Accounting Graduate Work: Amortization expense and Consolidated Income Statements and Balance Sheets

Impairment testing Goodwill: 

Summary:
 Amortization expense – identifiable intangibles $ 2,600,000. Impairment losses – identifiable intangibles 12,100,000. Goodwill impairment loss 135,000,000. With a Total $149,700,000

Impairment testing – identifiable intangibles: Book value = $4,000,000 – 2 x ($4,000,000/4) = $2,000,000. Book value > Sum of discounted cash flows? $2,000,000 > $900,000: Yes. Impairment loss = $2,000,000 - $900,000 = $1,100,000.

Book value = $8,000,000 – 1.5 x ($8,000,000/5) = $5,600,000. Book value > Sum of discounted cash flows? $5,600,000 > $4,400,000: Yes. Impairment loss = $5,600,000 – $4,400,000 = $1,200,000.

Book value = $18,000,000. Book value > (greater than) Sum of discounted cash flows? $18,000,000 > $7,000,000: Yes. Impairment loss = $18,000,000 - $7,000,000 = $11,000,000.

Impairment testing for Goodwill: Summary: Amortization expense – identifiable intangibles $ 2,600,000. Impairment losses – identifiable intangibles 13,300,000. Goodwill impairment loss140,000,000. Total $155,900,000.


[a](amounts in millions)
[b]Parson reports its own income of $800 million plus its equity in the income of Soaper of $140 million. Equity in the income of Soaper is Soaper’s reported income adjusted for write-offs of Soaper’s net asset revaluations. Consolidated income is Parson’s and Soaper’s reported revenues and expenses, with Soaper’s expenses adjusted for the revaluation writeoffs. Parson’s separately reported income and consolidated income therefore report the same items, packaged differently.

Calculation of total goodwill is as follows: Calculation of adjustment to investment balance to convert it to complete equity method at January 1, 2013: Consolidation working paper eliminating entries for 2013:
[A][C][E]Stockholders’ equity, January 1, 2013 = $5,000,000 + 1,300,000 – 400,000 = $5,900,000.
[R]Revaluations at January 1, 2013 = original revaluations less writeoffs for 2007-2012.[O]

Goodwill
8,000,000


Identifiable intangibles
4,000,000



Land, buildings and equipment
6,800,000


Investment in Salem
5,200,000

Operating expenses

2,100,000

Land, buildings and equipment

400,000


Goodwill

500,000

Identifiable intangibles

2,000,000


Next:

Salem’s reported net income
$ 2,500,000
Revaluation writeoffs:

Land, buildings and equipment depreciation
400,000
Identifiable intangibles amortization
(2,000,000)
Goodwill impairment loss
(500,000)
Equity in income of Salem
$ 400,000



Original cost   $ 16,000,000
Change in Salem’s retained earnings to 1/1/14
   $14,000,000
3 years land, buildings and equipment depreciation
$1,200,000
3 years identifiable intangibles amortization
($6,000,000)
Goodwill impairment loss to 1/1/14
($2,000,000)
Investment balance, 1/1/14
$23,200,000
Equity in net income, 2014
$400,000
Investment balance, 12/31/14
$23,600,000


Customer lists
Brand names
Book value > undiscounted cash flows?
No
Yes
Fair value

$3,400,000
Book value

5,200,000
Impairment loss
--
$1,800,000



Division 1
Division 2
Step one: Division book value > fair value?
Yes
Yes
Step two:


Fair value of goodwill
$1,000,000
$8,000,000
Book value of goodwill
1,600,000
6,400,000
Impairment loss
$ 600,000
-0-



Division 1
Division 2
Fair value of division
$14,000,000
$20,000,000
Book value of division
16,000,000
24,000,000
Potential goodwill impairment
2,000,000
4,000,000
Actual impairment loss
$ 1,600,000
$ 4,000,000



Customer lists
Brand names
Fair value
$1,200,000
$3,400,000
Book value
1,500,000
5,200,000
Impairment loss
$ 300,000
$1,800,000


Investment in Saddlestone
10,300,000

Merger expenses
250,000


Capital stock

10,000,000

Contingent consideration liability


300,000

Cash

250,000


Saddlestone’s reported net income
$ 3,000,000
Revaluation writeoff:

Identifiable intangibles $2,000,000/5
(400,000)
Equity in net income of Saddlestone
$ 2,600,000


