
10% of total revenue, this fact and the amount of that customer's revenue must be disclosed.
The consolidated financial statements provide the reader with an overview of all assets and
liabilities controlled by the parent's shareholder group. The disclosure required by Section 1701
complements consolidated statements by providing information about the entity's significant
operating segments, sales in foreign countries, and major customers. Segment disclosures
should be organized in the same manner as the information management uses internally
to assess performance and make strategic decisions. Thus not only does the expanded
disclosure provide information that is useful to shareholders, but the format provides further
insights into management's strategic direction for the company.
Problem 6
Cost of investment, January 1, Year 5 8,000
Total shareholders' equity of Dandy 7,000
AB's ownership % 80% 5,600
Allocation:
Equipment (950 700) 80% 200
Future tax asset on loss carryforward (800 x 40%) x 80% 256
Future tax liability on equipment (950 700) x 40% 80% (80) 376
Balance goodwill 2,024
(b) Noncontrolling interest on consolidated balance sheet at January 1, Year 5:
20 % x (1,000 + 6,000) = 1,400
(c) Amortization
Balance Year 5 Year 6 Year 7 Balance
Jan 1/5 Dec. 31/7
Equipment 200 20 20 20 140
FTA on loss carryforward 256 32
1
64
2
160
FTL on equipment (80) (8) (8) (8) (56)
Goodwill 2,024 - 300 - 1,724
Total 2,400 12 344 76 1,968
Notes:
1. 100 x 40% x 80%
2. 200 x 40% x 80%
(d) Since tax returns are filed for separate legal entities and not the consolidated entity, the fair
value excess in a business combination is not considered to be a deductible cost for tax
purposes. If the asset acquired in a business combination were subsequently sold at its
fair value, a gain would be reported for tax purposes even though no gain would be
realized from a consolidated point of view. This future tax obligation is reported as a future
tax liability on the consolidated financial statements at the date of acquisition.
Problem 7
Future tax assets and liabilities
Fair value Tax basis Difference
Inventory 134,000) 110,000) 24,000)
Land 210,000) 75,000) 135,000)
Buildings 24,000) 15,000) 9,000)
Equipment 16,000) 12,000) 4,000)
Noncurrent liabilities (155,000) (150,000) (5,000)
229,000) 62,000) 167,000)
Subsidiary's tax rate 40 %)
Future tax liability
in total on consolidation 66,800
- already reported by Mansford 4,400
- adjustment required on consolidation 62,400
Cost of 100% of Mansford Corp. 335,000
Book value of Mansford Corp.
Common stock 100,000)
Retained earnings 41,435)
141,435)
Green Inc.'s percentage ownership 100.00%) 141,435
Allocated: FV BV
Inventory 24,000)
Land 135,000)
Buildings 3,000)
Equipment (1,000)
161,000)
Future tax liability 62,400)
Noncurrent liabilities 5,000) 93,600
Goodwill 99,965
Green Inc.
at January 1, Year 1
Cash (340,000 335,000 + 52,500) 57,500
Accounts receivable (167,200 + 61,450) 228,650
Inventory (274,120 + 110,000 + 24,000) 408,120
Land (325,000 + 75,000 + 135,000) 535,000
Buildings (250,000 + 21,000 + 3,000) 274,000
Equipment (79,000 + 17,000 1,000) 95,000
Goodwill 99,965
1,698,235
Current liabilities (133,000 + 41,115) 174,115
Future tax liabilities (120,000 + 4,400 + 62,400) 186,800
Noncurrent liabilities (0 + 150,000 + 5,000) 155,000
Common stock 380,000
Retained earnings 802,320
1,698,235
Problem 8
(a)
Value used for
Book value FVI at 60% consolidation Tax basis Difference
Inventory 110,000) 14,400) 124,400) 110,000) 14,400)
Land 75,000) 81,000) 156,000) 75,000) 81,000)
Buildings 21,000) 1,800) 22,800) 15,000) 7,800)
Equipment 17,000) (600) 16,400) 12,000) 4,400)
Noncurrent liabilities (150,000) (3,000) (153,000) (150,000) (3,000)
104,600)
Subsidiary's tax rate 40 %
Future tax liability - - consolidated balance sheet 41,840
Future tax liability - Mansford balance sheet 4,400
Future tax liability - adjustment required on consolidation 37,440
Cost of 60% of Mansford Corp. 201,000)
Book value of Mansford Corp.
