1. The usual impetus for transactions that create a long-term debtor-creditor relationship between members of a consolidated group is due to the:

Transcription

1 ultiple Choice 1. The usual impetus for transactions that create a long-term debtor-creditor relationship between members of a consolidated group is due to the: a. subsidiary's ability to borrow larger amounts of capital at more favorable terms than would be available to the parent. b. parent's ability to borrow larger amounts of capital at more favorable terms than would be available to the subsidiary. c. parent's desire to decentralize asset management and credit control. d. parent's desire to eliminate long-term debt. b The usual impetus for transactions that create a long-term debtor-creditor relationship between members of a consolidated group is due to the parent s ability to borrow larger amounts of capital at more favorable terms than would be available to the subsidiary. The parent may also desire to manage the capital needs of the subsidiary for better control of capital sources. E LEARNING OBJECTIVES: Introduction 2. The motivation of a parent company to purchase the outstanding bonds of a subsidiary could be to: a. replace the existing debt with new debt at a lower interest rate. b. reduce the parent company's acquisition price for the subsidiary. c. increase the parent company's ownership percentage in the subsidiary. d. create interest revenue to offset interest expense in future income statements. a Although not explicitly stated in the chapter, to replace existing debt with new debt at lower interest rates would be one reason a parent might purchase the outstanding bonds of a subsidiary. LEARNING OBJECTIVES: ADAC.FISC Intercompany debt that must be eliminated from consolidated financial statements may result from: a. one member of a consolidated group selling its bonds directly to another member of the group. b. one member of a consolidated group advancing funds to another member of the group so that the member may retire bonds it had issued to outside parties. c. one member of a consolidated group purchasing bonds from outside parties as an investment that had been issued to outside parities by another member of the group. d. all of the above. d All of these situations will result in intercompany debt that must be eliminated from consolidated financial statements. E LEARNING OBJECTIVES: ADAC.FISC Elimination procedures for intercompany bonds purchased from outside parties by another member of the consolidated group are: a. not needed except in the period of acquisition if purchased at par. Cengage Learning Testing, Powered by Cognero Page 1

2 b. not needed except in the period of acquisition if purchased at a premium or discount. c. not needed except in the period of acquisition if only a portion of the outstanding bonds are purchased. d. needed each period as long as the intercompany investment in bonds exists. d As long as intercompany debt exists, this debt must be eliminated from consolidated financial statements. E LEARNING OBJECTIVES: ADAC.FISC In years subsequent to the year one member of a consolidated group purchases another member s outstanding bonds from outside parties, Consolidated Income Statements: a. recognize a prorated share of any gain or loss from intercompany bonds. b. recognize a prorated share of any gain but would not show a share of a loss from intercompany bonds. c. recognize a prorated share of any loss but would not show a share of a gain from intercompany bonds. d. would not recognize any gain or loss from intercompany bonds. d In years subsequent to the year one member of a consolidated group purchases bonds of another member from outside parties, the bonds are effectively retired on a consolidated basis and a gain or loss is recognized in that year. Although the bonds will continue to exist and each entity will have balances pertaining to those bonds in subsequent years, those balances will be eliminated, so there will be no impact on the consolidated financial statements in subsequent years. E LEARNING OBJECTIVES: ADAC.FISC A subsidiary has outstanding $100,000 of 8% bonds that were issued at face value. The parent purchased all the bonds for $96,000 with 5 years remaining to maturity. How will the parent's use of the effective interest amortization rather than straight-line amortization of the discount affect the consolidated financial statements? a. The consolidated financial statements report the same information whether the parent uses straight-line or effective interest amortization on its investment in sub s bonds. b. Will result in a different gain on retirement c. Will result in more interest expense in the first year after the intercompany purchase. d. Will result in less interest expense in the first year after the intercompany purchase. a The consolidated financial statements will report the same information regardless of the amortization method used by the parent because all intercompany interest will be eliminated. E 7. In the year when one member of a consolidated group purchases from outside parties the bonds of another affiliate, the consolidated income statement includes: a. a gain if purchased above book value. b. a gain if purchased below book value. c. a loss if purchased below book value. d. a deferred gain if purchased above book value. b Cengage Learning Testing, Powered by Cognero Page 2

3 If one affiliate purchases the outstanding bonds of another affiliate for less than book value, the bonds are effectively retired which would result in a gain on the consolidated income statement. If the bonds are purchased for more than book value, a loss would result. E 8. On an income distribution schedule, any gain or loss resulting from intercompany bonds is charged to a. the issuer of the bonds. b. the purchaser of the bonds. c. allocation between the issuer and the purchaser. d. none of the above a When one affiliate purchases another affiliate s bonds from outside parties, the purchaser is viewed as an agent of the issuing affiliate, so the issuing affiliate bears the gain or loss. E 9. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 8%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 9% effective interest rate. How should this event be reflected in the current year's consolidated statements? a. The bonds remain in the balance sheet and are accounted for at a 7% effective rate. b. The bonds remain in the balance sheet and are accounted for at a 9% effective rate. c. Retirement of the bonds at a gain as of the purchase date. d. Retirement of the bonds at a loss as of the purchase date. c Bonds having a stated rate of 8% that were sold to yield 7% would be recorded at a premium on Company S books. If Company P purchased the debt at a price that reflected a current effective interest rate of 9%, it is likely that Company P would be paying less than face value for those bonds. If Company P is paying less than face value for bonds that have been recorded at a premium, on a consolidated basis, the entity will retire the bonds and recognize a gain. 10. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 6%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 9% effective interest rate. How should this event be reflected in the current year's consolidated statements? a. The bonds remain in the balance sheet and are accounted for at a 7% effective rate. b. The bonds remain in the balance sheet and are accounted for at a 9% effective rate. c. Retirement of the bonds at a gain as of the purchase date. d. Retirement of the bonds at a loss as of the purchase date. c Bonds having a stated rate of 6% that were sold to yield 7% would be recorded at a discount on Company S books. Cengage Learning Testing, Powered by Cognero Page 3

