1
●
FASB Conceptual Framework - defines the objectives and concepts that underlie
financial reporting and makes them USEFUL to the end user:
○ 2 Primary Qualitative Characteristics (Roger tries to be PC even though he’s
MATERIAListic. He is never on the FENCe):
■ In order for info to have Relevance, it must possess:
● Predictive value
● Confirmatory value (feedback, confirmation, needs changes)
● Or both
● Material - entity-specific aspect of relevance that applies at
individual entity level
■ In order for info to have Faithful Representation, it must be:
● Free from Error
● Neutral (no bias)
● Complete
○ Enhancing Qualitative Characteristics (Roger is CUT like a V):
■ Comparability (consistency)
■ Understandability
■ Timeliness
■ Verifiability
●
Fair Value Option - allows an entity to report trading/AFS securities, equity securities,
impairment losses, and derivatives at fair value with unrealized gains and losses
reported in the income statement (MIC):
○ Market Approach - similar items in the market
○ Income Approach - income that would be generated
○ Cost Approach - cost that would be incurred to replace
●
3 Levels of Inputs to Determine FV:
○ Level I - most reliable, observable data from actual market transactions
○ Level II - transactions did not occur in active market, transactions occurred
relating to similar but not identical items
○ Level III - unobservable data, management judgement
●
Bank Reconciliation (from bank balance):
= Balance on bank statement
+ Deposits in transit
- Outstanding checks
+/- Errors made by bank
= Corrected balance
2
●
Bank Reconciliation (from checkbook balance):
= Checkbook balance
+ Amounts collected by bank
- Unrecorded bank charges
+/- Errors made in recording transactions
= Corrected balance
●
Overdraft protection - if one account overdrafts and the other account is positive, you
can either (1) net them if accounts are at same bank or (2) record a current liability
if they are at different banks
●
GAAP Income Statement (ON-TIDe-N-OC):
Operating Income
+
Non-Operating or Other Income
Taxes
=
Income from Continuing Operations
+/Discontinued Component Unit Gain or Loss
=
Net Income
+/Other Comprehensive Income or Loss
=
Comprehensive Income
●
5 Step Revenue Recognition Process:
○ Identify contracts with customers
○ Identify all separate performance obligations within each contract
○ Determine total consideration for contract
○ Allocate total consideration among separate performance obligations
○ Recognize revenue (1) when entity has satisfied its performance obligations
or (2) while the entity is satisfying its performance obligations
●
Determining Total Consideration for Multiple Element Arrangements (Bundles):
○ Step Method:
■ Discount that applies to smaller bundle will be allocated among the items
in that bundle
■ Remaining discount allocated among all items using the standalone sales
price for those items that were not included in the small bundle and using
the standalone sales prices minus the discount already allocated to the
items in the small bundle
○ Example (appliances):
■ Refrigerator, stove, dishwasher, and washer/dryer combination is sold as
bundle for $4,200. Refrigerator normally sold for $2,700, stove for $600,
dishwasher for $700, and washer/dryer for $1,000.
3
■
○
●
Sum of standalone sales prices = $2,700 + $600 + $700 + $1,000 =
$5,000. Bundle sale then = $5,000 - $4,200 = $800 which is a discount of
$800/$5,000 = 16%.
■ Adjusted sales price and revenue allocation for each item can then be
summarized as: $2,268 for refrigerator, $504 for stove, $588 for
dishwasher, and $840 for washer/dryer (all net of 16% discount).
Example (recreational vehicles):
■ Store offers smaller bundles which include water package and off-road
package. Water package = jet ski ($2,900) and raft ($3,600) which is
bundled at $5,525. Off-road package = motorcycle ($2,800) and
snowmobile ($3,000) which is bundled at $5,220. All four items are
included in a larger bundle for $10,100.
■ Water package standalone sales prices = $2,900 + $3,600 = $6,500.
Bundle sale = $6,500 - $5,525 = $975 which is a discount of $975/$6,500
= 15%; Off-road package standalone sales prices = $2,800 + $3,000 =
$5,800. Bundle sale = $5,800 - $5,220 = $580 which is a discount of
$580/$5,800 = 10%.
■ The first adjusted sales price for each are summarized as: $2,465 (jet
ski), $3,060 (raft), $2,520 (motorcycle), and $2,700 (snowmobile).
■ Adding the standalone sales prices of the larger bundle gives you a total
of $10,745. Since the larger bundle is sold at $10,100, this is an additional
discount of $10,745 - $10,100 = $645 which is an additional discount of
$645/$10,745 = 6%.
■ The final adjusted sales price and revenue allocation for each are
summarized as: $2,317 (jet ski), $2,876 (raft), $2,369 (motorcycle), and
$2,538 (snowmobile) which totals $10,100.
Debt Securities:
○ Held for Trading
■ Recorded at cost (FMV) when acquired
■ Unrealized and realized gains and losses recorded on income statement
● Unrealized gains and losses adjust carrying value each period,
including interim periods
■ Cash flows from operating activities
○ Available for Sale
■ Recorded at cost (FMV) when acquired
■ Unrealized gains and losses recorded in OCI
● Unrealized gains and losses adjust carrying value each period,
including interim periods
■ Realized gains and losses recorded on income statement
■ Could have impairment losses for other than temporary decline in value
(the FV < acquisition cost):
4
○
DR Impairment Loss (I/S)
x
CR Investment in AFS (B/S)
x
■ Cash flows from investing activities
Held to Maturity
■ Recorded at amortized cost (so no unrealized gains or losses)
■ Realized gains or losses reported on income statement
■ Could have impairment losses if issuer is not able to make principal and
interest payments
■ Cash flows from investing activities
●
Reclassification of Debt Securities:
○ Available for Sale ↔ Held for Trading (most tested):
■ Reclass at FMV:
If CV = $80 and FMV = $100 and reclassing from AFS to HFT
DR Investment in HFT
80
CR Investment in AFS
80
DR Market Adj - HFT
20
CR Gain on Investment
20
○ Available for Sale ↔ Held to Maturity:
■ Reclass at FMV
■ If HTM to AFS then record gains or losses in OCI
■ If AFS to HTM then gain or loss is reported on statement of CI,
transferred to B/S in accumulated OCI, amortized over remaining life of
security
●
IFRS Debt Securities:
○ FVTPL - similar to electing the FV option, securities are adjusted to FMV at each
reporting date and gains/losses are reported in statement of profit or loss
○ Impairment losses can be recovered but gains reported on the income
statement cannot exceed original cost
●
Equity Method (20-50% ownership):
○ Investor exercises significant influence over the operating and financial policies
of the investee
○ Must determine how much of investment is allocated to goodwill, PP&E, and the
book value
DR Investment
1,000 - 750=BV
- 150=PP&E, 10 yr life
- 100=GW, 10 is impaired
CR Cash
DR Equity in Earnings (Depreciation)
CR Investment
1,000
15
15
5
DR Equity in Earnings (GW Impairment)
CR Investment
○
○
○
10
10
% ownership * investee earnings = ↑ in investment
DR Investment
x
CR Equity in Earnings
x
% ownership * dividends received = ↓ in investment
DR Cash
x
CR Investment
x
% ownership * depreciation/amortization/impairment of excess b/t BV and
purchase price (goodwill) = ↓ in investment
DR Equity in Earnings
x
CR Investment
x
●
Adjusted Cost Method (0-20%):
○ Investment recorded at cost and adjusted to FMV at each B/S date with
unrealized and realized gains/losses reported on income statement
○ No journal entry when investee earns income or for amortization/depreciation
○ Only record journal entry when receive dividend income
○ Practical expedient - used to determine FMV of investment when market value
isn’t readily determinable, uses published FMV of net assets per share * number
of shares or units held by investor
○ Adjusted cost method - if doesn’t quality for practical expedient, measures FMV
by cost minus any impairment losses
●
Financial Instruments (COD):
○ Cash
○ Ownership interests in an entity (stock)
○ Derivative contracts that create a right and obligation to transfer other financial
instruments (stock options)
●
3 Reasons for Investing in Derivatives:
○ Investments - stock options
○ Arbitrage - taking advantage of price differentials in separate markets to gain
profit without significant risk of loss (futures)
○ Hedge - reduce or eliminate risk (forward exchange contracts)
●
4 Characteristics of Derivatives (NUNS):
○ No net investment - no initial investment or very small initial investment such as
fees paid to obtain the contract
○ Underlying and Notional - the underlying is factor that affects the derivative’s
value (specified price or exchange rate) and the notional is the number of units
6
○
Net Settlement - can be settled in a net amount which is the sum of the positive
and negative underlying amounts (currency valued at old exchange rate vs
currency valued at new exchange rate)
●
Derivative Examples:
○ Option contracts - the right but not the obligation to buy/sell something in the
future; call = right to buy; put = right to sell
○ Futures contract - the right and obligation to buy/sell foreign currency or goods
in the future at a price set today
○ Forward contract - right and obligation to buy or sell a commodity at a future
date for an agreed-upon price
○ Interest rate/foreign currency swap - forward-based contract or agreement
between two counterparties to exchange streams of CF over a specified period in
the future
●
Fair Value Hedge - hedging against a recognized asset or liability or a firm purchase
commitment; changes in value of the derivative are reported in income
○ E.g. An oil company purchases 100 gallons (notional) of gas (recognized asset)
at today’s price of $2/gallon (underlying) to protect against future declines in its
gasoline inventory. If the price instead increases to $3/gallon:
DR Inventory
100
CR Gain on Market Increase in Inv (I/S)
100
DR Loss on FV Hedge (I/S)
100
CR Payable on Derivative
100
If the price were to decrease to $1/gallon:
DR Loss on Market Decline in Inv (I/S)
100
CR Inventory
100
DR Receivable on Derivative
100
CR Gain on FV Hedge (I/S)
100
●
Cash Flow Hedge - the derivative is hedging against a forecasted transaction that is
expected to take place in the future but is not yet a legal commitment; changes in value
are recorded in OCI (DENT)
○ E.g. An airline enters into a futures contract to purchase 100 gallons of gasoline
from the Fair Value Hedge example. The airline has a maximum budget of $200
to spend on gasoline, so it contracts to purchase the gasoline at today’s price of
$2/gallon 1 year from now. It expects that the price of gasoline will increase 1
year from now so it is protecting itself from that increase.
