Practice On January 1, 2020, Paloma Corporation Exchanged 17

Practiceon January 1 2020 Paloma Corporation Exchanged 1710000 Ca

Practice On January 1, 2020, Paloma Corporation exchanged $1,710,000 cash for 90 percent of the outstanding voting stock of San Marco Company. The consideration transferred by Paloma provided a reasonable basis for assessing the total January 1, 2020, fair value of San Marco Company. At the acquisition date, San Marco reported the following owners’ equity amounts in its balance sheet: Common stock $ 400,000 Additional paid-in capital 60,000 Retained earnings 265,000 In determining its acquisition offer, Paloma noted that the values for San Marco’s recorded assets and liabilities approximated their fair values. Paloma also observed that San Marco had developed internally a customer base with an assessed fair value of $800,000 that was not reflected on San Marco’s books. Paloma expected both cost and revenue synergies from the combination. 1. Prepare an excess fair-value allocation and amortization schedule and goodwill allocation schedule: 2. Use the following separate financials for the year ended December 31, 2021 to prepare consolidated totals: Paloma San Marco DR CR NCI Consolidated Totals Entry S Revenues (1,843,518,000) Cost of goods sold 1,100,422,000 Depreciation expense 125,000 Amortization expense 275,000 Interest expense 27,500 Equity in income of San Marco (121,500) Entry A1 Net income (437,000) Consolidated net income (652,000) Noncontrolling interest in CNI - 0 Controlling interest net income (652,000) Entry A2 Retained earnings, 1/1 (2,625,020,000) Net income (437,000) Dividends declared 350,000 Entry I Retained earnings, 12/31 (2,712,297,000) Entry D Current assets 1,204,634,000 Investment in San Marco 1,854,876,000 Buildings and equipment 931,794,000 Entry E 950,057,000 Goodwill - Customer base - Total assets 4,939,400,339,000 NCI - Net Income Accounts payable (485,000) Notes payable (542,000) Common stock (900,300,000) Additional paid-in capital (300,000) Noncontrolling interest - NCI - Equity Retained earnings, 12/31 (2,712,297,000) Total liabilities and equities (4,939,400,339,000) Solution On January 1, 2020, Paloma Corporation exchanged $1,710,000 cash for 90 percent of the outstanding voting stock of San Marco Company. The consideration transferred by Paloma provided a reasonable basis for assessing the total January 1, 2020, fair value of San Marco Company. At the acquisition date, San Marco reported the following owners’ equity amounts in its balance sheet: Common stock $ 400,000 Additional paid-in capital 60,000 Retained earnings 265,000 In determining its acquisition offer, Paloma noted that the values for San Marco’s recorded assets and liabilities approximated their fair values. Paloma also observed that San Marco had developed internally a customer base with an assessed fair value of $800,000 that was not reflected on San Marco’s books. Paloma expected both cost and revenue synergies from the combination. 1. Prepare an excess fair-value allocation and amortization schedule and goodwill allocation schedule: Fair value of San Marco Company 1,900,000 Goodwill allocated to Parent 337,500 Book value of San Marco Company 725,000 Goodwill allocated to NCI 37,500 Excess fair value 1,175,000 Useful Life Annual Amort Exp Customer base (10-year remaining life) 800,000 Goodwill 375,000 Use the following separate financials for the year ended December 31, 2021 to prepare consolidated totals: Paloma San Marco DR CR NCI Consolidated Totals Entry S Revenues (1,843,518,000) Cost of goods sold 1,100,422,000 Depreciation expense 125,000 Amortization expense 275,000 Interest expense 27,500 Equity in income of San Marco (121,500) Entry A1 Net income (437,000) Customer base 720,000 Consolidated net income (450,500) Investment in San Marco 648,000 Noncontrolling interest in CNI (13,500) NCI 72,000 Controlling interest net income (437,000) Entry A2 Goodwill 375,000 Retained earnings, 1/1 (2,625,625,000) Investment in San Marco 337,500 Net income (437,000) NCI 37,500 Dividends declared 350,000 Entry I Retained earnings, 12/31 (2,712,712,000) Equity in income of San Marco 121,500 Investment in San Marco 121,500 Entry D Current assets 1,204,634,000 Investment in San Marco 22,500 Investment in San Marco 1,854,876,000 Buildings and equipment 931,794,000 Entry E 950,057,000 Amortization expense 80,000 Goodwill - Customer base - Total assets 4,939,400,000 NCI - Net Income Accounts payable (485,000) Sub's NI x 10% (21,500) Excess amortization x 10% 8,000 Sub's dividends x 10% 2,000) Instruction The CEO provides the following assumptions to prepare the consolidated totals: 1 On the acquisition date, XYZ's accounting records indicate there is no difference in book value and fair value for net assets EXCEPT a piece of equipment with 10-year remaining life that is undervalued on the books by $60,000. 2 The acquisition will generate indefinite life goodwill of $81,000. Using the information above, please complete the following: 1 Fix the errors in the "ABC Projections - Control" tab to generate the correct consolidated balances. 