4 If Company P purchased the debt at a price that reflected a current effective interest rate of 9%, it is likely that Company P would be paying much less than face value for those bonds, and less than the recorded value, net of the discount. If Company P is paying less than the carrying value of the bonds net of the existing discount, on a consolidated basis, the entity will retire the bonds and recognize a gain. 11. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 6%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 6% effective interest rate. How should this event be reflected in the current year's consolidated statements? a. The bonds remain in the balance sheet and are accounted for at a 7% effective rate. b. The bonds remain in the balance sheet and are accounted for at a 9% effective rate. c. Retirement of the bonds at a gain as of the purchase date. d. Retirement of the bonds at a loss as of the purchase date. d Bonds having a stated rate of 6% that were sold to yield 7% would be recorded at a discount on Company S books. If Company P purchased the debt at a price that reflected a current effective interest rate of 6%, it is likely that Company P would be paying more than book value for those bonds. If Company P is paying more than book value for bonds that have been recorded at a discount, on a consolidated basis, the entity will retire the bonds and recognize a loss. 12. Company S is a 100%-owned subsidiary of Company P. On January 1, 2019, Company S has $200,000 of 8% face rate bonds outstanding, which were issued at face value. The bonds had 5 years to maturity on January 1, Premiums or discounts would be amortized on a straight-line basis. On that date, Company P purchased the bonds for $198,000. The amount on the consolidated balance sheet relative to the debt is: a. bonds payable $200,000. b. bonds payable $200,000, discount $2,000. c. bonds payable $200,000, discount $1,600. d. The bonds do not appear on the consolidated balance sheet. d When Company P purchased its subsidiary s bonds, it effectively retired those bonds on a consolidated basis; therefore, they will not appear on the consolidated balance sheet. 13. Company S is a 100%-owned subsidiary of Company P. On January 1, 2016, Company S has $100,000 of 8% face rate bonds outstanding. The bonds had 5 years to maturity on January 1, 2016, and had an unamortized discount of $5,000. On that date, Company P purchased the bonds for $99,000. The net adjustment needed to consolidate retained earnings on December 31, 2016 is. a. $(4,000) Cengage Learning Testing, Powered by Cognero Page 4

5 b. $(3,200) c. $(800) d. $0 d No adjustment to retained earnings is necessary in the year intercompany bonds have been purchased. 14. Sun Company is a 100%-owned subsidiary of Peter Company. On January 1, 2016, Sun Company has $500,000 of 8% face rate bonds outstanding, with an unamortized discount of $5,000 that is being amortized over a 5 year remaining life to maturity. On that date, Peter Company purchased the bonds for $497,000. The adjustment to the consolidated income of the two companies needed in the consolidation process for 2017 (the following year) is. a. $2,800 increase b. $400 decrease c. $400 increase d. $2,800 decrease c Cash paid by Peter Company for bonds $497,000 Net value of bonds: Face value of bonds outstanding $500,000 Less discount (5,000) 495,000 Loss on retirement of bonds $ 2,000 Increase to consolidated income for next 5 years ($2,000 / 5) resulting from elimination of intercompany interest income and expense. $ Company S is a 100%-owned subsidiary of Company P. Company P purchased, at a premium, Company S bonds that are outstanding and have a remaining discount. Consolidation theory takes the position that: a. interest expense should be adjusted to reflect the market value of the bonds on the date of Company P's purchase. b. the debt has been retired at a loss. c. the debt is outstanding but should be shown at face value. d. the gain or loss on retirement should be allocated over the remaining life of the bonds. b Whenever one company purchases the outstanding debt of an affiliate, it is treated as a retirement of debt for consolidated purposes. In this case, the retirement would be at a loss. Assume the following: Cash paid by Company P for bonds $105,000 Net value of bonds: Face value of bonds outstanding $100,000 Less discount (5,000) 95,000 Loss on retirement of bonds $ 10,000 Cengage Learning Testing, Powered by Cognero Page 5

6 16. Powell Company owns an 80% interest in Sauter, Inc. On January 1, 2016, Sauter issued $400,000 of 10-year, 12% bonds at a premium of $50,000. On December 31, 2021, 5 years after original issuance, Powell purchased all of the outstanding bonds for $390,000. Both firms use the straight-line method of amortization. What is the gain on retirement on the 2021 consolidated income statement? a. $12,500 b. $22,500 c. $10,000 d. $35,000 b Cash paid by Company P for bonds $390,000 Net value of bonds: Face value of bonds outstanding $400,000 Add premium 25, ,000 Gain on retirement of bonds $ 22, Company P owns 80% of Company S. On January 1, 2016 Company S has outstanding 6% bonds with a face value of $200,000 and an unamortized discount of $3,000, which is being amortized on a straight-line basis over a remaining term of 10 years. On January 1, 2016, Company P purchased all the bonds for $205,000. The premium also is amortized on a straight-line basis. The net impact of the purchase on the non-controlling interest as of December 31, 2016, is. a. $(8,000) b. $(1,600) c. $(1,440) d. $(1,200) c Cash paid by Company P for bonds $205,000 Net value of bonds: Face value of bonds outstanding $200,000 Less discount (3,000) 197,000 Loss on retirement of bonds - January 1, ,000 Interest adjustment needed for 2016 ($8,000 / 10 years) (800) $ 7,200 The impact on the NCI would be 20% of this amount of $1, Company S is a 100%-owned subsidiary of Company P. Company P purchased all the outstanding bonds of Company S at a discount. The bonds had a remaining issuance premium at the time of Company P's purchase. The bonds have 5 years to maturity. At the end of 5 years, consolidated retained earnings: a. is greater as a result of the purchase. b. is less as a result of the purchase. c. is not affected by the purchase. d. cannot be determined from the information provided. Cengage Learning Testing, Powered by Cognero Page 6

