Slide
3-1
Chapter Three
Consolidations
– Subsequent
to the Date of
Acquisition
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-2
SFAS No. 142 - Goodwill and Other
Intangible Assets
For fiscal periods
beginning AFTER
December 15, 2001,
goodwill will no longer
be amortized.
The “nonamortization”
rule will apply to both
previously recognized
and newly acquired
goodwill.
McGraw-Hill/Irwin
Any unamortized
goodwill that arose
from pre-SFAS 142
combinations will
be henceforth
carried on the
books as a
permanent asset.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-3
SFAS No. 142 - Goodwill and Other
Intangible Assets
Generally, once goodwill has been recorded, the
value will remain unchanged.
Two circumstances exist that
will result in adjusting the amount
of goodwill on the consolidated balance sheet.
Sale of all or part of the
related subsidiary.
A determination that goodwill
has experienced a permanent
impairment of value.
Any impairment in the value
of goodwill should be reported
as an extraordinary item.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-4
Consolidation - The Effects of the
Passage of Time
The parent can
account for its
investment one
of three ways:
 Equity Method
 Cost Method
 Partial Equity
McGraw-Hill/Irwin
Let’s compare
the three
methods
briefly.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-5
Investment Accounting
Method
Equity
Cost
Partial
Equity
McGraw-Hill/Irwin
Exh.
3-1
Investment Account
Income Account
Continually adjusted
to reflect ownership
Income is accrued as
of acquired company.
earned; amortization
Investment A/c
and other
increases with
adjustments are
income and decrease
recognized.
with dividends
received
Cash received is
Remains at initially
recorded as Dividend
recorded cost.
Income.
Adjusted only for
Income is accrued as
accrued income and
earned; no other
dividends received
adjustments are
from acquired
recognized.
company.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-6
Subsequent Consolidation Equity Method
Before the consolidation balances can
be determined, the Parent’s investment
account must be adjusted to reflect the
application of the equity method.
 Record the Investment in Sub on the
acquisition date.
 Recognize the receipt of dividends from the
sub.
 Recognize a share of the sub’s income
(loss).
 FMV adjustments and other intangible
assets.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-7
Consolidation Example
Equity Method
On 1/1/05, Dad
Co. purchases
100% of Kid,
Inc. for $900,000
cash.
Kid’s net assets
on 1/1/05 was
$600,000.
McGraw-Hill/Irwin
Balances at 12/31/05 BEFORE Equity Adjustments
Kid, Inc.
Account
Dad Co BV Kid, Inc. BV
BV
Cash
$
50,000 $
40,000 $ 40,000
Current Assets
280,000
130,000
150,000
Investment in
Kid, Inc.
900,000
Land
130,000
80,000
120,000
Building (net)
500,000
150,000
220,000
Equipment (net)
320,000
Acct. Pay.
(92,000)
(50,000)
(50,000)
Common Stock
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
R/E - 1/1/05
(218,000)
(50,000)
Dividends
800,000
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
3-8
Consolidation Example
Equity Method
Before
preparing the
Equity
adjustments,
determine the
Goodwill and
amortization
expense.
McGraw-Hill/Irwin
Balances at 12/31/05 BEFORE Equity Adjustments
Kid, Inc.
Account
Dad Co BV Kid, Inc. BV
FMV
Cash
$
50,000 $
40,000 $ 40,000
Current Assets
280,000
130,000
150,000
Investment in
Kid, Inc.
900,000
Land
130,000
80,000
120,000
Building (net)
500,000
150,000
220,000
Equipment (net)
320,000
Acct. Pay.
