Consolidation working papers for parent company equity method of accounting

Transcription

1 C H A P T E R 5 ELECTRONIC SUPPLEMENT TO CHAPTER 5 Consolidation working papers for parent company equity method of accounting were discussed in Chapter 5. Those illustrations are repeated here for an incomplete equity method and the cost method of parent company accounting. As in the supplement to Chapter 4, this supplement departs from the normal numerical sequencing to make it easier to compare the alternative working paper formats. The exhibits labeled Exhibit I5-7 and I5-8 are for incomplete equity method accounting, and Exhibit C5-7 is for cost method accounting with an initial conversion to equity method accounting. Exhibit T5-8 provides an illustration of the traditional cost method accounting approach, without the initial conversion to the equity method. These exhibits correspond to equity method Exhibits 5-7 and 5-8 in the chapter. CONSOLIDATION EXAMPLE INTERCOMPANY PROFIT FROM DOWNSTREAM SALES Seay Corporation is a 90%-owned subsidiary of Peak Corporation, acquired for $94,500 cash on July 1, 2003, when Seay s net assets consisted of $100,000 capital stock and $5,000 retained earnings. The cost of Peak s 90% interest in Seay was equal to book value and fair value of the interest acquired ($105,000 90%), and accordingly, no allocation to identifiable and unidentifiable assets was necessary. Peak sells inventory items to Seay on a regular basis, and the intercompany transaction data for 2007 are as follows: Sales to Seay in 2007 (cost $15,000), selling price $20,000 Unrealized profits in Seay s inventory at December 31, ,000 Unrealized profits in Seay s inventory at December 31, ,500 Seay s accounts payable to Peak at December 31, ,000 Incomplete Equity Method Assume that Peak failed to consider its intercompany transactions in accounting for its investment in Seay during 2006 and In that case, both Peak s investment in Seay and its retained earnings account balances at December 31, 2006, would be $2,000 greater than under the equity method. This $2,000 overstatement is the result of failing to reduce investment and investment income amounts for the $2,000 unrealized profit in The amount of overstatement of Peak s investment in Seay and retained earnings balances Electronic Supplement to Chapter 5 1

2 would increase by $500 to $2,500 at December 31, 2007, because the $2,000 unrealized profits deferred in 2006 would not be recognized in Peak s 2007 income and the $2,500 unrealized profit at year-end 2007 would not be excluded from Peak s income. The following table summarizes these observations. Incomplete Equity Overstated Equity Method + Understated Method Investment balance at December 31, 2006 $130,500 $2,000 $128,500 Income from Seay in ,000 +2,000 2,500 26,500 Dividends received in 2007 (9,000) (9,000) Investment balance at December 31, 2007 $148,500 $2,500 $146,000 The errors of omitting the intercompany inventory profits affect the investment in Seay and retained earnings accounts of Peak by the same amount. CONVERSION TO EQUITY METHOD APPROACH We convert the working papers for Peak and Seay for 2007 to the equity method with the following working paper entry to correct for the omissions on Peak s books: a Income from Seay ( R, SE) 500 Retained earnings Peak (beginning) ( SE) 2,000 Investment in Seay ( A) 2,500 After entering this working paper correction, the other working paper entries would be the same as those illustrated in the consolidation working papers of Exhibit 5-7. Peak could also record this entry on its separate books before closing in 2007 to correct for all prior errors resulting from the misapplication of the equity method. TRADITIONAL WORKING PAPER SOLUTION FOR INCOMPLETE EQUITY METHOD The initial approach to consolidating Peak and Seay financial statements under an incomplete equity method converts the income from subsidiary, investment in subsidiary, and retained earnings balances to a complete equity basis. Alternatively, we can adjust the consolidation working paper entries to accommodate an incomplete equity method without conversion to the equity basis. Exhibit I5-7 illustrates this alternative working paper approach. Only entries b and d differ from those appearing in Exhibit 5-7 under the equity method. We reproduce these two working paper entries for convenient reference: b Retained earnings Peak January 1 ( SE) 2,000 Cost of goods sold ( E, +SE) 2,000 To adjust cost of goods sold and Peak s beginning-of-theperiod retained earnings for unrealized profits in the beginning inventory. d Income from Seay ( R, SE) 27,000 Dividends (+SE) 9,000 Investment in Seay ( A) 18,000 To eliminate investment income (as recorded by Peak) and 90% of Seay s dividends and to reduce the investment account to its beginning-of-the-period balance. Beginning parent company retained earnings is overstated because Peak failed to eliminate the $2,000 unrealized profits in The overstatement amount is the difference between the transfer price and historical cost of the merchandise sold downstream. Entry b decreases Peak s beginning retained earnings and cost of goods sold for realized profits in the beginning inventory. Entry d eliminates the investment income recognized on Peak s books and dividends received from Seay. Entry d also adjusts the investment account to its beginning-of-the-period balance. 2 ADVANCED ACCOUNTING

