THE LIBRARY OF THE UNIVERSITY OF CALIFORNIA LOS ANGELES RN OF CALIFORNIA. RARY v I I n * rary Graduate School of Business Administration University of California Los Angeles 24, California CONSOLIDATED STATEMENTS FOR HOLDING COMPANY AND SUBSIDIARIES BY H. A. FINNEY, PH. B., C. P. A. PROFESSOR OF ACCOUNTING, NORTHWESTERN UNIVERSITY, CHICAGO NEW YORK PRENTICE-HALL, INC. 1923 COPYRIGHT, 1922, HI PRENTICE-HALL, INC. 1st Printing June, 1922 2nd Printing September, 1922 3rd Printing March, 1923 PRINTED IN TBX UNITED STATES OF AUERTCA Bus. Admin- Library HF 5686 C7F4 TO MY WIFE AND MY MOTHER PREFACE This book is intended to embrace the principles and pro- cedure involved in the preparation of the consolidated state- ment of cost of goods sold, the consolidated profit and loss statement, the consolidated surplus statement and the con- solidated balance sheet. Students of accounting who are preparing for the examina- tions of the various C. P. A. boards or the American Institute of Accountants must be familiar with the subject of con- solidated statements for holding companies and their sub- sidiaries, for the examinations frequently contain more or less complicated problems requiring the preparation of such state- ments. The income tax law, which requires consolidated returns supported by consolidated income statements and balance sheets, makes a knowledge of the method of preparing these statements imperative for the corporation auditor, the public accountant and the tax counsellor. It is surprising that the literature which deals with con- solidated statements is so meager when one considers that so many accountants and students of accounting are interested in the subject and that the statements themselves may be involved by an almost infinite variety of complications. These complexities arise from the fact that the holding company may or may not account properly for the investments in sub- sidiary stock; that minority interests may exist; that sub- sidiary earnings since acquisition may exceed dividends re- ceived during the same period, or vice versa; that the holding company may take up as profit the earnings of the subsidiary or the dividends received; that the stock may have been ac- quired by purchase from former stockholders, by subscription or as a stock dividend; that book value at acquisition may have exceeded cost, or vice versa; that the stockholdings may have been acquired by a .single purchase or by several purchases; that the holdings may be in common or preferred stock or both; that inter-company profits may remain unrealized in inventories and in fixed assets; etc., etc. vi PREFACE The book contains a discussion of underlying principles, illustrations showing the procedure of preparing consolidated working papers and statements, and supplementary exercises and problems to be solved by the reader. On several phases of consolidated statements there is some conflict of opinion as to the proper procedure and considerable variation in practice. This is particularly true in the matters of minority interest in a subsidiary with a deficit, negative goodwill, and reserves for unrealized profit when there are minority interests. Where practice has not been standardized the fact is commented upon, the different methods of procedure are discussed, and the method which seems to the author to be correct in principle is indicated. It scarcely seems necessary to remind the reader that ac- counting principles and income tax regulations do not always coincide. Taxable net income and invested capital do not always agree with the figures shown in the revenue statement and the balance sheet, yet these statements are the basis of a corporation's tax return, and the consolidated profit and loss statement and balance sheet are the basis of a consolidated return. This book is not an interpretation of the regulations pertaining to consolidated returns, but is an explanation of the accounting principles underlying the consolidated state- ments which must be submitted in support of the return. The author wishes to acknowledge his obligation to his friend Roy Hall, C.P.A., who read the manuscript and offered helpful criticisms and suggestions. H. A. FINNEY Chicago, Illinois May 15, 1922 CONTENTS CHAPTER PAGE I. CONSOLIDATIONS, MERGERS, HOLDING COMPANIES 1 II. THE BALANCE SHEET OF A HOLDING COMPANY 9 III. SUBSIDIARY SURPLUS OR DEFICIT AT ACQUISITION 16 IV. MINORITY INTEREST 20 V. GOODWILL 25 VI. DEDUCTION FROM GOODWILL 34 VII. SUBSIDIARY'S PROFITS, LOSSES AND DIVIDENDS ON THE HOLDING COM- PANY'S BOOKS 42 VIII. CONSOLIDATED BALANCE SHEET AFTER DATE OF ACQUISITION; SUB- SIDIARY PROFITS AND LOSSES TAKEN UP 47 IX. CONSOLIDATED BALANCE SHEET AFTER DATE OF ACQUISITION; INVEST- MENT ACCOUNT CARRIED AT COST 54 REVIEW EXERCISES 62 X. INTER-COMPANY RECEIVABLES AND PAYABLES ....... 65 XI. MISCELLANEOUS TOPICS: Book Value at Acquisition in Excess of Cost . 74 Minority Interest in a Subsidiary with a Deficit 75 Stock Acquired by Subscription from Subsidiary 78 Subscription Rights 79 No Par Value Stock 81 Holdings of Both Common and Preferred Stock 81 Stock Dividends 85 Arbitrary Entries in Investment Account 87 XII. MAJOR HOLDING COMPANY CONTROL THROUGH A MINOR HOLDING COMPANY 89 XIII. UNREALIZED INTER-COMPANY PROFITS 103 XIV. CONSOLIDATED PROFIT AND Loss AND SURPLUS STATEMENTS; SEPARATE WORKING PAPERS 110 XV. CONSOLIDATED PROFIT AND Loss STATEMENT, SURPLUS STATEMENT AND BALANCE SHEET; COMBINED WORKING PAPERS 128 PROBLEMS 151 vii CHAPTER I CONSOLIDATIONS, MERGERS, HOLDING COMPANIES Methods of effecting combinations. When it is desired to combine two or more corporations into a single company or into a co-ordinated organization with a centralized control, the result may be accomplished by several means, the most common of which are a consolidation, a merger, and a holding company. As a simple illustration of these three methods of effecting combinations, it will be assumed that the two companies whose balance sheets appear below are to be combined. BALANCE SHEET COMPANY A Machinery $25,000 Accounts Payable $10,000 Merchandise Inventory 15,000 Capital Stock 35,000 Cash 5,000 $45,000 $45,000 BALANCE SHEET-COMPANY B Machinery $35,000 Accounts Payable $15,000 Merchandise Inventory 25,000 Capital Stock 50,000 Cash 5,000 $65,000 $65,000 Consolidation. A consolidation is effected by organizing a new corporation which buys the assets and assumes the liabilities of the old companies. The new company may sell its stock for cash and pay the old companies in cash for their net assets, or it may issue its stock to the old companies in payment for their net assets. In either case the old companies go out of existence, distributing among their stockholders the cash or stock received from the new company. 1 2 CONSOLIDATED STATEMENTS To illustrate, it will be assumed that Company C is organ- ized with a capital stock of $85,000; and contracts are entered into with Company A and Company B whereby it is agreed that Company C shall take over the assets of the two companies at their book value, assume their liabilities, and pay for the net assets in stock of Company C. Entries of the consolidating company. Company C will make the following entries to record the consolidation: Subscriptions $85,000 Capital Stock ' $85,000 To record the subscriptions to our entire authorized stock issue, as follows: Company A $35,000 Company B 50,000 Total $85,000 Machinery $25,000 Merchandise Inventory 15,000 Cash 5 000 Accounts Payable $10,000 Company A, Vendor 35,000 To record the purchase of the assets of Company A and the assumption of their liabilities, in ac- cordance with the contract dated . Pay- ment to be made in the stock of this company. Company A, Vendor 35,000 Subscriptions 35,000 To record the offset of our liability to Company A for their net assets against their liability to us on account of subscriptions to our stock. Machinery $35,000 Merchandise Inventory , 25,000 Cash 5,000 Accounts Payable 15,000 Company B, Vendor 50,000 To record the purchase of the assets of Company B and the assumption of their liabilities, in accord- ance with the contract dated . Payment to be made in the stock of this company. Company B, Vendor $50,000 Subscriptions $50,000 To record the offset of our liability to Company B for their net assets against their liability to us on account of subscriptions to our stock. CON SOLI DA TIONS MERGERS 3 Balance sheet of the consolidation. After the consolidation has been effected, the balance sheet of the new company will show all of the assets and liabilities formerly owned by the old companies, and now owned by the new or consolidated company. BALANCE SHEET COMPANY C Machinery $60,000 Accounts Payable $25,000 Merchandise Inventory 40,000 Capital Stock 85,000 Cash 10,000 $110,000 $110,000 Entries of the absorbed companies. The entries of Com- pany A and Company B will be similar to each other and will show the sale of their assets to Company C, the assumption of their liabilities by Company C, the receipt of stock in pay- ment for their net assets, and the distribution of this stock among their stockholders. These entries will be illustrated by showing those which will appear on the books of Company A. Company C, Vendee $35,000 Accounts Payable 10,000 Machinery $25,000 Merchandise Inventory 15,000 Cash 5,000 To record the sale of our assets to Company C and the assump- tion by them of our liabilities; payment for net assets to be made in stock of Company C, in accordance with the con- tract of sale dated . See Minutes, page . Stock of Company C $35 000 Company C, Vendee $35,000 To record the receipt of stock of Company C in payment for net assets transferred to them. Captal Stock $35,000 Stock of Company C $35,000 To record the distribution of the stock of Company C among our stockholders in final liquidation of this company. Thus it will be seen that Company A and Company B go out of existence. They have no assets nor liabilities, and all of the assets and liabilities of the consolidation are shown on the balance sheet of Company C. Merger. If a merger is decided upon, a new corporation will not be organized. One of the old companies will purchase 4 CONSOLIDATED STATEMENTS the assets and assume the liabilities of the other company, paying for the net assets either in cash or in stock. As the company which has been bought out will go out of existence, the merger as well as the consolidation results in a complete combination of the two old companies into a single company. To illustrate, it will be assumed that Company A contracts with Company B to purchase its assets at book value, assume its liabilities, and pay for the net assets in stock of Company A. In order to provide the necessary stock for this purpose, Company A increases its authorized capitalization from $35,000 to $85,000. Entries of the purchasing company. Company A will make the following entries to record the merger: Subscriptions $50,000 Capital Stock $50,000 To record an addition of $50,000 to our authorized stock, all of which has been subscribed for by Company B, to be paid for by a transfer of their net assets. Machinery $35,000 Merchandise Inventory 25,000 Cash 5,000 Accounts Payable $15,000 Company B, Vendor 50,000 To record the purchase of the assets of Company B and the assumption of their liabilities, in accordance with the con- tract dated . Payment for the net assets to be made in the stock of this company. Company B, Vendor $50,000 Subscriptions $50,000 To record the offset of our liability to Company B for their net assets against their liability to us on account of subscrip- tions to our stock. Balance sheet of the merger. After the merger has been effected, the balance sheet of Company A will show all of the assets and liabilities formerly shown by the balance sheets of the two companies. BALANCE SHEET COMPANY A Machinery $60,000 Accounts Payable $25,000 Merchandise Inventory 40,000 Capital Stock 85,000 Cash 10,000 $110,000 $110,000 CON SOLI DA TIONS MERGERS 5 Entries of the absorbed company. Company B will make entries to record the transfer of its assets and liabilities to Company A, the receipt of the stock in settlement, and the distribution of this stock among its own stockholders. Company A, Vendee $50,000 Accounts Payable 15,000 Machinery $35,000 Merchandise Inventory 25,000 Cash 5,000 To record the sale of our assets to Company A and the assump- tion by Company A of our liabilities; payment for net as- sets to be made in stock of Company A, in accordance with the contract of sale dated . See Minutes, page . Stock of Company A $50,000 Company A, Vendee $50,000 To record the receipt of stock of Company A in payment for the net assets transferred to them. Capital Stock $50,000 Stock of Company A $50,000 To record the distribution of the stock of Company A among our stockholders in final liquidation of this company. Thus it will be seen that Company B goes out of existence; it has no assets nor liabilities, and all of the assets and lia- bilities of the merged companies are shown in the balance sheet of Company A. Holding company. If the holding company procedure is adopted, one of the old companies may act as the holding company, or a new corporation may be organized to act in that capacity. The holding company does not deal directly with the other companies, and does not buy their assets nor assume their liabilities. It deals with the stockholders of the old companies, buying all of, or a controlling interest in, their stock. The company acquiring the stock is called a holding company or parent company, and the companies whose stock is acquired by the holding company are called subsidiaries. The holding company may pay for the subsidiary stock in cash, and if this is done the former stockholders of the sub- sidiaries do not become stockholders of the holding company. On the other hand, the holding company may issue its own stock in payment for the acquired stock, and if this is done the former stockholders of the subsidiaries become stockholders of the holding company. 6 CONSOLIDATED STATEMENTS Outline of illustrations. Three illustrations of the holding company procedure will be given in this chapter, which may be divided into two groups as follows: Group I. New corporation organized to act as holding company. First illustration: Stockholders of old companies re- ceive stock in payment. Second illustration: Stockholders of old companies re- ceive cash in payment. Group II. One of the old companies acts as holding company. Third illustration: Stockholders of subsidiary receive stock in payment. First illustration. It will be assumed in this illustration that a new corporation called Company C is organized to act as a holding company. Its charter authorizes it to issue stock totalling $85,000. All of the stockholders of Company A and Company B agree to sell their holdings in these companies to Company C, taking in payment therefor an equal number of shares of the stock of Company C. The entries on the books of Company C, the holding com- pany, are: Subscriptions $85,000 Capital Stock $85,000 To record subscriptions to our stock as follows: Stockholders of Company A $35,000 Stockholders of Company B 50,000 Total. $85,000 Investment in Stock of Company A $35,000 Investment in Stock of Company B 50,000 Subscriptions $85,000 To record the payment of subscriptions by transfer to us of stock of Company A and Company B. The balance sheet of the holding company will appear as follows : BALANCE SHEET COMPANY C Investment in Stock of Co. A $35,000 Capital Stock $85,000 Investment in Stock of Co. B 50,000 $85,000 $85,000 CON SO LI DA TIONS MERGERS 7 The only entries on the books of Companies A and B will be made in their stock ledgers, recording the transfer of stock from the sundry stockholders to Company C. These com- panies are not parties to the transaction, they retain the same assets and liabilities as before, and their balance sheets are not affected by the change in the ownership of their stock. Second illustration. It will be assumed, in this illustration, that the new Company C sells its stock for cash to various individuals not formerly stockholders of either Company A or Company B, and with the proceeds of the stock issue it buys at par all of the stock of the two original companies. The entries on Company C's books are as follows: Subscriptions $85,000 Capital Stock $85,000 To record the subscriptions to our authorized issue Cash $85,000 Subscriptions $85,000 To record the collection of subscriptions Investment in Stock of Company A $35,000 Investment in Stock of Company B 50,000 Cash $85,000 To record the purchase of all of the outstanding stock of Com- panies A and B at par value The balance sheet of the holding company will be exactly like the one shown in the first illustration, and the balance sheets of the subsidiary companies will be in no way affected by the transaction, since they still retain their assets and liabilities. Third illustration. It will be assumed in this illustration that Company A is to act as the holding company. It in- creases its authorized stock issue from $35,000 to $85,000; the additional stock is subscribed for by the stockholders of Com- pany B, who pay their subscriptions by turning over their holdings of the stock of Company B. The entries on Com- pany A's books are: Subscriptions $50,000 Capital Stock $50,000 To record the subscriptions to our additional authorized capital stock Investment in Stock of Company B $50,000 Subscriptions $50,000 To record the payment of subscriptions in stock of Company B 8 CONSOLIDATED STATEMENTS The balance sheet of the holding company after recording these transactions, will be: COMPANY A BALANCE SHEET Investment in Stock of Co. B $50,000 Accounts Payable $10,000 Machinery 25,000 Capital Stock 85,000 Merchandise Inventory 15,000 Cash 5,000 $95,000 $95,000 The balance sheet of Company B will not be affected by the transaction. CHAPTER II THE BALANCE SHEET OF A HOLDING COMPANY Balance sheet after consolidation. In the illustration on page 3 it was shown that if a combination is effected by means of a consolidation, one company will exist where several existed before, and the balance sheet of the new or consoli- dated company will show all of the assets and liabilities of the combined companies. The balance sheet of the consolida- tion shown on page 3 was: BALANCE SHEET COMPANY C Machinery $60,000 Accounts Payable $25,000 Merchandise Inventory 40,000 Capital Stock 85,000 Cash 10,000 $110,000 Company A and Company B went out of business and have no balance sheets. Balance sheet after merger. In the illustration on page 4 it was shown that if the combination was effected by means of a merger, one of the old companies would continue in existence and its balance sheet would show all of the assets and liabilities of the combined companies. The balance sheet after the merger, as shown on page 4, was exactly like the one of the consolidation, except that the assets and liabil- ities had passed to Company A instead of to Company C. BALANCE SHEET COMPANY A Machinery $60,000 Accounts Payable $25,000 Merchandise Inventory 40,000 Capital Stock 85,000 Cash 1C.OOO $110,000 $110,000 Balance sheets of parent and subsidiaries. In the first holding company illustration, on page 6, the balance sheets 9 10 CONSOLIDATED STATEMENTS of the several companies after effecting the combination, were: BALANCE SHEET-COMPANY C Investment in Stock of Co. A . $35,000 Capital Stock ........... $85,000 f Investment in Stock of Co. B. 50,000 $85,000 $85,000 BALANCE SHEET COMPANY A ^Machinery $25,000 Accounts Payable $10,000 >/ Merchandise Inventory 15,000 Capital Stock 35,000 Cash 5,000 $45,000 $45,000 BALANCE SHEET-COMPANY B Machinery $35,000 Accounts Payable $15,000 Merchandise Inventory 25,000 Capital Stock 50,000 Cash 5,000 $65,000 $65,000 The balance sheets in the second holding company illustra- tion, on page 7, would be exactly like those in the first illustration. In the third illustration, on page 7, it was assumed that Company A acted as the holding company, and the resulting balance sheets were: BALANCE SHEET COMPANY A ^ In vestment in Stock of Co. B. $50,000 Accounts Payable $10,000 V Machinery 25,000 Capital Stock 85,000 Merchandise Inventory 15,000 V Cash 5,000 $95,000 $95,000 BALANCE SHEET COMPANY B Machinery $35,000 Accounts Payable $15,000 Merchandise Inventory 25,000 Capital Stock 50,000 Cash 5,000 $65,000 $65,000 BALANCE SHEET OF A HOLDING COMPANY 11 v Object of the consolidated balance sheet. When a combi- nation is effected by means of a consolidation or a merger, a single balance sheet contains all of the assets and liabilities of the combined companies. But when the combination is effected by means of a holding company, each corporation maintains its separate legal entity and prepares its own balance sheet. These separate balance sheets are not a satisfactory means of displaying the financial condition of the several related companies for two reasons. In the first place, if we view the several companies as separate corporations, the balance sheet of each company should clearly present the facts of its financial condition. The balance sheets of the subsidiary companies do so, since they show the assets and liabilities of these companies. The balance sheet of the holding company, however, fails to do so. The reason for this failure can be seen by referring to the balance sheet of Company C on page 10. This balance sheet contains two investment accounts, but there is nothing in the balance sheet to indicate exactly what these investments in stock represent. They represent the assets and liabilities of the subsidiary companies, and the balance sheet of the holding company would be a much clearer presentation of its financial condition if these invest- ment accounts were dropped out of the balance sheet and re- placed by the assets and liabilities of the subsidiaries. For while it is true from a legal standpoint that the holding com- pany owns merely the stock, it is also true from a business standpoint that the holding company virtually owns and actually controls the subsidiary's net assets which the stock represents. In the second place, if we look past the legal fiction of separate corporate entities and view the related companies as a single organization, we find that no single balance sheet shows the total assets and liabilities of the organiza- tion, and the total stock of the organization in the hands of the public. The consolidated balance sheet is a device for avoiding these two disadvantages of separate balance sheets. The assets and liabilities of the several companies are all combined, with the exception of those accounts which represent merely inter- company relations. The investment accounts are not in- cluded among the assets on the consolidated balance sheet because these accounts do not represent assets in and of them- 12 CONSOLIDATED STATEMENTS selves but merely represent the holding company's right to the subsidiary's net assets. The capital stock accounts on the subsidiary's books represent the same inter-company relation if the stock is all owned by the holding company; and when this is the case no portion of the subsidiaries' capital stock is included in the consolidated balance sheet. The consolidated balance sheet thus has its advantages whether we view the affiliated companies as separate entities or as a single organization. If we view them as separate cor- porations, the consolidated balance sheet is a more adequate presentation of the holding company's financial condition than is a balance sheet showing the investment accounts, for the consolidated balance sheet shows the total assets under the control of the holding company, the total liabilities to be paid out of these assets, and the capital of the holding company. On the other hand, if we view the several companies as a single organization, the consolidated balance sheet shows the financial condition of this organization in relation to the outside world, for it combines all of the assets and liabilities of the related companies, it shows the total stock outstanding in the hands of the public, and it does not show mere inter-company relations as assets or liabilities of the organization. Consolidated working papers. From the discussion in the preceding section, it will be apparent that in preparing a con- solidated balance sheet it is necessary to combine all similar assets and liabilities and eliminate all accounts showing mere inter-company relations. This work is facilitated by drawing up consolidated balance sheet working papers. These working papers contain columns for the several balance sheets to be consolidated, columns for accounts to be eliminated, and columns to contain the figures which are to appear in the consolidated balance sheet. Outline of illustrations. Two illustrations will be given in this chapter to show the method of preparing consolidated balance sheet working papers. First illustration: Holding company is not an operating company, and has no assets other than its investments in subsidiaries. Second illustration: Holding company is an operating company, and has assets other than its investment in a subsidiary. BALANCE SHEET OF A HOLDING COMPANY 13 First illustration. This illustration is based on the balance sheets at the top of page 10 which show the financial con- dition of the related companies when a new corporation was organized to act as the holding company. COMPANY C AND SUBSIDIARIES A AND B CONSOLIDATED BALANCE SHEET WORKING PAPERS (Date) Inter-Co. Consolidated Assets Co. C Investment in Stock of Co. A $35,000 Investment in Stock of Co. B 50,000 Co. A $25,000 15,000 5,000 Co. B $35,000 25,000 5,000 Eliminations B. S. 1 $35,000 / so,ooa $60,000 40,000 10,000 Merchandise Inventory Cash $85,000 $45,000 $65,000 $85,000 $110,000 Liabilities Accounts Payable. $10,000 $15,000 Capital Stock: Co. C ................ $85,000 Co. A ................ Co. B.. 35,000 50,000 35,000 50J $25,000 85,000 $85,000 $45,000 ' $65,000 $85,000 $110,000 The following is the consolidated balance sheet prepared from these working papers. COMPANY C AND SUBSIDIARIES A AND B CONSOLIDATED BALANCE SHEET (Date) Machinery $60,000 Merchandise Inventory 40,000 Cash 10,000 $110,000 Accounts Payable $25,000 Capital Stock 85,000 $110,000 Second illustration. This illustration is based on the balance sheets at the bottom of page 10, which show the financial condition of the related companies when one of the old com- panies acts as the holding company. 14 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS (Date) Assets Co. A Investment in Stock of Company B $50,000 Machinery 25,000 Merchandise Inventory 15,000 Cash .' . . . . 5,000 Co.B $35,000 25,000 5,000 Elim. $50,000 C. B. S. $60,000 40,000 10,000 $95,000 $65,000 $50,000 $110,000 Liabilities Accounts Payable $10,000 Capital Stock: Co. A 85,000 Co.B.. $15,000 50,000 $50,000 $25,000 85,000 $95,000 $65,000 $50,000 $110,000 The consolidated balance sheet prepared from these working papers is as follows: COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Accounts Payable $25,000 Machinery $60,000 Merchandise Inventory 40,000 Cash 10,000 Capital Stock 85,000 $110,000 $110,000 Inter-company eliminations. Reasons have already been given for the elimination of certain items in preparing the consolidated balance sheet, but these eliminations are so im- portant that it may be well to re-state these reasons even though the re-statement be merely a reiteration. It is to be borne in mind that the consolidated balance sheet is not the balance sheet of any one company, but is the balance sheet of a group of very closely affiliated companies showing the financial condition of the group of companies as if they were a single organization. The essential facts to be shown are: the total assets of the organization without omission or duplication, the total liabilitie_s to the world outside the or- ganization, and the total capital in the hands of the public. When the group of companies is thus dealt with as a single company or organization, any inter-company relations become BALANCE SHEET OF A HOLDING COMPANY 15 virtually inter-departmental relations and have no place in a statement which is intended to show merely the relations of the organization to outsiders. The investment accounts carried as assets on the holding company's books are therefore eliminated. These accounts merely represent the interest of the holding company in the subsidiary. They do not represent, in and of themselves, an asset which could be used to pay the liabilities of the organiza- tion. To include the assets of the subsidiary in the con- solidated balance sheet and also the investment account would be a duplication and would result in an overstatement of the assets of the organization. When all of the capital stock of the subsidiary is owned by the holding company, the capital stock account on the sub- sidiary's books does not represent a capital liability to the outside world. The only outstanding stock is that issued by the holding company. Therefore the subsidiary capital stock is dropped out in the Elimination column. CHAPTER III SUBSIDIARY SURPLUS OR DEFICIT AT ACQUISITION Conditions common to preceding illustrations. All of the holding company illustrations in the preceding chapters were made as simple as possible; in each of them the following con- ditions prevailed: 1. The consolidated balance sheet was prepared imme- diately after the holding company acquired its holdings in the subsidiary stock. 