Matakuliah
Tahun
: Akuntansi Keuangan Lanjutan I
: 2010
Partnership – Formation, Operations, and Changes
in Ownership Interest
Pertemuan 7-8
Partnerships: Objectives
1. Comprehend the legal characteristics of
partnerships.
2. Understand initial investment valuation and record
keeping.
3. Grasp the diverse nature of profit and loss sharing
agreements and their computation.
4. Value a new partner's investment in an existing
partnership.
Objectives (cont.)
5. Value a partner's share upon retirement or death.
6. Understand limited liability partnership
characteristics.
Partnerships – Formation, Operations, and Changes in
Ownership Interests
1: Characteristics of Partnerships
Partnerships
RUPA "Revised Uniform Partnership Act"
– Entity theory:
• partners own their share of the partnership, but not
its individual assets
– Dissociation:
• partners can dissociate without dissolution
Partners have
– Mutual agency
– Unlimited liability
Articles of Partnership
1. Products or services, line of business
2. Partner rights & responsibilities
3. Initial investment and value assigned to noncash
investments
4. Additional investment conditions
5. Asset withdrawals
6. Profit and loss sharing
7. Dissolution procedures
Partnership Reporting
• Financial reporting should provide for the needs of
– Partners
– Creditors of the partnership
– IRS
Partnerships – Formation, Operations, and Changes in
Ownership Interests
2: Initial Investment
Initial Investment
Cash
XXX
XXX
Amy Capital
Cash
XXX
XXX
Paul Capital
A partnership is started by Amy and Paul, each investing
cash.
If they invest other assets, the value of those assets should
be agreed upon in advance.
Cash
Equipment
Land
Paul Capital
XXX
XXX
XXX
XXX
Initial Investment with Bonus or Goodwill
Partner initial investments, at fair value, will not
represent their ownership.
– Individual talent
– Business connections
– Customer base
Partners choose method
– Bonus method
• Adjustment within the capital accounts
– Goodwill method
• Goodwill is recorded on the books
Initial Investment with Bonus
Total fair value received is split, as desired, between
partners
Cola invests land and building worth $10 and $40.
Crown invests cash and inventory at $7 and $35.
Agree to have equal shares:
(10 + 40 + 7 + 35) / 2 = $46 each
Cash
Inventory
Land
Building
Cola Capital
Crown Capital
7
35
10
40
46
46
Initial Investment with Goodwill
If Cola and Crown agree to equal shares, use larger
implied total value of firm.
Cola's: (10 + 40) / 50% = $100
Crown's: (7 + 35) / 50% = $84
Implied value of firm
$100
Cola's 50%(100)
He invests:
Land
$10
Building
$40
$50
$50
Crown's 50%(100)
He invests:
Cash
$7
Inventory $35
Goodwill
$50
$42
$8
Initial Entry with Goodwill
Land
Building
10
40
50
Cola Capital
To record Cola's investment
Cash
Inventory
Goodwill
Crown Capital
To record Crown's investment and goodwill
7
35
8
50
Partner Accounts
Each partner has his/her own accounts for
– Capital
– Drawings (periodic, salary-like, amounts)
– Withdrawals (other, large, unusual amounts)
• Investments increase Capital
• Drawings and withdrawals are closed to Capital
• Income Summary or Revenue and Expense Summary is
closed to Capital.
Sample Partner Closing Entries
Drawings /
withdrawals
are closed to
individual
capital
accounts.
Amy Capital
XXX
XX
XX
Amy Drawings
Amy Withdrawals
Reduces Amy's capital for drawings and withdrawals
Paul Capital
XXX
XXX
Paul Drawings
Income Summary
Profit
Amy Capital
Paul Capital
XXX
XXX
To share profits between Amy and Paul
Income is shared between the partners. A loss would cause
the entry to be reversed. It is possible for some partners to
have losses while other have profits.
Statement of Partners' Capital
Beginning capital + investments – drawings and/or withdrawals
+ income or – loss = ending capital
Partnerships – Formation, Operations, and Changes in
Ownership Interests
3: Sharing Profit and Loss
Profit/ Loss Sharing Agreements
The partnership articles should clearly state the means
of distributing profits and distributing losses.
