several factors that serve to complicate the consolidation process when it occurs

subsequent to the date of acquisition.

CHAPTER 3CONSOLIDATIONSSUBSEQUENT TOTHE DATE OF ACQUISITION

I. Several factors serve to complicate the consolidation process when it occurs subsequent to the
date of acquisition. In all combinations within its own internal records the acquiring company
will utilize a specific method to account for the investment in the acquired company.1. Three
alternatives are available a. Initial value method (sometimes referred to as the cost method
) b. Equity method c. Partial equity method2.Depending upon the method applied, the acquiring
company will record earnings from its ownership of the acquired company. This total must be
eliminated on the consolidation worksheet and be replaced by the subsidiarys revenues and
expenses.3. Under each of these three methods, the balance in the Investment account will also
vary. It too must be removed in producing consolidated statements and be replaced by the
subsidiarys assets and liabilities. II. For combinations subsequent to the acquisition date, certain
procedures are required. If the parent applies the equity method, the following process is
appropriate. A. Assuming that the acquisition was made during the current fiscal period1.The
parent adjusts its own Investment account to reflect the subsidiarys income and dividend
payments as well as any amortization expense relating to excess acquisition-date fair value over
book value allocations and goodwill.2. Worksheet entries are then used to establish consolidated
figures for reporting purposes. A. Entry S offsets the subsidiarys stockholders equity accounts
against the book value component of the Investment account (as of the acquisition date). Entry A
recognizes the excess fair value over book value allocations made to specific subsidiary accounts
and/or to goodwill. C. Entry I. eliminates the investment income balance accrued by the parent.
d. Entry D removes intra-entity dividend payments e. Entry E enters the current excess
amortization expenses on the excess fair over book value allocations. f. Entry P eliminates any
intra-entity payable/receivable balances. B. Assuming that the acquisition was made during a
previous fiscal period1.Most of the consolidation entries described above remain applicable
regardless of the time that has elapsed since the combination was formed. 2.The amount of the
subsidiarys stockholders equity to be removed in Entry Swill differ each period to reflect the
balance as of the beginning of the current year
3.The allocations established by entry A will also change in each subsequent consolidation. Only
the unamortized balances remaining as of the beginning of the current period are recognized in
this entry. III. For a combination where the parent has applied an accounting method other than
the equity method, the consolidation procedures described above must be modified. A. If the
initial value method is applied by the parent company, the intra-entity dividends eliminated in
Entry I will only consist of the dividends transferred from the subsidiary. No separate Entry D is
needed. B. If the partial equity method is in use, the subsidiary income to be removed in Entry I.
is the equity accrual only; no amortization expense is included. Intercompany dividends are
eliminated through Entry D.C. In any time period after the year of acquisition.1. The initial value
method recognizes neither income in excess of dividend payments nor excess amortization

