Advanced Accounting 12e Paul M Fischer William J Taylor Rita H Cheng - Test Bank

Advanced Accounting 12e Paul M Fischer William J Taylor Rita H Cheng – Test Bank

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Sample Questions Are Posted Below

Multiple Choice

1. The usual impetus for transactions that create a long-term debtor-creditor relationship between members of a consolidated group is due to the:

	a.	subsidiary’s ability to borrow larger amounts of capital at more favorable terms than would be available to the parent.
	b.	parent’s ability to borrow larger amounts of capital at more favorable terms than would be available to the subsidiary.
	c.	parent’s desire to decentralize asset management and credit control.
	d.	parent’s desire to eliminate long-term debt.

ANSWER:	b
RATIONALE:	The usual impetus for transactions that create a long-term debtor-creditor relationship between members of a consolidated group is due to the parent’s ability to borrow larger amounts of capital at more favorable terms than would be available to the subsidiary. The parent may also desire to manage the capital needs of the subsidiary for better control of capital sources.
DIFFICULTY:	E
LEARNING OBJECTIVES:	Introduction

2. The motivation of a parent company to purchase the outstanding bonds of a subsidiary could be to:

	a.	replace the existing debt with new debt at a lower interest rate.
	b.	reduce the parent company’s acquisition price for the subsidiary.
	c.	increase the parent company’s ownership percentage in the subsidiary.
	d.	create interest revenue to offset interest expense in future income statements.

ANSWER:	a
RATIONALE:	Although not explicitly stated in the chapter, to replace existing debt with new debt at lower interest rates would be one reason a parent might purchase the outstanding bonds of a subsidiary.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-1

3. Intercompany debt that must be eliminated from consolidated financial statements may result from:

	a.	one member of a consolidated group selling its bonds directly to another member of the group.
	b.	one member of a consolidated group advancing funds to another member of the group so that the member may retire bonds it had issued to outside parties.
	c.	one member of a consolidated group purchasing bonds from outside parties as an investment that had been issued to outside parities by another member of the group.
	d.	all of the above.

ANSWER:	d
RATIONALE:	All of these situations will result in intercompany debt that must be eliminated from consolidated financial statements.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-1

4. Elimination procedures for intercompany bonds purchased from outside parties by another member of the consolidated group are:

	a.	not needed except in the period of acquisition if purchased at par.
	b.	not needed except in the period of acquisition if purchased at a premium or discount.
	c.	not needed except in the period of acquisition if only a portion of the outstanding bonds are purchased.
	d.	needed each period as long as the intercompany investment in bonds exists.

ANSWER:	d
RATIONALE:	As long as intercompany debt exists, this debt must be eliminated from consolidated financial statements.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-1

5. In years subsequent to the year one member of a consolidated group purchases another member’s outstanding bonds from outside parties, Consolidated Income Statements:

	a.	recognize a prorated share of any gain or loss from intercompany bonds.
	b.	recognize a prorated share of any gain but would not show a share of a loss from intercompany bonds.
	c.	recognize a prorated share of any loss but would not show a share of a gain from intercompany bonds.
	d.	would not recognize any gain or loss from intercompany bonds.

ANSWER:	d
RATIONALE:	In years subsequent to the year one member of a consolidated group purchases bonds of another member from outside parties, the bonds are effectively retired on a consolidated basis and a gain or loss is recognized in that year. Although the bonds will continue to exist and each entity will have balances pertaining to those bonds in subsequent years, those balances will be eliminated, so there will be no impact on the consolidated financial statements in subsequent years.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-1

6. A subsidiary has outstanding $100,000 of 8% bonds that were issued at face value. The parent purchased all the bonds for $96,000 with 5 years remaining to maturity. How will the parent’s use of the effective interest amortization rather than straight-line amortization of the discount affect the consolidated financial statements?

	a.	The consolidated financial statements report the same information whether the parent uses straight-line or effective interest amortization on its investment in sub’s bonds.
	b.	Will result in a different gain on retirement
	c.	Will result in more interest expense in the first year after the intercompany purchase.
	d.	Will result in less interest expense in the first year after the intercompany purchase.

ANSWER:	a
RATIONALE:	The consolidated financial statements will report the same information regardless of the amortization method used by the parent because all intercompany interest will be eliminated.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-2

7. In the year when one member of a consolidated group purchases from outside parties the bonds of another affiliate, the consolidated income statement includes:

	a.	a gain if purchased above book value.
	b.	a gain if purchased below book value.
	c.	a loss if purchased below book value.
	d.	a deferred gain if purchased above book value.

ANSWER:	b
RATIONALE:	If one affiliate purchases the outstanding bonds of another affiliate for less than book value, the bonds are effectively retired which would result in a gain on the consolidated income statement. If the bonds are purchased for more than book value, a loss would result.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-2

8. On an income distribution schedule, any gain or loss resulting from intercompany bonds is charged to

	a.	the issuer of the bonds.
	b.	the purchaser of the bonds.
	c.	allocation between the issuer and the purchaser.
	d.	none of the above

ANSWER:	a
RATIONALE:	When one affiliate purchases another affiliate’s bonds from outside parties, the purchaser is viewed as an agent of the issuing affiliate, so the issuing affiliate bears the gain or loss.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-2

9. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 8%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 9% effective interest rate. How should this event be reflected in the current year’s consolidated statements?

	a.	The bonds remain in the balance sheet and are accounted for at a 7% effective rate.
	b.	The bonds remain in the balance sheet and are accounted for at a 9% effective rate.
	c.	Retirement of the bonds at a gain as of the purchase date.
	d.	Retirement of the bonds at a loss as of the purchase date.

ANSWER:	c
RATIONALE:	Bonds having a stated rate of 8% that were sold to yield 7% would be recorded at a premium on Company S books. If Company P purchased the debt at a price that reflected a current effective interest rate of 9%, it is likely that Company P would be paying less than face value for those bonds. If Company P is paying less than face value for bonds that have been recorded at a premium, on a consolidated basis, the entity will retire the bonds and recognize a gain.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

10. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 6%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 9% effective interest rate. How should this event be reflected in the current year’s consolidated statements?

	a.	The bonds remain in the balance sheet and are accounted for at a 7% effective rate.
	b.	The bonds remain in the balance sheet and are accounted for at a 9% effective rate.
	c.	Retirement of the bonds at a gain as of the purchase date.
	d.	Retirement of the bonds at a loss as of the purchase date.

ANSWER:	c
RATIONALE:	Bonds having a stated rate of 6% that were sold to yield 7% would be recorded at a discount on Company S books. If Company P purchased the debt at a price that reflected a current effective interest rate of 9%, it is likely that Company P would be paying much less than face value for those bonds, and less than the recorded value, net of the discount. If Company P is paying less than the carrying value of the bonds net of the existing discount, on a consolidated basis, the entity will retire the bonds and recognize a gain.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

11. Company S is a 100%-owned subsidiary of Company P. Company S has outstanding 6%, 10-year bonds sold to yield 7%. On January 1 of the current year, Company P purchased all of the Company S outstanding bonds at a price that reflected the current 6% effective interest rate. How should this event be reflected in the current year’s consolidated statements?

	a.	The bonds remain in the balance sheet and are accounted for at a 7% effective rate.
	b.	The bonds remain in the balance sheet and are accounted for at a 9% effective rate.
	c.	Retirement of the bonds at a gain as of the purchase date.
	d.	Retirement of the bonds at a loss as of the purchase date.

ANSWER:	d
RATIONALE:	Bonds having a stated rate of 6% that were sold to yield 7% would be recorded at a discount on Company S books. If Company P purchased the debt at a price that reflected a current effective interest rate of 6%, it is likely that Company P would be paying more than book value for those bonds. If Company P is paying more than book value for bonds that have been recorded at a discount, on a consolidated basis, the entity will retire the bonds and recognize a loss.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

12. Company S is a 100%-owned subsidiary of Company P. On January 1, 2019, Company S has $200,000 of 8% face rate bonds outstanding, which were issued at face value. The bonds had 5 years to maturity on January 1, 2019. Premiums or discounts would be amortized on a straight-line basis. On that date, Company P purchased the bonds for $198,000. The amount on the consolidated balance sheet relative to the debt is:

	a.	bonds payable $200,000.
	b.	bonds payable $200,000, discount $2,000.
	c.	bonds payable $200,000, discount $1,600.
	d.	The bonds do not appear on the consolidated balance sheet.

ANSWER:	d
RATIONALE:	When Company P purchased its subsidiary’s bonds, it effectively retired those bonds on a consolidated basis; therefore, they will not appear on the consolidated balance sheet.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

13. Company S is a 100%-owned subsidiary of Company P. On January 1, 2016, Company S has $100,000 of 8% face rate bonds outstanding. The bonds had 5 years to maturity on January 1, 2016, and had an unamortized discount of $5,000. On that date, Company P purchased the bonds for $99,000. The net adjustment needed to consolidate retained earnings on December 31, 2016 is ____.

	a.	$(4,000)
	b.	$(3,200)
	c.	$(800)
	d.	$0

ANSWER:	d
RATIONALE:	No adjustment to retained earnings is necessary in the year intercompany bonds have been purchased.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

14. Sun Company is a 100%-owned subsidiary of Peter Company. On January 1, 2016, Sun Company has $500,000 of 8% face rate bonds outstanding, with an unamortized discount of $5,000 that is being amortized over a 5 year remaining life to maturity. On that date, Peter Company purchased the bonds for $497,000. The adjustment to the consolidated income of the two companies needed in the consolidation process for 2017 (the following year) is ____.

	a.	$2,800 increase
	b.	$400 decrease
	c.	$400 increase
	d.	$2,800 decrease

ANSWER:

RATIONALE:

Cash paid by Peter Company for bonds		$497,000
Net value of bonds:
Face value of bonds outstanding	$500,000
Less discount	(5,000)	495,000
Loss on retirement of bonds		$ 2,000

Increase to consolidated income for next 5 years ($2,000 / 5) resulting from elimination of intercompany interest income and expense.		$ 400

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

15. Company S is a 100%-owned subsidiary of Company P. Company P purchased, at a premium, Company S bonds that are outstanding and have a remaining discount. Consolidation theory takes the position that:

	a.	interest expense should be adjusted to reflect the market value of the bonds on the date of Company P’s purchase.
	b.	the debt has been retired at a loss.
	c.	the debt is outstanding but should be shown at face value.
	d.	the gain or loss on retirement should be allocated over the remaining life of the bonds.