If the price of gasoline actually decreases to $1/gallon:
DR Loss on CF Hedge (OCI)
100
CR Payable on Derivative
100
7
If the price instead increases to $3/gallon:
DR Receivable on Derivative
CR Gain on CF Hedge (OCI)
100
100
●
IFRS Derivatives - includes an additional type of derivative that is Hedges of Net
Investments in Foreign Operations which are accounted for as CF hedges
●
Foreign Currency Transactions:
○ Transactional Currency - the local currency that the local books and records
are kept
⇅ Remeasurement (I/S)
○ Functional Currency - the currency in which entity generates and expends
cash
⇅ Translation Adjustments (OCI - DENT)
○ Reporting Currency - the currency in which the entity prepares its financial
statements
●
Foreign Currency Forward Exchange Contracts (CF Hedge) - one currency is
exchanged for another at a specified exchange rate at a specific future date in time
○ E.g. A Company budgets $325,000 to purchase a printing press from a German
company. Therefore, the purchase order will be received in Euros. They receive
the purchase order for 250,000 Euros at today’s exchange rate of $1.30 per
Euro. The PO specifies that payment is due in 6 months. The Company enters
into a forward exchange contract to purchase $325,000 of Euros at today’s
exchange rate 6 months from now. At each B/S date, a gain or loss will be
recognized in OCI depending on how the FX rate fluctuates and there will be
either a debit or credit to the Forward Exchange Contract B/S account.
●
Translation of Financial Statements (functional currency to reporting currency):
○ Translate all I/S items using the weighted average FX rate to arrive at the
translated net income
○ Translate all B/S items:
■ Assets and liabilities at B/S dates
■ Contributed capital at historical rates
■ Retained earnings is not translated and is only rolled forward
○ The difference is recognized as a gain or loss from Foreign Currency
Translation Adjustments in OCI (accumulated in AOCI until investment in
foreign investee is disposed of)
●
Remeasurement of Financial Statements (transactional currency to functional
currency) - present the financial information as if all transactions had originally been
recorded in the functional currency
8
○
○
○
○
Non-monetary assets and liabilities (prepaids, marketable securities, PP&E,
intangibles, deferred income/expenses) remeasured at historical rates
Monetary assets and liabilities remeasured at B/S dates
Revenues, expenses, gains, and losses remeasured at weighted average FX
rates at transaction date
Gains or losses recognized in I/S
At each B/S date (if FX rate increases unfavorably):
DR Foreign Currency Exchange Loss (I/S)
x
CR Due to X Company
x
When instrument is settled (if FX rate decreases favorably):
DR Due to X Company
x
CR Foreign Currency Exchange Gain (I/S)
x
CR Cash
x
●
Inventory Costs to Capitalize:
○ Warehousing
○ Insurance, repackaging, modifications
○ Inbound freight
○ Transportation costs paid by seller (consignor) on consignment arrangements
because the consignor retains legal ownership of the inventory
●
2 Inventory Measurement Systems:
○ Periodic - inventory quantity is determined by physical inventory counts
performed at year end
DR Ending Inventory
x
DR COGS (plugged)
x
CR Purchases
x
○ Perpetual - ongoing, realtime counts of inventory
DR Inventory
x
CR Cash or A/P
x
DR Cash
x
DR COGS
x
CR Sales Revenue
x
CR Inventory
x
●
Reconciling To (From) Recorded Amount (Physical Count)
Recorded Amount (Physical Count)
+/(-) Goods held on consignment
+/(-) Goods sold FOB shipping point
-/(+) Goods in transit sold FOB destination
-/(+) Goods in transit purchased FOB shipping point
=
Physical Count (Recorded Amount)
9
●
FIFO (LISH):
○ The last item added to inventory is still here in ending inventory, meaning that
ending inventory is likely valued higher than it would be under FIFO because
costs generally increase over time
○ Similarly, COGS is less than it would be under LIFO because older,
less-expensive inventory is sold; consequently, net income is higher than LIFO
and is considered to be overstated
○ LCNRV is used to value ending inventory
○ Inventory values for periodic and perpetual inventory systems are the same
Qty
Cost Value
BB
500
$1
$500
Purch 600
$3
$1,800
Sale (900)
(500) $1
$(500)
(400) $3
$(1,200)
$(1,700)
Purch 400
$5
$2,000
EB
600
$2,600
●
LIFO (FISH):
○ The first item added to inventory is still here in ending inventory, meaning that
ending inventory is likely valued lower than it would be under FIFO and is
considered to be understated
○ Similarly, COGS is more than it would be under FIFO because the newest
inventory representing current prices is sold; net income is lower than FIFO and
is considered to be properly stated
○ LCM is used to value ending inventory
○ Inventory values for periodic and perpetual inventory systems are not the same
○ IFRS does not allow
Qty
Cost Value
BB
1,000 $1
$1,000
Purch 600
$3
$1,800
Sale (900)
(600) $3
$(1,800)
(300) $1
$(300)
$(2,100)
Purch 400
$5
$2,000
EB
1,100
$2,700
●
Weighted Average (Periodic):
○ You don’t know the quantity of inventory on hand at the time of sale, therefore
you cannot calculate COGS until the physical inventory count has been
performed
10
Qty
BB
1,000
Purch 600
Purch 400
Total 2,000
Sale (900)
EB
1,100
Cost
$1
$3
$5
$2.40*
$2.40
Value
$1,000
$1,800
$2,000
$4,800
$(2,160)
$2,640
*$4,800/2,000 = $2.40
●
Moving Average (Perpetual):
Qty
Cost Value
BB
1,000 $1
$1,000
Purch 600
$3
$1,800
Total 1,600 $1.75* $2,800
Sale (900) $1.75 $(1,575)
Purch 400
$5
$2,000
EB
1,100
$3,225
*$2,800/1,600 = $1.75
●
Dollar Value LIFO:
Yr
EB @ YE
X2
$2
X3
$3.60
X4
$4.30
X5
$4.06
X6
$5.25
EB
Index
1.0
1.2
1.3
1.4
1.5
EB @ Base
$2
$3
$3.30
$2.90
$3.50
$3.98 =
1.0
X2
$2
1.2
X3
1.3
X4
1.4
X5
1.5
X6
$1 $.90
$.30
$(.40)
$.60
$2 + $1.08+ $0 + $0 + $.90
2
.90
.60
1.0
1.2
1.5
$2
$1.08
$.90
●
Lower of Cost or Market - Applicable to LIFO or Retail Inventory costing only,
inventory should be valued at the LOWER of its cost or market value (subject to ceiling
and floor limitations).
○ The market value that should be compared to cost is the MIDDLE of:
■ Ceiling = NRV (Sales Price - Disposal Costs)
■ Replacement Cost = cost to purchase or reproduce
■ Floor = NRV - Normal Profit Margin
●
Lower of Cost or NRV - Applicable to all others besides LIFO and Retail Inventory
(used by IFRS), inventory should be valued at the LOWER of its cost or NRV
11
●
Gross Profit Margin Method - Used to estimate ending inventory if it has been
destroyed or is missing.
○ E.g. If GP for the period is 40%, then COGS can be calculated by multiplying
Sales * 60%
BB
$100
Purch
$300
Goods Avail $400
(EB)
$??? → $400 - $180 = $220
COGS
$180 → $300 sales * 60%
●
Retail Inventory Method:
○ Conventional Method - approximates results that would be obtained by taking a
physical inventory count and pricing the goods at LCM
Cost Retail
BB
x
x
Purchases
x
x
Freight In
x
Net Markup
x
*MarkUPs are ↑ the line
Avail for Sale
x ÷ x
= C/R %
(Net Markdown)
(x)
*MarkDOWNSs are ↓ the line
S.P for Avail
x
(Losses)
(x)
(Sales @ Retail)
(x)
EB @ Retail
x*C/R% = EB at cost
○
●
LIFO Method - approximates the original cost of the merchandise
Cost Retail
BB
x
x
Freight In
x
Net Markup
x
(Net Markdown)
(x)
Avail for Sale
x ÷ x
= C/R %
(Losses)
(x)
(Sales @ Retail)
(x)
EB @ Retail
x*C/R% = EB at cost
IFRS Inventory:
○ LCNRV
○ Inventory losses can be recovered
○ Borrowing costs can be capitalized if it is taking substantial time to get inventory
ready for its intended use
○ LIFO is not allowed
12
●
PP&E Acquisition Costs to Capitalize:
○ Purchase price
○ Legal fees
○ Delinquent taxes to pay
○ Title insurance
○ Transportation (inbound freight)
○ Installation costs
○ Test runs
○ Sales taxes
●
Land Costs to Capitalize:
○ Purchase price (including the cost to raze existing building)
○ Surveying
○ Clearing, grading, and landscaping
○ Proceeds from sale of scrap are deducted from land cost
●
Interest Capitalization - Interest that is avoidable is added to the cost of building the
asset only if the asset is constructed for the company’s own use or the asset is
manufactured for resale resulting from a special order.
○ W/A accumulated expenditures * IR = Capitalized Interest
DR Building WIP (capitalized interest)
x
DR Interest Expense
x
CR Cash
x
○ If the asset is being used and providing a benefit to the company, do not
capitalize any interest relating to the asset
●
Capital Expenditures - Makes assets BIGGER, BETTER, or LONGER
●
Asset Retirement Obligations (ARO) - An entity’s future obligation (liability) at the time
of an asset’s retirement.
○ E.g. An oil field is purchased for $100,000. It will cost $20,000 to restore the
property after the oil is extracted which will occur 12 years from now. The land is
valued at $30,000. The FV of the restoration costs cannot be determined but the
PV at 6% for 12 years is $10,000.
DR Land
30,000
DR Oil Reserves (plug)
80,000
CR Cash
100,000
CR Est Rest Costs (ARO)
10,000
○ The ARO is recorded each year until it reaches a balance of $20,000 which is the
cost to restore the property in 12 years.