expense. Thus, for all years prior to the current period, both of these figures must be entered
directly into the consolidation. Entry*C is used for this purpose; it converts all prior amounts to
equity method balances. 2.The partial equity method does not recognize excess amortization
expenses. Therefore, Entry*C converts the appropriate account balances to the equity method by
recognizing the expense that relates to all of the past years. IV. Bargain purchases A. As
discussed in Chapter Two, bargain purchases occur when the parent company transfers
consideration less than net fair values of the subsidiarys assets acquired and liabilities assumed.
B. The parent recognizes an excess of net asset fair value over the consideration transferred as a
gain on bargain purchase. V. Goodwill Impairment A. When is goodwill impaired?1. Goodwill
is considered impaired when the fair value of its related reporting unit falls below its carrying
value. Goodwill should not be amortized, but should be tested for impairment at the reporting
unit level (operating segment or lower identifiable level).2. Goodwill should be at least
qualitatively assessed for impairment annually. If there are indicators of goodwill impairment,
then without undergoing a qualitative assessment, goodwill should be tested for impairment at
leastannually.3. Interim impairment testing is necessary in the presence of negative indicators
such as an adverse change in the business climate or market, legal factors, regulatory action, an
introduction of competition, or a loss of key personnel. B. How is goodwill tested for
impairment?1. All acquired goodwill should be assigned to reporting units. It would not be
unusual for the total amount of acquired goodwill to be divided among a number of reporting
units. Goodwill should be assigned to reporting units of the acquiring entity that are expected to
benefit from the synergies of the combination even though other assets or liabilities of the
acquired entity may not be assigned to that reporting unit. 2. FASB permits an option to perform
a qualitative analysis to assess whether further testing procedures are appropriate. The analysis
includes determining whether it is more likely than not (a probability of more than 50 percent)
that goodwill is impaired. If this likelihood is not judged to be attained, then no further testing is
required. 3. If circumstances, or the qualitative analysis, indicate a possible decline in the fair
value of a reporting unit below its carrying value, then goodwill is tested for impairment using a
two-step approach. a. The first step compares the fair value of a reporting unit to its carrying
amount. If the fair value of the reporting unit exceeds its carrying amount, goodwill is not
considered impaired and no further analysis is necessary. b. The second step is a comparison of
goodwill to its carrying amount. If the implied value of a reporting units goodwill is less than its
carrying value, goodwill is considered impaired and a loss is recognized.
The loss is equal to the amount by which goodwill exceeds its implied value.
4.The implied value of goodwill should be calculated in the same manner that goodwill is
calculated in a business combination. That is, an entity should allocate the fair value of the
reporting unit to all of the assets and liabilities of that unit (including any unrecognized
intangible assets) as if the reporting unit had been acquired in a business combination and the fair
value of the reporting unit was the value assigned at a subsidiarys acquisition date. The excess
acquisition-date fair value over the amounts assigned to assets and liabilities is the implied
value of goodwill. This allocation is performed only for purposes of testing goodwill for
impairment and does not require entities to record the step-up in net assets or any
unrecognized intangible assets. C. How is the impairment recognized in financial statements?

1. The aggregate amount of goodwill impairment losses should be presented as

a separate line item in the operating section of the income statement
unless a goodwill impairment loss is associated with a discontinued operation.
2. A goodwill impairment loss associated with a discontinued operation should be included (on a
net-of-tax basis) within the results of discontinued operations. VI. Contingent consideration A.
The fair value of any contingent consideration is included as part of the consideration
transferred. B. If the contingency results in a liability (typically a cash payment), changes in the
fair value of the contingency are recognized in income as they occur. C. If the contingency calls
for an additional equity issue at a later date, the acquisition-date fair value of the contingency is
not adjusted over time. Any subsequent shares issued as a consequence of the contingency are
recorded at the original acquisition-date fair value. This treatment is similar to other equity issues
(e.g., common stock, preferred stock, etc.) in the parents owners equity section.
CHAPTER 3 CONSOLIDATIONSSUBSEQUENT TO THE DATE OF ACQUISITION I.
Several factors serve to complicate the consolidation process when it occurs subsequent to the
date of acquisition. In all combinations within its own internal records the acquiring company
will utilize a specific method to account for the investment in the acquired company. 1. Three
alternatives are available a. Initial value method (formerly called the cost method prior to SFAS
141R) b. Equity method c. Partial equity method 2. Depending upon the method applied, the
acquiring company will record earnings from its ownership of the acquired company. This total
must be eliminated on the consolidation worksheet and be replaced by the subsidiarys revenues
and expenses. 3. Under each of these three methods, the balance in the Investment account will
also vary. It too must be removed in producing consolidated statements and be replaced by the
subsidiarys assets and liabilities. II. For combinations being consolidated after the acquisition
date, certain procedures are required. If the acquiring company has applied the equity method,
the following process is appropriate. A. Assuming that the acquisition was made during the
current fiscal period 1. The parent adjusts its own Investment account to reflect the subsidiarys
income and dividend payments as well as any amortization expense relating to excess
acquisition-date fair value over book value allocations and goodwill. 2. Worksheet entries are
then used to establish consolidated figures for reporting purposes. a. Entry S offsets the
subsidiarys stockholders equity accounts against the book value component of the Investment
account (as of the acquisition date). b. Entry A recognizes the excess fair over book value
allocations made to specific subsidiary accounts and/or to goodwill. c. Entry I eliminates the
investment income balance accrued by the parent. d. Entry D removes intercompany dividend
payments e. Entry E records the current excess amortization expenses on the excess fair over
book value allocations. f. Entry P eliminates any intercompany payable/receivable balances. B.
Assuming that the acquisition was made during a previous fiscal period 1. Most of the
consolidation entries described above remain applicable regardless of the time that has elapsed
since the combination was formed. 2. The amount of the subsidiarys stockholders equity to be
removed in Entry S will differ each period to reflect the balance as of the beginning of the
current year