2 Complete the table in the "ABC Financial Ratios" tab using data from "ABC Projections - Control" and "ABC Projections - No control". ABC Financial Ratios Calculated using PY data Calculated using PY data Calculated using PY data Calculated using Projections Calculated using Projections Dec. 31, 2023 Dec. 31, 2024 Dec. 31, 2025 Dec. 31, 2026 (No control) Dec. 31, 2026 (Control) LIQUIDITY RATIOS Current ratio 0.51 0.54 0.53 --> Populate the cells in BLUE. Working capital (245,290) SOLVENCY RATIOS Debt to equity ratio 0.51 0.54 0.52 Times interest earned ratio 36 42 PROFITABILITY RATIOS Return on assets (%) 13.55% 13.27% 14.10% Return on equity (%) 19.08% 22.02% 21.87% Financial ratio calculations: ABC Projections - No control ABC - Projections for 2026 Revenues (1,328,000) Cost of goods sold 457,500 Depreciation expense 424,000 Interest expense 16,000 Income tax expense 30,000 Equity in subsidiary (assuming 45% interest) (162,900) Net income (563,400) Retained earnings, 1/1/ 943,500) Net income (563,400) Dividends declared 120,000 Retained earnings, 12/31/ 786,900) Current assets 302,000 Investment in subsidiary (assuming 45% interest) 1,210,400 Equipment (net) 1,048,000 Buildings (net) 810,000 Land 704,000 Goodwill - 0 Total assets 4,074,400 Current Liabilities (560,000) Other Liabilities (827,500) Common stock (900,000) Retained earnings (1,786,900) Total liabilities and equity (4,074,400) ABC Projections - Control ABC - Projections for 2026 XYZ - Projections for 2026 Adjustment ABC Consolidated - Projections for 2026 Consolidation Entries (INCORRECT!) CEO Notes Revenues (1,328,996,000) Common stock 300,000 Cost of goods sold 457,500 Retained earnings 674,500 Removed sub's RE but consolidated ending RE is still wrong? Depreciation expense 424,100 Investment in subsidiary 974,500 Interest expense 16,000 Income tax expense 30,000 Equipment 60,000 I know this is right. Equity in subsidiary (62,000) Goodwill 81,000 Net income (462,400) CHECK Investment in subsidiary 141,000 Retained earnings, 1/1/ 943,970,000) CHECK Equity in subsidiary 62,000 I know this is right. Net income (462,400) CHECK Investment in subsidiary 62,000 Dividends declared 120,000 Don’t I want to remove dividends? Dividends declared 140,000 Current assets 302,000 Investment in subsidiary 1,109,037,000 CHECK Depreciation expense 14,100 Don’t I have to recognize depreciation expense for the sub’s undervalued assets? Equipment (net) 1,048,782,000 Equipment 6,000 Buildings (net) 810,402,000 Goodwill 8,100 Land 704,000 Goodwill - ,000 Total assets 3,973,548,619,000 Current Liabilities (560,060,000) Other Liabilities (827,000) Common stock (900,000) Retained earnings (1,686,424,400) CHECK Total liabilities and equity (3,973,548,285,400) CHECK image1.png ACCT 411 Group Project: Consolidated Financial Statement Analysis Due before midnight on Thursday, May 4, points) Overview In this class, we learned that a company may invest in another company as part of a strategic business decision. When the level of ownership exceeds 50%, consolidated reporting is required because the parent company effectively has control of the subsidiary company. As we have seen, the consolidation process complicates the financial statement preparation process. Another significant consequence of consolidation is the effect it has on financial ratios. In this project, I would like you to assume you are working in the accounting department at Firm ABC. ABC currently owns a 45% interest in XYZ Corp. The CEO of ABC is considering acquiring the remaining 55% interest at the beginning of 2026 but is concerned about the reporting consequences. Before committing to anything, the CEO would like to see how consolidated reporting would change certain financial ratios. The CEO attempted to prepare a projected consolidation, but they made several mistakes. Your group has been tasked with fixing the errors and preparing a report that outlines how the acquisition would impact financial ratios for 2026. Data/Resources Provided • FinancialProjections_Class (Excel spreadsheet): o ABC Financial Ratios for years 2023, 2024, and 2025 o ABC Projected Financials for year ended 2026 (assuming no control is established) o ABC Projected Financials for year ended 2026 & XYZ Projected Financial Statements for year ended 2026 (assuming control is established) • Report Template (Microsoft Word) Deliverables 1. FinancialProjections_Answers (Excel Spreadsheet) o Complete the table in the “ABC Financial Ratios” tab. o Correct the consolidation worksheet in “ABC Projections – Control”. 2. Written report - you can use the template provided or create your own! (PDF) o The report should be 3 pages max. o The report should include the following content: - Title page which clearly identifies authors (i.e., group members) - Comparison and discussion of ratios for ABC (unconsolidated) vs ABC (consolidated) with respect to liquidity, solvency, and profitability.