2. The holding company acquired all of the subsidiary stock. 3. The price paid was the exact book value of the acquired stock as shown by the subsidiary's books. 4. The subsidiary had no surplus or deficit at the date of acquisition; therefore the book value of its stock was represented by its capital stock account only. All of these conditions may be changed, and each change will affect the procedure in preparing the consolidated balance sheet. Outline of illustrations. In the illustrations in this chapter, condition (1) will remain unchanged; the consolidated balance sheet will be prepared at the date of acquisition. Condition (2) will also remain unchanged; the holding company will own all of the subsidiary stock. Condition (3) will also remain unchanged; the purchase price will be exactly book value at the date of acquisition as shown by the subsidiary's books. Condition (4) will be changed as follows: First illustration: the book value at the date of acquisition will be the sum of the capital stock and surplus accounts of the subsidiary; Second illustration: the book value at the date of acquisition will be the capital stock of the subsidiary minus its deficit account. Subsidiary surplus at acquisition. The reader is now fa- miliar with the principle that accounts which merely represent inter-company relations are eliminated in the consolidated 16 SUBSIDIARY SURPLUS OR DEFICIT 17 working papers. In each preceding illustration the invest- ment account in the holding company's balance sheet was eliminated because it represented the holding company's claim to the subsidiary's net assets; and the subsidiary's capital stock account was eliminated because it represented a capital liability of the subsidiary to the holding company. If the subsidiary has a surplus at the date of acquisition, this account must be added to the capital stock account to determine the total capital; and if all of the stock is owned by the parent company, the surplus, as well as the capital stock, represents a capital liability to the holding company, and is subject to the principle which requires the elimination of inter- company accounts. First illustration. Company A has just purchasecTall of the stock of Company B, paying book value therefor. This book value is represented by the sum of the capital stock and sur- plus accounts on the books of Company B. The balance sheets of the two companies immediately following the stock purchase are as follows: BALANCE SHEET COMPANY A In vestment in Stock of Co. B. $65,000 Accounts Payable $10,000 Cash 20,000 Capital Stock 75,000 $85,000 $85,000 BALANCE SHEET COMPANY B Cash $70,000 Accounts Payable $5,000 Capital Stock 50,000 Surplus 15,000 $70,000 $70,000 The investment account of $65,000 represents the holding company's right to the net assets of the subsidiary; and the capital stock and surplus accounts on the subsidiary's books represent the offsetting capital liability of the subsidiary to the holding company. All are eliminated as showing mere inter- company relations. The reason for the elimination of the subsidiary surplus can be further explained by reminding the reader that the con- solidated balance sheet is virtually a balance sheet of the holding company, in which the investment account is dropped 18 CONSOLIDATED STATEMENTS out and replaced by the subsidiary assets and liabilities which it represents. It would clearly be wrong to carry out any of the subsidiary surplus to the consolidated balance sheet and thus imply that it was holding company surplus. The sub- sidiary surplus was built up from earnings prior to the date when the holding company acquired the stock. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Investment in Stock of Company B $65,000 Cash 20,000 Co. B $70,000 Elim. $65,000 C. B. S. $90,000 $85,000 $70,000 $65,000 $90,000 Liabilities Accounts Payable $10,000 Capital Stock: Co. A 75,000 Co.B Surplus: Co.B.. $5,000 50,000 15,000 $50,000 15,000 $15,000 75,000 $85,000 $70,000 $65,000 $90,000 Cash. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) $90,000 Accounts Payable $15,000 Capital Stock 75,000 $90,000 $90,000 Subsidiary deficit at acquisition. If the subsidiary has a deficit at the date of acquisition, this account must be deducted from the subsidiary's capital stock to determine its net capital. If the holding company acquires all of the subsidiary's stock, both the deficit and the capital stock must be considered in ' determining the capital liability of the subsidiary to the hold- ing company, and both accounts are subject to the principle which requires the elimination of inter-company accounts. Second illustration. Company A has just purchased all of the stock of Company B, paying book value therefor. This book value is shown by the capital stock and deficit accounts on the subsidiary's books. The balance sheets of the two SUBSIDIARY SURPLUS OR DEFICIT 19 companies need not be set out separately as all of the figures are shown in the first two columns of the working papers. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B .... $45,000 $45,000 Cash 35,000 $55,000 $90,000 Deficit Co. B 15,000 15,000 $80,000 $70,000 $60,000 $90,000 Liabilities Accounts Payable $20,000 $10,000 $30,000 Capital Stock: Co. A 50,000 50,000 Co. B 60,000 60,000 Surplus Co.A 10,000 10,000 $80,000 $70,000 $60,000 $90,000 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $90,000 Accounts Payable $30,000 Capital Stock 50,000 Surplus 10,000 $90,000 $90,000 CHAPTER IV MINORITY INTEREST Minority interest an outside liability. When the holding company acquires less than 100 per cent of the stock of the subsidiary, it shares the ownership of the subsidiary with outsiders whose stock it fails to purchase. These outsiders have an interest equal to their stock proportion of the net worth of the subsidiary, and this capital liability to outsiders must be shown in the consolidated balance sheet. When the holding company owns all of the subsidiary stock, the working papers prepared at the date of acquisition elim- inate the entire capital stock, surplus and deficit accounts of the subsidiary. If there is a minority interest, it would be wrong to eliminate the capital stock and surplus or deficit accounts of the subsidiary entirely, because they represent two things: (1) The capital liability to the holding company, which is an inter-company relation and is therefore eliminated; and (2) the capital liability to the minority stockholders, which is an outside relation and must therefore be shown in the consolidated balance sheet. Outline of illustrations. Three illustrations will be given in this chapter. In all of them it will be assumed that the balance sheet is prepared at the date of acquisition, that the holding company paid book value for the shares acquired, and that it purchased 90 per cent of the stock of the sub- sidiary leaving a minority interest outstanding of 10 per cent. First illustration: subsidiary has no surplus or deficit at the date of acquisition. Second illustration: subsidiary has a surplus at the date of acquisition. Third illustration: subsidiary has a deficit at the date of acquisition. First illustration Minority interest in capital stock. In this illustration it is assumed that the subsidiary had a capital stock of $50,000 and no surplus or deficit at the date when the holding company acquired 90 per cent of its stock, paying 20 MINORITY INTEREST 21 exactly book value therefor, or $45,000. The balance sheets of holding company A and subsidiary B are indicated in the- first two columns of the working papers, and are therefore not set out as separate statements. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B. S. Cash $65,000 $60,000 $125,000 Investment in Stock of Co. B (90%) . 45,000 45,000 $110,000 $60,000 $45,000 $125,000 Liabilities Accounts Payable $20,OCO $10,000 $30,000 Capital Stock: Co. A 75,000 75,000 Co. B 50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,OOOM Surplus Co.A 15,000 15,000 $110,000 $60,000 $45,000 $125,000 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $125,000 Accounts Payable $30,000 Minority Interest Co. B(10%). 5,000 Capital Stock 75,000 Surplus 15,000 $125,000 $125,000 Second illustration Minority interest in capital stock plus surplus. In this illustration it is assumed that the subsidiary had a capital stock of $50,000 and a surplus of $10,000, making a total book value of $60,000 at the date when the holding company acquired 90 per cent of the stock, paying book value therefor, or $54,000. The subsidiary capital stock and sur- plus accounts represent capital liabilities to the holding com- pany and the minority, as follows: Total Inter-Co. Minority (00%) (10%) Capital Stock $50,000 $45,000 $5,000 Plus Surplus 10,000 9,000 1,000 Total $60,000 $54,000 $6,000 CONSOLIDATED STATEMENTS In the following working papers, 90 per cent of the stock and surplus are eliminated as an inter-company liability, and the 10 per cent minority interest is extended to the consoli- dated balance sheet columns as an outside capital liability. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $54,000 $54,000 Cash 46,000 $75,000 Co. B. Eliminate holding company's 90% Minority interest 10% Surplus: Co. A Co. B Eliminate holding company's 90% Minority interest 10% 15,000 $121,000 $100,000 $75,000 $54,000 $121,000 Liabilities Accounts Payable $10,000 $15,000 Capital Stock: Co. A 75,000 50,000 10,000 $45,000 9,000 $25,000 75,000 5,OOOM 15,OOOS 1,OOOM $100,000 $75,000 $54,000 $121,000 Cash. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) $121,000 Accounts Payable $121,000 Minority Interest in Co. B(10%) Capital Stock $5,000 Surplus 1,000 Capital: Capital Stock $75,000 Surplus 15,000 $25,000 6,000 90,000 $121,000 The minority interest may be shown in detail as to capital stock and surplus, as in the foregoing balance sheet, or shown in one amount as in the following balance sheet. MINORITY INTEREST 23 Cash. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) $121,000 Accounts Payable $25,000 Minority Interest in Co. B (10%) 6,000 Capital: Capital Stock $75,000 Surplus 15,000 90,000 $121,000 $121,000 Third illustration Minority interest in capital stock less deficit. In this illustration it is assumed that the subsidiary had a capital stock of $50,000 and a deficit of $10,000, making a net worth of $40,000 at the time when the holding company acquired 90 per cent of its stock, paying book value therefor, or $36,000. The subsidiary's capital stock and deficit accounts represent capital liabilities to the holding company and the minority as follows: Total Capital Stock $50,000 Less Deficit 10,000 Net.. "$40,000 Inter-Co. (90%) $45,000 9,000 $36,000 Minority (10%) $5,000 1,000 $4,000 In the following working papers, 90 per cent of the sub- sidiary's stock and deficit are eliminated as an inter-company liability, and 10 per cent of these accounts are extended to the consolidated balance sheet columns as an outside capital lia- bility. COMPANY A AND SUBSIDIARY B . CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Investment in Stock of Co. B (90%) . . . $36,000 Cash 64,000 Deficit Co. B Eliminate holding company's 90%. Minority interest 10% . $55,000 10,000 $100,000 Liabilities Accounts Payable $10,000 Capital Stock: Co. A 75,000 Co. B Eliminate holding company's 90% Minority interest 10% Surplus Co. A 15,000 $100,000 Elim. $36,000 9,000 $65,000 $45,000 $15,000 C. B. S. $119,000 1,OOOM 50,000 $25,000 75,000 $45,000 5,OOOM 15,0005 $65,000 $45,000 $120,000 24 CONSOLIDATED STATEMENTS In the following consolidated balance sheet, the minority interest is shown as $4,000, which is their 10 per cent of the capital stock minus their 10 per cent of the deficit. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $119,000 Accounts Payable $25,000 Minority Interest in Co. B (10%) 4,000 Capital: Capital Stock $75,000 Surplus 15,000 90,000 $119,000 $119,000 CHAPTER V GOODWILL Purchase price in excess of book value. In all preceding illustrations the holding company has paid exactly book value for the subsidiary stock. In this chapter we shall con- sider the effect on the consolidated balance sheet in case the holding company pays more than book value. When the holding company pays more than book value for the subsidiary stock, the balance of the investment account no longer represents merely the holding company's interest in the subsidiary's net assets. The purchase price is now com- posed of two elements; a payment equal to the book value of the interest acquired in the subsidiary's net assets, and a premium paid to obtain the interest. The treatment to be given to this premium may be made clearer by considering how a similar premium would be dealt with in the case of a merger. Treatment in a merger. Let us assume that Company B has the following balance sheet: BALANCE SHEET COMPANY B Machinery $25,000 Accounts Payable $15,000 Inventory 30,000 Capital Stock 50,000 Cash 10,000 $65,000 $65,000 Company A has the following balance sheet: BALANCE SHEET COMPANY A Cash.. . $75,000 Capital Stock $75,000 Company A wishes to obtain control of Company B. To do so it may adopt either the merger procedure, purchasing the assets and assuming the liabilities, or the holding company procedure, purchasing the stock. The price agreed upon is $55,000, which is $5,000 in excess of the book value of Com- pany B. 25 26 CONSOLIDATED STATEMENTS If the merger procedure is adopted, Company A's entries will be: Machinery $25,000 Inventory 30,000 Cash 10,000 Goodwill 5,000 Accounts Payable $15,000 Company B, Vendor 55,000 To record the purchase of the assets and the assumption of the liabilities of Company B. Purchase price $55,000 Assets per Co. B's books $65,000 Less liabilities assumed 15,000 Net assets per Co. B's books 50,000 Excess payment charged to goodwill. . $ 5,000 Company B, Vendor $55,000 Cash $55,000 To record the payment of cash for the net assets and good- will of Company B. Company A's balance sheet after the purchase will be as follows : BALANCE SHEET-COMPANY A Machinery... $25,000 Accounts Payable $15,000 Inventory 30,000 Capital Stock 75,000 Cash 30,000 Goodwill 5,000 $90,000 $90,000 Treatment in a holding company. If the holding company procedure is adopted, Company A will make the following entry: Investment in Stock of Company B $55,000 Cash $55,000 To record the purchase of the entire outstanding stock of Company B. Purchase price $55,000 Book value of stock acquired 50,000 Payment in excess of book- value $5,000 In preparing the consolidated balance sheet, the investment account is replaced by the things which it represents. When GOODWILL 27 the holding company pays exactly book value, the invest- ment account represents the net assets on the subsidiary's books; when the holding company pays more than book value, the investment account represents two things: (1) the book value of the subsidiary's net assets, and (2) the excess payment, which is goodwill. Therefore, in the consolidated working papers that portion of the investment account which represents subsidiary net assets is eliminated; and the portion which represents excess payment is carried out to the consolidated balance sheet column, and appears in the consolidated balance sheet as goodwill. Outline of illustrations. Six illustrations will be given in this chapter, divided into two groups. In all of the illustra- tions the purchase price will be in excess of the book value of the subsidiary stock at the date of acquisition; and in all of the illustrations the consolidated balance sheet will be prepared at the date of acquisition. Group I. Holding company acquires 100 per cent interest. First illustration: Subsidiary has no surplus or deficit. Second illustration: Subsidiary has a surplus. Third illustration: Subsidiary has a deficit. Group II. Holding company acquires a 90 per cent interest. Fourth illustration: Subsidiary has no surplus or deficit. Fifth illustration: Subsidiary has a surplus. Sixth illustration: Subsidiary has a deficit. In all of these illustrations the following principles, already explained, will govern the eliminations: Investment account: Eliminate the book value of the stock acquired, carrying out any excess as goodwill. Subsidiary capital stock, surplus and deficit accounts: Eliminate the holding company's proportion as an inter-com- pany relation, carrying out the minority's interest. First illustration. In this illustration it will be assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and no surplus or deficit. The holding company acquires all of the stock, paying $57,000 therefor. 28 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B, S. Investment in Stock of Co. B (100%) . . $57,000 Eliminate book value: Capital stock $50,000 Goodwill $ 7,000 G Cash 43,000 $60,000 103,000 $100,000 $60,000 $50,000 $110,000 Liabilities Accounts Payable $10,000 $10,000 $20,OCO Capital Stock: Co. A 75,000 75,000 Co. B 50,000 Eliminate holding company's 100% $50,000 Surplus Co. A 15,000 15,000 $100,000 $60,000 $50,000 $110,000 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $103,000 Accounts Payable $ 20,000 Goodwill 7,000 Capital Stock 75,000 Surplus 15,000 $110,000 $110,000 Second illustration. In this illustration it will be assumed that at the date of acquisition, the subsidiary has a capital stock of $50,000 and a surplus of $10,000, making a total book value of $60,000. The holding company acquires all of the stock, paying $63,000 therefor. Assets Co. A Investment in Stock of Co. B (100%). . $ 63,000 Eliminate book value: Capital Stock Surplus Goodwill Cash 37,000 Co. B Elim. $50,000 10,000 $65,000 C. B. S. $ 3,000 G 102,000 $100,000 $65,000 $60,000 $105,000 GOODWILL 29 Liabilities Co. A Accounts Payable $10,000 Capital Stock: Co. A 75,000 Co.B Eliminate holding company's 100% Surplus: Co. A 15,000 Co.B Eliminate holding company's 100% Co.B $5,000 50,000 10,000 Elim. $50,000 10,000 C. B. S. $15,000 75,000 15,000 $100,000 $65,000 $60,000 $105,000 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash * $102,000 Accounts Payable $15,000 Goodwill 3,000 Capital Stock 75,000 Surplus 15,000 $105,000 $105,000 Third illustration. In this illustration it will be assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a deficit of $10,000, making the net book value of the stock $40,000. The holding company acquires all of the stock, paying $42,000 therefor. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. Investment in Stock of Co. B (100%) . . $42,000 Eliminate book value: Capital Stock Less Deficit Goodwill Cash 58,000 Deficit Co. B Eliminate holding company's 100% $50,000 10,000* $45,000 10,000 C. B. S. $ 2,ooaq 103,000 10,000 $100,000 $55,000 $50,000 $105,000 $5,000 Liabilities Accounts Payable $15,000 Capital Stock: Co. A 75,000 Co.B 50,000 Eliminate holding company's 100% $50,000 Surplus Co. A 10,000 $20,000 75,000 10,000 $100,000 $55,000 $50,000 $105,000 Indicates a deduction. 30 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $103,000 Accounts Payable $20,000 2,000 Capital Stock 75,000 Surplus 10,000 Goodwill. $105,000 $105,000 Fourth illustration. In this illustration it will be assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and no surplus. The holding company acquires a 90 per cent interest, the book value of which is $45,000 and the purchase price $48,000. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $48,000 Eliminate book value: Capital stock: 90% of $50,000. . . $45,000 Goodwill $ 3,000"G Cash 52,000 $65,000 117,000 $100,000 $65,000 $45,000 $120,000 Liabilities Accounts Payable $10,000 $15,000 $25,000 Capital Stock: Co. A 75,000 75,000 Co. B 50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,00&M Surplus Co. A 15,000 15,000 $100,000 $65,000 $45,000 $120,000 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $117,000 Accounts Payable $25,000 Goodwill 3,000 Minority Interest in Co. B (10%) 5,000 Capital Stock 75,000 Surplus 15,000 $120,000 $120,000 GOODWILL 31 Fifth illustration. In this illustration it will be assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a surplus of $10,000, making a total book value of $60,000. The holding company acquires a 90 per cent interest, the book value of which is $54,000 and the pur- chase price $57,000. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Investment in Stock of Co. B (90%) . . . $57,000 Eliminate book value: Capital stock: 90% of $50,000... Surplus :90%of 10,000... Goodwill Cash 43,000 Co. B Elim. C. B. S. $45,000 9,000 75,000 $ 3.000G 118,000 $100,000 $75,000 $54,000 $121,000 Liabilities Accounts Payable $10,000 $15,000 Capital Stock: Co. A 75,000 Co. B 50,000 Eliminate holding company's 90% Minority interest 10% Surplus: Co. A 15,000 Co. B.. 10,000 Eliminate holding company's 90% Minority interest 10% $45,000 9,000 $25,000 75,000 5,OOOM 15,000 1,OOOM $100,000 $75,000 $54,000 $121,000 Cash.... Goodwill. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Accounts Payable $25,000 $118,000 3,000 $121,000 Minority Interest Co. B (10%) 6,000 Capital Stock 75,000 Surplus 15,000 $121,000 Sixth illustration. In this illustration it will be assumed that at the date of acquisition the subsidiary has a capital stock of 32 CONSOLIDATED STATEMENTS $50,000 and a deficit of $10,000, making a net book value of $40,000. The holding company acquires a 90 per cent interest, the book value of which is $36,000, and the purchase price $38,000. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Co. B Elim, C. B. S. Assets Co. A Investment in Stock of Co. B (90%) . . . $38,000 Eliminate book value: Capital Stock: 90% of $50,000... Less Deficit: 90% of 10,000... Goodwill Cash 62,000 Deficit Co. B Eliminate holding company's 90%. Minority interest 10% . $45,000 9,000* $55,000 10,000 9,000 $ 2,000 G 117,000 1,OOOM $100,000 $65,000 $45,000 $120,000 Liabilities Accounts Payable $10,000 Capital Stock: Co. A 75,000 Co. B.. Eliminate holding company's 90% Minority interest 10% Surplus Co. A 15,000 $15,000 50,000 $45,000- $25,000 75,000 5.000M 15,000 $100,000 $65,000 $45,000 $120,000 * Indicates a deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $117,000 Accounts Payable $25,000 Goodwill. 2,000 Minority Interest Co. B (10%) 4,000 Capital Stock 75,000 Surplus 15,000 $119,000 $119,000 Summary. It will be noted that in all of these illustrations: 1. The excess of the purchase price over the book value of the acquired stock at the date of acquisition appears on the consolidated balance sheet as goodwill. GOODWILL 33 2. The minority interest is its stock proportion of the subsi- diary's capital stock plus its proportion of the subsidiary's surplus or minus its proportion of the subsidiary's deficit. 3. The holding company's surplus at the date of acquisition is not affected by the fact that the subsidiary's books show either a surplus or a deficit. On the consolidated balance sheet the excess of purchase price over book value at acquisition will not appear as a sep- arate item of goodwill, but will be added to any goodwill accounts on the books of the related companies, the total being shown as one item. CHAPTER VI DEDUCTION FROM GOODWILL Book value in excess of purchase price. If the subsidiary has a goodwill account at the date when the holding company acquires its stock interest, and if the holding company pays less than book value for the stock, the presumption is that the holding company does not recognize the goodwill as con- servatively valued and is therefore unwilling to pay book value for the stock. Therefore, when the purchase price is less than the book value of the stock as shown on the subsidiary's books, the deficiency should be deducted from any goodwill appearing on the subsidiary's books. Only the net amount of goodwill thus ascertained will appear on the consolidated balance sheet. Cases may arise when the holding company pays less than book value and there is no goodwill on the subsidiary's books; the consideration of these cases will be deferred until a subse- quent chapter. Outline of illustrations. Six illustrations will be given in this chapter, divided into two groups. In all of the illustra- tions the purchase price will be less than book value, there will be a goodwill account on the subsidiary's books, and the con- solidated balance sheet will be prepared at the date of ac- quisition. Group I. Holding company acquires a 100 per cent interest. First illustration: subsidiary has no surplus or deficit. Second illustration: subsidiary has a surplus. Third illustration: subsidiary has a deficit. Group II. Holding company acquires a 90 per cent interest. Fourth illustration: subsidiary has no surplus or deficit. Fifth illustration: subsidiary has a surplus. Sixth illustration: subsidiary has a deficit. In all of these illustrations, the principles already discussed will govern the eliminations: Investment account: eliminate the book value of the stock acquired, the excess of the book value eliminated over the 34 DEDUCTION FROM GOODWILL 35 cost of the stock being carried to the consolidated balance sheet column as a negative figure to be deducted from the sub- sidiary's goodwill. Subsidiary's capital stock, surplus and deficit accounts: eliminate the holding company's proportion as an inter-com- pany relation, carrying out the minority's interest. First illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and no surplus or deficit. The holding company acquires all of the stock, paying $49,000 therefor, or $1,000 less than the book value. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Co. B Elim. Assets Co. A Investment In Stock of Co. B (100%) . $49,000 Eliminate book value: Capital Stock Deduction from goodwill Goodwill Cash 51,000 $50,000 3,000 57,000 C. B. S. $ 1,000* G 3,000 G 108,000 $100,000 $60,000 $50,000 $110,000 Liabilities Accounts Payable $15,000 $10,000 Capital Stock: Co. A 75,000 Co. B 50,000 Eliminate holding company's 100% Surplus Co. A 10,000 $25,000 75,000 10,000 $100,000 $60,000 $50,000 $110,000 50,000 Indicate* deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $108,000 Accounts Payable $25,000 Goodwill. 2,000 Capital Stock 75,000 Surplus 10,000 $110,000 $110,000 36 Second illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a surplus of $10,000, making a total book value of $60,000. The holding company acquires all of the stock, paying $59,000 therefor, or $1,000 less than book value. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Investment in Stock of Co. B (100%) . $59,000 Eliminate book value: Capital Stock Surplus Deduction from goodwill Cash 41,000 Goodwill . . Co. B Elim. C. B. S. $50,000 10,000 $61,000 4,000 $1,000* G 102,000 4,000 G $100,000 $65,000 $60,000 $105,000 Liabilities Accounts Payable $10,000 Capital Stock: Co.A 75,000 Co. B.. Eliminate holding company's 100% Surplus: Co.A 15,000 Co. B Eliminate holding company's 100% $5,000 50,000 10,000 $50,000 10,000 $15,000 75,000 15,000 $100,000 $65,000 $60,000 $105,000 * Indicates a deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $102,000 Accounts Payable. Goodwill 3,000 Capital Stock. ... Surplus $105,000 $15,000 75,000 15,000 $105,000 Third illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a deficit of $10,000, making a net book value of DEDUCTION FROM GOODWILL 37 $40,000. The holding company acquires all of the stock, paying $39,000 therefor, which is $1,000 less than book value. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (100%) . $39,000 Eliminate book value: Capital Stock $50,000 Deficit 10,000* Deduction from goodwill $ 1,000*G Cash 61,000 $42,000 103,000 Goodwill 3,000 3.000G Deficit Co. B 10,000 Eliminate holding company's 100% 10,000 $100,000 $55,000 $50,000 $105,000 Liabilities Accounts Payable $15,000 $5,000 $20,000 Capital Stock: Co. A 75,000 75,000 Co. B 50,000 Eliminate holding company's 100% $50,000 Surplus Co. A 10,000 10,000 $100,000 $55,000 $50,000 $105,000 * Indicates a deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $103,000 Accounts Payable $20,000 Goodwill 2,000 Capital Stock 75,000 Surplus 10,000 $105,000 $105,000 Fourth illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and no surplus. Its book value is therefore $50,000. The holding company acquires a 90 per cent interest, the book value of which is $45,000. The purchase price was $44,000, or $1,000 less than book value. 