ANSWER:

RATIONALE:

Whenever one company purchases the outstanding debt of an affiliate, it is treated as a retirement of debt for consolidated purposes. In this case, the retirement would be at a loss. Assume the following:

Cash paid by Company P for bonds		$105,000
Net value of bonds:
Face value of bonds outstanding	$100,000
Less discount	(5,000)	95,000
Loss on retirement of bonds		$ 10,000

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

16. Powell Company owns an 80% interest in Sauter, Inc. On January 1, 2016, Sauter issued $400,000 of 10-year, 12% bonds at a premium of $50,000. On December 31, 2021, 5 years after original issuance, Powell purchased all of the outstanding bonds for $390,000. Both firms use the straight-line method of amortization.

What is the gain on retirement on the 2021 consolidated income statement?

	a.	$12,500
	b.	$22,500
	c.	$10,000
	d.	$35,000

ANSWER:

RATIONALE:

Cash paid by Company P for bonds		$390,000
Net value of bonds:
Face value of bonds outstanding	$400,000
Add premium	25,000	425,000
Gain on retirement of bonds		$ 22,500

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

17. Company P owns 80% of Company S. On January 1, 2016 Company S has outstanding 6% bonds with a face value of $200,000 and an unamortized discount of $3,000, which is being amortized on a straight-line basis over a remaining term of 10 years. On January 1, 2016, Company P purchased all the bonds for $205,000. The premium also is amortized on a straight-line basis. The net impact of the purchase on the non-controlling interest as of December 31, 2016, is ____.

	a.	$(8,000)
	b.	$(1,600)
	c.	$(1,440)
	d.	$(1,200)

ANSWER:

RATIONALE:

Cash paid by Company P for bonds		$205,000
Net value of bonds:
Face value of bonds outstanding	$200,000
Less discount	(3,000)	197,000
Loss on retirement of bonds – January 1, 2016		8,000
Interest adjustment needed for 2016 ($8,000 / 10 years)		(800)
		$ 7,200

The impact on the NCI would be 20% of this amount of $1,440.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

18. Company S is a 100%-owned subsidiary of Company P. Company P purchased all the outstanding bonds of Company S at a discount. The bonds had a remaining issuance premium at the time of Company P’s purchase. The bonds have 5 years to maturity. At the end of 5 years, consolidated retained earnings:

	a.	is greater as a result of the purchase.
	b.	is less as a result of the purchase.
	c.	is not affected by the purchase.
	d.	cannot be determined from the information provided.

ANSWER:	c
RATIONALE:	At the end of five years, the bonds would have matured. The interest adjustments would be complete.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

19. Powell Company owns an 80% interest in Sauter, Inc. On January 1, 2016, Sauter issued $400,000 of 10-year, 12% bonds at a premium of $50,000. On December 31, 2021, 5 years after original issuance, Powell purchased all of the outstanding bonds for $390,000. Both firms use the straight-line method of amortization.

The interest adjustment in the 2021 subsidiary income distribution schedule is ____.

	a.	$2,000
	b.	$5,000
	c.	$4,500
	d.	$0

ANSWER:

RATIONALE:

Cash paid by Company P for bonds		$390,000
Net value of bonds:
Face value of bonds outstanding	$400,000
Add premium	25,000	425,000
Gain on retirement of bonds		$ 22,500

Interest adjustment for remaining life of bonds would be $4,500 ($22,500 / 5)

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

20. When one member of a consolidated group purchases only part of the outstanding bonds of another member of the group (for example, 80% of the bonds),

	a.	all bonds, and all the interest expense and interest revenue applicable to the bonds should be eliminated.
	b.	20% of the bonds, and 20% the interest expense and interest revenue applicable to the bonds should be eliminated.
	c.	80% of the bonds, and 80% the interest expense and interest revenue applicable to the bonds should be eliminated.
	d.	none of the bonds, and none of the interest expense and interest revenue applicable to the bonds should be eliminated.

ANSWER:	c
RATIONALE:	When one member of a consolidated group purchases a portion of the outstanding bonds of another member from outside parties, that portion of the bonds is effectively retired on a consolidated basis and a gain or loss is recognized in that year. All of the balances related to the bonds and interest revenue and expense relating to the portion of bonds purchased will be eliminated.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-2

21. Soap Company issued $200,000 of 8%, 5-year bonds on January 1, 2016. The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the outstanding bonds for $96,000. Both companies use the straight-line method of amortization.

How much bond interest expense will appear on the December 31, 2018, consolidated income statement?

	a.	$18,400
	b.	$16,000
	c.	$9,200
	d.	$8,000

ANSWER:

RATIONALE:

Amount of bonds outstanding with outside parties during year	$200,000
@ stated interest rate	x 8%
	16,000
Accretion of applicable discount ($12,000 /5)	2,400
	$ 18,400

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

22. Soap Company issued $200,000 of 8%, 5-year bonds on January 1, 2016. The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the outstanding bonds for $96,000. Both companies use the straight-line method of amortization.

How much interest expense will appear on the December 31, 2019, consolidated income statement?

	a.	$18,400
	b.	$16,000
	c.	$9,200
	d.	$8,000

ANSWER:

RATIONALE:

Amount of bonds still outstanding with outside parties ($200,000 x 1/2)	$100,000
@ stated interest rate	x 8%
	8,000
Accretion of applicable discount [($12,000 x 1/2)/5]	1,200
	$ 9,200

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

23. Soap Company issued $200,000 of 8%, 5-year bonds on January 1, 2016. The discount on issuance was $12,000. Bond interest is paid annually on December 31. On December 31, 2018, Pumice Company purchased one-half of the outstanding bonds for $96,000. Both companies use the straight-line method of amortization.

What amount of gain or loss from retirement of debt will be reported on the 2018 consolidated financial statements?

	a.	$1,600 gain
	b.	$1,600 loss
	c.	$1,200 gain
	d.	$1,200 loss

ANSWER:

RATIONALE:

Cash paid by Pumice for bonds		$96,000
Net value of bonds:
Face value of bonds outstanding ($200,000 x 1/2)	$100,000
Less discount ($12,000 x 1/2 x 2/5*)	(2,400)	97,600
Gain on retirement of bonds		$ 1,600

* 2 years of 5 have passed

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

24. The purchase of outstanding subsidiary bonds by the parent company has the same impact on consolidated statements as:

	a.	the subsidiary retiring its own debt with the proceeds of new debt issued to outside parties.
	b.	the subsidiary retiring the debt with the proceeds of a loan from the parent.
	c.	the subsidiary retiring the debt with the proceeds of a new stock issue.
	d.	allowing the bonds to continue to be held by outside interests.

ANSWER:	b
RATIONALE:	The purchase of outstanding subsidiary bonds by the parent company has the same impact on consolidated statements as the subsidiary retiring the debt with proceeds of a loan from the parent as intercompany debt would be eliminated in both cases. This is not true of the other options.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-2

25. Leasing subsidiaries are formed to achieve centralized asset management through leasing to affiliated firms, and when they are consolidated with the parent, they are consolidated

	a.	only if the parent controls at least 20% of the leasing subsidiary.
	b.	only if the parent controls at least 50% of the leasing subsidiary.
	c.	only if the parent controls at least 90% of the leasing subsidiary.
	d.	regardless of the ownership percentage of the parent.

ANSWER:	d
RATIONALE:	When leasing subsidiaries exist to lease assets to affiliated companies, they are automatically consolidated with the parent regardless of the ownership percentage of the parent.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-3

26. The effect of an operating lease on the income distribution schedule:

	a.	is non-existent.
	b.	affects only the lessee’s income.
	c.	affects only the lessor’s income.
	d.	affects the amount of income or distribution of income between the non-controlling and controlling interests.

ANSWER:	a
RATIONALE:	An operating lease will not have an impact on the amount of income or the income distribution schedule since the amount of rental income and expense eliminated would be the same.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-4

27. Lease terms can be considered to be “significantly affected”:

	a.	when the terms are the same for affiliated firms as for independent firms.
	b.	when the terms could not reasonably be expected to occur between independent firms.
	c.	only if the lease is an operating lease to the lessee and lessor.
	d.	only if the lease is a direct-financing lease to the lessee and lessor.

ANSWER:	b
RATIONALE:	Lease terms would be considered significantly affected when they could not be reasonably expected to occur between independent parties. Examples include rental rates well below market or unusual lease terms. These instances are usually viewed as borrowing transactions.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-5

28. The parent company leased a machine to its subsidiary using a direct-financing lease that included a bargain purchase option. As a result of the intercompany lease, the following items should be eliminated in the consolidation process:

Depreciation

Machine Debt Interest Expense

	a.	Yes Yes Yes Yes
	b.	Yes Yes Yes No
	c.	Yes No No No
	d.	No Yes Yes No

ANSWER:	d
RATIONALE:	The impact of a direct-financing lease transaction between a parent and its subsidiary on the consolidated financial statements is that the consolidated entity has an asset that is being depreciated over its useful life. All intercompany debt and interest balances and transactions are eliminated.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-5

29. Park owns an 80% interest in the common stock of Stable Company. Park leased a machine to Stable under a 5-year, direct financing lease with a bargain purchase option. The lease term began January 1, 2019. The impact of the lease on the Non-controlling share of income for 2019:

	a.	is an increase.
	b.	is a decrease.
	c.	is zero.
	d.	cannot be determined from the information given.

ANSWER:	c
RATIONALE:	Because a direct-financing lease has no impact on consolidated net income, there is no impact on the NCI.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-5

30. Phil Company leased a machine to its 100%-owned subsidiary, Scout Company. The direct financing lease required annual lease payments in advance of $2,319 for 5 years. The present value of the minimum lease payments at 8% interest is $10,000. The adjustment needed to arrive at consolidated net income for the first year after the lease is ____.

	a.	$0
	b.	$800
	c.	$2,319
	d.	$10,000

ANSWER:	a
RATIONALE:	The parent’s interest income of $2,319 would be eliminated against the subsidiary’s interest expense of $2,319, so there would be no impact on consolidated net income.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-5

31. Phil Company leased a machine to its 100%-owned subsidiary, Scout Company. The direct financing lease required annual lease payments in advance of $2,319 for 5 years. The present value of the minimum lease payments at 8% interest is $10,000. The adjustment of assets and liabilities needed to prepare a consolidated balance sheet is to eliminate the:

	a.	asset leased.
	b.	asset leased and the obligation under the capital lease.
	c.	obligation under the capital lease and the present value of the minimum lease payments.
	d.	obligation under the capital lease.

