Question

Percy Footwear acquired all the voting stock of Simali Inc. at the beginning of 2016. The acquisition cost was $400,000, and Simali’s book value at that time consisted of $25,000 in capital stock and $75,000 in retained earnings. Revaluation information for Simali’s identifiable net assets is as follows:

• Plant assets with a 20-year remaining life, straight-line, were overvalued by $80,000
• Inventory (sold in 2016) was overvalued by $20,000
• Previously unrecorded indefinite life developed technology was valued at $150,000; impairment to the beginning of 2020 was $10,000, and there is no impairment for 2020.
• Goodwill was not impaired as of the beginning of 2020; impairment in 2020 was $25,000.

It is now the end of 2020 (five years after the acquisition). Simali’s retained earnings at the beginning of 2020 is $125,000, and it reports net income of $45,000 for 2020. It declares no dividends. Percy uses the complete equity method to report its investment in Simali on its own books. Simali sells merchandise to Percy on a regular basis, at a markup of 20 percent on cost. Total sales made to Percy in 2020 were $200,000. Percy’s beginning inventory balance has $12,000 in merchandise purchased from Simali. Percy’s ending inventory balance has $18,000 in merchandise purchased from Simali.

Required

a.         Calculate equity in net income for 2020, reported on Percy’s books.

b.         Calculate the December 31, 2020 balance for investment in Simali, reported on Percy’s books.

c.          Calculate the original balance for goodwill, reported for this acquisition.

Answer 1

1. With the complete equity method of accounting, the investor records the income or loss earned from the investee on a separate line of the investor’s income statement as the proportionate share of the investee's profits or losses. Since Percy Footwear has acquired all the voting stock of Simali Inc., the equity in net income is $45,000 for 2020.

2. Balance for Simali Inc. in Percy Footwear's Books as at 31 Dec 2020
   Particulars	Amount	Amount
   Acquisition Cost		$         400,000
   Capital Stock	$           25,000
   Retained Earnings of Simali Inc.	$        170,000
   Total as at 31 Dec 2020	$        195,000
   Less: Acquired Cost in 2016
   Capital Stock	$           25,000
   Retained Earnings of Simali Inc.	$           75,000	$           95,000
   Investment value		$         495,000

3. The original balance of goodwill reported for the acquisition of Simali Inc. in Percy Footwear's books would be $ 180,000. Refer the table below for detailed workings.

Simali Inc. Balance Sheet as at 31 Dec 2020
Liabilities	Amount	Amount	Assets	Amount	Amount
Capital Stock		$           25,000	Technology	$ 150,000
Retained Earnings			Less: Impairment	$    10,000	$ 140,000
Op. Balance	$        125,000
Add: Net Income	$           45,000	$         170,000	Goodwill (balancing figure)	$ 180,000
			Less: Impairment	$    25,000
			Less: Overvaluation of Plant	$    80,000
			Less: Overvaluation of Inventory	$    20,000	$    55,000
	Total:	$         195,000		Total:	$ 195,000