141,435)
Green Inc.'s percentage ownership 60%) 84,861)
Purchase discrepancy 116,139)
Allocated: FV - BV
Inventory 24,000) x 60% 14,400)
Land 135,000) x 60% 81,000)
Buildings 3,000) x 60% 1,800)
Equipment (1,000) x 60% (600)
161,000) 96,600)
Future tax liability (37,440)
Noncurrent liabilities 5,000) x 60% (3,000) 56,160)
Goodwill 59,979)
Green Inc.
January 1, Year 1
Cash (340,000 201,000 + 52,500) 191,500
Inventory (274,120 + 110,000 + 14,400) 398,520
Land (325,000 + 75,000 + 81,000) 481,000
Buildings (250,000 + 21,000 + 1,800) 272,800
Equipment (79,000 + 17,000 600) 95,400
Goodwill 59,979
1,727,849
Current liabilities (133,000 + 41,115) 174,115
Future tax liabilities (120,000+ 4,400 + 37,440) 161,840
Noncurrent liabilities (0 + 150,000 + 3,000) 153,000
Noncontrolling interest (141,435 x 40%) 56,574
Common stock 380,000
1,727,849
(d) Since tax returns are filed for separate legal entities and not the consolidated entity, the
fair value excess in a business combination is not recognized for tax purposes. If the net
assets acquired in a business combination were sold at their fair value, a gain would be
reported for tax purposes because the fair value is greater than the cost base for tax
purposes. This future tax obligation is reported as a future tax liability on the consolidated
financial statements at the date of acquisition.
Problem 9
(a) Consolidated retained earnings at December 31, Year 6
Primes retained earnings $660,000
Cumulative amortization of fair value excess (Note 1) 14,000
Variables cumulative income since date of acquisition 200,000
Allocated to noncontrolling interest (180,000 x 8% x 5) (72,000)
Balance attributed to Prime 128,000
Consolidated retained earnings at December 31, Year 6 $802,000
Note 1:
Implied Value (i.e. acquisition cost) of Variables net assets
Fair value of amount invested by Prime 0
Fair value of NCI (= value of common shares) 180,000
Total implied value 180,000
Assessed Value of Variables net assets
Carrying value of amount invested by Prime 0
Fair value of Variables own assets 550,000
Less: Fair value of liabilities of Variable (340,000)
Total assessed value 210,000
Difference between implied and assessed values (30,000)
Assigned on consolidation to:
Land 200/500 x 30,000 (12,000)
Manufacturing plant 300/500 x 30,000 (18,000)
Balance to assign 0
The above calculation assumes that all assets and liabilities would be originally valued at fair
value. This caused a negative purchase price discrepancy of $30,000, which was assigned to
land, and manufacturing plant. Therefore, the total fair value excess at the date of acquisition is
as follows:
Preliminary Reassigned Total
Land 120,000 (12,000) 108,000
Manufacturing plant (20,000) (18,000) (38,000)
Long-term debt 10,000 10,000
The amortization of the fair value excess from January 1, Year 12 to December 31, Year 16
would be as follows:
Jan 1/Yr 12 Cumulative Unamortized
Balance Amortization Balance
Land 108,000 108,000
Manufacturing plant (38,000) (19,000) (19,000)
Long-term debt 10,000 5,000 5,000
80,000 (14,000) 94,000
(b)
Prime Inc.