7 c At the end of five years, the bonds would have matured. The interest adjustments would be complete. 19. Powell Company owns an 80% interest in Sauter, Inc. On January 1, 2016, Sauter issued $400,000 of 10-year, 12% bonds at a premium of $50,000. On December 31, 2021, 5 years after original issuance, Powell purchased all of the outstanding bonds for $390,000. Both firms use the straight-line method of amortization. The interest adjustment in the 2021 subsidiary income distribution schedule is. a. $2,000 b. $5,000 c. $4,500 d. $0 c Cash paid by Company P for bonds $390,000 Net value of bonds: Face value of bonds outstanding $400,000 Add premium 25, ,000 Gain on retirement of bonds $ 22,500 Interest adjustment for remaining life of bonds would be $4,500 ($22,500 / 5) 20. When one member of a consolidated group purchases only part of the outstanding bonds of another member of the group (for example, 80% of the bonds), a. all bonds, and all the interest expense and interest revenue applicable to the bonds should be eliminated. b. 20% of the bonds, and 20% the interest expense and interest revenue applicable to the bonds should be eliminated. c. 80% of the bonds, and 80% the interest expense and interest revenue applicable to the bonds should be eliminated. d. none of the bonds, and none of the interest expense and interest revenue applicable to the bonds should be eliminated. c When one member of a consolidated group purchases a portion of the outstanding bonds of another member from outside parties, that portion of the bonds is effectively retired on a consolidated basis and a gain or loss is recognized in that year. All of the balances related to the bonds and interest revenue and expense relating to the portion of bonds purchased will be eliminated. E 21. Soap Company issued $200,000 of 8%, 5-year bonds on January 1, The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the Cengage Learning Testing, Powered by Cognero Page 7

8 outstanding bonds for $96,000. Both companies use the straight-line method of amortization. How much bond interest expense will appear on the December 31, 2018, consolidated income statement? a. $18,400 b. $16,000 c. $9,200 d. $8,000 a Amount of bonds outstanding with outside parties during year stated interest rate x 8% 16,000 Accretion of applicable discount ($12,000 /5) 2,400 $ 18, Soap Company issued $200,000 of 8%, 5-year bonds on January 1, The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the outstanding bonds for $96,000. Both companies use the straight-line method of amortization. How much interest expense will appear on the December 31, 2019, consolidated income statement? a. $18,400 b. $16,000 c. $9,200 d. $8,000 c Amount of bonds still outstanding with outside parties ($200,000 x 1/2) stated interest rate x 8% 8,000 Accretion of applicable discount [($12,000 x 1/2)/5] 1,200 $ 9, Soap Company issued $200,000 of 8%, 5-year bonds on January 1, The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the outstanding bonds for $96,000. Both companies use the straight-line method of amortization. What amount of gain or loss from retirement of debt will be reported on the 2018 consolidated financial statements? a. $1,600 gain b. $1,600 loss c. $1,200 gain d. $1,200 loss a Cash paid by Pumice for bonds $96,000 Net value of bonds: Face value of bonds outstanding ($200,000 x 1/2) $100,000 Cengage Learning Testing, Powered by Cognero Page 8

9 * 2 years of 5 have passed Less discount ($12,000 x 1/2 x 2/5*) (2,400) 97,600 Gain on retirement of bonds $ 1, The purchase of outstanding subsidiary bonds by the parent company has the same impact on consolidated statements as: a. the subsidiary retiring its own debt with the proceeds of new debt issued to outside parties. b. the subsidiary retiring the debt with the proceeds of a loan from the parent. c. the subsidiary retiring the debt with the proceeds of a new stock issue. d. allowing the bonds to continue to be held by outside interests. b The purchase of outstanding subsidiary bonds by the parent company has the same impact on consolidated statements as the subsidiary retiring the debt with proceeds of a loan from the parent as intercompany debt would be eliminated in both cases. This is not true of the other options. 25. Leasing subsidiaries are formed to achieve centralized asset management through leasing to affiliated firms, and when they are consolidated with the parent, they are consolidated a. only if the parent controls at least 20% of the leasing subsidiary. b. only if the parent controls at least 50% of the leasing subsidiary. c. only if the parent controls at least 90% of the leasing subsidiary. d. regardless of the ownership percentage of the parent. d When leasing subsidiaries exist to lease assets to affiliated companies, they are automatically consolidated with the parent regardless of the ownership percentage of the parent. LEARNING OBJECTIVES: ADAC.FISC The effect of an operating lease on the income distribution schedule: a. is non-existent. b. affects only the lessee's income. c. affects only the lessor's income. d. affects the amount of income or distribution of income between the non-controlling and controlling interests. a An operating lease will not have an impact on the amount of income or the income distribution schedule since the amount of rental income and expense eliminated would be the same. E LEARNING OBJECTIVES: ADAC.FISC Lease terms can be considered to be "significantly affected": a. when the terms are the same for affiliated firms as for independent firms. Cengage Learning Testing, Powered by Cognero Page 9