38 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. Investment in Stock of Co. B (90%) . . $44,000 Eliminate book value: Capital stock: 90% of $50,000. . Deduction from goodwill Cash 56,000 62,000 Goodwill 3,000 $45,000 C. B. S. $1,000* G 118,000 3,000 G $100,000 $65,000 $45,000 $120,000 Liabilities Accounts Payable $10,000 Capital Stock: \ Co. A 75,000 Co.B.. Eliminate holding company's 90% Minority interest 10% Surplus Co. A 15,000 $15,000 50,000 $45,000 $25,000 75,000 5,000 M 15,000 $100,000 $65,000 $45,000 $120,000 * Indicates a deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash.... Goodwill $118,000 Accounts Payable $25,000 2,000 Minority Interest Co. B (10%) 5,000 Capital Stock 75,000 Surplus 15,000 $120,000 $120,000 Fifth illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a surplus of $10,000, making a total book value of $60,000. The holding company acquires a 90 per cent in- terest, the book value of which is $54,000 and the purchase price $53,000. DEDUCTION FROM GOODWILL 39 COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Co. B Elim. Investment in Stock of Co. B (90%) . . $53,000 Eliminate book value: Capital stock: 90% of $50,000. . Surplus: 90% of 10,000.. Deduction from goodwill Cash 47,000 Goodwill. . $45,000 9,000 72,000 3,000 C. B. S. $ 1,000* G 119,000 3,000 G $100,000 $75,000 $54,000 $121,000 Liabilities Accounts Payable $10,000 $15,000 Capital Stock: Co. A 75,000 Co. B.. 50,000 Eliminate holding'company's 90% Minority interest 10% Surplus: Co. A 15,000 Co. B.. Eliminate holding company's 90% Minority interest 10% 10,000 $45,000 9,000 $25,000 75,000 5,000 M 15,000 1,000 M $100,000 $75,000 $54,000 $121,000 * Indicates a deduction. COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $119,000 Accounts Payable $25,000 Goodwill 2,000 Minority Interest Co. B (10%) 6,000 Capital Stock 75,000 Surplus. . ~ 15,000 $121,000 $121,000 Sixth illustration. In this illustration it is assumed that at the date of acquisition the subsidiary has a capital stock of $50,000 and a deficit of $10,000, making a net book value of $40,000. The holding company acquires a 90 per cent in- terest, the book value of which is $36,000 and the purchase price $35,000. 40 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET WORKING PAPERS Assets Co. A Investment in Stock of Co. B (90%) . . . $35,000 Eliminate book value:.. Capital Stock: 90% of $50,000.. Deficit: 90% of 10,000.. Deduction from goodwill Cash 65,000 Goodwill Deficit Co. B.... Eliminate holding company's 90% Minority interest 10% Co. B Elim. C. B. S. $52,000 3,000 10,000 $45,000 9,000* 9,000 $ 1,000* G 117,000 3,000 G 1,000 M $100,000 $65,000 $45,000 $120,000 Liabilities Accounts Payable $10,000 $15,000 $25,000 Capital Stock: Co. A 75,000 75,000 Co. B 50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,000 M Surplus Co. A 15,000 15,000 $100,000 $65,000 $45,000 $120,000 * Indicates a deduction. | COMPANY A AND SUBSIDIARY B CONSOLIDATED BALANCE SHEET (Date) Cash $117,000 Accounts Payable $25,000 Goodwill 2,000 Minority Interest Co. B (10%) 4,000 Capital Stock 75,000 Surplus 15,000 $119,000 $119,000 Summary of the first six chapters. In all of the illustra- tions thus far presented the consolidated balance sheet has been prepared at the date of acquisition, and the following principles and procedure have been found to apply: 1. All similar assets and liabilities are combined. 2. The investment account is not shown in the consolidated balance sheet; the book value of the subsidiary stock is DEDUCTION FROM GOODWILL 41 eliminated; any excess of purchase price over book value is carried to the consolidated balance sheet as goodwill; any excess of the book value over the purchase price is deducted from the goodwill on the subsidiary's books. 3. The subsidiary's capital stock, surplus and deficit ac- counts are entirely eliminated if the holding company owns all of the subsidiary stock; if it owns only a con- trolling interest each of these accounts is divided into two parts: (a) the holding company's proportion, which is eliminated; and (b) the minority's interest, which is shown on the consolidated balance sheet. In later chapters we shall consider the procedure of making eliminations when the consolidated balance sheet is prepared at a date subsequent to the date of acquisition, after the sub- sidiary has made profits or losses and paid dividends. Be- fore considering these cases, however, it is necessary to de- scribe the approved method for the holding company to record its share of subsidiary profits, losses and dividends. This will be done in the next chapter. CHAPTER VII SUBSIDIARY'S PROFITS, LOSSES AND DIVIDENDS ON THE HOLDING COMPANY'S BOOKS Subsidiary profits. If the subsidiary makes a profit after the holding company acquires its stock, this profit increases the net assets of the subsidiary and correspondingly increases the value of the stock owned by the holding company. Hence, after the subsidiary has closed its books and ascertained its profits, the holding company should take up its share of these profits by debiting the investment account and crediting an account with some title such as Income from Subsidiary. This account is closed into Profit and Loss or Surplus. It will be noted that the holding company takes up its share of the profits and increases its investment account as soon as the subsidiary ascertains its profits; this practice is justified be- cause the two companies are so closely related that the profits of the subsidiary are virtually profits of the holding company which owns the subsidiary. Subsidiary losses. If the subsidiary suffers a loss, the hold- ing company should debit Loss from Subsidiary to take up its share of the loss, and credit the investment account to show the reduction in the value of the stockholdings in the sub- sidiary. Subsidiary dividends. When the subsidiary declares a dividend, the holding company should debit Dividends Re- ceivable and credit the investment account. Since the hold- ing company took up the profits of the subsidiary as income, the dividends do not constitute additional income but are a conversion of the asset of stock investment into a current asset of dividends receivable. In other words, profits earned by the subsidiary increase the value of the subsidiary stock, and hence are added to the in- vestment account by a debit entry; dividends decrease the net assets of the subsidiary and hence are deducted from the investment account by a credit entry. 42 PROFITS, LOSSES AND DIVIDENDS 43 When the subsidiary pays the dividend, the holding com- pany should debit Cash and credit Dividends Receivable. If at the time of the acquisition of the stock, a dividend has been declared by the subsidiary but has not been paid, and if the right to receive the dividend passes to the holding com- pany, the holding company should record the transaction by a debit to Dividends Receivable for the amount of the divi- dend, and a debit to Investment in Stock for the remainder of the purchase price. Illustrative journal entries. The proper method of taking up subsidiary profits, losses and dividends may be illustrated by the following example. Company A acquired the entire issue of the stock of Company B. At the date of acquisition Company B had a capital stock of $100,000 and a surplus of $50,000. The holding company paid $150,000 for the stock. Investment in Stock of Company B $150,000 Cash $150,000 To record the purchase of the entire issue of Company B's stock. Immediately after the holding company acquired the stock, the subsidiary declared a 10 per cent dividend. This dividend was not income to the holding company; the holding company virtually purchased the net assets of the subsidiary when it acquired the stock, and the dividend merely transfers a portion of these assets to the holding company. The dividend was a conversion of a portion of the permanent investment into a current asset. Dividends Receivable $10,000 Investment in Stock of Company B $10,000 To record the declaration of a dividend by Company B, payable on (date). At a later date the subsidiary paid the dividend, and the holding company's asset of dividends receivable was converted into cash. Cash $10,000 Dividends Receivable $10,000 To record the collection of the dividend from Company B. During the first year following the acquisition of the stock, the subsidiary made a profit of $25,000. This was virtually an 44 CONSOLIDATED STATEMENTS earning for the holding company, and it resulted in a $25,000 increase in the value of the subsidiary stock. Investment in Stock of Company B $25,000 Income from Company B $25,000 To take up our profits arising from the operations of subsidiary Company B. The subsidiary then declared and immediately paid a divi- dend of $5,000. Although this dividend may have been paid from profits earned since the holding company acquired control of the stock, the dividend should not be treated as income be- cause the holding company has already taken up the income for the year. Since the dividend was paid immediately upon declaration, it need not be passed through a Dividends Re- ceivable account but may be recorded as follows: Cash $5,OCO Investment in Stock of Company B $5,000 To record collection of a dividend from Company B. During the second year the subsidiary lost $20,000, thus decreasing its net assets and the value of the stock owned by the parent company. The parent company should take up the loss by the following entry: Loss of Subsidiary B $20,000 Investment in Stock of Company B $20,000 To take up the loss resulting from the year's operations of subsidiary Company B. Balance of the investment account. When the holding company records its share of subsidiary profits, losses and dividends in the manner just described, the balance of the investment account will show at the close of each successive fiscal period: 1. The book value of the subsidiary stockholdings at that date, 2. Plus any goodwill involved in the purchase, due to the fact that the purchase price was in excess of the book value of the acquired stock at the date of acquisition, 3. Or minus any negative goodwill involved in the purchase, due to the fact that the purchase price was less than the book value of the acquired stock at the date of acquisition. This fact will be demonstrated by a number of illustrations. PROFITS, LOSSES AND DIVIDENDS 45 First illustration. This illustration is based on the journal entries shown in the preceding sections of this chapter. The account with the investment on Company A's books will ap- pear as follows: INVESTMENT IN STOCK OF COMPANY B Cost $150,000 Dividends $10,000 Profits First year 25,000 Dividends 5,000 Loss Second year 20,000 The balance of the account is $140,000. The subsidiary's surplus at this date is: Opening balance $50,000 Minus first dividend 10,000 $40,000 Plus first year's profits 25,000 $65,000 Minus second dividend 5,000 $60,000 Minus second year's loss 20,000 Present surplus $40,000 Hence the present book value of the subsidiary is $140,000. Thus the balance of the investment account at this date is equal to the book value of the stock held; there is no goodwill nor negative goodwill, for the holding company paid exactly book value. Second illustration. The subsidiary Company B has a capital stock of $100,000 and at the date when the holding company acquired its stock the subsidiary had a surplus of $50,000. The holding company purchased a 90 per cent in- terest, which had a book value of 90 per cent of $150,000, or $135,000. The price paid was $138,000; hence there was a $3,000 goodwill element in the stock purchase. During the first two years after the holding company acquired the stock the subsidiary's surplus account exhibited the following changes: Debits Credits Balance at date of holding company's acquisition $50,000" Profits first year 10,000 Dividend first year $ 6,000 Loss second year 3,000 Balance at the present date 51,000 $60,000 $60,000 46 CONSOLIDATED STATEMENTS r The subsidiary's book value is now $151,000, and 90 per cent thereof is $135,900. The investment account on the holding company's books will appear as follows: INVESTMENT IN STOCK OF COMPANY B Cost $138,000 Dividend first year $ 5,400 Profits first year 9,000 Loss second year 2,700 Balance at present date. . 138,900 $147,000 $147,000 This balance of '.' '. $138,900 "" Represents: The present book value of 90% of the subsidiary stock 135,900 and the goodwill (as computed above) $3,000 Third illustration. The subsidiary Company B has a capital stock of $100,000, and at the date when the holding company acquired its stock it had a deficit of $15,000. The holding company purchased a 90 per cent interest, which had a book value of 90 per cent of $85,000, or $76,500. The price paid was $73,000; hence there was a negative goodwill of $3,500 in the stock purchase. During the first two years after the holding company acquired its stock, the subsidiary's surplus account exhibited changes as follows: Debits Credits Balance at date of holding company's acquisition $15,000 Profits first year $35,000 Dividends first year 5,000 Loss second year 3,000 Balance at the present date 12,000 [ $35,000 $35.000 The subsidiary's book value is now $112,000, and 90 per cent thereof is $100,800. The investment account on the holding company's books will appear as follows: INVESTMENT IN STOCK OF COMPANY B Cost , $73,000 Dividends first year $ 4,500 Profits first year 31,500 Loss second year 2,700 Balance at the present date 97,300 $104,500 $104,500 This balance of $97,300 Represents: The present book value of 90% of the subsidiary stock . $100,800 Minus the negative goodwill (as computed above) . . 3,500 $97,300 CHAPTER VIII BALANCE SHEETS AFTER DATE OF ACQUISITION Function of working papers. Consolidated balance sheet working papers are prepared in order to accomplish the fol- lowing objects: 1. Combine the assets and liabilities of a similar nature. 2. Determine any goodwill or negative goodwill involved in the stock purchase. 3. Ascertain the minority interest in the stock and surplus of the subsidiary. 4. Show the capital stock and surplus of the holding com- pany. The preceding chapters have shown how these objects are accomplished when the consolidated balance sheet is prepared at the date of acquisition. It is the purpose of this chapter to show how the necessary facts are ascertained when the balance sheet is prepared at a date subsequent to acquisition, and when the holding company carries its investment account in the manner described in the preceding chapter. The assets and liabilities of a similar nature are combined in the manner already described, regardless of the date of the balance sheet, and this subject requires no further discussion. Goodwill or negative goodwill. In the preceding chapter it was shown that when the holding company follows the ap- proved method of accounting, the investment account at any date has a balance equal to the book value of the stock held, plus any goodwill or minus any negative goodwill arising from the stock purchase. Therefore the goodwill element can be ascertained by eliminating the book value of the subsidiary holdings at the date of the balance sheet; a positive remainder is an addition to the goodwill, and a negative remainder is a deduction from the goodwill. Minority interest. The minority interest is its stock pro- portion of the subsidiary's capital stock and surplus at the date of the balance sheet. This interest is ascertained by elimi- nating the holding company's proportion of these accounts, and 47 48 CONSOLIDATED STATEMENTS carrying out the minority's interest. The reader is already familiar with this procedure. Holding company's capital stock and surplus. The entire outstanding capital stock of the holding company as well as its surplus is carried to the consolidated balance sheet. This surplus account contains not only the gains and losses arising from the holding company's own operations, but also the pro- portion of the subsidiary's gains and losses accruing to the hold- ing company. If the investment account has been carried in the approved manner, these gains and losses have been taken up on the holding company's books. Summary of eliminations. From the preceding paragraphs it will be noted that the following eliminations are made: On the asset side: From the investment account: eliminate the present book value of the stock held, represented by the par of the stock and the proportion of subsidiary surplus ap- plicable thereto. A positive remainder is goodwill; a negative remainder is a deduction from goodwill. On the liability side: From the subsidiary capital stock: eliminate the par of the stock held by the parent company, carrying out the remainder as minority interest. From the subsidiary surplus: eliminate the surplus applicable to the stock owned by the parent company, carrying out the remainder as minority interest. Outline of illustrations. Nine illustrations will be given in this chapter, designed to show the method of preparing con- solidated balance sheet working papers under a variety of conditions. They will be divided into three groups, as follows: First group: 100 per cent interest; no goodwill; no subsidiary surplus at date of acquisition. First illustration: at date of acquisition; no subsidiary surplus. Second illustration: at end of first year; subsidiary surplus. Third illustration: at end of two years; subsidiary deficit. Second Group: 90 per cent interest; goodwill; subsidiary surplus at acquisition. Fourth illustration: at date of acquisition; subsidiary surplus. Fifth illustration : at end of one year; subsidiary surplus increased. Sixth illustration: at end of two years; subsidiary deficit. BALANCE SHEETS AFTER ACQUISITION 49 Third Group: 90 per cent interest; negative goodwill; sub- sidiary deficit at acquisition. Seventh illustration: at date of acquisition; subsidiary deficit. Eighth illustration: at end of one year; subsidiary deficit increased. Ninth illustration: at end of two years; subsidiary surplus. The sundry assets and liabilities will be omitted, as they are not essential to show the method of making eliminations of inter-company accounts. In all of the illustrations it will be assumed that the holding company made no profits or losses other than those accruing from its ownership of the subsidiary stock. First illustration. Working papers prepared at the date of acquisition. Assets Co. A Co. B Elim. C. B, S. Investment in Stock of Co. B (100%) . . $50,000 Eliminate present book value: Capital stock $50,000 Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 100% Surplus: Co. A 15,000 $50,000 $50,000 $75,000 15,000 Second illustration. During the year the subsidiary has made a profit of $12,000, and hence it has a surplus of that amount. The holding company has taken up this profit, thus raising its investment account to $62,000 and its surplus to $27,000. Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (100%) . . $62,000 Eliminate present book value: Capital Stock $50,000 Surplus 12,000 Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 100% $50,000 Surplus: Co. A 27,000 27,000 Co. B 12,000 Eliminate holding company's 100% 12,000 50 CONSOLIDATED STATEMENTS Third illustration. During the second year the subsidiary lost $18,000, thus wiping out its surplus and leaving it with a deficit of $6,000. The holding company took up the loss, reducing its investment account to $44,000, and its surplus to $9,000. Co. A Co. B Elim. C. B. S. $44,000 Assets Investment in Stock of Co. B (100%) . . Eliminate present book value: Capital Stock Deficit Deficit Co. B Eliminate holding company's 100% $6,000 $50,000 6,000* 6,000 Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 100% Surplus Co. A 9,000 $50,000 $50,000 $75,000 9,000 Fourth illustration. The subsidiary had a capital stock of $50,000 and a surplus of $10,000 at the date when the holding company acquired its stock. The holding company purchased 90 per cent of the stock, the book value of which was $54,000, and the purchase price $56,000. The working papers are pre- pared at the date of acquisition. Assets Investment in Stock of Co. B (90%) . Eliminate present book value: Capital stock: 90% of 50,000. , Surplus: 90% of 10,000., Goodwill.., Co. A $56,000 Co. B Elim. C. B. S. $45,000 9,000 $2,000 G Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,OOOM Surplus: Co. A 15,000 15,000 Co. B 10,000 Elimin ate holding company's 90% 9,000 Minority interest 10% 1,OOOM Fifth illustration. During the first year the subsidiary made a profit of $4,000, thus increasing its surplus to $14,000. The holding company took up its 90 per cent of this profit, BALANCE SHEETS AFTER ACQUISITION 51 or $3,600, thus increasing its investment account to $59,600 and its surplus to $18,600. Assets Investment in Stock of Co. B (90%) . Eliminate present book value: Capital stock: 90% of 50,000. . Surplus: 90% of 14,000 .. Goodwill. . Co. A $59,600 Co. B Elim. C. B. S. $45,000 12,600 $2,000 G Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,OOOM Surplus: Co. A 18,600 18,600 Co. B 14,000 Eliminate holding company's 90% 12,600 Minority interest 10% 1,400M Sixth illustration. During the second year the subsidiary lost $16,000, wiping out its surplus account and leaving it with a deficit of $2,000. The holding company took up 90 per cent of this loss, or $14,400, thus reducing its investment account to $45,200 and its surplus to $4,200. Assets Investment in Stock of Co. B (90%). . . Eliminate present book value: Capital stock: 90% of 50,000. . . . Deficit: 90% of 2,000.... Goodwill Deficit Co. B Eliminate holding company's 90% Minority interest 10% Co. A $45,200 Co. B Elim. C. B. S. $2,000 $45,000 1,800* 1,800 $2,000 G 2(X)M Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 90% Minority interest 10% Surplus Co. A 4,200 $50,000 $45,000 $75,000 5.000M 4,200 Seventh illustration. The subsidiary had a capital stock of $50,000 and a deficit of $10,000 at the date when the holding company acquired its stock. The holding company pur- 52 CONSOLIDATED STATEMENTS chafed 90 per cent of the stock, the book value of which was $36,000 and the purchase price $34,000. The working papers are prepared at the date of acquisition. Assets Investment in Stock of Co. B (90%) . . . Eliminate present book value: Capital stock: 90% of 50,000. . . . Deficit: 90% of 10,000... . Deduction from goodwill Deficit Co. B Eliminate holding company's 90% Minority interest 10% Co. A $34,000 Co. B Elim. C. S. S. $10,000 $45,000 9,000* 9,000 $2,000*G 1,000 M Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 90% Minority interest 10% Surplus Co. A 2,000 $50,000 $45,000 $75,000 5,000 M 2,000 Eighth illustration. During the first year the subsidiary lost $5,000, thus increasing its deficit to $15,000. The holding company took up 90 per cent of this loss, or $4,500, thereby reducing its investment account to $29,500, and changing its surplus of $2,000 into a deficit of $2,500. Assets Investment in Stock of Co. B (90%) . . . Eliminate present book value: Capital stock: 90% of $50,000. . . Deficit: 90% of 15,000... Deduction from goodwill Deficit: Co. A Co. B Eliminate holding company's 90% Minority interest 10% Co. A $29,500 Co. B 2,500 $15,000 Elim. $45,000 13,500* 13,500 C. B. S. $2,000*G 2,500 1,500M Liabilities Capital Stock Co. A $75,000 Co. B.. Eliminate holding company's 90% Minority interest 10% $50,000 $45,000 $75,000 5,OOOM Ninth illustration. During the second year the subsidiary made a profit of $30,000 and paid a dividend of $5,000, thereby causing a net increase of $25,000 in its surplus, changing its $15,000 deficit into a $10,000 surplus. The holding company took up its 90 per cent of the profits and its 90 per cent of the dividends, with the following results: Investment Account Surplus Balances at end of first year (as above) $29,500 $ 2,500* Add profits 90% of $30,000 27,000 27,000 Balances after adding profits 56,500 24,500 Deduct dividend 90% of $5,000 4,500 Balances at end of year 52,000 24,500 Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%). . $52,000 Eliminate present book value: Capital Stock 90% of 50,000. . 45,000 Surplus 90% of 10,000.. 9,000 Deduction from goodwill $2,000* G Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,000 M Surplus: Co. A 24,500 24,500 Co. B 10,000 Eliminate holding company's 90% 9,000 Minority interest 10% 1,000 M Summary of illustrations. In the next chapter the illustra- tions will be based on the same assumed facts as those in this chapter, and the reader will have occasion to refer to the results obtained in this chapter. These results are therefore summarized here to facilitate reference. Goodwill First Group: First illustration Second illustration Third illustration Second Group: Fourth illustration $2,000 Fifth illustration 2,000 Sixth illustration 2,000 Third Group: Seventh illustration 2,000* Eighth illustration 2,000* Ninth illustration 2,000* Holding Company Surplus $15,000 27,000 9,000 15,000 18,600 4,200 2,000 2,500* 24,500 Minority Interest Capital Stock Surplus or Deficit* Total or Net $5,000 $1,000 $6,000 5,000 1,400 6,400 5,000 200* 4,800 5,000 5,000 5,000 1,000* 4,000 1,500* 3,500 1,000 6,000 CHAPTER IX BALANCE SHEETS AFTER DATE OF ACQUISITION Continued INVESTMENT ACCOUNT CARRIED AT COST Determining the goodwill. The reader is already familiar with the principle that the goodwill element is the difference between the book value of the stock at the date of acquisition and the purchase price. When the investment account is carried continuously at cost, without entries for subsidiary profits, losses and dividends, the balance of the account represents: 1. The book value at the date of acquisition, 2. Plus any goodwill due to the fact that the purchase price was in excess of book value, 3. Or minus any negative goodwill due to the fact that the purchase price was less than book value. Therefore, when the investment account is carried at cost, the goodwill element is ascertained by eliminating the book value of the stock at the date of acquisition; a positive re- mainder is an addition to goodwill, and a negative remainder is a deduction from goodwill. Minority interest. The minority interest is always the minority's stock proportion of the capital stock and surplus of the subsidiary at the date of the balance sheet. The method used by the holding company in carrying its invest- ment account has no bearing whatever on the computation of the minority interest. Holding company surplus. When the holding company takes up the profits and losses of the subsidiary in the manner described in Chapter VII, the holding company's surplus ac- count reflects its portion of the subsidiary's net gain or loss after the date of acquisition. If the holding company does 54 BALANCE SHEETS AFTER ACQUISITION 55 not take up gains and losses in this manner, its surplus account does not reflect its portion of the net increase or decrease in subsidiary surplus after the date of acquisition. .Therefore the holding company's surplus appearing on the consolidated balance sheet must be computed as follows: 1. The holding company's own surplus account, 2. Plus its proportion of the net increase in the subsidiary's surplus since the date of acquisition, 3. Or minus its proportion of the net decrease in the sub- sidiary's surplus since the date of acquisition. Summary of eliminations. From the foregoing discussion it will be apparent that when the holding company carries the investment account at cost, the book value of the subsidiary stock at the date of acquisition is eliminated, instead of the book value at the date of the consolidated balance sheet, as was done in the preceding chapter. The eliminations may be summarized as follows: On the asset side: From the investment account: eliminate the book value of the subsidiary stock at the date of acquisition, represented by the par of the stock held and the proportion of the subsidiary's surplus or deficit at that date applicable to the holding company. A positive remainder is an addition to goodwill; a negative remainder is a deduction from goodwill. On the liability side: From the subsidiary capital stock: eliminate the par of the stock held by the parent company, carrying out the remainder as minority interest. From the subsidiary surplus or deficit: eliminate the holding company's proportion thereof at the date of acquisition; carry out the minority's proportion of the present surplus or deficit; and carry out the holding company's proportion of the net increase or decrease in the account since the date of ac- quisition, this latter item being combined with the holding company's surplus account to obtain the total or net surplus on the consolidated balance sheet. Outline of illustrations. The nine illustrations in the pre- ceding chapter will be repeated in this chapter, the only change being the fact that the holding company carries the investment account at cost. After each illustration is completed, the reader should refer to the summary at the close of Chapter VIII and note that the same results are obtained in each cor- responding pair of cases. 