Problem 33 On Page 84: Application Test ✓ Solved
Problem 33 on page 84 This problem tests your application of
Problem 33 on page 84. This problem tests your application of the statutory merger method for business combinations. On January 1, NewTune Company exchanges 15,000 shares of its common stock for all of the outstanding shares of On-the-Go, Inc. Each of NewTune’s shares has a $4 par value and a $50 fair value. The fair value of the stock exchanged in the acquisition was considered equal to On-the-Go’s fair value.
NewTune also paid $25,000 in stock registration and issuance costs in connection with the merger. Several of On-the-Go’s accounts’ fair values differ from their book values on this date:
- Receivables: Book Value $65,000, Fair Value $63,000
- Trademarks: Book Value $95,000, Fair Value $95,000
- Record music catalog: Book Value $60,000, Fair Value $60,000
- In-process research and development: Book Value $0, Fair Value $200,000
- Notes payable: Book Value ($50,000), Fair Value ($50,000)
Precombination book values for the two companies are as follows:
NewTune
- Cash: $60,000
- Receivables: $150,000
- Trademarks: $400,000
- Record music catalog: $840,000
- Equipment (net): $320,000
Totals: $1,770,000
On-the-Go
- Cash: $29,000
- Receivables: $0
- Trademarks: $0
- Record music catalog: $0
- Equipment (net): $105,000
Totals: $354,000
- Accounts payable: $(110,000)
- Notes payable: $(370,000)
- Common stock: $(400,000)
- Additional paid-in capital: $(30,000)
- Retained earnings: $(860,000)
Totals: $(1,770,000)
Assume that this combination is a statutory merger so that On-the-Go’s accounts will be transferred to the records of NewTune. On-the-Go will be dissolved and will no longer exist as a legal entity. Prepare a postcombination balance sheet for NewTune as of the acquisition date.
Assume that no dissolution takes place in connection with this combination. Rather, both companies retain their separate legal identities. Prepare a worksheet to consolidate the two companies as of the combination date.
How do the balance sheet accounts compare across parts (a) and (b)? For this assignment, use your Fundamentals of Advanced Accounting text and the Excel spreadsheet provided on the companion website (linked in Resources) to complete the following problem: Problem 29 on page 82. This problem tests your knowledge of financial statement reporting for consolidated companies.
Paper For Above Instructions
The statutory merger method is a common approach in business combinations, where one company absorbs another, thereby dissolving the latter's legal identity. This method allows the acquiring company to record all of the acquired company's assets and liabilities at their fair values, making it a crucial topic for finance professionals especially in mergers and acquisitions. This essay will analyze Problem 33 from the provided assignment, considering the facts and performing the necessary accounting calculations to prepare both a postcombination balance sheet for NewTune and a worksheet to consolidate both NewTune and On-the-Go, followed by a comparative analysis of the results.
Postcombination Balance Sheet for NewTune
In a statutory merger where On-the-Go is absorbed by NewTune, the balance sheet will reflect the fair values of the acquired entity's assets and liabilities. First, we calculate the total value of shares exchanged in the merger:
- Number of shares exchanged: 15,000
- Fair value per share: $50
- Total fair value of shares exchanged: 15,000 shares * $50 = $750,000
Next, we factor in the direct costs associated with the merger:
- Stock registration and issuance costs: $25,000
This gives us a total cost of acquisition:
- Total acquisition cost: $750,000 + $25,000 = $775,000
Fair Value Adjustments
Next, we account for the adjustments to On-the-Go's assets and liabilities based on fair values:
- Receivables adjustment: Fair Value $63,000 - Book Value $65,000: ($2,000) write-down
- In-process R&D recorded at $200,000, which will now be recognized.
NewTune's Precombination Balance Sheet
NewTune's precombination balance sheet before adjustments:
| Asset | Value |
|---|---|
| Cash | $60,000 |
| Receivables | $150,000 |
| Trademarks | $400,000 |
| Record music catalog | $840,000 |
| Equipment | $320,000 |
| Total Assets | $1,770,000 |
Adjusted Assets and Liabilities
After adjustments, NewTune's pro forma postcombination balance sheet would appear as follows:
| Asset | Value |
|---|---|
| Cash | $60,000 |
| Receivables | $148,000 |
| Trademarks | $400,000 |
| Record music catalog | $840,000 |
| In-process R&D | $200,000 |
| Equipment | $320,000 |
| Total Assets | $1,780,000 |
Liabilities
NewTune will reflect On-the-Go's liabilities on the balance sheet:
| Liability | Value |
|---|---|
| Accounts payable | ($110,000) |
| Notes payable | ($370,000) |
| Total Liabilities | ($480,000) |
Final Postcombination Balance Sheet
The final postcombination balance sheet for NewTune would look like this:
| Asset | Value |
|---|---|
| Total Assets | $1,780,000 |
| Total Liabilities | ($480,000) |
| Net Assets | $1,300,000 |
Worksheet for Consolidation of NewTune and On-the-Go
For the worksheet to consolidate NewTune and On-the-Go without dissolution, both companies would remain identifiable.
Assets
| Asset | NewTune | On-the-Go | Consolidated |
|---|---|---|---|
| Cash | $60,000 | $29,000 | $89,000 |
| Receivables | $150,000 | $63,000 | $213,000 |
| Equipment | $320,000 | $105,000 | $425,000 |
| Total Assets | $530,000 | $197,000 | $727,000 |
The liabilities will simply be combined with no fair value adjustments.
Liabilities
| Liability | NewTune | On-the-Go | Consolidated |
|---|---|---|---|
| Accounts payable | ($110,000) | ($34,000) | ($144,000) |
| Notes payable | ($370,000) | ($50,000) | ($420,000) |
| Total Liabilities | ($480,000) | ($84,000) | ($564,000) |
Thus, the consolidated figures will combine simply without removing On-the-Go’s accounts:
Comparative Analysis
The primary difference between the statutory merger (part a) and the consolidation (part b) lies in how the assets and liabilities are recorded. In part a, NewTune absorbs the fair values of On-the-Go, leading to potential adjustments and the dissolution of On-the-Go. In part b, both companies maintain their separate identities, and the balance sheet retains the original values without fair value adjustments affecting the capitalization.
The impact on financial reporting can be substantial, influencing profitability and performance metrics through adjustments and the recording of goodwill or other intangible assets. This analysis shows that the business combination approach can dictate significant strategic financial decisions in a corporate structure.
References
- Higgins, R. C. (2012). Analysis for Financial Management. McGraw-Hill.
- Fraser, L. M., & Ormiston, A. (2010). Understanding Financial Statements. Pearson.
- Stickney, C. P., & Weil, R. L. (2009). Financial Accounting: An Introduction to Concepts, Methods and Uses. Cengage Learning.
- Kimmel, P. D., Weygandt, J. J., & Kieso, D. E. (2016). Financial Accounting. Wiley.
- Wild, J. J., Subramanyam, K. R., & Halsey, R. F. (2010). Financial Statement Analysis. McGraw-Hill.
- Revsine, L., Collins, D. W., & Johnson, W. B. (2010). Financial Reporting & Analysis. Pearson.
- Penman, S. H. (2012). Financial Statement Analysis and Security Valuation. McGraw-Hill.
- Brigham, E. F., & Ehrhardt, M. C. (2013). Financial Management: Theory and Practice. Cengage Learning.
- Palepu, K. G., & Healy, P. M. (2013). Business Analysis and Valuation: Using Financial Statements. Cengage Learning.
- Gibson, C. H. (2012). Financial Reporting and Analysis. Cengage Learning.