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Chapter 09 - Consolidation Ownership Issues
CHAPTER 9
ANSWERS TO QUESTIONS
Q9-1 Preferred stock of the subsidiary is eliminated in the consolidation process in a manner
comparable to that used in eliminating the common stock of the subsidiary. For those preferred
shares held by the parent company, a proportionate share of subsidiary income and net assets
assigned to the preferred shares is eliminated against the balance in the parent's investment
account. Subsidiary income and net assets assigned to preferred shares not held by the parent
are included as a part of the noncontrolling interest along with the balances assigned to
noncontrolling interest for common stock not held by the parent. The claim of the preferred
shareholders normally is computed before the common stock is eliminated so that any priority
claim associated with the preferred stock can be properly recognized and assigned to the correct
shareholder group.
Q9-2 All preferred shares held by the parent are eliminated against the balance in the
investment account. Those held by unrelated parties are included in the total assigned to the
noncontrolling interest.
Q9-3 Preferred dividends normally are deducted in arriving at income available to common
shareholders. When preferred dividends are paid by the subsidiary to shareholders other than the
parent, the income accruing to the common shares held by the parent company is reduced.
Therefore, they must be deducted to arrive at income available to the parent company
shareholders. No preferred dividends are deducted if the parent company owns all the shares or if
no dividends are declared and the preferred stock is noncumulative.
Q9-4 In the event the preferred shares are redeemed, the subsidiary must pay the call premium
and the net assets of the subsidiary will be reduced by the amount of the premium. Because it is
more conservative to assume the call premium will be paid, the amount of the premium normally
is added to the claim of the preferred shareholders and deducted from the equity assigned to the
common shareholders whenever consolidated statements are prepared.
Q9-5 The fair value of the net assets of the subsidiary is computed by deducting the fair value of
the subsidiary's liabilities from the fair value of its assets. When the subsidiary has preferred stock
outstanding, the claims of the preferred shareholders, including dividends in arrears and
participation rights held by preferred shareholders, must be taken into consideration in
determining the fair value of net assets available to common shareholders. These items, when
deducted from the fair value of the identifiable assets of the acquired company, will reduce the
amount of net assets assigned to common stock and potentially increase the amount reported as
goodwill.
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Chapter 09 - Consolidation Ownership Issues
Q9-6 The parent may record the difference between the carrying value and the sale price of the
shares as either a gain on sale of investment or an adjustment to its additional paid-in capital. No
gain or loss on the sale of subsidiary shares should be reported in the consolidated statements. If
the parent records a gain on the sale, it should be eliminated in the consolidation process and
treated as a part of additional paid-in capital of the consolidated entity.
Q9-7 All common shareholders should share equally in the net assets of a company. When a
subsidiary sells additional shares to a nonaffiliate at a price in excess of existing book value, the
effect will be to increase the net book value of all shareholders. Because it is a capital
transaction, no gain or loss is recognized on the sale.
Q9-8 Each purchase of additional shares should be examined to determine the difference
between the price paid and underlying book value. When an amount greater than book value is
paid directly to the subsidiary for the shares, the book value of the shares held by the
noncontrolling interest will increase. As a result, the increase in the parent’s claim on the net
assets of the subsidiary will be less than the amount paid. When consolidated statements are
prepared, additional paid-in capital or retained earnings (if the parent has no additional paid-in
capital) must be debited for the increase in the balance assigned to the noncontrolling interest,
thereby reducing the amount reported in the consolidated balance sheet.
Q9-9 All the shares of the subsidiary are eliminated in preparing the consolidated statements.
Thus, treasury shares reported by the subsidiary are eliminated in the consolidation workpaper.
The effect of the retirement on the consolidated statements depends on the price paid and
whether the shares were purchased from the parent or from a nonaffiliate.
Q9-10 Indirect ownership is a general term used whenever one company owns shares of another
company and that company holds ownership in a third company. Indirect control occurs when a
majority of the shares of a particular company are held by one or more companies that are, in
turn, under the control of another company. By exercising its control over those companies the
parent can exercise control of the company indirectly owned.
Q9-11 A reciprocal relationship exists if Subsidiary A and Subsidiary B hold ownership in each
other. If Subsidiary A records investment income based on the reported net income of Subsidiary
B and Subsidiary B records investment income based on the reported net income of Subsidiary A,
the sum of the reported net income totals for the two companies may be substantially greater than
the sum of the reported operating income totals for the two companies. Parent company net
income will be overstated if the impact of the reciprocal relationship is ignored when the parent
company records investment income on its ownership in the two subsidiaries.