3 EXHIBIT I5-7 Intercompany Profits on Downstream Sales Incomplete Equity Method PEAK CORPORATION AND SUBSIDIARY CONSOLIDATION WORKING PAPERS FOR THE YEAR ENDED DECEMBER 31, 2007 (IN THOUSANDS) Adjustments and Eliminations 90% Consolidated Peak Seay Debits Credits Statements Income Statement Net sales $1,000 $300 a 20 $1,280 Income from Seay 27 d 27 Cost of goods sold (550) (200) c 2.5 a 20 b 2 (730.5) Other expenses (350) (70) (420) Minority interest expense ($30,000 10%) e 3 (3) Net income $ 127 $ 30 $ Retained Earnings Retained earnings Peak $ 196 b 2 $ 194 Retained earnings Seay $ 45 f 45 Net income Dividends (50) (10) d 9 e 1 (50) Retained earnings December 31 $ 273 $ 65 $ Balance Sheet Cash $ 30 $ 5 $ 35 Accounts receivable g Inventories c Other current assets Plant and equipment Investment in Seay d 18 f $1,202.5 $200 $1,241.5 Accounts payable $ 80 $ 15 g 10 $ 85 Other liabilities Capital stock f Retained earnings $1,202.5 $200 Minority interest January 1 f 14.5 Minority interest December 31 e $1,241.5 Electronic Supplement to Chapter 5 3

4 EXHIBIT C5-6 Peak and Subsidiary Cost-to-Equity Conversion Schedule Prior Year s Effect 90% of Seay s increase in undistributed earnings from July 1, 2003, to December 31, 2006 ($45,000 $5,000) 90% $36,000 $36,000 Unrealized profit in Seay s inventory at December 31, 2006 (2,000) (2,000) Retained Earnings Investment Income Dividend 12/31/06 in Seay from Seay Income Current Year s Effect Reclassify dividend income as investment decrease ($10,000 90%) (9,000) $(9,000) Equity in Seay s income for 2009 ($30,000 90%) 27,000 $27,000 Unrealized profit in Seay s December 31, 2006, inventory 2,000 2,000 Unrealized profit in Seay s December 31, 2007, inventory (2,500) (2,500) 2007 working paper adjustments to convert from cost to equity $34,000 $51,500 $26,500 $(9,000) Cost Method If Peak accounts for its investment in Seay using the cost method, the investment account and the December 31, 2007, retained earnings are understated by equal amounts in the parent s separate balance sheet. Also, instead of income from Seay, the income statement for 2007 shows dividend income of $9,000. The investment in Seay account is $94,500 the original amount paid by Peak for its investment. CONVERSION TO EQUITY METHOD APPROACH The cost-to-equity conversion schedule in Exhibit C5-6 is based on the same data as under the equity method for Peak and Seay, except that Peak maintains its investment in Seay account using the cost method. The schedule provides information necessary to adjust the working paper accounts to what they would have been had Peak used the equity method. We prepare the following consolidation working paper entry from the schedule: a Dividend income ( R, SE) 9,000 Investment in Seay (+A) 51,500 Retained earnings Peak (+SE) 34,000 Income from Seay (R, +SE) 26,500 To eliminate dividend income, enter income from Seay, adjust the investment in Seay account to an equity basis, and convert Peak s retained earnings to beginning consolidated retained earnings. After we enter this working paper adjustment, the other working paper entries are exactly the same as those in Exhibit 5-7 under the equity method. The parent company may also record this entry on its books before closing in 2007 to convert the parent company records to an equity basis. TRADITIONAL WORKING PAPER SOLUTION FOR COST METHOD When Peak accounts for its investment in Seay by the cost method, the financial statements of Peak and Seay are consolidated without converting to the equity method. Exhibit C5-7 illustrates consolidation working papers when the parent company accounts for its investment under the cost method without a working paper entry for conversion to the equity method. Working paper entries from Exhibit C5-7 are reproduced for convenient reference: a Sales ( R, SE) 20,000 Cost of goods sold ( E, +SE) 20,000 To eliminate intercompany sales and related cost of goods sold. 4 ADVANCED ACCOUNTING