10 b. when the terms could not reasonably be expected to occur between independent firms. c. only if the lease is an operating lease to the lessee and lessor. d. only if the lease is a direct-financing lease to the lessee and lessor. b Lease terms would be considered significantly affected when they could not be reasonably expected to occur between independent parties. Examples include rental rates well below market or unusual lease terms. These instances are usually viewed as borrowing transactions. E LEARNING OBJECTIVES: ADAC.FISC The parent company leased a machine to its subsidiary using a direct-financing lease that included a bargain purchase option. As a result of the intercompany lease, the following items should be eliminated in the consolidation process: Depreciation achine Debt Interest Expense a. Yes Yes Yes Yes b. Yes Yes Yes No c. Yes No No No d. No Yes Yes No d The impact of a direct-financing lease transaction between a parent and its subsidiary on the consolidated financial statements is that the consolidated entity has an asset that is being depreciated over its useful life. All intercompany debt and interest balances and transactions are eliminated. LEARNING OBJECTIVES: ADAC.FISC Park owns an 80% interest in the common stock of Stable Company. Park leased a machine to Stable under a 5-year, direct financing lease with a bargain purchase option. The lease term began January 1, The impact of the lease on the Non-controlling share of income for 2019: a. is an increase. b. is a decrease. c. is zero. d. cannot be determined from the information given. c Because a direct-financing lease has no impact on consolidated net income, there is no impact on the NCI. LEARNING OBJECTIVES: ADAC.FISC Phil Company leased a machine to its 100%-owned subsidiary, Scout Company. The direct financing lease required annual lease payments in advance of $2,319 for 5 years. The present value of the minimum lease payments at 8% interest is $10,000. The adjustment needed to arrive at consolidated net income for the first year after the lease is. a. $0 b. $800 c. $2,319 d. $10,000 Cengage Learning Testing, Powered by Cognero Page 10

11 a The parent s interest income of $2,319 would be eliminated against the subsidiary s interest expense of $2,319, so there would be no impact on consolidated net income. E LEARNING OBJECTIVES: ADAC.FISC Phil Company leased a machine to its 100%-owned subsidiary, Scout Company. The direct financing lease required annual lease payments in advance of $2,319 for 5 years. The present value of the minimum lease payments at 8% interest is $10,000. The adjustment of assets and liabilities needed to prepare a consolidated balance sheet is to eliminate the: a. asset leased. b. asset leased and the obligation under the capital lease. c. obligation under the capital lease and the present value of the minimum lease payments. d. obligation under the capital lease. c On a consolidated basis, the asset being leased is treated as property, plant and equipment and is depreciated over its useful life. All balances relating to the financing part of the lease including the obligation under the capital lease, interest payable, the minimum lease payments receivable and the unearned interest income are eliminated. LEARNING OBJECTIVES: ADAC.FISC Under a sales-type lease between affiliated companies, how does the lessor treat the intercompany profit at the inception of the lease? a. It is recognized at the inception of the lease. b. It is deferred and amortized over the lessee s period of usage. c. It is deferred and recognized at the end of the lease term. d. There is no profit at the inception of the lease. b Under a sales-type lease between affiliated companies, the lessor defers any intercompany profit and recognizes it over the lessee s period of usage as a depreciation adjustment. LEARNING OBJECTIVES: ADAC.FISC Consolidation procedures for sales-type leases: a. allow for the recognition of the profit or loss from the lease by the lessee at the inception of the lease. b. allow for the recognition of the profit or loss from the lease by the lessor at the inception of the lease. c. defer the profit or loss and then amortize it over the lessee's period of usage. d. defer the profit or loss and then amortize it over the lessor's period of usage. c Consolidation procedures for sales-type leases defer the profit or loss and then amortize it over the lessee s period of usage. E LEARNING OBJECTIVES: ADAC.FISC Which of the following statements is true? a. No adjustments are made in the income distribution schedule as a result of operating, direct-financing, and Cengage Learning Testing, Powered by Cognero Page 11

12 sales-type leases. b. No adjustments are made in the income distribution schedule as a result of operating and direct-financing leases. c. No adjustments are made in the income distribution schedule as a result of operating and sales-type leases. d. No adjustments are made in the income distribution schedule as a result of direct-financing and sales-type leases. b No adjustments are made in the income distribution schedule as a result of operating and direct- financing leases as the elimination of these transactions have no impact on consolidated net income. However, the profit or loss resulting from a sales-type lease will be deferred on a consolidated basis in the period of sale and recognized in subsequent periods through a depreciation adjustment. These will impact the income distribution schedule. LEARNING OBJECTIVES: ADAC.FISC.5-4 ADAC.FISC.5-5 ADAC.FISC Which of the following statements is true? a. No elimination entries are required on a worksheet as a result of operating, direct-financing, and sales-type leases. b. No elimination entries are required on a worksheet as a result of direct-financing and sales-type leases. c. No elimination entries are required on a worksheet as a result of operating leases. d. All the preceding are false. d All intercompany balances relating to intercompany lease transactions will be eliminated in consolidation, regardless of the type of lease. E LEARNING OBJECTIVES: ADAC.FISC.5-4 ADAC.FISC.5-5 ADAC.FISC When there is an unguaranteed residual value for the lessor in a direct-financing lease, this means: a. the total payments to be received by the lessor will come from the lessee. b. the total payments to be received by the lessee will come from the lessor. c. a portion of the total payments to be received by the lessor will come from parties outside the consolidated group. d. a portion of the total payments to be received by the lessee will come from parties outside the consolidated group. c When there is an unguaranteed residual value for the lessor in a direct-financing lease, this means that a portion of the total payments to be received by the lessor will come from parties outside the consolidated group through ultimate sale of the asset or another lease after the first has expired. E LEARNING OBJECTIVES: ADAC.FISC What is recorded by the lessee and the lessor when an intercompany lease contains an unguaranteed residual value? Cengage Learning Testing, Powered by Cognero Page 12

