Intercompany revenues and expenses

Sales and purchases (2,000,000 + 1,500,000) 3,500,000 (e)

Intercompany profits

Before tax 40% tax After tax

Loss on land, July 1, Year 7

realized in Year 9 – Most selling 50,000 20,000 30,000 (f)

Opening inventory – Most selling

(312,500 x 0.20) 62,500 25,000 37,500 (g)

– Least selling

(857,140 x 0.30) 257,142 102,857 154,285 (h)

319,642 127,857 191,785 (i)

Ending inventory – Most selling

(500,000 x 0.20) 100,000 40,000 60,000 (j)

– Least selling

(714,280 x 0.30) 214,284 85,714 128,570 (k)

314,284 (l) 125,714 188,570

Intercompany dividends declared but not paid (80% x 100,000) 80,000 (m)

Deferred income taxes – ending inventory (40,000 + 85,714) 125,714 (n)

Calculation of consolidated retained earnings – Jan. 1 Year 9

Retained earnings of Most, Jan. 1, Year 9

(10,400,000 – 1,000,000 + 350,000) 9,750,000

Less: Profit in opening inventory (g) 37,500

9,712,500

Add: land loss (f) 30,000

Adjusted retained earnings 9,742,500

Retained earnings of Least, Jan. 1, Year 9

(2,300,000 – 400,000 + 100,000) 2,000,000

Retained earnings of Least at acquisition 1,000,000

Increase 1,000,000

Less: profit in opening inventory (h) 154,285

amortization of acquisition differential (c) 108,450

Adjusted increase 737,265 (o)

Most's ownership % 80% 589,812

Consolidated retained earnings, Jan. 1, Year 9 10,332,312

Calculation of consolidated net income – Year 9

Net income of Most 1,000,000

Less: Dividends from Least (100,000 x 80%) 80,000

Profit in closing inventory (j) 60,000

Land loss (f) 30,000 170,000

830,000

Add: profit in opening inventory (g) 37,500

Adjusted net income 867,500

Net income of Least 400,000

Add: profit in opening inventory (h) 154,285

554,285

Less: profit in closing inventory (k) 128,570

amortization of acquisition differential (d) 13,075

Adjusted net income 412,640

Consolidated net income 1,280,140

Attributable to:

Shareholders of Most 1,197,612

Non-controlling interests (20% x 412,640) 82,528

1,280,140

Calculation of consolidated non-controlling interests – Jan. 1 Year 9 (Method 1)

Least’s common shares, Jan. 1, Year 9 500,000

Retained earnings of Least, Jan. 1, Year 9 2,000,000

Less: profit in opening inventory (h) 154,285

Adjusted retained earnings 1,845,715

Unamortized acquisition differential (500,000 – 108,450) 391,550

2,737,265

NCI’s ownership % 20%

NCI, Jan. 1, Year 9 547,453

Calculation of consolidated non-controlling interests – Jan. 1 Year 9 (Method 2)

Non-controlling interests at date of acquisition (20% x [1,600,000 / .8) 400,000

Least’s adjusted increase in retained earnings (n) 737,265

NCI’s share @ 20% 147,453

NCI, Jan. 1, Year 9 547,453

(a) Most Company

Consolidated Statement of Changes in Equity

For Year Ended December 31, Year 9

Common Retained

Stock Earnings Total NCI Total

Balance, beginning of year 1,000,000 10,332,312 11,332,312 547,453 11,879,765

Add: net income 1,197,612 1,197,612 82,528 1,280,140

Less: dividends (350,000) (350,000) (20,000) (370,000)

Balance, end of year 1,000,000 11,179,924 12,179,924 609,981 12,789,905

Proof of consolidated retained earnings, end of Year 9

Retained earnings of Most, Dec. 31, Year 9 10,400,000

Less: profit in ending inventory (j) 60,000

Adjusted retained earnings 10,340,000

Retained earnings of Least, Dec. 31, Year 9 2,300,000

Retained earnings of Least at acquisition 1,000,000

Increase 1,300,000

Less: profit in ending inventory (k) 128,570

amortization of acquisition differential

((c) 108,450 + (d) 13,075) 121,525

Adjusted increase 1,049,905 (p)

Most's ownership % 80% 839,924

Consolidated retained earnings, Dec. 31, Year 9 11,179,924

Proof of non-controlling interest, end of Year 9 (Method 1)

Retained earnings of Least 2,300,000

Common shares of Least 500,000

Total shareholders' equity 2,800,000

Less: profit in ending inventory      (k) 128,570

Adjusted shareholders' equity 2,671,430

Add: unamortized acquisition differential 378,475

3,049,905

20%

Non-controlling interest, Dec. 31, Year 9 609,981

Calculation of consolidated non-controlling interests – end of Year 9 (Method 2)

Non-controlling interests at date of acquisition (20% x [1,600,000 / .8]) 400,000

Least’s adjusted increase in retained earnings (o) 1,049,905

NCI’s share @ 20% 209,981

Non-controlling interest, Dec. 31, Year 9 609,981

(b) Most Company

Consolidated Balance Sheet

December 31, Year 9

Cash (500,000 + 40,000) 540,000

Accounts receivable (1,700,000 + 500,000 – (m) 80,000) 2,120,000

Inventories (2,300,000 + 1,200,000 – (l) 314,284) 3,185,716

Plant and equipment (net) (8,200,000 + 4,000,000 + (a) 4,375) 12,204,375

Land (700,000 + 260,000) 960,000

Goodwill (b) 374,100

Deferred income taxes (n) 125,714

Total assets 19,509,905

Current liabilities (600,000 + 200,000 – (m) 80,000) 720,000

Long-term liabilities (3,000,000 + 3,000,000) 6,000,000

Common shares 1,000,000

Retained earnings 11,179,924

Non-controlling interest 609,981

Total liabilities & shareholders' equity 19,509,905

(c) The cost principle requires that certain assets such as inventory be reported at cost. When a profit is made on an intercompany sale, the inventory cost to the purchaser is higher than the cost incurred by the seller. An adjustment is made on consolidation to remove the profit from the inventory of the purchaser to bring the value of the inventory down to the original cost to the consolidated entity.

(d) The debt to equity ratio would increase because debt remains the same but the non-controlling interest within shareholders’ equity decreases. Non-controlling interests decreases because it does not contain the incorporate the non-controlling interests’ share of the value of the subsidiary’s goodwill.

Problem 6-11

Calculation, allocation, and amortization of the acquisition differential

Cost of 90% investment, Jan. 2, Year 1 90,000

Implied value of 100% investment 100,000

Carrying amounts of S's net assets:

Common shares 60,000

Retained earnings 20,000

Total shareholders' equity 80,000

Acquisition differential – patents 20,000

Amortization:

Years 1 – 4 (a) 16,000

Year 5 (b) 4,000 20,000

Balance, Dec. 31, Year 5 –0–