1. When an investor uses the equity method to account for investments in common stock, the
investor’s share of cash dividends from the investee should be recorded as
a. A deduction from the investor’s share of the investee’s profits.
b. Dividend income.
c. A deduction from the stockholders’ equity account, Dividends to Stockholders.
d. A deduction from the investment account.
2. Which of the following does not indicate an investor company’s ability to significantly influence an investee?
a. Material intra-entity transactions.
b. The investor owns 30 percent of the investee but another owner holds the remaining
c. Interchange of personnel.
d. Technological dependency.
3. Sisk Company has owned 10 percent of Maust, Inc., for the past several years. This ownership did not allow Sisk to have significant influence over Maust. Recently, Sisk acquired an additional 30 percent of Maust and now will use the equity method. How will the investor report? change?
a. A cumulative effect of an accounting change is shown in the current income statement.
b. No change is recorded; the equity method is used from the date of the new acquisition.
c. A retrospective adjustment is made to restate all prior years presented using the equity method.
d. Sisk will report the change as a component of accumulated other comprehensive income.
5. When an equity method investment account is reduced to a zero balance
a. The investor should establish a negative investment account balance for any future losses
reported by the investee.
b. The investor should discontinue using the equity method until the investee begins paying
c. Future losses are reported as unusual items in the investor’s income statement.
d. The investment retains a zero balance until subsequent investee profits eliminate all unrecognized
6. On January 1, Puckett Company paid $1.6 million for 50,000 shares of Harrison’s voting common stock, which represents a 40 percent investment. No allocation to goodwill or other specific account was made. Significant influence over Harrison is achieved by this acquisition and so Puckett applies the equity method. Harrison declared a $2 per share dividend during the year and reported net income of $560,000. What is the balance in the Investment in Harrison account found in Puckett’s financial records as of December 31?
7. Martes, Inc., 20% for $700,000. This investment gave Domingo the ability to exercise significant influence over Martes. Martes’s assets on that date were recorded at $3,900,000 with liabilities of $900,000. Any excess of cost over book value of the investment was attributed to a patent having a remaining useful life of 10 years. In 2014, Martes reported net income of $170,000. In 2015, Martes reported net income of $210,000. Dividends of $70,000 were declared in each of these two years. What is the equity method balance of Domingo’s Investment in Martes, Inc., at December 31, 2015?
8. Franklin purchases 40 percent of Johnson Company on January 1 for $500,000. Although
Franklin did not use it, this acquisition gave Franklin the ability to apply significant
influence to Johnson’s operating and financing policies. Johnson reports assets on that
date of $1,400,000 with liabilities of $500,000. One building with a 7-year remaining
life is undervalued on Johnson’s books by $140,000. Also, Johnson’s book value for its
trademark (10-year remaining life) is undervalued by $210,000. During the year, Johnson
reports net income of $90,000 while declaring dividends of $30,000. What is the Investment
in Johnson Company balance (equity method) in Franklin’s financial records as of
9. Evan Company reports net income of $140,000 each year and declares an annual cash dividend
of $50,000. The company holds net assets of $1,200,000 on January 1, 2014. On that
date, Shalina purchases 40 percent of the outstanding stock for $600,000, which gives it the
ability to significantly influence Evan. At the purchase date, the excess of Shalina’s cost over
its proportionate share of Evan’s book value was assigned to goodwill. On December 31,
2016, what is the Investment in Evan Company balance (equity method) in Shalina’s financial
1. Which of the following does not represent a primary motivation for business combinations?
a. Combinations as a vehicle for achieving rapid growth and competitiveness.
b. Cost savings through elimination of duplicate facilities and staff.
c. Quick entry for new and existing products into markets.
d. Larger firms being less likely to fail.
2. Which of the following is the best theoretical justification for consolidated financial statements?
a. In form the companies are one entity; in substance they are separate.
b. In form the companies are separate; in substance they are one entity.
c. In form and substance the companies are one entity.
d. In form and substance the companies are separate.
3. What is a statutory merger?
a. A merger approved by the Securities and Exchange Commission.
b. An acquisition involving the purchase of both stock and assets.
c. A takeover completed within one year of the initial tender offer.
d. A business combination in which only one company continues to exist as a legal entity.