Items commonly considered
– Bonus allowance
– Salary allowance
– Interest allowance on capital invested
• Based on average, beginning or ending capital
balance
– Sharing of remaining amounts
Bonus and Salary Allowances
Bonus allowances are often based on partnership profits
and may be before or after:
(a) salary allowances and (b) bonus.
If the bonus is after both:
Bonus = b% x (NI – Salary Allow – Bonus)
Salary allowances are generally pre-determined amounts
Interest Allowances and Capital
Interest Allowances are generally based on a measure of
the partner's capital
– Beginning of the year capital balance
– Average* capital balance for the year
Weighted average balance
– Ending* capital balance
Beginning balance – withdrawals + investments
* Periodic drawings are often ignored, although withdrawals
are considered
Allocating Income
Partner's allowances for bonus, salary and interest are
allocated to them, whether or not sufficient profits exist.
Remaining profits (or deficit) is then split according to the
agreed-upon proportions.
These are general procedures. The partnership articles
provide the specific requirements.
Example: Sharing Profits
Tom and Betty agree to share profits and losses:
• Tom and Betty have $60 and $30 salary allowances
• Betty has a bonus of 50% of profits in excess of $500
• Each have interest allowances of 10% of beginning capital
– Tom Capital, 1/1 $400
– Betty Capital, 1/1 $350
• Remaining profits or losses are shared Tom 60%, Betty 40%.
Partnership profits are $660 for the year.
Share Profits of $660
Net income
Salary allowance
Bonus allowance
Interest allowance
Subtotal
Split 60:40
Allocated net income
Bonus = 50%(660 - 500) = 80
Tom Interest = 10%(400) = 40
Betty Interest = 10%(350) = 35
60%(415) = 249; 40%(415) = 166
Total
$660
(90)
(80)
(75)
$415
(415)
$0
Tom
Betty
$60
0
40
$30
80
35
249
$349
166
$311
Share Profits of $180
Assume instead that income was only $180.
Total
Net income
$120
Salary allowance
(90)
Bonus allowance
0
Interest allowance
(75)
Subtotal, deficit
($45)
Split 60:40
45
Allocated net income
$0
Bonus = zero, income does not exceed threshold
Tom Interest = 10%(400) = 40
Betty Interest = 10%(350) = 35
60%(-45) = -27; 40%(-45) = -18
Tom
Betty
$60
0
40
$30
0
35
(27)
$73
(18)
$47
Partnerships – Formation, Operations, and Changes in
Ownership Interests
4: Admitting a New Partner
Admitting a New Partner
1. A current partner assigns interest to new partner.
2. New partner purchases interest from existing partner.
•
•
Goodwill method
Bonus method
3. New partner invests directly in partnership.
•
•
Goodwill method
Bonus method
Assignment
Assignment gives the assignee right to a share of future
earnings and share of assets in liquidation
– Not a partner
– No share in management
Old Partner Capital
Assignee Capital
XXX
XXX
Buy from Partner: Simple
Alfano and Bailey have capital balances of $50 each and
each have a 50% interest in the firm.
Cobb buys half of Alfano's interest for $25.
Alfano Capital
25
25
Cobb Capital
Alfano
Bailey
Cobb
Total
Before
Capital
Share
$50
50%
50
50%
$100
After
Capital
Share
$25
25%
50
50%
25
25%
$100
Buy from Partner: Goodwill
Don and Ed have capital of $50 and $40 with each 50%
interest.
Fay will pay $60 directly to the partners and receive 50%
interest in the firm. Don and Ed each keep 25%. Assets
are at fair value.
Implied value of firm, $60/.50
Old capital, $50 + 40
Goodwill
120
90
30
The goodwill increases Don & Ed's capital each by $15.
Goodwill Revalues Capital
Don
Ed
Fay
Total
Before Revaluation
$50
$15
40
15
$90
After
$65
55
$120
Transfer
($35)
(25)
60
Final
$30
30
60
$120
Presumably, Fay paid $35 to Don and $25 to Ed.
If the partners had not wanted to realign the capital, the
capital of Don and Ed would each be reduced by $30
to transfer the $60 to Fay.