McGraw-Hill/Irwin
The McGraw-Hill Companies, Inc., 2009 3-2 Solutions Manual 3.
The allocations established by entry A will also change in each subsequent consolidation. Only
the unamortized balances remaining as of the beginning of the current period are recognized in
this entry. III. For a combination where the parent has applied an accounting method other than
the equity method, the consolidation procedures described above must be modified. A. If the
initial value method is applied by the parent company, the intercompany dividends eliminated in
Entry I will only consist of the dividends transferred from the subsidiary. No separate Entry D is
needed. B. If the partial equity method is in use, the intercompany income to be removed in
Entry I is the equity accrual only; no amortization expense is included. Intercompany dividends
are eliminated through Entry D. C. In any time period after the year of acquisition. 1. The initial
value method recognizes neither income in excess of dividend payments nor amortization
expense. Thus, for all years prior to the current period, both of these figures must be entered
directly into the consolidation. Entry*C is used for this purpose; it converts all prior amounts to
equity method balances. 2. The partial equity method does not recognize excess amortization
expenses. Therefore, Entry*C converts the appropriate account balances to the equity method
by recognizing the expense that relates to all of the past years. IV. Bargain purchases A. As
discussed in Chapter Two, bargain purchases occur when the parent company transfers
consideration less than net fair values of the subsidiarys assets acquired and liabilities assumed.
B. According to SFAS 141R, the parent recognizes an excess of net asset fair value over the
consideration transferred as a gain on bargain purchase. V. Goodwill Impairment SFAS No.
142 A. When is goodwill impaired? 1. Goodwill is considered impaired when the fair value of
its related reporting unit falls below its carrying value. Goodwill should not be amortized, but
should be tested for impairment at the reporting unit level (operating segment or lower
identifiable level). 2. Goodwill should be tested for impairment at least annually. 3. Interim
impairment testing may be necessary in the presence of negative indicators such as an adverse
change in the business climate or market, legal factors, regulatory action, an introduction of
competition, or a loss of key personnel. B. How is goodwill tested for impairment? 1. All
acquired goodwill should be assigned to reporting units. It would not be unusual for the total
amount of acquired goodwill to be divided among a number of reporting units. Goodwill may be
assigned to reporting units of the acquiring entity that are expected to benefit from the synergies
of the combination even though other assets or liabilities of the acquired entity may not be
assigned to that reporting unit. 2. Goodwill is tested for impairment using a two-step approach.
a. The first step simply compares the fair value of a reporting unit to its carrying amount. If the
fair value of the reporting unit exceeds its carrying amount, goodwill is not considered impaired
and no further analysis is necessary. b. The second step is a comparison of goodwill to its
carrying amount. If the implied value of a reporting units goodwill is less than its carrying
value, goodwill is considered impaired and a loss is recognized. The loss is equal to the amount
by which goodwill exceeds its implied value. 3. The implied value of goodwill should be
calculated in the same manner that goodwill is calculated in a business combination. That is, an
entity should allocate the fair value of the reporting unit to all of the assets and liabilities of that
unit (including any unrecognized intangible assets) as if the reporting unit had been acquired in a
business combination and the fair value of the reporting unit was the value assigned at a
subsidiarys acquisition date. The excess acquisition-date fair value over the amounts