(92,000)
(50,000) (50,000)
Common Stock
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
R/E - 1/1/05
(218,000)
(50,000)
Dividends
800,000
400,000
Revenues
(8,500,000) (2,300,000)
Expenses
8,230,000
2,150,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-9
Consolidation Example
Equity Method
Amortization computation:
Dad's
%
Dad's Cost
Kid's BV
Difference
100%
FMV Adjustments:
Current Assets
Land
Buildings
Goodwill
100%
100%
100%
Kid's
Amount
Dad's
Share
$ 900,000
600,000
600,000
300,000
20,000
40,000
70,000
20,000 ÷
40,000
70,000 ÷
$ 170,000
Assume that
Amortize
Current
Assets
have a
remaining
useful life of 1
year, and the
has
1buildings,
$ 20,000.0
N/Aa remaining
10
7,000.0
useful life
of 10
N/A
years.
$ 27,000.0
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-10
Consolidation Example
Equity Method
Amortization computation:
Dad's
%
Dad's Cost
Kid's BV
Difference
100%
FMV Adjustments:
Current Assets
Land
Buildings
Goodwill
100%
100%
100%
Kid's
Amount
Dad's
Share
$ 900,000
600,000
600,000
300,000
20,000
40,000
70,000
Amortize
20,000 ÷ 1
40,000
N/A
70,000 ÷ 10
$ 170,000
N/A
$ 20,000.0
7,000.0
$ 27,000.0
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-11
Consolidation Example
Equity Method
Entry
Date
Giant's General Journal
Description
Debit
Credit
First, prepare the entry to recognize
Dad’s share of Kid’s net income.
Dad owns 100% of Kid.
Kid’s Net Income = $150,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-12
Consolidation Example
Equity Method
Entry
Giant's General Journal
Date
Description
Debit
31-Dec Investment in Kid
150,000
Equity in Kid's NI
Kid's Net Income for 2005
% of Kid owned by Dad
Equity Adjustment
McGraw-Hill/Irwin
Credit
150,000
$ 150,000
100%
$ 150,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-13
Consolidation Example
Equity Method
Entry
Giant's General Journal
Date
Description
Debit
31-Dec Investment in Kid
150,000
Equity in Kid's NI
Credit
150,000
Second, prepare the entry to recognize
Dad’s share of Kid’s dividends.
Dad owns 100% of Kid.
Kid’s Net Income = $150,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-14
Consolidation Example
Equity Method
Entry
Giant's General Journal
Date
Description
Debit
31-Dec Investment in Kid
150,000
Equity in Kid's NI
150,000
31-Dec Cash
Investment in Kid
400,000
Credit
400,000
$400,000 dividends were
paid by Kid to Dad during the
year.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-15
Consolidation Example
Equity Method
Entry
Giant's General Journal
Date
Description
Debit
31-Dec Investment in Kid
150,000
Equity in Kid's NI
150,000
31-Dec Cash
Investment in Kid
400,000
Credit
400,000
Finally, record the amortization of the
fair market value adjustments.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-16
Consolidation Example
Equity Method
Entry
Giant's General Journal
Date
Description
Debit
31-Dec Investment in Kid
150,000
Equity in Kid's NI
150,000
31-Dec Cash
Investment in Kid
400,000
400,000
31-Dec Equity in Kid's NI
Investment in Kid
27,000
Credit
27,000
The Amortization Expense from the
earlier computation = $27,000
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-17
1.
2.
3.
4.
5.
Subsequent Consolidation Worksheet Entries
5 basic entries are posted to the worksheet.
S - The Sub’s equity accounts are eliminated.
A - The other intangible assets are recorded and
the Sub’s assets are Adjusted to FMV.
I - The Equity in Sub Income account is
eliminated.
D - The Sub’s Dividends are eliminated.
E - Amortization Expense is recorded for the
FMV adjustments and other intangible assets
associated with the consolidated entity.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-18
Consolidation Entries
Equity Method
Entry S
Eliminate the sub’s equity balances as of
the beginning of the period.
Plug the difference to Investment in Sub.
