Chapter Three Consolidations Subsequent to the Date of
Chapter Three Consolidations— Subsequent to the Date of Acquisition Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education.
Learning Objective 3 -1 Recognize the complexities in preparing consolidated financial reports that emerge from the passage of time. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -2
Consolidation—The Effects Created by the Passage of Time Ø The passage of time creates complexities for internal record-keeping and the balance of the investment account varies due to the accounting method used. Ø A worksheet and consolidation entries are used to eliminate the investment account and record the subsidiary’s assets and liabilities to create a single set of financial statements for the combined business entity. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -3
Consolidated Net Income Determination Ø A worksheet combines separately recorded revenues and expenses of parent and subsidiary. Ø Separate record-keeping systems result in subsidiary’s expenses based on original book values, not acquisition-date values that the parent must recognize. Ø Adjustments are made to reflect amortization of excess consideration transferred from parent over subsidiary’s book value. Ø Effects of any intra-entity transactions are removed. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -4
Investment Accounting—Parent Ø For internal record-keeping, parent uses an accounting method to monitor the two companies’ relationship. Ø Parent’s investment account balance and amount of income recognized vary over time depending upon the method chosen. Ø On the worksheet, parent’s investment account is eliminated so subsidiary’s actual assets and liabilities can be consolidated. Ø Income accrued by parent is removed and subsidiary’s revenues and expenses are included to create an income statement for the combined business entity. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -5
Learning Objective 3 -2 Identify and describe the various methods available to a parent company in order to maintain its investment in subsidiary account in its internal records. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -6
Investment Accounting by the Acquiring Company Record-keeping if parent can exert control over subsidiary: Ø External financial reporting: Consolidation is required. Ø Internal record-keeping: Parent selects an investment accounting method to monitor activities of subsidiary. Ø Three prominent methods used to account for investments are: Ø Equity method Ø Initial value method Ø Partial equity method Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -7
Advantages of Each Investment Accounting Method Ø Equity method: Full accrual accounting—creates a total income figure reflective of the entire combined business entity. Ø Initial value (or “cost”) method: Cash basis accounting—easy to apply and gives a good measurement of cash flows generated by the investment. Ø Partial equity method: Accrual accounting without equity adjustments—usually gives balances approximating consolidation figures but easier to apply than equity method. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -8
Summary of Three Internal Accounting Techniques Method adopted: Ø Affects only separate financial records. Ø Has no impact on subsidiary’s balances. Ø Does not affect amounts reported on consolidated financial statements to external users. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -9
Learning Objective 3 -3 a Prepare consolidated financial statements subsequent to acquisition when the parent has applied the equity method in its internal records. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -10
Subsequent Consolidation—Equity Method Example Parrot Company obtains all of the outstanding common stock of Sun Company on January 1, 2017. Parrot acquires this stock for $800, 000 in cash. Sun Company’s balances are shown below. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -11
Equity Method Example—Allocation of Subsidiary Fair Value EXHIBIT 3. 2 Excess Fair-Value Allocation Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -12
Equity Method Example— Amortization EXHIBIT 3. 3 Annual Excess Amortization includes amortization of definite-lived intangibles and depreciation of tangible assets. The acquisition-date fair value of Sun’s equipment is $30, 000 less than its book value, a fair-value reduction and an expense reduction. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -13
Equity Method Example—Subsequent Consolidation Assume Sun Company earns income of $100, 000 in 2017, declares a $40, 0000 cash dividend August 1, and pays the dividend August 8. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -14
Subsequent Consolidation— Worksheet Entries Five entries consolidate the companies. Worksheet entries develop totals reported by the entity but are not physically recorded in the account balances of either company. The entries are: S) Eliminates the subsidiary’s Stockholders’ equity account beginning balances and the book value component within the parent’s investment account. A) Recognizes the unamortized Allocations as of the beginning of the current year associated with the adjustments to fair value. I) Eliminates the subsidiary Income accrued by the parent. D) Eliminates the subsidiary Dividends. E) Recognizes excess amortization Expenses for the current period on the allocations from the original adjustments to fair value. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -15
Subsequent Consolidation—Entry S Consolidation Entry S removes: 1) Investment in Sun Company account and adds each asset and liability book values to the consolidated figures. 2) Sun’s stockholders’ equity accounts as of the beginning of the year. The label “Entry S” always refers to the removal of a subsidiary’s beginning stockholders’ equity balances. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -16
Subsequent Consolidation—Entry A Consolidation Entry A adjusts subsidiary balances from their book values to acquisition-date fair values and includes goodwill created by the acquisition. It represents the Allocations made in connection with the excess of the subsidiary’s fair values over its book values. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -17