4. FASB ASC 805, “Business Combinations,” provides principles for allocating the fair value of an
acquired business. When the collective fair values of the separately identified assets acquired and
liabilities assumed exceed the fair value of the consideration transferred, the difference should be:
a. Recognized as an ordinary gain from a bargain purchase.
b. Treated as negative goodwill to be amortized over the period benefited, not to exceed 40 years.
c. Treated as goodwill and tested for impairment on an annual basis.
d. Applied pro rata to reduce, but not below zero, the amounts initially assigned to specific
noncurrent assets of the acquired firm.
7. When does gain recognition accompany a business combination?
a. When a bargain purchase occurs.
b. In a combination created in the middle of a fiscal year.
c. In an acquisition when the value of all assets and liabilities cannot be determined.
d. When the amount of a bargain purchase exceeds the value of the applicable noncurrent
assets (other than certain exceptions) held by the acquired company.
8. According to the acquisition method of accounting for business combinations, costs paid to Attorneys and accountants for services in arranging a merger should be
a. Capitalized as part of the overall fair value acquired in the merger.
b. Recorded as an expense in the period the merger takes place.
c. Included in recognized goodwill.
d. Written off over a 5-year maximum useful life.
9. When negotiating a business acquisition, buyers sometimes agree to pay extra amounts to sellers
in the future if performance metrics are achieved over specified time horizons. How should
buyers account for such contingent consideration in recording an acquisition?
a. The amount ultimately paid under the contingent consideration agreement is added to
goodwill when and if the performance metrics are met.
b. The fair value of the contingent consideration is expensed immediately at acquisition date.
c. The fair value of the contingent consideration is included in the overall fair value of the
consideration transferred, and a liability or additional owners’ equity is recognized.
d. The fair value of the contingent consideration is recorded as a reduction of the otherwise
determinable fair value of the acquired firm.
10. An acquired firm’s financial records sometimes show goodwill from previous business combinations. How does a parent company account for the preexisting goodwill of its newly
a. The parent tests the preexisting goodwill for impairment before recording the goodwill as
part of the acquisition.
b. The parent includes the preexisting goodwill as an identified intangible asset acquired.
c. The parent ignores preexisting subsidiary goodwill and allocates the subsidiary’s fair value
among the separately identifiable assets acquired and liabilities assumed.
d. Preexisting goodwill is excluded from the identifiable assets acquired unless the subsidiary
can demonstrate its continuing value.
11. On June 1, Cline Co. paid $800,000 cash for all of the issued and outstanding common stock
of Renn Corp. The carrying amounts for Renn’s assets and liabilities on June 1 follow:
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $150,000
Accounts receivable . . . . . . . . . . . . . . . . . . . 180,000
Capitalized software costs . . . . . . . . . . . . . . 320,000
Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . 100,000
Liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . (130,000)
Net assets. . . . . . . . . . . . . . . . . . . . . . . . . $620,000
On June 1, Renn’s accounts receivable had a fair value of $140,000. Additionally, Renn’s inprocess
research and development was estimated to have a fair value of $200,000. All other
items were stated at their fair values. On Cline’s June 1 consolidated balance sheet, how much
is reported for goodwill?
12. What should Beasley record as total liabilities incurred or assumed in connection with the Donovan merger?
13. How much should Beasley record as total assets acquired in the Donovan merger?
14. Prior to being united in a business combination, Atkins, Inc., and Waterson Corporation had the following stockholders’ equity figures:
LO 2-5 Atkins Waterson
Common stock ($1 par value) . . . . . . . $180,000 $ 45,000
Additional paid-in capital . . . . . . . . . . . 90,000 20,000
Retained earnings . . . . . . . . . . . . . . . . 300,000 110,000
Atkins issues 51,000 new shares of its common stock valued at $3 per share for all of the outstanding stock of Waterson. Immediately afterward, what are consolidated Additional Paid-In Capital and Retained Earnings, respectively?
a. $104,000 and $300,000.
b. $110,000 and $410,000.
c. $192,000 and $300,000.
d. $212,000 and $410,000.