ANSWER:	c
RATIONALE:	On a consolidated basis, the asset being leased is treated as property, plant and equipment and is depreciated over its useful life. All balances relating to the financing part of the lease including the obligation under the capital lease, interest payable, the minimum lease payments receivable and the unearned interest income are eliminated.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-5

32. Under a sales-type lease between affiliated companies, how does the lessor treat the intercompany profit at the inception of the lease?

	a.	It is recognized at the inception of the lease.
	b.	It is deferred and amortized over the lessee’s period of usage.
	c.	It is deferred and recognized at the end of the lease term.
	d.	There is no profit at the inception of the lease.

ANSWER:	b
RATIONALE:	Under a sales-type lease between affiliated companies, the lessor defers any intercompany profit and recognizes it over the lessee’s period of usage as a depreciation adjustment.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-6

33. Consolidation procedures for sales-type leases:

	a.	allow for the recognition of the profit or loss from the lease by the lessee at the inception of the lease.
	b.	allow for the recognition of the profit or loss from the lease by the lessor at the inception of the lease.
	c.	defer the profit or loss and then amortize it over the lessee’s period of usage.
	d.	defer the profit or loss and then amortize it over the lessor’s period of usage.

ANSWER:	c
RATIONALE:	Consolidation procedures for sales-type leases defer the profit or loss and then amortize it over the lessee’s period of usage.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-6

34. Which of the following statements is true?

	a.	No adjustments are made in the income distribution schedule as a result of operating, direct-financing, and sales-type leases.
	b.	No adjustments are made in the income distribution schedule as a result of operating and direct-financing leases.
	c.	No adjustments are made in the income distribution schedule as a result of operating and sales-type leases.
	d.	No adjustments are made in the income distribution schedule as a result of direct-financing and sales-type leases.

ANSWER:	b
RATIONALE:	No adjustments are made in the income distribution schedule as a result of operating and direct- financing leases as the elimination of these transactions have no impact on consolidated net income. However, the profit or loss resulting from a sales-type lease will be deferred on a consolidated basis in the period of sale and recognized in subsequent periods through a depreciation adjustment. These will impact the income distribution schedule.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-4 ADAC.FISC.5-5 ADAC.FISC.5-6

35. Which of the following statements is true?

	a.	No elimination entries are required on a worksheet as a result of operating, direct-financing, and sales-type leases.
	b.	No elimination entries are required on a worksheet as a result of direct-financing and sales-type leases.
	c.	No elimination entries are required on a worksheet as a result of operating leases.
	d.	All the preceding are false.

ANSWER:	d
RATIONALE:	All intercompany balances relating to intercompany lease transactions will be eliminated in consolidation, regardless of the type of lease.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-4 ADAC.FISC.5-5 ADAC.FISC.5-6

36. When there is an unguaranteed residual value for the lessor in a direct-financing lease, this means:

	a.	the total payments to be received by the lessor will come from the lessee.
	b.	the total payments to be received by the lessee will come from the lessor.
	c.	a portion of the total payments to be received by the lessor will come from parties outside the consolidated group.
	d.	a portion of the total payments to be received by the lessee will come from parties outside the consolidated group.

ANSWER:	c
RATIONALE:	When there is an unguaranteed residual value for the lessor in a direct-financing lease, this means that a portion of the total payments to be received by the lessor will come from parties outside the consolidated group through ultimate sale of the asset or another lease after the first has expired.
DIFFICULTY:	E
LEARNING OBJECTIVES:	ADAC.FISC.5-7

37. What is recorded by the lessee and the lessor when an intercompany lease contains an unguaranteed residual value?

Lessee Lessor

	a.	Present value of minimum lease Present value of minimum lease payments payments and the unguaranteed residual value
	b.	Minimum lease payments payable Minimum lease payments receivable and the unguaranteed residual value
	c.	Minimum lease payments payable Present value of minimum lease payments
	d.	Present value of minimum lease Minimum lease payments receivable and payments the unguaranteed residual value

ANSWER:	d
RATIONALE:	When an intercompany lease contains an unguaranteed residual value, the lessee records the present value of the minimum lease payments as its obligation. The lessor will record the sum of its minimum lease payments receivable and the unguaranteed residual value, as well as a contra account, unearned interest income that reduces the gross investment to the market value of the asset at the inception of the lease.
DIFFICULTY:	M
LEARNING OBJECTIVES:	ADAC.FISC.5-7

38. To eliminate intercompany bonds and interest expense of consolidated companies, Company P (Parent) and Company S (Subsidiary) which of the following is correct?

	a.	Debit Interest Expense and credit Interest Income and credit Bonds Payable and debit Investment in Company S
	b.	Credit Interest Expense and debit Interest Income and credit Bonds Payable and debit Investment in Company S
	c.	Debit Interest Income and credit Interest Expense and debit any related Loss on Bond Retirement, if any, and debit Bonds Payable and credit Investment in Company S Bonds
	d.	Debit Subsidiary Income and credit Investment in Company S Stock

ANSWER:	c
DIFFICULTY:	MED
LEARNING OBJECTIVES:	ADAC.FISC.5-2

39. When a parent buys subsidiary bonds:

	a.	The bonds become new investments/assets from a consolidated viewpoint and no elimination is necessary.
	b.	The bonds become new investments/assets but the parent company may not retire subsidiary bonds by lending money.
	c.	Intercompany interest expense/revenue and accrued interest receivable/payable are not eliminated as the new investments to the parent company and the new debt to the subsidiary company needs to be separately shown when consolidation occurs.
	d.	The bonds are retired when consolidation occurs by elimination and in periods after the purchase need to be eliminated and retained earnings adjustment for any retirement gain or loss that has not been amortized.

ANSWER:	d
DIFFICULTY:	EA
LEARNING OBJECTIVES:	ADAC.FISC.5-2

Subjective Short Answer

40. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners’ equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope accounts for its investment in Siegel using the simple equity method.

On July 1, 2016, Siegel Company sold to outside investors $300,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1.

During early 2019, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On July 1, 2019, Pope purchased $150,000 par value of Siegel’s bonds, paying $163,000. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the straight-line method.

Required:

Complete the Figure 5-1 worksheet for consolidated financial statements for the year ended December 31, 2019. Round all computations to the nearest dollar.

Figure 5-1
	Trial Balance		Eliminations and
	Pope	Siegel	Adjustments
Account Titles	Company	Company	Debit	Credit
Interest Receivable	7,500
Other Current Assets	157,212	371,000
Investment in Sub. Company	410,000


Investment in Sub. Bonds	162,278

Land	50,000	30,000
Buildings and Equipment	350,000	380,000
Rent Receivable	(100,000)	(50,000)
Goodwill

Interest Payable		(15,000)
Other Current Liabilities	(120,000)	(56,000)
Bonds Payable, 10%		(300,000)

Other Long-Term Liabilities	(200,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(280,212)

Common Stock – S Co.		(50,000)
Other Paid-in Capital – S Co.		(70,000)
Retained Earnings – S Co.		(180,000)

Net Sales	(500,000)	(400,000)
Cost of Goods Sold	300,000	240,000
Operating Expenses	100,000	50,000
Interest Expense		30,000
Interest Income	(6,778)
Subsidiary Income	(80,000)
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		20,000
Loss on Retirement of Bonds

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Interest Receivable
Other Current Assets
Investment in Sub. Company


Investment in Sub. Bonds

Land
Buildings and Equipment
Rent Receivable
Goodwill

Interest Payable
Other Current Liabilities
Bonds Payable, 10%

Other Long-Term Liabilities
Common Stock – P Co.
Other Paid-in Capital – P Co.
Retained Earnings – P Co.

Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.

Net Sales
Cost of Goods Sold
Operating Expenses
Interest Expense
Interest Income
Subsidiary Income
Dividends Declared – P Co.
Dividends Declared – S Co.
Loss on Retirement of Bonds

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31

ANSWER:

For the worksheet solution, please refer to Answer 5-1.

Answer 5-1
	Trial Balance		Eliminations and
	Pope	Siegel	Adjustments
Account Titles	Company	Company	Debit		Credit
Interest Receivable	7,500				(B1)	7,500
Other Current Assets	157,212	371,000
Investment in Sub. Company	410,000				(CY)	60,000
					(EL)	300,000
					(D)	50,000
Investment in Sub. Bonds	162,278				(B2)	162,278

Land	50,000	30,000
Buildings and Equipment	350,000	380,000
Accumulated depreciation	(100,000)	(50,000)
Goodwill			(D)	50,000

Interest Payable		(15,000)	(B1)	7,500
Other Current Liabilities	(120,000)	(56,000)
Bonds Payable, 10%		(300,000)	(B2)	150,000

Other Long-Term Liabilities	(200,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(280,212)

Common Stock – S Co.		(50,000)	(EL)	50,000
Other Paid-in Capital – S Co.		(70,000)	(EL)	70,000
Retained Earnings – S Co.		(180,000)	(EL)	180,000

Net Sales	(500,000)	(400,000)
Cost of Goods Sold	300,000	240,000
Operating Expenses	100,000	50,000
Interest Expense		30,000			(B2)	7,500
Interest Income	(6,778)		(B2)	6,778
Subsidiary Income	(80,000)		(CY)	80,000
Dividends declared – P Co.	50,000
Dividends declared – S Co.		20,000			(CY)	20,000
Loss on Retirement of Bonds			(B2)	13,000

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0		607,278		607,278
(continued)

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Interest Receivable				0
Other Current Assets				528,212
Investment in Sub. Company				0


Investment in Sub. Bonds				0

Land				80,000
Buildings and Equipment				730,000
Accumulated depreciation				(150,000)
Goodwill				50,000

Interest Payable				(7,500)
Other Current Liabilities				(176,000)
Bonds Payable, 10%				(150,000)

Other Long-Term Liabilities				(200,000)
Common Stock – P Co.				(200,000)
Other Paid-in Capital – P Co.				(100,000)
Retained Earnings – P Co.			(280,212)

Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.