5 EXHIBIT C5-7 Intercompany Profits on Downstream Sales Cost Method with Initial Conversion to Equity PEAK CORPORATION AND SUBSIDIARY CONSOLIDATION WORKING PAPERS FOR THE YEAR ENDED DECEMBER 31, 2007 (IN THOUSANDS) Adjustments and Eliminations 90% Consolidated Peak Seay Debits Credits Statements Income Statement Net sales $1,000 $300 a 20 $1,280 Dividend Income 9 d 9 Cost of goods sold (550) (200) c 2.5 a 20 b 2 (730.5) Other expenses (350) (70) (420) Minority interest expense ($30,000 10%) e 3 (3) Net income $ 109 $ 30 $ Retained Earnings Retained earnings Peak $ 160 b 2 f 36 $ 194 Retained earnings Seay $ 45 g 45 Net income Dividends (50) (10) d 9 e 1 (50) Retained earnings December 31 $ 219 $ 65 $ Balance Sheet Cash $ 30 $ 5 $ 35 Accounts receivable h Inventories c Other current assets Plant and equipment Investment in Seay 94.5 f 36 g $1,148.5 $200 $1,241.5 Accounts payable $ 80 $ 15 h 10 $ 85 Other liabilities Capital stock g Retained earnings $1,148.5 $200 Minority interest January 1 g 14.5 Minority interest December 31 e $1,241.5 Electronic Supplement to Chapter 5 5

6 b Retained earnings Peak January 1 ( SE) 2,000 Cost of goods sold ( E, +SE) 2,000 To adjust cost of goods sold and Peak s beginning-of-the-period retained earnings for unrealized profits in the beginning inventory. c Cost of goods sold (E, SE) 2,500 Inventories ( A) 2,500 To eliminate unrealized profits in ending inventory. d Dividend income ( R, SE) 9,000 Dividends (+SE) 9,000 To eliminate dividend income and 90% of Seay s dividends. e Minority interest expense (E, SE) 3,000 Dividends Seay (+SE) 1,000 Minority interest (+L) 2,000 To enter minority interest share of subsidiary income and dividends. f Investment in Seay (+A) 36,000 Retained earnings Peak January 1 (+SE) 36,000 To increase Peak s beginning retained earnings for its share of Seay s retained earnings increase between the date of acquisition and the beginning of the period. g Capital stock Seay ( SE) 100,000 Retained earnings Seay ( SE) 45,000 Investment in Seay ( A) 130,500 Minority interest January 1 (+L) 14,500 To eliminate reciprocal investment and equity balances. h Accounts payable ( L) 10,000 Accounts receivable ( A) 10,000 To eliminate reciprocal receivables and payables. Entries a, b, and c are the same as those in Exhibit I5-7 under the incomplete equity method. Under the cost method, the balance of Peak s investment in Seay account remains at the $94,500 original cost. Peak recognizes dividend income but does not record its share of Seay s income or eliminate intercompany profits. Entry d eliminates dividend income and 90% of Seay s dividends. Entry e records minority interest in Seay s earnings and dividends. Entry f establishes reciprocity between the investment in Seay account balance and Seay s equity balances at the beginning of the period ($145,000 90%). Entries g and h are the same as under the equity method. CONSOLIDATION EXAMPLE INTERCOMPANY PROFITS FROM UPSTREAM SALES Smith Corporation is an 80%-owned subsidiary of Poch Corporation, acquired for $480,000 on January 2, 2003, when Smith s stockholders equity consisted of $500,000 capital stock and $100,000 retained earnings. The investment cost was equal to the book value and fair value of Smith s net assets acquired, so no cost/book value differential resulted from the business combination. Smith Corporation sells inventory items to Poch Corporation on a regular basis. The intercompany transaction data for 2004 are as follows: Sales to Poch in 2004 $300,000 Unrealized profits in Poch s inventory at December 31, ,000 Unrealized profits in Poch s inventory at December 31, ,000 Intercompany accounts receivable and payable at December 31, ,000 6 ADVANCED ACCOUNTING