CONSOLIDATION JOURNAL
Date
Description
Common Stock - Subsidiary
PIC - Subsidiary
R/E-Beg.(Subsidiary)
Investment in Subsidiary
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
If (1) this is the first year of the investment, and (2) the investment was
made at a time other than the beginning of the fiscal year, then
Preacquisition Income must be accounted for (see Chapter 4).
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-19
Consolidation Entries
Equity Method
Entry A
Adjust sub’s assets and liabilities to FMV.
Set up the Goodwill account and the other intangible
assets. The difference is a reduction of the
Investment in Subsidiary account.
CONSOLIDATION JOURNAL
Date
Description
Asset #1
Asset #2
Asset #3
Investment in Subsidiary
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
In the first year of the investment, the FMV adjustments for this entry will
be identified during the computation of Goodwill. In subsequent years,
the FMV adjustments and the other intangible assets identified must be
reduced by any depreciation (amortization) taken in prior periods.
(including in-process R&D)© The McGraw-Hill Companies, Inc., 2004
McGraw-Hill/Irwin
Slide
3-20
Consolidation Entries
Equity Method
Entry I
Eliminate the Equity in Sub Income account.
Plug the difference to Investment in Sub.
CONSOLIDATION JOURNAL
Date
Description
Equity in Subsidiary Income
Investment in Subsidiary
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-21
Consolidation Entries
Equity Method
Entry D
Eliminate sub’s current Dividends.
Plug the difference to Investment in Sub.
CONSOLIDATION JOURNAL
Date
Description
Investment in Subsidiary
Dividends - Subsidiary
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-22
Consolidation Entries
Equity Method
Entry E
Record amortization expense for the current
period associated with the FMV
adjustments and the other intangible
assets identified during the combination.
Remember to never amortize land or
goodwill!
CONSOLIDATION JOURNAL
Date
Description
Amortization Expense
Asset #1
Asset #2
Intangible Asset #1
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-23
Consolidation at 12/31/05
Equity Method Example
Using the
12/31/05
adjusted
balances,
prepare the
consolidation at
12/31/05.
McGraw-Hill/Irwin
Balances at 12/31/05 AFTER Equity Adjustments
Kid, Inc.
Account
Dad Co BV Kid, Inc. BV
FMV
Cash
$ 450,000 $
40,000 $ 40,000
Current Assets
280,000
130,000
150,000
Investment in
Kid, Inc.
623,000
Land
130,000
80,000
120,000
Building (net)
500,000
150,000
220,000
Equipment (net)
320,000
Acct. Pay.
(92,000)
(50,000)
(50,000)
Common Stock
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
R/E - 1/1/05
(218,000)
(50,000)
Dividends
800,000
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Equity in Kid NI
(123,000)
-
© The McGraw-Hill Companies, Inc., 2004
Slide
3-24
Consolidation Worksheet at 12/31/05
Account
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
Land
280,000
130,000
130,000
80,000
Buildings (net)
Equip. (net)
Investment
500,000
320,000
623,000
150,000
(92,000)
(800,000)
(50,000)
(100,000)
PIC
R/E (Beg.)
Dividends
(1,600,000)
(218,000)
800,000
(450,000)
(50,000)
400,000
Revenues
Expenses
(8,500,000)
8,230,000
(2,300,000)
2,150,000
A/P
Common Stk
Sub NI Equity
Total
McGraw-Hill/Irwin
(123,000)
-
-
CR
Cons.
Balances
Note Dad’s
updated
numbers.
Now, post the
consolidation
entries to the
worksheet.
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-25
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
280,000
130,000
Land
130,000
80,000
Buildings (net)
500,000
150,000
Equip. (net)
320,000
Investment
623,000
A/P
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
Common Stk
PIC
600,000
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
(123,000)
-
CR
Cons.
Balances
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-26
Worksheet at 12/31/05
CONSOLIDATION
JOURNAL
Dad Co.
Kid, Inc.