56 CONSOLIDATED STATEMENTS First illustration. Working papers prepared at the date of acquisition; the holding company purchased all of the stock of the subsidiary, paying book value therefor. Book value was par, for the subsidiary had no surplus or deficit. Assets Co. A Investment in Stock of Co. B (100%) Cost $50,000 Eliminate book value at acquisition: Capital stock Co. B Elim. C. B. S. $50,000 Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 100% Surplus Co. A 15,000 $50,000 $50,000 $75,000 15,000 S There is no goodwill, the holding company's surplus is $15,000, and there is no minority interest. Second illustration. During the year the subsidiary made a profit of $12,000, and hence it has a surplus of that amount. The holding company has not taken up this profit; hence its investment account and its surplus remain unchanged. Assets Co. A Investment in Stock of Co. B(100%)Cost $50,000 Eliminate book value at acquisition: Capital stock Co. B Elim. C. B. S. $50,000 Liabilities Capital Stock: Co. A $75,000 Co. B $50,000 Eliminate holding company's 100% Surplus: Co. A 15,000 Co. B 12,000 $50,000 $75,000 15,000 S 12,000 S There is no goodwill. The surplus shown on the consolidated balance sheet will be $27,000, being the sum of the holding company's own surplus account and 100 per cent of the earnings of the sub- sidiary since the date of acquisition. There is no minority interest. Third illustration. During the second year the subsidiary lost $18,000, thus wiping out its surplus and leaving it with a deficit of $6,000. The holding company made no record of BALANCE SHEETS AFTER ACQUISITION 57 this loss and hence its investment account and its surplus re- main unchanged. Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B(100%)Cost $50,000 Eliminate book value at acquisition: Capital stock $50,000 Deficit Co. B $6,000 Holding company's 100% of de- crease in surplus since the date of acquisition $6,000 S Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 100% $50,000 Surplus Co. A 15,000 15,000 S There is no goodwill. The holding company's surplus on the consolidated balance sheet will be shown as $9,000, being the holding company's own surplus balance of $15,000 minus its $6,000 proportion of the net loss of the subsidiary since the date of acquisition. There is no minority interest. Fourth illustration. The subsidiary had a capital stock of $50,000 and a surplus of $10,000 at the date when the holding company acquired its stock. The holding company purchased 90 per cent of the stock, the book value of which was $54,000, and the purchase price $56,000. The balance sheet is made at the date of acquisition. Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $56,000 Eliminate book value at acquisition: Capital stock: 90% of $50,000. . . $45,000 Surplus: 90% of 10,000... 9,000 Goodwill $2,000 G Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5,OOOM Surplus: Co. A 15,000 15,000 S Co. B 10,000 Minority: 10% of present surplus 1,OOOM Eliminate holding company's 90% 9,000 58 CONSOLIDATED STATEMENTS There is a $2,000 addition to goodwill. The holding com- pany's surplus is $15,000. The minority interest is $5,000 capital stock plus $1,000 surplus, or $6,000. Fifth illustration. During the first year the subsidiary made a profit of $4,000, thus increasing its surplus to $14,000. The holding company made no entries for this profit; hence its investment account and its surplus remain unchanged. Assets Co. A Investment in Stock of Co. B (90%) Cost $56,000 Eliminate book value at acquisition: Capital stock: 90% of $50,000. . . Surplus: 90% of 10,000... Goodwill. . Co. B Elim. C. B. S. $45,000 9,000 $2,000 G Liabilities Capital Stock: Co. A $75,000 Co. B.. Eliminate holding company's 90% Minority interest 10% Surplus: Co. A 15,000 Co. B Minority: 10% of 14,000 piesent surplus Elim. H. C.: 90% of 10,000 surplus at acquis H. C. Surplus: 90% of 4,000 increase . . $50,000 14,000 $45,000 9,000 $75,000 5,OOOM 15,000 S 1.400M 3,600 S There is a $2,000 addition to goodwill. The holding company's surplus will appear on the con- solidated balance sheet at $18,600, being the holding com- pany's surplus account of $15,000 plus $3,600, which is its 90 per cent of the increase in the subsidiary's surplus since ac- quisition. The minority interest is $5,000 stock plus $1,400 surplus, or $6,400. Sixth illustration. During the second year the subsidiary lost $16,000, wiping out its $14,000 surplus and leaving it with a deficit of $2,000. The holding company made no entry for this loss, and hence its investment account and its surplus remain unchanged. BALANCE SHEETS AFTER ACQUISITION 59 Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $56,000 Eliminate book value at acquisition: Capital stock: 90% of $50,000. . . $45,000 Surplus: 90% of 10,000... 9,000 Goodwill $2,OOOG Deficit Co. B $2,000 Minority: 10% of $2,000 present deficit 200M Elim. H. C. 90% of 10,000 surplus at acquisition. .. 9,000* Surplus: 90% of $12,000 decrease in surplus 10,800 S Liabilities Capital Stock: Co. A $ 75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% 5.000M Surplus Co. A 15,000 15,000 S There is a $2,000 addition to goodwill. The holding company's surplus will appear on the consoli- dated balance sheet at $4,200, being the holding company's surplus account of $15,000 minus $10,800 which is its 90 per cent of the net decrease in the subsidiary's surplus since the date of acquisition. The minority interest is $5,000 stock minus $200 deficit, or $4,800. It will be observed that an asterisk appears after the second $9,000 surplus elimination, indicating that this item is to be deducted in obtaining the total of the elimination column. This is because a surplus item is being deducted from a de- ficit. The asterisk would be used also if a deficit at acquisi- tion were being deducted from a surplus at the date of the balance sheet Seventh illustration. The subsidiary had a capital stock of $50,000 and a deficit of $10,000 at the date when the holding company acquired its stock. The holding company purchased 90 per cent of the stock, the book value of which was $36,000 and the purchase price $34,000. The working papers are prepared at the date of acquisition. 60 CONSOLIDATED STATEMENTS Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $34,000 Eliminate book value at acquisition: Capital stock: 90% of $50,000. . . Deficit: 90% of 10,000... Deduction from goodwill Deficit Co. B Minority: 10% of $10,000 present deficit Elim.H.C: 90% of 10,000 deficit at acquisition Liabilities Capital Stock: Co. A $75,COO Co. B.. $50,000 Eliminate holding company's 90% Minority interest 10% Surplus Co. A 2,000 Elim. C. B. S. $45,000 9,000* $10,000 $2,000*G 1,000 M 9,000 $45,000 $75,000 5,000 M 2,000 S There is a $2,000 deduction from goodwill. The holding company's surplus is $2,000, the balance of its surplus account. The subsidiary has made no gains or losses since the date of acquisition. The minority interest is $5,000 stock minus $1,000 deficit, or $4,000. Eighth illustration. During the first year the subsidiary lost $5,000, thus increasing its deficit to $15,000. The hold- ing company made no entries for this loss; hence its invest- ment account and its surplus remain unchanged. Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $34,000 Eliminate book value at acquisition: Capital stock : 90% of $50,000 ... $45,000 Deficit: 90% of 10,000... 9,000* Deduction from goodwill $2,000*G Deficit Co. B $15,000 Minority: 10% of $15,000 present deficit 1,500 M Elim. H. C. : 90% of 10,000 deficit at acquisition 9,0000 Surplus: 90% of $5,000 decrease since 4,500* S Liabilities Capital Stock: Co. A $75,000 Co. B Eliminate holding company's 90% Minority interest 10% Surplus Co. A 2,000 $50,000 $45,000 $75,000 5,000 M 2,000 S BALANCE SHEETS AFTER ACQUISITION 61 There is a $2,000 deduction from goodwill. The deficit appearing on the consolidated balance sheet will be $2,500, being the holding company's surplus of $2,000 minus $4,500 which is its 90 per cent of the $5,000 decrease in subsidiary surplus since the date of acquisition. The minority interest is $5,000 stock minus $1,500 deficit, or $3,500. Ninth illustration. During the second year the subsidiary made a profit of $30,000 and paid a dividend of $5,000, causing a net increase of $25,000 in its surplus, thereby changing its $15,000 deficit into a surplus of $10,000. The holding company made no entry for its share of the $30,000 profits, but it recorded the collection of its share of the $5,000 dividend by debiting Cash and crediting Surplus wkh $4,500. This entry causes no change in the investment ac- count, but the holding company's surplus is increased from $2,000 to $6,500. Assets Co. A Investment in Stock of Co. B (90%) Cost $34,000 Eliminate book value at acquisition: Capital stock: 90% of $50,000. . . Deficit: 90% of 10,000... Deduction from goodwill ......... Co. B Elim. C. B. S. $45,000 9,000* $2,000*G Liabilities Capital Stock: Co. A $75,000 $75,000 Co. B $50,000 Eliminate holding company's 90% $45,000 Minority interest 10% . 5,000 M Surplus: Co. A 6,500 6,500 S Co. B 10,000 Minority: 10% of $10,000 present surplus 1,000 M Elim. H. C. : 90% of 10.000 deficit at acquisition . . 9,000* Surplus: 90% of $20,000 increase since 18,000 S There is a $2,000 deduction from goodwill. The surplus appearing on the consolidated balance sheet will be $24,500, being the sum of the holding company's $6,500 surplus account and the $18,000, which is its 90 per cent of the increase in the subsidiary's surplus since the date of acquisition. 62 CONSOLIDATED STATEMENTS REVIEW EXERCISES When the holding company takes up its share of subsidiary profits, losses and dividends through the investment account, eliminations are based on the book value of the subsidiary stock at the date of the consolidated balance sheet. When the holding company carries the investment account at cost, eliminations are based on the book value at the date of acquisition. As a means of reviewing these principles, it is suggested that the reader prepare consolidated balance sheet working papers for the following cases. In all cases it is assumed that the holding company owns 90 per cent of the subsidiary stock. In each group of eight cases, the first four are based on the assumption that the holding company has taken up its 90 per cent of the subsidiary gains and losses through its investment account; the second four are based on the same subsidiary profits and losses, but the investment account is carried at cost. Neither company has paid any dividends. To simplify the cases, the various assets and liabilities are shown in a single amount, as sundry net assets. The holding company has no source of income other than its investment in the subsidiary stock. The solution to the first case is given to illustrate the form: Case A: Co. A Co. B Elim. C. B. S. $110,000 Assets Investment in Stock of Co. B (90)%. . Eliminate present book value: Capital stock: 90% of $100,000. Surplus: 90% of 20,000. Goodwill Sundry Net Assets 105,000 $215,000 $90,000 18,000 $120,000 $120,000 $108,000 $ 2,000 G 225,000 $227,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,OOOS Co. B 20,000 Eliminate holding company's 90% 18,000 Minority interest 10% 2,OOOM '$215,000 $120,000 $108,000 $227,000 REVIEW EXERCISES 63 w ffi oo W O "uOOOO OOOO OOOO OOOO JNiiSfil 8888 8888 8888 A "|! I Ilil *j i/f -*" o" c< _,___. ac CO oooo oooo o 25 o oooo cscscscs cseseses cscscscs CMCSCSCVI I irT to" t'T o" i/f i/T 10" i/f o" Q" Q~ S Q 2 52 S .oooo oooo oooo 23so I 11888 e fc 5* O O >0 8 |ISSS? 2222 Ku Vf O "5 IO -i -l tM C j ui 'aJJ 03 (33 CQ C 1-1 w u O rt rs r; 4) 4> 4 .ti J'. >i >. S "-> fS ro C u. u, ui o W <* . 1) 4) 4) .S >>>.>. .2^^,^ CQCGCQ S ^ 2 2 gooo g^ooo 4-. 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I u O. p o u "i "i irTio" vi C <-. u_ CO O s;^ % g c C P M O 00 31 |j fl S~ d Interest Accrued ipany A Current. . es Receivable Coi dends Payable: Co. R g. E 6 av DCJj.. fill ^sJT*": y ^ T3 o <->-3 S s.?^< Co. b Eliminate holdir Minority interes Co. C. . Eliminate holdir Minority interes ilus: Co. A U, 1> CO 1:1 Xi -o << o U 2^fe5 |S8 'frri r= T3 P 6 , * LS ^ QSw c C fc^ IO iO o\ ^ c* Ij sa u gjf.2: S g- < B o o mbe ^ If CQ c3 10 <*. u- 00 j: g .s " ^ y g5 r^ 3 'O ,-H ^ _^ *0 *0 O O vpvP H 3 = "cL' ? s c3 2 o o 10 5,-^ i~ < O O ^ S of OO _5 m O O vtP r \ Q y*v Q> ^^ JD IO lO ^ 4, oooo e-j '5. _ (Jco CJMrj U t/l t_j UOrj o^o o^o o^5 fi 5 25 |5 9 2 ^^AJ C/j-Oucfl^ CO O> M ., CO^wa.. C4>-^W -54>* CO r- !> ^ 55 .^ w cJ 3 ^ * t *j *- rt 3 -* ,j3 n g s .1 ''1 1 c .s '!"'! c J 'if 1 . U^ 1 . Oco 8 1 - ^ s. w c5sw ow c3 94 CONSOLIDATED STATEMENTS 8 m 6 .9 O Q 8 _g S t~ T I O c-T o Q .a - s O d o o g *j v ^ U g H O S O O\ : o o 00 111 = I'l's ||w! Go o s'g sis : o o o 6"o -, o\ '-i ; *" O '{ S 8 H-> o *Ufi H _ "3 "5 -a c 2 H.E P r? w -S - si g -C "^ '-3 ilS2 Ou, J3 g .< , "COO 535* IB "S-S:"^ S 5 g< H^-l W3n5 100 CONSOLIDATED STATEMENTS i 11 8 o -l^-a "1 l^"H ^J ^ t*r 38 ^ u OT cu *j Q _- fH ^^ O O O Q O o ^ *o o *o 1C CM 00 -S3 ^ c^ oo to *o oT CO* r/> . TH 4-> 9 m c ^ 2 fe *> X S *- IO O r- Q CJ >o CM CU ^ 4) g co g- 8 E <*i g- cT I'M rf 00" CO co 00^ CO* co ^ cL > * bfl .S tt.S 1 Q nl M W O Cj 00* Pi <* vo i i o J CO S a w Cl, 3 co co 'T3 cu co ;-. HO S 3 O Q I O o *,<-! U ^ ^J (\j _*yj ^ -COG u *- o o < u H 2 fi cO co co O 1 co W o O \o co O co S o^ *o o ^o, o Q U "* &4 W * Q h * + " : J2 "5 ^ _S 'Z S ^ 2 O 1 o M w O C O QJ G -1 3 ja o ^ ^"S - -^ S ^-** ^9- c2- ^t "^ rt D OH ^3 ^ CU <-< H R^toNO^ *->4J(j- '-c'XSCCCG 5oO>O tCUSQ CO^DIUDIU ^^Q Jli.* J^:l;ll:> W ( 'l-J oOOl^ eaj-O'DTSTD estment iccounts bJD u .5 C ctf ^ .5 fa G cu -^ 2 o c o C CCC S^^C;, 4>i3QQOQ pi KL e ~ " a! C X S *5 .S 3 ^ "^ "^ _C o --^SSS Q ~i^'^ * rtj cy cy *-i eo e/i ** xy ** T3 'T^ . ^< co co ^^ < o"& bfl 3 *j :ee tl 1 "^" 105 " 'S ew 2'CQOOCQ CX ijScococoea W g C - . _c 1 11 fili' 8 ' 8 ' 8 ' 8 I |S^^2 ^J ^ j| o -r J2 rt CO H G^ W '5 ' 555 2 1 lllll | s u. <* <*. c c <" ^ . M x 2J E S S o oo g^oojl |opa<< -- Q | ,... C i> E 3 5 ustmen S Jo u, 13 **H -t- 1 O 1 J Ps TH ooo2 r o H U -0 S CO z H 5 u Q 'X 1 n < Q < w H < ^ O ', 2 3 CO "- X. Assets 102 CONSOLIDATED STATEMENTS w l d r tn X CO sc 5 c O c Q .S 8 i CO .S O .S Q .2 S 3$ u S a JO 0\ 8 8 3 8 * I c . "2 13 ; : | : a 1 : "O . O* ^^ CD f C^ CO CD *O >O " II CS vO CM OO -l w CO to CO S w ^ OJ CO o ~ S 0.5 ^ o j < CQ ;O '6 c> d OO 6 ^ cx 4-1 3 s 1 gS-ld u. o 4~> 3 .00 Id sOO ;O : 2 t*.c r>.D 2 ^ < OJ M c= nl S ->.O S c 2oo ex d O r V3 H. .S, 6 c 2 ^ .2,8 S ^H e o CHAPTER XIII UNREALIZED INTER-COMPANY PROFITS Profits in inventories. When one constituent company sells goods at a profit to another constituent company, the minority stockholders of the selling company have a right to consider that the profit has been realized since the goods have been sold to a company in which they have no interest. The holding company which controls the organization and which looks upon the various subsidiaries virtually as departments of the organization, should not consider the profit as realized until the goods have been resold to a purchaser outside of the organization. Therefore, if, at the date of the consolidated balance sheet, the inventories of any of the related companies contain goods which have been purchased from another related company after the combination was effected, the inventories should be analyzed to determine how much of their present cost or carry- ing value is composed of profits added by the selling com- panies. After this unrealized profit has been ascertained a reserve should be created out of the holding company's surplus for the holding company's portion of such unrealized profit. To illustrate, it will be assumed that Company A owns 90 per cent of the stock of Company B. Company B has sold goods to Company A during the year at a profit, and the inventory of Company A at the end of the year includes goods purchased from Company B on which the latter company made a profit of $1,000. Since Company A, in taking up its share of the profits of Company B, has taken up $900 of this profit, a reserve should be created by deducting $900 from the holding com- pany's surplus and transferring it to a reserve. Position of reserve on the balance sheet. There are two possible methods of showing the reserve for unrealized profits on the consolidated balance sheet. The first is as a deduction from inventories, and the second is on the liability side under the caption of reserves. The former method is usually em- 103 104 CONSOLIDATED STATEMENTS ployed and is theoretically correct, for inventories should be priced at cost (unless market is lower) and cost should not include the organization's share of unrealized profits resulting from transfers from one related company to another. Conflicting opinions as to amount of reserve. Some ac- countants set up a reserve for the entire amount of the unreal- ized profit instead of for the holding company's proportion thereof. This is permissible for tax purposes, for the tax law views the related companies as a unit without consideration of minority interests. But the commercial purpose of a consol- idated balance sheet is to show the interests of the holding company's stockholders and the minority stockholders in the total assets of the consolidation. From the commercial view- point, the minority stockholders are outsiders and their share of the profit is earned as soon as the goods are sold to another corporation in which they have no interest. Complications in computation of reserve. When the organ- ization is composed of a number of companies, the computation of the reserve for unrealized profits in inventories may be com- plicated by the fact that: 1. The profits are made by a subsidiary of a minor holding company; 2. The profits are cumulative. The essential principle to bear in mind is that, so far as the minority interest of the company making the profit by sale or service is concerned, the profit is earned, but the holding com- pany taking up the profit should set up a reserve for its pro-rata share of the portion which has not been realized by sales out- side the organization. Profits of subsidiary of minor holding company. Three illustrations will be given to show the method of determining the amount of the reserve. First illustration: A owns all of B; B owns 90 per cent of C. B's inventory contains unrealized profits of $1,000 on goods purchased from C. Since B has taken up 90 per cent of the unrealized profit, and A has taken up the same amount by taking up all of B's profit, a reserve of 90 per cent of $1,000, or $900, should be set up. Second illustration: A owns 80 per cent of B; B owns 90 per cent of C. A's inventory contains unrealized profits of $1,000 on goods purchased from C. Since B has taken up 90 UNREALIZED INTER-COMPANY PROFITS 105 per cent of the unrealized profit made by C, and A has taken up 80 per cent of B's 90 per cent in taking up its share of B's profit, the reserve should be 80 per cent of 90 per cent of $1,000, or $720. Third illustration: A owns 80 per cent of B and 10 per cent of C; B owns 90 per cent of C. A's inventory contains unrealized profits of $1,000 on goods purchased from C. B has taken up 90 per cent of the unrealized profit, and A has taken up 80 per cent of this 90 per cent in taking up its share of B's profit. A has also taken up 10 per cent of the unrealized profit by taking up its share of C's profit. Since A has taken up 72 per cent plus 10 percent of the unrealized profit, it should set up a reserve for 82 per cent or $820. The remaining $180 is properly included in the minority interest of Company B; these stockholders own 20 per cent of Company B which has taken up 90 per cent of the profit, and this profit is realized to the minority of Company B since they are outsiders so far as concerns the organization con- trolled by Company A. Cumulative profits. As an illustration of cumulative un- realized profits in inventories, it will be assumed that Company A owns 90 per cent of the stock of Company B, while Company B owns 80 per cent of the stock of Company C. The inventory of Company A contains goods which were put through one process by Company C and sold to Company B at a profit of $800; Company B put them through another process and sold them to Company A at a profit of $1,200. The reserve is com- puted as follows: Company C's profits: 90% of 80% of $800 $ 576 Company B's profits: 90%of$l,200 1,080 Total reserve $1,656 Profits from sales before combination. If the inventories contain goods which were sold by one company to another before the holding company acquired control of the selling company, no reserve should be created because the holding company did not take up a share of such profits and should not be required to reduce its surplus by an amount which has not been included therein. The companies were not related when 106 CONSOLIDATED STATEMENTS the sale took place, and hence the profit is not inter-company profit. Inter-company profits in construction. When one related company produces fixed assets for another company and makes a profit on the construction, a reserve should be created to eliminate the holding company's proportion of such profit and reduce the fixed assets to cost. As already shown in connection with inventories, the cost may properly include the profit made by the minority stockholders of the selling company. The hold- ing company can not equitably ask the minority stockholders of its subsidiary to forego their share of the profit on work done for a company in which they have no interest. To illustrate, assume that Company A owns 90 per cent of the stock of Company B. After the combination is effected, the latter company sells fixed assets to Company A at a profit of $1,000. At the end of the year, Company A will take up $900 of the profit which Company B made on the sale, and it should therefore create a reserve of $900 for unrealized profit in fixed assets. The question of inter-company profits on construction of fixed assets is a much more complex one than that of inter- company profits in inventories. Inter-company profits in inventories will become realized profits when the goods are sold to outsiders and the reserve will disappear when the goods are disposed of. In the case of fixed assets, however, the property is not ordinarily disposed of through sale, and it might seem therefore that the reserve should be kept intact and appear as a deduction on the balance sheet at the original amount so long as the fixed assets are owned. But it should be remembered that the fixed assets are virtually disposed of gradually through use and depreciation, and it would therefore seem logical to reduce the depreciation charges to a basis of inter-company cost. This view is strengthened when it is remembered that depreciation should be based on cost, and that cost cannot be two different things for two different purposes. If cost for balance sheet purposes is purchase price less inter-company profit, then cost for depreciation purposes should be the same amount. If manufacturing expense is charged with deprecia- tion on the purchase price, the costs of manufacture will be over-stated since depreciation will have been computed on a value in excess of the cost to the organization. It is not difficult to put this theory into practice if the hold- UNREALIZED INTER-COMPANY PROFITS 107 ing company owns the asset on which the inter-company profit was made. Two methods are available: 1. The holding company may write down the asset to inter- company cost by debiting surplus and crediting the asset account instead of crediting a reserve for inter-company profit. Depreciation will then be computed on the carrying value of the property as shown by the asset account. 2. The holding company may carry the reserve and compute depreciation on the carrying value of the property as measured by the debit balance in the asset account minus the credit balance in the reserve for inter-company profit. To illustrate, assume that Company A owns 90 per cent of the stock of Company B, and that during the year Company B manufactured for Company A machinery which it delivered to them at the end of the year, billing them at $25,000. The profit made by Company B was $5,000. Company A took up 90 per cent of this amount, or $4,500, in taking up its share of the profits of Company B. If Company A follows the first method suggested above, it will debit its surplus and credit the machinery account $4,500, thus reducing the asset to $20,500 which is inter-company cost after allowing the minority stockholders of Company B their 10 per cent of the profit. Depreciation will then be computed on $20,500. If Company A follows the second method suggested above, it will debit surplus and credit a reserve for unrealized profit in fixed assets $4,500; it will then compute depreciation on the $25,000 balance of the asset account minus the $4,500 balance of the reserve for inter-company profit. The theory is not so easily put into practice if the company making the profit sold the assets to another affiliated company instead of to the holding company. To illustrate, assume that Company A owns 90 per cent of the stock of Company B and 80 per cent of the stock of Company C. Company C has sold machinery to Company B for $50,000 which cost $40,000. When Company A takes up its 80 per cent of the profits of Company C, it takes up $8,000 of this unrealized inter-company profit and should therefore create a reserve of $8,000. The first method suggested above is not practicable in this case; the asset is on Company B's books while the unrealized profit must be taken out of Company A's surplus. It is impossible to write down the asset on Company B's books, because that would involve a debit to Company B's surplus which would be 108 CONSOLIDATED STATEMENTS improper, because the inter-company profit went into A's surplus and not into B's. The asset will therefore go on B's books at $50,000, and the reserve will be set up at $8,000 on A's books. For consolidated balance sheet purposes the cost of the asset was $42,000, but Company B will compute depreciation on a basis of $50,000, which was the cost to Company B as a sepa- rate corporation. If the rate of depreciation is 10 per cent, the depreciation on a straight line basis will be $5,000 annually. But from the standpoint of the organization as a unit Com- pany B has over-stated its manufacturing costs by 10 per cent of $8,000 or $800, and if all of the goods manufactured by Company B during the year have been sold outside the organ- ization the profits of the organization have been under-stated $800. In other words, according to the theory which makes depreciation a manufacturing expense, 10 per cent of the ma- chinery has now been converted into finished goods and sold. Ten per cent of the unrealized profit on fixed assets is thereby realized by converting the fixed assets into finished goods and selling them. The holding company A would therefore be justified, in the author's opinion, in transferring 10 per cent of the $8,000 reserve or $800 to its surplus account, thus reducing the reserve on the holding company's books to $7,200. The asset would then appear on the consolidated balance sheet as follows : Machinery $50,000 Less Reserve for inter-company profit on construction. . . $7,200 Reserve for depreciation 5,000 12,200 $37,800 This treatment seems theoretically correct since it produces the same result which would be produced by either the first or second method if the holding company had itself purchased the asset from Company C. In that case Company A would carry the asset on its own books at $42,000. The depreciation at 10 per cent would be $4,200, and the carrying value at the end of the first year would be: Machinery (at cost less inter-company profit) $42,000 Less Depreciation 4,200 $37,800 UNREALIZED INTER-COMPANY PROFITS 109 There is a still further complication if the finished goods have not been sold or have been sold to another company within the organization. In that case the inter-company profit on con- struction has merely been converted into inter-company profit in inventories, and, as this inter-company profit has not been realized by sales outside the organization, it should appear in the reserve for inter-company profits in inventories on the consolidated balance sheet. Illustration of working papers. The method of obtaining the reserves for the consolidated balance sheet will depend upon whether or not they have been set up on the books of the holding company. If they have been set up, they will appear in the balance sheet of the holding company and will be merely carried out to the consolidated balance sheet columns. If they have not been set up on the holding company's books, they will be deducted from the holding company's surplus on the work- ing papers, as indicated below: CONSOLIDATED BALANCE SHEET WORKING PAPERS Co. A Co. B Elim. C. B. S. Surplus Co. A $40,000 Reserve for int.-co. profit in inventories $ 900 R Reserve for int.