13 Lessee Lessor a. Present value of minimum lease Present value of minimum lease payments payments and the unguaranteed residual value b. inimum lease payments payable inimum lease payments receivable and the unguaranteed residual value c. inimum lease payments payable Present value of minimum lease payments d. Present value of minimum lease inimum lease payments receivable and payments the unguaranteed residual value d When an intercompany lease contains an unguaranteed residual value, the lessee records the present value of the minimum lease payments as its obligation. The lessor will record the sum of its minimum lease payments receivable and the unguaranteed residual value, as well as a contra account, unearned interest income that reduces the gross investment to the market value of the asset at the inception of the lease. LEARNING OBJECTIVES: ADAC.FISC To eliminate intercompany bonds and interest expense of consolidated companies, Company P (Parent) and Company S (Subsidiary) which of the following is correct? a. Debit Interest Expense and credit Interest Income and credit Bonds Payable and debit Investment in Company S b. Credit Interest Expense and debit Interest Income and credit Bonds Payable and debit Investment in Company S c. Debit Interest Income and credit Interest Expense and debit any related Loss on Bond Retirement, if any, and debit Bonds Payable and credit Investment in Company S Bonds d. Debit Subsidiary Income and credit Investment in Company S Stock c ED 39. When a parent buys subsidiary bonds: a. The bonds become new investments/assets from a consolidated viewpoint and no elimination is necessary. b. The bonds become new investments/assets but the parent company may not retire subsidiary bonds by lending money. c. Intercompany interest expense/revenue and accrued interest receivable/payable are not eliminated as the new investments to the parent company and the new debt to the subsidiary company needs to be separately shown when consolidation occurs. d. The bonds are retired when consolidation occurs by elimination and in periods after the purchase need to be eliminated and retained earnings adjustment for any retirement gain or loss that has not been amortized. d EA Subjective Short Answer 40. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners' equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope Cengage Learning Testing, Powered by Cognero Page 13

14 accounts for its investment in Siegel using the simple equity method. On July 1, 2016, Siegel Company sold to outside investors $300,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1. During early 2019, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On July 1, 2019, Pope purchased $150,000 par value of Siegel's bonds, paying $163,000. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the straight-line method. Required: Complete the Figure 5-1 worksheet for consolidated financial statements for the year ended December 31, Round all computations to the nearest dollar. Figure 5-1 Trial Balance Eliminations and Pope Siegel Adjustments Account Titles Company Company Debit Credit Interest Receivable 7,500 Other Current Assets 157, ,000 Investment in Sub. Company 410,000 Investment in Sub. Bonds 162,278 Land 50,000 30,000 Buildings and Equipment 350, ,000 Rent Receivable (100,000) (50,000) Goodwill Interest Payable (15,000) Other Current Liabilities (120,000) (56,000) Bonds Payable, 10% (300,000) Other Long-Term Liabilities (200,000) Common Stock P Co. (200,000) Other Paid-in Capital P Co. (100,000) Retained Earnings P Co. (280,212) Common Stock S Co. (50,000) Other Paid-in Capital S Co. (70,000) Retained Earnings S Co. (180,000) Net Sales (500,000) (400,000) Cost of Goods Sold 300, ,000 Operating Expenses 100,000 50,000 Interest Expense 30,000 Interest Income (6,778) Subsidiary Income (80,000) Dividends Declared P Co. 50,000 Cengage Learning Testing, Powered by Cognero Page 14

15 Dividends Declared S Co. 20,000 Loss on Retirement of Bonds Consolidated Net Income To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int Consol. Control. Consol. Income Retained Balance Account Titles Statement NCI Earnings Sheet Interest Receivable Other Current Assets Investment in Sub. Company Investment in Sub. Bonds Land Buildings and Equipment Rent Receivable Goodwill Interest Payable Other Current Liabilities Bonds Payable, 10% Other Long-Term Liabilities Common Stock P Co. Other Paid-in Capital P Co. Retained Earnings P Co. Common Stock S Co. Other Paid-in Capital S Co. Retained Earnings S Co. Net Sales Cost of Goods Sold Operating Expenses Interest Expense Interest Income Subsidiary Income Dividends Declared P Co. Dividends Declared S Co. Loss on Retirement of Bonds Cengage Learning Testing, Powered by Cognero Page 15

