CONSOLIDATION PART 2 ICAP MODULE B FINANCIAL ACCOUNTING & MODULE D COST ACCOUNTING.NEW CLASSES. JOIN KHALID AZIZ

CONSOLIDATION PART 2 ICAP MODULE B FINANCIAL ACCOUNTING & MODULE D COST ACCOUNTING.NEW CLASSES. JOIN KHALID AZIZ

JOIN KHALID AZIZ • ECONOMICS OF ICMAP, ICAP, MA-ECONOMICS, B.COM. • FINANCIAL ACCOUNTING OF ICMAP STAGE 1,3,4 ICAP MODULE B, B.COM, BBA, MBA & PIPFA. • COST ACCOUNTING OF ICMAP STAGE 2,3 ICAP MODULE D, BBA, MBA & PIPFA. • CONTACT: • 0322-3385752 • 0312-2302870 • R-1173,ALNOOR SOCIETY, BLOCK 19,F.B.AREA, KARACHI, PAKISTAN.

Illustration Consider a family of 3 Father (employed as a manager) • Weekly take-home pay of $500 Mother (sells food parcels from home) • Collects an average of $100/week • Receives $150/week from husband for housekeeping 1 child, Mere (full-time student) • Receives $25/week as pocket-money from her parents • Receives $15/week as allowance from her sponsor

Illustration Calculate how much each family member receives in a week Family Member Amount Father 500 Mother 100 + 150 = 250 Mere 25 + 15 = 40 Total $790

Illustration Calculate how much the family receives in a week Family Member Amount Father 500 Mother 100 + 150 – 150 = 100 Mere 25 + 15 – 25 = 15 Total $615 We must exclude or eliminate transactions within the family

Learning Objective 5 5. Elimination Entries The purpose of an elimination entry is • To exclude or eliminate • transactions between members of the entity Known as • Intra-group or Inter-company transactions

Learning Objectives You will be able to 1. Define an Economic Entity • Explain the concept of Control 3. Identify factors that indicate Control 4. Differentiate between pre & post acquisition equity • Explain the purpose of Elimination Entries • Record Elimination Entries for • Pre-acquisition Equity • Dividends from pre-acquisition profits • Goodwill on acquisition • Revaluation of assets at acquisition date

Learning Objective 6 6. Record Elimination Entries How is an elimination entry constructed? It’s just like • selecting the Undo option • or reversing an arithmetic process • or reversing balance-day adjustments

From Lecture May 1st Example 1 On 1 April 2006, • Tonga Ltd acquired all the shares of Nuku Ltd • for a cash payment of $225,000 On that date, the equity of Nuku Ltd consisted of • Share Capital $150,000 • Reserves $ 30,000 • Retained Profits $ 20,000 Tonga Limited 100% Nuku Limited

6.a Pre-acquisition Equity Books of Nuku Ltd Books of Tonga Ltd Eliminate intra-group equity Capital 150,000 Reserves 30,000 Retained Profits 20,000 200,000 Shares in Nuku Ltd 225,000 Eliminate intra-group assets

6.a Pre-acquisition Equity Elimination entry at date of acquisition Dr Share Capital 150,000 Dr Reserves 30,000 Dr Retained Profits 20,000 Dr Goodwill 25,000 Cr Shares in Nuku Ltd 225,000 This is known as the pre-acquisition entry Must be made in the Worksheet every year

6.b Dividends from Pre-acquisition Profits Such dividends • Are treated as a return of capital • Reduce value of investment (shares) in subsidiary

Same Companies in Example 1 Example 2 Immediately after the acquisition, Nuku Ltd declared a dividend of $12,000 • out of pre-acquisition profits

6.b Dividends from Pre-acquisition Profits When the dividend is declared, what entries will be passed by • Nuku Ltd (Subsidiary) • Tonga Ltd (Parent)

6.b Dividends from pre-acquisition profits Books of Nuku Ld (Subsidiary) Dr Dividend Provided 12,000 Cr Dividend Payable 12,000 Liability Reduction to Retained Profits

