Chapter 5,6,7 True or False 1.

In a business combination that establishes a parent company-subsidiary affiliation, the subsidiary prepares journal entries on the date of the combination to increase the carrying amounts of its net assets to current fair values. Answer: False 2.Only the balance sheet is consolidated on the date of a business combination of a parent company and subsidiary. Answer: True 3.A controlling financial interest traditionally has been defined as the investor corporation's ownership of more than 50% of the investee corporation's outstanding common stock. Answer: True 4.All out-of-pocket costs of a business combination reduce additional paid-in capital of the combinor. Answer: False 5.Consolidated financial statements emphasize the legal form of the parent company-subsidiary relationship. Answer: False 6. A parent company's control of a subsidiary may be achieved both directly and indirectly, the latter through another subsidiary of the parent. Answer: True 7.A debit to GoodwillSubsidiary in a working paper elimination (in journal entry format) for a parent company and its wholly owned subsidiary indicates that the current fair values of the subsidiary's identifiable net assets exceeded their carrying amounts on the date of the business combination. Answer: False 1 8.Goodwill recognized in a business combination of a parent company and a partially owned subsidiary is attributable to the subsidiary. Answer: False 9.In a business combination resulting in a parent company-subsidiary affiliation, the parent company's Investment in Subsidiary Common Stock ledger account is not closed, as it is in other types of business combinations. Answer: True 10.Under the parent company concept of consolidated financial statements, the minority interest in net assets of a subsidiary is displayed as a liability. Answer: True 11.All out-of-pocket costs of a business combination are recognized as expenses by the combinor. Answer: False 12.Contingent consideration that is determinable on the date of a business combination is part of the total cost of the combinor's investment in the combinee. Answer: True 13.In a statutory merger, all except one of the constituent companies are liquidated. Answer: True 14.A part of the cost of a combinee is allocated to identifiable tangible and intangible assets that resulted from research and development activities of the combinee. Answer: True 15.The issuer of common stock in a business combination always is the combinor. Answer: False 16.Goodwill acquired in a business combination is amortized over its economic life.

Answer: False 17.Under the equity method of accounting, a parent company credits the Intercompany Investment Income ledger account for dividends declared by the subsidiary. Answer: False 18. Under the equity method of accounting, a parent company's journal entry to record a dividend declared by the subsidiary includes a debit to the Retained Earnings of Subsidiary ledger account and a credit to the Dividends Revenue ledger account. Answer: False 19. Proponents of the equity method of accounting assert that dividends declared by a subsidiary constitute revenue to the parent company. Answer: False Multiple Choice Questions

20. A wholly owned subsidiary credits the Dividends Payable ledger account when its board of directors declares a dividend. Answer: False 22. Under the equity method of accounting, the parent company debits the Intercompany Investment Income ledger account for the depreciation and amortization of differences between the current fair values and carrying amounts of a subsidiary's identifiable net assets on the date of the business combination. Answer: True 23. The depreciation and amortization of differences between current fair values and carrying amounts of a subsidiary's identifiable net assets is included in consolidated financial statements by means of a working paper elimination. Answer: True

1. In a business combination resulting in a parent company-subsidiary relationship, differences between current fair values and carrying amounts of the subsidiary's identifiable net assets on the date of the combination are: A) Disregarded B) Entered in the accounting records of the subsidiary C) Accounted for in appropriately titled ledger accounts in the parent company's accounting records D) Provided in a working paper elimination E) Accounted for in some other manner Answer: D 2. Consolidated financial statements are prepared when a parent-subsidiary relationship exists, in recognition of the accounting principle or concept of: A) Materiality B) Entity C) Reliability D) Going concern Answer: B

3. Pangborn Corporation paid $840,000 (including direct out-of-pocket costs) for 2

70% of the outstanding common stock of Siddon Company on September 30, 2006, the end of Pangborn's fiscal year. Included in the working paper elimination (in journal entry format) for Pangborn Corporation and subsidiary on that date were the following: GoodwillPangborn [$840,000 ($1,100,000 x 0.70)] Minority Interest in Net Assets of Subsidiary ($1,100,000 x 0.30) $ 70,000 dr 330,000 cr