Q9-12 Under the treasury stock method the parent company shares that have been purchased by
a subsidiary are reported as treasury stock in the consolidated balance sheet. The carrying value
of the shares is the amount paid by the subsidiary when they were purchased.
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Chapter 09 - Consolidation Ownership Issues
Q9-13 Consolidated net income will be reduced by $100,000. Income assigned to the controlling
interest will be reduced by $72,000 ($100,000 x .90 x .80) when the unrealized profit of Tiny
Corporation is eliminated. A total of $10,000 is treated as a reduction to the income assigned to
noncontrolling shareholders of Tiny Corporation ($100,000 x .10) and $18,000 is a reduction of
the income assigned to noncontrolling shareholders of Subsidiary Company ($100,000 x .90
x .20).
Q9-14 All three companies should be included in the consolidated financial statements. Slide
Company should be consolidated with Bit Company because Bit holds majority ownership of
Slide. Bit Company, in turn, should be consolidated with Snapper Corporation because Snapper
holds majority ownership of Bit.
Q9-15 A subsidiary's stock dividend results in the capitalization of some portion of its retained
earnings. Such an action will have no effect on the consolidated financial statements since the
entire stockholders' equity section of the subsidiary is eliminated in preparing the consolidation
workpaper.
Q9-16 A 15 percent stock dividend is a small stock dividend and must be recorded by capitalizing
retained earnings equal to the market price per share of the stock times the number of shares
actually issued. As a result, retained earnings will decrease and the par value of stock
outstanding and additional paid-in capital will increase on the subsidiary's books. There should be
no change in the investment account balance reported by the parent. Thus, the only change in the
eliminating entries is the relative amount debited to each of the three individual stockholders'
equity accounts of the subsidiary.
Q9-17 When the parent or other affiliates own all the shares of all companies included in the
consolidation, the order in which the consolidation is completed may not be particularly critical. On
the other hand, when less than 100 percent ownership is held there is a much greater chance of
error in apportioning unrealized profits or other adjustments between noncontrolling ownership
and consolidated net income when some other sequence is used. By starting the consolidation
with the company furthest away from the parent, the computation of income assigned to
noncontrolling interest at each level can be most easily accomplished.
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Chapter 09 - Consolidation Ownership Issues
SOLUTIONS TO CASES
When a parent company does not own all the shares of a subsidiary, income assigned to the
noncontrolling interest includes (1) a portion of subsidiary preferred dividends and (2) a portion of
earnings available to common shareholders.
To determine the amount of income to assign to preferred and common shareholders of the
subsidiary, the controller needs to have the following information about the preferred stock:
1. The number of preferred shares outstanding and the number owned by the parent and other
affiliates.
2. The annual preferred dividend rate per share and whether the dividends are cumulative or
noncumulative.
3. If the dividends are noncumulative, the amount of preferred dividends declared during the
period, if any.
In this particular case the parent does not appear to own any of the subsidiary's preferred shares.
Once the controller determines the portion of subsidiary income assignable to common
shareholders, consolidated net income attributable to the controlling interest is computed by
adding the parent's pro rata share of this amount to the parent's income from its own operations.
a. Upon the sale of stock of a subsidiary, Xerox used to recognize a gain or loss in the
consolidated income statement equal to the company’s proportionate share of the
corresponding increase or decrease in that subsidiary’s equity. Under FASB 160, the sale of
subsidiary shares is viewed as an equity transaction and does not affect income. Instead, the
difference between the fair value of the consideration received and the change in the amount
of the noncontrolling interest is recognized as an adjustment to stockholders’ equity (usually
additional paid-in capital).
b. Occidental Petroleum has generally treated subsidiary preferred stock as a liability (the
amount is small). It should be reported as part of the noncontrolling interest.
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Chapter 09 - Consolidation Ownership Issues
MEMO
From: , CPA
Previous accounting standards did not specifically address the issue of how to treat a sale of
subsidiary shares when the parent retained controlling ownership. However, a common practice
was to recognize a gain or loss on the sale of shares.