16 Consolidated Net Income To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int For the worksheet solution, please refer to Answer 5-1. Trial Balance Answer 5-1 Eliminations and Pope Siegel Adjustments Account Titles Company Company Debit Credit Interest Receivable 7,500 (B1) 7,500 Other Current Assets 157, ,000 Investment in Sub. Company 410,000 (CY) 60,000 (EL) 300,000 (D) 50,000 Investment in Sub. Bonds 162,278 (B2) 162,278 Land 50,000 30,000 Buildings and Equipment 350, ,000 Accumulated depreciation (100,000) (50,000) Goodwill (D) 50,000 Interest Payable (15,000) (B1) 7,500 Other Current Liabilities (120,000) (56,000) Bonds Payable, 10% (300,000) (B2) 150,000 Other Long-Term Liabilities (200,000) Common Stock P Co. (200,000) Other Paid-in Capital P Co. (100,000) Retained Earnings P Co. (280,212) Common Stock S Co. (50,000) (EL) 50,000 Other Paid-in Capital S Co. (70,000) (EL) 70,000 Retained Earnings S Co. (180,000) (EL) 180,000 Net Sales (500,000) (400,000) Cost of Goods Sold 300, ,000 Operating Expenses 100,000 50,000 Interest Expense 30,000 (B2) 7,500 Interest Income (6,778) (B2) 6,778 Subsidiary Income (80,000) (CY) 80,000 Dividends declared P Co. 50,000 Dividends declared S Co. 20,000 (CY) 20,000 Loss on Retirement of Bonds (B2) 13,000 Consolidated Net Income Cengage Learning Testing, Powered by Cognero Page 16

17 To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int , ,278 (continued) Consol. Control. Consol. Income Retained Balance Account Titles Statement NCI Earnings Sheet Interest Receivable 0 Other Current Assets 528,212 Investment in Sub. Company 0 Investment in Sub. Bonds 0 Land 80,000 Buildings and Equipment 730,000 Accumulated depreciation (150,000) Goodwill 50,000 Interest Payable (7,500) Other Current Liabilities (176,000) Bonds Payable, 10% (150,000) Other Long-Term Liabilities (200,000) Common Stock P Co. (200,000) Other Paid-in Capital P Co. (100,000) Retained Earnings P Co. (280,212) Common Stock S Co. Other Paid-in Capital S Co. Retained Earnings S Co. Net Sales (900,000) Cost of Goods Sold 540,000 Operating Expenses 150,000 Interest Expense 22,500 Interest Income 0 Subsidiary Income 0 Dividends declared P Co. 50,000 Dividends declared S Co. Loss on Retirement of Bonds 13,000 Consolidated Net Income (174,500) To NCI 0 To Controlling Interest 174,500 (174,500) Total NCI 0 Ret. Earn. Contr. Int (404,712) (404,712) 0 Cengage Learning Testing, Powered by Cognero Page 17

18 Eliminations and Adjustments: (CY) (EL) Eliminate the current-year entries made in the investment account and in the Siegel income account. Eliminate the Siegel Company equity balances at the beginning of the year against the investment account. (D) Distribute the $50,000 excess of cost over book value to goodwill. ($300,000 - $250,000) (B1) Eliminate $7,500 of intercompany interest receivable and payable. ($150,000 x 10% / 2) NOTES: straight-line amortization; consolidation in year bonds are purchased 41. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners' equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope accounts for its investment in Siegel using the simple equity method. Also on July 1, 2016, Siegel Company sold to outside investors $200,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1. During early 2019, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On July 1, 2019, Pope purchased $100,000 par value of Siegel's bonds, paying $112,695. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the effective-interest method which has resulted in interest income of $4,508 and a balance in the Investment in Subsidiary Bonds account of $112,203. Required: Prepare the eliminating entries pertaining to the intercompany purchase of the bonds for the year ended December 31, (B1) Interest payable 5,000 Interest receivable 5,000 Eliminate $5,000 ($100,000 x 10% / 2) of intercompany interest receivable and payable. (payment date January 1) (B2) Interest income - Parent 4,508 Interest expense - Subsidiary 5,000 Eliminate all of the intercompany interest income and one-half of the interest expense for the last one-half of the year. Bonds payable - Subsidiary 100,000 Investment in Subsidiary bonds 112,203 Eliminate the balance in investment in bonds against one-half of the bonds payable. Loss on retirement of bonds 12,695 Cengage Learning Testing, Powered by Cognero Page 18

19 The resulting loss is $12,695 ($112,695 purchase price of bonds less $100,000 carrying value). NOTES: effective-interest amortization; consolidation in year bonds are purchased 42. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners' equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope accounts for its Investment in Siegel using the simple equity method. On January 1, 2016, Siegel Company sold to outside investors $300,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1. During 2016, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On December 31, 2016, Pope purchased $150,000 par value of Siegel's bonds, paying $163,000. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the straight-line method. Required: Prepare the eliminating entries pertaining to the intercompany purchase of bonds outstanding for the year ended December 31, Eliminations and Adjustments: (B1) Interest payable 7,500 Interest receivable 7,500 Eliminate $7,500 ($150,000 x 10% / 2) of intercompany interest receivable and payable. (payment date January 1) (B2) Interest income - Parent 13,556 Interest expense - Subsidiary 15,000 Eliminate all of the intercompany interest income ($15,000-1,444*) and one-half of the interest expense for the last one-half of the year. Bonds payable - Subsidiary 150,000 Investment in Subsidiary bonds 161,556 Eliminate the balance in investment in bonds ($163,000 - $1,444*) against onehalf of the bonds payable. Retained earnings 13,000 The resulting loss is $13,000 ($163,000 purchase price of bonds less $150,000 carrying value). Since the loss occurred in 2016, it is debited to retained earnings. *Annual adjustment to interest = $1,444 ($13,000 / 9). D Cengage Learning Testing, Powered by Cognero Page 19