Net Sales	(900,000)
Cost of Goods Sold	540,000
Operating Expenses	150,000
Interest Expense	22,500
Interest Income	0
Subsidiary Income	0
Dividends declared – P Co.			50,000
Dividends declared – S Co.
Loss on Retirement of Bonds	13,000

Consolidated Net Income	(174,500)
To NCI	0
To Controlling Interest	174,500		(174,500)
Total NCI				0
Ret. Earn. Contr. Int. 12-31			(404,712)	(404,712)
				0

Eliminations and Adjustments:

(CY)	Eliminate the current-year entries made in the investment account and in the Siegel income account.

(EL)	Eliminate the Siegel Company equity balances at the beginning of the year against the investment account.

(D)	Distribute the $50,000 excess of cost over book value to goodwill. ($300,000 – $250,000)

(B1)	Eliminate $7,500 of intercompany interest receivable and payable. ($150,000 x 10% / 2)

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

straight-line amortization; consolidation in year bonds are purchased

41. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners’ equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope accounts for its investment in Siegel using the simple equity method.

Also on July 1, 2016, Siegel Company sold to outside investors $200,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1.

During early 2019, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On July 1, 2019, Pope purchased $100,000 par value of Siegel’s bonds, paying $112,695. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the effective-interest method which has resulted in interest income of $4,508 and a balance in the Investment in Subsidiary Bonds account of $112,203.

Required:

Prepare the eliminating entries pertaining to the intercompany purchase of the bonds for the year ended December 31, 2019.

ANSWER:

(B1)	Interest payable	5,000
	Interest receivable		5,000
	Eliminate $5,000 ($100,000 x 10% / 2) of intercompany interest receivable and payable. (payment date January 1)

(B2)	Interest income – Parent	4,508
	Interest expense – Subsidiary		5,000
	Eliminate all of the intercompany interest income and one-half of the interest expense for the last one-half of the year.

	Bonds payable – Subsidiary	100,000
	Investment in Subsidiary bonds		112,203
	Eliminate the balance in investment in bonds against one-half of the bonds payable.

	Loss on retirement of bonds	12,695
	The resulting loss is $12,695 ($112,695 purchase price of bonds less $100,000 carrying value).

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

effective-interest amortization; consolidation in year bonds are purchased

42. On January 1, 2016, Pope Company acquired 100% of the common stock of Siegel Company for $300,000. On this date Siegel had total owners’ equity of $250,000. Any excess of cost over book value is attributable to goodwill. Pope accounts for its Investment in Siegel using the simple equity method.

On January 1, 2016, Siegel Company sold to outside investors $300,000 par value of 10-year, 10% bonds. The price received was equal to par. The bonds pay interest semi-annually on July 1 and January 1.

During 2016, market interest rates on bonds similar to those issued by Siegel decreased to 8%. As a result, the market value of the bonds increased. On December 31, 2016, Pope purchased $150,000 par value of Siegel’s bonds, paying $163,000. Pope still holds the bonds on December 31, 2019 and has amortized the premium, using the straight-line method.

Required:

Prepare the eliminating entries pertaining to the intercompany purchase of bonds outstanding for the year ended December 31, 2019.

ANSWER:

Eliminations and Adjustments:

(B1)	Interest payable	7,500
	Interest receivable		7,500
	Eliminate $7,500 ($150,000 x 10% / 2) of intercompany interest receivable and payable. (payment date January 1)

(B2)	Interest income – Parent	13,556
	Interest expense – Subsidiary		15,000
	Eliminate all of the intercompany interest income ($15,000 – 1,444*) and one-half of the interest expense for the last one-half of the year.

	Bonds payable – Subsidiary	150,000
	Investment in Subsidiary bonds		161,556
	Eliminate the balance in investment in bonds ($163,000 – $1,444*) against one-half of the bonds payable.

	Retained earnings	13,000
	The resulting loss is $13,000 ($163,000 purchase price of bonds less $150,000 carrying value). Since the loss occurred in 2016, it is debited to retained earnings.

*Annual adjustment to interest = $1,444 ($13,000 / 9).

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

straight-line amortization; consolidation in year after bonds were purchased

43. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $450,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000, respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the cost method.

On January 1, 2019, Subsidiary sold $100,000 par value of 6%, ten-year bonds for $97,000. The bonds pay interest semi-annually on January 1 and July 1 of each year.

On January 1, 2021, Parent repurchased all of Subsidiary’s bonds for $96,400. The bonds are still held on December 31, 2021.

Both companies have correctly recorded all entries relative to bonds and interest, using straight-line amortization for premium or discount.

Required:

Complete the Figure 5-4 worksheet for consolidated financial statements for the year ended of December 31, 2021. Round all computations to the nearest dollar.

Figure 5-4
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Interest Receivable	3,000
Other Current Assets	214,400	340,500
Investment in Sub. Company	450,000


Investment in Sub. Bonds	96,800

Land	100,000	50,000
Buildings and Equipment	400,000	290,000
Rent Receivable	(150,000)	(70,000)
Goodwill

Interest Payable		(3,000)
Other Current Liabilities	(114,000)	(70,000)
Bonds Payable, 6%		(100,000)
Discount on Bonds Payable		2,400
Other Long-Term Liabilities	(200,000)
Common Stock – P Co.	(50,000)
Other Paid-in Capital – P Co.	(250,000)
Retained Earnings – P Co.	(400,000)

Common Stock – S Co.		(20,000)
Other Paid-in Capital – S Co.		(130,000)
Retained Earnings – S Co.		(250,000)

Net Sales	(630,000)	(360,000)
Cost of Goods Sold	350,000	210,000
Operating Expenses	163,200	73,800
Interest Expense		6,300
Interest Income	(6,400)
Dividend Income	(27,000)
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		30,000
Gain on Retirement of Bonds

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Interest Receivable
Other Current Assets
Investment in Sub. Company


Investment in Sub. Bonds

Land
Buildings and Equipment
Rent Receivable
Goodwill

Interest Payable
Other Current Liabilities
Bonds Payable, 6%
Discount on Bonds Payable
Other Long-Term Liabilities
Common Stock – P Co.
Other Paid-in Capital – P Co.
Retained Earnings – P Co.

Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.

Net Sales
Cost of Goods Sold
Operating Expenses
Interest Expense
Interest Income
Dividend Income
Dividends Declared – P Co.
Dividends Declared – S Co.
Gain on Retirement of Bonds

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31

ANSWER:

For the worksheet solution, please refer to Answer 5-4.

Answer 5-4
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Interest Receivable	3,000				(B1)	3,000
Other Current Assets	214,400	340,500
Investment in Sub. Company	450,000		(CV)	45,000	(EL)	360,000
					(D)	135,000

Investment in Sub. Bonds	96,800				(B2)	96,800

Land	100,000	50,000
Buildings and Equipment	400,000	290,000
Accumulated Depreciation	(150,000)	(70,000)
Goodwill			(D)	150,000

Interest Payable		(3,000)	(B1)	3,000
Other Current Liabilities	(114,000)	(70,000)
Bonds Payable, 6%		(100,000)	(B2)	100,000
Discount on Bonds Payable		2,400			(B2)	2,400
Other Long-Term Liabilities	(200,000)
Common Stock – P Co.	(50,000)
Other Paid-in Capital – P Co.	(250,000)
Retained Earnings – P Co.	(400,000)				(CV)	45,000

Common Stock – S Co.		(20,000)	(EL)	18,000
Other Paid-in Capital – S Co.		(130,000)	(EL)	117,000
Retained Earnings – S Co.		(250,000)	(EL)	225,000	(D)	15,000

Net Sales	(630,000)	(360,000)
Cost of Goods Sold	350,000	210,000
Operating Expenses	163,200	73,800
Interest Expense		6,300			(B2)	6,300
Interest Income	(6,400)		(B2)	6,400
Dividend Income	(27,000)		(CY)	27,000
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		30,000			(CY)	27,000
Gain on Retirement of Bonds					(B2)	900

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0		691,400		691,400

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Interest Receivable				0
Other Current Assets				554,900
Investment in Sub. Company				0


Investment in Sub. Bonds				0

Land				150,000
Buildings and Equipment				690,000
Accumulated Depreciation				(220,000)
Goodwill				150,000

Interest Payable				0
Other Current Liabilities				(184,000)
Bonds Payable, 6%				0
Discount on Bonds Payable				0
Other Long-Term Liabilities				(200,000)
Common Stock – P Co.				(50,000)
Other Paid-in Capital – P Co.				(250,000)
Retained Earnings – P Co.			(445,000)

Common Stock – S Co.		(2,000)
Other Paid-in Capital – S Co.		(13,000)
Retained Earnings – S Co.		(40,000)

Net Sales	(990,000)
Cost of Goods Sold	560,000
Operating Expenses	237,000
Interest Expense	0
Interest Income	0
Dividend Income	0
Dividends Declared – P Co.			50,000
Dividends Declared – S Co.		3,000
Gain on Retirement of Bonds	(900)

Consolidated Net Income	(193,900)
To NCI	7,070	(7,070)
To Controlling Interest	186,830		(186,830)
Total NCI		(59,070)		(59,070)
Ret. Earn. Contr. Int. 12-31			581,830	(581,830)
				0

Determination and Distribution of Excess Schedule:

	Company Fair Value	Parent Price (90%)	NCI Value (10%)
Fair value of subsidiary	$500,000	$450,000	$ 50,000
Less book value of interest acquired:
Common stock	20,000
Paid-in capital in excess of par	130,000
Retained earnings	200,000
	350,000	350,000	350,000
Interest acquired		90%	10%
Book value		315,000	35,000
Excess of fair value over book value	$150,000	$135,000	$ 15,000

All assigned to goodwill	$150,000

Eliminations and Adjustments:

(CV)	Convert to simple equity method as of January 1, 2021 (90% of $50,000 increase in Sub’s retained earnings from January 1, 2019 to January 1, 2021).

(CY)	Eliminate Parent’s dividend income against dividends declared by Subsidiary.

(EL)	Eliminate 90% of the Subsidiary Company equity balances at the beginning of the year against the investment account.

(D)	Distribute the $150,000 excess of cost over book value to goodwill; allocate to Parent and NCI.

(B1)	Eliminate $3,000 of intercompany interest receivable and payable. ($100,000 x 6% x 1/2)

(B2)	Eliminate all of the intercompany interest income and expense. Eliminate the balances in investment in bonds, bonds payable, and discount on bonds payable. The resulting gain of $900 is the gain as of beginning of year: on January 1, 2021 $97,300* carrying value of bonds less $96,400 purchase price.