The FASB’s recent issuance of FASB 160 makes clear that, from a consolidated perspective, a
parent’s sale of subsidiary shares while maintaining control is an equity transaction. Accordingly,
no gain or loss on the sale should be reported in the consolidated income statement. Instead,
equity should be adjusted by the difference between the consideration received and the change in
the parent’s subsidiary interest.
In the current situation, Book’s interest in Lance prior to its sale of Lance shares was $360,000,
an amount equal to 90 percent of Lance’s $400,000 book value. Immediately following the sale of
Lance shares, Book’s remaining 60 percent interest in Lance is $240,000 ($400,000 x .60), a
decrease of $120,000 ($360,000 - $240,000). The difference between the proceeds received and
the change in the book value of Book’s interest in Lance is as follows:
This $48,000 difference should be reported within equity in the consolidated balance sheet.
Although alternatives exist in terms of how to meet the FASB’s reporting requirement, the
following entry to record the sale of shares on Book’s books would be consistent with the FASB’s
requirement and probably the most efficient approach:
Cash 168,000
Investment in Lance Company Stock 120,000
Additional Paid-In Capital 48,000
The additional paid-in capital recorded on Book’s books would carry over to the consolidated
balance sheet and would be included in consolidated equity.
If Book elected to record a $48,000 gain on the sale of Lance shares instead of recognizing
additional paid-in capital as shown in the entry, that gain would have to be transferred to
additional paid-in capital in the preparation of consolidated financial statements.
Primary citation:
FASB 160
ARB 51 (as amended by FASB 160), Par. 33.
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Chapter 09 - Consolidation Ownership Issues
(a) With a sale of shares to a nonaffiliate, net resources have been brought into the
consolidated entity and the noncontrolling shareholders have an additional claim. The excess of
the proceeds received from the sale over the change in the parent’s interest in the subsidiary
increases the amount of additional paid-in capital reported in the consolidated balance sheet. A
sale of subsidiary shares to a nonaffiliate also changes the amount of income assigned to the
noncontrolling interest in the consolidated income statement and the amount of net assets
assigned to the noncontrolling interest in the consolidated balance sheet.
(b) When a parent sells shares of one subsidiary to another subsidiary, net resources to the
consolidated entity do not change. Any gain recorded by the parent must be eliminated when the
investment balance reported by the subsidiary is eliminated in preparing consolidated financial
statements. A change in the claim of the noncontrolling interest is likely to occur if the subsidiary
that purchases the shares is not wholly owned. As a result, there may be some change in
consolidated income and the balance sheet totals assigned to noncontrolling interest.
A great many factors beyond the immediate impact on reported earnings may be important in
deciding on the use of the funds. Items such as the following should be considered:
1. Are the excess funds held by Thorson available only temporarily or are they not likely to be
needed in the foreseeable future?
2. Will there be any regulatory or taxation problems associated with one or more of the
alternatives?
3. Can shares of the companies be purchased in the desired quantities and at existing market
prices or are there potential difficulties associated with one or more alternatives?
4. Is it desirable to acquire more shares of either subsidiary since controlling ownership already is
in the hands of Strong Manufacturing?
5. Have the noncontrolling shareholders of either subsidiary been troublesome or caused the
parent to refrain from actions that it might otherwise have taken?
With the information given, it is difficult to determine which action will have the most favorable
impact on consolidated net income. The earnings of each company, the number of shares
outstanding, and the relative market prices of the shares each will have an effect. In general,
reported income is maximized by purchasing the shares with the lowest price-earnings ratio.
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Chapter 09 - Consolidation Ownership Issues
SOLUTIONS TO EXERCISES
4. a The portion held by the parent is eliminated when the preferred investment is
eliminated, and the portion held by nonaffiliates is eliminated and included with the
balance reported as noncontrolling interest in the consolidated balance sheet.