DR Accretion Expense
600
CR ARO Liability
600
13
●
Weighted Average Accumulated Expenditures:
X2
X3
Annual Expenditures
$600,000
$400,000
Prorated (2 yrs)
50%
50%
Avg Expenditure
$300,000
$200,000
Spent PY
$0
$600,000
Accumulated Spend
$300,000
$800,000
I/R
12%
12%
Capitalized Interest
$36,000
$96,000
●
Sum of Years Digits:
(Asset - SV) * (# of yrs left in life/sum of yrs in life)
Sum of yrs in life = N(N+1)/2
●
Double Declining Balance:
X1: Asset x (Straight-Line Rate * 2) = X1 Depreciation
X2: (Asset - X1 Depreciation) x (Straight-Line Rate * 2) = X2 Depreciation
●
Units of Production:
(Asset - SV) x (Hours This Year/Total Estimated Hours)
●
Depletion - Used for assets that are physically used up (oil, minerals, commodities).
(Depletion Base/Total Volume at Beg Yr) * Units Extracted
↓
Depletion Base = Purchase price + Estimated Restoration Costs - Salvage Value +
Development Cost
●
Impairment of Held for Use Assets:
○ If CV > Expected future CF = Impairment Loss
○ CV - FV = Amount of Impairment Loss
DR Loss on Impairment
CR Accumulated Depreciation (reduces
the CV of the asset to amt impaired)
●
x
x
Non-Monetary Exchanges With or Without Commercial Substance:
○ Commercial Substance:
■ Recognize all gains and losses
■ New asset recognized at:
● FMV given up +/- cash paid/received OR
● FMV of asset received OR
● BV given up +/- cash paid/received
○ Lacking Commercial Substance:
14
■
○
Recognize all losses but do not recognize gains unless boot has been
received
■ New asset recognized at LOWER of:
● FMV given up +/- cash paid/received
● FMV of asset received
● BV given up +/- cash paid/received
Example: In scenario A, I receive an asset with a FMV of $30 in exchange for an
asset with a BV of $15 and $10 cash. In scenario B, I receive an asset with a
FMV of $30 in exchange for an asset with a BV of $15 and $20 cash.
Substance (A)
Substance (B)
DR New
30
DR New
30
CR Old
15
CR Old
15
CR Cash
10
DR Loss
5
CR Gain
5
CR Cash
20
No Substance (A)
DR New
CR Old
CR Cash
●
25*
15
10
No Substance (B)
DR New
DR Loss
CR Cash
CR Old
30*
5
1. FMV given up + cash paid = ?
1. FMV given up + cash paid = ?
2. FMV of asset received = $30
3. BV given up + cash paid = $25
2. FMV of asset received = $30
3. BV given up + cash paid = $35
20
15
Lacks Commercial Substance, Boot Received - If boot is RECEIVED in a
non-monetary exchange that lacks commercial substance, a gain is recognized in
proportion to the amount of boot that was received and the total consideration received.
○ Example: I give up inventory with a BV of $6,000. In exchange, I receive
inventory with a FMV of $8,000 as well as $2,000 cash.
FMV Received
Boot Received
Total Consideration
(BV Given Up)
Realized Gain
Boot %
DR New (plugged)
DR Cash
CR Old
CR Gain
$8,000
$2,000
$10,000
$(6,000)
$4,000
20%
= $800 gain
$2,000
$10,000 = 20% boot
4,800
2,000
6,000
800
15
●
IFRS PP&E:
○ Recognizes biological assets
○ Performs component depreciation
○ Borrowing costs of producing PP&E can be capitalized if it is taking a long time
for the asset to be prepared for its intended use
○ Revaluation method allows for recovery of impairment losses:
■ Assets are recorded at cost but are adjusted to FMV at each B/S date
with gains and losses recognized in OCI; If an asset falls below its original
cost, losses are recognized in the I/S, and if the asset regains its value
gains are recognized in the I/S only to the extent that the asset recovers
its original value
○ Exchanges with commercial substance are described as “dissimilar” and
exchanges lacking commercial substance are “similar”
●
Credit Losses:
DR Accounts Receivable
DR Credit Loss Expense
CR Sales Revenue
CR Allowance for Credit Loss
100,000
5,000
100,000
5,000
●
Research and Development Costs - Under GAAP, all research and development costs
are expensed as incurred. This is because the feasibility of the potential new product
has not yet been determined. Conservatism requires us to hold off on any capitalization
until the product has been determined to be feasible to produce and sell.
○ Includes:
■ Planning
■ Designing
■ Coding/testing (before technological feasibility)
○ Does not include (these are capitalized as intangible assets):
■ Coding/testing after technological feasibility
■ Producing production masters
●
Goodwill - Goodwill is objectively valued when a company or reporting unit has been
purchased, and it represents the incremental value over the FV of net identifiable assets.
Goodwill is periodically tested for impairment using Qualitative (optional) or Quantitative
(required) testing methods. Impairments to goodwill are recognized in the I/S and
cannot be recovered under GAAP.
●
IFRS Intangibles:
○ Internally generated intangibles may be recognized
○ Development costs are capitalized if it is determined feasible to sell the asset
○ The revaluation model allows recoveries in the CV of intangible assets which are
recognized in OCI or the I/S only to the extent that the asset recovers orig value
16
●
Accounts Receivable:
○ Writing Off Receivables:
Recording initial sale with 5% estimated to be uncollectible
DR Accounts Receivable ↑
100
DR Credit Loss Expense ↑
5
CR Sales Revenue ↑
100
CR Allowance for Credit Loss ↑
5
Entire $100 is determined to be uncollectible and must be written off
DR Allowance for Credit Loss ↓
100
CR Accounts Receivable ↓
100
Recover the full $100 by some grace of God
DR Cash ↑
100
CR Allowance for Credit Loss ↑
100
○ Pledging or Assigning Receivables:
DR Cash
100
CR Notes Payable
100
DR Accounts Receivable Assigned
100
CR Accounts Receivable
100
○ Factoring Receivables WITH Recourse:
DR Cash
95
DR Interest Expense
5
CR Notes Payable
100
○ Factoring Receivables WITHOUT Recourse:
DR Cash
85
DR Due from Factor (allow for trade discounts)
5
DR Loss on Sale of Accounts Receivable
10
CR Accounts Receivable
100
○ Zero Interest Bearing Notes:
Example: If the I/R is not stated, use FMV of goods or FMV of note to determine
the amount to record as N/R. I am selling equipment with a BV of $6,000 and a
FV of $9,000 and will receive $10,000 due in 2 years. Therefore, the gain should
be $3,000 and the CV of the note should be $9,000.
DR Notes Receivable
10,000
CR Discount on Notes Receivable
1,000
CR Equipment
6,000
CR Gain on Sale
3,000
○ Imputing the Interest Rate:
Example: If the I/R is not stated and the FMV of the goods or note is not
determinable, then the interest rated must be imputed by calculating the PV of
the note. If the PV of the $10,000 face value note is $8,265:
17
○
DR Notes Receivable
CR Discount on Notes Receivable
CR Equipment
CR Gain on Sale
Amortizing the Interest:
Yr
CV
I/R
Int Income
X1
$8,265
10%
$826
+$826
X2
$9,091
10%
$909
+$909
$10,000
X1 Journal Entry
DR Interest on Note Receivable
CR Interest Income
10,000
1,735
6,000
2,265
Cash Pmt
$0
Amortization
$826
$0
$909
826
826
*The goal with any type of amortization is to get the carrying value to eventually
equal the face value. So if there is a discount, then we want to add an amount to
the carrying value each period. If there is a premium, then we want to subtract an
amount from the carrying value.
●
Bonds:
○ Issuance of Bonds Journal Entry:
3-DR Cash (% face + accrued int - BIC)
x
4-DR BIC (contra-liability)
x
5-DR Discount (plug, add BIC)
x
5-CR Premium (plug, subtract BIC)
x
1-CR Bonds Payable (face amount)
x
2-CR Accrued Interest Payable
x
(face * stated * time since last int paid)
○ Effective Interest Method of Amortizing Discount or Premium:
Yr
FV
Disc CV
EIR
Int
Coup Amort
X1
1,000 100
900
10% 90
80
10
(10)
X2
1,000 90
910
10% 91
80
11
(11)
X3
1,000 79
921
10% 92
80
12
Yr
X1
X2
X3
FV
Prem CV
1,000 100
1,100
(10)
1,000 90
1,090
(11)
1,000 79
1,079
EIR
10%
Int
110
Coup Amort
120
10
10%
109
120
11
10%
108
120
12
18
X1 & X2 Bond Discount Amortization Journal Entry
DR Interest Expense
90
CR Discount on Bond Payable
CR Cash
DR Interest Expense ↑
91
CR Discount on Bond Payable ↑
CR Cash
X1 & X2 Bond Premium Amortization Journal Entry
DR Interest Expense
110
DR Premium on Bond Payable
10
CR Cash
DR Interest Expense ↓
DR Premium on Bond Payable ↑
CR Cash
10
80
11
80
120
109
11
120
●
Notes to the Financial Statements - Used to ensure all disclosures that are required
under GAAP are presented, and includes:
○ Summary of significant accounting policies
○ Summary of significant assumptions (management judgement)
○ Other notes to the financial statements
●
Inflation Accounting - An optional restatement method that accounts for the effects of
changing prices; monetary assets (cash) are not adjusted for inflation but nonmonetary
assets are adjusted which may result in a purchasing power gain or loss.
●
Financial Statement Analysis Key Ratios:
○ Current Ratio: CA/CL
○ Quick Ratio: Quick Assets/CL
○ Inventory Turnover: COGS/Avg Inventory
○ # of Days Sales in Avg Inventory: 365/Inventory Turnover
○ Receivables Turnover: Credit Sales/Avg Receivables
○ # of Days Sales in Avg Receivables: 365/Receivables Turnover
○ Working Capital: CA - CL
●
Installment Sales Method (Tax Purposes Only):
○ Initial Entry to Record Payment on Account:
DR Accounts Receivable
DR Cash
CR Sales Revenue
DR COGS
CR Inventory
750
150
900
540
540
19
Gross Profit = 360/900 = 40%
Gross Profit Realized
Cash Collected
$150
GP %
40%
$60
Deferred Gross Profit
Receivable Bal
$750
GP %
40%
$300
DR Unrealized Gross Profit (I/S)
CR Deferred Gross Profit (B/S)
●
300
300
Percentage of Completion Method - Used to recognize revenue from long-term
contracts while the performance obligation is being met.
