2. Comprehensive Review Problem 2 - Parent and Subsidiary PDF

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COMPREHENSIVE PROBLEM 2: Parent and Subsidiary On January 2, Year 3, Parent Ltd. purchased 80% of the outstanding shares of Subsidiary Ltd. for $2,000,000. At that date, Subsidiary had common shares of $800,000 and retained earnings of $1,250,000. Parent acquired the Subsidiary Common Shares to obtain control of mineral rights owned by Subsidiary. At the date of acquisition, the carrying amount of the recorded assets and liabilities of Subsidiary were equal to their fair values except for the following: 1. Inventory was overvalued by $200,000 2. Plant and Equipment with a carrying amount of $1,050,000 had a fair value of $1,350,000. Plant and Equipment on the date of the acquisition had a useful life of 10 years. 3. Patents valued at $750,000, were not recognized on Subsidiary’s separate entity balance sheet at the date of the acquisition. Patents on the date of acquisition had a useful life of 40 years. 4. Accounts Receivable balances recorded in the books were in excess of the fair value by $436,000. Subsidiary inventory turnover is 60 days 5. Accounts Payable was overvalued by $11,000. Accounts Receivable and Accounts Payable balances are collected and paid respectively net 30. Goodwill, if any, is tested annually for impairment. On December 31, Year 5 goodwill was impaired by $5,000. On December 31, Year 8 goodwill was valued at $10,000

On December 31 Year 8, the trial balances of the two companies were as follows:

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COMPREHENSIVE PROBLEM 2: Parent and Subsidiary

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COMPREHENSIVE PROBLEM 2: Parent and Subsidiary

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COMPREHENSIVE PROBLEM 2: Parent and Subsidiary Additional information: 1. On January 2, Year 4, Subsidiary sold equipment to Parent for $520,000. The equipment had a carrying amount of $400,000 at the time of the sale. The remaining useful life of the equipment was six years. 2. The Year 8 opening inventories of Parent contained $500,000 of merchandise purchased from Subsidiary during Year 7. Subsidiary had recorded a gross profit of $200,000 on this merchandise. Parent’s ending inventory contains $300,000 of merchandise purchased from Subsidiary. 3. On January 2 year 5, Parent sold land to Subsidiary for $800,000. The carrying value of the land in Parent’s books was $300,000 on the date of the sale. Subsidiary sold 1/3rd of the land to an arm’s length third party in Year 8. 4. The December 31, Year 8 and December 31, Year 7 inventories of Subsidiary contain $600,000 and $400,000 merchandize purchased from Parent respectively. 5. Parent’s sales to Subsidiary are priced to provide Parent with a gross profit of 20%. 6. Subsidiary’s sales to Parent were made at a gross profit rate of 40%. 7. Other expenses include depreciation expense. 8. During year 8 the following inter-company transactions took place: a. Subsidiary made a $25,000 payment to Parent for management fees, which was recorded as other expenses. b. On July 1 Year 5, Parent borrowed $250,000 from Subsidiary and signed a note bearing interest at 12%. Interest on the note was paid on December 31 each year. c. Subsidiary’s sales to Parent was $800,000. d. Parent’s sales to Subsidiary was $1,000,000. e. Parent owed Subsidiary $120,000 on account of purchases from Subsidiary f. Subsidiary owed Parent $50,000 on account of purchases from Parent 9. Dividends paid in Year 8 were as follows: Parent $600,000 Subsidiary $200,000 10. Tax allocation will be at a rate of 40%. Required: Prepare the Consolidated Financial Statements of Parent for Year8. Show all your workings.

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