Question

Assume that, on January 1, 2019, P Company acquired a 70% interest in its subsidiary, S Company. The aggregate fair value of the controlling and noncontrolling interest was $400,000 in excess of S Company’s Stockholders’ Equity on the acquisition date. The parent uses the equity method to account for its investment in S company. The parent assigned the acquisition accounting premium (AAP) as follows:

AAP Item	Initial Fair Value	Useful Life (years)
PPE, net	$220,000	10
Customer List	120,000	10
Goodwill	60,000	Indefinite
	$400,000

P Company and S Company report the following financial statements at December 31, 2023:

Income Statement
	Parent	Subsidiary
Sales	$6,500,000	$600,000
Cost of goods sold	-4,250,000	-350,000
Gross Profit	2,250,000	250,000
Income (loss) from subsidiary	74,000
Operating expenses	-1,250,000	-142,000
Net income	$1,074,000	$108,000

Statement of Retained Earnings
	Parent	Subsidiary
BOY Retained Earnings	$7,900,000	$958,000
Net income	1,074,000	108,000
Dividends	-102,540	-18,750
EOY Retained Earnings	$8,871,460	$1,047,250

Balance Sheet
	Parent	Subsidiary
Assets:
Cash	$500,000	$250,000
Accounts receivable	2,045,000	425,000
Inventory	657,000	624,500
Equity Investment	1,331,475
PPE, net	9,507,985	511,750
	$14,041,460	$1,811,250
Liabilities and Stockholders’ Equity:
Current Liabilities	$900,000	$370,000
Long-term Liabilities	1,570,000	0
Common Stock	600,000	42,000
APIC	2,100,000	352,000
Retained Earnings	8,871,460	1,047,250
	$14,041,460	$1,811,250

15.       Based on the given financial statements, the computation of the pre-consolidation income (loss) from subsidiary of $74,000 reported by the parent includes a deduction for:

a.   $25,000 for excess attributable to depreciation and amortization

b.   $34,000 for excess attributable to depreciation and amortization

c.   $13,125 for 70% of dividends declared and paid by S Company

d.   $75,600 for 70% of the net income of subsidiary

16.       The December 31, 2023 pre-consolidation balance of the equity investment accounting equals $1,331,475 (i.e., 5 years subsequent to the acquisition).

On this date, the equity investment balance implicitly includes:

a.   Dividends, $121,290

b.   Goodwill, $60,000

c.   Goodwill, $48,000

d.   Unamortized AAP excluding Goodwill, $204,000

Answer 1

Answer 15

Since the asset is part of normal business operations, depreciation is considered an operating expense. However, depreciation is one of the few expenses for which there is no associated outgoing cash flow. Thus, depreciation is a non-cash component of operating expenses.

In this case, Income Statement of S Company as on December 31, 2023 has not included Depreciation and Amortization Expenses in calculation of operating expenses, however for the purpose of calculation of Income (Loss) from subsidiary by H Company, Depreciation and Amortization expenses has been adjusted while calculating Income (Loss) from subsidiary.

Calculation of Depreciation and Amortization expense   

Particulars    Amount ($)   

Income as per Income Statement (Of S Company)    108,000

Less: Income from subsidiary    74,000

Depreciation and Amortization expense    34,000

Hence, Based on the given financial statements, the computation of the pre-consolidation income (loss) from subsidiary of $74,000 reported by the parent includes a deduction for $34,000 for excess attributable to depreciation and amortization.

Answer 16

The December 31, 2023 pre-consolidation balance of the equity investment accounting equals $1,331,475 (i.e., 5 years subsequent to the acquisition) On this date, the equity investment balance implicitly includes:

Goodwill, $48,000