Investment in Saddlestone
2,600,000


Equity in net income of Saddlestone


2,600,000


Cash
1,000,000


Investment in Saddlestone

1,000,000


Acquisition cost
$ 10,300,000
Book value of Saddlestone
(7,200,000)
Excess of acquisition cost over book value
3,100,000
Identifiable intangibles
(2,000,000)
Goodwill
$ 1,100,000


Equity in net income of Saddlestone

2,600,000


Dividends – Saddlestone

1,000,000

Investment in Saddlestone

1,600,000


Stockholders’ equity—Saddlestone, 1/1

7,200,000


Investment in Saddlestone

7,200,000


Identifiable intangibles
2,000,000

Goodwill
1,100,000


Investment in Saddlestone

3,100,000


Amortization expense
400,000


Identifiable intangibles

400,000


Eliminating Entries after First and Second Years

Safeco’s reported net income
$ 1,600,000
Revaluation writeoffs:

Equipment $500,000/5
(100,000)
Inventory
(200,000)
Goodwill impairment loss
(50,000)
Equity in net income of Safeco
$ 1,250,000


Investment in Safeco
8,000,000


Cash

8,000,000


Investment in Safeco
1,250,000


Equity in net income of Safeco


1,250,000


Cash
600,000


Investment in Safeco

600,000


Acquisition cost

$ 8,000,000
Book value of Safeco

(7,000,000)
Excess of acquisition cost over book value

1,000,000
Fair value less book value:


Equipment
$ 500,000

Inventory
200,000
(700,000)
Goodwill

$ 300,000


Equity in net income of Safeco

1,250,000


Dividends – Safeco

600,000

Investment in Safeco

650,000


Stockholders’ equity—Safeco, 1/1

7,000,000


Investment in Safeco

7,000,000


Equipment, net
500,000

Inventory
200,000

Goodwill
300,000


Investment in Safeco

1,000,000


Depreciation expense
100,000

Cost of goods sold
200,000

Goodwill impairment loss
50,000


Equipment, net

100,000

Inventory

200,000

Goodwill

50,000


Safeco’s reported net income
$ 2,000,000
Revaluation writeoff:

Equipment $500,000/5
(100,000)
Equity in net income of Safeco
$ 1,900,000


Investment in Safeco
1,900,000


Equity in net income of Safeco

1,900,000


Cash
800,000


Investment in Safeco

800,000


Equity in net income of Safeco
1,900,000


Dividends – Safeco

800,000

Investment in Safeco

1,100,000


Stockholders’ equity—Safeco, 1/1

8,000,000


Investment in Safeco

8,000,000


Equipment, net


400,000

Goodwill
250,000


Investment in Safeco

650,000


Depreciation expense
100,000


Equipment, net

100,000

Goodwill Impairment Losses

Amortization expense for 2014:



Customer relationships $4,000,000/4
$ 1,000,000
Favorable leaseholds $8,000,000/5
1,600,000
Total
$2,600,000

Customer relationships

Favorable leaseholds


Brand names


Reporting Unit
Unit FV < BV? 
Asia: $400,000,000 > $300,000,000: No 
South America: $350,000,000> $200,000,000: No
Europe:   $500,000,000< $600,000,000: Yes 

Fair Value of GW: Europe- $500,000,000 – 385,000,000 = 115,000,000 

GW impairment loss: Europe: $250,000,000 – 115,000,000 = $135,000,000



Identifiable Intangibles and Goodwill, IFRS

Amortization expense for 2014:

Customer relationships $4,000,000/4
$ 1,000,000
Favorable leaseholds $8,000,000/5
1,600,000
Total
$2,600,000

Customer relationships

Favorable leaseholds


Brand names

Reporting Unit Unit FV < BV? GW impairment loss
E. Asia $150,000,000 < $200,000,000: Yes $200,000,000 – 150,000 = $50,000,000; impairment limited to full goodwill balance of $40,000,000.
Indonesia $120,000,000 > $100,000,000: No
Brazil $140,000,000 >$130,000,000: No
Mediterranean $190,000,000 < $220,000,000: Yes $220,000,000 – 190,000,000 = $30,000,000
Scandinavia $230,000,000 < $300,000,000: Yes $300,000,000 – 230,000,000 = $70,000,000
Consolidated Income Statement