○ Costs Incurred to Date
=
% of Completion
Total Construction Costs
* Total Profit
Profit Recognized to Date
(Profit Previously Recognized)
Profit to Recognize This Year (e.g. $250)
DR Construction in Progress
250
DR Construction Expense
950
CR Construction Revenue
1,200 (1,200 - 950 = 250)
○
Example: Victory Homes won a contract to build a house for Aaron Rodgers on
Lake Michigan. The contract to build the house is worth $4,000,000. When the
contract was drawn up, the estimated costs totaled $3,000,000. The estimated
profit was therefore $1,000,000. The data below outlines the actual costs
incurred during the construction project.
Costs Incurred to Date
Estimated Costs to Complete
Total Billings
Cash Collections
20X1 Journal Entries
DR Construction Receivable
CR Billings
DR Cash
CR Construction Receivable
DR Construction in Progress
CR Cash
DR Construction in Progress
DR Construction Expense
CR Construction Revenue
20X1
$700,000
$2,800,000
$850,000
$800,000
20X2
$1,650,000
$1,650,000
$1,800,000
$1,500,000
850,000
850,000
800,000
800,000
700,000
700,000
100,000*
700,000*
800,000*
20
700,000
700,000 + 2,800,000
=
20X2 Journal Entries
DR Construction Receivable
CR Billings
DR Cash
CR Construction Receivable
DR Construction in Progress
CR Cash
DR Construction in Progress
DR Construction Expense
CR Construction Revenue
1,650,000
1,650,000 + 1,650,000
=
0.20
* (4,000,000 - 3,500,000)
100,000 = Amount to DR to CIP
950,000
950,000
700,000
700,000
950,000
950,000
250,000*
950,000*
1,200,000*
0.50
* (4,000,000 - 3,300,000)
350,000
(100,000)
250,000 = Amount to DR to CIP
●
Completed Contract Method - The journal entries that are recorded for the completed
contract method are the same as the percentage of completion method, the only
difference is that construction expense and construction revenue are not recorded at the
end of the period. They are only recorded when the contract has been completed.
●
Operating Lease (Lessee):
○ Journal Entry to Record Lease Liability and Subsequent Payments:
DR Right of Use Asset*
x
CR Lease Liability
x
DR Lease Expense
DR Lease Liability
CR Cash
CR Right of Use Asset
x
x
x
x
*Includes the initial measurement of the lease liability (PV of lease
payments), any lease payments made at or before the commencement date
LESS any incentives received (signing bonus), and any initial direct costs
incurred (commissions, certain legal fees, etc.)
○
Example: Client signs 5 year rental agreement on 1/1/X1. Economic useful life of
equipment is 10 years. The incremental borrowing rate is 6% and payments are
21
$10,000/year due at end of each year. The client was offered first 6 months free
and $1,000 signing bonus. Lessee has incurred $1,000 in initial direct costs. PV
factor for lump sum at 6% for 1 year is 0.943, and PV for ordinary annuity at 6%
for 5 years is 4.212. The payment schedule is outlined below.
12/31/X1
12/31/X2
12/31/X3
12/31/X4
12/31/X5
Total
5,000
10,000
10,000
10,000
10,000
45,000
Lease Liability
$5,000 * 0.943
$10,000 * 4.212
$(10,000 * 0.943)
Right of Use Asset
Lease Liability
Lease Payments Made Before Commencement Date
(Lease Incentives Received)
Initial Direct Costs Incurred
DR Right of Use Asset
CR Lease Liability
=
=
=
=
$4,715
$42,120
$(9,430)
$37,405
=
=
=
=
=
$37,405
$0
$(1,000)
$1,000
$37,405
37,405
37,405
Lease Expense
45,000/5 = 9,000
Effective Interest Amortization
Yr
LL
I/R
Int Exp
X1
37,405
6%
2,244
(2,756)
X2
34,649
6%
2,079
(7,921)
X3
26,728
…
…
X1 Lease Amortization Journal Entry
DR Lease Expense
CR Lease Liability
CR Right of Use Asset (plug)
Pmt
5,000
↓ in LL
(2,756)
10,000
(7,921)
…
…
9,000
2,244
6,756
22
DR Lease Liability
CR Cash
5,000
5,000
Net decrease in LL = 5,000 - 2,244 = 2,756
●
Finance Lease (Lessee) (Special PO-T can be purchased in a Major Part (75%) of
the country if you spend Substantially All (90%) of your money):
○ To be considered a finance lease, a lease must meet ONE of these 5 criteria:
■ Specialized nature of leased property has no alternative use to lessor at
end of lease term
■ The lease has a Purchase Option which is reasonably certain to be
exercised
■ The lease Transfers title of the property to lessee by end of lease term
■ The lease term is for the Major Part (75%) of the remaining economic life
of the property
■ The PV of the lease payments and any residual value guaranteed by the
lessee that is not already reflected in the lease payments is equal to
Substantially All (90%) of the FMV of the property at inception
○ Journal Entry to Record Lease Liability (Same as Operating Lease):
DR Right of Use Asset
37,405
CR Lease Liability
37,405
○ Right of Use Asset Amortized on Straight Line Basis Over Useful Life:
DR Amortization Expense
7,481
CR Right of Use Asset
7,481
○ Effective Interest Method Used to Record Periodic Lease Payments:
Yr
LL
I/R
Int Exp
Pmt
↓ in LL
X1
37,405
6%
2,244
5,000
(2,756)
DR Interest Expense
DR Lease Liability
CR Cash
●
2,244
2,756
5,000
Sales-Type Leases (Lessor) - If the lease meets one of the 5 criteria to be considered a
finance lease, then the lease is accounted for as a sales-type lease (with or without
profit) on the lessor’s books.
○ With Profit - Seller is usually a manufacturer or dealer of the asset, and uses
the lease as a way of selling the asset on an installment basis.
DR Lease Receivable (PV of Lease Pmts)
CR Equipment
CR Gain on Sale
428,415
300,000
128,415
23
If lessor is a merchant/dealer
DR Lease Receivable
DR COGS
CR Equipment
CR Sale Revenue
○
428,415
300,000
300,000
428,415
Without Profit - Lessor is a financial intermediary whose business model hinges
on earning interest revenue.
DR Lease Receivable
CR Equipment
428,415
428,415
●
Sale-Leaseback Transactions - Property owner sells property and then immediately
leases all or part of it back from the new owner.
○ Sale (w/ gain or loss) + Operating Lease:
■ Normal revenue recognition conditions are met and the lease portion
meets none of the Special-PO-T-75-90 conditions
○ No sale, just loan:
■ Lease portion meets at least one of the Special-PO-T-75-90 conditions
meaning the transaction is essentially a loan (note payable)
●
IFRS Leases:
○ All leases are considered finance leases
○ All leases under $5,000 are considered short-term leases
○ Requires remeasurement of lease liability or receivable if index or rate tied to
variable lease payments changes resulting in change in cash flows
●
Accounts Payable (Current Liabilities)
○ Net Method – Include the potential discount in the original A/P entry which
reduces COGS and the value of inventory.
○ Example: Purchased inventory on account for $1,000 with terms 1/10 net 30
Original Inventory Purchase
DR Inventory
CR Accounts Payable
Payment Made Within 10 Days
DR Accounts Payable
CR Cash
Payment Made After 10 Days
DR Accounts Payable
DR Interest Expense
CR Cash
990
990
990
990
990
10
1,000
24
●
Coupons/Premium Liabilities – An estimated liability must be calculated at each B/S
date for any unredeemed coupons. The steps to calculate the liability are:
○ Determine face value of coupons issued
○ Add handling fee % promised to merchants
○ Multiply by the % of coupons expected to be redeemed
○ Subtract payments already made to merchants for redeemed coupons
●
Compensated Absences – Employers must recognize a liability for employee vacation
and sick pay if ALL 4 criteria are met:
○ Obligation for compensation for future absences results from services already
provided by employee
○ Right to compensation for future absences vests or accumulates
○ Payment is probable
○ Amount of payment is reasonably estimable
●
Gain or Loss Contingencies:
Loss Contingency
Disclose
Remote
No
Reasonably Possible
Yes
Probable and Estimable
Yes
Probable and Not Estimable Yes
Accrue
No
No
Yes
No
Gain Contingency
Remote
Reasonably Possible
Probable and Estimable
Probable and Not Estimable
Accrue
No
No
No
No
Disclose
No
Yes
Yes
Yes
●
Interest on Note Payables – Notes should be recorded at face value if they arise in the
ordinary course of business and mature in less than one year (short-term note
payables). Notes that mature longer than one year must be recorded at their PV with a
discount or premium.
●
Troubled Debt Restructuring – Credits must conclude that 2 conditions have been met:
(1) Restructuring constitutes a concession and (2) the debtor is facing financial
difficulties. There are 3 ways that debt can be restructured:
○ Transfer of Property:
■ Gain/loss on restructuring of payables (creditor) = CV of liability – FV of
asset transferred
■ Gain/loss on transfer of asset (debtor) = CV of asset – FV of asset
○ Equity Interest in Debtor:
■ Debtor records equity as if it was issued at fair value with increases to
common stock and APIC
■ Gain/loss on restructuring of payables (creditor) = CV of liability – FV of
equity
25
○
Modification of Terms:
■ Loss on restructuring of payables (creditor) = Future Payments < CV of
liability
■ There is no gain from the side of the creditor, only considered an
adjustment to the interest rate
■ Gain on restructuring of payables (debtor) = Future Obligation < CV of
Present Obligation
●
IFRS Liabilities:
○ Short term obligations expected to be refinanced are only reported as noncurrent
if the entity expects, and has discretion, to refinance or roll over the obligation for
at least 12 months after the reporting period
○ Distinguishes between contingencies and provisions where provisions are
probable and estimate and accrued while contingencies are just disclosed
●
Types of Pension Obligations:
○ Vested Benefit Obligation (VBO) – The actuarial PV of vested benefits
(employee is owed today if terminated)
○ Accumulated Benefit Obligation (ABO) – What is owed to the employee at
retirement under current wage rates (salaries received to date)
○ Projected Benefit Obligation (PBO) – What is owed to the employee at
retirement with an adjustment to pay and inflation considerations (benefits years
of service method)
●
Pension Liabilities or Assets:
○ Example: The actuary calculates that Quad needs to contribute $3,500 each
month for employee pensions.