20 NOTES: straight-line amortization; consolidation in year after bonds were purchased 43. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $450,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000, respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the cost method. On January 1, 2019, Subsidiary sold $100,000 par value of 6%, ten-year bonds for $97,000. The bonds pay interest semiannually on January 1 and July 1 of each year. On January 1, 2021, Parent repurchased all of Subsidiary's bonds for $96,400. The bonds are still held on December 31, Both companies have correctly recorded all entries relative to bonds and interest, using straight-line amortization for premium or discount. Required: Complete the Figure 5-4 worksheet for consolidated financial statements for the year ended of December 31, Round all computations to the nearest dollar. Figure 5-4 Trial Balance Eliminations and Parent Sub. Adjustments Account Titles Company Company Debit Credit Interest Receivable 3,000 Other Current Assets 214, ,500 Investment in Sub. Company 450,000 Investment in Sub. Bonds 96,800 Land 100,000 50,000 Buildings and Equipment 400, ,000 Rent Receivable (150,000) (70,000) Goodwill Interest Payable (3,000) Other Current Liabilities (114,000) (70,000) Bonds Payable, 6% (100,000) Discount on Bonds Payable 2,400 Other Long-Term Liabilities (200,000) Common Stock P Co. (50,000) Other Paid-in Capital P Co. (250,000) Retained Earnings P Co. (400,000) Common Stock S Co. (20,000) Other Paid-in Capital S Co. (130,000) Retained Earnings S Co. (250,000) Cengage Learning Testing, Powered by Cognero Page 20

21 Net Sales (630,000) (360,000) Cost of Goods Sold 350, ,000 Operating Expenses 163,200 73,800 Interest Expense 6,300 Interest Income (6,400) Dividend Income (27,000) Dividends Declared P Co. 50,000 Dividends Declared S Co. 30,000 Gain on Retirement of Bonds Consolidated Net Income To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int Consol. Control. Consol. Income Retained Balance Account Titles Statement NCI Earnings Sheet Interest Receivable Other Current Assets Investment in Sub. Company Investment in Sub. Bonds Land Buildings and Equipment Rent Receivable Goodwill Interest Payable Other Current Liabilities Bonds Payable, 6% Discount on Bonds Payable Other Long-Term Liabilities Common Stock P Co. Other Paid-in Capital P Co. Retained Earnings P Co. Common Stock S Co. Other Paid-in Capital S Co. Retained Earnings S Co. Net Sales Cost of Goods Sold Operating Expenses Interest Expense Cengage Learning Testing, Powered by Cognero Page 21

22 Interest Income Dividend Income Dividends Declared P Co. Dividends Declared S Co. Gain on Retirement of Bonds Consolidated Net Income To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int For the worksheet solution, please refer to Answer 5-4. Answer 5-4 Trial Balance Eliminations and Parent Sub. Adjustments Account Titles Company Company Debit Credit Interest Receivable 3,000 (B1) 3,000 Other Current Assets 214, ,500 Investment in Sub. Company 450,000 (CV) 45,000 (EL) 360,000 (D) 135,000 Investment in Sub. Bonds 96,800 (B2) 96,800 Land 100,000 50,000 Buildings and Equipment 400, ,000 Accumulated Depreciation (150,000) (70,000) Goodwill (D) 150,000 Interest Payable (3,000) (B1) 3,000 Other Current Liabilities (114,000) (70,000) Bonds Payable, 6% (100,000) (B2) 100,000 Discount on Bonds Payable 2,400 (B2) 2,400 Other Long-Term Liabilities (200,000) Common Stock P Co. (50,000) Other Paid-in Capital P Co. (250,000) Retained Earnings P Co. (400,000) (CV) 45,000 Common Stock S Co. (20,000) (EL) 18,000 Other Paid-in Capital S Co. (130,000) (EL) 117,000 Retained Earnings S Co. (250,000) (EL) 225,000 (D) 15,000 Cengage Learning Testing, Powered by Cognero Page 22

23 Net Sales (630,000) (360,000) Cost of Goods Sold 350, ,000 Operating Expenses 163,200 73,800 Interest Expense 6,300 (B2) 6,300 Interest Income (6,400) (B2) 6,400 Dividend Income (27,000) (CY) 27,000 Dividends Declared P Co. 50,000 Dividends Declared S Co. 30,000 (CY) 27,000 Gain on Retirement of Bonds (B2) 900 Consolidated Net Income To NCI To Controlling Interest Total NCI Ret. Earn. Contr. Int , ,400 Consol. Control. Consol. Income Retained Balance Account Titles Statement NCI Earnings Sheet Interest Receivable 0 Other Current Assets 554,900 Investment in Sub. Company 0 Investment in Sub. Bonds 0 Land 150,000 Buildings and Equipment 690,000 Accumulated Depreciation (220,000) Goodwill 150,000 Interest Payable 0 Other Current Liabilities (184,000) Bonds Payable, 6% 0 Discount on Bonds Payable 0 Other Long-Term Liabilities (200,000) Common Stock P Co. (50,000) Other Paid-in Capital P Co. (250,000) Retained Earnings P Co. (445,000) Common Stock S Co. (2,000) Other Paid-in Capital S Co. (13,000) Retained Earnings S Co. (40,000) Net Sales (990,000) Cost of Goods Sold 560,000 Cengage Learning Testing, Powered by Cognero Page 23