December 31, Year 16
Cash (20,000 + 180,000) $ 200,000
Land (400,000 + 80,000 + 108,000) 588,000
Manufacturing facility (650,00 + 260,000 19,000) 891,000
$2,024,000
Current liabilities (185,000 + 50,000) $235,000
Long-term debt (450,000 + 290,000 5,000) 735,000
Noncontrolling interest (180,000 + 72,000 50,000) 202,000
Common stock 50,000
$2,024,000
(c) Liabilities are obligations of an entity arising from past transactions or events, the
settlement of which may result in the transfer or use of assets, provision of services or
other yielding of economic benefits in the future. When the primary beneficiary controls
the variable interest entity, it indirectly takes responsibility for and assumes the risk related
to the obligations of the VIE.
Problem 10
Revenues Profit Assets
A 12,000 2,100 24,000
B 9,600 1,680 21,000
C 7,200 1,440 15,000
D 3,600 660 9,000
E 5,100 810 8,400
F 1,800 270 3,600
39,300 6,960 81,000
Revenue test
Percentage
Revenues of total
A 12,000 31%
B 9,600 24%
C 7,200 18%
D 3,600 9%
E 5,100 13%
F 1,800 5%
39,300 100%
From the revenue test, segments A, B, C, and E are reportable.
Percentage
Profit of total
A 2,100 30%
B 1,680 24%
C 1,440 21%
D 660 9%
E 810 12%
F 270 4%
6,960 100%
From the operating profit test, segments A, B, C, and E are reportable.
Asset test
Percentage of
Assets total
A 24,000 30%
B 21,000 26%
C 15,000 19%
D 9,000 11%
E 8,400 10%
F 3,600 4%
81,000 100%
From the asset test, only segment F is not reportable. Since each other segment must be
reported separately, segment F will be reported separately by default.
Problem 11
Note to instructor: The tax allocation considerations outlined in this solution do not include those
arising from the two steps of the intercorporate investment, as this is beyond the scope of the
discussion in the text. Students should be advised to consider the tax effects of the unrealized
profits only.
Cost of 40% of Forma January 1, 2001 116,000
Shareholders' equity Forma 180,000
40% 72,000
Purchase discrepancy Jan. 1, 2001 44,000
Allocated:
Inventory 20,000 40% 8,000
Land 40,000 40% 16,000
Plant and equip. 50,000 40% 20,000 44,000
Balance 0
Amortization Schedule
Balance Amort. Balance
Jan. 1, 2001 to Dec. 31, 2005 Dec. 31, 2005
Inventory 8,000 8,000
Land 16,000 16,000
Plant and equip. 20,000 5,000 15,000
44,000 13,000 31,000
Cost of 60% of Forma Sept. 30, 2003 210,000
Shareholders' equity Forma 210,000
60% 126,000
Allocated:
Inventory 10,000 60% 6,000
Plant and equip. 70,000 60% 42,000 48,000
Balance goodwill 36,000
Amortization Schedule
Balance Amort. Balance
Sept. 30, 2003 to Dec. 31, 2005 Dec. 31, 2005
Inventory 6,000 6,000))
Plant and equip. 42,000 4,725*) 37,275
Goodwill 36,000 2,025 33,975
84,000 12,750*) 71,250
* 42,000 / 20 2 = 4,725
Intercompany receivable and payable
Pro receivable from Forma 13,000
Pro receivable from Apex 40,000
30% 12,000
25,000
Unrealized profits Before Tax After
tax 40% tax
Pro selling to Apex 12,000
Less: 70% realized 8,400 3,600 1,440 2,160
Closing inventory Forma selling 45,000 18,000 27,000
Calculation of noncontrolling interest Dec. 31, 2005
Preferred shares 200,000
Dividends in arrears 24,000
224,000
Calculation of consolidated retained earnings Dec. 31, 2005
Pro Retained earnings Dec. 31, 2005 210,000)
Less: Purchase discrepancy amortization
First purchase 13,000
Second purchase 12,750
Inventory profit selling to Apex 2,160 27,910)
182,090)
Forma retained earnings Sept. 30, 2003 110,000
Jan. 1, 2001 80,000
Increase 30,000
40% 12,000)
Forma retained earnings Dec. 31, 2005 95,000
Less: preferred dividends in arrears 24,000
Available to Pro 71,000
Forma retained earnings Sept. 30, 2003 110,000
Decrease from 2003 to 2005 39,000
Less: Closing inventory profit after tax 27,000
Adjusted decrease 66,000
100% (66,000)
Apex retained earnings 40,000
30% 12,000)
140,090)
Pro Ltd.