*Bond purchase amount was $97,000 + $300 amortization of discount ($3,000 / 10).

Subsidiary Company Income Distribution Schedule
Interest adjustment	100	Internally generated net income	69,900
		Gain on retirement	900
		Adjusted income	70,700
		NCI Share	10%
		NCI	7,070

Parent Company Income Distribution Schedule
		Internally generated net income	123,200
		90% × Sub’s adjusted income	63,630
		Controlling interest	186,830

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

cost method; straight-line amortization; consolidation in year bonds are purchased

44. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000, respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the simple equity method.

On January 1, 2019, Subsidiary sold $100,000 par value of 6%, ten-year bonds for $97,000. The bonds pay interest semi-annually on January 1 and July 1 of each year.

On January 1, 2021, Parent repurchased all of Subsidiary’s bonds for $96,400. The bonds are still held on December 31, 2021.

Both companies have correctly recorded all entries relative to bonds and interest, using straight-line amortization for premium or discount.

Required:

Prepare the eliminating entries pertaining to the intercompany purchase of bonds for the year ended December 31, 2021.

ANSWER:

Eliminations and Adjustments:

(B1)	Interest payable	(1) 3,000
	Interest receivable		3,000
	Eliminate intercompany interest receivable and payable. (payment date January 1)

(B2)	Interest income – Parent	(2) 6,400
	Interest expense – Subsidiary		(3) 6,300
	Eliminate all of the intercompany interest income and expense for the year.

	Bonds payable – Subsidiary	100,000
	Discount on bonds payable		(4) 2,400
	Investment in Subsidiary bonds		(5) 96,800
	Eliminate the balance in investment in bonds against one-half of the bonds payable.

	Gain on retirement of bonds		(6) 900
	The resulting gain is $900 ($97,300 carrying value of bonds less $96,400 purchase price).

(1) $100,000 x 6% x 1/2 = $3,000

(2) Discount on parent purchase $100,000 – $96,400 = 3,600 / 9 = $400 amortization of discount. Interest income = $6,400 (6,000 + 400)

(3) Original bond discount = $3,000 ($100,000 – 97,000); amortization of discount is $300 per year ($3,000 / 10). Interest expense = $6,300 (6,000 + 300)

(4) $3,000 – ($300 x 2 years) = 2,400

(5) $96,400 + 400 = 96,800

(6) Gain is $900 ($97,000 + 300) carrying value of bonds less $96,400 purchase price

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

straight-line amortization; consolidation in year bonds were purchased

45. On January 1, 2019, Parent Company purchased 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $20,000, $130,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent account for the Investment in Subsidiary using the simple equity method.

On July 1, 2019, Subsidiary sold $100,000 par value of 9%, ten-year bonds for $106,755, which resulted in an effective interest rate of 8%. The bonds pay interest semi-annually on January 1 and July 1 of each year. Subsidiary uses the effective-interest method of amortizing the premium.

An amortization table for 2019 and 2021 is presented below:

Date	Cash Int	Interest Exp	Premium Amort	Premium Bal	Carrying Value
7/1/19				6,755	106,755
12/31/19	4,500	4,270	230	6,525	106,525
7/1/21	4,500	4,261	239	6,286	106,286
12/31/21	4,500	4,251	249	6,037	106,037

On July 1, 2021, Parent repurchased all of Par’s bonds for $94,153, which resulted in an effective interest rate of 10%. The bonds are still held at year end.

Both companies have correctly recorded all entries relative to bonds and interest. The balance in the Investment in Subsidiary Bonds account is $94,361 at December 31, 2021, and the parent recognized interest income of $4,708 during the period.

Required:

Prepare the eliminating entries pertaining to the intercompany purchase of bonds for the year ending December 31, 2021.

ANSWER:

Eliminations and Adjustments:

(B1)	Interest payable	(1) 4,500
	Interest receivable		4,500
	Eliminate intercompany interest receivable and payable. (payment date January 1)

(B2)	Interest income – Parent	4,708
	Interest expense – Subsidiary		4,251
	Eliminate all of the intercompany interest income and expense for the year.

	Bonds payable – Subsidiary	100,000
	Premium on bond payable	6,037
	Investment in Subsidiary bonds		94,361
	Eliminate the balance in investment in bonds against one-half of the bonds payable.

	Gain on retirement of bonds		(2) 12,133
	To recognize the gain on the retirement of the bonds

(1) $100,000 x 9% x 1/2 = $4,500

(2) $106,286 carrying value of bonds less $94,153 purchase price

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

NOTES:

effective-interest method; consolidation in year of bond purchase which occurred July 1

46. On January 1, 2016, Parent Company purchased 80% of the common stock of Subsidiary Company for $402,000. On this date Subsidiary had total owners’ equity of $440,000. Any excess of cost over book value is due to goodwill. Parent accounts for its investment in Subsidiary using the simple equity method.

On January 1, 2016, Parent held merchandise acquired from Subsidiary for $50,000. During 2016, Subsidiary sold merchandise to Parent for $120,000, of which Parent holds $30,000 on December 31, 2016. Subsidiary’s gross profit on sales is 40%. On December 31, 2016, Parent still owes Subsidiary $5,000 for merchandise.

On December 31, 2016, Parent sold $100,000 par value of 11%, 10-year bonds for $106,232, which resulted in an effective interest rate of 10%. The bonds pay interest semi-annually on June 30 and December 31. Parent uses the effective-interest method of amortization for the premium.

An amortization table for 2017 and 2016 is presented below:

	Cash Interest	Interest Expense	Premium Amortization	Premium Balance	Debt Carrying Value
12/31/16				6,232	106,232
6/30/17	5,500	5,312	(188)	6,044	106,044
12/31/17	5,500	5,302	(198)	5,846	105,846
6/30/16	5,500	5,292	(208)	5,638	105,638
12/31/16	5,500	5,282	(218)	5,420	105,420

On December 31, 2017, Subsidiary repurchased $50,000 par value of the bonds, paying a price equal to par. The bonds are still held on December 31, 2016.

On December 31, 2016, Parent sold equipment with a cost of $50,000 and accumulated depreciation of $30,000 to Subsidiary for $40,000. Subsidiary will use the equipment beginning in 2019.

Required:

Complete the Figure 5-7 worksheet for consolidated financial statements for the year ended December 31, 2016. Round all computations to the nearest dollar.

Figure 5-7
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Inventory, December 31	120,000	60,000
Other Current Assets	399,620	325,000
Investment in Sub. Company	550,000


Investment in Parent Bonds		50,000
Land	140,000	100,000
Buildings and Equipment	325,000	440,000
Accumulated Depreciation	(120,000)	(130,000)

Goodwill

Current Liabilities	(160,000)	(80,000)
Bonds Payable, 10%	(100,000)
Premium on Bonds Payable	(5,420)
Other Long-Term Liabilities	(200,000)	(140,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(489,200)


Common Stock – S Co.		(100,000)
Other Paid-in Capital – S Co.		(200,000)
Retained Earnings – S Co.		(250,000)


Net Sales	(590,000)	(520,000)
Cost of Goods Sold	355,000	310,000

Operating Expenses	114,426	115,500
Interest Income		(5,500)
Interest Expense	10,574
Subsidiary Income	(80,000)
Gain on Sale of Equipment	(20,000)
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		25,000

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Inventory, December 31
Other Current Assets
Investment in Sub. Company


Investment in Parent Bonds
Land
Buildings and Equipment
Accumulated Depreciation

Goodwill

Current Liabilities
Bonds Payable, 10%
Premium on Bonds Payable
Other Long-Term Liabilities
Common Stock – P Co.
Other Paid-in Capital – P Co.
Retained Earnings – P Co.


Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.


Net Sales
Cost of Goods Sold

Operating Expenses
Interest Income
Interest Expense
Subsidiary Income
Gain on Sale of Equipment
Dividends Declared – P Co.
Dividends Declared – S Co.

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31

ANSWER:

For the worksheet solution, please refer to Answer 5-7.

Answer 5-7
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Inventory, December 31	120,000	60,000			(EI)	12,000
Other Current Assets	399,620	325,000			(IA)	5,000
Investment in Sub. Company	550,000				(CY)	60,000
					(EL)	440,000
					(D)	50,000
Investment in Parent Bonds		50,000			(B)	50,000
Land	140,000	100,000
Buildings and Equipment	325,000	440,000	(F)	10,000
Accumulated Depreciation	(120,000)	(130,000)			(F)	30,000

Goodwill			(D)	62,500

Current Liabilities	(160,000)	(80,000)	(IA)	5,000
Bonds Payable, 10%	(100,000)		(B)	50,000
Premium on Bonds Payable	(5,420)		(B)	2,710
Other Long-Term Liabilities	(200,000)	(140,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(489,200)		(BI)	16,000	(B)	2,923


Common Stock – S Co.		(100,000)	(EL)	80,000
Other Paid-in Capital – S Co.		(200,000)	(EL)	160,000
Retained Earnings – S Co.		(250,000)	(EL)	200,000	(D)	12,500
			(BI)	4,000

Net Sales	(590,000)	(520,000)	(IS)	120,000
Cost of Goods Sold	355,000	310,000	(EI)	12,000	(BI)	20,000
					(IS)	120,000
Operating Expenses	114,426	115,500
Interest Income		(5,500)	(B)	5,500
Interest Expense	10,574				(B)	5,287
Subsidiary Income	(80,000)		(CY)	80,000
Gain on Sale of Equipment	(20,000)		(F)	20,000
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		25,000			(CY)	20,000

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0		827,710		827,710

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Inventory, December 31				168,000
Other Current Assets				719,620
Investment in Sub. Company				0


Investment in Parent Bonds				0
Land				240,000
Buildings and Equipment				775,000
Accumulated Depreciation				(280,000)

Goodwill				62,500

Current Liabilities				(235,000)
Bonds Payable, 10%				(50,000)
Premium on Bonds Payable				(2,710)
Other Long-Term Liabilities				(340,000)
Common Stock – P Co.				(200,000)
Other Paid-in Capital – P Co.				(100,000)
Retained Earnings – P Co.			(476,123)


Common Stock – S Co.		(20,000)
Other Paid-in Capital – S Co.		(40,000)
Retained Earnings – S Co.		(58,500)


Net Sales	(990,000)
Cost of Goods Sold	537,000

Operating Expenses	229,926
Interest Income	0
Interest Expense	5,287
Subsidiary Income	0
Gain on Sale of Equipment	0
Dividends Declared – P Co.			50,000
Dividends Declared – S Co.		5,000

Consolidated Net Income	(217,787)
To NCI	21,600	(21,600)
To Controlling Interest	196,187		(196,187)
Total NCI		(135,100)		(135,100)
Ret. Earn. Contr. Int. 12-31			(622,310)	(622,310)
				0

Determination and Distribution of Excess Schedule:

	Company Fair Value	Parent Price (80%)	NCI Value (20%)
Fair value of subsidiary	$502,500	$402,000	$ 100,500
Less book value of interest acquired:
Total owners’ equity	440,000	440,000	440,000
Interest acquired		80%	20%
Book value		352,000	88,000
Excess of fair value over book value	$ 62,500	$ 50,000	$ 12,500

All assigned to goodwill	$ 62,500

Eliminations and Adjustments:

(CY)	Eliminate the current-year entries made in the investment account and in the subsidiary income account; eliminate intercompany dividends.