15. On its acquisition-date consolidated balance sheet, what amount should TruData report as goodwill?
16. On its acquisition-date consolidated balance sheet, what amount should TruData report as patented technology (net)?
17. On its acquisition-date consolidated balance sheet, what amount should TruData report as common stock?
18. On its acquisition-date consolidated balance sheet, what amount should TruData report as retained earnings as of July 1?
3. When should a consolidated entity recognize a goodwill impairment loss?
a. If both the fair value of a reporting unit and its associated implied goodwill fall below their
respective carrying amounts.
b. Whenever the entity’s fair value declines significantly.
c. If a reporting unit’s fair value falls below its original acquisition price.
d. Annually on a systematic and rational basis.
4. Paar Corporation bought 100 percent of Kimmel, Inc., on January 1, 2012. On that date, Paar’s
equipment (10-year remaining life) has a book value of $420,000 but a fair value of $520,000.
Kimmel has equipment (10-year remaining life) with a book value of $272,000 but a fair value
of $400,000. Paar uses the equity method to record its investment in Kimmel. On December 31,
2014, Paar has equipment with a book value of $294,000 but a fair value of $445,200. Kimmel
has equipment with a book value of $190,400 but a fair value of $357,000. What is the consolidated
balance for the Equipment account as of December 31, 2014?
5. How would the answer to problem (4) have been affected if the parent had applied the initial value method rather than the equity method?
a. No effect: The method the parent uses is for internal reporting purposes only and has no
impact on consolidated totals.
b. The consolidated Equipment account would have a higher reported balance.
c. The consolidated Equipment account would have a lower reported balance.
d. The balance in the consolidated Equipment account cannot be determined for the initial
value method using the information given.
6. Goodwill recognized in a business combination must be allocated among a firm’s identified
reporting units. If the fair value of a particular reporting unit with recognized goodwill falls
below its carrying amount, which of the following is true?
a. No goodwill impairment loss is recognized unless the implied value for goodwill exceeds its
b. A goodwill impairment loss is recognized if the carrying amount for goodwill exceeds its
c. A goodwill impairment loss is recognized for the difference between the reporting unit’s fair
value and carrying amount.
d. The reporting unit reduces the values assigned to its long-term assets (including any unrecognized
intangibles) to reflect its fair value.
7. If no legal, regulatory, contractual, competitive, economic, or other factors limit the life of an intangible asset, the asset’s assigned value is allocated to expense over which of the following?
a. 20 years.
b. 20 years with an annual impairment review.
d. Indefinitely (no amortization) with an annual impairment review until its life becomes finite
Problems 9, 10, and 11 relate to the following:
On January 1, 2013, Phoenix Co. acquired 100 percent of the outstanding voting shares of Sedona
Inc. for $600,000 cash. At January 1, 2013, Sedona’s net assets had a total carrying amount of
$420,000. Equipment (8-year remaining life) was undervalued on Sedona’s financial records by
$80,000. Any remaining excess fair over book value was attributed to a customer list developed by
Sedona (4-year remaining life), but not recorded on its books. Phoenix applies the equity method
to account for its investment in Sedona. Each year since the acquisition, Sedona has declared a
$20,000 dividend. Sedona recorded net income of $70,000 in 2013 and $80,000 in 2014.
Selected account balances from the two companies’ individual records were as follows:
2015 Revenues $498,000 $285,000
2015 Expenses 350,000 195,000
2015 Income from Sedona 55,000
Retained earnings 12/31/15 250,000 175,000
9. What is consolidated net income for Phoenix and Sedona for 2015?
B Phoenix revenues $498,000
Net income before Sedona effect 148,000
Equity income from Sedona
Consolidated net income
Consolidated revenues $783,000
Consolidated expenses (includes $35K amortization)
Consolidated net income
10. What is Phoenix’s consolidated retained earnings balance at December 31, 2015?
11. On its December 31, 2015, consolidated balance sheet, what amount should Phoenix report for Sedona’s customer list?
13. What is push-down accounting?
a. A requirement that a subsidiary must use the same accounting principles as a parent company.
b. Inventory transfers made from a parent company to a subsidiary.
c. A subsidiary’s recording of the fair-value allocations as well as subsequent amortization.
d. The adjustments required for consolidation when a parent has applied the equity method
of accounting for internal reporting purposes.
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