If Pangborn had inferred a current fair value for 100% of Siddon's total net assets from the $840,000 cost, Goodwill and Minority Interest in Net Assets of Subsidiary in the September 30, 2006, working paper elimination would have been, respectively: A) $100,000 and $330,000 B) $70,000 and $360,000 C) $49,000 and $231,000 D) $100,000 and $360,000 E) Some other amounts Answer: D Rationale: [($840,000 0.70) $1,100,000 = $100,000]; ($1,200,000 x 0.30 = $360,000) 4. On March 31, 2006, Preston Corporation acquired for cash at $25 a share all 300,000 shares of the outstanding common stock of Sexton Company. Out-ofpocket costs of the business combination may be disregarded. Sexton's balance sheet on March 31, 2006, had net assets of $6,000,000. Additionally, the current fair value of Preston's plant assets on March 31, 2006, was $800,000 in excess of carrying amount. The amount to be shown for the balance sheet caption "Goodwill" in the March 31, 2006, consolidated balance sheet of Preston Corporation and its wholly owned subsidiary, Sexton Company, is: A) $0 B) $700,000 C) $800,000 D) $1,500,000 E) Some other amount Answer: B Rationale: [(300,000 x $25) ($6,000,000 + $800,000) = $700,000] 5. Consolidated financial statements are not appropriate if: A) The subsidiary is in the process of bankruptcy reorganization B) There is a minority interest in the subsidiary C) The subsidiary has a substantial amount of long-term debt payable to outsiders D) The parent company makes substantial purchases of material from the subsidiary Answer: A

6. On March 1, 2006, Pride Corporation paid $400,000 for all the outstanding common stock of Supra Company in a business combination, for which out-ofpocket costs may be disregarded. The carrying amounts of Supra's identifiable assets and liabilities on March 1, 2006, follow: Cash Inventories Plant assets (net) Liabilities $ 40,000 120,000 240,000 (90,000)

On March 1, 2006, the inventories of Supra had a current fair value of $95,000, and the plant assets (net) had a current fair value of $280,000. The amount recognized as goodwill as a result of the business combination is: A) $0 B) $25,000 C) $75,000 D) $90,000 E) Some other amount Answer: C Rationale: [$400,000 ($310,000 $25,000 + $40,000) = $75,000] 7. On October 31, 2006, Portugal Corporation acquired 80% of the outstanding common stock of Spain Company in a business combination. Total cost of the investment, including direct out-of-pocket costs, was $480,000. The working paper elimination (in journal entry format, explanation omitted) for Portugal Corporation and Subsidiary on October 31, 2006, was as follows: Common StockSpain Additional Paid-in CapitalSpain Retained EarningsSpain Plant Assets (net)Spain GoodwillPortugal [$480,000 ($450,000 x 0.80)] Investment in Spain Company Common StockPortugal 480,000 Minority Interest in Net Assets of Subsidiary ($450,000 x 0.20) 100,000 120,000 180,000 50,000 120,000

90,000

If minority interest in net assets of subsidiary had been reflected at carrying amount, rather than at current fair value, of the subsidiary's identifiable net assets, the credit to Minority Interest in Net Assets of Subsidiary in the foregoing elimination would have been: A) $90,000 B) $120,000 C) $60,000 D) Some other amount

Answer: D Rationale: ($400,000 x 0.20 = $80,000)

8. On October 31, 2006, Portugal Corporation acquired 80% of the outstanding common stock of Spain Company in a business combination. Total cost of the investment, including direct out-of-pocket costs, was $480,000. The working paper elimination (in journal entry format, explanation omitted) for Portugal Corporation and Subsidiary on October 31, 2006, was as follows: Common StockSpain Additional Paid-in CapitalSpain Retained EarningsSpain Plant Assets (net) Spain GoodwillPortugal [$480,000 ($450,000 x 0.80)] Investment in Spain Company Common StockPortugal 480,000 Minority Interest in Net Assets of Subsidiary ($450,000 x 0.20) 100,000 120,000 180,000 50,000 120,000