Subsequent Consolidation— Entries I and D Consolidation Entry I removes Sun’s income recognized by Parrot during the year so Sun’s revenue and expense accounts (and current amortization expense) can be brought into the consolidated totals. Consolidation Entry D removes the intra-entity transfer of cash for the dividends distributed to Parrot from Sun. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -18
Subsequent Consolidation—Entry E Consolidation Entry E recognizes current year excess amortization expenses relating to the adjustments of Sun’s assets to acquisition-date fair values. It adjusts depreciation expense for the tangible asset equipment and adjusts amortization expense for the intangible asset patented technology. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -19
Consolidation Worksheet—Equity Method Applied Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -20
Consolidation Subsequent to Year of Acquisition—Equity Method Assume the January 1, 2020, Sun Company’s Retained Earnings balance has risen to $600, 000. That account had a reported total of only $380, 000 on January 1, 2017. Sun’s book value apparently has increased by $220, 000 during the 2017– 2019 period. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -21
Consolidation Subsequent to Year of Acquisition—Equity Method (continued) To analyze procedural changes due to passage of time, assume: Ø Parrot Company continues to hold its ownership of Sun Company as of December 31, 2020. Ø Sun now has a $40, 000 liability payable to Parrot. Ø January 1, 2020, Sun’s Retained Earnings balance is $600, 000. Ø Sun’s book value has increased by $220, 000. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -22
Consolidation Subsequent to Year of Acquisition—Equity Method (concluded) Parrot reports an Equity in Subsidiary Earnings balance of $153, 000 (net income of $160, 000–$7, 000 in dividends). The balance in the Investment in Sun Company account has been adjusted for: 1. The annual accrual of Sun’s income ($160, 000). 2. The receipt of $40, 000 in dividends from Sun. 3. The recognition of annual excess amortization expenses ($7, 000). Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -23
Consolidation Worksheet Subsequent to Year of Acquisition—Equity Method Applied Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -24
Subsequent Consolidation—Entry P In addition to Entries S, A, I, D, and E, Entry P must be prepared. Ø Entry P eliminates an intra-entity Payable. Ø Intra-entity reciprocal accounts do not relate to outside parties. Ø Sun’s $40, 000 payable and Parrot’s $40, 000 receivable must be removed because the companies are being reported as a single entity. All worksheet entries relate specifically to either previous years (S and A) or the current period (I, D, E, and P). Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -25
Learning Objective 3 -3 b Prepare consolidated financial statements subsequent to acquisition when the parent has applied the initial value method in its internal records. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -26
Subsequent Consolidations—Investment Recorded Using Initial Value or Partial Equity Method The parent company can use the initial value method or the partial equity method for internal record-keeping. Application of either alternative changes the balances recorded by the parent over time and the consolidation process. Neither of these approaches affect any of the final consolidated balances reported. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -27
Subsequent Consolidations—Accounts That Vary Just three parent’s accounts vary because of the method applied: Ø Investment account. Ø Income recognized from the subsidiary. Ø Parent’s retained earnings (periods after year of combination). Only differences found in these balances affect the consolidation process when another method is applied. Accounting for these three balances any time after the acquisition date is of special importance. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -28
Consolidation Entries—Initial Value Method Two entries for the initial value method are different from those for the equity method. Ø Entry S is the same as the equity method. Ø Entry A is the same as the equity method. Ø Entry I is different using the initial value method: Ø It eliminates the parent’s Dividend Income account and the sub’s Dividends Declared account. Ø Entry D is not needed. Ø Entry E is the same as the equity method. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -29
Applying the Initial Value Method When the initial value method is used by parent, the income and investment accounts on the parent company’s separate statements vary. Significant difference between the initial value method and the equity method: Ø Parent’s separate statements do not reflect consolidated income totals when the initial value method is used. Ø Because equity adjustments are not recorded, neither parent’s reported net income nor its retained earnings provides an accurate portrayal of consolidated figures. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -30
Learning Objective 3 -3 c Prepare consolidated financial statements subsequent to acquisition when the parent has applied the partial equity method in its internal records. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -31
Consolidation Entries—Partial Equity Method The same two entries are different for the partial equity method. Ø Entry S is the same as the equity method. Ø Entry A is the same as the equity method. Ø Entry I is different using the partial equity method: Ø It eliminates the parent’s equity in the sub’s income and reduces the Investment account. Ø Entry D eliminates the Dividends Declared account. Ø Entry E is the same as the equity method. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -32