7 Incomplete Equity Method Assume that Poch Corporation failed to consider its intercompany transactions in accounting for its investment in Smith for 2003 and In that case, both Poch s investment in Smith and its retained earnings account balances at December 31, 2003, are $32,000 greater than under the equity method. This $32,000 overstatement is the result of Poch s failure to reduce investment and investment income accounts for 80% of the $40,000 unrealized inventory profit in By December 31, 2004, the overstatement decreases to $24,000 because the $32,000 deferred from 2003 is not recognized in Poch s income for 2004, and the $24,000 unrealized profit for 2004 (80% of $30,000 unrealized profit at December 31, 2004) is not excluded from Poch s 2004 income. These observations are summarized by comparison with the equity method example already illustrated (in thousands): Incomplete Equity Equity Overstated Method Method + Understated (see Exhibit 5-8) Investment balance at December 31, 2003 $600 $32 $568 Income from Smith in Dividends received in 2004 (40) (40) Investment balance at December 31, 2004 $640 $24 $616 CONVERSION TO EQUITY METHOD APPROACH The errors from omitting the intercompany profits in 2003 and 2004 affect the investment in Smith and retained earnings accounts of Poch by equal amounts. A working paper entry to correct for the omissions on Poch s books in the 2004 consolidation working papers of Poch and Subsidiary is as follows: a Retained earnings Poch ( SE) 32,000 Income from Smith (R, +SE) 8,000 Investment in Smith ( A) 24,000 This working paper entry converts the separate accounts of Poch from the incomplete equity to the equity method for working paper utilization. After entering the conversion in the working papers, the other working paper entries are the same as those illustrated in the consolidation working papers of Exhibit 5-8. The conversion entry could also be recorded in Poch s separate records before closing in 2004 to correct for the 2003 and 2004 errors of omission. TRADITIONAL WORKING PAPER SOLUTION FOR INCOMPLETE EQUITY METHOD Exhibit I5-8 illustrates the traditional approach to consolidating the financial statements of Poch and Smith under an incomplete equity method. Beginning parent company retained earnings is overstated by Poch s share of the unrealized profits in Poch s December 31, 2003, inventory of goods acquired from Smith. Entry b eliminates the $40,000 cost-of-goods-sold effect of the intercompany profits in Poch s beginning inventory, and allocates it 80% to Poch s beginning-of-the-period retained earnings and 20% to beginning-of-the-period minority interest. Entry d eliminates income from Smith (as recorded by Poch) and 80% of Smith s dividends, and reduces the investment account to its beginning-of-theperiod balance. Other entries in Exhibit I5-8 are the same as those under the equity method. Cost Method If Poch Corporation uses the cost method of accounting for its investment in Smith for 2003 and 2004, its investment in Smith account remains at $480,000, the original cost of the investment. Assume the same facts for Poch and Smith as shown in Exhibit 5-8 under the equity method, except that Poch accounts for the investment in Smith by the cost method. CONVERSION TO EQUITY METHOD APPROACH Exhibit C5-9 provides data for the working paper entry to convert Poch s cost-based accounting records to the equity basis. We use the information in the cost-to-equity conversion schedule to construct a consolidation working paper entry for Poch and Smith as follows: Electronic Supplement to Chapter 5 7