as at December 31, 2005
Cash (70,000 + 1,500 + [.3 200,000]) $ 131,500)
Accounts receivable (210,000 + 90,000 + [.3 110,000] 25,000) 308,000)
Inventory (100,000 + 62,500 + [.3 70,000] 45,000 3,600) 134,900)
Land (100,000 + 110,000 + [.3 60,000] + 16,000) 244,000)
Plant & equipment (726,000 + 550,000 + [.3 290,000] + 20,000 + 42,000) 1,425,000)
Accum. depreciation (185,000 + 329,000 + [.3 60,000] + 5,000 + 4,725) (541,725)
Goodwill 33,975)
Deferred charge - income taxes (1,440 + 18,000) 19,440)
$1,755,090)
Accounts payable (175,000 + 90,000 + [.3 130,000] 25,000) $ 279,000)
Bonds payable 312,000)
Noncontrolling interest 224,000)
$1,755,090)
Problem 12
(a)
Intercompany eliminations
Rent (125,000 x 40%) 50,000
Intercompany profits Before Tax After
tax 40% tax
Land Kent Selling in 2002 75,000
45,000
Considered unrealized in 2002 40%
30,000
Realized in 2005 (50%) 15,000 6,000 9,000
Unrealized at end of
2005 (50%) 15,000 6,000 9,000
Calculation of consolidated net income 2005
Net income, Kent 800,000
Less: dividends 40% x 80,000 32,000
Purchase discrepancy amortization 9,500 41,500
758,500
Add: land gain 9,000
767,500
Net income, Laurier 230,000
40% 92,000
859,500
Kent Corp.
for the Year Ended December 31, 2005
Sales (3,000,000 + [40% x 1,200,000]) 3,480,000
Other income (200,000 [40% x 80,000] + [40% x 70,000] 50,000) 146,000
Gain on sale of land (15,000 + [40% x 100,000]) 55,000
Total 3,681,000
Cost of sales (1,400,000 + [40% x 560,000]) 1,624,000
Operating expenses (500,000 + [40% x 300,000] 50,000 12,500) 557,500
Depreciation expense (100,000 + [40% x 130,000] + 9,000) 161,000
Goodwill impairment loss 13,000
Income tax (400,000 + 6,000 + [40% x 150,000]) 466,000
2,821,500
Net income 859.500
(b) Significant influence
Kent Corp.
Income Statement
for the Year Ended December 31, 2005
Sales 3,000,000
Other income (200,000 [40% x 80,000]) 168,000
Investment income (Note 1) 105,000
3,273,000
Cost of sales 1,400,000
Operating expenses 500,000
Depreciation expense 100,000
Income tax 400,000
2,400,000
Net income 873,000
Note 1:
Investment income
Lauriers income 230,000
Kents percentage 40%
92,000
Less: purchase discrepancy amortization 9,500
82,500
Add: Realized gain on sale of land
Kent selling (75,000 x 50% x [1 40%]) 22,500
105,000
Problem 13
(a) Intercompany eliminations
Sales and purchases (6,000 60%) $3,600
Unrealized profits Before Tax After
tax 40% tax
Connor selling to Banff 6,000
25%
On-hand inventory 1,500
Gross profit (1,800 6,000) 30%
Profit in inventory 450
Considered unrealized 60% 270 108 162
Calculation of consolidated net income Year 3
Connor net income 40,000
Less: closing inventory profit after tax 162
39,838
Banff net income 2,500
60% 1,500
41,338
Connor Company
Sales (150,000 + [60% 20,000] 3,600) 158,400)
Cost of sales (90,000 + [60% 11,000] 3,600 + 270) 94,270)
Expenses (20,000 + [60% 6,500] 108) 23,792)
117,062)
Net income 41,338)
Connor Company
Consolidated Retained Earnings Statement
Balance Jan. 1 30,000)
Net income 41,338)
Balance Dec. 31 71,338)
Connor Company
as at December 31, Year 3
Current assets (75,000 + [60% 6,000] 270) 78,330
Fixed assets (190,000 + [60% 72,000]) 233,200
Accumulated depreciation (60,000 + [60% 5,000]) (63,000)
Other assets (16,000 + [60% 8,000]) 20,800
Deferred charge - income taxes 108
269,438
Current liabilities (33,000 + [60% 18,500]) 44,100
Long-term debt (45,000 + [60% 40,000]) 69,000
269,438
(b) The gain recognition principle states that gains should be recorded when they are realized
i.e. when a transaction has occurred with an outside entity and consideration is received.