Page
Date
Account
Description
BV
BV
ENTRY S
Cash
450,000
40,000
31-Dec Common Stock (Sub)
Current Assets
280,000
130,000
Paid-In Capital (Sub)
Land
130,000
80,000
R/E - Beg.
(Sub)
Buildings (net)
500,000
Investment
in Sub 150,000
Equip. (net)
320,000
DR
Debit
600,000
623,000
A/P
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
PIC
600,000
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
(123,000)
-
Cons.
Credit
Balances
100,000
450,000
50,000
Investment
Common Stk
CR
1
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-27
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
Investment
623,000
900,000
Goodwill
A/P
170,000
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
Common Stk
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
CR
Cons.
Balances
(123,000)
-
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-28
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
CR
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
Investment
623,000
900,000
Goodwill
A/P
Common Stk
170,000
(92,000)
(50,000)
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
CONSOLIDATION
JOURNAL
Date
Description
R/E (Beg.)
(218,000)
(50,000)
ENTRY A
800,000
400,000
31-Dec Current Assets
Revenues
Land (8,500,000) (2,300,000)
Expenses
8,230,000
2,150,000
Buildings
Sub NI Equity Goodwill
(123,000)
Investment in
Total
- Sub
-
Dividends
McGraw-Hill/Irwin
Cons.
Balances
100,000
450,000 Page
Debit
50,000
1
Credit
20,000
40,000
70,000
170,000
300,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-29
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
Investment
623,000
1,023,000
Goodwill
A/P
170,000
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
Common Stk
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
CR
Cons.
Balances
(123,000)
-
123,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-30
Worksheet at 12/31/05
CONSOLIDATION
JOURNAL
Dad Co.
Kid, Inc.
Page
Date
Account
Description
BV
BV
ENTRY I
Cash
450,000
40,000
31-Dec Equity in Kid's Net Income
Current Assets
280,000
130,000
Investment in Kid
Land
130,000
80,000
Buildings (net)
500,000
Equip. (net)
320,000
Investment
623,000
150,000
Debit
20,000
40,000
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
123,000
170,000
(50,000)
PIC
123,000
70,000
(92,000)
Common Stk
CR
Cons.
Credit
Balances
1,023,000
Goodwill
A/P
DR
1
(123,000)
-
123,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-31
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
Investment
623,000
400,000
Goodwill
A/P
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
1,023,000
170,000
(92,000)
Common Stk
CR
Cons.
Balances
(123,000)
-
400,000
123,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-32
Worksheet at 12/31/05
CONSOLIDATION
JOURNAL
Dad Co.
Kid, Inc.
Date
Account
Description
BV
ENTRY D
Cash
450,000
31-Dec Investment in Kid
Current Assets
280,000
Dividends (Kid)
Land
130,000
Buildings (net)
500,000
Equip. (net)
320,000
Investment
623,000
Page
BV
DR
40,000
130,000
20,000
80,000
40,000
150,000
70,000
400,000
Goodwill
A/P
Debit
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
Cons.
Credit
Balances
400,000
400,000
1,023,000
170,000
(92,000)
Common Stk
CR
1
(123,000)
-
400,000
123,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-33
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
CR
20,000
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
7,000
Equip. (net)
320,000
Investment
623,000
400,000
1,023,000
Goodwill
A/P
170,000
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(1,600,000)
(450,000)
450,000
R/E (Beg.)
(218,000)
(50,000)
50,000
Dividends
800,000
Common Stk
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
Cons.
Balances
(123,000)
-
400,000
27,000
123,000
-
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-34
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
CR
20,000
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
7,000
CONSOLIDATION
JOURNAL
Investment
623,000
400,000
GoodwillDate
170,000Debit
Description
ENTRY E
31-Dec Amortization Expense
A/P
(92,000)
(50,000)
Current Assets
Common Stk
(800,000)
(100,000)
Buildings
PIC
(1,600,000)
(450,000)
R/E (Beg.)