Quad actually deposits $3000
DR Pension Expense
3,500
CR Cash
3,000
CR Pension Liability
500
Quad actually deposits $4,000
DR Pension Expense
3,500
DR Pension Asset
500
CR Cash
4,000
●
Calculating Pension Expense (A-SPIDER):
○ Amortization of Existing Net Obligation or Net Asset at Implementation (+/-)
■ Net assets (-) occur when FV > PBO and net obligations (+) occur when
FV < PBO
○ Service Cost (+)
■ Results from employee service in current period and represents the
amount that would need to be set aside by the company each year over
the service life of the employee in order to fund promised benefits after
retirement
○ Prior Service Cost Amortization (+/-)
26
■
○
○
○
○
(+) if employers determine that they are retroactively giving employees
pension benefits; (-) if they are retroactively taking away pension benefits
■ The differences are amortized on a straight-line basis over the average
remaining service life
Interest Cost (+)
■ Beginning PBO * Discount Rate
Deferred Gain (+/-)
■ Gains (+) or losses (-) that are believed to result from short-term
variations from expected returns on investments are deferred and are not
recognized in income
■ For example, if the plan’s expected return is $15,000 and it actually
returns $24,000, then $9,000 is added to the pension expense
Excess Amortization of Deferred Gain/Loss (+/-)
■ Uses the corridor approach to determine if the deferred gain or loss is
too large (10% larger of the beginning PBO or the beginning FV of plan
assets)
■ If the deferred gain or loss is greater than the corridor, the excess amount
should be amortized; (-) if the excess is from a gain or (+) if the excess is
from a loss
Actual Return on Plant Assets (-)
■ Can be calculated by either (1) Beginning FV of Plan Assets * Actual Rate
of Return or (2)
Plan Assets
Beg Plan Assets
+ Contributions
Actual Return Plug
(Benefits Paid)
Ending Plan Assets
●
Pension Presentation:
○ Journal Entry to Fund Plan:
DR Pension Expense
DR Prepaid Pension Cost
CR Cash (overfunded)
CR Accrued Pension Cost (if under)
○
○
3,500
500
4,000
x
Accounting for Changes in PBO:
■ Beginning PBO
+ Service Cost
+ Interest Cost
+/- PSC or credit
+/- Actuarial gain or loss
- Benefits Paid
= Ending PBO
Calculating Target Pension Liability - Compare the ending PBO with the
ending FV of Plan Assets, and the difference is the target pension liability. If the
27
pension is overfunded then there is a noncurrent asset, if it is underfunded then
there is either a current liability, noncurrent liability, or both
■ Example: The ending PBO is $800, the FV of Plan Assets is $600,
Accrued Pension Cost (liability) is $150, and Taxes are 30%
Target liability = 800 - 600 = 200
Accrued Pension Cost
Beg = $50
= $150
Target = $200
DR OCI (150*0.7)
DR Deferred Tax Asset
CR Accrued Pension Cost
105
45
150
●
IFRS Pensions:
○ Vacation and sick pay that accumulate are required to be accrued
○ Actuarial gains and losses are recognized immediately in OCI
●
Accounting for Income Taxes:
○ Liability Method - Calculate current and deferred income tax asset/liability and
the plug is income tax expense.
Example: Income before taxes is $200, tax rate is 20% this year and 30% in
future years, bond interest income is $60 (permanent difference), and MACRS
deductions exceeded depreciation by $40 (temporary difference). We also paid
$15 for estimates payments towards this year’s taxes.
Pretax Book Income
+/- Permanent Differences
= Book Taxable Income
+/- Temporary Differences
= Taxable Income
x Current Tax Rate
= Current Tax Liability
(Prepayment)
= Taxes Payable
DR Income Tax Expense (plug)
CR Current Tax Liability
CR Deferred Tax Liability
○
$200
$(60)
$140
$(40)
$100
20%
$20
$(15)
$5
32
20
12
Permanent Differences - Are not taxable/deductible under current tax law and
therefore do not create a current or deferred tax asset/liability.
28
○
●
Temporary Differences - Result from items being taxable or deductible in a
different period than the item is reported in the income statement
Deferred Tax Liabilities - These liabilities arise because of temporary differences
between book income and taxable income. If these differences yield book income
which is higher than tax income then we are paying less taxes this year. However,
that will reverse out in future years, which is why this is referred to as a liability.
○ Book Expense < Tax Expense
○ Book Income > Tax Income
Example: ABC Co. expenses $250 this year for a $1,000 invoice that it records
as a prepaid expense. For tax purposes, the entire $1,000 is deducted from
income (cash basis). Therefore, there is a $750 temporary difference between
book income and tax income. If the future tax rate is estimated to be 30%, then a
DTL of $225 will be recorded.
●
Deferred Tax Assets - These assets arise because of temporary differences between
book income and taxable income. If these differences yield book income which is
lower than tax income then we are paying more taxes this year. However, that will
reverse out in future years, which is why this is referred to as an asset.
○ Book Expense > Tax Expense
○ Book Income < Tax Income
Example: ABC Co. receives a $500 check from its tenant for a future month’s
rent payment that they are paying in advance. ABC records the transaction as a
DR to Cash and a CR to Unearned Revenue. For tax purposes, the $500 is
taxable income. Therefore, there is a $500 temporary differences between book
income and tax income. If the future tax rate is estimated to be 30%, then a DTA
of $150 will be recorded.
○
Valuation Allowance - If it is more likely than not (50% or more likelihood) that
some or all of the DTA will not be realized, then a DTA allowance will be CR for
the amount estimated to not be realized with an offsetting DR to income tax
expense.
●
IFRS Accounting for Income Taxes:
○ Deferred tax assets are recognized only when reasonably assured of realization
and only to the extent that it is probable that they will be realized
○ Measure DTA and DTL using either the future enacted or substantially enacted
tax rate
●
Common Stock Retirement:
○ Example: I issued stock with a par value of $10 for $13. Now, I want to
repurchase that stock and retire it. I repurchased the stock for $12.
DR Common Stock
10
DR APIC-C/S
3
CR Cash
12
CR APIC-Retired
1
29
○
●
Example: Instead of $12, I am repurchasing the stock for $15 and retiring it.
DR Common Stock
10
DR APIC-C/S
3
DR Retained Earnings
2
CR Cash
15
Treasury Stock - Stock that has been issued by the company but not retired. It reduces
the number of shares outstanding but the shares are still considered authorized and
issued. Treasury stock is recorded under 2 methods:
○ Cost Method (Cost In, Cost Out) Par Value Method (Par In, Par Out)
20,000 shares of $5 par value common stock are issued at $25/share.
DR Cash
500,000
DR Cash
500,000
CR C/S
100,000
CR C/S
100,000
CR APIC-C/S 400,000
CR APIC-C/S 400,000
2,000 shares are repurchased at $19/share.
DR T/S-Cost 38,000
DR APIC-C/S 40,000
CR Cash
38,000
DR T/S
10,000
CR Cash
38,000
CR APIC-C/S 12,000
700 shares are resold at $22/share.
DR Cash
15,400
DR Cash
15,400
CR T/S
13,300
CR T/S
3,500
CR APIC-T/S 2,100
CR APIC-C/S 11,900
500 shares are resold at $15/share.
DR APIC-T/S 2,000
DR Cash
7,500
DR Cash
7,500
CR T/S
2,500
CR T/S
9,500
CR APIC-T/S 5,000
300 shares are retired.
DR C/S
1,500
DR APIC-C/S 6,000
CR T/S
5,700
CR APIC-T/S 1,800
DR C/S
1,500
CR T/S
1,500
●
Preferred Stock:
○ Cumulative - Dividends missed in earlier years must be paid to the preferred
shareholders before common shareholders receive anything.
○ Participating - If common shareholders receive a dividend that is higher on par
value than the preferred vs stated rate, then preferred get the same higher rate.
●
Dividends:
○ Declaration:
DR Retained Earnings
CR Dividends Payable
x
x
30
○
○
Partial Liquidating:
DR Retained Earnings
DR APIC (not sufficient earnings)
CR Cash
Stock Dividend:
DR Retained Earnings
CR C/S
CR APIC
x
x
x
x
x
x
●
IFRS Stockholders’ Equity:
○ Constructive Retirement Method (Treasury Stock) - This is similar to the par
value method, when shares are repurchased the DR should be to C/S instead of
T/S since the company generally doesn’t intend to reissue the shares.
○ Requires bifurcation of component instruments into liability and equity
components
●
Basic EPS - Theoretically, EPS is how much each shareholder would receive if the
company paid out all of its income as a dividend.
Net Income
- Preferred Dividends (all cumulative for this year only and non-cumulative only if
declared)
= Income Available to Common Shareholders
÷ Wtd Avg # of Common Shares Outstanding
= Basic EPS
●
Diluted EPS:
○ If Converted Method (Convertible Bonds & Preferred Stock):
Net Income Available to Common Shareholders
+ Preferred Dividends (not net of tax)
+ Bond Interest (net of tax)
÷ (Wtd Avg # of Common Shares Outstanding
+ # of Shares Convertible Securities Converted Into)
= Diluted EPS
○ Treasury Stock Method:
Net Income Available to Common Shareholders
+ $0………………………...