When Connor sold inventory to Banff, sixty percent of the gain is considered to be
unrealized because Connor is considered to be selling to itself since it owns 60% of Banff.
Problem 14
Unrealized profits After tax
Closing inventory Prince selling 40,000
Albert selling 72,000
Equipment Jan. 1, 2004 Albert selling 120,000
Amount realized annually through depreciation
(120,000 / 5 years) 24,000
1) Albert owns 64% of Prince (a subsidiary)
Investment in Prince (64% 860,000) 550,400
Intercompany investment income 550,400
2005 net income
Dividends receivable (64% 200,000) 128,000
Investment in Prince 128,000
2005 dividends declared but not received
Intercompany investment income (64% 40,000) 25,600
Unrealized closing inventory profit Prince selling
Unrealized closing inventory profit Albert selling
Equipment profit realized in 2005 Albert selling
2) Albert owns 30% of Prince (a joint venture)
2005 net income
Dividends receivable (30% 200,000) 60,000
2005 dividends declared but not received
Unrealized closing inventory profit Prince selling
Unrealized closing inventory profit Albert selling
(Note: 70% is realized selling to the other venturers)
Equipment profit realized in 2005 Albert selling
(70% is realized selling to other venturers)
Problem 15
Part A
Fair value of plant and equipment transferred 1,000,000
Carrying value on Amco's books 300,000
Gain on transfer to joint venture (Bearcat) 700,000
Amco's portion 40% (unrealized) 280,000
Newstar's portion 60% 420,000
Immediate gain from selling to Newstar
Sale proceeds cash received 500,000
Carrying value sold (500 / 1,000 300,000) 150,000 350,000
Deferred gain from selling to Newstar 70,000
(a)
Jan. 1, Year 1
Cash 500,000
Investment in Bearcat (1,000,000 500,000) 500,000
Plant and equipment 300,000
Deferred (contra) gain Amco 280,000
Gain on transfer to Newstar 350,000
Deferred gain Newstar 70,000
Dec 31, Year 1
Investment in Bearcat 72,000
Equity earnings 72,000
(40% 180,000)
Dividend receivable 30,000
(40% 75,000)
(70,000 / 20 years)
Part B
If Newstar did not invest cash, the cash received by Amco had to come from the borrowings of
the joint venture.
Cash received by Amco 500,000
From Amco's share of the borrowing 40% 200,000
From Newstar's share 60% 300,000
Sale proceeds 300,000
Carrying value sold (300 / 1000 300,000) 90,000
(a)
Jan. 1, Year 1
Cash 500,000
Plant and equipment 300,000
Deferred (contra) gain Amco 280,000
Deferred gain Newstar (420,000 210,000) 210,000
Dec. 31, Year 1
Equity earnings 72,000
Dividend receivable 30,000
(210,000 / 20 years)
(b) The accounts Investment in Bearcat, Dividends receivable, and Equity earnings would
be eliminated in the preparation of the consolidated financial statements.
Deferred (contra) gain Amco would be deducted from plant and equipment in the
preparation of the consolidated balance sheet as follows:
Plant and equipment (40% 1,000,000) 400,000
Less: deferred (contra) gain 280,000
120,000
The balance left is Amco's share of the carrying value of the asset transferred to venture
40% 300,000 = 120,000
Gain on transfer to Newstar would appear in the consolidated income statement.