-co. profit in construction 4,500 R Surplus 34,600 S CHAPTER XIV CONSOLIDATED PROFIT AND LOSS AND SURPLUS STATEMENTS SEPARATE WORKING PAPERS Working papers based on statements or trial balances. At the close of each accounting period it is customary to prepare a consolidated profit and loss statement, a consolidated surplus statement and a consolidated balance sheet. There are two methods available for making the working papers for these statements. First, they may be prepared from the statements of the hold- ing company and its subsidiaries after their books are closed. If this method is adopted there will be a separate set of work- ing papers for the revenue statement, the surplus statement and the balance sheet. Second, they may be prepared from the trial balances of the holding company and its subsidiaries before the books are closed. If this method is adopted there will be a single set of working papers from which all of the consolidated statements will be prepared. The first method will be illustrated in this chapter; the second method will be illustrated in Chapter XV. Consolidated revenue statement Working papers. When the consolidated revenue statement is prepared from the rev- enue statements of the holding company and the subsidiaries, the statement may be divided into a cost of goods sold state- ment and a profit and loss statement, or both sections may be combined in a single statement. In either event, the working papers should contain columns for each company, two columns for adjustments if necessary, a column for inter-company eliminations, and one for the consolidated figures. The pro- cedure may be summarized as follows: 1. Combine all similar items of income and expense. 2. Eliminate all inter-company nominal accounts. All inter-company transactions should have been taken 110 PROFIT AND LOSS; SURPLUS 111 up on the books of both companies which were parties to the transaction. If they have not been taken up, adjustments will be required in the working papers. 3. Make adjustments for inter-company profits as follows: a. Profits in inventories at the beginning of the period. (1) If the beginning of the period was also the date of acquisition, make no adjustment as the profits were not inter-company profits. (2) If the beginning of the period was subsequent to the date of acquisition, make adjustment by reducing the in- ventories; this adjustment is equivalent to a credit to cost of sales (since the opening inventories are debited to cost of sales) and a debit to the holding company's surplus as of the beginning of the period. Only the credit will be shown in the revenue state- ment working papers; the debit will appear in the surplus statement working papers. b. Profits in inventories at the end of the period. Make adjustment by reducing the inventories; this adjustment is equivalent to a debit to cost of sales since the closing inventories are credited to cost of sales, and a credit to reserve for inter-company profit in inventories. Only the debit will be shown in the revenue statement working papers. c. Profit on construction during the period. Adjust by a reduction of the nominal account showing the profit; this adjustment is equivalent to a debit to the income account and a credit to the reserve. 4. From the total consolidated net profit: Deduct the minority interests in the profits of the sub- sidiaries, to obtain the net increase or decrease in the profits of the holding company. Consolidated surplus statement Working papers. When the consolidated surplus statement is prepared from the sur- plus statements of the holding company and the subsidiaries, the working papers should contain columns for each company, two columns for adjustments if necessary, a column for in- ter-company eliminations, a column for the minority interest in the surplus accounts of the subsidiaries, and a column for the consolidated surplus figures. The procedure may be sum- marized as follows: 1. Enter the holding company's surplus as of the beginning of the period; make adjustment for any inter-company 112 CONSOLIDATED STATEMENTS profits in inventories at the beginning of the period which were not provided for on the books of the holding company. Carry the adjusted surplus to the consoli- dated surplus column. 2. Enter the surplus of each subsidiary as of the beginning of the period. a. Carry the minority interests thereof to the minority column. b. If the holding company has followed the procedure of taking up its share of subsidiary profits and losses, eliminate the holding company's percentage of the subsidiary's surplus at the beginning of the period. c. If the holding company has carried the investment account at cost, eliminate the holding company's percentage of the surplus at the date of acquisition, and carry to the consolidated surplus column the holding company's percentage of the increase or decrease in subsidiary surplus since the date of acquisition. 3. Foot the consolidated surplus column; the total should be the consolidated surplus of the organization at the beginning of the period, and should tie up with the surplus appearing on the consolidated balance sheet prepared at that date. 4. Enter the earnings of each company, the earnings of the minority and the consolidated earnings for the year, as shown by the consolidated profit and loss statement working papers. 5. Enter the dividends of each company, eliminate inter- company dividends, deduct dividends paid to minority holders in the minority column, and deduct dividends paid by the holding company in the consolidated column. The balance of the minority column should be the minority's interest in the surplus of the subsidiaries, and the balance of the consolidated column should be the consolidated surplus at the end of the period and should tie up with the surplus shown in the consolidated balance sheet. Outline of illustrations of separate working papers. The procedure of preparing working papers depends as indicated in paragraph 2 of the preceding section, upon whether the holding company carries its investment account at cost or takes up its share of subsidiary profits and losses. It also depends upon whether the subsidiaries have paid any dividends during PROFIT AND LOSS; SURPLUS 113 the period. The following illustrations will indicate the pro- cedure under various combinations of these conditions. Group I. Subsidiary profits and losses up to beginning of period taken up by holding company: First illustration: No dividends paid by subsidiaries. Second illustration: Dividends paid by subsidiaries taken up by holding company as credit to Investment account. Group II. Investment carried at cost: Third illustration: No dividends paid by subsidiaries. Fourth illustration: Dividends paid by subsidiaries taken up by the holding company as a credit to Profit and Loss. First illustration: Consolidated profit and loss statement. At December 31, 1921, Company A owns 90 per cent of the stock of Company B, which it purchased five years prior, and 80 per cent of the stock of Company C, which it purchased at January 1, 1921. Following are the revenue statements of the three companies for the year 1921: COMPANY A AND SUBSIDIARIES B AND C PROFIT AND Loss STATEMENTS (Exhibit A) For the Year Ending December 31, 1921 Co. A Co. B Co. C Gross Sales $300,000 $225,000 $120,000 Less Returned Sales and Allowances 3,000 2,000 1,000 Net Sales 297,000 223,000 119,000 Less Cost of Goods Sold (Exhibit B) 215,000 175,000 80,000 Gross Profit on Sales 82,000 48,000 39,000 Less Selling Expenses 23,000 22,000 15,000 Net Profit on Sales 59,000 26,000 24,000 Less General and Administrative Expenses 22,000 11,000 3,000 Net Profit on Operations 37,000 15,000 21,000 Add Miscellaneous Income: Rent of Equipment to Company B 3,000 Bond Interest Received from Company C. . . 2,000 Total 40,000 17,000 21,000 Less Bond Interest Paid 6,000 2,500 Net Profit for the Year... ... $34,000 $17,000 [$18,500 114 CONSOLIDATED STATEMENTS 05 o" i g to >o ^ ir> t*. *-< o Q OQ w M 2 I* - r < O a o & P o co CJ 10 10 T-C IO to W 5 1 : *-H -i *-i 1-H TH *-< ro b 4J _Q Materials Used: Inventory, January 1, 1921 Purchases. . . * 4J = H Less Inventory, December 31, 1921 . Materials Used. . j J ;u i 1- c 1 1 (2 61 i 4- 1 C 7. \ 1 * Less Goods in Process, December 31, 192 Cost of Goods Manufactured. . Add Inventory of Finished Goods, Janua Total... Less Inventory of Finished Goods, Decen T3 ^ O "8 4J s PROFIT AND LOSS; SURPLUS 115 Company C does no manufacturing, but deals only in raw materials, selling to outsiders and to Companies A and B. Both Company B and Company A manufacture; Company B sells to Company A and to outsiders; Company A sells to out- siders only. Company A has taken up its share of the profits of Com- pany B in prior years, but has taken up no subsidiary profits for 1921. Therefore Company A's profit and loss statement contains no figures for subsidiary profits or dividends. The inventories at January 1, 1921, contained inter-company profits made by sales between companies as follows: Profit Made Profit Made Company A's Inventories: by Co. B by Co. C Raw Materials $2,000 $1,000 Goods in Process 1,500 800 Company B's Inventories: Raw Material 500 Goods in Process 800 Finished Goods 250 The inventories at December 31, 1921, contained profits made by sales between companies as follows: Profit Made Profit Made Company A's Inventories: by Co. B by Co. C Raw Materials $2,500 $1,200 Goods in Process 800 200 Finished Goods 1,800 1,500 Company B's Inventories: Raw Materials 500 Goods in Process 1,000 Finished Goods 1,300 Company C sold $60,000 worth of goods to Company B during the year and $35,000 worth to Company A. Com- pany B sold $75,000 worth to Company A. Following are the working papers and the consolidated statements. The first step is to ascertain the adjustments to be made in the working papers for inter-company profits in inventories. Since Company C was not a part of the organization prior to January 1, 1921, the profits which it made on sales to Company A and Company B prior to that date were not inter-company profits, and hence are ignored. The profit made by Company B on the goods in Company A's inventories at January 1, 1921, 116 CONSOLIDATED STATEMENTS must be considered. Company A's inventory at January 1 contained goods on which Company B had made a profit of $3,500. Since Company A owns 90 per cent of the stock of Company B the reserve at January 1, 1921, will be $3,150. Of this total, $1,800 will be deducted from the inventory of raw materials, and $1,350 from the inventory of goods in process. The reserves for inventories at December 31, 1921, are com- puted as follows: Company A: Raw Materials: 90% of $2,500 profit made by Co. B $2,250 80% of 1,200 profit made by Co. C 960 $3,210 Goods in Process: 90% of $800 profit made by Co. B 720 80% of 200 profit made by Co. C 160 880 Finished Goods: 90% of $1,800 profit made by Co. B 1,620 80% of 1,500 profit made by Co. C 1,200 2,820 Company B: Raw Materials: 80% of $500 profit made by Co. C 400 Goods in Process: 80% of $1,000 profit made by Co. C 800 Finished Goods: 80% of $1,300 profit made by Co. C 1,040 $9,150 The unrealized profit is summarized by inventories as follows Co. A's Co. B's Inventory Inventory Total Raw Materials $3,210 $ 400 $3,610 Goods in Process 880 800 1,680 Finished Goods 2,820 1,040 3,860 Total reserve at December 31, 1921 $9,150 After computing these adjustments for inter-company profits in inventories, the consolidated working papers may be drawn up. The working papers for cost of sales are prepared in the following form: PROFIT AND LOSS; SURPLUS 117 "O O *i3 O w c* n f* M f^ W5 ** 2 S ^- S o 1 3 S j. -, n .? ii C _C S 1 j c ! "~ 4 ^ j 4 E I C ^ a _ ^ ' u : V 1 1 ^^ co- co u g (X en "% joods in Process, joods Manufactu entory of Finishe inventory Finishe 'roods Sold. . ; > : r c rX C u c "3 C w S c E S-S n j.5l..* J 3 _ ^ _ S 5 c 2 -o O J HQ w _. i ra .1: *-< CO ^ 4-> " CO 0-0 O J O U< HQ U O O O n O 8 J9 118 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARIES B AND C CONSOLIDATED PROFIT AND Loss STATEMENT WORKING PAPERS For the Year Ending December 31, 1921 Co. A Co. B Co. C Elim. Consolidated P.VL. Gross Sales $300,000 $225,000 $120,000 $170,000(A) $475,000 Less Returned Sales and Allow- ances 3,000 2,000 1,000 6,000 Net Sales 297,000 223,000 119,000 469,000 Less Cost of Goods Sold 215,000 175.000 80,000 303,000 Gross Profit on Sales 82,000 48,000 39,000 166,000 Less Selling Expenses 23,000 22,000 15,000 60,000 Net Profit on Sales 59,000 26,000 24,000 106,000 Less General and Administrative Expenses 22,000 11,000 3,000 36.000 Net Profit on Operations 37,000 15,000 21,000 70,000 Add Miscellaneous Income: Rent of Equipment to Co. B. 3,000 3,000(B) Bond Interest from Co. C.... 2,000 2,000(C) Total 40,000 17,000 21,000 70,000 Less Bond Interest Paid 6,000 2.500 2,000(C) 6,500 Net Profit for the Year $34,000 $17,000 $18,500 $63,500 Minority Interests: Company B (10%) 1,700 Company C (20%) 3,700 Total 5,400 Holding Company's Earnings. . ^ $58,100 COMPANY A AND SUBSIDIARIES B AND C CONSOLIDATED STATEMENT OF COST OF GOODS SOLD For the Year Ending December 31, 1921 (Exhibit A) Goods in Process, January 1, 1921 $ 53,650 Materials: Inventory, January 1, 1921 $ 68,200 Add Purchases 146,000 Total 214,200 Deduct Inventory, December 31, 1921 82.390 Materials Used 131,810 Direct Labor 150,000 Manufacturing Expense 107,000 388,810 Total " ' 442,460 Deduct Goods in Process, December 31, 1921 78.320 Cost of Goods Manufactured 364,140 Add Inventory of Finished Goods, January 1, 1921 30,000 Total 394,140 Deduct Finished Goods Inventory, December 31, 1921 91,140 Cost of Goods Sold 303,000 PROFIT AND LOSS; SURPLUS 119 COMPANY A AND SUBSIDIARIES B AND C CONSOLIDATED PROFIT AND Loss STATEMENT (Exhibit B) For the Year Ending December 31, 1921 Gross Sales $475,000 Less Returned Sales and Allowances 6,000 Net Sales. 469,000 Less Cost of Goods Sold (Exhibit A) 303,000 Gross Profit on Sales 166,000 Less Selling Expenses 60,000 Net Profit on Sales 106,000 Less General and Administrative Expenses 36,000 Net Profit on Operations 70,000 Deduct Bond Interest Paid 6,500 Net Profit for the Year $63,500 Distributed as follows: Minority interest of Company B $ 1,700 Minority interest of Company C 3,700 Holding Company A 58,100 $63,500 First illustration continued: Consolidated surplus statement. Following is a summary of the surplus accounts of the three companies: Co. A Co. B Co. C Surplus, January 1, 1921 $35,000 $25,000 $20,000 Add Profits of 1921 34,000 17,000 18,500 Surplus, December 31, 1921 $69,000 $42,000 $38,500 In studying the consolidated surplus statement working papers which follow, it should be remembered that Company A has taken up its 90 per cent of the profits of Company B of former years, these profits being included in its $35,000 surplus at January 1, 1921. The $31,850.00 balance of the holding company's surplus, after eliminating the $3,150.00 unrealized profit at the be- ginning of the year, should agree with the surplus shown in the consolidated balance sheet of January 1, 1921. The sub- sidiary surplus accounts are dealt with in accordance with paragraph 2 c on page 112. 120 CONSOLIDATED STATEMENTS 8 S" & .2 O ,M Q 1 s -5 's *H O CO 3 W Fo Si S3 Ha 2^ q 2 a ^ I ^, q r-t Cl -S '-5 c g : : S :^ :g^ S ; oj S3 2 :, s o ^ s ^ CCl)t>,4JrS. > ,4-'rt3 S 2 S c'g.S c'g.S^ 1 tijj ajja < < ^s ISal u o ** > S o. I- 8 s i ^ s tj &5&? o o 01 ^ C^ 20% 80% Consolidat 4-* ?s .S "" rt CO "V, 3 > *-" *~* >>-r S * c g.S w 2 a o) o, c c {3 7 |^ ?JSS a :s tc |w g u c^ o. t3 T3 < g "I 00 CO ^ ;| Q "5 -a c c o. o. E E S Q PROFIT AND LOSS; SURPLUS 123 Third illustration: Consolidated profit and loss and surplus statements. This illustration is based on the same facts as the first illustration, with the further assumption that the holding company is carrying its investment accounts at cost, and is taking up subsidiary dividends as a credit to Profit and Loss. But since no dividends were paid during 1921, there will be no dividend figures in the profit and loss statements, and hence the consolidated profit and loss working papers will be the same as in the first two illustrations. The consolidated surplus statement working papers will differ from the two preceding ones in this particular: the holding company has not taken up the profits of the subsidiaries and hence its surplus will not include these profits but will include the subsidiary dividends. Therefore the surplus accounts of the subsidiaries at the beginning of the period will be disposed of as follows: a. Carry minority interest in present surplus to the minority column. b. Eliminate holding company's proportion of subsidiary surplus at date of acquisition. c. Carry to the consolidated surplus column the holding company's proportion of the increase or decrease in sub- sidiary surplus since acquisition. In this illustration it will be assumed that Company B had a surplus of $20,000 at the date of acquisition. Since that date its profits have been $15,000 and its dividends have been $10,000. Company A has not taken up its share of the profits but has taken up its share of the dividends of prior years by credits to profit and loss. In the preceding illustrations Company A's surplus was shown as $35,000 at January 1, and this balance included $13,500 (90 per cent of $15,000) profits of Company B taken up. In this illustration, under the assumption that Company A has taken up only $9,000 (90 per cent of $10,000) dividends, Com- pany A's surplus will be $30,500 instead of $35,000. The surplus accounts of the other companies will be unchanged. The consolidated surplus statement prepared from the fol- lowing working papers will be exactly like the one in the first illustration, on page 121. 124 CONSOLIDATED STATEMENTS Ov oT 3 g Ov a! - o r* ~ a co C 3 W tj K ^ <^ D ^ ^ 3 O.^? la si >>.su 1IO. < isa o I O. Q. S S N,a H _ ^cu u ^c3 sJl I I \^ QJ T3 4J : a 3 Q o S S PROFIT AND LOSS; SURPLUS 125 Fourth illustration: Consolidated profit and loss statement. This illustration will be based on the same facts as the third illustration, with the additional assumption that the three companies paid dividends during 1921 as follows: Company A $6,000 Company B 4,500 Company C 3,000 Company A has taken up its proportion of the subsidiary dividends by credits to profit and loss; it is carrying the invest- ment accounts at cost. The consolidated profit and loss statement working papers will be the same as in the first illustration, on page 118, down to Net Profit on Operations. The dividends are shown under Miscellaneous Income in the working papers on page 126. 126 CONSOLIDATED STATEMENTS 8 i I PQO Q W o^.g W r; CS BO O. Jt.s 111 H 2 * (C) ki o. 8 o O fcfl B is "o S wo W) *> .5-5 I S *< w j _* 11 8 & c -< u w n 2 t! a III III S a 5*8 - '^ S 1 srs- ^0 *s g e g B 2 8^ & I g' * 2 BT3 5 ""-2 a-1-S . ** >^ 3 0-3 o " 2 rt T3 g 2 g 8 O T3 D -B 'S -e H^H lM o PROFIT AND LOSS; SURPLUS 127 tofl 4) .S-S s^ 613 W> QW |d O $ 3 | 8 I 8 K ex c o -5 a 4> '> S o N c o> TH 1 T3 ' W -o cu li B I e CO ^< w .. ice ic _Q > E U .O ,-^ -T3 "^ 2> E* w 5^ ? S S S c* s" S t?? I *333 I 1 3 1 PQ Q V3 1 o CHAPTER XV CONSOLIDATED PROFIT AND LOSS STATEMENT, SURPLUS STATEMENT AND BALANCE SHEET COMBINED WORKING PAPERS FROM TRIAL BALANCES Form of working papers. When a single set of working pa- pers is prepared from the trial balances of the holding company and the subsidiaries to obtain the consolidated figures for the cost of goods sold statement, the profit and loss statement, the surplus statement, and the balance sheet, the working papers should contain columns for the trial balance of each company, for adjustments, inter-company eliminations, manufacturing account, selling account (or the two latter may be combined in a single Cost of Sales column to save space), profit and loss, and balance sheet. Outline of illustrations. This chapter will contain three illustrations, divided into two groups, as follows: Group I. Subsidiary profits and losses taken up on the hold- ing company's books; dividends recorded as a credit to the Investment account. First illustration: All dividends credited to investment account; hence balance at end of year represents book value at the beginning of year minus dividends received during the year, and plus goodwill. Group II. Investment account carried at cost. Second illustration: 100 per cent ownership. All stock acquired at beginning of period. Third illustration: Less than 100 per cent ownership. Stock acquired prior to beginning of period. First illustration. This illustration is based on the same conditions as the second illustration in the preceding chapter. Ninety per cent of the stock of Company B was acquired prior to the beginning of the period, and 80 per cent of the stock of Company C was acquired at the beginning of the period. All subsidiary earnings and dividends have been recorded through the investment account; therefore at the beginning of the period the investment accounts represented book value plus goodwill. 128 COMBINED WORKING PAPERS 129 During the year the holding company has taken up dividends by credits to the investment accounts but has not taken up the subsidiary profits for the year. Following are the trial balances of the holding company and subsidiaries at December 31, 1921. COMPANY A AND SUBSIDIARIES TRIAL BALANCES DECEMBER 31, 1921 Debits Co. A Co. B Co. C Cash $16,450 $7,500 $22,500 Accounts Receivable 30,000 35,000 50,000 Inventories, January 1, 1921: Raw Materials 40,000 15,000 15,000 Goods in Process 25,000 30,000 Finished Goods 30,000 Co. B Current Account 10,000 Co. C. Current Account 5,000 Plant and Machinery 125,000 70,000 Investment in Stock of Co. B (90%) 90,450 Investment in Stock of Co. C (80%) 57,600 Bonds of Co. C 40,000 Purchases, Raw Materials 145,000 95,000 76,000 Direct Labor 85,000 65,000 Manufacturing Expense 70,000 40,000 Returned Sales and Allowances 3,000 2,000 1,000 Selling Expenses 23,000 22,000 15,000 General and Administrative Expenses 22,000 11,000 3,000 Bond Interest Paid 6,000 2,500 Dividends Paid 6,000 4,500 3,000 $754,500 $402,000 $258,000 Credits Capital Stock $200,000 $75,000 $50,000 Surplus, January 1, 1921 35,000 25,000 20,000 Bonds Payable 100,000 50,000 Reserve for Depreciation 11,500 3,000 Accounts Payable 55,000 20,000 10,000 Notes Payable 50,000 45,000 Company A Current 10,000 Company B Current 5,000 Sales 300,000 225,000 120,000 Rent of Equipment to Co. B 3,000 Bond Interest Received from Co. C 2,000 $754,500 $402,000 $258,000 In the following consolidated working papers the adjustments and inter-company eliminations are cross-referenced by letters to facilitate tracing offsetting items. 130 CONSOLIDATED STATEMENTS o O S ts \o o 'ro'C? 10 * ^o .o t^io" 5 U< A COMBINED WORKING PAPERS 131 1 8 o o IO IO 00,0^ IT) IO , 8 "I 8 a 18 C -O II l'l ? c "S * -o 8 B w 8> a h J-s^^ I 6 if 6 M rn 'S e- s 8 S ^ c 5 1 "S * 8 Q .S I I 28 .58 (2, .3 ^ o 1 u J .a 132 CONSOLIDATED STATEMENTS " S S CO G 8 g o -Q 'o' S 8 8 O"c*fo z a c E "3 " cj S u a 8'-' iH Q O 1 : : >> . * * c. s :^ . 88 o o" "''**'. O 1 ^ o o 's c'i. ^o 'o ^0 "^ '*3 I low ^- CN OO c ^ c ^H 0\ s s COMBINED WORKING PAPERS 133 88 8 >. ^ T-I S S^ 88 1 O Q Q ^ O oO o" <^ 06 cs i g 88 g 8 t^ ^-1 ^-Tcs" oo~ PO -l w 2^ T-l 0> e 00 8 c5 25 t-^ to c^ w irTo" es >O r^o" *>r <* o i/f to T*I to -i ^ S i ^ c c V** 8 8 I h "B * * : g. a ,j y) CO O c ^^ s : 1 O > ill ex 1 ^ HJ CO T3 *s ^1 t .5 .S 2 c *~* ^H 2 4> - ,tl fr" n 4-1 -> J o O ^ ^^.'g O 2 ^ Is (S ' S S ' C C i w .2 202 5o-OS^ ^o ^ S rt e *""* *^ ,. . o> I- 1 - 1 V 4-> 4J o o .- j c c C ^ c (3 s 2 'O 'O ^ 'c u u ul u CJ "u w Q 2 S S | g u Q. .^.^ 8 bO 134 CONSOLIDATED STATEMENTS Explanation of working papers. These working papers were prepared in the following manner: The trial balance figures were entered, leaving room for eliminations after the investment accounts and after the capital stock and surplus accounts. The trial balance columns were then added to detect any possible errors in copying figures from the trial balances to the working papers. The inventories at December 31, 1921, were entered by adjustment (a) by a debit to Inventories on the debit sheet and a credit to Cost of Sales on the credit sheet. The inventories were listed in detail on the credit side in the columns of the several companies, so that they could be readily included in the total credits to the nominal accounts of each company in de- termining its profit. The debit to Inventories was carried to the consolidated balance sheet column. In drawing up the consolidated balance sheet the detail of the inventories can be obtained from the credit sheet. An adjustment was made for inter-company profits in inven- tories at January 1, 1921, by adjustment (b) debiting Com- pany A's surplus and crediting the inventories, thus reducing the charge to cost of sales for the opening inventories. I The dividends paid by Company B and Company C were transferred to the respective surplus accounts by adjustments (c) and (d). These entries are made because the holding com- pany has taken up these dividends by credits to the invest- ment accounts. Since it is following this method of accounting, eliminations will be made on the basis of present book values; i.e., surplus at January 1, 1921, less dividends paid in 1921. The investment accounts represent book values at January 1, 1921, less dividends received; therefore the surplus elimination should be on the basis of January 1, 1921 surplus less dividends paid. A reserve for inter-company profits in inventories at Decem- ber 31, 1921, was created by adjustment (e) charging cost of sales (as a reduction of the inventories to be credited to cost of sales) and crediting the reserve, which was carried to the consolidated balance sheet column. All inter-company accounts were eliminated. These elim- inations may be traced by the letters. All items affecting cost of sales were carried to the cost of sales column after making deductions as indicated by the ad- justments and eliminations. Items affecting profit and loss COMBINED WORKING PAPERS 135 and items to appear in the consolidated balance sheet were carried to their respective columns. Trial balance nominal account debits were added and de- ducted from trial balance nominal account credits (including inventories) to determine the profit of each company and the minority interests in profits. The adjustment and elimination columns were footed to see that they balanced. On the debit sheet the total of the consolidated cost of sales column was determined; the total of the credits to cost of sales was determined and carried over to the debit sheet where it was deducted from the total debits to obtain the net cost of sales of $303,000. This amount was carried to the debit profit and loss column. On the credit sheet the total of the profit and loss column was determined; the total of the debits to profit and loss was de- termined and carried over to the credit sheet where it was deducted from the total credits to ascertain the net profit for the year. The two minority interests were deducted and car- ried to the consolidated balance sheet column, and the remain- ing net profit, applicable to the holding company, was carried to the consolidated balance sheet column. The two consolidated balance sheet columns were footed. Consolidated statements. The consolidated cost of goods sold statement prepared from these working papers will be exactly like the one on page 118 of Chapter XIV, and will show $303,000 as the cost of goods sold during the year. The consolidated profit and loss statement will be identical with the one on page 119 of- Chapter XIV, and will show $58,100 as the consolidated net profit. The consolidated surplus state- ment will be a duplicate of the one on page 121 and will show $83,950 as the consolidated surplus. This is the same surplus which appears in the following consolidated balance sheet. The following data are summarized from the working papers for use in the consolidated balance sheet: Minority Minority Consolidated in B inC Surplus Surplus, January 1, 1921 less dividends $2,050 $3,400 $25,850 Profitsofl921 1,700 3,700 58.100 Surplus, December 31, 1921 3,750 7,100 $83,950 Minority Interests in Capital Stock 7,500 10,000 Total Minority Interests $11,250 $17,100 136 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET December 31, 1921 Assets Fixed Assets: Plant and Machinery $195,000 Less Reserve for Depreciation 14,500 $180,500 Goodwill 8,500 $189,000 Current Assets: Inventories: Raw Materials $86,000 Goods in Process 80,000 Finished Goods 95,000 261,000 Less Reserve for Inter-Company Profit 9,150 251,850 Accounts Receivable 115,000 Cash 46,450 413,300 $602,300 Liabilities Fixed Liabilities: Bonds Payable $150,000 Less Treasury Bonds 40,000 $1 10,000 Current Liabilities: Accounts Payable 85,000 Notes Payable 95,000 180,000 Minority Interests: In Company B (10%) 11,250 In Company C (20%) 17,100 28,350 Capital: Capital Stock 200,000 Surplus 83.950 283.950 $602,300 Second illustration. In this illustration, which is taken from a recent Ohio C. P. A. examination, the holding company acquired all of the stock of the subsidiaries at the beginning of the period. No profits have been taken up; dividends have been credited to Dividends Received to be transferred to Surplus at the end of the period. A consolidated profit and loss state- ment, surplus statement and balance sheet are to be prepared from the following trial balances at the end of 1919. COMBINED WORKING PAPERS 137 Cleveland Cincinnati Columbus Debits Mfg. Co. Mfg. Co. Mfg. Co. Cash $150,000 $50,000 $110,000 Accounts Receivable 650,000 210,000 400,000 Notes Receivable 300,000 50,000 50,000 Raw Materials Purchased 600,000 380,000 490,000 Labor 430,000 350,000 350,000 Manufacturing Expenses 220,000 170,000 160,000 Selling Expenses 100,000 60,000 100,000 Administrative Expenses 50,000 30,000 40,000 Plant and Machinery 1,000,000 600,000 800,000 Dividends Paid 450,000 100,000 200,000 Capital Stock Owned: Cincinnati Mfg. Co 1,000,000 Columbus Mfg. Co 1,500,000 Inventory, January 1, 1919 150,000 100,000 150,000 $6,600,000 $2,100,000 $2,850,000 Credits Accounts Payable $150,000 $105,000 $360,000 Notes Payable 50,000 95,000 90,000 Sales 1,500,000 1,100,000 1,200,000 Dividends Received 300,000 Capital Stock 4,500,000 500,000 800,000 Surplus, January 1, 1919 100,000 300,000 400,000 $6,600,000 $2,100,000 $2,850,000 The inventories at December 31, 1919, were as follows: Qeveland Company $300,000 Cincinnati Company 150,000 Columbus Company 200,000 Provide 10 per cent depreciation on total plant and ma- chinery. Notes payable of the Cincinnati Manufacturing Co. amount- ing to $95,000 and of the Columbus Manufacturing Co. amounting to $90,000 are for money advanced by the Cleveland Manufacturing Co. and are included in notes receivable of the Cleveland Manufacturing Co. The inventory of the Columbus Manufacturing Co. includes goods purchased from the Cleveland Manufacturing Co. on which the latter company made a profit of $25,000. The accounts receivable of the Cleveland Manufacturing Co. include $200,000 due from the Columbus Manufacturing Co. for goods shipped during the year. The entire capital stocks of the Cincinnati and Columbus companies were acquired on January 1, 1919, at the cost as shown by the books of the Cleveland Manufacturing Co. 138 CONSOLIDATED STATEMENTS 5 cTo'io' K -H O l .3 CO O S "3 H O^ * X^ 1 o So" O CS T-I O g o ts ~i ' a s' 3 s OOOOOO 8 *o g-C tJSJ.s 2 g .s'a &^ =3 *' rt 3 -S8S s*a ^."H .