Consolidation Entries—Comparison of Methods Remember: Ø Entries S, A, and E are the same for all three methods. Ø The parent’s record-keeping is limited to two periodic journal entries: Ø Annual accrual of subsidiary income. Ø Receipt of dividends. Ø The Investment and Income account balances differ for the other methods and so will the worksheet Entries I and D. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -33
Learning Objective 3 -4 Understand that a parent’s internal accounting method for its subsidiary investments has no effect on the resulting consolidated financial statements. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -34
Consolidation Subsequent to Year of Acquisition— Initial Value and Partial Equity Methods Ø Consolidated financial statements require a full accrualbased measurement of both income and retained earnings. Ø Neither the initial value nor the partial equity method provides a full accrual-based measure. Ø The initial value method uses the cash basis for income recognition of dividends. Ø The partial equity method only partially accrues subsidiary income. Ø New worksheet adjustments are needed to convert the parent’s beginning of the year retained earnings balance to a full-accrual basis. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -35
Consolidation Subsequent to Year of Acquisition—Entry *C Ø Beginning Retained Earnings account must be increased or decreased to create the same effect as the equity method. Ø Entry *C. The C refers to the Conversion being made to equity method (full-accrual) totals. The asterisk indicates that this entry relates solely to transactions of prior periods. Ø Entry *C, the adjustment of the parent’s beginning Retained Earnings, should be recorded before other worksheet entries to align the beginning balances for the year. Ø After the initial year of acquisition, an Entry *C is required if the parent has not applied the equity method. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -36
Other Consolidation Entries In addition to the Entries S, A, I, D, E, and *C, intercompany debt (payables and/or receivables) must be eliminated in entry P. If a subsidiary’s long-term debt exceeds its fair value: Ø A consolidation entry is required to decrease the longterm debt reported in the consolidated balance sheet. Ø In periods subsequent to acquisition, worksheet entries are needed to increase the interest expense to be recognized in the consolidated balance sheet. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -37
Consolidated Totals Subsequent to Acquisition EXHIBIT 3. 14 Consolidated Totals Subsequent to Acquisition Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -38
Consolidated Worksheet Entries Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -39
Learning Objective 3 -5 Discuss the rationale for the goodwill impairment testing approach. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -40
Goodwill and Other Intangible Assets (ASC Topic 350) Ø FASB ASC Topic 350, “Intangibles—Goodwill and Other, ” provides accounting standards for reporting income statement effects of impairment of intangibles acquired in a business combination. Ø When accounting for goodwill subsequent to the acquisition date, GAAP requires an impairment approach rather than amortization. Ø FASB reasoned that goodwill can decrease over time. Ø It does not do so in a “rational and systematic” manner. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -41
Goodwill and Other Intangible Assets (ASC Topic 350)—Impairment Ø Goodwill impairment losses are reported as operating items in the consolidated income statement. Ø FASB provides firms the option to conduct a qualitative analysis to assess whether further testing procedures are appropriate. Ø If circumstances indicate a potential decline in the fair value of a reporting unit below its carrying amount, further tests are required to see if goodwill is the source of the decline. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -42
Learning Objective 3 -6 Describe the procedures for conducting a goodwill impairment test. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -43
When to Test Goodwill for Impairment? Ø FASB ASC (paragraph 350 -20 -35 -28) requires an entity to assess its goodwill for impairment annually for each reporting unit where goodwill resides. Ø More frequent impairment assessment is required if events or circumstances change that make it more likely than not that reporting unit’s fair value has fallen below its carrying amount. Ø If after performing the qualitative assessment, it appears that it is more likely than not the fair value is less than its carrying amount, Step 1 of the two-step impairment test is required. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -44
Step 1: Is the Carrying Amount of a Reporting Unit More Than Its Fair Value? Ø Calculate fair values for each reporting unit with allocated goodwill. Ø Fair value (with allocated goodwill) is compared to the carrying value (including goodwill) of the consolidated entity’s reporting unit. Ø Does fair value of the reporting unit exceed carrying value? Ø If yes, Goodwill is NOT impaired. No further testing is required. Ø If no, a second step must be taken to test for impairment. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -45
Step 2: Is Goodwill’s Implied Value Less Than Its Carrying Amount? Ø Step 2 compares the implied fair value of goodwill to its carrying amount. Ø Implied value of goodwill can be determined using quoted market prices, similar businesses, or present value of future cash flows. Ø Is implied fair value of goodwill less than recorded goodwill? Ø If no, Goodwill is NOT impaired. No further testing is required. Ø If yes, an impairment loss is recorded for the excess carrying value over implied fair value. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -46
Goodwill Impairment Test Example Ø Assume that on January 1, 2017, investors form Newcall Corporation to consolidate the telecommunications operations of DSM, Inc. , and Vision. Talk Company in a deal valued at $2. 2 billion. Ø Newcall organizes each former firm as an operating segment. Additionally, DSM comprises two divisions— DSM Wired and DSM Wireless—that along with Vision. Talk are treated as independent reporting units for internal performance evaluation and management reviews. Ø Newcall recognizes $215 million as goodwill at the merger date and allocates this entire amount to its reporting units. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -47