Sales $5,000 + 2,000
$7,000
Cost of goods sold $3,000 + 800 + 160
3,960
Gross margin
3,040
Depreciation expense $500 + 140 – (200/10)
620
Interest expense $100 + 60 + (100/5)
180
Other expenses $600 + 700
1,300
Total operating expenses
2,100
Net income
$ 940


Consolidation Using Cost Method

Acquisition cost
$ 7,500,000
Book value of Baker
(5,000,000)
Excess of acquisition cost over book value
2,500,000
Fair value less book value:

Buildings
(1,000,000)
Goodwill
$ 1,500,000


Baker reported income, 2007-2012
$ 1,300,000
Baker reported dividends, 2007-2012
(400,000)
Revaluation writeoffs, 2007-2012:

Buildings ($1,000,000/25) x 6
(240,000)
Adjustment to Investment in Baker, 1/1/13
$ 660,000


Investment in Baker
660,000


Stockholders’ equity –Adam

660,000


Dividend income – Adam
100,000


Dividends – Baker

100,000


Stockholders’ equity—Baker, 1/1
5,900,000


Investment in Baker

5,900,000


Buildings, net
760,000

Goodwill
1,500,000


Investment in Baker

2,260,000


Depreciation expense
40,000

Goodwill impairment loss
100,000


Buildings, net

40,000

Goodwill

100,000


College Cranium: Accounting Example 1

Santo’s reported net income
$ 5,000,000
Revaluation writeoffs:

Inventory (1)
(2,000,000)
Plant assets $8,000,000/8
(1,000,000)
Patents $1,500,000/4
(375,000)
Long-term debt $1,000,000/10
100,000
Goodwill impairment loss
(400,000)
Equity in net income of Santo
$ 1,325,000



Consolidation Working Paper, December 31, 2014
Trial Balances Taken From Books
Dr (Cr)
Eliminations
Ponon
Santo
Dr (DEBIT)
Cr(CREDIIT)
Consolidated
Balances
Cash and receivables
$ 4,500,000
$ 3,100,000
$ 7,600,000
Inventory
5,000,000
5,200,000
(R) 2,000,000
2,000,000 (O-1)
10,200,000
Plant assets, net
8,000,000
12,000,000
(R) 8,000,000
1,000,000 (O-2)
27,000,000
Investment in Santo 26,325,000
--
1,325,000 (C)
10,000,000 (E)
15,000,000 (R)
--
Patents --
--
(R) 1,500,000
375,000 (O-3)
1,125,000
Goodwill --
--
(R) 4,500,000
400,000 (O-5)
4,100,000
Current liabilities (5,100,000)
(2,000,000)
(7,100,000)
Long-term debt
(20,000,000)
(3,300,000)
(O-4) 100,000
1,000,000 (R)
(24,200,000)
Capital stock
(8,000,000)
(6,000,000)
(E) 6,000,000
(8,000,000)
Retained earnings, Jan. 1 (4,800,000)
(4,000,000)
(E) 4,000,000
(4,800,000)
Sales
(30,000,000)
(13,200,000)
(43,200,000)
Equity in income of Santos 
(1,325,000)
--
(C) 1,325,000
--
Cost of goods sold 18,000,000
4,000,000
(O-1) 2,000,000
24,000,000
Depreciation and amortization expense 2,000,000
3,200,000
(O-2) 1,000,000
(O-3) 375,000
6,575,000
Interest and other expenses
5,400,000
1,000,000
100,000 (O-4)
6,300,000
GW impairment loss
--
--
(O-5) 400,000
400,000 $ -0- $ -0-
$ 31,200,000 $31,200,000 $ -0-

Consolidated Statement of Income and Retained Earnings For the Year 2014

Sales

$ 43,200,000
Costs of goods sold

(24,000,000)
Gross margin

19,200,000
Operating expenses:


Depreciation and amortization expense
$ 6,575,000

Interest and other expenses
6,300,000

Goodwill impairment loss
400,000
(13,275,000)
Net income

5,925,000
Retained earnings, beginning balance

4,800,000
Retained earnings, ending balance

$ 10,725,000


Consolidated Balance Sheet, December 31, 2014

Assets

Cash and receivables

$ 7,600,000

Inventory

10,200,000

Plant assets, net

27,000,000

Patents

1,125,000

Goodwill

4,100,000

Total assets

$ 50,025,000

Liabilities and stockholders’ equity

Current liabilities

$ 7,100,000

Long-term debt

24,200,000

Capital stock

8,000,000

Retained earnings

10,725,000

Total liabilities and stockholders’ equity

$ 50,025,000




MULTIPLE CHOICE 

ANSWERS
1. b
Goodwill at the date of acquisition is $10,000,000 ( = $16,000,000 – 4,000,000 + 8,000,000 – 10,000,000). Goodwill at 1/1/14 is $10,000,000 – 2,000,000 = $8,000,000.
Land, buildings and equipment revaluation at 1/1/14 is a credit of $8,000,000 – [3 x (8,000,000/20)] = $(6,800,000).
Intangibles revaluation at 1/1/14 = $10,000,000 – [3 x ($10,000,000/5)] = $4,000,000.
Eliminating entry R is as follows:
2.  Eliminating entry O is as follows [b]
3. Calculation of Equity in Net Income [a]
4. c
5. c
6. d
7. c
8. d
9. a
10.  $500,000 – 100,000 = $400,000 [a]

 Consolidation at End of First Year

  1. The acquisition entry is as follows:
    Calculation of 2013 equity in net income:
    Peak’s equity method entries for 2013:
2. Calculation of goodwill is as follows: Consolidation working paper eliminating entries for 2013: 
[C],[E],[R],[O]
a. Calculation of equity in net income for 2014:
Peerless’s entries for 2014:
Calculation of goodwill is as follows:
Consolidation working paper eliminating entries for 2014:
[C][E][R][O]
b. Calculation of equity in net income for 2015:
Peerless’s equity method entries for 2015:
The Investment in Safeco balance at December 31, 2015 is $8,000,000 + 1,250,000 – 600,000 + 1,900,000 – 800,000 = $9,750,000.
Consolidation working paper eliminating entries for 2015:
[C][E]
Stockholders’ equity—Safeco at 1/1/2015 = $7,000,000 + 1,600,000 – 600,000 = $8,000,000
[R][O]
[A] Goodwill is not a standalone asset, but represents the value of above-average future performance potential that cannot be assigned to identifiable assets such as property or specific intangible assets. Because performance potential is related to business operations, to measure impairments in its value it must be connected with a specific business unit. In the case of Time Warner, as discussed in the text of Chapter 4, goodwill is assigned to “Networks” as a business unit. The WB Network was one part of this business unit, but did not comprise the entire unit.
[B] First, Time Warner has the option to perform a qualitative analysis to determine if it is more likely than not that the business unit’s book value exceeds its fair value. If so, the fair value of the business unit is calculated and compared with its book value. If book value exceeds fair value, we determine the amount of the impairment, if any, by comparing the fair value of the goodwill with its book value. An impairment loss is reported if book value exceeds fair value. Since The WB Network was shut down, its future performance will no longer benefit Time Warner, and the impairment charge is appropriate. Had the qualitative assessment option been available in 2006, Time Warner would likely have bypassed this option due to strong indicators that The WB Network’s future cash flows were significantly impaired.
[C] Time Warner has a 50% interest in The CW, so under U.S. GAAP it does not have a controlling interest and reports its investment using the equity method. Time Warner’s equity in the net income of The CW is reported as part of consolidated other income. The investment balance is reported as part of consolidated assets. The CW’s individual assets, liabilities, revenues and expenses are not reported on the consolidated financial statements.

Identifiable Intangibles and Goodwill, U.S. GAAP

Impairment testing identifiable intangiblesBook value = $4,000,000 – 2 x ($4,000,000/4) = $2,000,000.
Book value > Sum of undiscounted cash flows? $2,000,000 > $1,200,000: Yes. Impairment loss = $2,000,000 - $900,000 = $1,100,000.

Book value = $8,000,000 – 1.5 x ($8,000,000/5) = $5,600,000.Book value > Sum of undiscounted cash flows? $5,600,000 < $6,000,000: No.

Book value = $18,000,000. Book value > Sum of discounted cash flows? $18,000,000 > $7,000,000: Yes! Impairment loss = $18,000,000 - $7,000,000 = $11,000,000.

Condensed Consolidated Financial Statements One Year after Acquisition

Calculation of equity in net income for 2014:
(1) Santo’s beginning inventory on its own books is $3,000,000 (= $5,200,000 + 4,000,000 – 6,200,000). Since Santo’s cost of goods sold is $4,000,000, its beginning inventory is completely sold in 2014, and the revaluation is written off. >> b. and c.

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