(EL)	Eliminate 80% of the Subsidiary Company equity balances at the beginning of the year against the investment account.

(D)	Distribute the $62,500 excess of cost over book value to goodwill; allocate to Parent and Noncontrolling Interest.

(BI)	Eliminate the $20,000 ($50,000 x 40%) of gross profit in the beginning inventory.

(IS)	Eliminate the entire intercompany sales of $120,000.

(EI)	Eliminate the $12,000 ($30,000 x 40%) of gross profit in the ending inventory.

(IA)	Eliminate the $5,000 intercompany accounts receivable and payable.

(B)	Eliminate the interest income and the investment in bonds. Eliminate one-half of the bonds payable, premium on bonds, and interest expense. The gain to Parent of $2,923 is credited to retained earnings since it occurred in 2017.

(F)	Eliminate the gain on sale of equipment ($40,000 – $20,000 Net book value), restore the old accumulated depreciation of $30,000, and increase the equipment by $10,000 to restore its original historical cost of $50,000.

Subsidiary Company Income Distribution Schedule
Deferred profit in ending inventory	12,000	Internally generated net income	100,000
		Realized profit in beginning inventory	20,000
		Adjusted income	108,000
		NCI Share	20%
		NCI	21,600

Parent Company Income Distribution Schedule
Defer gain on sale	20,000	Internally generated net income	130,000
Amortize gain on debt retirement	213
		80% × Sub’s adjusted income	86,400
		Controlling interest	196,187

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

47. Smart Corporation is a 90%-owned subsidiary of Phan Inc. On January 2, 2016, Smart agreed to lease $400,000 of construction equipment from Phan for $3,000 a month on an operating lease. The equipment has a 10-year life and is being depreciated using the straight-line method.

Required:

Prepare the eliminations and adjustments required by the intercompany lease on the Figure 5-8 partial worksheet for December 31, 2016. Key and explain all eliminations and adjustments.

Figure 5-8
Phan Inc. and Smart Corp.
Consolidated Partial Worksheet
For the Year Ended December 31, 2016

			Eliminations and
	Trial Balance		Adjustments
	Phan	Smart	Debit Debit	Credit
Equipment	987,000	40,000
Accumulated Depreciation – Equipment	(212,500)	(8,000)
Equipment Under Operating Lease	400,000
Accumulated Depreciation -Equipment Under Operating Lease	(120,000)
Rent Receivable	3,000
Rent Payable		(3,000)
Rental Income	(50,000)
Rent Expense		36,000
Depreciation Expense	138,700	2,000

ANSWER:

For the worksheet solution, please refer to Answer 5-8.

Answer 5-8
Phan Inc. and Smart Corp.
Consolidated Partial Worksheet
For the Year Ended December 31, 2016

			Eliminations and
	Trial Balance		Adjustments
	Phan	Smart	Debit Debit		Credit
Equipment	987,000	40,000	(OL2)	400,000
Accumulated Depreciation – Equipment	(212,500)	(8,000)			(OL2)	120,000
Equipment Under Operating Lease	400,000				(OL2)	400,000
Accumulated Depreciation – Equipment Under Operating Lease	(120,000)		(OL2)	120,000
Rent Receivable	3,000				(OL1b)	3,000
Rent Payable		(3,000)	(OL1b)	3,000
Rental Income	(50,000)		(OL1a)	36,000
Rent Expense		36,000			(OL1a)	36,000
Depreciation Expense	138,700	2,000
				559,000		559,000

Eliminations and Adjustments:

(OL1a)	Eliminate intercompany rent expense/revenue of $3,000 per month.

(OL1b)	Eliminate one month’s accrued rent receivable and payable.

(OL2)	Reclassify asset under the intercompany operating lease and related accumulated depreciation.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-4

NOTES:

operating lease

48. Tempo Industries is an 80%-owned subsidiary of Dalie Inc. On January 1, 2017, Dalie leased an asset to Tempo and the following journal entries were made:

Tempo

Assets Under Capital Lease	21,561
Cash		5,000
Obligations Under Capital Lease		16,561

Dalie

Minimum Lease Payments Receivable	20,000
Cash	5,000
Unearned Interest Income		3,439
Asset (cost of asset leased)		18,000
Sales Profit on Leases		3,561

The terms of the lease agreement require Tempo to make five payments of $5,000 each at the beginning of each year. The implicit interest rate used by both Dalie and Tempo is 8%.

Required:

Prepare the eliminations and adjustments required by the intercompany lease on the Figure 5-9 partial worksheet of December 31, 2017. Key and explain all eliminations and adjustments.

Figure 5-9
Dalie and Tempo Industries
Consolidated Partial Worksheet
For the Year Ended December 31, 2017

			Eliminations and
	Trial Balance		Adjustments
Account Titles	Dalie	Tempo	Debit	Credit
Minimum Lease Payments Receivable	20,000
Unearned Interest Income	(2,114)
Assets Under Capital Lease		21,561
Accumulated Depreciation – Assets Under Capital Lease		(4,312)
Plant Assets	410,000	260,000
Accumulated Depreciation – Plant Assets	(167,000)	(98,000)
Obligations Under Capital lease		(16,561)
Interest Payable		(1,325)
Interest Income	(1,325)
Sales Profit on Leases	(3,561)
Interest Expense		1,325
Depreciation Expense	17,500	10,470

ANSWER:

For the worksheet solution, please refer to Answer 5-9.

Answer 5-9
Dalie and Tempo Industries
Consolidated Partial Worksheet
For the Year Ended December 31, 2017

			Eliminations and
	Trial Balance		Adjustments
Account Titles	Dalie	Tempo	Debit		Credit
Minimum Lease Payments Receivable	20,000				(CL2)	20,000
Unearned Interest Income	(2,114)		(CL2)	2,114
Assets Under Capital Lease		21,561			(CL2)	21,561
Accumulated Depreciation – Assets Under Capital Lease		(4,312)	(CL3)	4,312
Plant Assets	410,000	260,000	(CL2)	21,561	(CL4)	3,561
Accumulated Depreciation – Plant Assets	(167,000)	(98,000)	(CL5)	712	(CL3)	4,312
Obligations Under Capital lease		(16,561)	(CL2)	16,561
Interest Payable		(1,325)	(CL2)	1,325
Interest Income	(1,325)		(CL1)	1,325
Sales Profit on Leases	(3,561)		(CL4)	3,561
Interest Expense		1,325			(CL1)	1,325
Depreciation Expense	17,500	10,470			(CL5)	712
				51,471		51,471

Eliminations and Adjustments:

(CL1)	Eliminate intercompany interest expense/revenue.

(CL2)	Eliminate intercompany debt and unearned income; eliminate the asset under capital lease and record the owned asset.

(CL3)	Reclassify depreciation.

(CL4)	Reduce cost of asset for gain on sales-type lease.

(CL5)	Reduce depreciation 3,561 ÷ 5 = 712 per year, to recognize one year’s profit.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-5

NOTES:

direct financing lease; consolidation in year of inception of lease

49. On January 1, 2016 Parent Company acquired 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $50,000, $100,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the simple equity method.

On January 1, 2017, Parent purchased equipment for $204,110 and immediately leased the equipment to Subsidiary on a 4-year lease. The minimum lease payments of $60,000 are to be made annually on January 1, beginning immediately, for a total of 4 payments. The implicit interest rate is 12%. The lease provides for an automatic transfer of title at the end of 4 years. The estimated useful life of the equipment is 6 years. The lease has been capitalized by both companies. The lease amortization schedule is presented below:

Date	Payment	Interest on previous balance	Gross Receivable	Unearned Interest	Carrying Value
1/1/17			240,000	(35,890)	204,110
1/1/17	60,000		180,000	(35,890)	144,110
1/1/16	60,000	17,293	120,000	(18,597)	101,403
1/1/19	60,000	12,168	60,000	(6,429)	53,571
1/1/21	60,000	6,429	0	0	0

Required:

Prepare the eliminations and adjustments required by the intercompany lease on the Figure 5-10 partial worksheet as of December 31, 2017. Key and explain all eliminations and adjustments.

Figure 5-10
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Min. Lease Payments Rec.	180,000
Unearned Interest Income	(18,597)
Buildings and Equipment	350,000	300,000
Accumulated Depreciation	(100,000)	(50,000)
Equipment under Cap. Lease		204,110
Acc. Depr. – Eq. Cap. Lease		(34,018)
Obligation under Cap. Lease		(144,110)
Interest Payable on Lease		(17,293)
Interest Income on Lease	(17,293)
Interest Expense on Lease		17,293

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.
Unearned Interest Income
Buildings and Equipment
Acc. Depr. – Bldg & Equip
Equipment under Cap. Lease
Acc. Depr. – Eq. Cap. Lease
Obligation under Cap. Lease
Interest Payable on Lease
Interest Income on Lease
Interest Expense on Lease

ANSWER:

For the partial worksheet solution, please refer to Answer 5-10.

