Chapter 8, Problem 8.29BP

a

To determine

Introduction: When an affiliate of the issuer later acquires bonds from an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The goodwill as of January 20X7

Answer to Problem 8.29BP

The value of goodwill as of January 20X7 is $50,000

Explanation of Solution

Valuation of goodwill at acquisition

	Amount $
Fair value of consideration given to P	1,152,000
Fair value of non-controlling interest at acquisition	128,000
Total	1,280,000
Book value of net assets at acquisition	(1,200,000)
Difference at acquisition	80,000
Increase in fair value of land	(30,000)
Goodwill at acquisition	50,000

b

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The balance of P’s investment in S’s stock account as of January 1, 20X7.

Answer to Problem 8.29BP

The balance of P’s investment in S’s stock account as of January 1, 20X7 $1,197,000

Explanation of Solution

Computation of balance in investment account, January 1, 20X7

	Amount $
S’s stockholders equity, January 1,20X7:
Common stock	500,000
Premium on stock	280,000
Retained earnings	470,000
Stockholders equity, January 1, 20X7	1,250,000
P’s ownership	x .90
	1,125,000
Add: differential at January 1,20X7 ($80,000 x.90)	72,000
Balance of investment in S’s stock account January 1, 20X7	1,197,000

c

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The gain or loss on the constructive retirement of S’s bonds that should appear in 20X7 consolidated income statement.

Answer to Problem 8.29BP

The gain on constructive retirement of S’s bonds $24,000

Explanation of Solution

Computation of constructive gain or loss on retirement

	Amount $
Proceeds from issuance of S’s bonds	1,010,000
Amortization of premium to January 2, 20X7 ($10,000 /10)x6	(6,000)
Book value of bonds at retirement	1,004,000
Price paid for S’s bond by P	(980,000)
Gain on constrictive retirement of S’s bonds	24,000

d

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The income that should be assigned to non-controlling interest in 20X7 consolidated income statement

Answer to Problem 8.29BP

The income that should be assigned to non-controlling interest in 20X7, $9,210

Explanation of Solution

Computation of income to be assigned to non-controlling interest

	Amount $
S’s net income 20X7	100,000
Add: Intercompany profit of 20X6 realized in 20X7	4,500
Constructive gain on retirement of bonds	24,000
Less: Unrealized intercompany profit on bond retirement	(5,400)
Intercompany profit on bond retirement recognized by separate affiliate ($24,000 / 4 years)	(6,000)
Impairment of goodwill	(25,000)
Subsidiary income	92,100
Non-controlling interest $92,100 x .10	9,210

e

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The non-controlling interest as of December 31, 20X6

Answer to Problem 8.29BP

The non-controlling interest as of December 31, 20X6 $132,550

Explanation of Solution

Computation of non-controlling interest December 31, 20X6

	Amount $
S’s stockholders’ equity, December 31, 20X6	1,250,000
Less: unrealized profit on intercompany sale of inventory	(4,500)
S’s realized equity, December 31, 20X6	1,245,500
Differential assigned to land	30,000
Difference assigned to goodwill	50,000
	1,325,500
Non-controlling interest $\left(\$1,325,500\times 0.10\right)$	132,550

f

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The consolidation entries that would appear in consolidation worksheet as of December 31, 20X7

Explanation of Solution

	Debit $	Credit $
1. Eliminate income from subsidiary
Income from subsidiary	90,000
Dividends declared		36,000
Investment in S’s stock		54,000
(Income from subsidiary eliminated by reversal)
2. Assignment of income to non-controlling interest
Income from non-controlling interest	9,210
Dividends declared		4,000
Non-controlling interest		5,210
(Income assigned to non-controlling interest)
3. Eliminate beginning investment balance
Common stock S	500,000
Premium on common stock	280,000
Retained earnings, January 1	470,000
Differential	80,000
Investment in S’s stock		1,197,000
Non-controlling interest		133,000
(Elimination beginning investment balances by reversal)
4. Assign differential to land and goodwill
Land	30,000
Goodwill	50,000
Differential		80,000
(Differential assigned to land and goodwill)
5. Recognize goodwill impairment
Goodwill impairment loss	25,000
Goodwill		25,000
(Being goodwill impairment recognized)
6. Elimination of intercompany bond holdings of P
Bonds payable	200,000
Investment in P’s bonds		200,000
(Intercompany bond holdings eliminated by reversal)
7. Elimination of interest on intercompany bond of P
Other income	20,000
Other expenses		20,000
(Intercompany income and expenses eliminated by setoff)
8. Eliminate accrued interest on intercompany holdings
Current payables	5,000
Current receivables		5,000
(Intercompany receivable and payable eliminated by setoff)
9. Eliminate intercompany bond holdings of S
Bonds payable	1,000,000
Premium on bonds payable	3,000
Other interest income	125,000
Investment in S’s bonds		985,000
Gain on retirement of bonds		24,000
Other interest expenses		119,000
(Intercompany bond holdings of S eliminated by reversal)
10. Elimination of unrealized profit on beginning inventory
Retained earnings January 1	4,050
Non-controlling interest	450
Cost of goods sold		4,500
(Unrealized profit in the beginning inventory eliminated)
11. Elimination of upstream intercompany sale of inventory
Sales	78,000
Cost of goods sold		72,600
Inventory		5,400
(Intercompany sale of inventory eliminated)
12. Elimination of intercompany dividends owing
Current payables	9,000
Current receivables		9,000
(Intercompany receivable and payable eliminated by setoff)

