Chapter 12 – Supplement A
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Chapter 12
Supplement A
PREPARING CONSOLIDATED STATEMENTS
What Are Consolidated Statements?
Any corporate acquisition involves two companies. The parent company is the company that gains
control over the other company. The subsidiary company is the company that the parent acquires.
When a company acquires another and both companies continue their separate legal existence,
Notes to Consolidated Financial Statements
B. Summary Of Significant Accounting Policies
Basis of Presentation and Principles of Consolidation — The accompanying consolidated financial
statements have been prepared in accordance with generally accepted accounting principles (“GAAP”) in the
United States and include the assets, liabilities, results of operations and cash flows of the Company and its
majority-owned and controlled subsidiaries. All significant intercompany accounts and transactions have been
eliminated in consolidation.
Remember that consolidated statements make it appear as though a single company exists when
The PARENT COMPANY
is the entity that gains
control over another
two or more companies into
a single set of statements.
REAL WORLD EXCERPT
Washington Post
ANNUAL REPORT
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Recording Acquisition of a Controlling Interest
By offering cash or shares of its stock or a combination of the two to a target company’s shareholders,
one company can acquire control of another. When the target company’s shareholders accept the offer
record the acquisition as follows:
Debit Credit
Investments in Subsidiaries (+A). . . . . . . . . . . . . 100
Cash (-A) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100
Assets = Liabilities + Stockholders’ Equity
Investments in Subsidiaries +100
Cash – 100
Because the acquisition of INews is simply an exchange of shares among owners, no entry is made on
INews’s books. The spreadsheet in Exhibit 12.3 presents Washington Post’s and INews’s balance
sheets immediately after the acquisition is recorded by Washington Post. The Investment in
Subsidiaries account is included in Washington Post’s balance sheet.
Exhibit 12.3
Spreadsheet for Consolidated Balance Sheet on the Date of Acquisition
Immediately After Acquisition
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Preparing Consolidated Financial Statements after Acquisition
The Balance Sheet
In consolidation, the separate balance sheets of the parent (Washington Post) and the subsidiary
(INews) are combined into a single balance sheet. The investment account must be eliminated to
avoid double counting the subsidiary’s assets and liabilities and the parent company’s investment in
• INews had developed a good reputation with an important group of online investors, which
increased INews’s overall value. For these reasons, Washington Post was willing to pay more
to acquire INews’s stock. The $15 difference between the purchase price of the company and
the fair market value of its net assets (assets minus liabilities) is called goodwill. It may be
analyzed as follows:
To complete the process of consolidating Washington Post and INews, we must eliminate
Washington Post’s investment account and replace it with the assets and liabilities of INews along
with the acquired goodwill. In this process, the goodwill is reported separately, and INews’s assets
and liabilities must be adjusted to fair value for items where fair value is different than book value,
such as the plant and equipment in this illustration. We can accomplish this in the following five
steps:
1. Subtract the investment account balance of $100.
Chapter 12 – Supplement A:
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EXHIBIT 12.4
Consolidated Balance Sheet on the Date of Acquisition
WASHINGTON POST AND SUBSIDIARIES
Consolidated Balance Sheet
January 1, 2010 (dollars in millions)
$ 835
1,253
The Income Statement
When we prepared the consolidated balance sheet, we combined the separate balance sheets to make
it appear as if a single company exists. Consolidating the income statements requires a similar
process. The revenues and expenses generated by the parent company’s own operations, excluding
any investment income from the subsidiary, must now be combined with the subsidiary’s revenues
and expenses. The revaluation of assets to fair value, if any, also has implications for the
consolidated income statement. The increase in the assets must be depreciated or amortized in the
consolidation process.
In this example, preparing the consolidated income statement requires three steps (ignoring taxes):
1. Add Washington Post’s revenues from its own operations of $3,989 and INews’s revenues
of $120.
Other assets
Goodwill
Total assets
Current liabilities
Noncurrent liabilities
Chapter 12 – Supplement A:
Exhibit 12.5
Consolidated Income Statement
WASHINGTON POST AND SUBSIDIARIES
Consolidated Income Statement
Year Ended December 31, 2010
(dollars in millions)
DEMONSTRATION CASE D — Consolidation
On January 1, 2010, Connaught Company purchased 100 percent of the outstanding voting shares of London
Company on the open market for $85,000 cash. On the date of acquisition, the fair value of London Company’s
operational assets was $79,000.
Required:
1. Give the journal entry that Connaught Company should make on the date of acquisition. If none is required,
explain why.
SUGGESTED SOLUTION FOR CASE D
1. Jan. 1, 2010 Investment in Subsidiary (+A) . . . . . . . . . . . . . . . . . . . . . . . . 85,000
Cash (-A) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85,000
2. London Company does not record a journal entry related to the purchase of its stock by Connaught Company.
3. Purchase price for London Company $85,000
4. London Company’s assets should be included on the consolidated balance sheet at their fair values as of the
date of acquisition. The cost principle applies as it does with all asset acquisitions.
KEY TERMS
Consolidated Financial Statements p. 1
QUESTIONS
1. What is a parent–subsidiary relationship?
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MULTIPLE CHOICE QUESTION
1. Consolidated financial statements are required in which of the following situations?
a. Only when a company acquires another company for vertical integration.
EXERCISES
E12A-1 Interpreting Consolidation Policy
Toyota Motor Corporation produces passenger car brands Lexus, Toyota, and Scion. A recent annual report
includes the statement that “The consolidated financial statements include the accounts of the parent company
E12A-2 Analyzing Goodwill and Reporting the Consolidated Balance Sheet
On January 1, 2011, Acquire Co. purchased 100 percent of the outstanding voting shares of Sub Co. in the open
market for $85,000 cash. On that date, the separate balance sheets (summarized) of the two companies reported
the following book values:
Immediately after the Acquisition
January 1, 2011
Acquire Co. Sub Co.
Cash $ 11,500 $17,500
Investment in Sub Co. (at cost) 85,000
Property and equipment (net) 31,000 41,500
Total assets $127,500 $59,000
Required:
1. Give the journal entry that Acquire made at date of acquisition to record the investment. If none is required,
explain why.
ART: International icon
Chapter 12 – Supplement A:
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E12A-3 Determining Consolidated Net Income
Assume that O Company acquired I Company on January 1, 2011, for $100,000 cash. At the time, the net book
value of I Company was $86,000. The fair value was $93,000 with property and equipment having a fair value of
Chapter 12 – Supplement A:
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PROBLEM
P12A-1 Analyzing Goodwill and Reporting the Consolidated Balance Sheet
On January 4, 2011, Big Company acquired all 8,000 outstanding shares of Small Company for $12 cash per
share. Immediately after the acquisition, the balance sheets reflected the following:
Balance Sheets at January 4, 2011
Big
Company
Small
Company
Cash
$ 22,000
$23,000
Investment in Small Company
96,000
Property and equipment (net)
132,000
65,000*
Total assets
$250,000
$88,000
Required:
1. Give the journal entry that Big Company made to record the acquisition.
2. Analyze the acquisition to determine the amount of goodwill purchased.
Liabilities
$ 27,000
$12,000
Common stock (par $5)
120,000
Retained earnings
103,000
Total liabilities and stockholders’ equity
$250,000
$88,000