Buy from Partner: Bonus
If Don and Ed had decided not to revalue the assets or
record goodwill, the bonus method is used.
Don
Ed
Fay
Total
Before
$50
40
$90
Transfer
($27.5)
(17.5)
45.0
Final
$22.5
22.5
45.0
$90.0
Fay's capital is 50%(90) = $45.
Don and Ed Capital accounts are adjusted to their new
balances 25%(90) = $22.5
Entries for Purchase from Partner
Entries for Fay's admission, under goodwill and bonus
methods:
Goodwill
30
15
15
Don Capital
Ed Capital
Don Capital
Ed Capital
35
25
60
Fay Capital
Goodwill method, aligning capital accounts
Don Capital
Ed Capital
Fay Capital
Bonus method, aligning capital accounts
27.5
17.5
45
Invest in Business: Goodwill
Andrew and Boyles have capital balances of $40 and
$40 and share equally in the firm.
Criner will be admitted with an investment of $50 cash.
All three will have equal shares. Net assets are at fair
value; goodwill will be recorded.
Implied value of firm, $50/(1/3)
$150
Old capital, $40 + 40
$80
Additional investment
50
130
Goodwill
$20
Criner: $130*1/3 = $43.3, but he pays $50 … so
Implied firm value is based on Criner's investment.
Investment and Goodwill Add to Capital
(Goodwill to Old Partners)
Andrew
Boyles
Criner
Total
After reBefore Revaluvaluation
Investment Final
$40
$10
$50
$50
40
10
50
50
$50
50
$80
$100
$150
Capital of $80 at the start, increases by the $20 goodwill
and the $50 cash investment.
Invest in Business: Goodwill
Andrew and Boyles have capital balances of $40 and
$40 and share equally in the firm.
Criner will be admitted with an investment of $50 cash.
Criner will be given a 40% share; Andrew and Boyles
will each have 30%. Net assets are at fair value;
goodwill will be recorded.
Implied value of firm, $80/(.60)
$133.3
Old capital, $40 + 40
$80
Additional investment
50
130.0
Goodwill
$3.3
Criner: $130*40% = $52, but he pays $50 … so goodwill goes
Implied firm value is based on old partners' capital and
Investment and Goodwill Add to Capital
(Goodwill to New Partner)
Andrew
Boyles
Criner
Total
Before
$40
40
$80
Revaluation
After revaluation Investment Final
$40
$40.0
40
40.0
$3.3
3.3
$50
53.3
$83.3
$133.3
Capital of $80 at the start, increases by the $3.3 goodwill
and the $50 cash investment.
Invest in Business: Bonus
Andrew and Boyles decide not to revalue the business
assets, and Criner invests $50 cash in the business for a
1/3 interest.
Andrew
Boyles
Criner
Total
Before Investment
$50
40
$50
$90
Bonus
($1)
(1)
2
Final
$49
39
52
$130
Criner's new capital = 1/3 of the total $130. Since he
invests on $50 cash for a $52 interest, the $2 bonus is
transferred from the old partners.
Entries for Investment in Business
Entries for Criner's investment, under goodwill and
bonus methods:
Goodwill
20
10
10
Andrew Capital
Boyles Capital
Cash
60
60
Criner Capital
Goodwill method, goodwill to old partners
Cash
Andrew Capital
Boyles Capital
Criner Capital
Bonus method, bonus to new partner
50
1
1
52
Partnerships – Formation, Operations, and Changes in
Ownership Interests
5: Death or Retirement of a Partner
Dissociation
Firm value, according to RUPA, is the greater of
– Liquidation value
– Sales value as a going concern without the dissociated
partner
Payment to exiting partner is
– Equal to existing capital
– More than existing capital
• Implied goodwill or bonus to exiting partner
– Less than existing capital
• Write down overvalued assets, or bonus to
remaining partners
Partnerships – Formation, Operations, and Changes in
Ownership Interests
6: Limited Liability Partnership
Limited Partnerships
Limited partnerships must have one or more general
partners
Limited partner
– Excluded from participating in management
– Limited liability
– Partnership agreement
• In writing, signed and filed