8 EXHIBIT I5-8 Intercompany Profits on Upstream Sales Incomplete Equity Method POCH CORPORATION AND SUBSIDIARY CONSOLIDATION WORKING PAPERS FOR THE YEAR ENDED DECEMBER 31, 2004 (IN THOUSANDS) Adjustments and Eliminations 80% Consolidated Prep Smith Debits Credits Statements Income Statement Sales $3,000 $1,500 a 300 $4,200 Income from Smith 80 d 80 Cost of goods sold (2,000) (1,000) c 30 a 300 (2,690) b 40 Other expenses (588) (400) (988) Minority interest expense* e 22 (22) Net income $ 492 $ 100 $ 500 Retained Earnings Retained earnings Poch $1,032 b 32 $1,000 Retained earnings Smith $ 250 f 250 Add: Net income Deduct: Dividends (400) (50) d 40 e 10 (400) Retained earnings December 31 $1,124 $ 300 $1,100 Balance Sheet Cash $ 200 $ 50 $ 250 Accounts receivable g Inventories 1, c 30 1,270 Other current assets Plant and equipment net 2, ,500 Investment in Smith 640 d 40 f 600 $5,024 $1,000 $5,304 Accounts payable $ 500 $ 150 g 50 $ 600 Other liabilities Capital stock 3, f 500 3,000 Retained earnings 1, ,100 $5,024 $1,000 Minority interest January 1 b 8 f 150 Minority interest December 31 e $5,304 *Minority interest expense ($100,000 + $40,000 $30,000) 20% = $22,000 8 ADVANCED ACCOUNTING

9 EXHIBIT C5-9 Poch and Subsidiary Cost-to-Equity Conversion Schedule Prior Years Effect 80% of increase in Smith s undistributed earnings from January 2, 2003, to December 31, 2003 ($250,000 $100,000) 80% $120,000 $120,000 80% of unrealized profit in Poch s December 31, 2003, inventory (40,000 80%) (32,000) (32,000) Poch s Retained Earnings Investment Income from Dividend 12/31/03 in Smith Smith Income Current Years Effect Reclassify dividend income as investment decrease ($50,000 dividends 80%) (40,000) $(40,000) Equity in Smith s 2004 income ($100,000 80%) 80,000 $80,000 80% of unrealized profit in Poch s December 31, 2003, inventory 32,000 32,000 80% of unrealized profit in Poch s December 31, 2004, inventory ($30,000 80%) (24,000) (24,000) 2004 working paper adjustments to convert from cost to equity $ 88,000 $136,000 $88,000 $(40,000) a Dividend income ( R, SE) 40,000 Investment in Smith (+A) 136,000 Income from Smith (R, +SE) 88,000 Retained earnings Poch (+SE) 88,000 To eliminate dividend income, enter income from Smith, adjust the investment in Smith account to an equity basis, and convert Poch s beginning retained earnings into beginning consolidated retained earnings. This entry is the first working paper adjustment, after which other working paper entries are the same as those prepared when using the equity method. The cost-to-equity conversion entry may be recorded on the parent company books before closing in 2004 to convert the parent company records to an equity basis. TRADITIONAL WORKING PAPER SOLUTION FOR THE COST METHOD Exhibit T5-8 illustrates working paper procedures to consolidate the financial statements of Poch and Smith without converting to the equity method. Entries a, b, and c under the cost method are identical to those under an incomplete equity method. Entry d eliminates dividend income and 80% of Smith s dividends. Entry e records the minority interest in Smith s earnings and dividends. Entry f takes up Poch s share of Smith s retained earnings increase between the date of acquisition of the investment and the beginning of 2004, thereby establishing reciprocity between the investment account at the beginning of the period and 80% of Smith s $750,000 equity at the same date. Entries d and f are reproduced for convenient reference: d Dividend income ( R, SE) 40,000 Dividends (+SE) 40,000 To eliminate dividend income and 80% of Smith s dividends. f Investment in Smith (+A) 120,000 Retained earnings Poch January 1 (+SE) 120,000 To establish reciprocity between parent s beginning-of-the-period retained earnings and the investment account at the same date. Electronic Supplement to Chapter 5 9

