These lectures cover allocating the difference between the implied fair value and the book value of the subsidiary net assets over depreciable assets.
Allocating the Difference Between Implied and Book Value
Consolidate Financial Statement Allocating the Difference
Consolidate Financial Statement Allocating the Difference p 2
Consolidate Financial Statement Allocating the Difference P 3
Push Down Accounting Advancing Accounting
This difference is used first to adjust the individual assets and liabilities to their fair values on the date of acquisition. If implied value exceeds the aggregate fair values of identifiable net assets, the residual amount will be positive (a debit balance), providing evidence of an unspecified intangible to be accounted for as goodwill.
When the value implied by the acquisition price is below the aggregate fair value of identifiable net assets, the residual amount will be negative (a credit balance), designating a bargain purchase. FASB’s current position is that no assets are reduced below fair value; instead, the credit balance should be shown as an ordinary gain in the year of acquisition.
Goodwill is measured as the excess of the value implied by the acquisition price over the fair value of the subsidiary’s assets less liabilities.
Under the economic entity concept adopted by FASB, the consolidated net assets are written up by the entire difference between the implied fair value and the book value of the subsidiary company’s net assets. The increase in the portion owned by the noncontrolling interest is reflected in an increase in the equity of the noncontrolling interest.
The most important difference between the cost and equity methods pertains to the period in which the parent recognizes subsidiary income on its books. If the cost method is in use, the parent recognizes its share of subsidiary income only when dividends are declared by the subsidiary. If the partial equity method is in use, the investor recognizes its share of the subsidiary’s income when reported by the subsidiary. A debit to cash and a credit to the investment account record the receipt of dividends under the partial equity method. The complete equity method differs from the partial equity method in that the share of subsidiary income recognized by the parent may be adjusted from the amount reported by the subsidiary, e.g., for excess depreciation implied by the difference between market and book values of the underlying assets acquired.
Under the cost method, dividends declared by the subsidiary are eliminated against dividend in- come recorded by the parent. The investment account is eliminated against the equity accounts of the subsidiary, with the difference between implied and book value recorded in a separate account. The difference is then allocated to adjust underlying assets and/or liabilities, and to record goodwill in some cases. Additional entries are made to record excess depreciation on assets written up (or to decrease depreciation if written down). Under the equity method, the dividends declared by the subsidiary are eliminated against the investment account, as is the equity in subsidiary income. The investment account is eliminated in the same way as under the cost method. In subsequent years, the cost method requires an initial entry to establish reciprocity (convert to equity). This entry (cost method only) debits the investment account and credits retained earn- ings of the parent (for the change in retained earnings of the subsidiary from acquisition to beginning of current year multi- plied by the parent’s ownership percentage). Only under the complete equity method does the parent’s beginning retained earnings exactly match the amount reported as consolidated retained earnings at the end of the previous year.
Notes payable, long- term debt, and other obligations of an acquired company should be valued for consolidation purposes at their fair values. Quoted market prices, if available, are the best evidence of the fair value of the debt. If quoted market prices are unavailable, then management’s best estimate of the fair value may be based on fair values of debt with similar characteristics or on valuation techniques such as the present value of estimated future cash flows.
In this case, the allocation of the parent company’s share of the difference between the fair value and the book value of the asset will result in a reduction of the asset. If the asset is depreciable, this difference will be amortized over the life of the asset as a reduction of depreciation expense.
When the assets are recorded net, no accumulated depreciation account is used initially. When they are recorded gross, an accumulated depreciation account is needed. To allocate the difference assigned to depreciable assets between the asset account (gross) and the accumulated depreciation account, we must know the replacement cost new and the sound (used) value of the asset as shown in the appraisal report. Alternatively, these amounts may be inferred.
Push down accounting is the establishment of a new accounting and reporting basis for a subsidiary company in its separate financial statements based on the purchase price paid by the parent company to acquire a controlling interest in the outstanding voting stock of the subsidiary company. This accounting method is required for the subsidiary in some instances, usually when the ownership level is over 95% for publicly held companies