÷ (Wtd Avg # of Common Shares Outstanding
+ Incremental # of Common Shares Outstanding at Avg Market Price)
●
Discontinued Operations:
○ Considered if there is a strategic shift that will have a significant effect on the
entity’s operations and financial results. Includes:
■ Discontinued operations in a major geographical region
■ Discontinuing a major product line
■ Disposal of a significant investment accounted for under the equity
method
■ Other major “parts” of an entity are disposed
○ A gain or loss on disposal is reported net of tax effect
31
○
The gain or loss is reported if the operation is actually sold or if it is held for
sale:
■ Plan to sell is committed
■ Component is in sellable condition
■ Actions to complete sale initiated and a buyer is being sought
■ It is probable and estimable that completion of the sale will occur within 1
year
■ The asking price is reasonable
■ The sale is unlikely to be withdrawn
●
Annual Report (Form 10-K) - An entity is required to prepare an annual report that lists
financial data for the last 5 years: 2 years of B/S data and 3 years of I/S, CI, and CFs
Filing Status
Due Date
>= $700MM (Large Accelerated Filers)
60 Days
>= $75MM (Accelerated Filers)
75 Days
< $75MM (Small Reporting Co.)
90 Days
●
Quarterly Report (Form 10-Q):
Filing Status
>= $700MM (Large Accelerated Filers)
>= $75MM (Accelerated Filers)
< $75MM (Small Reporting Co.)
Due Date
40 Days
40 Days
45 Days
●
Information Statements (Form 8-K) - Must be filed 4 business days after an event of
major significance:
○ Entering into/terminating a material agreement
○ Bankruptcy
○ Acquisitions/disposal of assets
○ Change in directors, CEO, or auditor
●
IFRS Financial Statements:
○ Statement of Financial Position (B/S)
○ Statement of Profit and Loss and Other Comprehensive Income (I/S)
○ Statement of Changes in Equity (S/E)
○ Statement of Cash Flows
○ Notes Containing Significant Accounting Policies and Other Explanatory
Information
●
3 Types of Accounting Changes and Error Corrections:
○ Accounting Principle (retrospective)
○ Accounting Estimate (prospective)
○ Reporting Entity (retrospective)
○ Correction of an Error (retroactive)
●
Changes in Accounting Principles - Can be either a change from one principle to
another, a change to a generally accepted principle when the previous principle is no
longer acceptable, and a change in the method of applying the principle.
32
Example: ABC Co. switched from Weighted Average to FIFO for valuing their
inventory. Ending inventory at 12/31/X1 was $700 under W/A but would have
been $900 had FIFO been used. The change is being made for tax purposes,
and the tax rate is 40%.
1/1/X2 Journal Entry
DR Inventory
CR Current Tax Liability
CR Retained Earnings (plug)
●
200
80
120
Changes in Accounting Estimate - Adjusting the carrying value of an existing asset or
liability or affecting the subsequent accounting for existing or future assets/liabilities.
Adjustments are recorded prospectively meaning that the current period and
subsequent periods are adjusted.
Example: As of 1/1/X1, ABC Co. was depreciating a $100 asset over 5 years
using straight-line depreciation. On 1/1/X3, they changed the salvage value to 4
years.
X1
X2
Total @ Change
Depreciation
$20
$20
$40
Remaining useful life = 4-2 = 2
New depreciation = $60/2 = $30/year
X3
X4
Total
$30
$30
$100
X3
CV = $100 - $40
●
Change in Reporting Entity - When changes are made to the reporting entity, the
financial statements will have to be adjusted retrospectively so that we can still compare
prior year to current year.
●
Error Corrections (Prior Period Adjustments):
○ Treated retroactively which means that we are going back and adjusting prior
periods, restricted for prior period error adjustments
Beginning Retained Earnings
+/- Prior Period Adjustments (net of tax)
= Adjusted Beginning Retained Earning
●
Inventory Errors
X1
Beg
+ Purch
= Avail
(End) ↑
= COGS ↓
= NI ↑
X2
Beg ↑
+ Purch
= Avail ↑
(End)
= COGS ↑ = now correct!
= NI ↓ = now correct!
x
x
x
33
●
Summary of Significant Accounting Policies:
○ The first footnote to the financial statements
○ Describes the client’s reasonings for choosing specific GAAP policies
○ E.g. revenue recognition policies, inventory costing, depreciation methods,
long-term construction accounting, and investment classification
●
Long-Term Obligations (Disclosures):
○ Legal commitments to future cash payments (fixed and determinable) are
disclosed
○ E.g. notes and bonds payable, leases, and unconditional purchase obligations
due within 1 year
○ All payments due after 5 years are aggregated into a single amount
●
IFRS Accounting Changes:
○ There is no provision for changes in reporting entity
○ Instead of principles, they are changes in accounting policies
○ Corrections of errors are made retrospectively and not retroactively
●
Interim Financial Reporting:
●
Item
Treatment
Property taxes, bonus, depreciation,
revenues/expenses
Allocate to all quarters
Inventory losses
Allocate to single quarter unless expected
to be recovered by year-end, then do not
allocate
Major expenses
Allocate to single quarter unless it
benefits future quarters
Discontinued operations
Allocate to single quarter
Income tax expense
Estimate each quarter using the effective
annual rate
IFRS Interim Financial Reporting:
○ Does not mandate interim reporting
○ If an entity does elect to interim reporting, must include statement of:
■ Financial position (B/S)
■ Profit and loss and other comprehensive income
■ Changes in equity
■ Cash flows
■ Selected notes
34
●
Segment Reporting - Using the management approach, segments are identified as
representing a group of activities with revenues and expenses that is regularly evaluated
by management as a single unit.
○ FASB ASC 280 - 3 Characteristics of a Segment:
■ Involved in business activities that may result in earning revenues and
incurring expenses
■ Performance is evaluated by management
■ Financial information that is identifiable to the component is available
○ Reportable Segments - Contribute at least 10% of the total revenue, assets, or
profits for all segments
●
Revenue Test (>= 10%) - Revenue is based on combined revenues of all segments
including those resulting from intersegment sales.
Seg
A
B
C
D
Total
●
External
$20
$150
$35
$95
$300
Internal
$25
$45
$0
$30
$100
Total
$45 / $400 = 11.25%
$195 / $400 = 48.75%
$35 / $400 = 8.75%
$125 / $400 = 31.25%
$400
Profit/Loss Test (>= 10%) – Profit is calculated from operating income only, and
expenses that are incurred at the overall corporate level are excluded.
Example: ABC Co. has total sales of $1,000. $300 are attributed to segment C
which also had operating expenses of $90. ABC had total operating expenses of
$200.
Sales
(Operating Expenses)
Income Before Common Costs
(Common Costs)
= Operating Profit
○
$300
$(90)
$210
$(60) = 200*(300/1,000)
$150
The operating profit/loss is added for all segments; the threshold is the larger of
10% of the total profit and total loss (e.g. if combined profits are $1MM, then 0.10
* 1,000,000 or 100,00 is the threshold and any segment with profit >= 100,000
should be included)
●
75% Test – There must be enough segments that are separately reported so that at
least 75% of unaffiliated revenues are shown by reportable segments; if this test is not
satisfied, additional segments must be designated as reportable even if they do not meet
1 of the 3 tests
●
Types of Segments and their Treatments:
○ Operations in Different Industries – All 3 tests must be performed; segments
that satisfy any of the 3 tests must be disclosed
35
○
○
Foreign Operations – Test #1 and test #3 must be performed; segments that
satisfy either test #1 or test #3 must be disclosed
Major Customer or Export Sales – Test #1 must be performed; segments that
satisfy test #1 must be disclosed
●
Cash Equivalents – Financial instruments that have an original maturity of 3 months or
less from the date of purchase (e.g. Treasury bills, commercial paper, money market
funds).
●
3 Categories of Cash Flow Activities:
○ Operating – Inflows and outflows of cash related to the production of income
from continuing operations (or any transactions that aren’t investing or financing)
■ Collections from sales or accounts receivable
■ Cash payments for COGS or SGA
■ Interest received or paid (IFRS allows interest paid to be a financing
activity)
■ Accreted interest related to debt discounts
■ Dividends received
■ Acquisition and disposal of trading securities
■ Payments for income taxes
■ “All others”
○ Investing (LIP) – Investing in yourself or others
■ Loans or principal collections made by the entity (not interest or dividends
which are operating activities)
■ Investments such as AFS or HTM (not trading which is operating)
■ Property, plant, and equipment acquisitions
■ Intangibles
■ Cash received from payments on receivables transferred in exchange for
a beneficial interest in a securitized transaction
○ Financing – Issuing debt or equity in order to generate cash
■ Proceeds from issuing or payments for retiring bonds
■ Issuance or reacquisition of stock or treasury stock
■ Borrowing or repaying a loan
■ Debt prepayment or debt extinguishment costs
■ The portion of a settlement of zero-coupon debt instruments attributable
to principal
■ Dividends paid to shareholders
●
Direct Method of Preparing Cash Flow from Operating Activities - Cash sources
and uses related to each account in income from continuing operations are listed
individually and converted from accrual to cash to arrive at the cash balance:
○ Sales are adjusted for changes in accounts receivable
○ COGS are adjusted for changes in inventory and accounts payable
○ Selling expenses are adjusted for changes in allowance for credit loss and
accumulated depreciation
36
○
○
Interest expense is adjusted for amortization of bond discounts/premiums
Income tax expense is adjusted for changes in current and deferred taxes
ABC, Co.
Consolidated Income Statement, 12/31/X1
Sales
Cost of Goods Sold
Selling Expenses (includes $20 of Credit Loss Expense)
General and Administrative Expenses
Depreciation
Interest Expense
Equity in Earnings of Investee
Income Tax Expense
Gain on Sale of Available for Sale Securities
Net Income
B/S Account
A/R
Investment (equity)
Inventory
A/P
Allow for C/L
Accum Dep
Bond Discount
DTL
Taxes Payable
$6001
$(200)3
$(100)4
$(40)5
$(50)6
$(30)7
$102
$(60)8
$109
$140
Net Change
$801
$102
$303
$(20)3
$(20)4
$(50)6
$(5)7
$108
$(40)8
1. Sales were $600 and A/R increased by $80, meaning that we must have
collected $520 in cash from our customers.
DR Cash
520
DR A/R
80
CR Sales Revenue
600
2. There is no cash effect from the increase in the equity account or the $10 of
equity in earnings income.
3. Inventory increased by $30, A/P increased by $(20), and COGS for the month
were $(200).