2. b $20,000 = .40($50,000)
Eliminating entries:
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Eliminating entries:
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Chapter 09 - Consolidation Ownership Issues
E9-6 (continued)
b. Eliminating entries:
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c. Eliminating entries:
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E9-9 (continued)
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Chapter 09 - Consolidation Ownership Issues
Eliminating entries:
E(1) Common Stock — Short Company 200,000
Retained Earnings 240,000
Investment in Short Company Common
Stock 352,000
Noncontrolling Interest 88,000
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Chapter 09 - Consolidation Ownership Issues
E9-11 (continued)
Current Assets:
Cash $117,000
Accounts Receivable 200,000
Inventory 270,000 $ 587,000
Noncurrent Assets:
Buildings and Equipment (net) 700,000
Total Assets $1,287,000
Current Liabilities:
Accounts Payable $ 150,000
Bonds Payable 500,000
Stockholders' Equity:
Controlling Interest:
Common Stock $300,000
Retained Earnings 310,000
Total Controlling Interest $610,000
Noncontrolling Interest 88,000
Total Equity before Reduction for Treasury Shares $698,000
Less: Treasury Shares (61,000)
Total Stockholders’ Equity 637,000
Total Liabilities and Stockholders' Equity $1,287,000
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Chapter 09 - Consolidation Ownership Issues
a. Lake Company:
Stock Dividends Declared 40,000
Common Stock 40,000
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Chapter 09 - Consolidation Ownership Issues
Cash 120,000
Investment in Acme Stock 102,000
Additional Paid-in Capital 18,000
$102,000 = $408,000 x 4,000 / [($200,000
/ $10) x .80]
c. Eliminating entries:
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Chapter 09 - Consolidation Ownership Issues
E9-14 (continued)
c. Eliminating entries:
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Chapter 09 - Consolidation Ownership Issues
Before After
Sale Sale
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Chapter 09 - Consolidation Ownership Issues
SOLUTIONS TO PROBLEMS
4. c Controlling interest:
Common stock $ 300,000
Retained earnings 350,000
Total controlling interest $ 650,000
Noncontrolling interest: ($250,000 x .20) +
($100,000 x .30) 80,000
Total stockholders’ equity $730,000
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P9-18 (continued)
c. Eliminating entries:
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P9-18 (continued)
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P9-21 (continued)
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P9-21 (continued)
g. Eliminating entries:
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P9-21 (continued)
a. Eliminating entries:
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P9-22 (continued)
b. Brown Company and White Corporation
Consolidation Workpaper
December 31, 20X6
Brown White Eliminations Consol-
Item Company Corporation Debit Credit idated
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Cash 68,000
Investment in Beta Company Stock 63,000
Additional Paid-In Capital 5,000
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P9-23 (continued)
a. Eliminating entries:
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P9-24 (continued)
b. Penn Corporation and ENC Company
Consolidation Workpaper
December 31, 20X4
Penn ENC Eliminations Consol-
Item Corp. Company Debit Credit idated
Retained Earnings,
January 1 320,000 130,000 (4)130,000 320,000
Income, from above 57,000 30,000 40,000 47,000
377,000 160,000 367,000
Dividends Declared (15,000) (10,000) (2) 6,000
(3) 4,000 (15,000)
Ret. Earnings, Dec. 31,
carry forward 362,000 150,000 170,000 10,000 352,000
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Chapter 09 - Consolidation Ownership Issues
Accumulated
Depreciation 200,000 220,000 420,000
Accounts Payable 70,000 70,000 140,000
Taxes Payable 80,000 80,000
Mortgages Payable 250,000 250,000
Common Stock 300,000 240,000 (1)240,000 300,000
Additional Paid-In
Capital 220,000 190,000 (1)190,000 220,000
Retained Earnings, 500,000 350,000 (1)350,000 500,000
Noncontrolling
Interest (1)260,000 260,000
Total Credits 1,540,000 1,150,000 780,000 780,000 2,170,000
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Chapter 09 - Consolidation Ownership Issues
P9-25 (continued)
Current Assets:
Cash $ 280,000
Accounts Receivable 210,000
Inventory 380,000 $ 870,000
Noncurrent Assets:
Buildings and Equipment $1,300,000
Less: Accumulated Depreciation (420,000) 880,000
Total Assets $1,750,000
Current Liabilities:
Accounts Payable $ 140,000
Taxes Payable 80,000 $ 220,000
Mortgages Payable 250,000
Stockholders’ Equity:
Controlling Interest:
Common Stock $ 300,000
Additional Paid-In Capital 220,000
Retained Earnings 500,000
Total Controlling Interest $1,020,000
Noncontrolling Interest 260,000
Total Stockholders’ Equity 1,280,000
Total Liabilities and Stockholders' Equity $1,750,000
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a. Eliminating entry:
Cash 150,000
Common Stock 25,000
Additional Paid-In Capital 125,000
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P9-26 (continued)
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Chapter 09 - Consolidation Ownership Issues
First
Boston
.80 .10
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