-.s " m > ^O -_._- ^ gj O^S ^3 I fri a '11 COMBINED WORKING PAPERS 3 8 . u |2 02 8-1 a I ss 2CJ c * S"" g:I /S 2 u T3 ^5 Q*s 140 CONSOLIDATED STATEMENTS s 1 3 w Biii 8 8 | O O g S| a 5 .P B S 9 II H 12 ^3 o, ? o % * K 1 v S u O -^ .2 COMBINED WORKING PAPERS 141 I 4 3 8 -H CX ^ 6 c e E'B II s. 00 o M s ' ^j C *- w en -O O. a *i 2 B *S fl , r- 28 S 2 a is a S fc V 8 g S O 3 oh -s S S ^s u v SC 142 CONSOLIDATED STATEMENTS The inter-company sales and purchases may have been more than $200,000 but the only information as to these transactions is contained in the statement that there were $200,000 of inter- company receivables at the end of the year for goods sold during the year. THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit A) CONSOLIDATED PROFIT AND Loss STATEMENT For the Year Ending December 31, 1919 Sales $3,600,000 Less Cost of Goods Sold : Inventory, January 1, 1919 $ 400,000 Purchases 1,270,000 Labor 1,130,000 Manufacturing Expense 550,000 Depreciation Plant and Machinery 240,000 Total $3,590,000 Less Inventory, December 31, 1919 625,000 2,965,000 Gross Profit on Sales $635,000 Less Selling Expenses 260,000 Net Profit on Sales $375,000 Less Administrative Expenses i 120,000 Net Profit for the Year $255,000 THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit B) CONSOLIDATED SURPLUS STATEMENT For the Year Ending December 31, 1919 Surplus January 1, 1919 $100,000 Add Profits 1919 255,000 Total $355,000 Deduct Dividends paid in 1919 450,000 Deficit December 31, 1919 $95,000 COMBINED WORKING PAPERS 143 THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit O CONSOLIDATED BALANCE SHEET December 31, 1919 Assets Fixed Assets: Plant and Machinery $2,400,000 Less Reserve for Depreciation 240,000 $2,160,000 Goodwill 500,000 $2,660,000 Current Assets: Inventories $650,000 Less Reserve for Inter-Company Profit 25,000 $625,000 Accounts Receivable 1,060,000 Notes Receivable 215,000 Cash 310,000 2,210,000 $4,870,000 Liabilities Capital: Capital Stock $4,500,000 Less Deficit (Exhibit B) 95,000 $4,405,000 Current Liabilities: Accounts Payable 415,000 Notes Payable 50,000 465,000 $4,870,000 Third illustration. This illustration is based on the same data as the second illustration, with the following changes: 1. The holding company owns only 90 per cent of the stock of each company. This change will introduce the feature of minority interests. 2. The holding company acquired its stock interests at January 1, 1918. This change will introduce two features: a. Adjustments will have to be made for inter-company profit in inventories at January 1, 1919, which were: (1). In Cincinnati inventories, $20,000 added on sales by Columbus. (2). In Cleveland inventories, $15,000 added on sales by Cincinnati. (See page 148). 144 CONSOLIDATED STATEMENTS V * J 33 ^ 2D ; 8" 2 S3 o o cT -. fO 10 CS -l \f) 8" 38 8 N .-I S s^ ^^ Q Q #1 81| o I S -; t> < a fe rf Ofl w Is" m O g || 8 i H ro -i -i 8 cs S O V) IO 8 c5 o cT o 10 oo >o T) O 8 ^Roosoog ^8^8" ^" ^ Q - VO ro 00^ CD CN S ** CN S unts Receivable s Receivable Materials Purchased r. . D V O. X C C '1 & a" nistration Expenses. . . . : and Machinery lends Paid: Cleveland Cincinnati. . |8S ~ <-><.<. o o *S o a ^ J4 y _ 2 5 '2^*1 S a U fe o all i 30 UU .gjg 131 ill -I f ? PS H-! ,< c/3 < OL, Q (J COMBINED WORKING PAPERS 145 o o s 3 8 8 3 8 8 & a : S. T? _c 2 a I! o ~~" > 0-t 9 *s i i .a - u Nom J S -o Q s a -73 S Q o H 146 CONSOLIDATED STATEMENTS S S C/3 3D fti CQ C/3 I* < .8 W o I r-~ t 8 2S 2 fe h S88 o"o"o" >/5 1/5 O e jO U5 "rt s 4-1 c 8 S 8 cr S P- % J '> 'COMBINED WORKING PAPERS 147 s" o 8 ffi B - U C C Q. o u II o. t 8 ^ O m -. M l.i I v - / 148 CONSOLIDATED STATEMENTS b. The eliminations from the investment accounts and the subsidiary surplus accounts will be based on book values at a date prior to the beginning of the period, and hence on surplus amounts different from those shown in the trial balances, which are the surplus balances at the first of the year. Since the holding company has not taken up profits, losses and dividends by entries in the investment accounts, the balances represent the cost at January 1, 1918. At that date the Cincinnati Manufacturing Company had a surplus of $160,- 000 and the Columbus Manufacturing Company had a surplus of $500,000. Since'the holding company did not own all of the stock of the subsidiaries during the year, the dividends received were only 90 per cent of the amounts paid by the subsidiaries, and hence in the following working papers the dividends received from the Cincinnati Company appear in the trial balance at $90,000 instead of $100,000, and the dividends received from the Columbus Company appear at $180,000 instead of $200,000, a total reduction of $30,000. The holding company's cash is correspondingly reduced from $150,000 to $120,000. THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit A) CONSOLIDATED PROFIT AND Loss STATEMENT For the Year Ending December 31, 1919 Sales $3,600,000 Deduct Cost of Goods Sold: Inventory, January 1, 1919 $ 368,500 Purchases 1,270,000 Labor 1,130,000 Manufacturing Expense 550,000 Depreciation Plant and Machinery 240,000 Total 3,558,500 Less Inventory, December 31, 1919 627,500 2,931,000 Gross Profit on Sales 669,000 Less Selling Expenses 260,000 Net Profit on Sales 409,000 Less Administrative Expenses 120,000 Net Profit for the Year $ 289.000 For Minority Stockholders of Cincinnati Mfg. Co. . $ 10,000 For Minority Stockholders of Columbus Mfg. Co. . 3,000 For Cleveland Mfg. Co 276,000 $289,000 COMBINED WORKING PAPERS 149 Before preparing the consolidated surplus statement, it is necessary to assemble the various elements of the consolidated surplus at January 1, 1919. Cleveland Mfg. Co. surplus after adjustment for inter-company profit in inventories at January 1, 1919 $68,500 Add holding company's 90% of increase in Cincinnati Mfg. Co.'s surplus since acquisition 126,000 Total 194,500 Deduct holding company's 90% of decrease in Columbus Mfg. Co.'s surplus since acquisition 90,000 Adjusted surplus as at January 1, 1919 $104,500 THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit E) CONSOLIDATED SURPLUS STATEMENT For the Year Ending December 31, 1919 Surplus, January 1, 1919 $104,500 Add Profits for 1919 (Exhibit A) 276,000 Total 380,500 Deduct Dividends Paid 450,000 Deficit, December 31, 1919 $69,500 Before preparing the consolidated balance sheet it is desirable to assemble the elements of the minority interests: Cincinnati Columbus Capital stock $50,000 $80,000 Surplus, January 1, 1919 30,000 40,000 Profits, 1919 10,000 3,000 Total 90,000 123,000 Less Dividends paid in 1919 10,000 20,000 Minority Interests, at December 31, 1919 $80,000 $103,000 150 CONSOLIDATED STATEMENTS THE CLEVELAND MANUFACTURING COMPANY AND SUBSIDIARIES (Exhibit O CONSOLIDATED BALANCE SHEET December 31, 1919 Assets Fixed Assets: Goodwill $736,000 Plant and Machinery $2,400,000 Less Reserve for Depreciation 240,000 2,160,000 $2,896,000 Current Assets: Inventories 650,000 Less Reserve for Inter-Company Profit 22,500 627,500 Accounts Receivable 1,060,000 Notes Receivable 215,000 Cash 280,000 2,182,500 $5,078,500 Liabilities Current Liabilities: Accounts Payable $ 415,000 NotesPayable 50,000 $465,000 Minority Interests: Cincinnati Mfg. Co. (10%) 80,000 Columbus Mfg. Co. (10%) 103,000 183,000 Capital: Capital Stock 4,500,000 Less Deficit (Exhibit B) " 69,500 4,430,500 $5,078,500 APPENDIX A PROBLEMS Problem i. Three-fourths of the capital stock of Company A and two-thirds of the capital stock of Company B is owned by the holding company C. Company C purchased the above stock of Company A at 150 in February, 1905, on the basis of the balance sheet given below, dated January 1, 1905. Assets Liabilities Real Estate, Plant, etc $100,000 Capital Stock $150,000 Inventory, Merchandise 100,000 Surplus 75,000 Accounts Receivable 75,000 Bills Payable 75,000 Cash 25,000 $300,000 $300,000 During the year 1905 Company A made a net profit after providing for depreciation, bad debts, etc., of $5,000, and the directors of Company A declare and pay a dividend of 10 per cent as of February 15, 1906. The stock of Company B owned by Company C was pur- chased in March, 1905, at 125, on the basis of the balance sheet below, dated January 1, 1905. Assets Liabilities Real Estate, Plant, etc $450,000 Capital Stock $500,000 Patents 50,000 Bonded Indebtedness 200,000 Inventory, Merchandise 200,000 Accounts Payable 62,500 Accounts Receivable 150,000 Surplus 125,000 Cash 37,500 $887,500 $887,500 During the year 1905 Company B made a net profit of $50,- 000 after making all necessary provision for bad debts and for depreciation on plant, machinery and patents. The directors of Company B declare and pay a dividend of 8 per cent as of February 14, 1906. Draw up all the necessary entries in respect to the purchase of the stock of the two companies, their earnings and dividends, as they should appear on the books of Company C, the holding company. 151 152 CONSOLIDATED STATEMENTS Problem 2. On January 1, 1910, X Y Z Company acquired the entire capital stock of the P Q Company, consisting of 1,000 shares of par value of $100 each, for which was paid the sum of $150,000. After the transaction was recorded on the books of the X Y Z Company, the balance sheets of the two companies were as follows: X Y Z Company P Q Company Real Estate $ 50,000 $25,000 Buildings, Plant and Equipment. . . 75,000 45,000 Goodwill 25,000 Investment in P Q Company 150,000 Inventories 80,000 20,000 Accounts Receivable 70,000* 85,000 Accounts Payable $50,000 $50,000* Loans 50,000 Capital Stock 250,000 100,000 Surplus 100,000 25,000 $450,000 $450,000 $175,000 $175,000 * Includes account of $15,000 due by P Q Company to X Y Z Company. Prepare a consolidated balance sheet. Problem 3. Company A purchased on January 1, 1917, the entire capital stock of Company B at $175 per share, and the entire stock of Company C at $80 per share. There are no inter-company accounts or inventories. You are handed the balance sheets as understated, at June 30, 1917, and are requested to prepare a consolidated balance sheet of the A Company and its subsidiaries at that date. BALANCE SHEET-COMPANY A Property and goodwill $850,000 Stock of subsidiary companies 1,500,000 Current assets 700,000 Capital stock $2,250,000 Current liabilities 150,000 Surplus, January 1 525,000 Undivided profits for half year 125,000 $3,050,000 $3,050,000 BALANCE SHEET COMPANY B Property and goodwill $650,000 Current assets 60,000 Capital stock $400,000 Current liabilities 10,000 Surplus, January 1 200,000 Undivided profits for half year 100,000 $710,000 $710,000 APPENDIX A 153 BALANCE SHEET COMPANY C Property (as appraised Janu- ary 1, 1917) $1,130,000 Capital stock $1,000,000 Current assets 180,000 Current liabilities 240,000 Surplus, January 1 30,000 Undivided profits for half year 40,000 $1,310,000 $1,310,000 Problem 4. In the process of consolidating several compet- ing establishments, Corporation A, the holding company, acquires $98,000 out of a total of $100,000 of the capital stock of Company B. At the time of the purchase the balance sheet of Company B showed surplus and undivided profits of $50,000. Company A bought the stock of B at 200 per cent. Almost immediately after the purchase Company B declared and paid a cash dividend of 25 per cent. In what ways would the payment of this dividend affect (a) the balance sheet of B; (b) the balance sheet of A; (c) the consolidated balance sheet of A and its subsidiary companies? Give reasons for your answer. Problem 5. Prepare a consolidated balance sheet with the use of the data contained below: COMPANY A (Holding Company) BALANCE SHEET December 31, 1913 Assets Liabilities Investment in other com- panies at cost: Capital Stock $2,000,000 B (75% interest) $1,000,000 Collateral Trust 5% Notes. . 1,000,000 C (70% interest) 750,000 Surplus 1,000,000 D (80% interest) 850,000 $2,600,000 Other Sundry Assets 1,400,000 $4,000,000 $4,000,000 NOTE: As indicated above, the Holding Company has not recognized in its books the increase or decrease in the value (represented in profits and losses) of the investments in sub- 154 CONSOLIDATED STATEMENTS sidiaries, except that dividends received from time to time have been carried to surplus account. The dates as of which the interests in the various companies were acquired are as follows: B January 1, 1910 C July 1, 1908 D June 30, 1912 COMPANY B BALANCE SHEET December 31, 1913 Fixed Assets. Current Assets . . . Deferred Charges. Assets $500,000 500,000 100,000 Liabilities Capital Stock $600,000 Current Liabilities 100,000 Surplus: Balance 1/1/10 $100,000 Profits Since. ... 500,000 Dividends . $1,100,000 600,000 200,000 400,000 $1,100,000 COMPANY C BALANCE SHEET December 31, 1913 Assets Fixed Assets $700,000 Current Assets 250,000 Deferred Charges 50,000 Deficiency Account: Balance 1/1/1906. $250,000 Dividends, Dec. 1, 1913 500,000 750,000 'Profits from l/l/ 1906 650,000 100,000 $1,100,000 Liabilities Capital Stock $800,000 Current Liabilities 300,000 $1,100,000 * It con be assumed that there was no fluctuation of profits as between months. APPENDIX A 155 COMPANY D BALANCE SHEET December 31, 1913 Assets Fixed Assets $500,000 Current Assets 500,000 Deferred Charges 100,000 $1,100,000 Liabilities Capital Stock $800,000 Current Liabilities 100,000 Surplus: Balance 1/1/1911 $300,000 *Profits Since 800,000 1,100,000 Dividends declared in 1911 900,000 200,000 $1,100,000 * The amount of $800,000 is made up thus: Profits IQII $600,000 'Loss 1912 100,000 Profits 1913 300,000 1 For the purpose of solving the problem assume that $50,000 of this loss was incurred in the six months ending June 30, 1912. Prepare: (A) Consolidated working papers. (B) Consolidated balance sheet. Problem 6. The following is a balance sheet of the Brown Company as at December 31, 1917: Real Estate, Buildings and Machinery $200,000 Patents and Goodwill 350,000 Investment in Black Company 1,800 Shares of $100 each, purchased March 31, 1917, for 270,000 Inventory $410,000 Bills and Accounts Receivable 320,000 Cash 70,000 Advances to Black Company 130,000 930,000 Total $1,750,000 Capital Stock $500,000 Bills Payable 405,000 Accounts Payable 375,000 780,000 Surplus January 1, 1917 275,000 Profits for Year 320,000 595,000 Less Dividends Paid 125,000 470,000 Total $1,750,000 156 CONSOLIDATED STATEMENTS The Balance Sheet of the Black Company as at December 31, 1917, shows the following condition: Machinery and Equipment $460,000 Inventory $130,000 Accounts and Bills Receivable 80,000 Cash 2,000 212,000 Total $672,000 Capital Stock 2,000 Shares $200,000 Bills Payable $205,000 Advances from Brown Company 130,000 Accounts Payable 62,000 397,000 Surplus January 1, 1917 15,000 Profits (earned proportionately throughout the year) . . . 60,000 75,000 Total $672,000 Prepare a consolidated balance sheet as at December 31, 1917. What position would you take should the client request a certified balance sheet of the Brown Company by itself as at December 31, 1917 ? Submit your answer in the form of a letter addressed to the client, giving reasons for your conclusions. Problem 7. On January 1, 1913, the A B Company acquired 90 per cent of the stock of the X Y Company and 80 per cent of the stock of the P Q Company, two subsidiary companies which it thus controlled and whose policy and general administration it directed, the minority holdings in each case being in the hands of the officers and employees of the subsidiary companies or of other interests friendly to the A B Company. On June 30, 1913, the holdings in the X Y Company were reduced to 80 per cent by the sale of 100 shares at $200 per share to certain employees not heretofore stockholders; while in the case of the P Q Com- pany, owing to the resignation of an officer, his holdings, con- sisting of 100 shares, were purchased at par, the holdings by the A B Company being thus increased to 90 per cent, so that on December 31, 1913, the proportion of holdings in the two companies was just reversed. The following are the trial balances of all three companies (after closing) at December 31, 1913: APPENDIX A 157 TRIAL BALANCES at December 31, 1913 Particulars A B Company X Y Company P Q Company Properties $85,000 $75,000 Goodwill $100,000 Stockholdings: In XY Co., 800 shares. (book value) 115,000* In P Q Co., 900 shares (at cost) 82,000 Current Assets 132,000 135,000 90,000 Capital Stock: A B Co., 3,000 shares. $300,000 X Y Co., 1,000 shares. $100,000 P Q Co., 1,000 shares. $100,000 Accounts Payable 125,000 30,000 10,000 Surplus at January 1 50,000 60,000 10,000 1913 Profits 44,000** 45,000 35,000 Dividends paid in Decem- ber, 1913 30,000 40,000 25,000 Current Accounts 60,000 25,000 35,000 $519,000 $519,000 $260,000 $260,000 $190,000 $190,000 * After crediting the proceeds of the 100 shares sold, prior to which the investment had been valued at cost. ** Dividends received from subsidiary companies, less expenses of parent company. Prepare a consolidated balance sheet. Assume that the profits earned by the X Y Company and the P Q Company, respectively, to June 30, 1913, were exactly 50 per cent of the profits for the complete year. Problem 8. From the following trial balances, after closing, prepare a consolidated balance sheet as at January 31, 1915. This consolidated balance sheet must be prepared in form suitable for submission to a firm of commercial paper brokers and to bankers. It is assumed that you audited all these balance sheets and had every opportunity of inquiring and satisfying yourself relative to their accuracy. This being so, append to the balance sheet such a certificate as you would feel warranted in signing. 158 CONSOLIDATED STATEMENTS ABC MANUFACTURING COMPANY TRIAL BALANCE after closing as at January 31, 1915 Dr. Cr. Real Estate, Buildings, Machinery, etc $1,000,000 Goodwill 1,000,000 Investment in and advances to Paris Manufacturing Company: Capital Stock at cost $250,000 Advances 150,000 400,000 Accounts Receivable, less Reserve $10,000. 150,000 Inventories of Raw Material, Work in Pro- cess, Finished Material, etc 300,000 Cash 50,000 Notes Payable $250,000 Accounts Payable 50,000 Investment in and advances to Brown-Smith Company: Capital Stock par value 100,000 Advances 100,000 200,000 First Mortgage 6% Gold Bonds 500,000 Preferred Stock 7% Cumulative 10,000 shares , 1,000,000 Common Stock 10,000 shares 1,000,000 Surplus 300,000 $3,100,000 $3,100,000 PARIS MANUFACTURING COMPANY TRIAL BALANCE after closing as at January 31, 1915 Dr. Real Estate, Buildings, Machinery, etc $250,000 Goodwill 200,000 Accounts Receivable 60,000 Inventories of Raw Material, Work in Process, Fin- ished Material, etc 175,000 Cash 25,000 Reserve for Bad Debts Notes Payable Accounts Payable ABC Manufacturing Company Capital Stock 1,500 Shares Surplus Cr. $10,000 90,000 10,000 150,000 150,000 300,000 $710,000 $710,000 APPENDIX A BROWN-SMITH COMPANY TRIAL BALANCE after closing as at January 31, 1915 Dr. Real Estate, Buildings, Machinery, etc $50,000 Accounts Receivable 25,000 Finished Goods on Consignment at Selling Price 100,000 Inventories of Raw Material, Work in Process, Fin- ished Materials, etc 125,000 Cash 25,000 Notes Payable Accounts Payable ABC Manufacturing Company Capital Stock 1,000 shares Deficit 50,000 Cr. $150,000 25,000 100,000 100,000 $375,000 $375,000 In preparing the balance sheet required, bear the following facts in mind: 1. The dividends on the preferred stock of the ABC Man- ufacturing Company were paid to March 31, 1914. 2. The finished goods on consignment (Brown-Smith Balance Sheet) cost to manufacture $60,000. it is estimated a profit of $10,000 will be made. freight expense. 3. All inventories are priced on proper basis. 4. All accounts receivable are considered collectible after allowing for reserves. On realization Disregard any Problem 9. From the following three trial balances prepare a consolidated balance sheet as at December 31, 1912, in the form you would draw it up for presentation to the stockholders of the parent company (The Safety Razor Company) showing as separate items therein (a) the total goodwill of the com- bined companies; and (b) the net profits accruing to the Safety Razor Company. 160 CONSOLIDATED STATEMENTS SAFETY RAZOR COMPANY TRIAL BALANCE December 31, 1912 Preferred Stock. Common Stock. Investments in Subsidiary Companies: 4,000 shares of stock of L W Co., and 4,000 shares of stock of Steel Blade Co., both of $100 each at cost $2,500,000 Accounts Payable Dividends from Subsidiary Companies Administration Expenses 25,000 L W Co., Current Account 100,000 Steel Blade Company Advances 150,000 Cash 270,000 Organization Expenses 75,000 $1,500,000 1,500,000 20,000 100,000 $3,120,000 $3,120,000 L W COMPANY TRIAL BALANCE December 31, 1912 Properties and Plant $325,000 Goodwill 250,000 Investment in Steel Blade Co.: 2,000 shares of a par value of $100 each cost $300,000 400,000 Inventories 250,000 Receivables 195,000 Cash 90,000 Capital Stock 4,000 shares Accounts Payable Steel Blade Company Surplus (Includes $100,000 added to book value of In- vestment in Steel Blade Co.) Safety Razor Company $400,000 125,000 175,000 710,000 100,000 $1,510,000 $1,510,000 APPENDIX A 161 STEEL BLADE COMPANY TRIAL BALANCE December 31, 1912 Goodwill $50,000 Property and Plant 325,000 Inventories 190,000 Receivables General 105,000 L W Company 195,000 Cash 10,000 Capital Stock (6,000 shares) $600,000 Accounts Payable 90,000 Safety Razor Company 150,000 Surplus 35,000 $875,000 $875,000 In the preparation of your consolidated balance sheet, be guided by the following assumed facts: 1. That the Safety Razor Company was formed on March 28, 1912, and acquired its stock ownership in the two sub- sidiary companies, as shown in its trial balance on April 1, 1912. 2. That at January 1, 1912, the L W Company had a surplus of $605,000 and the Steel Blade Company a deficit of $50,000. 3. That no inventory was taken of either the L W Company or the Steel Blade between January 1 and December 31, 1912, the business of the companies being continued without interrup- tion notwithstanding the change in ownership of the capital stocks as indicated above. It is estimated on reliable authority, which may be accepted as final, that from January 1 to March 31, 1912, the net profits of the L W Company amounted to $30,000, while during the same period the Steel Blade Company lost $15,000. 4. That prior to December 31, 1912, the L W Company declared a dividend of $100,000 payable to the parent company which was duly taken up on the books of both companies, being passed through the current accounts and charged against the surplus of the L W Company prior to December 31, 1912. 5. That the difference in the current accounts between the Steel Blade Company and the L W Company represents, as to $10,000 merchandise in transit and as to the remaining $10,000, a charge for rental of warehouse for the last six months of 1912, which has been credited to the rent account on the books of the Steel Blade Company. 162 CONSOLIDATED STATEMENTS B Co. C Co. Problem 10. The Jones Investment Company on June 30, 1915, obtained a controlling interest in three operating com- panies, viz., A Company, B Company and C Company. The balance sheets of the four companies as at June 30, 1916, are as follows: Jones Invest- Debits ment Co. A Co. Investments in other companies: A Co. 60% interest (Cost $900,000) $1,000,000 B Co. 75% interest at cost 600,000 C Co. 80% interest at cost 400,000 Advances to A Co 100,000 Advances to C Co 50,000 Cash 50,000 $100,000 Accounts Receivable Inventories Plant Deficit.. 100,000 200,000 1,000,000 $10,000 $50,000 50,000 100,000 100,000 50,000 600,000 400,000 40,000 $2,200,000 $1,400,000 $800,000 $600,000 Credits Capital Stock $2,000,000 $1,000,000 $800,000 $400,000 Jones Investment Co 100,000 50,000 Surplus 200,000 300,000 150,000 $2,200,000 $1,400,000 $800,000 $600,000 The Surplus and Deficit accounts as shown above may be analyzed as follows : Balance to June 30, 1915 $100,000 $200,000 $4,000 $100,000 Surplus income: 6 months to Dec. 31, 1915 180,000 46,000 25,000 6 months to June 30, 1916 217,500 220,000 40,000* 25,000 Increase in value of A Co. stock 100,000 Dividends paid Jan., 1916 217,500* 300,000* 50,000* Balance June 30, 1916 $200,000 $300,000 $40,000* $150,000 * Indicates debit. Prepare a consolidated balance sheet of the four companies as at June 30, 1916. A statement of the consolidated earnings and surplus account for the year to June 30, 1916, is not required, but may be sub- mitted if desired. In preparing the balance sheet the following additional facts should be considered: 1. The holding company has no other source of income than APPENDIX A 163 the dividends from the subsidiaries, which have been taken on to its books when received. 2. In accordance with a resolution of the Board of Directors of the Jones Investment Company, the following entry was made on the holding company books at June 30, 1916. Dr. Investment in A Co $100,000 Cr. Surplus 100,000 3. The inventories of the A Company include $100,000 of stock purchased from B Company in 1916. The cost of these goods to the B Company was $90,000. 4. Part of the plant of the C Company was built by the A Company in September and October, 1915, at a cost of $80,000. For this work the A Company charged the C Company $95,000. 5. In February, 1916, part of the equipment of the B Com- pany, which was carried on the books at the cost price of $50,000, was destroyed by fire. The only entry that has been made in respect to this loss was to credit the plant account with the salvage of $5,000. Problem n. Following are the trial balances of Company A and its subsidiaries at December 31, 1920: Debits Co. A Co. B Co. C Cash $ 75,000 $ 50,000 $ 60,000 Accounts Receivable 350,000 190,000 420,000 Notes Receivable 200,000 60,000 40,000 Inventory, Raw Material, Jan. 1, 1920... 150,000 105,000 160,000 Purchases, Raw Materials 650,000 400,000 510,000 Labor 450,000 320,000 370,000 Manufacturing Expenses 190,000 190,000 205,000 Selling Expenses 85,000 40,000 75,000 Administrative Expenses 45,000 25,000 35,000 Inventory, Goods in Process, Jan. 1, 1920. 80,000 70,000 75,000 Inventory, Finished Goods, Jan. 1,1920.. 