DR COGS
200
DR Inventory
30
CR A/P
20
CR Cash
210
4. Allowance for credit loss, which increased $(20), is included in selling
expenses totaling $(100).
37
5.
6.
7.
8.
9.
DR Selling Expense
100
CR Allowance for Credit Loss
20
CR Cash
80
General and Administrative Expenses are paid with cash.
DR General and Administrative Expense
40
CR Cash
40
Depreciation has no cash effect.
Interest expense and a decrease to the bond discount show the cash used
for interest payments to bondholders.
DR Interest Expense
30
CR Discount on B/P
5
CR Cash
25
Income tax expense a decrease in the DTL of $10, and an increase in taxes
payable of $(40) show the cash used for tax payments.
DR Income Tax Expense
60
DR Deferred Tax Liability
10
CR Taxes Payable
40
CR Cash
30
There is no cash effect from operating activities for gains on sale of AFS
securities.
●
Indirect Method of Preparing Cash Flows from Operating Activities - Begins with
net income and adjusts (1) non cash items (depreciation and amortization are added,
equity in earnings is deducted), (2) non-operating items (gains from AFS are deducted),
and (3) changes in the balances of accrual-related accounts (accounts receivable,
inventory, accounts payable, allowance for credit loss, discount/premium amortization,
taxes).
⃤
Cash Flows from Operating Activities
DR (+)
CR (-)
Net Income
$140
Depreciation Expense
$50
Equity in Earnings
$10
Gain on Sale of AFS Investment
$10
Increase in A/R
$80
Increase in Inventory
$30
Increase in A/P
$20
Increase in Allowance for C/L
$20
Amortization of Discount
$5
Decrease in DTL
$10
Increase in Taxes Payable
$40
Net cash provided
$275
$140 =
$135
●
Supplementary Disclosures Required for Cash Flows:
○ Direct Method:
■ Schedule to reconcile net income to CF from operating activities (identical
to indirect method)
38
■
○
○
Schedule of noncash investing and financing activities (e.g. purchasing
land with a N/P)
Indirect Method:
■ Cash payments for interest and income taxes
■ Schedule of noncash investing and financing activities
Restricted cash must also be disclosed in the footnotes or the face of the
statement of CFs
●
IFRS Statement of Cash Flows:
○ Interest paid may be reported as an outflow from financing activities (operating
activities under GAAP)
○ Interest and dividends received may be reported as an inflow from investing
activities (operating activities under GAAP)
●
Partnerships-Admission of a New Partner (I met a GAL at the BAR):
○ Bonus Method (Bonus Adjust the Right):
Example: C is admitted to A and B’s partnership at ⅙ interest and pays $50. The
bonus method stipulates that C will have to pay A and B a bonus of $20 so that
C’s capital balance reflects their ⅙ interest.
N/A
A
B
C
Before
$130
$30
$100
$0
Contrib
$50
Subtotal
$180
$30
$100
$50
Bonus (3:2)
$12
$8
$(20)
After
$180
$42
$108
$30
C’s Capital Balance = $30/$180 = ⅙ interest
○
Goodwill Method (Goodwill Adjust the Left):
Example: The conditions above are the same. If C is paying A and B $50 for a ⅙
interest in the partnership, that implies a valuation of $300. Therefore, the total
capital balance for all 3 partners is $180 and goodwill is $120 ($300-$180).
N/A
A
B
C
Before
$130
$30
$100
$0
Contrib
$50
Subtotal
$180
$30
$100
$50
Goodwill (3:2) $120
$72
$48
$0
After
$300
$102
$148
$50
C’s Capital Balance = $50/$300 = ⅙ interest
○
●
Exact Method - No bonus or goodwill is recorded. A potential partner that wants
an interest of ⅙ must provide the exact amount of capital required to earn a ⅙
interest.
Liquidations and Retirement:
○ Retirement - When a partner retires, they may be paid a bonus. This bonus
payment reduces their current capital balance. If the bonus payment reduces the
39
retiring partner’s capital balance below $0, the remaining partners must reduce
their capital balances proportionally to their investment stakes in the partnership
to adjust the retiring partner’s capital balance to $0.
N/A
A
B
C
Before
$180
$30
$100
$50
Appraisal
$120
$60
$40
$20
Subtotal
$300
$90
$140
$70
C Retires
$(80)
$(80)
Subtotal
$220
$90
$140
$(10)
Bonus
$(6)
$(4)
$10
After
$220
$84
$136
$0
○
Liquidation - Similar to retirement, any partners whose capital balances fall
below $0 after liquidation will need to be adjusted to $0 by other partners (join
liability)
N/A
A
B
C
Before
$180
$30
$100
$50
Loss
$(120)
$(60)
$(40)
$(20)
Subtotal
$60
$(30)
$60
$30
Bonus
$30
$(20)
$(10)
After
$60
$0
$40
$20
●
Government Revenue:
○ Exchange Transactions - Goods, services, or cash of equal value are
exchanged
○ Non Exchange Transactions - Government gives/receives without directly
giving/receiving equal value in exchange
■ Derived Tax Revenue - Self-assessed (e.g. sales/income taxes)
■ Imposed - Taxes that aren’t derived from transactions (e.g. property
taxes, fines, assessments); revenue is recognized the use of the money is
permitted
■ Government Mandated - One level of government provides funds to
another level (e.g. grants); revenue is recognized when eligibility
requirements are met
■ Voluntary - Transactions entered into willingly (e.g. unrestricted grants
and donations); revenue is recognized when eligibility requirements are
met
○ Modified Accrual Revenue Recognition - Revenue is recognized when it is
measurable and the money is able to be spent
●
Governmental Expenditures:
○ Encumbrances - Open orders that can be considered estimated expenditures
Order is Placed
DR Encumbrances
x
CR Reserved for Encumbrances
x
40
Order is Filled
DR Reserved for Encumbrances
CR Encumbrances
DR Expenditures
CR Voucher Payable
○
x
x
x
x
Categories of Expenditures:
■ Function or Program - Identifies purpose for expenditure (highways,
education)
■ Organizational Unit - Department, organizational structure (police and
fire, public safety)
■ Activity - “Police protection function”
■ Character - Fiscal period (debt service is past, current service is present)
■ Object - What was purchased (salaries, rent, utilities)
●
Modified Accrual Funds (PD-Consents-to-Smoking-Grass):
○ Permanent
○ Debt Service
○ Capital Projects
○ Special Revenue
○ General
●
Accrual Funds (I-PIPE-A lot):
○ Internal Service
○ Pension Trust
○ Investment Trust
○ Private-Purpose Trust
○ Enterprise
○ Agency (Custodial)
●
Government Funds:
○ General - Anything that isn’t being accounted for under a different fund
○ Special Revenue - Revenues ear-marked for a special purpose (e.g. gas tax
meant for new roads)
○ Capital Projects - Construction activities
○ Debt Service - Service the bonds or debt of government funds
○ Permanent - Money is deposited and the interest is spent (e.g. endowment
funds)
●
Proprietary Funds:
○ Internal Service - Services people inside of government (e.g. maintenance
department that takes care of government parks)
○ Enterprise - Services people outside of government, ran on a user-fee basis
(e.g. city pool that charges a user-fee for entrance)
●
Fiduciary Funds:
○ Pension Trust - Holds the pension trust funds of governmental employees
41
○
○
○
Investment Trust - Multiple government entities pooling resources and investing
funds
Private Purpose Trust - Fund that holds money for private persons or other
governments (e.g. scholarship funds)
Custodial (Agency) - Collects money and disburses it (e.g. the IRS); does not
maintain a fund balance
●
Governmental General Purpose Financial Statements:
○ Management Discussion and Analysis
■ Comparisons with prior years
■ Variance analysis
■ Expected events and long-term activities
○ Government-wide Financial Statements (accrual)
■ Statement of Net Position (B/S)
■ Statement of Activities (I/S and R/E)
○ Fund Financial Statements (accrual or modified accrual)
■ Government Fund Financial Statements (modified accrual):
● Balance Sheet
● Statement of Revenues/Expenditures and Changes in Fund
Balance
■ Proprietary Fund Financial Statements (accrual):
● Statement of Net Position
● Statement of Revenues and Expenses
● Statement of Changes in Fund Balance
■ Fiduciary Fund Financial Statements (accrual):
● Statement of Net Position
● Statement of Changes in Net Position
○ Notes to the Financial Statements
○ Required Supplementary Information (RSI)
●
Government Fund Financial Statements:
○ Prepared on a modified accrual basis
○ Contains current assets and current liabilities only, no fixed assets
○ Balance Sheet:
Current Assets + Deferred Outflows = Current Liabilities + Deferred
Inflows + Fund Balance
○ Statement of Revenues, Expenditures, and Changes in Fund Balance:
Total Government Fund Balances
$10,000,000
+ LT Assets Used by Gov Funds
$61,000,000
+ Internal Service Fund Balances
$1,000,000
(LT Liabilities Incurred by Gov Funds)
$(30,000,000)
Net Position of Gov Activities
$42,000,000
○
5 Fund Balance Classifications:
■ Non-spendable - Cannot be spent due to legal contract or not in
spendable form (e.g. inventory)
■ Restricted - Restricted for specific purpose externally (e.g. creditors) or
by law
42
■
■
■
Committed - Committed by formal government actions
Assigned - Government has the intent to use for a specific purpose
Unassigned - Doesn’t belong to any of the 4 above
●
Proprietary Fund Financial Statements:
○ Prepared on an accrual basis
○ Statement of Net Position - Prepared as a normal accrual balance sheet
○ Statement of Revenues, Expenses, and Changes in Net Position - Prepared
as a normal accrual income statement
○ Statement of Cash Flows (4 Sections):
■ Operating Activities:
● Direct method is required
● Interest and dividends are excluded
■ Investing Activities:
● Includes interest/dividend income
● Excludes capital assets acquired/disposed
● Loans made
■ Non-Capital Financing Activities:
● Includes interest expense on unsecured loans
● Transfers, grants, subsidies, property taxes received
■ Capital and Related Financing Activities:
● Interest expense on secured loans for capital assets
● Financial purchases and sales of capital assets
●
Fiduciary Fund Financial Statements:
○ Prepared on an accrual basis
○ Statement of Fiduciary Net Position - Prepared as a normal accrual balance
sheet
○ Statement of Changes in Fiduciary Net Position - Prepared as a normal
accrual income statement
●
Component Units:
○ Discrete Presentation in a separate column if:
■ Separate elected governing board
■ Legally separate
■ Fiscally independent
○ Blended with other funds if activities cannot be separated, and would be
misleading to exclude them:
■ Governing body of component unit is the same as that of primary
government
■ Component unit provides services almost entirely for the benefit of the
primary government
■ Component unit’s debt is expected to be repaid by the primary
government
●
Non-Profit Statement of Financial Position (B/S):
○ Assets = Liabilities + Net Assets
○ Net Assets Without Donor Restrictions:
43
■
○
Available for the general use of the entity and can include assets set
aside by the board of trustees
■ The remainder of net assets of an NPO after considering those that are
subject to donor-imposed restrictions
Net Assets With Donor Restrictions:
■ Donor-Imposed Restriction - Any stipulation that specifies a use for a
contributed asset that is more specific than just broad limits resulting from
the nature or purpose of the NPO, or from the environment in which the
NPO operates
■ Restrictions will eventually lapse due to time, use, or purpose
■ Includes endowments
●
Non-Profit Statement of Activities (I/S):
○ Revenues, Gains, and Other Support:
■ Contributions from donors and investment income
■ Property contributions are recorded at FMV at gift date
■ Services are only included as revenue if they are professional and the
NPO would have otherwise paid for them
○ Net Assets Released from Restriction:
■ Former donor-restricted net assets that became free of donor restrictions
during the year due to expiration of time, performance, or purpose
restrictions
○ Expenses:
■ Reported only in without donor restrictions column
■ Categorized as either program services, support services, or combined
costs
●
Non-Profit Revenue Journal Entries:
Without Donor Restrictions
DR Cash
x
CR Revenue (no DR)
x
With Donor Restrictions
DR Cash
x
CR Revenue (with DR)
x
Money is Spent for Restricted Puropose
DR Net Assets Released (with DR)
x
CR Net Assets Released (no DR)
x
DR Expenses (no DR)
x
CR Cash
x
* Net Effect is $0 for Net Assets Without Donor Restrictions
●
Non-Profit Statement of Cash Flows:
○ Operating Activities:
■ Represents most of the CF effects of the items reported on the statement
of activities
■ Inflows include revenues collected and outflows include expenses paid
■ Contributions that can be spent on operations are included
○ Investing Activities:
44
■
■
○
CF effects of asset transactions (PP&E)
Inflows include proceeds from sale of assets and art sales, outflows
include asset purchases
Financing Activities:
■ CF effects of liability transactions
■ Inflows include proceeds from loans and outflows include principal
payments on loans
■ Includes proceeds from donor-restricted contributions and other financing
activities
■ Includes money that has a restriction that will not lapse (e.g.
