In January 2005, Pinch Corporation, a chain of discount stores, began a program of business combinations with its principal suppliers. On May 31, 2005, the close of its fiscal year, Pinch paid $8,500,000 cash and issued 100,000 shares of its common stock (current fair value $20 a share) for all 10,000 outstanding shares of common stock of Silver Company. Silver was a furniture manufacturer whose products were sold in Pinch’s stores. Total n stockholders’ equity of Silver on May 31, 2005, was $9,000,000. Out-of-pocket costs attributable to the business combination itself (as opposed to the SEC registration statement for the 100,000 shares of Pinch’s common stock) paid by Pinch on May 31, 2005, totaled $100,000.In the consolidated balance sheet of Pinch Corporation and subsidiary on May 31,2005, the $1,600,000 [$8,500,000 + (100,000 x $20) + $100,000 - $9,000,000] difference between the parent company’s cost and the carrying amounts of the subsidiary’s identifiable net assets was allocated in accordance with purchase accounting as follows: Inventories $ 250,000Plant assets 850,000Patents 300,000Goodwill 200,000Total excess of cost over carrying amounts of subsidiary’s net assets $1,600,000 Under terms of the indenture for a $1,000,000 bond liability of Silver, Pinch was obligated to maintain Silver as a separate corporation and to issue a separate balance sheet for Silver each May 31. Pinch’s controller contends that Silver’s balance sheet on May 31, 2005, should value net assets at $10,600,000 - their cost to Pinch. Silver’s controller disputes this valuation, claiming that generally accepted accounting principles require issuance of a historical cost balance sheet for Silver on May 31, 2005.

Instructions

a. Present arguments supporting the Pinch controller’s position.

b. Present arguments supporting the Silver controller’s position.

c. Which position do you prefer? Explain.