90,000 65,000 80,000 Plant and Equipment 900,000 400,000 750,000 Investment in Stock of Company B 875,000 Investment in Stock of Company C 1,200,000 $5,340.000 $1.915.000 ^2.780.000 Credits Capital Stock $3,000,000 $500,000 $800,000 Notes Payable 110,000 80,000 60,000 Accounts Payable 100,000 65,000 250,000 Bonds Payable 500,000 Premium on Bonds 5,000 Reserve for Depreciation 100,000 60,000 112,500 Sales 1,400,000 1,050,000 1,250,000 Surplus 125,000 160,000 307,500 $5,340,000 $1,915,000 $2,780,000 164 CONSOLIDATED STATEMENTS The inventories at December 31, 1920, were: Co. A Co. B Co. C Raw Material $280,000 $175,000 $210,000 Goods in Process 95,000 80,000 85,000 Finished Goods 135,000 145,000 105,000 Company A purchased the entire stock issues of Companies B and C at January 1, 1920, at the prices shown in the trial balance. During the year each of the three companies declared and paid a five per cent dividend. Company A took up its dividends from Companies B and C by credits to surplus. The various entries for the dividends were the only entries affecting the surplus accounts during the year. At December 31, 1919, Company A's inventory of raw mate- rial included goods purchased from Company B at a price of $60,000, the cost thereof to Company B being $40,000. At the same date Company B's inventory of raw material included goods purchased from Company C for $75,000, on which Company C made a profit of $25,000. During 1920, Company C sold goods to Company B at a price of $200,000. These goods cost Company C $160,000. Company B still owes $30,000 on these purchases, the indebt- edness being included in the accounts payable. During 1920, Company B sold goods to Company A at a cost of $300,000, and at a selling price of $375,000. Company A made cash advances totaling $400,000 to Company B during the year. The sales just mentioned were charged against the advances account, the $25,000 balance of which is included in Company B's accounts payable. The inventories at December 31, 1920, include inter-company profits as follows: Raw Goods Finished Material in Process Goods Company A $20,000 $5,000 $4,000 Company B 30,000 6,000 5,000 Company A's bonds were issued July 1, 1920. They bear 5 per cent interest, payable semi-annually, and mature in five years. No interest has been paid. Allow depreciation at five per cent per annum on the cost of the fixed assetsi Prepare the following consolidated statements: cost of goods manufactured and sold; profit and loss; surplus; balance sheet. APPENDIX B SOLUTIONS TO REVIEW EXERCISES FOLLOWING CHAPTER IX (* Indicates deduction) Case A Assets Co. A Co. B EUm. C. B. S. Investment in Stock of Co. B (90%) . . .$110,000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $2,OOOG Sundry Net Assets 105,000 $120.000 225,000 $215.000 $120,000 $108.000 $227.000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,OOOS Co. B 20,000 Eliminate holding company's 90% 18,000 Minority interest 10% 2,OOOM $215,000 $120,000 $108,000 $227.000 Goodwill $2,000; minority interest $12,000; surplus $15,000. CaseB Assets Co. A Co. B EUm. C. B. S. Investment in Stock of Co. B (90%) . . .$119,000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 30,000.. 27,000 Goodwill $2,OOOG Sundry Net Assets 105,000 $130,000 235,000 $224,000 $130.000 $117.000 $237,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 24,000 24.000S Co. B 30,000 Eliminate holding company's 90% 27,000 Minority interest 10% 3.000M $224,000 $130.000 $117,000 $237.000 Goodwill $2,000; minority interest $13,000; surplus $24,000. 165 166 CaseC CONSOLIDATED STATEMENTS Assets Co. A Co. B Elim. C. B. Investment in Stock of Co. B (90%) . . . $105,500 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 15,000.. 13,500 Goodwill $2,OOOG Sundry Net Assets 105,000 $115,000 220,000 $210,500 $115,000 $103,500 $222,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10.000M Surplus: Co. A 10,500 10,500S Co. B 15,000 Elimin ate holding company's 90% 13,500 Minority interest 10% 1.500M $210,500 $115,000 $103,500 $222,000 Goodwill $2,000; minority interest $11,500; surplus $10,500. CaseD Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $83,000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 10,000*. 9,000* Goodwill $2,OOOG Deficit: Co. A 12,000 12,OOOS Co. B $10,000 Eliminate holding company's 90% 9,000 Minority interest 10% l.OOOM Sundry Net Assets 105,000 90,000 195,000 $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM $200,000 $100,000 $90,000 $210,000 Goodwill $2,000; minority interest $9,000; deficit $12,000. APPENDIX B Case AA Assets Co. A Co.B 167 Elim. C. B. S. Investment in Stock of Co. B(90%) Cost $110,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $2,OOOG Sundry Net Assets 105,000 $120,000 225,000 $215,000 $120,000 $108.000 $227,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co.B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,OOOS Co.B 20,000 Minority: 10% of $20,000 pres- ent surplus 2,OOOM Elim. H.C.:90%of 20,000 sur- plus at acquis 18,000 $215.000 $120.000 $108,000 $227,000 Goodwill $2,000; minority interest $12,000; surplus $15,000. CaseBB Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $110,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $2,OOOG Sundry Net Assets 105,000 $130,000 235,000 $215,000 $130,000 $108,000 $237.000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10.000M Surplus: Co. A 15,000 15,0005 Co. B 30,000 Minority: 10% of $30,000 pres- ent surplus 3,OOOM Elim. H. C.: 90% of 20,000 sur- plus at acquis. 18,000 Surplus: 90% of 10,000 in- crease 9,OOOS $215,000 $130,000 .$108,000 $237,000 Goodwill $2,000; minority interest $13,000; surplus $24,000. 168 Case CC CONSOLIDATED STATEMENTS Co.B Assets Co. A Investment in Stock of Co. B (90%) Cost $110,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000.. Goodwill Sundry Net Assets 105,000 $115,000 Elim. $90,000 18,000 C. B. S. $2,OOOG 220,000 $215,000 $115,000 $108,000 $222,000 Liabilities Capital Stock: Co. A $200,000 Co.B Eliminate holding company's 90% Minority interest 10% Surplus: Co. A 15,000 Co. B Minority: 10% of $15,000 pres- ent surplus Elim. H. C.: 90% of 20,000 sur- plus at acquis Surplus: 90% of 5,000 de- crease $100,000 15,000 $200,000 $90,000 18,000 1.500M 4,500*S $215,000 $115,000 $108,000 $222,000 Goodwill $2,000; minority interest $11,500; surplus $10,500. Case DD Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $110,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000.. Goodwill Sundry Net Assets 105,000 $90,000 Deficit Co. B 10,000 Minority: 10% of $10,000* present deficit Elim. H. C.: 90% of 20,000 sur- plus at acquis. Surplus: 90% of 30,000 de- crease... Elim. C. B. S. $90,000 18,000 18,000* $2,OOOG 195,000 1,OOOM 27,OOOS $215,000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 Co.B Eliminate holding company's 90% Minority interest 10% Surplus Co. A 15,000 $100,000 $90,000 $200,000 10,OOOM 15,OOOS $215,000 $100,000 $90,000 $225,000 Goodwill $2,000; minority interest $10,000 - $1,000 = $9,000; surplus $15,000 $27,000 = $12,000 deficit. APPENDIX B 169 Case E Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%). . . $115,000 Eliminate present book value: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $7,OOOG Sundry Net Assets 100,000 $120,000 220,000 $215,000 $120,000 $108,000 $227,000 Liabilities . Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10.000M Surplus: Co. A 15,000 15,OOOS Co. B 20,000 Eliminate holding company's 90% 18,000 Minority interest 10% 2,OOOM $215,000 $120,000 $108,000 $227,000 Goodwill $7,000; minority interest $12,000; surplus $15,000. Case F Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%). . . $133,000 Eliminate present book value: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 40,000.. 36,000 Goodwill $7,OOOG Sundry-Net Assets 100,000 $140,000 240,000 $233,000 $140,000 $126,000 $247,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10.000M Surplus: Co. A 33,000 33,OOOS Co. B 40,000 Eliminate holding company's 90% 36,000 Minority interest 10% 4,OOOM $233,000 $140,000 $126,000 $247,000 Goodwill $7,000; minority interest $14,000; surplus $33,000. CONSOLIDATED STATEMENTS Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $107,800 Eliminate present book value: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 12,000.. 10,800 Goodwill $7,OOOG Sundry Net Assets 100,000 $112,000 212,000 $207,800 $112,000 $100,800 $219,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% lO.OOOM Surplus: Co. A 7,800 7,800S Co. B 12,000 Eliminate holding company's 90% 10,800 Minority interest 10% 1,200M $207,800 $112,000 $100,800 $219,000 Goodwill $7,000; minority interest $11,200; surplus $7,800. Case H Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $89,800 Eliminate present book value: Capital stock : 90% of $100,000 . . $90,000 Deficit: 90% of 8,000.. 7,200* Goodwill $7,OOOG Sundry Net Assets 100,000 $92,000 192,000 Deficit: Co. A 10,200 10,200S Co. B 8,000 Eliminate holding company's 90% 7,200 Minority interest 10% 800M $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM $200,000 $100,000 $90,000 $210,000 Goodwill $7,000; minority interest $9,200; deficit $10,200. APPENDIX B 171 Case EE Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $115,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $7,OOOG Sundry Net Assets 100,000 $120,000 220,000 $215,000 $120,000 $108,000 $227,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,0008 Co. B . 20,000 Minority : 10% of $20,000 pres- ent surplus ' 2,OOOM Elim. H.C.:90%of 20,000 sur- plus at acquis 18,000 $215,000 $120,000 $108.000 $227,000 Goodwill $7,000; minority interest $12,000; surplus $15,000. Case FF Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $115,000 Eliminate book value at acquisition: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 20,000.. 18,000 Goodwill $7,000 G Sundry Net Assets 100,000 $140,000 240,000 $215,000 $140,000 $108,000 $247,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,0005 Co. B 40,000 Minority: 10% of $40,000 pres- ent surplus 4,OOOM Elim. H.C.:90%of 20,000 sur- plus at acquis. 18,000 Surplus: 90% of 20,000 in- crease 18,0005 $215,000 $140.000 $108,000 $247,000 Goodwill $7,000; minority interest $14,000; surplus $15,000 + $18,000 = $33,000. 172 Case GG CONSOLIDATED STATEMENTS Elim. C. B. S. Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $1 15,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000.. Goodwill Sundry Net Assets 100,000 $112,000 $90,000 18,000 $7,OOOG 212,000 $215,000 $112,000 $108,000 $219,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% Surplus: Co. A 15,000 Co. B 12,000 Minority: 10% of $12,000 pres- ent surplus Elim.H.C.:90%of 20,000 sur- plus at acquis. Surplus: 90% of 8,000 de- crease 18,000 $200,000 lO.OOOM 15,OOOS 1,200M 7,200*S $215,000 $112,000 $108,000 $219,000 Goodwill $7,000; minority interest $11,200; surplus $15,000 - $7,200 - $7,800. Case HH Co. B Elim. C. B. S. $90,000 18,000 8,000 18,000* Assets Co. A Investment in Stock of Co. B (90%) Cost $115,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000. . Goodwill Sundry Net Assets 100,000 $92,000 Deficit Co. B Minority: 10% of $8,000 pres- ent deficit Elim. H. C.: 90% of 20,000 sur- plus at acquis. Surplus: 90% of 28,000 de- crease $215.000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co.A 15,000 15,0005 $215,000 $100,000 $90,000 $225,000 Goodwill $7,000; minority interest $9,200; surplus $15,000 $25,200 = $10,200 deficit. $7,OOOG 192,000 800M 25,200S $200,000 APPENDIX B 173 Case I Assets Co. A Co. B Elim. C. S. S. Investment in Stock of Co. B (90%) . . . $105,000 Eliminate present book value: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 20,000.. 18,000 Deduction from goodwill $3,000*G Sundry Net Assets.... 80,000 $120,000 200,000 Deficit Co. A 15,000 15,0005 $200,000 $120,000 $108,000 $212,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. B 20,000 Eliminate holding company's 90% 18,000 Minority interest 10% 2.000M $200,000 $120,000 $108,000 $212,000 Deduction from goodwill $3,000; minority interest $12,000; deficit $15,000. Case J Assets Co. A Co.B Elim. C.B.S. Investment in Stock of Co. B (90%) . . . $123,000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 40,000.. 36,000 Deduction from goodwill $3,000*G Sundry Net Assets 80,000 $140,000 220,000 $203,000 $140,000 $126,000 $217,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 3,000 3,0005 Co. B 40,000 Eliminate holding company's 90% 36,000 Minority interest 10% 4,OOOM $203,000 $140,000 $126,000 $217,000 Deduction from goodwill $3,000; minority interest $14,000; surplus $3,000. 174 CONSOLIDATED STATEMENTS CaseK Assets Co. A Co. B Elim. C.B.S Investment in Stock of Co. B (90%). . . $97,800 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 12,000.. 10,800 Deduction from goodwill $3,000*G Sundry Net Assets 80,000 $112,000 192,000 Deficit Co. A 22,200 22,200S $200,000 $112,000 $100,800 $211,200 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. B 12,000 Eliminate holding company's 90% 10,800 Minority interest 10% 1,200M $200,000 $112,000 $100,800 $211,200 Deduction from goodwill $3,000; minority interest $11,200; deficit $22,200. CaseL Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $79,800 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 8,000.. 7,200* Deduction from goodwill $3,000*G Sundry Net Assets 80,000 $92,000 172,000 Deficit: Co. A 40,200 40,200 S Co. B 8,000 Eliminate holding company's 90% 7,200 Minority interest 10% 800M $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM 200,000 100,000 90,000 210,000 Deduction from goodwill $3,000; minority interest $9,200; deficit $40,200. APPENDIX B 175 Casell Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $105,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 20,000.. 18,000 Deduction from goodwill $3,000*G Sundry Net Assets 80,000 $120,000 200,000 Deficit Co. A 15,000 15,0008 $200,000 $120,000 $108,000 $212,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. B 20,000 Minority: 10% of $20,000 pres- ent surplus 2,OOOM Elim.H.C.:90%of 20,000 sur- plus at acquis. 18,000 $200,000 $120,000 $108,000 $212,000 Deduction from goodwill $3,000; minority interest $12,000; deficit $15,000. CaseJJ Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $105,000 Eliminate book value at acquisition: Capital stock : 90% of $100,000 . . $90,000 Surplus: 90% of 20,000.. 18,000 Deduction from goodwill $3,000*G Sundry Net Assets 80,000 $140,000 220,000 Deficit Co. A 15,000 15,0005 $200,000 $140,000 $108,000 $232,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% 10.000M Surplus Co. B 40,000 Minority: 10% of $40,000 pres- ent surplus 4,OOOM Elim.H.C.:90%of 20,000 sur- plus at acquis. 18,000 Surplus: 90% of 20,000 in- crease 18,OOOS $200,000 $140,000 $108,000 $232,000 Deduction from goodwill $3,000; minority interest $14,000; surplus $18,000-$15,000, or $3,000. 176 CaseKK CONSOLIDATED STATEMENTS Co.B Assets Co. A Investment in Stock of Co. B (90%) Cost $105,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000. . Deduction from goodwill Sundry Net Assets 80,000 $112,000 Deficit Co. A 15,000 Elim. C. B. S. $90,000 18,000 $3,000*G 192,000 15,0008 $200,000 $112,000 $108,000 $204,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. B 12,000 Minority: 10% of $12,000 pres- ent surplus 1.200M Elim.H.C.:90% of 20,000 sur- plus at acquis. 18,000 Surplus: 90% of 8,000 de- crease 7,200*5 $200,000 $112,000 $108,000 $204,000 Deduction from goodwill $3,000; minority interest $11,200; deficit $15,000 $7,200 - $22,200. Case LL Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $105,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Surplus: 90% of 20,000.. Deduction from goodwill Sundry Net Assets 80,000 $92,000 Deficit: Co. A 15,000 Co.B 8,000 Minority: 10% of $8,000 pres- ent deficit Elim. H. C.: 90% of 20,000 sur- plus at acquis. Surplus: 90% of 28,000 de- crease Elim. C. B. S. $90,000 18,000 18,000* $3,000*G 172,000 15.000S 800M 25,200 S $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% $200,000 $100,000 $90,000 $210,000 Deduction from goodwill $3,000; minority interest $9,200; deficit $40,200. $90,000 $200,000 10.000M APPENDIX B 177 Case M Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $85,000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 10,000.. 9,000* Goodwill $4,OOOG Sundry Net Assets.., 130,000 $90,000 220,000 Deficit Co. B 10,000 Eliminate holding company's 90% 9,000 Minority interest 10% 1,OOOM $215,000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. A 15,000 15,000 S $215,000 $100,000 $90,000 $225,000 Goodwill $4,000; minority interest $9,000; surplus $15,000. CaseN Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $92,200 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 2,000.. 1,800* Goodwill $4,OOOG Sundry Net Assets 130,000 $98,000 228,000 Deficit Co. B 2,000 Eliminate holding company's 90% 1,800 Minority interest 10% 200M $222,200 $100,000 $90,000 $232,200 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% lO.OOOM Surplus Co. A 22,200 22,2008 $222,200 $100,000 $90,000 $232,200 Goodwill $4,000; minority interest $9,800; surplus $22,200. 178 CONSOLIDATED STATEMENTS CaseO Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%). . . $104,800 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 12,000.. 10,800 Goodwill $4,OOOG Sundry Net Assets 130,000 $112,000 242,000 $234,800 $112,000 $100,800 $246,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 34,800 34,8008 Co. B 12,000 Eliminate holding company's 90% 10,800 Minority interest 10% 1,200M $234,800 $112,000 $100,800 $246,000 Goodwill $4,000; minority interest $11,200; surplus $34,800. CaseP Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $77,800 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 18,000.. 16,200* Goodwill $4,OOOG Sundry Net Assets 130,000 $82,000 212,000 Deficit Co. B 18,000 Eliminate holding company's 90% 16,200 Minority interest 10% 1,800M $207,800 $100,000 $90,000 $217,800 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. A 7,800 7,800 $207,800 $100,000 $90,000 $217,800 Goodwill $4,000; minority interest $8,200; surplus $7,800. APPENDIX B 179 Case MM Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $85,000 Eliminate book value at acquisition: Capital stock : 90% of $100,000 . . $90,000 Deficit: 90% of 10,000.. 9,000* Goodwill $4,OOOG Sundry Net Assets 130,000 $90,000 220,000 Deficit Co. B 10,000 Eliminate holding company's 90% 9,000 Minority interest 10% 1,OOOM $215,000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Elimin ate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. A 15,000 15,0005 $215,000 $100,000 $90,000 $225,000 Goodwill $4,000; minority interest $9,000; surplus $15,000. Case NN Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $85,000 Eliminate book value at acquisition: Capital stock : 90% of $100,000 . . $90,000 Deficit: 90% of 10,000.. 9,000* Goodwill $4,OOOG Sundry Net Assets 130,000 $98,000 228,000 Deficit Co. B 2,000 Minority: 10% of $2,000 present deficit 200M Elim. H. C. 90% of 10,000 deficit at acquis. 9,000 Surplus: 90% of 8,000 gain since acquis 7,200*S $215,000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co.A 15,000 15,0008 $215,000 $100,000 $90,000 $225,000 Goodwill $4,000; minority interest $9,800; surplus $15,000 + $7,200 = $22,200. 180 Case OO CONSOLIDATED STATEMENTS Elim. C. B. S. Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $85,000 - Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Deficit: 90% of 10,000.. Goodwill Sundry Net Assets 130,000 $112,000 $90,000 9,000* $4,OOOG 242,000 $215,000 $112,000 $81.000 $246,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 15,000 15,OOOS Co. B 12,000 Minority: 10% of $12,000 pres- ent surplus 1,200M Elim. H. C. 90% of 10,000 defi- cit at acquis. 9,000* Surplus 90% of 22,000 gain 19,8008 $215,000 $112,000 $81,000 $246,000 Goodwill $4,000; minority interest $11,200; surplus $15,000 + $19,800 = $34,800 Elim. C. B. S. $90,000 9,000* Case PP Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $85,000 Eliminate book value at acquisition: /Qapital stock: 90% of $100,000. . Deficit: 90% of 10,000.. Goodwill Sundry Net Assets 130,000 $82,000 Deficit Co. B 18,000 Minority: 10% of $18,000 pres- ent deficit Elim. H. C. 90% of 10,000 defi- cit at acquis. Surplus 90% of 8,000 loss. $215,000 $100,000 $90,000 $225,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus Co. A 15,000 15,0008 9,000 $4,OOOG 212,000 1.800M 7,2008 $215,000 $100,000 $90,000 $225,000 Goodwill $4,000; minority interest $8,200; surplus $15,000 $7,200 = $7,800. APPENDIX B 181 Case Q t , Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $80.000 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 10,000.. 9,000* Deduction from goodwill $1,000*G Sundry Net Assets 105,000 $90,000 195,000 Deficit: Co. A 15,000 15,OOOS Co. B 10,000 Eliminate holding company's 90% 9,000 Minority interest 10% l.OOOM $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM $200,000 $100,000 $90,000 $210,000 Deduction from goodwill $1,000; minority interest $9,000; deficit $15,000. Case R Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $87,200 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 2,000.. 1,800* Deduction from goodwill $1,000*G Sundry Net Assets 105,000 $98,000 203,000 Deficit: Co. A 7,800 7,800S Co. B 2,000 Eliminate holding company's 90% 1,800 Minority interest 10% 200M $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10.000M $200,000 $100,000 $90,000 $210,000 Deduction from goodwill $1,000; minority interest $9,800; deficit $7,800. 182 CONSOLIDATED STATEMENTS Case S Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%). . . $99,800 Eliminate present book value: Capital stock: 90% of $100,000. . $90,000 Surplus: 90% of 12,000.. 10,800 Deduction from goodwill $1,000*G Sundry Net Assets 105,000 $112,000 217,000 $204,800 $112,000 $100,800 $216,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM Surplus: Co. A 4,800 4,800S Co. B 12,000 Eliminate holding company's 90% 10,800 Minority interest 10% 1.200M $204,800 $112,000 $100,800 $216,000 Deduction from goodwill $1,000; minority interest $11,200; surplus $4,800. Case T Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) . . . $72,800 Eliminate present book value: Capital stock: 90% of 100,000 . . $90,000 Deficit:. 90% of 18,000.. 16,200* Deduction from goodwill $1,000*G Sundry Net Assets 105,000 $82,000 187,000 Deficit: Co. A 22,200 22,2005 Co. B 18,000 Eliminate holding company's 90% 16,200 Minority interest 10% 1,800 M $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% $90,000 Minority interest 10% 10,OOOM $200,000 $100,000 $90,000 $210,000 Deduction from goodwill $1,000; minority interest $8,200; deficit $22,200. APPENDIX B 183 Case QQ Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B (90%) Cost $80,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . $90,000 Deficit: 90% of 10,000.. 9,000* Deduction from goodwill $1,000*G Sundry Net Assets 105,000 $90,000 195,000 Deficit: Co. A 15,000 15,0005 Co. B 10,000 Minority 10% of $10,000 pres- ent deficit 1,000 M Elim. H. C. 90% of 10,000 defi- cit at acquis 9,000 $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% $90,000 $200,000 $10,OOOM $200.000 $100,000 $90,000 $210,000 Deduction from goodwill $1,000; minority interest $9,000; deficit $i5,000. Case RR Assets Co. A Investment in Stock of Co. B (90%) Cost $80,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Deficit: 90% of 10,000.. Deduction from goodwill Co.B Elim. $90,000 9,000* C. B. S. $1,000*G Sundry Net Assets 105,000 $98,000 203,000 Deficit: Co. A 15,000 15,0008 Co. B 2,000 Minority: 10% of $2,000 pres- ent deficit Elim. H. C. 90% of 10,000 defi- o nnn 200 M Surplus 90% of 8,000 gain 7,200 *S $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% $90,000 10.000M $200,000 $100,000 $90,000 $210,000 Deduction from goodwill $1,000; minority interest $9,800; deficit $15,000 - $7,200 $7,800. 184 Case SS CONSOLIDATED STATEMENTS Co. B Elim. C. B. S. Assets Co. A Investment in Stock of Co. B (90%) Cost $80,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Deficit: 90% of 10,000.. Deduction from goodwill Sundry Net Assets 105,000 $112,000 Deficit Co. A 15,000 $90,000 9,000* $1,000*G 217,000 15,0005 $81,000 $231,000 $200,000 $200,000 $112,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% Surplus Co. B 12,000 Minority: 10% of $12,000 pres- ent surplus Elim. H. C. 90% of 10,000 defi- cit at acquis. Surplus 90% of 22,000 gain $200,000 $112,000 $81,000 $231,000 Deduction from goodwill $1,000; minority interest $11,200; surplus $19,800 - $15,000 = $4,800. $90,000 9,000* 10,OOOM 1,200M 19,800 Case TT Assets Co. A Co. B Investment in Stock of Co. B (90%) Cost $80,000 Eliminate book value at acquisition: Capital stock: 90% of $100,000. . Deficit: 90% of 10,000.. Deduction from goodwill Sundry Net Assets 105,000 $82,000 Deficit: Co. A ..;.:.... 15,000 Co. B ' 18,000 Minority: 10% of $18,000 pres- ent deficit Elim. H. C. 90% of 10,000 defi- cit at acquis. Surplus 90% of 8,000 loss^ Elim. C. B. S. $90,000 9,000* 9,000 $1,000*G 187,000 15,OOOS 1,800M 7.200S $200,000 $100,000 $90,000 $210,000 Liabilities Capital Stock: Co. A $200,000 Co. B $100,000 Eliminate holding company's 90% Minority interest 10% $200,000 $100,000" $90.000 $210,000 Deduction from goodwill $1,000; minority interest $8,200; deficit $15,000 + $7,200 = $22,200. $90,000 $200,000 10.000M APPENDIX C SOLUTIONS TO PROBLEMS IN APPENDIX A Solution to problem 1. JOURNAL ENTRIES ON THE BOOKS OF THE HOLDING COMPANY February, 1905 Investment in Stock of Company A $168,750.00 Cash $168,750.00 To record the purchase of three-fourths of the stock of Company A, at book value at December 31, 1904. Capital Stock $150,000 Surplus 75,000 Total $225,000 Three-fourths thereof = $168,750. March, 1905 Investment in Stock of Company B 416,666.67 Cash 416,666.67 To record the purchase of two-thirds of the stock of Company B, at book value at December 31, 1904. Capital Stock $500,000 Surplus 125,000 Total $625,000 Two-thirds thereof = $413,333.33 January, 1906 Investment in Stock of Company A 3,750.00 Income from Investment in Company A 3,750.00 To take up our three-fourths of the net profits of Com- pany A as shown by their profit and loss statement for the year 1905. January, /pod Investment in Stock of Company B 33,333.33 Income from Investment in Company B 33,333.33 To take up our two-thirds of the net profits of Company B as shown by their profit and loss statement for the year 1905. 185 186 CONSOLIDATED STATEMENTS February /.f, 1906 Dividends Receivable Company A $11,250.00 Investment in Stock of Company A $11,250.00 To record declaration of dividend of 10% by Company A Cash 11,250.00 Dividends Receivable Company A 11,250.00 To record receipt of dividend on stock of Company A NOTE. The problem does not indicate any interval between the declaration and payment of the dividend. The above entries are given to indicate how the facts would be recorded if there had been an interval. The following single entry in the case of Company B shows how the facts may be recorded when no time intervenes between the declaration and payment of the dividend. February 14, 1906 Cash $26,666.67 Investment in Stock of Company B $26,666.67 To record reduction of investment by reason of payment by Company B of a dividend of 8%. These entries indicate the proper method of recording earn- ings of and dividends from subsidiaries, as explained in Chapter VII. The holding company should take up as income its share of the profits of the subsidiary, and not the dividends which it receives. In the case of Company A, its share of the earnings was only $3,750, although it received dividends of $11,250. $7,500 of the cash received was therefore a conversion of the investment into cash. If the entire dividend had been treated as income the earnings for the year would have been over- stated, as would also the carrying value of the investment. On the other hand, Company B did not declare dividends equal to its earnings. If the holding company had taken up only its share of the dividends as income, its earnings for the year would have been understated, and the carrying value of the investment in Company B stock would also have been under- stated. It will be noted that the stock of Company A was purchased in February and the stock of Company B was purchased in March. The question arises as to whether any consideration should be given to this fact in the entries for the stock pur- chases and the profits for the year, as well as in the preparation of the consolidated balance sheet. APPENDIX C 187 The entries for the purchase would not be affected, even if it were certain that profits had accrued at the dates of purchase, for the investment accounts should be charged with the price paid regardless of the book value at the date of acquisition. As to the entries for income determined at the end of the year, it must be remembered that the law does not consider corporate profits as accruing from day to day. More- over, seasonal fluctuations usually make it unsafe to assume that profits are made in uniform amounts throughout the year. These facts, together with the added fact that Company C clearly paid nothing for accrued profits, justify the holding company in considering as profits its share of the year's income of the two companies. In preparing the consolidated balance sheet, the book value at the date of the balance sheet will be eliminated from the investment account. Since the balance of the investment account is exactly equal to the book value of the stock held, there will be no goodwill element. It may be contended that the book value of the stock of each company at the date of purchase was actually in excess of the purchase price because of profits earned since the first of the year, and that there was therefore a negative goodwill item involved in the stock purchase. There are three objections to accepting this theory. In the first place, even if the theory were accepted as sound, there is no sure way of determining just how much profit was earned up to the date of purchase and hence no way of ascertain- ing the amount of the negative goodwill. In the second place, if a negative goodwill is to be arrived at in the consolidated working papers, the balance of the invest- ment account must be less than the book value at the date of the balance sheet. To have the balance of the investment account less than book value at the end of 1906, it would be necessary to charge the investment account with only that portion of the year's profit earned by the subsidiary after the holding company acquired the stock. It has already been shown that it is proper for the holding company to take up the entire year's profit. In the third place, assuming for the sake of argument that it would be possible to prorate the year's profits, and that it would be proper to take up only the profits earned after acquisi- tion, the results in this case would be the same so far as the consolidated balance sheet is concerned. There are no goodwill 188 CONSOLIDATED STATEMENTS accounts on the books of the subsidiaries and hence the excess of book value over purchase price arising from profits between January 1 and the dates of acquisition could not be treated as negative goodwill to be offset against goodwill accounts, but would be added to the surplus on the consolidated balance sheet. APPENDIX C 189 Solution to problem 2. X Y Z COMPANY AND SUBSIDIARY CONSOLIDATED BALANCE SHEET WORKING PAPERS January 1, 1910 Assets XYZCo. PQ Co. 1. Co. Elim. C. B. S. Real Estate $50,000 $25,000 $75,000 Building, Plant and Equipment 75,000 45,000 120,000 Goodwill 25,000 25,OOOG Investment in P Q Co. (100%) Cost. . . 