Answer 5-10
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Min. Lease Payments Rec.	180,000				(CL2)	180,000
Unearned Interest Income	(18,597)		(CL2)	18,597
Buildings and Equipment	350,000	300,000	(CL3)	204,110
Accumulated Depreciation	(100,000)	(50,000)			(CL4)	34,018
Equipment under Cap. Lease		204,110			(CL3)	204,110
Acc. Depr. – Eq. Cap. Lease		(34,018)	(CL4)	34,018
Obligation under Cap. Lease		(144,110)	(CL2)	144,110
Interest Payable on Lease		(17,293)	(CL2)	17,293
Interest Income on Lease	(17,293)		(CL1)	17,293
Interest Expense on Lease		17,293			(CL1)	17,293

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.				0
Unearned Interest Income				0
Buildings and Equipment				854,110
Accumulated Depreciation				(184,018)
Equipment under Cap. Lease				0
Acc. Depr. – Eq. Cap. Lease				0
Obligation under Cap. Lease				0
Interest Payable on Lease				0
Interest Income on Lease	0
Interest Expense on Lease	0

Eliminations and Adjustments:

(CL1)	Eliminate the intercompany interest income and expense on the lease obligation (per table).

(CL2)	Eliminate the intercompany receivable and payable on the leased asset. The receivable balance is $161,403 ($180,000 minimum lease payment receivable less unearned interest of $18,597). The payable is also $161,403 ($144,110 lease obligation payable plus $17,293 interest payable).

(CL3)	Reclassify the leased equipment as Building and Equipment.

(CL4)	Reclassify the accumulated depreciation on the leased equipment.

Note that consolidated net income is not impacted because equal amounts of interest expense and revenue were eliminated.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-5

NOTES:

capital lease, end of first year

50. On January 1, 2016, Parent Company acquired 90% of the common stock of Subsidiary Company for $360,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $50,000, $100,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent uses the simple equity method to account for its investment in subsidiary.

On January 1, 2017, Parent purchased equipment for $204,110 and immediately leased the equipment to Subsidiary on a 4-year lease. The minimum lease payments of $60,000 are to be made annually on January 1, beginning immediately, for a total of 4 payments. The implicit interest rate is 12%. The lease provides for an automatic transfer of title at the end of 4 years. The estimated useful life of the equipment is 6 years. The lease has been capitalized by both companies. A lease amortization schedule, applicable to either company, is presented below:

Date	Payment	Interest on previous balance	Gross Receivable	Unearned Interest	Carrying Value
1/1/17			240,000	(35,890)	204,110
1/1/17	60,000		180,000	(35,890)	144,110
1/1/16	60,000	17,293	120,000	(18,597)	101,403
1/1/19	60,000	12,168	60,000	(6,429)	53,571
1/1/21	60,000	6,429	0	0	0

Required:

Prepare the eliminations and adjustments required by the intercompany lease on the Figure 5-11 partial worksheet as of December 31, 2016. Key and explain all eliminations and adjustments.

Figure 5-11
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Min. Lease Payments Rec.	120,000
Unearned Interest Income	(6,429)
Buildings and Equipment	350,000	300,000
Accumulated Depreciation	(120,000)	(80,000)
Equipment under Cap. Lease		204,110
Acc. Depr. – Eq. Cap. Lease		(68,037)
Obligation under Cap. Lease		(101,403)
Interest Payable on Lease		(12,168)
Interest Income on Lease	(12,168)
Interest Expense on Lease		12,168

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.
Unearned Interest Income
Buildings and Equipment
Accumulated Depreciation
Equipment under Cap. Lease
Acc. Depr. – Eq. Cap. Lease
Obligation under Cap. Lease
Interest Payable on Lease
Interest Income on Lease
Interest Expense on Lease

ANSWER:

For the partial worksheet solution, please refer to Answer 5-11.

Answer 5-11
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Min. Lease Payments Rec.	120,000				(CL2)	120,000
Unearned Interest Income	(6,429)		(CL2)	6,429
Buildings and Equipment	350,000	300,000	(CL3)	204,110
Accumulated Depreciation	(120,000)	(80,000)			(CL4)	68,037
Equipment under Cap. Lease		204,110			(CL3)	204,110
Acc. Depr. – Eq. Cap. Lease		(68,037)	(CL4)	68,037
Obligation under Cap. Lease		(101,403)	(CL2)	101,403
Interest Payable on Lease		(12,168)	(CL2)	12,168
Interest Income on Lease	(12,168)		(CL1)	12,168
Interest Expense on Lease		12,168			(CL1)	12,168

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.				0
Unearned Interest Income				0
Buildings and Equipment				854,110
Accumulated Depreciation				(268,037)
Equipment under Cap. Lease				0
Acc. Depr. – Eq. Cap. Lease				0
Obligation under Cap. Lease				0
Interest Payable on Lease				0
Interest Income on Lease	0
Interest Expense on Lease	0

Eliminations and Adjustments:

(CL1)	Eliminate the intercompany interest income and expense on the lease obligation (per table).

(CL2)	Eliminate the intercompany receivable and payable on the leased asset. The receivable balance is $113,571 ($120,000 minimum lease payment receivable less unearned interest of $6,429).

	The payable is also $113,571 ($101,403 lease obligation payable plus $12,168 interest payable).

(CL3)	Reclassify the leased equipment as ordinary Building and Equipment.

(CL4)	Reclassify the accumulated depreciation on the leased equipment.

Note that consolidated net income is not impacted because equal amounts of interest expense and revenue were eliminated.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-5

NOTES:

capital lease, end of second year

51. On January 1, 2016, Parent Company purchased 100% of the common stock of Subsidiary Company for $390,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $50,000, $100,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent accounts for the Investment in Subsidiary using the simple equity method.

On January 1, 2017, Parent purchased equipment for $204,120 and immediately leased the equipment to Subsidiary on a 4-year lease. The minimum lease payments of $60,000 are to be made annually on January 1, beginning immediately, for a total of 4 payments. The implicit interest rate is 12%. The lease provides for an automatic transfer of title at the end of 4 years. The estimated useful life of the equipment is 6 years. The lease has been capitalized by both companies.

A lease amortization schedule, applicable to either company, is presented below:

Carrying	Carrying	Interest	Principal
Value on	Value	Rate	Interest	Payment	Reduction
1-1-17	$204,120
	– 60,000
1-1-17	144,120	12%	$17,294	$60,000	$42,706
	– 42,706
1-1-16	101,414	12%	12,170	60,000	47,830
	– 47,830
1-1-19	53,584	12%	6,416*	60,000	53,584
	– 53,584
1-1-21	$ 0	*Adjusted for rounding error.

On January 1, 2016, Parent held merchandise acquired from Subsidiary for $10,000. During 2016, subsidiary sold merchandise to Parent for $50,000, of which $15,000 is held by Parent on December 31, 2016. Subsidiary’s usual gross profit on affiliated sales is 40%.

Required:

Complete the Figure 5-12 worksheet for consolidated financial statements for the year ended December 31, 2016. Round all computations to the nearest dollar.

Figure 5-12
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Current Assets	234,196	280,504

Min. Lease Payments Rec.	120,000
Unearned Interest Income	(6,416)
Investment in Sub. Company	560,000



Land	100,000	60,000
Buildings and Equipment	350,000	300,000
Accumulated Depreciation	(120,000)	(80,000)
Equipment under Cap. Lease		204,120
Acc. Depr. – Eq. Cap. Lease		(68,040)
Goodwill

Current Liabilities	(135,000)	(48,000)
Obligation under Cap. Lease		(101,414)
Interest Payable on Lease		(12,170)
Other Long-Term Liabilities	(200,000)	(15,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(482,780)

Common Stock – S Co.		(50,000)
Other Paid-in Capital – S Co.		(100,000)
Retained Earnings – S Co.		(310,000)

Net Sales	(600,000)	(350,000)
Cost of Goods Sold	372,170	200,000

Operating & Other Expenses	140,000	67,830
Interest Income on Lease	(12,170)
Interest Expense on Lease		12,170
Subsidiary Income	(70,000)
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		10,000

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Current Assets

Min. Lease Payments Rec.
Unearned Interest Income
Investment in Sub. Company



Land
Buildings and Equipment
Accumulated Depreciation
Equipment under Cap. Lease
Acc. Depr. – Eq. Cap. Lease
Goodwill

Current Liabilities
Obligation under Cap. Lease
Interest Payable on Lease
Other Long-Term Liabilities
Common Stock – P Co.
Other Paid-in Capital – P Co.
Retained Earnings – P Co.

Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.

Net Sales
Cost of Goods Sold

Operating & Other Expenses
Interest Income on Lease
Interest Expense on Lease
Subsidiary Income
Dividends Declared – P Co.
Dividends Declared – S Co.

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31

ANSWER:

For the worksheet solution, please refer to Answer 5-12.

Answer 5-12
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Current Assets	234,196	280,504			(EI)	6,000

Min. Lease Payments Rec.	120,000				(CL2)	120,000
Unearned Interest Income	(6,416)		(CL2)	6,416
Investment in Sub. Company	560,000				(CY)	60,000
					(EL)	460,000
					(D)	40,000

Land	100,000	60,000
Buildings and Equipment	350,000	300,000	(CL3)	204,120
Accumulated Depreciation	(120,000)	(80,000)			(CL4)	68,040
Equipment under Cap. Lease		204,120			(CL3)	204,120
Acc. Depr. – Eq. Cap. Lease		(68,040)	(CL4)	68,040
Goodwill			(D)	40,000

Current Liabilities	(135,000)	(48,000)
Obligation under Cap. Lease		(101,414)	(CL2)	101,414
Interest Payable on Lease		(12,170)	(CL2)	12,170
Other Long-Term Liabilities	(200,000)	(15,000)
Common Stock – P Co.	(200,000)
Other Paid-in Capital – P Co.	(100,000)
Retained Earnings – P Co.	(482,780)
			(BI)	4,000
Common Stock – S Co.		(50,000)	(EL)	50,000
Other Paid-in Capital – S Co.		(100,000)	(EL)	100,000
Retained Earnings – S Co.		(310,000)	(EL)	310,000

Net Sales	(600,000)	(350,000)	(IS)	50,000
Cost of Goods Sold	372,170	200,000	(EI)	6,000	(BI)	4,000
					(IS)	50,000
Operating & Other Expenses	140,000	67,830
Interest Income on Lease	(12,170)		(CL1)	12,170
Interest Expense on Lease		12,170			(CL1)	12,170
Subsidiary Income	(70,000)		(CY)	70,000
Dividends Declared – P Co.	50,000
Dividends Declared – S Co.		10,000			(CY)	10,000

Consolidated Net Income
To NCI
To Controlling Interest
Total NCI
Ret. Earn. Contr. Int. 12-31
	0	0		1,034,330		1,034,330

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Current Assets				508,700

Min. Lease Payments Rec.				0
Unearned Interest Income				0
Investment in Sub. Company				0



Land				160,000
Buildings and Equipment				854,120
Accumulated Depreciation				(268,040)
Equipment under Cap. Lease				0
Acc. Depr. – Eq. Cap. Lease				0
Goodwill				40,000

Current Liabilities				(183,000)
Obligation under Cap. Lease				0
Interest Payable on Lease				0
Other Long-Term Liabilities				(215,000)
Common Stock – P Co.				(200,000)
Other Paid-in Capital – P Co.				(100,000)
Retained Earnings – P Co.			(478,780)

Common Stock – S Co.
Other Paid-in Capital – S Co.
Retained Earnings – S Co.