Goodwill Impairment Test Example— Unit Goodwill Fair Values Each reporting unit’s acquisition-date fair values are as follows: Newcall tests for goodwill impairment. DSM Wireless’s fair value has fallen to $600 million, well below its current carrying amount. The company attributes the decline in value to a failure to realize expected cost-saving synergies with Vision. Talk. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -48
Goodwill Impairment Test Example— Allocation of Fair Value Newcall derived implied fair value of goodwill through the following allocation of the December 31, 2017 fair value of DSM Wireless: Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -49
Goodwill Impairment Test Example— Results Ø Goodwill is now valued at $4, 000. Ø Newcall reports a $151, 000 goodwill impairment loss as a separate line item in the operating section of its consolidated income statement. Ø Additional disclosures required describing: 1) The facts and circumstances leading to the impairment. 2) The method used to determine fair value of the associated reporting unit. Ø The reported values for all of DSM Wireless’s remaining assets and liabilities do not change. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -50
Zero or Negative Carrying Amounts Ø The ASC requires special application of testing procedures if a reporting unit has a zero or negative carrying amount. Ø In that case, the ASC permits an entity to forego Step 2 of the impairment test unless it is more likely than not that goodwill is impaired. Ø The entity must consider the same factors as in the qualitative assessment for individual reporting units. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -51
Comparisons with International Accounting Standards Ø IFRS and U. S. GAAP require an assessment for goodwill impairment at least annually and more frequently if impairment is indicated. Both state that goodwill impairments, once recognized, are not recoverable. Ø U. S. GAAP: Goodwill acquired in a business combination is allocated to reporting units (operating segments or a business component one level below) expected to benefit from the goodwill. Ø IFRS: International Accounting Standard (IAS) 36 requires goodwill acquired in a business combination to be allocated to cash-generating units at which goodwill is monitored. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -52
Comparisons with International Accounting Standard—Fair Values Ø U. S. GAAP: A reporting unit’s implied goodwill fair value is the excess of the reporting unit’s fair value over the fair value of its identifiable net assets. If the goodwill carrying amount is greater than its implied fair value, an impairment loss is recognized. Ø IFRS: Any excess carrying amount over fair value for a cash-generating unit is first assigned to reduce goodwill. If goodwill is reduced to zero, other assets of the cashgenerating unit are reduced pro-rata based on carrying amounts of the assets. Ø FASB and IASB will include impairment recognition and reporting in a future convergence project. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -53
Learning Objective 3 -7 Describe the rationale and procedures for impairment testing for intangible assets other than goodwill. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -54
Other Intangibles—Finite Lives Ø All identified intangible assets with finite lives should be amortized over their economic useful life that reflects the pattern of decline in the economic usefulness of the asset. Ø Factors to be considered in determining the useful life of an intangible asset include: Ø Legal, regulatory, or contractual provisions. Ø The effects of obsolescence, demand, competition, industry stability, rate of technological change, and expected changes in distribution channels. Ø The enterprise’s expected use of the intangible asset. Ø The level of maintenance expenditure required to obtain the asset’s expected future benefits. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -55
Other Intangibles—Indefinite Lives Ø Intangible assets with indefinite lives are tested for impairment on an annual basis. An entity has the option to first perform qualitative assessments to determine whether “it is more likely than not” that the asset is impaired. Ø If so, a quantitative test must be performed. The asset’s carrying value is compared to its fair value. If fair value is less than carrying value, the intangible asset is considered impaired an impairment loss is recognized. The asset’s carrying value is reduced accordingly. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -56
Learning Objective 3 -8 Understand the accounting and reporting for contingent consideration subsequent to a business acquisition. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -57
Contingent Consideration in Business Combinations—Future Performance Ø Contingency agreements, consideration based on future performance, often accompany business combinations. Ø The acquiring firm estimates the fair value of the contingency and records a liability equal to the present value of the future payment if appropriate. Ø The liability continues to be measured at fair value with corresponding recognition of gains or losses from the revaluation. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -58
Contingent Consideration in Business Combinations—Equity Obligations Ø Contingent obligations classified as equity are reported as a component of stockholders’ equity. Ø Equity contingencies are not remeasured at fair value. Ø Whether contingent obligations are a liability or equity, the initial value recognized in the combination does not change regardless of whether the contingency is eventually paid or not. Ø A loss from revaluation of a contingent performance obligation is reported in the consolidated income statement as a component of ordinary income. Copyright © 2017 Mc. Graw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of Mc. Graw-Hill Education. 3 -59
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