Question

In 2018, Babcock Industries, a calendar year corporation, acquired a 10% interest in Caraway, Inc. for...

In 2018, Babcock Industries, a calendar year corporation, acquired a 10% interest in Caraway, Inc. for $65,000. Babcock appropriately used the fair value method to account for the investment.   At the beginning of 2021, Babcock acquired an additional 25% of the outstanding common stock of Caraway for $250,000. The following additional information is available at the date of purchase related to Caraway’s activity for the years 2018-2020:

Cumulative dividends paid by Caraway                                                  $150,000

Cumulative income reported by Caraway                                             $400,000

Cumulative fair value adjustment in Babcock’s balance sheet      $ 35,000

Caraway’s balance sheet on the date of the additional purchase is as follows:

Accounts receivable       $100,000                              Mortgage payable                           $200,000

Inventories                         200,000

Building                                400,000                               Stockholders’ equity                      500,000

Total assets                        $700,000                              Total liabilities and equity             $700,000

Babcock based its price for the additional 25% investment on the fact that Caraway has a patent that Babcock estimates is worth $500,000. The patent will expire in 10 years.

Subsequent to the investment, Caraway reports earnings of $200,000 and pays $90,000 in dividends. In addition, Babcock sells inventories to Caraway that cost $50,000 for a sales price of $80,000. At the end of 2021, 60% of the inventories are still held by Caraway.

REQUIRED:

I.        Prepare a fair value allocation schedule for Babcock’s 35% interest in Caraway.

Business   Accounting   
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Answer #1

25% stock purchased valuation :

Purchase value - $250000

10% stock purchased for - $ 65000 + adjustment ($ 35000)- $110,000

Share of assets for 35% = 35% (700000) = 2,45,000

share of liabilities -= 35% (200000) = (70,000)

Share of dividend and earnings = 35% (290000) = 101,500

Earning from patent (patent value = 500000) = share = 35% (500000) = 175000

Total = 451,500

Adjustment of inventory profit = 60% 30000= 18000   

valuation = 451,500- 18,000= 433,500

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