90,000

If goodwill had been computed based on the implied current fair value of the subsidiary's total net assets, the debit to GoodwillPortugal in the foregoing working paper elimination would have been: A) $120,000 B) $150,000 C) $180,000 D) Some other amount Answer: B Rationale: [($480,000 0.80) $450,000 = $150,000] 9. Which of the following is the best theoretical justification for consolidated financial statements? A) In form the constituent companies are one economic entity; in substance they are separate B) In form the constituent companies are separate; in substance they are one economic entity C) In form and substance the constituent companies are one economic entity D) In form and substance the constituent companies are separate Answer: B 10. In a business combination resulting in a parent company-subsidiary relationship, the parent company's Investment in Subsidiary Common Stock ledger account balance is: A) Allocated to individual asset and liability ledger accounts in a parent company journal entry

B) Eliminated with a working paper elimination for the working paper for consolidated balance sheet C) Displayed among noncurrent assets in the consolidated balance sheet D) Used as a basis for adjusting the subsidiary's asset and liability account balances in the subsidiary's ledger to current fair values Answer: B

11. Working paper eliminations are entered in: A) Both the parent company's and the subsidiary's accounting records B) Neither the parent company's nor the subsidiary's accounting records C) The parent company's accounting records only D) The subsidiary's accounting records only Answer: B 12. On the date of a business combination resulting in a parent-subsidiary relationship, the differences between current fair values and carrying amounts of the subsidiary's identifiable net assets are: A) Included in a working paper elimination B) Recognized in the applicable asset and liability ledger accounts of the subsidiary C) Recognized in the applicable asset and liability ledger accounts of the parent company D) Accounted for in some other manner Answer: A 13. Consolidated financial statements are intended primarily for the use of: A) Stockholders of the parent company B) Taxing authorities C) Management of the parent company D) Creditors of the parent company Answer: A 14. On November 30, 2006, Pegler Corporation paid $500,000 cash and issued 100,000 shares of $1 par common stock with a current fair value of $10 a share for all 50,000 outstanding shares of $5 par common stock (carrying amount $20 a share) of Stadler Company, which became a subsidiary of Pegler. Also on November 30, 2006, Pegler paid $50,000 for finder's, accounting, and legal fees related to the business combination and $80,000 for costs associated with the SEC registration statement for the common stock issued in the combination. The net result of Pegler's journal entries to record the combination is to: A) Debit Investment in Stadler Company Common stock for $1,000,000 B) Credit Paid-In Capital in Excess of Par for $900,000 C) Debit Expenses of Business Combination for $130,000 D) Credit Cash for $630,000

Answer: D 15. Minority interest in net assets of subsidiary is displayed in the consolidated balance sheet as: A) A part of consolidated stockholders' equity under the parent company concept of consolidated financial statements B) A liability under the parent company concept of consolidated financial statements C) An offset to investment in subsidiary common stock under the parent company concept of consolidated financial statements D) An item between liabilities and stockholders' equity under the economic unit concept of consolidated financial statements Answer: B 16. Before the computation of goodwill, the debits in the date-of-businesscombination working paper elimination for the consolidated balance sheet of Promo Corporation and its 80%-owned subsidiary subtotaled $640,000, compared with a $540,000 credit to Investment in Sindow Company Common Stock Promo. The working paper elimination should be completed with: A) An allocation of the $100,000 bargain-purchase excess to reduce the amounts initially assigned to specified assets of Sindow. B) A $100,000 credit to Minority Interest in Net Assets of Subsidiary C) A $28,000 debit to GoodwillPromo and a $128,000 credit to Minority Interest in Net Assets of Subsidiary D) A $35,000 debit to GoodwillPromo and a $135,000 credit to Minority Interest in Net Assets of Subsidiary Answer: C 17.Two methods for arranging business combinations that begin with similar transactions by the combinor are: A) Statutory merger and statutory consolidation B) Statutory merger and acquisition of common stock C) Acquisition of common stock and acquisition of net assets D) Statutory consolidation and acquisition of common stock Answer: B 18. Direct out-of-pocket costs of a business combination that are part of the cost of the combinee do not include: A) Legal fees for registration of securities issued by the combinor B) Finder's fee C) Legal fees for the contract of combination D) CPA firm fees for pre-combination investigation of the combinee Answer: A 20. On October 1, 2006, Poon Corporation acquired for cash all the outstanding common stock of Soong Company, which was not liquidated. Consolidated net income for the fiscal year ended December 31, 2006, includes net income of: A) Poon for three months and Soong for three months 7