10 EXHIBIT T5-8 Intercompany Profits on Upstream Sales Traditional Cost Method POCH CORPORATION AND SUBSIDIARY CONSOLIDATION WORKING PAPERS FOR THE YEAR ENDED DECEMBER 31, 2004 (IN THOUSANDS) Adjustments and Eliminations 80% Consolidated Prep Smith Debits Credits Statements Income Statement Sales $3,000 $1,500 a 300 $4,200 Income from Smith 40 d 40 Cost of goods sold (2,000) (1,000) c 30 a 300 (2,690) b 40 Other expenses (588) (400) (988) Minority interest expense* e 22 (22) Net income $ 452 $ 100 $ 500 Retained Earnings Retained earnings Poch $ 912 b 32 f 120 $1,000 Retained earnings Smith $ 250 g 250 Add: Net income Deduct: Dividends (400) (50) d 40 e 10 (400) Retained earnings December 31 $ 964 $ 300 $1,100 Balance Sheet Cash $ 200 $ 50 $ 250 Accounts receivable h Inventories 1, c 30 1,270 Other current assets Plant and equipment net 2, ,500 Investment in Smith 480 f 120 g 600 $4,864 $1,000 $5,304 Accounts payable $ 500 $ 150 h 50 $ 600 Other liabilities Capital stock 3, g 500 3,000 Retained earnings ,100 $4,864 $1,000 Minority interest January 1 b 8 g 150 Minority interest December 31 e $5,304 *Minority interest expense ($100,000 + $40,000 $30,000) 20% = $22, ADVANCED ACCOUNTING

11 Entry g eliminates reciprocal investment and equity balances and enters beginning minority interest the same as under the equity method. Entry h eliminates reciprocal accounts receivable and payable. ASSIGNMENT MATERIAL W 5-1 W 5-2 Spud Corporation is a 90%-owned subsidiary of Pear Corporation, acquired by Pear at book value, which was also equal to its fair value on January 1, Pear uses the equity method of accounting for its investment in Spud, but does not adjust for intercompany profit transactions [an incomplete equity method]. Separate income statements for Pear and Spud for 2003 and 2004 are as follows (in thousands): Pear Spud Sales $1,000 $1,200 $500 $700 Income from Spud Cost of sales (600) (720) (300) (350) Other expenses (200) (250) (100) (200) Net income $ 290 $ 365 $100 $150 Intercompany sales from Spud to Pear were $80,000 during 2003 and $120,000 during Unrealized profits included in ending inventories from these intercompany sales amounted to $8,000 at December 31, 2003, and $24,000 at December 31, Consolidated cost of sales for 2004 should be: a. $950,000 b. $966,000 c. $934,000 d. $926, Minority interest expense for 2004 should be: a. $16,600 b. $15,000 c. $13,400 d. $12, Consolidated net income for 2004 should be: a. $381,000 b. $379,400 c. $365,000 d. $350,600 Pepper Corporation recorded $65,000 investment income from Sneeze Corporation, its 80%-owned subsidiary, for the year 2007, and $70,000 for the year This investment income represented 80% of Sneeze s reported income of $81,250 and $87,500 in 2007 and 2008, respectively. Pepper s net income (including investment income) for 2007 was $240,000, and for 2008 it was $160,000. During 2007 Pepper sold merchandise to Sneeze for $180,000. This merchandise cost Pepper $130,000 and 40% of it was inventoried by Sneeze at December 31, Pepper sold merchandise that cost $150,000 to Sneeze for $210,000 during The December 31, 2008, inventory of Sneeze included $63,000 of this merchandise. REQUIRED 1. Compute the following: a. Pepper s income from Sneeze on a correct equity basis for 2007 and 2008 b. Consolidated net income for 2007 and Prepare journal entries to correct Pepper s books at December 31, 2008, assuming that closing entries at December 31, 2008, have not been made. W 5-3 Speck Corporation is an 80%-owned subsidiary of Pearl Corporation, acquired at book value on January 1, 2003, when Speck s assets and liabilities were equal to their fair values. During 2003 Electronic Supplement to Chapter 5 11