Paper For Above instruction

Consolidated financial statements play a crucial role in providing a comprehensive view of a corporate group's financial health, especially when a parent company acquires control over another entity. The process of consolidation, any changes in ownership percentages, and the subsequent impact on financial ratios are vital considerations for managerial decision-making, external reporting, and stakeholder transparency. This paper explores the implications of acquiring control, focusing on the measurement, allocation, and reporting challenges that influence key financial ratios, with particular emphasis on the hypothetical scenario of Firm ABC's potential acquisition of XYZ Corp.

Introduction

Consolidation entails aggregating the financial statements of a parent and its subsidiaries into a single set of financials. When ownership exceeds 50%, the parent exerts control, requiring the preparation of consolidated statements per accounting standards such as IFRS and GAAP. These standards mandate specific adjustments for fair value, goodwill recognition, and noncontrolling interests (NCI). The significance of these adjustments influences numerous financial ratios, including liquidity, solvency, and profitability metrics, which inform stakeholders regarding the company's overall financial stability and operational efficiency.

Impact of Control Acquisition on Financial Reporting

The acquisition of a controlling interest involves assessing fair value at the purchase date, which often differs from book values. Fair value measurement incorporates identifiable intangible assets such as customer bases, proprietary technology, or brand value, which are often not reflected on the acquired company's books. For example, in the scenario where Paloma acquires San Marco, the fair value of the customer base ($800,000) and potential synergies contribute to the calculation of goodwill. These fair value adjustments directly influence the total assets, liabilities, and equity, thereby impacting key ratios.

Fair Value Allocation and Goodwill

The process begins with allocating the purchase price to identifiable net assets at fair value, with excess amounts recognized as goodwill. In the scenario described, Paloma's consideration of $1,710,000 for a 90% stake implied a total enterprise value of approximately $1,900,000. Fair value adjustments included recognizing the customer base ($800,000) and goodwill ($375,000). The residual excess, representing unrecognized assets or liabilities, is allocated to goodwill, which reflects future economic benefits, such as revenue synergies or intellectual capital.

Amortization and Its Effect on Financial Ratios

Amortization of intangible assets, such as customer bases, directly reduces net income and profitability ratios like return on assets (ROA) and return on equity (ROE). The amortization schedules depend on the estimated useful life of assets—10 years in the scenario—leading to annual amortization expenses that diminish income but also improve the accuracy of asset valuation. Similarly, goodwill is subject to impairment considerations but generally not amortized under IFRS; however, certain standards under GAAP may require periodic testing.

Effect on Liquidity Ratios

Liquidity ratios such as the current ratio and working capital are affected by changes in current assets and current liabilities post-consolidation. The inclusion of subsidiary assets (e.g., cash, receivables) and liabilities increases the total current assets and obligations, influencing liquidity measures. For instance, recognizing the fair value of assets like inventory or receivables can improve current ratios, provided liabilities are proportionally adjusted.

Effect on Solvency Ratios

Solvency ratios, including the debt-to-equity ratio and times interest earned, are sensitive to changes in debt levels and equity attributable to the controlling interest. An acquisition often involves issuing goodwill, which may enhance total assets without changing debt levels, potentially improving debt-to-equity ratios. Conversely, increased liabilities or debt refinancing can weaken solvency metrics.

Profitability Ratios and Their Variations

Profitability ratios such as return on assets (ROA) and return on equity (ROE) are affected by the new asset base and recorded net income. The addition of amortization expenses reduces net income temporarily but provides a more realistic view of asset utilization efficiency. The acquisition may also generate revenue synergies, potentially increasing net income and overall profitability. However, expenses related to goodwill impairment or amortization diminish net earnings, impacting profitability metrics.

Conclusion

The decision to acquire control of a subsidiary profoundly influences financial ratios, which are critical for internal decision-making and external stakeholder assessments. Proper fair value measurement, amortization schedules, and recognition of goodwill are essential in accurately reflecting the company's financial health. In the context of Firm ABC's prospective acquisition of XYZ, understanding these impacts helps determine the potential effects on liquidity, solvency, and profitability ratios, guiding strategic decisions and enhancing transparency.

References

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