Deferred gain Newstar would appear as a deferred credit in the consolidated balance
sheet.
Problem 16
(a) The purpose of segmented reporting is to provide information to users of financial
statements about the different types of business activities in which an enterprise
engages and the different foreign economic environments in which it operates. This will
help users to better understand the enterprise's performance, better assess its
prospects for future cash flows, and make more informed decisions about the
organization as a whole.
The principal reason segmented information is needed is that companies consolidate
their subsidiaries. There are many benefits to preparing consolidated statements for
readers of financial information, including:
Providing a broader view of the entire economic entity controlled by the parent
corporation.
Eliminating transactions between affiliated companies that do not increase the total
wealth of the group, but if not eliminated, may mislead readers.
However, as in many situations where data are accumulated, combined, and
summarized, consolidation can result in compromises. For example, information about
one specific company within the group, or one segment of the group's operations, is
impossible to determine from consolidated financial statements. Segmented reporting is
an attempt to provide readers with the information they require to understand the risks
and rewards of investing in the enterprise.
(b) An operating segment should be reported if it meets any one of the following criteria:
Its reported revenue (including intersegment and external sales) is 10% or more of
the total of the combined intersegment and external revenue of all reported operating
segments.
The absolute amount of its reported profit or loss is 10% or more of the absolute
amount of the greater of the combined reported profits of all operating segments
reporting a profit or the combined reported losses of all operating segments reporting
a loss.
Its assets are 10% or more of the combined assets of all operating segments.
Information about segments that do not meet any of these thresholds may be disclosed
if desired. As well, if two or more segments exhibit similar economic characteristics, they
can be aggregated into one operating segment.
At least 75% of a firms external revenues must be reported by segment disclosures. If
this does not occur as a result of applying the above criteria, additional operating
segments should be identified until at least 75% of the external revenue is reported by
segments.
There are no quantitative thresholds associated with geographic area disclosure.
Revenues, capital assets, and goodwill must be disclosed by country if they are material.
Problem 17
Fair value of land 2,000,000
Carrying value of land on Clifford's books 600,000
Gain on transfer of land 1,400,000
Cliffords portion to be netted against land (40%) 560,000
Portion related to other venturers (60%) 840,000
(a)
Equity method journal entries on Clifford's books:
January 1, Year 3
Investment in Jager Ltd. 2,000,000
Land 600,000
Deferred (contra) gain Clifford 560,000
Deferred gain other venturers 840,000
To record initial investment in Jager Ltd.
December 31, Year 3
Equity in loss of Jager Ltd. 40,000
Investment in Jager Ltd. (40% x 100,000) 40,000
To record 40% of loss of Jager Ltd.
Gain on transfer of land to Jager Ltd. 105,000
To recognize a portion of the gain on transfer of land to joint venture
(840,000 / 8 years expected useful life = 105,000)
(b)
Investment in Jager Ltd. would not be reported on Cliffords consolidated financial
statements
would be replaced with 40% of the joint venture's assets and
liabilities
Deferred (contra) gain
Clifford
would be netted against the land account on Cliffords
consolidated financial statements to present only 40% of the
original cost of the land.
Value for consolidation purposes
2,000,000 x .4 = 800,000
Land at original cost (600,000 x 40%) 240,000
Deferred gain other venturers would be disclosed along with other long-term credits, such
as future income taxes, in Cliffords consolidated financial
statements
Equity in loss of Jager Ltd. would not be reported on Cliffords consolidated
financial statements
would be replaced with 40% of the joint venture's revenue
and expenses
Gain on transfer of land to Jager would be reported on Cliffords consolidated income
statement each year for the next 8 years
(c)
The cash is considered to be from the partial sale of the land to the other venturers.
Clifford could recognize a portion of the gain equal to the percentage that the cash received
is to the total fair market value (in this example, 50% x $1,400,000 = $700,000).
The amount recognized is then deducted from the original amount of the gain allocated to the
other venturers ($840,000 $700,000 = $140,000).