(218,000)
(50,000)
Dividends
800,000
400,000
Revenues
(8,500,000) (2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
(123,000)
Total
McGraw-Hill/Irwin
Cons.
Balances
Page
1,023,000 1
Credit
27,000
100,000
20,000
7,000
450,000
50,000
400,000
27,000
123,000
© The McGraw-Hill Companies, Inc., 2004
Slide
Consolidation
3-35
Account
Worksheet at 12/31/05
Dad Co.
BV
Kid, Inc.
BV
DR
Cash
450,000
40,000
Current Assets
280,000
130,000
20,000
Land
130,000
80,000
40,000
Buildings (net)
500,000
150,000
70,000
Equip. (net)
320,000
Investment
623,000
CR
Cons.
Balances
490,000
20,000
410,000
250,000
7,000
713,000
320,000
400,000
Goodwill
1,023,000
170,000
170,000
-
A/P
(92,000)
(50,000)
(800,000)
(100,000)
100,000
(800,000)
(1,600,000)
(450,000)
450,000
(1,600,000)
R/E (Beg.)
(218,000)
(50,000)
50,000
(218,000)
Dividends
800,000
Common Stk
PIC
400,000
Revenues
(8,500,000)
(2,300,000)
Expenses
8,230,000
2,150,000
Sub NI Equity
Total
McGraw-Hill/Irwin
(123,000)
-
(142,000)
-
400,000
800,000
(10,800,000)
27,000
10,407,000
123,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-36
Consolidation, 2 or more years
after acquisition
Let’s do question Excel Case on page 144 in the text.
Note – we must remember certain key procedural
changes. See slides 18, 19 and 22:
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-37
Applying the Cost Method
If the COST METHOD is used by the parent
company to account for the investment, then the
consolidation entries will change only slightly.
Remember . . .
1. No adjustments are recorded in the
Investment account for current year
operations, dividends paid by the subsidiary,
or amortization of purchase price allocations.
2. Dividends received from the subsidiary are
recorded as Dividend Revenue.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-38
Consolidation Entries
Cost Method
Entry S
Eliminate the sub’s equity balances as of the
beginning of the period.
Plug the difference to Investment in Sub.
This entry is the same under both the Equity Method and
the Cost Method.
CONSOLIDATION JOURNAL
Date
Description
Common Stock - Subsidiary
PIC - Subsidiary
R/E-Beg.(Subsidiary)
Investment in Subsidiary
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-39
Consolidation Entries
Cost Method
Entry A
Adjust sub’s assets and liabilities to FMV.
Set up the Goodwill account and the other intangible assets.
The difference is a reduction of the Investment in Subsidiary
account.
This entry is the same under both the Equity Method and the Cost
Method.
CONSOLIDATION JOURNAL
Date
Description
Asset #1
Asset #2
Asset #3
Investment in Subsidiary
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-40
Consolidation Entries
Cost Method
Entry I
This entry is different under the Cost Method.
Eliminate the Parent’s Dividend Income
account.
Also, eliminate the Sub’s Dividends Paid
account.
CONSOLIDATION JOURNAL
Date
Description
Dividend Income
Dividends Paid
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-41
Consolidation Entries
Cost Method
Entry D
Under the Cost Method we DO NOT
make an Entry D.
CONSOLIDATION JOURNAL
Date
Description
Investment in Subsidiary
Dividends - Subsidiary
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-42
Consolidation Entries
Cost Method
Entry E
Regardless of the method used, we must
record the amortization of the purchase price
allocations. This entry is the same as the
Equity Method.
CONSOLIDATION JOURNAL
Date
Description
Amortization Expense
Asset #1
Asset #2
Intangible Asset #1
McGraw-Hill/Irwin
Page
Debit
##
Credit
$$$
$$$
$$$
$$$
© The McGraw-Hill Companies, Inc., 2004
Slide
3-43
Other Consolidation Entries


McGraw-Hill/Irwin
In addition to the Entries S, A,
I, D, & E, you must also
eliminate intercompany
payables or receivables.
