Question

Consolidation subsequent to date of acquisition—Equity method with noncontrolling interest , AAP and gain on upstream intercompany equipment sale

A parent company acquired its 75% interest in its subsidiary on January 1, 2011. On the acquisition date, the total fair value of the controlling interest and the noncontrolling interest was $350,000 in excess of the book value of the subsidiary’s Stockholders’ Equity. All of that excess was allocated to a Royalty Agreement, which had a zero book value in the subsidiary’s financial statements (i.e., there is no Goodwill). The Royalty Agreement has a 7 year estimated remaining economic life on the acquisition date. Both companies use straight line depreciation and amortization, with no salvage value.

In January 2014, the subsidiary sold Equipment to the parent for a cash price of $250,000. The subsidiary acquired the equipment at a cost of $480,000 and depreciated the equipment over its 10-year useful life using the straight-line method (no salvage value). The subsidiary had depreciated the equipment for 6 years at the time of sale. The parent retained the depreciation policy of the subsidiary and depreciated the equipment over its remaining 4 year useful life.

Following are pre-consolidation financial statements of the parent and its subsidiary for the year ended December 31, 2016. The parent uses the equity method to account for its Equity Investment.

	Parent	Subsidiary			Parent	Subsidiary
Income statement:				Balance sheet:
Sales	$3,400,000	$900,000		Assets
Cost of goods sold	(2,400,000)	(500,000)		Cash	$619,500	$250,000
Gross profit	1,000,000	400,000		Accounts receivable	530,000	420,000
Income (loss) from subsidiary	85,875			Inventory	900,000	550,000
Operating expenses	(522,000)	(225,000)		PPE, net	3,500,000	1,000,000
Net income	$563,875	150,000		Equity investment	454,125
					$6,003,625	$2,220,000
Statement of retained earnings:
BOY retained earnings	$1,799,750	$200,000		Liabilities and stockholders’ equity
Net income	563,875	150,000		Accounts payable	$340,000	$250,000
				Other current liabilities	400,000	300,000
Dividends	(100,000)	(30,000)		Long-term liabilities	1,500,000	1,100,000
EOY retained earnings	$2,263,625	$320,000		Common stock	200,000	100,000
				APIC	1,300,000	150,000
				Retained earnings	2,263,625	320,000
					$6,003,625	$2,220,000

c. Compute the pre-consolidation Equity Investment account beginning and ending balances starting with the stockholders’ equity of the subsidiary.

Use negative signs with answers that are reductions.

Equity investment at 1/1/16:
Common stock		Answer
APIC		Answer
Retained earnings		Answer
AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits		Answer
Less:	AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits	Answer
		Answer
Equity investment at 12/31/16:
Common stock		Answer
APIC		Answer
Retained earnings		Answer
AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits		Answer
Less:	AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits	Answer
		Answer

d. Reconstruct the activity in the parent’s pre-consolidation Equity Investment T-account for the year of consolidation.

Equity Investment
Balance at 1/1/16	Answer	Answer
Net income	Answer	Answer	Dividends
AnswerNet incomeUpstream equipment profitsDividendsAAP amortization	Answer	Answer	AnswerNet incomeUpstream equipment profitsDividendsAAP amortization
Balance at 12/31/16	Answer	Answer

e. Independently compute the owners’ equity attributable to the noncontrolling interest beginning and ending balances starting with the owners’ equity of the subsidiary.

Use negative signs with answers that are reductions.

Noncontrolling interest at 1/1/16:
Common stock		Answer
APIC		Answer
Retained earnings		Answer
AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits		Answer
Less:	AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits	Answer
		Answer
Noncontrolling interest at 12/31/16:
Common stock		Answer
APIC		Answer
Retained earnings		Answer
AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits		Answer
Less:	AnswerCommon stockAPICRetained earningsUnamortized AAP75% of upstream deferred intercompany profits25% of upstream deferred intercompany profits Correct Mark 1.00 out of 1.00	Answer
		Answer

Answer 1