24 Operating Expenses 237,000 Interest Expense 0 Interest Income 0 Dividend Income 0 Dividends Declared P Co. 50,000 Dividends Declared S Co. 3,000 Gain on Retirement of Bonds (900) Consolidated Net Income (193,900) To NCI 7,070 (7,070) To Controlling Interest 186,830 (186,830) Total NCI (59,070) (59,070) Ret. Earn. Contr. Int ,830 (581,830) 0 Determination and Distribution of Excess Schedule: Company Fair Value Parent Price (90%) NCI Value (10%) Fair value of subsidiary $500,000 $450,000 $ 50,000 Less book value of interest acquired: Common stock 20,000 Paid-in capital in excess of par 130,000 Retained earnings 200, , , ,000 Interest acquired 90% 10% Book value 315,000 35,000 Excess of fair value over book value $150,000 $135,000 $ 15,000 All assigned to goodwill $150,000 Eliminations and Adjustments: (CV) (CY) (EL) (D) Convert to simple equity method as of January 1, 2021 (90% of $50,000 increase in Sub s retained earnings from January 1, 2019 to January 1, 2021). Eliminate Parent s dividend income against dividends declared by Subsidiary. Eliminate 90% of the Subsidiary Company equity balances at the beginning of the year against the investment account. Distribute the $150,000 excess of cost over book value to goodwill; allocate to Parent and NCI. (B1) Eliminate $3,000 of intercompany interest receivable and payable. ($100,000 x 6% x 1/2) (B2) Eliminate all of the intercompany interest income and expense. Eliminate the balances in investment in bonds, bonds payable, and discount on bonds payable. The resulting gain of $900 is the gain as of beginning of year: on January 1, 2021 $97,300* carrying value of bonds less $96,400 purchase price. *Bond purchase amount was $97,000 + $300 amortization of discount ($3,000 / 10). Subsidiary Company Income Distribution Schedule Interest adjustment 100 Internally generated net income 69,900 Gain on retirement 900 Adjusted income 70,700 NCI Share 10% NCI 7,070 Cengage Learning Testing, Powered by Cognero Page 24

25 Parent Company Income Distribution Schedule Internally generated net income 123,200 90% Sub's adjusted income 63,630 Controlling interest 186,830 NOTES: cost method; straight-line amortization; consolidation in year bonds are purchased 44. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000, respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the simple equity method. On January 1, 2019, Subsidiary sold $100,000 par value of 6%, ten-year bonds for $97,000. The bonds pay interest semiannually on January 1 and July 1 of each year. On January 1, 2021, Parent repurchased all of Subsidiary's bonds for $96,400. The bonds are still held on December 31, Both companies have correctly recorded all entries relative to bonds and interest, using straight-line amortization for premium or discount. Required: Prepare the eliminating entries pertaining to the intercompany purchase of bonds for the year ended December 31, Eliminations and Adjustments: (B1) Interest payable (1) 3,000 Interest receivable 3,000 Eliminate intercompany interest receivable and payable. (payment date January 1) (B2) Interest income - Parent (2) 6,400 Interest expense - Subsidiary (3) 6,300 Eliminate all of the intercompany interest income and expense for the year. Bonds payable - Subsidiary 100,000 Discount on bonds payable (4) 2,400 Investment in Subsidiary bonds (5) 96,800 Eliminate the balance in investment in bonds against one-half of the bonds payable. Gain on retirement of bonds (6) 900 The resulting gain is $900 ($97,300 carrying value of bonds less $96,400 purchase price). (1) $100,000 x 6% x 1/2 = $3,000 (2) Discount on parent purchase $100,000 - $96,400 = 3,600 / 9 = $400 amortization of Cengage Learning Testing, Powered by Cognero Page 25

26 discount. Interest income = $6,400 (6, ) (3) Original bond discount = $3,000 ($100,000-97,000); amortization of discount is $300 per year ($3,000 / 10). Interest expense = $6,300 (6, ) (4) $3,000 - ($300 x 2 years) = 2,400 (5) $96, = 96,800 (6) Gain is $900 ($97, ) carrying value of bonds less $96,400 purchase price NOTES: straight-line amortization; consolidation in year bonds were purchased 45. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent account for the Investment in Subsidiary using the simple equity method. On July 1, 2019, Subsidiary sold $100,000 par value of 9%, ten-year bonds for $106,755, which resulted in an effective interest rate of 8%. The bonds pay interest semi-annually on January 1 and July 1 of each year. Subsidiary uses the effective-interest method of amortizing the premium. An amortization table for 2019 and 2021 is presented below: Date Cash Int Interest Exp Premium Amort Premium Bal Carrying Value 7/1/19 6, ,755 12/31/19 4,500 4, , ,525 7/1/21 4,500 4, , ,286 12/31/21 4,500 4, , ,037 On July 1, 2021, Parent repurchased all of Par's bonds for $94,153, which resulted in an effective interest rate of 10%. The bonds are still held at year end. Both companies have correctly recorded all entries relative to bonds and interest. The balance in the Investment in Subsidiary Bonds account is $94,361 at December 31, 2021, and the parent recognized interest income of $4,708 during the period. Required: Prepare the eliminating entries pertaining to the intercompany purchase of bonds for the year ending December 31, Eliminations and Adjustments: (B1) Interest payable (1) 4,500 Interest receivable 4,500 Eliminate intercompany interest receivable and payable. (payment date January 1) (B2) Interest income - Parent 4,708 Interest expense - Subsidiary 4,251 Eliminate all of the intercompany interest income and expense for the year. Bonds payable - Subsidiary 100,000 Premium on bond payable 6,037 Investment in Subsidiary bonds 94,361 Eliminate the balance in investment in Cengage Learning Testing, Powered by Cognero Page 26