12 Speck sold $12,000 merchandise to Pearl at a 25% gross profit (cost to Speck was $9,000). At December 31, 2003, Pearl included 40% of this merchandise in its inventory at its purchase price from Speck. Income statements for Pearl and Speck Corporation for 2003 follows (in thousands): Pearl Speck Sales $300 $100 Income from Speck 12 Cost of sales (200) (75) Other expenses (50) (10) Net income $ 62 $ 15 REQUIRED: Prepare a consolidated statement for Pearl Corporation and Subsidiary for the year W 5-4 Pargo Corporation acquired all the voting common stock of Silor Corporation several years ago in a pooling of interests business combination. A summary of the separate income amounts of Pargo and Silor before consideration of any intercompany transactions for the year 2003 is as follows: Pargo Silor Sales $1,000 $600 Cost of sales Gross profit Operating expenses Operating income $ 200 $100 During 2003 Pargo sold merchandise that cost $140,000 to Silor for $200,000. Two-fifths of this merchandise remains in Silor s inventory at December 31, This is the first year in which any intercompany transaction has occurred, and there were no other intercompany transactions during the year. REQUIRED 1. Calculate consolidated cost of sales for Prepare the consolidated income statement for Pargo Corporation and Subsidiary for the year W 5-5 Sadly is a 75%-owned subsidiary of Proud Corporation, acquired by Proud at book value (also fair value) on January 2, Comparative income statements for Proud and Sadly for 2006 are as follows (in thousands): Proud Sadly Net sales $500 $200 Cost of goods sold Gross profit Operating expenses Operating income Income from Sadly 37.5 Net income $177.5 $ 50 ADDITIONAL INFORMATION 1. Sadly made sales to Proud of $60,000 in 2005 and $100,000 in Proud s inventories at December 31, 2005, and December 31, 2006, included merchandise on which Sadly reported profit of $15,000 and $24,000 during 2005 and 2006, respectively. 3. Proud has not eliminated the effect of intercompany profits in accounting for its investment in Sadly. REQUIRED 1. Prepare any entries necessary to adjust Proud s investment in Sadly account at December 31, 2006, and income from Sadly for $ Determine the following: a. Consolidated cost of goods sold for ADVANCED ACCOUNTING