B) Poon for twelve months and Soong for three months C) Poon for twelve months and Soong for twelve months D) Poon for twelve months, but no income from Soong until it declares a cash dividend Answer: B 22. The Retained Earnings of Subsidiary ledger account is: A) An account of the parent company that at all times in any business combination shows the amount of the subsidiary's retained earnings B) An account of the subsidiary C) An account that appears only in the working paper for consolidated financial statements D) None of the foregoing Answer: D 23. Under the equity method of accounting, depreciation and amortization of the dateof-business-combination differences between current fair values and carrying amounts of a subsidiary's identifiable net assets is debited in a journal entry to the: A) Subsidiary's expense ledger accounts B) Parent company's expense ledger accounts C) Subsidiary's Retained Earnings ledger account D) Parent company's Intercompany Investment Income ledger account Answer: D 24. To recognize the impairment of goodwill arising from a business combination involving a partially owned subsidiary: A) The subsidiary debits the Impairment Loss ledger account and credits the Goodwill account in its accounting records. B) The parent company debits the Impairment Loss ledger account and credits the Goodwill account in its accounting records. C) The parent company debits the Intercompany Investment Income ledger account and credits the Investment in Subsidiary Common Stock account in its accounting records. D) The parent company prepares some other journal entry. Answer: D Rationale: (Debit Impairment Loss, credit the Investment account) 25. Skeene Company, the 70%-owned subsidiary of Probert Corporation, had a net income of $80,000 and declared dividends of $30,000 during the fiscal year ended February 28, 2006. Fiscal Year 2006 depreciation and amortization of differences between current fair values and carrying amounts of Skeene's identifiable net assets on the date of the business combination was $15,000; and Fiscal Year 2006 impairment of goodwill recognized in the Probert-Skeene business combination was $500. The minority interest in net income of Skeene for Fiscal Year 2006 was: A) $24,000 8

B) C) D) E)

$19,500 $19,350 $9,000 Some other amount

Answer: B Rationale: [($80,000 $15,000) x .30 = $19,500] 26. Which of the following does not affect the computation of the minority interest in the net assets of a partially owned subsidiary? A) Impairment of goodwill recognized in the business combination B) Dividends declared by the subsidiary C) Depreciation and amortization of differences between current fair values and carrying amounts of the subsidiary's identifiable net assets on the date of the business combination D) None of the foregoing Answer: A 27. Plover Corporation accounts for its 80%-owned purchased subsidiary, Swallow Company, under the equity method of accounting. For the fiscal year ended March 31, 2006, Swallow had a net income of $100,000, but declared no dividends. Depreciation and amortization of differences between current fair values and carrying amounts of Swallow's identifiable net assets for the year ended March 31, 2006, totaled $40,000. Plover's closing entry for the year ended March 31, 2006, includes a: A) Credit of $48,000 to Intercompany Investment Income B) Credit of $60,000 to Retained Earnings of Subsidiary C) Debit of $60,000 to Intercompany Investment Income D) Credit of $48,000 to Retained Earnings of Subsidiary Answer: D Rationale: [($100,000 $40,000) x 0.80 = $48,000] 29. The minority interest in net assets of a partially owned subsidiary is: A) Decreased by the minority's share of subsidiary dividends and increased by the minority's share of subsidiary adjusted net income B) Increased by the minority's share of subsidiary dividends and decreased by the minority's share of subsidiary adjusted net income C) Decreased by the minority's share of both subsidiary dividends and subsidiary adjusted net income D) Increased by the minority's share of both subsidiary dividends and subsidiary adjusted net income Answer: A 30. If a wholly owned subsidiary's net income was $150,000, the subsidiary declared dividends of $80,000, and the depreciation and amortization of current fair value excess was $20,000, the parent company's intercompany investment income under the equity method of accounting is: 9

A) B) C) D) E)

$60,000 $70,000 $100,000 $130,000 Some other amount

Answer: D Rationale: ($150,000 $20,000 = $130,000)

10