Question
On January 1, 2017, Pinnacle Corporation exchanged $3,527,500 cash for 100 percent of the outstanding voting stock of Strata Corporation. On the acquisition date, Strata
On January 1, 2017, Pinnacle Corporation exchanged $3,527,500 cash for 100 percent of the outstanding voting stock of Strata Corporation. On the acquisition date, Strata had the following balance sheet:
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Cash | $ | 284,000 |
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| Accounts payable | $ | 383,000 |
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Accounts receivable |
| 311,000 |
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| Long-term debt |
| 3,060,000 |
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Inventory |
| 443,000 |
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| Common stock |
| 1,500,000 |
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Buildings (net) |
| 1,920,000 |
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| Retained earnings |
| 1,205,000 |
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Licensing agreements |
| 3,190,000 |
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| $ | 6,148,000 |
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| $ | 6,148,000 |
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Pinnacle prepared the following fair-value allocation:
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Fair value of Strata (consideration transferred) |
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| $ | 3,527,500 |
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Carrying amount acquired |
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| 2,705,000 |
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Excess fair value |
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| $ | 822,500 |
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to buildings (undervalued) | $ | 480,000 |
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to licensing agreements (overvalued) |
| (110,000 | ) |
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| 370,000 |
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to goodwill (indefinite life) |
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| $ | 452,500 |
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At the acquisition date, Stratas buildings had a 10-year remaining life and its licensing agreements were due to expire in 5 years. At December 31, 2018, Stratas accounts payable included an $86,600 current liability owed to Pinnacle. Strata Corporation continues its separate legal existence as a wholly owned subsidiary of Pinnacle with independent accounting records. Pinnacle employs the initial value method in its internal accounting for its investment in Strata.
The separate financial statements for the two companies for the year ending December 31, 2018, follow. Credit balances are indicated by parentheses.
| Pinnacle |
| Strata | ||||
Sales | $ | (7,683,000 | ) |
| $ | (3,328,000 | ) |
Cost of goods sold |
| 4,940,000 |
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| 1,835,000 |
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Interest expense |
| 338,000 |
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| 207,000 |
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Depreciation expense |
| 630,000 |
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| 448,000 |
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Amortization expense |
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| 638,000 |
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Dividend income |
| (35,000 | ) |
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Net income | $ | (1,810,000 | ) |
| $ | (200,000 | ) |
Retained earnings 1/1/18 | $ | (5,160,000 | ) |
| $ | (1,560,000 | ) |
Net income |
| (1,810,000 | ) |
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| (200,000 | ) |
Dividends declared |
| 600,000 |
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| 35,000 |
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Retained Earnings 12/31/18 | $ | (6,370,000 | ) |
| $ | (1,725,000 | ) |
Cash | $ | 282,000 |
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| $ | 547,000 |
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Accounts receivable |
| 1,255,000 |
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| 305,000 |
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Inventory |
| 1,295,000 |
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| 1,565,000 |
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Investment in Strata |
| 3,527,500 |
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Buildings (net) |
| 6,060,000 |
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| 2,084,000 |
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Licensing agreements |
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| 1,914,000 |
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Goodwill |
| 408,000 |
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Total assets | $ | 12,827,500 |
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| $ | 6,415,000 |
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Accounts payable | $ | (337,500 | ) |
| $ | (950,000 | ) |
Long-term debt |
| (3,120,000 | ) |
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| (2,240,000 | ) |
Common stock |
| (3,000,000 | ) |
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| (1,500,000 | ) |
Retained earnings 12/31/18 |
| (6,370,000 | ) |
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| (1,725,000 | ) |
Total Liabilities and OE | $ | (12,827,500 | ) |
| $ | (6,415,000 | ) |
a. Prepare a worksheet to consolidate the financial information for these two companies.
PINNACLE COMPANY AND SUBSIDIARY STRATA | |||||
Consolidation Worksheet | |||||
For Year December 31, 2018 | |||||
Consolidation Entries | |||||
Accounts | Pinnacle | Strata | Debit | Credit | Consolidated Totals |
Sales | $(7,683,000) | $(3,328,000) |
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Cost of goods sold | 4,940,000 | 1,835,000 |
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Interest expense | 338,000 | 207,000 |
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Depreciation expense | 630,000 | 448,000 |
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Amortization expense | 638,000 |
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Dividend income | (35,000) |
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Net income | $(1,810,000) | $(200,000) | $0 | ||
Retained earnings 1/1/18 | (5,160,000) | (1,560,000) |
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Net income | (1,810,000) | (200,000) | 0 | ||
Dividends declared | 600,000 | 35,000 |
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Retained earnings 12/31/18 | $(6,370,000) | $(1,725,000) | $0 | ||
Cash | $282,000 | $547,000 |
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Accounts receivable | 1,255,000 | 305,000 |
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Inventory | 1,295,000 | 1,565,000 |
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Investment in Strata | 3,527,500 |
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Buildings (net) | 6,060,000 | 2,084,000 |
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Licensing agreements | 1,914,000 |
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Goodwill | 408,000 |
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Total assets | $12,827,500 | $6,415,000 | $0 | ||
Accounts payable | (337,500) | (950,000) |
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Long-term debt | (3,120,000) | (2,240,000) |
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Common stock - Pinnacle | (3,000,000) |
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Common stock - Strata | (1,500,000) |
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Retained earnings 12/31/18 | (6,370,000) | (1,725,000) | 0 | ||
Total Liabilities and Owner's Equity | $(12,827,500) | $(6,415,000) | $0 | $0 | $0 |
b. Compute the following amounts that would appear on Pinnacles 2018 separate (nonconsolidated) financial records if Pinnacles investment accounting was based on the equity method.
Subsidiary income.
Retained earnings, 1/1/18.
Investment in Strata.
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1 | Subsidiary income |
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2 | Retained earnings 1/1/18 |
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3 | Investment in Strata |
c. What effect does the parents internal investment accounting method have on its consolidated financial statements?
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