So far, we have assumed that
the parent acquired 100% of
the subsidiary in the
combination. If control
acquired is < than 100%, an
additional adjustment must be
made (see Chapter 4).
© The McGraw-Hill Companies, Inc., 2004
Slide
3-44
Goodwill Impairment

Goodwill is not
amortized.
 It is assigned an
“indefinite” useful life.


McGraw-Hill/Irwin
Generally, goodwill
will be carried at it’s
acquisition cost.
At some future point
in time, the goodwill
may become
permanently
impaired.
SFAS No.
142 calls
for an
annual test
of
impairment
for
Goodwill.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-45
Goodwill Impairment Examples
Exh.
3-15
2002 Goodwill Impairment Write-downs
Company
AOL Time Warner
Boeing
Blockbuster
SBC Communications
General Electric
Coca-Cola
AT&T
Safeway
Verizon Communications
McGraw-Hill/Irwin
2002 Write-Down
$ 54,000,000,000
$ 1,800,000,000
$ 1,800,000,000
$ 1,800,000,000
$ 1,000,000,000
$
926,000,000
$
856,000,000
$
700,000,000
$
500,000,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-46
Goodwill Impairment Test

Step 1
 Compare fair value of
REPORTING UNIT to
carrying value of the
REPORTING UNIT

Step 2
 Compare fair value of
GOODWILL to
carrying value of
GOODWILL
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-47
Goodwill Impairment Test - Step 1
Is the Fair Value of a Reporting Unit Less
Than Carrying Value?
 Compare the Reporting
Unit’s Fair Value to its
Carrying Value.
 If Fair Value of the
Reporting Unit is <
Carrying Value, GO TO
STEP 2.
 Recompute Fair Value if
the previous Fair Value
can not be used?
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-48
Goodwill Impairment Test - Step 1
Is the Fair Value of a Reporting Unit Less
Than Carrying Value?
Use the most recent Fair Value if:

The net assets of the reporting unit have not
changed significantly since the most recent
fair value determination.
AND

The most recent fair value determination >
the carrying amount of the reporting unit by
a substantial margin.
AND

McGraw-Hill/Irwin
It is remote that computing a new fair value
would result in an amount < the current
carrying amount of the reporting unit.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-49
Goodwill Impairment Test - Step 2
If the fair value of a
reporting unit < its carrying
value, then Step 2 is
performed.
If goodwill’s fair value
falls below its carrying
value, then impairment
has occurred, and an
extraordinary
impairment loss is
recorded.
McGraw-Hill/Irwin
Three Complexities Arise
 The assignment of
acquisition value to
reporting units
 The periodic
determination of the
fair values of
reporting units
 The determination of
the implied fair value
of goodwill
?
© The McGraw-Hill Companies, Inc., 2004
Slide
3-50
Assignment of Acquisition Value to
Reporting Units
To better assess
potential declines in
value for goodwill,
the goodwill must be
assigned to its
related REPORTING
UNIT.
McGraw-Hill/Irwin
A Reporting Unit
can be:
 A component of
an operating
segment.
 A segment of
an enterprise.
 The entire
enterprise.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-51
Periodic Determination of the Fair
Value of a Reporting Unit
Basis for determining fair
value:
 Market price, if the
reporting unit is publicly
traded.
 Market price of
comparable businesses.
 Business valuation
techniques using PV.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-52
Determination of the Implied Fair Value
of Goodwill
The “implied”
fair value of
Goodwill is
calculated in a
similar manner
as the
determination of
goodwill in a
business
combination.
McGraw-Hill/Irwin
 Use the fair value of the
reporting unit as the
“purchase price”.
 Allocate the “purchase
price” to all identifiable
assets and liabilities of
the reporting unit.
 Compare the resulting
“implied goodwill” to the
goodwill on the books.