150,000 Eliminate book value at acquisition: Capital stock $100,000 Surplus 25,000 Goodwill 25,000 G Inventories 80,000 20,000 100,000 Accounts Receivable 70,000 85,000 15,000 140,000 $450,000 $175,000 $140,000 $485,000 Liabilities Accounts Payable $50,000 $50,000 $15,000 $85,000 Loans 50,000 50,000 Capital Stock: XYZCompany 250,000 250,000 P Q Company 100,000 Eliminate holding company's 100% 100,000 Surplus: X Y Z Company 100,000 lOO.OOOS P Q Company 25,000 Eliminate holding company's 100% at acquisition 25,000 $450,000 $175,000 $140,000 $485,000 190 CONSOLIDATED STATEMENTS S CO 8 -Q *-> 2 1-5 O 4J O I *3 o fc *"^ 3 3 u I cr W o O 192 CONSOLIDATED STATEMENTS I CO W i i <* to CO p CO S2 c ' 'I 1. O p Eliminate holding company's 100%. . noanv C.. , Eliminate holding company's 100%. . . January 1, 1917: (Date of acquisitio noanv A.. > > CT . O C ,liminate holding company's 100%. . . noanv C. . . -liminate holding company's 100%. . . o Tune 30... Liabilities Q. c3 u APPENDIX C 193 COMPANY A AND SUBSIDIARIES B AND C CONSOLIDATED BALANCE SHEET June 30, 1917 Assets Liabilities Property and Goodwill $2,730,000 Capital Stock $2,250,000 Current Assets 940,000 Capital Surplus 230,000 Surplus 790,000 Current Liabilities 400,000 $3,670,000 $3,670,000 The $230,000 excess of book value of Company C's stock over the purchase price is shown on the balance sheet as capital surplus. Company C has no goodwill account, and the value of its property at January 1, the date of acquisition, was established by appraisal; moreover, C's profits for the half year were four per cent of its capital stock, or on the basis of eight per cent per annum. It is difficult to see how this advan- tageous purchase lessens the value of the goodwill on the books of A or B, or the goodwill arising from A's purchase of B's stock. APPENDIX C 195 Solution to problem 4. (A) Effect on Balance Sheet of Company B, the Subsidiary. BALANCE SHEET OF COMPANY B (before paying dividend) Cash* $ 25,000 Other Net Assets 125,000 Capital Stock $100,000 Surplus 50,000 $150,000 $150,000 Cash assumed to be on hand because used for dividend. BALANCE SHEET OF COMPANY B (after paying dividend) Other Net Assets $125,000 Capital Stock $100,000 Surplus 25,000 $125,000 $125,000 The dividend causes a reduction of $25,000 in the cash and the surplus. (B) Effect on Balance Sheet of Company A, the Holding Company. The dividend would increase Company A's cash $24,500. If Company A treated the dividend as a reduction of the investment account, the balance would be reduced from $196,000 to $171,500. If the dividend was treated as income, the investment account would remain unchanged and the surplus would be increased $24,500. This would be misleading because it would make the dividend appear to be an earning of Company A, whereas in reality it was merely a conversion of part of its investment in the subsidiary into cash. BALANCE SHEET OF COMPANY A (before dividend) (C) Effect on the Consolidated Balance Sheet. CONSOLIDATED WORKING PAPERS (before dividend) Assets Co. A Investment in Stock of Co. B $196,000 Eliminate book value: Capital stock: 98% of $100,000. . Surplus: 98% of 50,000.. Goodwill Cash Other Net Assets . . Liabilities Capital Stock Eliminate Co. A's 98%. Minority 2%. Surplus Eliminate Co. A's 98%. Minority 2%. Co. B $25,000 125,000 100,000 50,000 Elim. $98,000 49,000 98,000 49,000 C. B. S. $49,000 G 25,000 125,000 2,OOOM 1,OOOM 196 CONSOLIDATED STATEMENTS CONSOLIDATED WORKING PAPERS (after dividend) (On assumption that holding company credited dividend to investment) Assets Co. A Co. B Elim. C. B. S. Investment in Stock of Co. B $171,500 Eliminate present book value: Capital stock: 98% of $100,000. . $98,000 Surplus: 98% of 25,000.. 24,500 Goodwill Cash 24,500 Other Net Assets $125,000 Liabilities Capital Stock 100,000 Surplus 25,000 Elim. Co. A's 98% of $25,000 pres- ent surplus 24,500 Minority 2% of 25,000 pres- ent surplus $49,000 24,500 125,000 98,000 2,OOOM 500M CONSOLIDATED WORKING PAPERS (after dividend) (On assumption that holding company credited the dividends to surplus) Assets Co. A Investment in Stock of Co. B (98%) Cost $196,000 Eliminate book value at acquisition: Capital stock: 98% of $100,000. . Surplus: 98% of 50,000.. Goodwill Cash 24,500 Other Net Assets Liabilities Capital Stock Eliminate holding company's 98% . Minority 2%. Surplus: Co. A $24,500 Co. B Minority: 2% of $25,000 pres- ent surplus Elim.Co.A's 98% of 50,000 sur- plus at acquis Co. B Elim. C. B. S. $98,000 49,000 $125,000 100,000 25,000 98,000 49,000 Surplus crease. 98% of 25,000 de- $49,000 24,500 125,000 2.000M 24,500 S 500M 24,500*S The consolidated balance sheet will be the same no matter whether the holding company credits the dividend to the invest- ment account or to the surplus account. It will differ from the consolidated balance sheet prior to the dividend in two par- ticulars: the cash and the minority interest will each be $500 smaller than before because of the cash paid to the outside stockholders. APPENDIX C 197 Solution to problem 5. Since the holding company is carry- ing its investments at cost, the eliminations will be based on the book value of the subsidiaries' stock at the dates of acquisi- tion. Therefore it is necessary to determine the surplus of each company at the date when the holding company acquired its stock. Company B. The date of acquisition was January 1, 1910, and B's surplus at that date was $100,000, as shown in its balance sheet. Company C. (Date of acquisition July 1, 1908.) Deficit, January 1, 1906 $250,000 Add Profits from January 1, 1906, to July 1, 1908: Profits from January 1, 1906, to Dec. 31, 191? = $650,000 These profits are assumed to have been made in uniform amounts monthly. Then if $650,000 = Profits for 8 years 81,250 = Profits for 1 year From January 1, 1906, to July 1, 1908, is 2 l /a years Then $81,250 x 2# = 203,125 Deficit at July 1, 1908 $46,875 Company D. (Date of acquisition June 30, 1912.) Surplus, January 1, 1911 $300,000 Add Profits for 1911 600,000 Total 900,000 Less Dividends declared in 1911 900,000 Balance at January 1, 1912 Loss, January 1, 1912, to June 30, 1912 50,000 Deficit, June 30, 1912 , $50,000 198 CONSOLIDATED STATEMENTS CO O 8 o O 88888 So o IO O I t N CS 88 5 ~ri * & 8 CO C-i H i i C9 o o Q X $ m P H to w Q 55 m S 5 8 2 i a i s N "I 8 00 O B O.2 S^8 o * iJ-g^ 8 S X O I w iit^ ^"ijQO coJ=S| ;co^i| ooJ3wf g S TS S - g fi -3 i - c^^i- ^ c-s'B.'fe w s-siS'fe *- g-S'.S'C llf .t; S c.S S- 5 o.<-c < g-a fe-g '- - 1) T3 S Ch SJ'35ll|<5<5|l|3a'|* < g sw osw osw Oj-sll S & I Ifi32 APPENDIX C 199 8 8 888 8888 CO R 5 888 8 8 O O dl 8 8 S i" 8 o 10 i^ 00 L~^. 10 "> i es fc^ o o t- ro ^ M ., t* w 60 j IO C > o> T3 c -o c. '-3 2i *j "O w "3 "O J{ O JC C -C C J= C^ S < 2'^o s >,Q sV:s J- >> >> C -C s BT . a 6 .*i ^ > ?.i'K-3 c c.s g c.s g g.a g.rs csnc2Ma2 C C . '"^ 2jlSsji32jiS;s| s .5 uu u u o. ss >~ W ^3 U OO 200 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARIES CONSOLIDATED BALANCE SHEET December 31, 1913 Assets Liabilities Goodwill $ 947,812.50 Capital Stock $2,000,000.00 Other Sundry Assets 1,400,000.00 Surplus 1,387,812.50 Fixed Assets 1 ,700,000 . 00 Minority Interest : Current Assets 1,250,000 .00 Co. B (25%) $250,000 Deferred Charges 250,000.00 Co. C (30%) 210,000 Co. D (20%) 200,000 660,000.00 Collateral Trust 5% Notes 1,000,000.00 Current Liabilities 500,000.00 $5,547,812.50 $5,547,812.50 APPENDIX C 201 Solution to problem 6. THE BROWN COMPANY AND SUBSIDIARY CONSOLIDATED BALANCE SHEET WORKING PAPERS December 31, 1917 Inter Co. Assets Brown Co. Black Co. Eliminations C. B. S. Real Estate, Buildings and Machinery $200,000 $460,000 $660,000 Patents and Goodwill 350,000 350,000 Investment in Black Co. (1,800 shares, par 100) Cost 270,000 Eliminate book value at acquisition: Capital stock $180,000 Surplus* : 90% of $30,000 27,000 Goodwill 63,000 G Inventory 410,000 130,000 540,000 Bills and Accounts Receivable 320,000 80,000 400,000 Cash 70,000 2,000 72,000 Advances to Black Company 130,000 130,000 $1,750,000 $672,000 $337,000 $2,085,000 * The surplus of the Black Company at March 31, 1917, the date when the Brown Company acquired the stock, was: Surplus at January 1, 1917 $15,000 Earnings to March 31 ( 1 A of $60,000) 15,000 Surplus at date of acquisition 30,00.0 Liabilities Capital Stock: Brown Company $500,000 $500,000 Black Company $200,000 Eliminate holding company's 1,800 shares $180,000 Minority interest 20.000M Bills Payable 405,000 205,000 610,000 Accounts Payable 375,000 62,000 437,000 Advances from Brown Company 130,000 130,000 Surplus: Brown Company 470,000 470,000 S Black Company 75,000 Minority: 10% of $75,000 present surplus 7,500M Elim. H. C.'s 90% of 30,000 surplus at acquisition 27,000 Surplus 90% of 45,000 increase since acquisition . . . 40.500S $1,750,000 $672,000 $337,000 $2,085,000 202 CONSOLIDATED STATEMENTS THE BROWN COMPANY AND SUBSIDIARY CONSOLIDATED BALANCE SHEET December 31, 1917 Assets Fixed Assets: Real Estate, Buildings and Machinery $660,000 Patents and Goodwill 413,000 $1,073,000 Current Assets: Inventory , 540,000 Bills and Accounts Receivable 400,000 Cash 72,000 1,012,000 Liabilities Capital: Capital Stock , 500,000 Surplus 510,500 Minority Interest: 10% Interest in the Black Company Current Liabilities: Bills Payable 610,000 Accounts Payable 437,000 $2,085,000 $1,010,500 27,500 1.047,000 $2,085,000 President , The Brown Company. DEAR SIR: If you desire a certified balance sheet of the Brown Company alone at December 31, 1917, I should be willing to certify to such a statement after auditing your books. In fact, unless I audit the books of the BLACK COMPANY also, the only balance sheet to which I could append an unqualified certificate would be one of the BROWN COMPANY alone, showing your investment in the BLACK COMPANY at cost. Such a balance sheet is not as desirable, however, as a consolidated balance sheet, for two reasons. In the first place, the cost of the stock, $270,000, and the advances, $130,000, represent a total investment of $400,000 in the subsidiary. You virtually own the BLACK COMPANY, and a con- solidated balance sheet showing the assets and liabilities which this investment represents, with the interest of the minority stockholders therein, is a much more comprehensive and satisfactory statement of your financial condition. In the second place, your balance sheet alone does not do you justice. Showing the investment account and the advances would raise a question in the minds of the readers of your balance sheet as to whether the net assets of the BLACK COMPANY are good enough in nature and sufficient in amount to warrant so heavy an investment and such large advances. A consolidated balance sheet taking up the BLACK COMPANY'S assets and liabilities would show clearly that the financial condition of the organization is sound and would allay any doubts. Moreover, if I were to certify to your balance sheet alone, without an audit of the books of the subsidiary to verify their profits, I could show only your own surplus of $470,000; but in a consolidated balance sheet, if the profits of the BLACK COMPANY are correctly stated, I could take up your 90% of the earnings since March 31, when you acquired the stock. This addition of $40,500 would make your surplus in the consolidated balance sheet $510,500. Yours very truly, APPENDIX C 203 Solution to problem 7. Since the holding company is taking up its proportion of subsidiary dividends as income, it is evidently their intention to carry the investment accounts at cost, but they have confused their records so far as the X Y stock is concerned by crediting the investment account with the selling price of the 100 shares sold, so that the balance of the account no longer represents the cost of the 800 shares still held. Therefore the profit on the shares sold must be ascer- tained and the investment account adjusted. Balance of X Y Co. investment account 800 shares $115,000 Add back selling price of 100 " 20,000 Cost of 900 " 135,000 Cost per share 150 Cost of 800 shares still held 120,000 Cost of 100 shares sold 15,000 The investment account should be raised to $120,000, the cost of the 800 shares retained, and Surplus should be credited with the $5,000 profit realized by selling for $20,000 the 100 shares which cost $15,000. This is accomplished by the follow- ing entry: Investment in X Y Co. Stock $5,000 Surplus $5,000 To adjust the investment account to $120,000, the cost of 800 shares still owned, and to take up the $5,000 profit on the sale at 200 of 100 shares which cost 150. Since the P Q Company investment account contains the cost of two purchases, it will be well to divide the balance of the account into two amounts representing the cost of the various purchases, so that the goodwill element may be meas- ured by elimination of book values at the respective dates. The cost of the two purchases is ascertained thus: Balance of P Q Co. investment account cost of 900 shares $82,000 Cost of June 30th purchase at par 100 " 10,000 Cost of first purchase 800 " $72,000 204 CONSOLIDATED STATEMENTS <& c3 I ' ' ' % : : : : : : S 1,' 8e o ' '-% 1 -5 J :nt in X Y Company: (800 linate book value at acquisi aoital stock. . . 55 FT . .~~ S ..-? *j = b >, w c S & ,-r fc 5 n a filfl, ^1^4 J s S < DM o 00 _c *5 n J.1-!5.S-S &II?.u !"! i : g*" 1 rt Q rf #s ^-| 11 si "of-? s a ^^t^i J^ 20,2 c y u _ - > C -2 3 S 2 3 - 2 . & & .S'B. & y * c^.gScS'lJ Accounts... .S= 11 'i '1 I a ** 3 *J i-^ Ow-g 1 S2 W Q S k l-t aa APPENDIX C 205 to o 8 2 I irplus acquisition irplus acquisition lolding company's 80%. . . terest 20%.... iclding company's 90% terest 10%... 20% of $65,000 present si . 80% of 60,000 surplus at s80%of $5,000 increase. 10% of $20,000 present si 10,750 surplus at us r 2* c-c * .5 * 2 ^ s-s $ ? c U .2 &M & g 3 ^. X O,9'3 O O'e O/f* 2 U ^ .5 .S O.S .S ^ ^oQ^wiiawii s 2 888 g oq craTo" ra * * U 1 ca n o w s Y 1 ui u ^ % C 23 CO fll 2 f G *j c3 1 ^ r o 2 .- -C M s bp B . 01 a C '-5 s , 22] ^ 5 * .2 pJ4 O CO I ..." E ** 5 O (0 o i ^^ u- C * o * o *> 5 o 3 ! D a! 'S > S J5 2 ^ ^ S .2 '" w .ti o o C S ** C* ^^ ^ ^1 | W ! *-5 * O 2 t3 o n OhS C i is i"s w S.^-0 ^ c^ ,5 -l rH 8882 8 CO 8 :x 1 c *." 2 c >, ex w e C CX rt III y ompa ulati Bonds tock: Manufacturing Manufacturing C minate holding co n-Smith Compan minate holding c Stock 7% Cum tgage 6% Gold able able y B S C mon AB Paris El Bro El erred t Mo es Pa Pre Firs Not Acc Res > -33 <= >>rz e *t! ex n o l|ii! I i |J 2'il| o 2 u ex c .5 o a c 'C 1^82 a|.s.?-s 211j CQ-n W ffiS O PQ -C Surplu A P 210 CONSOLIDATED STATEMENTS 88 tM fO S8 o W S3 03 Q 1 o> 'C Z 3 O c o 8 * S APPENDIX C 211 ^ 8 1 S R ^ J % . 'C C c <3 13 o 1 i 1 i i i i 1 1 ^ ? s c f " s i * g ^ N >- i a 1 c * . ^_ i K i T-l to -c n) c S R] O. E .S o CO 5 O 01 5 a .. 1 ^S *c .. "C >5 HD c a co 3 /^ "^ 3 _ 'Z c y 3 ."* 3 a 3 1 r O 3 b | "^ ^ |1 w u .S 1 1 j Su O 4 o /h -o P- S Q. Fixed Liabilities: First Morton ffp Current Liabilities: Notes Pavahle. 2 I -- i C : 1 t t S " t- 1 Inter-Company Cun Due to the A B Total All I.iahilities 5 -C S "C S4 f = ^^ s^ D, O c -1 2 jj I ! I & CO to "t3 ,g H *2 o ** i 3 frjl^ g e c sp*o&2 C rr !-! **> .5 c t: o s *5 B|- s *!' |c3-| w bfl B 5.1 " o. S 2 & W R| S, J E > ^^5 o S = U -C O M_^ *" S c "S jtl'S >> n 5 c S^-sl S 1 > c '-3 o-s U a, 1 ^ " SU-3 c -'i S.2i< S 4-> u, ^*-i r- 5^.2 <5 < i.'2-5 *> c S ^-^ 5 - ^ w J 3 J5 U. S "T, o r > 4> 0> ** m S I S I E < H . M 2i O 13 C ' j= o *- c-^ ill ^ en 8 5 ^j;' I'Si' 'f.S'B g 4> i5 3 , > -S ! -Si- - : APPENDIX C 213 o CO I 10 8 lO O O\ 10 CM i-l a < Q < 8 z cq o O O O u~, tS iO Ov C CO 1 * t I ^ i 2 u-> C O 10 Pi PS w ffi H O -H A Solution ~'~i, Q. Assets nvestments in Stock of L W and Steel Blade (100%) 4,000 shares of L W Co. and \ 4,000 shares of Steel Blade Co. J 9 fmn cKarps nf Sfppl Rlarlp Co ! o o *^ o '- J ^ cs : ^ 1 V> SCQ ; P2 ^~ ;*S .. "^"^ ^c3 ^ 1 j^ C 3 ' J -.- j 4-1 ll ( i* * w . . 3 ft " "> "S rt 3 O. ui V 1 <^1 H -p c M S < j ^ w*l f """ ^4" J >'2 S"5 ^.tT S d vances idministration Expense. . , W Co. Current Account, teel Blade Company Ad ?ash. . Organization Expense. . .. 'roperties and Plant loodwill. . nventories .eceivables. . 214 CONSOLIDATED STATEMENTS CO cj E 8 58 58 g * 1 co ^, W J; i i 9 p^ K S ' s a I s * OO CL, < Q < Z o < S 28 Ov CH S u O o 3 3 s ^ ^" < 2 i 6 s S r* o co t-> O a b :i ^3 -H * o U 0. U : .-3 a t ^ ^ : o !5 ' i cu oo OO i ^ 2 '3g .52 i i CJ J3 XI XI U o u-T 3 _^ CT'C {^ O 4-. C ment c< > _c % 2" c CO CO *-T 'J CO , {?> u. = frtl w 'w 4-> l-t Ji S K F S-S S SI E cf If Jc g CQ i5j: 8 *" rZ G Ot S ss S a S"H. r" *-" . 'cooo feOJJJo*^ " 2^,2 O gO u O dnU VT S W 3 < Q oo co co K W APPENDIX C 215 THE SAFETY RAZOR COMPANY AND ITS SUBSIDIARIES, THE L W COMPANY AND THE STEEL BLADE COMPANY CONSOLIDATED BALANCE SHEET December 31, 1912 Assets Fixed Assets: Goodwill $1,630,000 Properties and Plant 650,000 $2,280,000 Current Assets: Inventories 450,000 Receivables 300,000 Cash 370,000 1,120,000 Deferred Charges: Organization Expense 75,000 $3,475,000 Liabilities Capital: Preferred Stock 1,500,000 Common Stock 1,500,000 Surplus 240,000 3,240,000 Current Liabilities: Accounts Payable 235,000 $3,475,000 Some portion of the organization expense should perhaps be written off, but as this is a matter which lies within the dis- cretion of the directors of the Safety Razor Company, and as they have apparently taken no action in regard to it, the entire $75,000 is carried as a deferred charge. In solving this problem it is necessary to make an assumption as to the date when the L W Company made its entry adding $100,000 to the carrying value of its investment in the Steel Blade Company stock and to its surplus. This is imperative in order to determine the true book value of the L W Company at the first of April when the Safety Razor Company acquired the L W Company stock. The problem states that the L W Company had a surplus of $605,000 at January 1, 1912. If the $100,000 entry was made prior to that date, the true surplus at January 1 was $505,000, to which would be added the $30,000 216 CONSOLIDATED STATEMENTS profits of the first three months to determine the surplus at April 1. The working papers are prepared on the assumption that the write-up was made prior to January 1, 1912. On the other hand, if the entry was made in 1912, the true surplus of the L W Company at January 1 was $605,000 and the surplus at April 1 was $635,000, making the goodwill under this assump- tion $1,530,000, instead of $1,630,000. This problem is complicated by the fact that the L W Com- pany is a subsidiary so far as its relations with the Safety Razor Company are concerned, and a holding company so far as its relations with the Steel Blade Company are concerned. Con- sequently there is an investment account to eliminate from the Safety Razor Company's balance sheet and also an investment account to eliminate from the L W Company's balance sheet. After writing off the $100,000 arbitrary addition to the L W Company's investment in Steel Blade stock, both of these investment accounts are carried at cost. Hence eliminations are made by deducting the book value, at the date of acquisi- tion, of all stock held within the organization. Since the consolidated balance sheet is prepared from the viewpoint of the Safety Razor Company as the parent corporation, the date of its stock purchase governs and not the date when the L W Company acquired the Steel Blade stock. In other words, on April 1 the Safety Razor Company obtained control of all of the stock of both the L W Company and the Steel Blade Company; the total inter-company stock-holdings are repre- sented by two accounts of $2,500,000 and $300,000 (after writ- ing off $100,000). Hence the goodwill is computed as follows: Investment Accounts (at cost) : On Safety Razor Company's books $2,500,000 On L W Company's books 300,000 $2,800,000 Eliminate book value at date of acquisition by Safety Razor Co.: Capital Stock: L W Company 400,000 Steel Blade Company 600,000 Surplus: L W Company " 535,000 Steel Blade Company 65,000* 1,470,000 Goodwill... $1,330,000 APPENDIX C 217 CO O O O >0 H ^: 13 |s B *-> .2. < ij I Ql-H g t g t (4-1 w goo ^ 4J O "> - c S 'C J2 *u 'S 3 & Sj 2 t; a > c co s & " J J 000 o o o Tt* ^O ^O u *< fi o "o. 2 2 g -. D..S .5 U APPENDIX C 219 COMMENTS Adjustment (A) is a debit to the Jones Investment Com- pany's Surplus and a credit to its account of investment in Stock of Company A, taking out of surplus the $100,000 write- up of the investment, and reducing the investment account to its cost to permit the determination of goodwill by eliminat- ing book value at acquisition. Adjustment (B) is a debit to Deficit and a credit to Plant of Company B, to record the fire loss. The reserve for inter-company profit in inventories is necessi- tated by the fact that the B Company sold goods to the A Com- pany during 1916, on which they made a profit of $10,000, and these goods remain in the A Company's inventory. 75 per cent of the $10,000 is an unrealized inter-company profit. The reserve for inter-company profit on construction is necessitated by the fact that Company A made a profit of $15,000 by constructing a part of the plant of Company C. As the holding company owns 60 per cent of the stock of Com- pany A, 60 percent of the $15,000 is an unrealized inter-com- pany profit. THE JONES INVESTMENT COMPANY AND SUBSIDIARY COMPANIES-CO. A, CO. B AND CO. C CONSOLIDATED BALANCE SHEET June 30, 1916 Assets Fixed Assets: Goodwill $177,000 Plant $1,955,000 Less Reserve for Inter-Co. Profit 9,000 1,946,000 $2,123,000 Current Assets: Inventories 350,000 Less Reserve for Inter-Co. Profit 7,500 342,500 Accounts Receivable 250,000 Cash 210,000 Liabilities Capital: Capital Stock $2,000,000 Surplus 116,750 Minority Interests: Company A 40% 520,000 Company B 25% 178,750 Company C 20% 110,000 802,500 $2,925,500 $2,116,750 808,750 $2,925,500" 220 CONSOLIDATED STATEMENTS g CO w CO ca 1 1 8 W I W K to 5 5! * ""* ^ T cj ! ! I >>>>.* o c ^ s M < O 81 o o a APPENDIX C 221 S 8 t o S 5 8 8 S g % o 10 cs o *o t-^ f. <-7 o* cf ff 00" tN S rH >o cs 5> ^ o o o o b 5c Se 5e 3C o *J g s? O ro T 1 >o II 1 m c U u 8 g g "2 .2 8 % 8 PO .S 01 .0 | M O jj | <^ c3 > 6 U I M , S -5 rH W 0" 2 to ex** E <*. ^" t -" R Loss: Six Months to June Dividends: Jones Investment Co. . A Company B Company en D 12 V Q "(3 u 1-1 ^ B { j duct Reserves for Inter-Coi In Inventories 75% o On Construction 60% o rnlus ner consolidated bal e2 "<3 03 Q a cc 222 CONSOLIDATED STATEMENTS THE JONES INVESTMENT COMPANY AND SUBSIDIARIES CONSOLIDATED SURPLUS STATEMENT July 1, 1915 June 30, 1916 Surplus, July 1, 1915 $100,000 Add Profits for the Year: For Six Months Ending December 31, 1915 $162,500 For Six Months Ending June 30, 1916 88,250 Total 250,750 Less Unrealized Inter-Company Profit: In Inventories $7,500 On Construction 9,000 16,500 234,250 Total 334,250 Deduct Dividends Paid 217,500 Surplus, June 30, 1916 $116,750 APPENDIX C 223 Solution to problem u. Since there are no minority inter- ests in the subsidiaries, it is not necessary to determine the profits of the individual companies; therefore this feature of the working papers is omitted. As the beginning of the period is also the date of acquisition, the so-called inter-company profit in the inventories at that date is not true inter-company profit, and no adjustment is made for it. 224 CONSOLIDATED STATEMENTS O g oo o o ~&^ ^ -* ** t*j J % to 35 o d 3S2 O >O IO ID >O oq Cj ^i5> ^> o O IOOOOOOOIO">QOO 1 O xj ^" *O ^5 ^O ^O >O ON OO ^^ OO O\ ^5 '"'^ cs -< ^o ^* ^ < o\ oo o : |o : d H . ,-T TH ' *jl & . c c . ; 3 Q* D ft 1 T-l 8 i 3 cr Q d es o\ counts Receivable. . . . )tes Receivable . . . ventory, Raw Material, Ja rchases, Raw Material. . . bor. . anufacturing Expense ling Expense ministrative Expenses ventory, Goods in Process, ventory, Finished Goods, . int and Equipment trestment in Stock of Co. ] m a 8 c fe .S'S (3 I H J| ^4 4-> OO ^c 8 4-> rt .*; 5 c 6 (j 5 Surplus at January 1, Goodwill. . . APPENDIX C 225 s * I * ass 8 8 O 1C if) *H oO O es H oo rt 2 PL, 8 "3 v^ I 2 5 s s n to O I US 5 " 2 2 *-* w O OH Op." ^ I 9 8 4 5 a !S -j- P. ' ^ 2 8 8 o (2 226 CONSOLIDATED STATEMENTS w Q S3 fa I cu 8 es o ! g W 1 2 ^5 d s APPENDIX C (X 2 227 S 8 "i S IT) &. c & t * >> C ti B, CO V . n T3 o o O V !H ? *-. 3 g g co rt C -a 4> w 4, t. ^ i M B "-> O p^ PQ 228 CONSOLIDATED STATEMENTS COMPANY A AND SUBSIDIARIES B AND C Exhibit A CONSOLIDATED STATEMENT OF COST OF GOODS MANUFACTURED AND SOLD For the Year Ending December 31, 1920 Goods in Process, January 1, 1920 $225,000 Materials: Inventory, January 1, 1920 $415,000 Add Purchases 985,000 Total $1,400,000 Less Inventory, Dec. 31, 1920 615,000 $785,000 Labor 1,140,000 Manufacturing Expense: Miscellaneous 585,000 Depreciation of Plant and Equipment 102,500 687,500 2,612,500 Total Manufacturing Cost 2,837,500 Deduct Inventory, Goods in Process, December 31, 1920 '. . . 249,000 Cost of Goods Manufactured 2,588,500 Add Inventory of Finished Goods, January 1, 1920 235,000 Total 2,823,500 Less Inventory of Finished Goods, December 31, 1920 376,000 Cost of Goods Sold $2,447,500 in in ii COMPANY A AND SUBSIDIARIES B AND C Exhibits CONSOLIDATED PROFIT AND Loss STATEMENT For the Year Ending December 31, 1920 Sales $3,125,000 Less Cost of Goods Sold (Exhibit A) 2,447,500 Gross Profit on Sales 677,500 Less Selling Expenses 200,000 Net Profit on Sales 477,500 Less Administrative Expenses 105,000 Net Profit on Operations 372,500 Less Bond Interest: Interest Accrued $12,500 Less Premium Amortized 500 12,000 Net Profit for the Year $360,500 COMPANY A AND SUBSIDIARIES B AND C Exhibit C CONSOLIDATED SURPLUS STATEMENT Year Ending December 31, 1920 Surplus, January 1, 1920 $210,000 Add Profits for 1920 (Exhibit B) 360,500 Total 570,500 Less Dividends Paid 150,000 Surplus, December 31, 1920 $420,500 229 COMPANY A AND SUBSIDIARIES B AND C Exhibit D CONSOLIDATED BALANCE SHEET December 31, 1920 Assets Current Assets: Cash $185,000 Accounts Receivable 905,000 Notes Receivable 300,000 Inventories: Raw Material $665,000 Goods in Process 260,000 Finished Goods 385,000 Total 1,310,000 Less Inter-Company Profit 70,000 1,240,000 $2,630,000 Fixed Assets: Plant and Equipment 2,050,000 Less Reserve for Depreciation 375,000 1,675,000 Goodwill 242,500 1,917,500 $4,547,500 Liabilities Current Liabilities: Notes Payable 250,000 Accounts Payable 360,000 Accrued Bond Interest 12,500 622,500 Fixed Liabilities: Bonds Payable 500,000 Deferred Credits: Premium on Bonds . 4,500 Capital: Capital Stock 3,000,000 Surplus (Exhibit C)..i 420,500 3,420,500 $4,547,500 *v Library Graduate School of Business Administration University of California Los Angeles 24, California UCLA-GSM Library HF 5686 C7F4 'minimi Illlf HI (HI L 005 019 890 2 UC SOUTHERN REGIONAL LIBRARY FACILITY A 001 260 960 8 SO' '7HERN EfRANCM, UNIVERSITY OF, CALIFORNIA LIBRARY, COS ANGELES. CALIF.