The following entry would record the example above:
Cash 1,000,000
Investment in Jager Ltd. 1,000,000
Land 600,000
Gain on sale of land to Jager Ltd 700,000
December 31, Year 3
Equity in loss of Jager Ltd. 40,000
Investment in Jager Ltd. 40,000
To record 40% of 100,000 loss of Jager.
Gain on transfer of land to Jager Ltd. 17,500
To recognize a portion of the gain on transfer of land to
joint venture (140,000 / 8 years = 17,500).
Problem 18
Cost of investment in Adams Company Ltd. 352,000
Book value of Adams Company Ltd.
620,000
Kay Corp's percentage 40% 248,000
(a)
Control investment full consolidation
Intercompany profit

Before Tax

After
tax 40% tax
Land
Kay Corp selling 60,000 24,000 36,000
Inventory
Adams selling 35,000 14,000 21,000
Intercompany receivable/payable 29,000
Noncontrolling interest:
Book value of Adams Company Ltd.
750,000
Less: unrealized profit Adams selling 21,000
729,000
Noncontrolling interest's percentage 60%
437,400
Consolidated retained earnings
Kay Corp's retained earnings
December 31, Year 5 700,000
Less: Unrealized profit Kay Corp selling
Purchase discrepancy amortization
36,000
104,000 140,000
560,000
Adams' retained earnings:
At acquisition 170,000
Increase 130,000
109,000
Kay Corp's consolidated retained earnings,
Kay Corp. Ltd
at December 31, Year 5
Cash (68,000 + 30,000) 98,000
Accounts receivable (80,000 + 170,000 29,000) 221,000
Inventory (600,000 + 400,000 35,000) 965,000
Property and plant (1,400,000 + 900,000 60,000) 2,240,000
Deferred charge - income tax (24,000 + 14,000) 38,000
3,562,000
Current liabilities (400,000 + 150,000 29,000) 521,000
Bonds payable (500,000 + 600,000) 1,100,000
Noncontrolling interest 437,400
3,562,000
(b)
Joint venture investment proportionate consolidation
Intercompany profit
Before Tax After
tax 40% tax
Land
Kay Corp selling 60,000
Unrealized 40% 24,000 9,600 14,400)
Inventory
Adams selling 35,000
Kay Corp percentage 40% 14,000 5,600 8,400)
Intercompany receivable/payable (29,000 x 40%) 11,600)
.
Consolidated retained earnings:
Kay Corp's retained earnings:
Less: Unrealized profit Kay Corp selling
Purchase discrepancy amortization
(14,400)
(104,000)
581,600
Adams' retained earnings:
Increase 130,000
Kay Corp's percentage 40% 52,000)
633,600)
Less: unrealized profit Adams selling 8,400)
Kay Corp's consolidated retained earnings )
December 31, Year 5 625,200)
Kay Corp. Ltd.
Cash (68,000 + [40% x 30,000]) 80,000
Accounts receivable (80,000 + [40% x 170,000] 11,600) 136,400
Inventory (600,000 + [40% x 400,000] 14,000) 746,000
Property and plant (1,400,000 + [40% x 900,000] 24,000) 1,736,000
Deferred charge - income tax (9,600 + 5,600) 15,200
2,713,600
Current liabilities (400,000 + [40% x 150,000] 11,600) 448,400
Bonds payable (500,000 + [40% x 600,000]) 740,000
2,713,600
(c)
Significantly influenced investment equity method
Refer to calculations under part (a)
Investment in Adams Corp.
January 1, Year 3 352,000
Less: unrealized profit on land Kay Corp selling 36,000
316,000
Adams retained earnings:
Increase 130,000
109,000
Less: purchase discrepancy amortization (104,000)
Balance December 31, Year 5 255,600
Kay Corp. Ltd
Cash 68,000
Accounts receivable 80,000
Inventory 600,000
Investment in Adams Corp. 255,600
Property and plant 1,400,000
2,403,600
Current liabilities 400,000
Bonds payable 500,000
2,403,600

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Chapter 10

Peter Secord, Saint Marys University.

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