 If “implied goodwill” <
recorded goodwill,
impairment has occurred.
© The McGraw-Hill Companies, Inc., 2004
Slide
3-53
Closing Observations Related to the
Testing of Goodwill for Impairment
Determining the “fair
value” of the reporting
segment adds a new,
potentially costly
periodic task of
consolidated financial
reporting.
The fair values of the
assets and liabilities of
the reporting unit used in
the test for impairment
do not impact the
amounts reported on the
consolidated financial
statements.
A decline in the value of the reporting unit
does NOT necessarily signal an impairment
of goodwill under SFAS No. 142.
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004
Slide
3-54
Goodwill Impairment Test
Example
Assume the fair
value of Dad
Co.’s
investment in
Kid, Inc. at
12/31/06 has
fallen to
$450,000.
Is Goodwill
Impaired?
McGraw-Hill/Irwin
Balances at 12/31/06, Dad owns 100% of Kid, Inc.
Kid, Inc.
Account
Dad Co BV Kid, Inc. BV
BV
Cash
$ 280,000 $
35,000 $ 35,000
Current Assets
310,000
90,000
90,000
Investment in
Kid, Inc.
596,000
Land
320,000
80,000
100,000
Building (net)
750,000
130,000
150,000
Equipment (net)
200,000
100,000
40,000
Acct. Pay.
(130,000)
(85,000)
(85,000)
Common Stock
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
R/E - 1/1/05
189,000
200,000
Dividends
400,000
300,000
Revenues
(3,200,000)
(2,800,000)
Expenses
2,958,000
2,500,000
Equity in Kid NI
(273,000)
-
© The McGraw-Hill Companies, Inc., 2004
Slide
3-55
Goodwill Impairment Test
Example
STEP 1
Fair value of the
investment <
the carrying
amount of the
investment, so
go to Step 2.
McGraw-Hill/Irwin
Balances at 12/31/06, Dad owns 100% of Kid, Inc.
Kid, Inc.
Account
Dad Co BV Kid, Inc. BV
BV
Cash
$ 280,000 $
35,000 $ 35,000
Current Assets
310,000
90,000
90,000
Investment in
Kid, Inc.
596,000
Land
320,000
80,000
100,000
Building (net)
750,000
130,000
150,000
Equipment (net)
200,000
100,000
40,000
Acct. Pay.
(130,000)
(85,000)
(85,000)
Common Stock
(800,000)
(100,000)
PIC
(1,600,000)
(450,000)
R/E - 1/1/05
189,000
200,000
Dividends
400,000
300,000
Revenues
(3,200,000)
(2,800,000)
Expenses
2,958,000
2,500,000
Equity in Kid NI
(273,000)
-
© The McGraw-Hill Companies, Inc., 2004
Slide
3-56
Goodwill Impairment Test
Example
STEP 2
The implied
Goodwill < the
carrying amount of
the Goodwill, so an
impairment writedown is necessary.
McGraw-Hill/Irwin
Fair Value of Dad's
Investment
$
Fair Value of Kid, Inc.'s
Assets
Value assigned to
Implied Goodwill
Carrying amount of
Goodwill before
impairment
Goodwill Impairment
$
450,000
330,000
120,000
170,000
50,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-57
Goodwill Impairment Test
Example
Goodwill Impairment Entry
The Goodwill needs to be written down by
$50,000. The entry should be recorded as
an extraordinary item on the consolidated
financial statements, if it is material.
CONSOLIDATION JOURNAL
Date
Description
Goodwill Impairment Loss
Goodwill
McGraw-Hill/Irwin
Page
Debit
##
Credit
50,000
50,000
© The McGraw-Hill Companies, Inc., 2004
Slide
3-58
End of Chapter 3
This stuff
is a
breeze,
ain’t it?
McGraw-Hill/Irwin
© The McGraw-Hill Companies, Inc., 2004