6.b Dividends from pre-acquisition profits Entries in books of Tonga Ld (Parent) Dr Dividend Receivable 12,000 Cr Shares in Nuku Ltd 12,000 These are both Assets Investment in Nuku Ltd now = $213,000 • Originally $225,000 • Less Return of Capital $ 12,000

6.b Dividends from Pre-acquisition Profits What elimination entries are required? Intra-group Payable/Receivable Pre-acquisition entry

6.b Dividends from Pre-acquisition Profits Intra-group Payable/Receivable Dr Dividend Payable 12,000 Cr Dividend Receivable 12,000 All intra-group payables & receivables are eliminated in this manner Accounts Payable/Receivable Loans Payable/Receivable Debentures Payable/Receivable

6.b Dividends from Pre-acquisition Profits Pre-acquisition entry Dr Share Capital 150,000 Dr Reserves 30,000 Dr Retained Profits (Opening) 20,000 Dr Goodwill 25,000 Cr Dividend Provided 12,000 Cr Shares in Nuku Ltd 213,000

6.b Dividends from Pre-acquisition Profits Pre-acquisition entry Dr Retained Profits (Opening) 20,000 Cr Dividend Provided 12,000 In future periods Close Dividend Provided to Retained Profits Net Effect 20,000 – 12,000 = 8,000 • All PNL items are adjusted against R/Profits

6.b Dividends from Pre-acquisition Profits How do we treat a dividend already declared (but not paid) by the subsidiary at acquisition date? If cum div, • subtract from cost of acquisition If ex div, • excluded from analysis • payable to previous shareholders

6.c Goodwill on Acquisition Any goodwill is recognised as a consolidation adjustment If subsidiary already has goodwill in its books • Deduct recorded goodwill from FV of INA • Journalise difference in pre-acquisition entry See Comprehensive Example 14.6 page 566

6.d Revaluation of Assets If assets of the subsidiary are revalued upon consolidation, an adjustment is necessary Dr Asset Cr Business Combination Valuation Reserve Cr DTL BCVR is a component of Equity • Added when calculating FV of INA • Eliminated through pre-acquisition entry

6.d Revaluation of Assets Also need to provide additional Depreciation • Increase in Value divided by remaining useful life Dr Depreciation Expense Cr Acc. Depreciation This extra Expense effectively reduces Profit & Tax Dr DTL Cr I/Tax Expense

Same Companies in Example 1 Example 3 In addition to the information in Example 1 Nuku Ltd has only 1 asset (Equipment) • Cost $45,000 • Book value $27,000 • Fair value $36,000 • Remaining Useful life = 3 years Tax Rate = 30%

6.d Revaluation of Assets What revaluation entries are required in the consolidated statements? Dr Acc.Depn- Equipment 18,000 Cr Equipment 9,000 Cr BCVR 6,300 Cr DTL 2,700 $45,000 - $36,000 30% of $9,000 Known as the revaluation entry Made every year until the asset is sold • Then change account to “Transfer to BCVR”

6.d Revaluation of Assets On 31 March 2007 Dr Depreciation 3,000 Cr Acc. Depn- Equipment 3,000 (9,000/3 years) Dr DTL 900 Cr I/Tax Expense 900 (2,700/3 years)

Calculate Fair Valueof Identifiable Net Assets Step 1 Equity Item Amount Share Capital 150,000 Reserves 30,000 BCVR 6,300 Retained Profits 20,000 Total $206,300

Calculate Cost of Acquisition Step 2 Immediate cash payment of $225,000

Calculate Goodwill Step 3 Cost of Acquisition 225,000 Less Fair Value of INA 206,300 Goodwill $ 18,700

6.d Revaluation of Assets Pre-acquisition entry on 31 March 2007 Assuming Dividend was paid during the year Dr Share Capital 150,000 Dr Reserves 30,000 Dr Retained Profits 20,000 Dr BCVR 6,300 Dr Goodwill 18,700 Cr Dividend Provided 12,000 Cr Shares in Nuku Ltd 213,000

CONSOLIDATION PART 2 ICAP MODULE B FINANCIAL ACCOUNTING & MODULE D COST ACCOUNTING.NEW CLASSES. JOIN KHALID AZIZ