Net Sales	(900,000)
Cost of Goods Sold	524,170

Operating & Other Expenses	207,830
Interest Income on Lease	0
Interest Expense on Lease	0
Subsidiary Income	0
Dividends Declared – P Co.			50,000
Dividends Declared – S Co.

Consolidated Net Income	(168,000)
To NCI	0
To Controlling Interest	168,000		(168,000)
Total NCI				0
Ret. Earn. Contr. Int. 12-31			(596,780)	(596,780)
				0

Eliminations and Adjustments:

(CY)	Eliminate Parent’s current-year simple equity method entries.

(EL)	Eliminate the Subsidiary Company equity balances at the beginning of the year against the investment account.

(D)	Distribute the $40,000 ($390,000 – ($50,000 + $100,000 + $200,000)) excess of cost over book value to goodwill.

(CL1)	Eliminate the intercompany interest income and expense on the lease obligation (per table).

(CL2)	Eliminate the intercompany receivable and payable on the leased asset. The receivable balance is $113,584 ($120,000 minimum lease payment receivable less unearned interest of $6,416).

	The payable is also $113,584 ($101,414 lease obligation payable plus $12,170 interest payable).

(CL3)	Reclassify the leased equipment as ordinary Building and Equipment.

(CL4)	Reclassify the accumulated depreciation on the leased equipment.

(BI)	Eliminate the $4,000 ($10,000 x 40%) of gross profit in the beginning inventory.

(IS)	Eliminate the entire intercompany sales of $50,000.

(EI)	Eliminate the $6,000($15,000 x 40%) of gross profit in the ending inventory.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-5

52. On January 1, 2016, Parent Company acquired 100% of the common stock of Subsidiary Company for $365,000. On this date, Subsidiary had common stock, other paid in capital, and retained earnings of $50,000, $100,000, and $200,000 respectively. Any excess of cost over book value is due to goodwill. Parent uses the simple equity method to account for its investment in subsidiary.

On January 1, 2017, Parent purchased equipment for $174,120 and immediately leased the equipment to Subsidiary on a 4-year lease. The transaction was legally structured as a sales-type lease with a present value for the minimum lease payments of $204,120. Parent recorded the following entry:

Minimum Lease Payments Receivable	240,000
Unearned Interest Income		35,880
Equipment		174,120
Sales Profit on Lease		30,000

The minimum lease payments of $60,000 are to be made annually on January 1, beginning immediately, for a total of 4 payments. The implicit interest rate is 12%. The lease provides for an automatic transfer of title at the end of 4 years. The estimated useful life of the equipment is 6 years. The lease has been capitalized by both companies.

A lease amortization schedule, applicable to either company, is presented below:

Carrying	Carrying	Interest			Principal
Value on	Value	Rate	Interest	Payment	Reduction
1-1-17	$204,120
	– 60,000
1-1-17	144,120	12%	$17,294	$60,000	$42,706
	– 42,706
1-1-16	101,414	12%	12,170	60,000	47,830
	– 47,830
1-1-19	53,584	12%	6,416*	60,000	53,584
	– 53,584
1-1-21	$ 0	*Adjusted for rounding error.

Required:

Prepare the eliminations and adjustments required by the intercompany lease on the Figure 5-13 partial worksheet as of December 31, 2017. Key and explain all eliminations and adjustments.

Figure 5-13
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit	Credit
Min. Lease Payments Rec.	180,000
Unearned Interest Income	(18,586)
Buildings and Equipment	350,000	300,000
Accumulated Depreciation	(100,000)	(50,000)
Equipment under Cap. Lease		204,120
Acc. Depr. – Eq. Cap. Lease		(34,020)
Obligation under Cap. Lease		(144,120)
Interest Payable on Lease		(17,294)
Operating & Other Expenses	120,000	42,706
Interest Income on Lease	(17,294)
Interest Expense on Lease		17,294
Sales Profit on Lease	(30,000)

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.
Unearned Interest Income
Buildings and Equipment
Accumulated Depreciation
Equipment under Cap. Lease
Acc. Depr. – Eq. Cap. Lease
Obligation under Cap. Lease
Interest Payable on Lease
Operating & Other Expenses
Interest Income on Lease
Interest Expense on Lease
Sales Profit on Lease

ANSWER:

For the partial worksheet solution, please refer to Answer 5-13.

Answer 5-13
	Trial Balance		Eliminations and
	Parent	Sub.	Adjustments
Account Titles	Company	Company	Debit		Credit
Min. Lease Payments Rec.	180,000				(CL2)	180,000
Unearned Interest Income	(18,586)		(CL2)	18,586
Buildings and Equipment	350,000	300,000	(CL3)	204,120	(CL5)	30,000
Accumulated Depreciation	(100,000)	(50,000)	(CL6)	5,000	(CL4)	34,020
Equipment under Cap. Lease		204,120			(CL3)	204,120
Acc. Depr. – Eq. Cap. Lease		(34,020)	(CL4)	34,020
Obligation under Cap. Lease		(144,120)	(CL2)	144,120
Interest Payable on Lease		(17,294)	(CL2)	17,294
Operating & Other Expenses	120,000	42,706			(CL6)	5,000
Interest Income on Lease	(17,294)		(CL1)	17,294
Interest Expense on Lease		17,294			(CL1)	17,294
Sales Profit on Lease	(30,000)		(CL5)	30,000

	Consol.		Control.	Consol.
	Income		Retained	Balance
Account Titles	Statement	NCI	Earnings	Sheet
Min. Lease Payments Rec.				0
Unearned Interest Income				0
Buildings and Equipment				824,120
Accumulated Depreciation				(179,020)
Equipment under Cap. Lease				0
Acc. Depr. – Eq. Cap. Lease				0
Obligation under Cap. Lease				0
Interest Payable on Lease				0
Operating & Other Expenses	157,706
Interest Income on Lease	0
Interest Expense on Lease	0
Sales Profit on Lease	0

Eliminations and Adjustments:

(CL1)	Eliminate the intercompany interest income and expense on the lease obligation (per table).

(CL2)	Eliminate the intercompany receivable and payable on the leased asset. The receivable balance is $161,414 ($180,000 minimum lease payment receivable less unearned interest of $18,586).

	The payable is also $161,414 ($144,120 lease obligation payable plus $17,294 interest payable).

(CL3)	Reclassify the leased equipment as ordinary Building and Equipment.

(CL4)	Reclassify the accumulated depreciation on the leased equipment.

(CL5)	Eliminate the Sales Profit on Lease and adjust the leased asset back to cost.

(CL6)	Adjust depreciation on the leased asset. ($30,000 / 6 years) The credit to depreciation expense treats part of the sales-type lease profit as realized to the Parent through use by Subsidiary.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-6

Essay

53. The Planes Company owns 100% of the outstanding common stock of the Sands Company. Sands issued $100,000 of face value, 9%, 10-year bonds on January 1, 2016, for $96,000. The discount is being amortized on a straight-line basis. On January 1, 2018, Planes purchased all the bonds as an investment for $95,000.

Required:

Be specific in answering the following questions and include numerical explanations.

a.	How will this bond issue be recorded and accounted for in 2018 on the separate books of Planes and Sands?

b.	How will this bond issue be accounted for on the 2018 consolidated statements?

c.	How will this bond issue be recorded and accounted for in 2019 on the separate books of Planes and Sands?

d.	How will this bond issue be accounted for on the 2019 consolidated statements?

ANSWER:

a.	Planes will show the bonds as an investment and will amortize the purchase discount at the rate of $1,000 per year. Planes will record interest income of $10,000 ($9,000 cash + $1,000 discount amortization). Sands will continue to treat the bonds as outstanding and will record interest expense of $9,400 ($9,000 cash + $400 discount amortization).

b.	The bonds are considered as retired on January 1, 2018, at a gain of $3,000 ($98,000 book value less $95,000 price). No interest expense or revenue should appear in the consolidated statements.

c.	In 2019, Planes will continue to show the bonds as an investment and will record $10,000 interest revenue. Sands will continue to treat the bonds as outstanding and will record $9,400 interest expense.

d.	The consolidated statements will not include the bonds as an investment or as a liability. No interest expense or revenue will be applicable to these bonds.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-2

54. The Park Company owns 80% of the outstanding common stock of the Sea Company. Park is about to lease a machine with a 5-year life to the Sea Company. The lease would begin January 1, 2016.

Required:

Explain the adjustments that will be required in the consolidation process if each of the following occurs.

a.	The lease is an operating lease.

b.	The lease is a direct financing lease with a bargain purchase option.

c.	The lease is a sales-type lease with a bargain purchase option.

ANSWER:

a.	The intercompany rent expense and rent revenue are eliminated. The asset and related accumulation should be reclassified as normal productive assets.

b.	The intercompany interest expense and revenue recorded on the lease obligation are eliminated. The liability obligation under capital lease is eliminated against the asset, present value of minimum lease payments. The asset–machine under capital lease should be reclassified as a normal productive asset.

c.	In addition to the procedures outlined in part b, the sales profit is eliminated and the asset is reduced to its cost to the consolidated group. Depreciation expense is reduced to that applicable to the cost of the asset to the consolidated group.

DIFFICULTY:

LEARNING OBJECTIVES:

ADAC.FISC.5-4
ADAC.FISC.5-5
ADAC.FISC.5-6

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Advanced Accounting 12e Paul M Fischer William J Taylor Rita H Cheng - Test Bank

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