assigned to assets and liabilities is the implied value of goodwill. This allocation is performed
only for purposes of testing goodwill for impairment and does not require entities to record the
step-up in net assets or any unrecognized intangible assets. C. How is the impairment
recognized in financial statements? A. The aggregate amount of goodwill impairment losses
should be presented as a separate line item in the operating section of the income statement
unless a goodwill impairment loss is associated with a discontinued operation. B. A goodwill
impairment loss associated with a discontinued operation should be included (on a net-of-tax
basis) within the results of discontinued operations. VI. Push-down accounting A. A subsidiary
may record any acquisition-date fair value allocations directly onto its own financial records
rather than through the use of a worksheet. Subsequent amortization expense on these allocations
could also be recorded by the subsidiary. B. Push-down accounting reports the assets and
liabilities of the subsidiary at the amount the new owner paid. It also assists the new owner in
evaluating the profitability that the subsidiary is adding to the business combination. C. Pushdown accounting can also make the consolidation process easier since allocations and
amortization need not be included as worksheet entries. VII. Contingent consideration A.
Under SFAS 141R, the fair value of any contingent consideration is included as part of the
consideration transferred. B. If the contingency is based on earnings or other financial
performance measures, changes in the fair value of the contingency are recognized in income as
they occur. C. If the contingency requires additional stock to be issued at a later date (or any
other equity issues), the acquisition-date fair value of the contingency is not adjusted over time.
Any subsequent shares issued as a consequence of the contingency are simply recorded at the
original acquisition-date fair value.
Current accounting standards suggest categories of intangible assets for possible recognition
when one business acquires another. Examples include noncompetition agreements, customer
lists, patents, subscriber lists, databases, trademarks, lease agreements, licenses, and many
others. All identified intangible assets should be amortized over their economic useful life
unless such life is considered indefinite. The term indefinite life is defined as a life that
extends beyond the foreseeable future. A recognized intangible asset with an indefinite life
should not be amortized unless and until its life is determined to be finite. Importantly,
indefinite does not mean infinite. Also, the useful life of an intangible asset should not be
considered indefinite because a precise finite life is not known.
For intangible assets with finite lives, the amortization method should reflect the pattern of
decline in the economic usefulness of the asset. If no such pattern is apparent, the straightline method of amortization should be used. The amount to be amortized should be the value
assigned to the intangible asset less any residual value. In most cases, the residual value is
presumed to be zero. However, that presumption can be overcome if the acquiring enterprise
has a commitment from a third party to purchase the intangible at the end of its useful life or
an observable market exists for the intangible asset.
The length of the amortization period for identifiable intangibles (i.e., those not included in
goodwill) depends primarily on the assumed economic life of the asset. Factors that should
be considered in determining the useful life of an intangible asset include

Legal, regulatory, or contractual provisions.

The effects of obsolescence, demand, competition, industry stability, rate of technological
change, and expected changes in distribution channels.
The enterprises expected use of the intangible asset.
The level of maintenance expenditure required to obtain the assets expected future
benefits.
Any recognized intangible assets considered to possess indefinite lives are not amortized but
instead are tested for impairment on an annual basis.14 To test for impairment, the carrying
amount of the intangible asset is compared to its fair value. If the fair value is less than the
carrying amount, then the intangible asset is considered impaired and an impairment loss is
recognized. The assets carrying amount is reduced accordingly.
(Hoyle 114-115)
Hoyle, Joe. Advanced Accounting, 11th Edition. McGraw-Hill Learning Solutions, 40953.
The citation provided is a guideline. Please check each citation for accuracy before use.
push down accounting should be used in the separate financial statements of a
substantially wholly owned subsidiary. That view is based on the notion that when the
form of ownership is within the control of the parent company, the accounting basis should
be the same whether the entity continues to exist or is merged into the parents operations.
If a purchase of a substantially wholly owned subsidiary is financed by debt of the
parent, that debt generally must be pushed down to the subsidiary. As a general rule, the
SEC requires push down accounting when the ownership change is greater than 95 percent
and objects to push down accounting when the ownership change is less than 80 percent.
However, if the acquired subsidiary has outstanding public debt or preferred stock, push
down accounting is encouraged by the SEC but not required.
(Hoyle 117)
Hoyle, Joe. Advanced Accounting, 11th Edition. McGraw-Hill Learning Solutions, 40953.
VitalBook file.
The citation provided is a guideline. Please check each citation for accuracy before use.