1. Elimination of income from subsidiary by reverse entry. $\text{Income from subsidiary \$90,000 =}\left(\text{\$100,000}\times \text{.90}\right)$

$\text{Dividends \$36,000 =}\left(\text{\$40,000}\times \text{.90}\right)$

2. Assignment of income to non-controlling interest $9,210 by debit entry and credit $\text{Dividends declared \$4,000 = }\left(\text{ \$40,000 ×}\text{.10}\right)\text{ and Non-Controlling}\text{}\text{}\text{interest \$5,210}\text{.}$ Elimination of beginning investment

$\text{Differential \$80,000 = \$1,280,000 – \$1,200,000}$

$\text{Non-controlling interest \$133,000 = }\left(\text{\$500,000 + \$280,000 + \$470,000 + 80,000}\right)\times \text{.10}$

$\text{Investment in S’s stock \$1,197,000 =}\left(\text{\$500,000 + \$280,000 + \$470,000 + 80,000}\right)\times \text{.90}$ Differential assigned to land and goodwill by debiting it

3. Good will impairment carried out by credit goodwill account to reduce value of good will by $25,000
4. Intercompany holdings’ of P was eliminated by debiting bond payable account and credit investment account.
5. Income and expenses of interest related to intercompany bond holdings of P is eliminated by setoff
6. Accrued interest receivable and payable on account of intercompany bond holdings of T is eliminated by setoff.
7. Intercompany bond holdings of S’s bond eliminated

$\text{Interest income \$125,000 =}\left(\text{\$1,000,000}\times \text{.12}\right)\text{+ \$5,000}$

$\text{Gain on retirement \$24,000=}\left(\text{\$1,004,000–\$980,000}\right)$

$\text{Interest expense \$119,000 =}\left(\text{\$1,000,000 }\times \text{.12}\right)\text{ - \$1,000}$

8. Unrealized profit on inventory eliminated by debit $\text{Retained earnings \$4,050 = \$4,500}\times \text{.90}\text{.}$

$\text{Non-controlling interest \$450 = \$4,500 }\times \text{.10}$

$\text{Cost of goods sold \$4,500 = \$15,000 }\times \text{.30}$

9. Eliminate upstream intercompany $\text{Sales of inventory \$72,600 = }\left(\text{\$78,000 - \$18,000}\right)\text{+}\left(\text{\$18,000 }\times \text{.70}\right)$

$\text{Inventory \$5,400 = \$18,000}\times \text{.30}$

10. Elimination of intercompany dividends owing by setoff entry.

To determine

Introduction: When an affiliate of the issuer later acquires bonds form an unrelated party, the bonds are retired at the time of purchase. The bonds are not held outside the consolidated entity once another company within the consolidated entity purchases them, it must be treated as repurchase by the debtor. The acquisition of an affiliate’s bonds by another company within affiliated entities is referred to as constructive retirement. Although bonds are not actually retired.

When constructive retirement occurs the consolidated income statement reports gain or loss based on the difference between carrying value and purchase price paid by the affiliate to acquire it. And it is not reported in the consolidated balance sheet either as bond payable or as an investment because the bonds are no longer outstanding.

The preparation of consolidation worksheet for 20X7

Answer to Problem 8.29BP

Consolidated retained earnings for December 31, 20X8 $3,450,840 and total assets, liabilities and equity $5,451,600

Explanation of Solution

P and Subsidiary

Consolidation work sheet

December 31 20X8

			Eliminations
	P	S	Debit	Credit	consolidations
Sales	3,101,000	790,000	78,000		3,813,000
Income from subsidiary	90,000		90,000
Other Interest income	135,000	31,000	20,000
			125,000		21,000
Gain on bonds retirement				24,000	24,000
Less: cost of goods sold	(2,009,000)	(430,000)		4,500
				72,600	(2,361,900)
Depreciation & amortization	(195,000)	(85,000)			(280,000)
Goodwill impairment			25,000		(25,000)
Other expenses	(643,000)	(206,000)		20,000
				119,000	(710,000)
Consolidated net income					481,100
Income NCI			9,210		(9,210)
Net income carry forward	479,000	100,000	347,210	240,100	471,890
Retained earnings January 1	3,033,000	470,000	470,000
			4,050		3,028,950
Net income	479,000	100,000	347,210	240,100	471,890
Less: dividends declared	(50,000)	(40,000)		36,000
				4,000	(50,000)
Retained earnings Dec 31	3,462,000	530,000	821,260	280,100	3,450,840
Cash	39,500	29,000			68,500
Current receivables	112,500	85,100		5,000
				9,000	183,600
Inventory	301,000	348,900		5,400	644,500
Investments:
S stock	1,251,000			54,000
				1,197,000
S’s bonds	985,000			985,000
P company bonds		200,000		200,000
Goodwill			50,000	25,000	25,000
Differential			80,000	80,000
Land	1,231,000	513,000	30,000		1,774,000
Buildings and equipment	2,750,000	1,835,000			4,585,000
Accumulated depreciation	(1,210,000)	(619,000)			(1,829,000)
	5,460,000	3,392,000			5,451,600
Bonds payable
Current payables	98,000	79,000	5,000
			9,000		163,000
Bonds payable	200,000	1,000,000	200,000
			1,000,000
Premium on bonds payable		3,000	3,000
Common stock	1,000,000	500,000	500,000		1,000,000
Premium on common stock	700,000	280,000	280,000		700,000
Retained earnings	3,462,000	530,000	821,260	280,100	3,450,840
Non-controlling interest			450	5,210
				133,000	137,760
	5,460,000	3,392,000	2,978,710	2,978,710	5,451,600