endowments)
■ Includes money donated for long-term purposes
●
Pledges:
○ Unconditional Promises - May be accrued as receivables (net of allowance for
uncollectible)
○ Conditional Contributions - Contain donor-imposed conditions (e.g. matching
all donations once they reach $1,000) that represent a barrier that must be
overcome and are recorded as liabilities until they are overcome; considered
conditional when:
■ Barrier must be overcome
■ Donor has right to the return of assets transferred or a right to be released
from their obligation to transfer assets
●
Private Section Hospital Financial Statements:
○ Statement of Financial Position (B/S)
○ Statement of Operations (I/S)
○ Statement of Net Assets (S/E)
○ Statement of Cash Flows
●
Statement of Operations (P-P-NO-ONE):
○ Performance Indicator - Operating income, revenues over expenses, revenues
and gains over expenses and losses earned income, performance earnings
○ Reported on same statement that presents total changes in net assets with donor
restrictions
Patient Service Revenue (full/gross amount)
(Provision for Contractual Adjustments) (employee discounts, Medicare)
= Net Patient Service Revenue
+ Other Operating Revenue, Gains, and Losses (earned)
Non-medical (parking, gift shop, cafeteria, tuition)
Donated supplies and equipment
Restricted grants
Net assets released from restriction used for operations
(Operating Expenses) (bad debts, drugs, doctors, gen & admin, depreciation)
= Results from Operations
+ Non-Operating Revenues (unearned)
Unrestricted donations, gifts, bequests
45
Unrestricted dividend and interest income
Unrestricted grants
Donated Services
= Excess over Revenues and Expenses (performance indicator)
+/- Items Reported Separately from Performance Indicator
Restricted donations and contributions
Assets released from donor restrictions for long-lived assets
Restricted investment income
Change in net unrealized gains and losses (other than trading)
Transfers to parent
Discontinued operations
= Increase in Unrestricted Net Assets
●
Acquisition Method of Consolidations:
○ Identify the Acquirer:
■ In stock for assets transactions, acquirer is the one acquiring the stock
■ In stock for stock transactions, several factors will have to be considered:
● Entity that initiated the transaction
● Representation in management and governance
● Relative voting rights
■ Assets and liabilities remain at book value
○ Determine the Acquisition Date:
■ Date on which the acquirer obtains a controlling financial interest over the
acquiree
■ In equity acquisitions, date that acquirer’s holdings equal majority of
acquiree’s equity
■ For VIE, date on which lease, sale, or purchase contract is entered into
○ Recognize and Measure Assets, Liabilities, and Non-Controlling Interest:
■ Do not recognize goodwill on the financial statement of the acquiree,
prepaid or accrued rent resulting from operating lease accounting, or
DTA/DTL
■ Do recognize identifiable intangibles such as marketing, customer,
artistic, contracts, and technology
■ Non-Controlling Interests:
● Recognized at fair value which is the market price of a single
share * number of shares held by NCI on acquisition date
○ Recognize and Measure Goodwill or Gain:
■ Acquirer recognizes consideration given (cash, assets, stock) at fair value
■ Costs related to the transaction will be recognized as an expense when
incurred:
● Attorney/appraiser fees
● Indirect costs (e.g. new stationary, new training manuals)
■ Cost of issuing equity securities reduces APIC
■ Cost of issuing debt securities are capitalized and amortized as debt
issue costs
■ Goodwill represents the incremental amount of consideration given over
the fair value of underlying net assets
46
■
●
Gain on Bargain Purchase represents the incremental amount of fair
value of underlying net assets over consideration given
Combining Equity:
○ Debit all equity amounts of acquiree to remove 100% of those balances
○ Credit investment in acquiree
○ Credit non-controlling interest (active stock price * number of shares held by
non-controlling interest)
○ Debit goodwill or credit gain on bargain purchase
○ Adjust identifiable assets to FMV
DR Common Stock
DR APIC
DR Retained Earnings
DR Identifiable Assets (to FMV)
DR Goodwill
CR Investment in Acquiree
CR Invest Held Prior to Acq in Acquiree
CR Non-Controlling Interest (at FMV)
●
x
x
x
x
x
x
x
x
Intercompany Transactions:
○ Dividends Paid from Acquiree to Acquirer:
■ No B/S effect since equity amounts of acquiree and investments of
acquirer are eliminated
○ Intercompany Sales of Inventory:
■ 3 financial statement effects need to be eliminated:
● Sales vs purchase
● Receivable vs payable
● Profit in ending inventory
Example: P Co. has inventory that was purchased from an outside supplier for
$4, and it is later sold to S Co. for $5. IT remains in ending inventory at Y/E and
the invoice to the parent hasn’t been paid.
Eliminate I/C Sale-Purchase
DR Sales
CR Cost of Goods Sold
Eliminate /C Receivable-Payable
DR Accounts Payable
CR Accounts Receivable
Eliminate I/C Profit in Ending Inventory
DR Cos of Goods Sold
CR Inventory
○
5
5
5
5
1
1
Sales of PP&E:
■ Must eliminate the gain on sale and eliminate additional depreciation or
amortization resulting from markup of the asset
47
Example: P Co. has equipment with a $50 cost and $20 accumulated
depreciation. On 1/1/X1, P sells the equipment to S for $45. On the date of sale,
the asset has an estimated life of 3 years.
Account
Equipment
Acc. Dep
BV
20X1 Dep
Acquirer P
$50
$(20)
$30
$10
Acquiree S
$45
$0
$45
$15
Eliminate Change Resulting from Sale
DR Gain on Sale
DR Equipment
CR Accumulated Depreciation
Reduce Depreciation
DR Accumulated Depreciation
CR Depreciation Expense
○
Change
$(5)
$25
$15
$5
15
5
20
5
5
Bonds Issued:
■ 3 eliminations may be needed:
● Investment in bonds vs bonds payable
● Interest revenue vs interest expense
● Accrued interest receivable vs accrued interest payable
Example: Acquiree issued an 8% bond at its $1,000 FV several years ago.
Acquirer purchased bond on open market for $900 plus accrued interest on
12/31/X1. Bond pays interest annually on 1/1.
Eliminate Bond
DR Bond Payable
1,000
CR Investment in Bond
900
CR Gain on Retirement
100
Eliminate Accrued Interest
DR Accrued Interest Payable
80
CR Accrued Interest Receivable
80
If Bond Held Throughout Year, Eliminate Interest Revenue/Expense
DR Interest Revenue
x
CR Interest Expense
x
●
Variable Interest Entities - An entity can have a controlling financial interest in another
entity without owning any equity in the other entity; a VIE can form for several reasons:
○ Entity forms separate entity for the purpose of holding assets or incurring
liabilities
○ Entity enters into relationship with another entity and occupies so many of other
entity’s resources that it becomes the focus of its operations
48
●
IFRS Consolidations:
○ Non-controlling interests may be valued at acquisition date fair values or in an
amount equal to the proportionate share of the recognized net asset of the
acquiree when:
■ They represent present ownership interests
■ Holders entitled to proportionate share of the recognized net assets of
acquiree if liquidated
○ Amount of goodwill or gain on bargain purchase may differ
○ Parent must prepare consolidated financial statements for all entities that it has
control over
○ Subsidiaries can be excluded from consolidation under certain circumstances