13 b. Minority interest expense for 2006 c. Consolidated net income for 2006 W 5-6 Plum Corporation paid $2,900,000 for all the outstanding voting common stock of Star Corporation on January 2, 2001, when Star s stockholders equity consisted of $1,500,000 common stock and $1,000,000 retained earnings. The excess cost over book value acquired was allocated to previously unrecorded patents with a 10-year amortization period. Financial information relating to Star s income, dividends, and retained earnings for 2007 and 2008 follows (in thousands): Net income as reported $ 400 $ 700 Dividends Retained earnings, December 31 1,500 1,900 During 2008 Plum sold inventory items to Star for $120,000, and $20,000 intercompany profit from the sales was unrealized at December 31. Star s December 31, 2007, inventory included $30,000 unrealized profit on merchandise acquired from Plum. Plum uses the cost method of accounting for its investment in Star, and accordingly, Plum s investment in Star account balance has remained at $2,900,000 since acquisition. Plum s retained earnings balances at year-end 2007 and 2008 are $4,700,000 and $5,300,000, respectively. REQUIRED 1. Determine the correct balance of Plum s investment in Star account at December 31, 2007, under the equity method. 2. Determine Plum s income from Star under the equity method for Prepare a schedule to convert from the cost to the equity method in the consolidation working papers for Prepare a consolidation working paper entry for 2008 to convert Plum s accounts to an equity basis for consolidation purposes. The entry should be based on the schedule prepared in 3. W 5-7 Comparative income statements for Probe Corporation and its 70%-owned subsidiary, Seek Corporation, for 2003 follow (in thousands): Probe Seek Sales $1,000 $600 Cost of sales Gross profit Operating expenses Separate income Income from Seek 77 Net income $ 297 $110 ADDITIONAL INFORMATION 1. Probe acquired its interest in Seek on January 1, 2002, at a price $360,000 in excess of the fair value of the interest acquired. Probe assigns a fair value/book value differential of $100,000 (based on the interest acquired) to equipment with a 10-year life. 2. Probe sells inventory items to Seek on a regular basis, with intercompany sales data as follows: Probe s sales to Seek $300,000 $420,000 Probe s cost of sales to Seek 200, ,000 Percent unsold at December 31 40% 25% REQUIRED 1. Prepare a corrected income statement for Probe Corporation for 2003 with Seek Corporation being treated as an equity investee. 2. Prepare a consolidated income statement for Probe Corporation and Subsidiary for Electronic Supplement to Chapter 5 13

14 W 5-8 Comparative separate company and consolidated balance sheets for Pharm Corporation and its 80%-owned subsidiary, Silky Corporation, at year-end 2004 are as follows (in thousands): Pharm Silky Consolidated Assets Cash $ 180 $ 40 $ 220 Inventories Other current assets Plant assets net Investment in Silky 630 Patents 150 $1,580 $700 $1,750 Equities Accounts payable $ 80 $ 50 $ 120 Dividends payable Capital stock, $10 par 1, ,000 Retained earnings Minority interest 120 $1,580 $700 $1,750 Investigation reveals that the consolidated balance sheet is in error because Pharm Corporation has not amortized patents and has not eliminated unrealized inventory profits. The investment in Silky was acquired on January 1, 2003, at a price $150,000 in excess of the book value and fair value. The original plan was to amortize patents over 20 years. Unrealized profits in Silky s December 31, 2003 and 2004, inventories of merchandise acquired from Pharm were $30,000 and $50,000, respectively. Other current assets include intercompany receivables of $10,000. REQUIRED: Prepare consolidated balance sheet working papers on December 31, 2004, for Pharm Corporation and Subsidiary. W 5-9 Panda and Soapy Corporations combined in a pooling of interests consummated on January 1, Panda issued 35,000 of its previously unissued common shares for all of Soapy s outstanding shares, and Soapy became a 100%-owned subsidiary of Panda. Adjusted trial balances for the two companies at December 31, 2006, immediately before the pooling and at December 31, 2007, one year after the pooling, follow (in thousands). Panda Corporation and Soapy Corporation Adjusted Trial Balances December 31, 2006 December 31, 2007 Panda Soapy Panda Soapy Cash $ 180 $ 40 $ 155 $ 120 Accounts receivable Dividends receivable 20 Inventories Land Building net Equipment net Investment in Soapy 530 Cost of sales Other expenses Dividends Total debits $2,400 $1,000 $3,400 $1,200 Accounts payable $ 225 $ 40 $ 300 $ 50 Dividends payable Other liabilities Capital stock, $10 par Other paid-in capital Retained earnings Sales 1, , Income from Soapy 140 Total credits $2,400 $1,000 $3,400 $1, ADVANCED ACCOUNTING

15 During 2007 Soapy sold inventory items to Panda for $150,000, at a markup of 150% of cost to Soapy. Panda inventoried all of this merchandise on December 31, REQUIRED: Prepare a consolidated income statement, a consolidated retained earnings statement, and a consolidated balance sheet for Panda Corporation and Subsidiary at and for the year ended December 31, Electronic Supplement to Chapter 5 15