467005535 1ST Grading EXAM KEY Answers docx PDF

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NAME: Date: Professor: Section: Score:ACCOUNTING FOR BUSINESS COMBINATIONSFIRST GRADING EXAMINATION On January 1, 20x1, ABC Co. acquired 75% interest in XYZ, Inc. for ₱2,500,000 cash. ABC Co. incurred transaction costs of ₱250,000 for legal, accounting and consultancy fees in negotiating the busines...

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NAME: Professor:

Date: Score:

Section:

ACCOUNTING FOR BUSINESS COMBINATIONS FIRST GRADING EXAMINATION

1. On January 1, 20x1, ABC Co. acquired 75% interest in XYZ, Inc. for ₱2,500,000 cash. ABC Co. incurred transaction costs of ₱250,000 for legal, accounting and consultancy fees in negotiating the business combination. ABC Co. elected to measure NCI at the NCI’s proportionate share in XYZ, Inc.’s identifiable net assets. The carrying amounts and fair values of XYZ’s assets and liabilities at the acquisition date were as follows: Assets Cash in bank Accounts receivable Inventory Equipment – net Goodwill Total assets Liabilities Payables

Carrying amounts 25,000 425,000 1,300,000 2,500,000 250,000 4,500,000

Fair values 25,000 300,000 875,000 2,750,000 50,000 4,000,000

1,000,000

1,000,000

How much is the goodwill (gain on a bargain purchase)? a. 140,000 b. 278,500 c. 287,500 d. 264,500 Solution: Fair value of identifiable assets acquired excluding goodwill (4,000,000 total assets – 50,000 goodwill) Less: Fair value of liabilities assumed Fair value of identifiable net assets acquired Fair value of identifiable net assets acquired Multiply by: Non-controlling interest (100% - 75%) NCI’s proportionate share in identifiable net assets

3,950,000 (1,000,000) 2,950,000 2,950,000 25% 737,500

 Goodwill (Negative goodwill) is computed as follows: Consideration transferred NCI in the acquiree Previously held equity interest in the acquiree Total

2,500,000 737,500 3,237,500

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Less: Fair value of identifiable net assets acquired Goodwill

(2,950,000) 287,500

The ₱250,000 transaction costs are expensed. Acquisition-related costs do not affect the measurement of goodwill.

2. The management of an entity is unsure how to treat a restructuring provision that they wish to set up on the acquisition of another entity. Under PFRS 3, the treatment of this provision will be a. A charge in the income statement in the post-acquisition period. b. To include the provision in the allocated cost of acquisition. c. To provide for the amount and, if the provision is overstated, to release the excess to the income statement in the post-acquisition period. d. To include the provision in the allocated cost of acquisition if the acquired entity commits itself to a restructuring within a year of acquisition. 3. The method required under PFRS 3 to be used in accounting for business combinations is a. Purchase method c. Acquisition method b. Buy method d. Combination method 4. Should the following costs be included in the consideration transferred in a business combination, according to PFRS 3 Business Combinations? I. Costs of maintaining an acquisitions department. II. Fees paid to accountants to effect the combination. a. No No b. No Yes c. Yes No d. Yes Yes 5. PFRS 3 requires that the contingent liabilities of the acquired entity should be recognized in the balance sheet at fair value. The existence of contingent liabilities is often reflected in a lower purchase price. Recognition of such contingent liabilities will a. Decrease the value attributed to goodwill, thus decreasing the risk of impairment of goodwill. b. Decrease the value attributed to goodwill, thus increasing the risk of impairment of goodwill. c. Increase the value attributed to goodwill, thus decreasing the risk of impairment of goodwill. d. Increase the value attributed to goodwill, thus increasing the risk of impairment of goodwill. 6. Are the following statements about an acquisition true or false, according to PFRS 3 Business combinations? I. The acquirer should recognize the acquiree's contingent liabilities if certain conditions are met. II. The acquirer should recognize the acquiree's contingent assets if certain conditions are met. a. False, False b. False, True c. True, False d. True, True

7. Given the following information, how is goodwill from a business combination computed under PFRS 3?

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A = Consideration transferred B = Non-controlling interest in net assets of subsidiary C = Previously held equity interest D = Fair value of net identifiable assets of subsidiary % = Percentage of ownership acquired by the parent in the subsidiary a. A+B+C-D b. A – (D x %)

c. (A+C) – (D x %) d. (A+B) – [(D x %) – B]

8. In a business combination, an acquirer's interest in the fair value of the net assets acquired exceeds the consideration transferred in the combination. Under PFRS 3 Business Combinations, the acquirer should a. recognize the excess immediately in profit or loss b. recognize the excess immediately in other comprehensive income c. reassess the recognition and measurement of the net assets acquired and the consideration transferred, then recognize any excess immediately in profit or loss d. reassess the recognition and measurement of the net assets acquired and the consideration transferred, then recognize any excess immediately in other comprehensive income 9. Which one of the following reasons would not contribute to the creation of negative goodwill? a. Errors in measuring the fair value of the acquiree’s net identifiable assets or the cost of the business combination. b. A bargain purchase. c. A requirement in an IFRS to measure net assets acquired at a value other than fair value. d. Making acquisitions at the top of a “bull” market for shares. 10. The “excess of the acquirer’s interest in the net fair value of acquiree’s identifiable assets, liabilities, and contingent liabilities over cost” (formerly known as negative goodwill) should be a. Amortized over the life of the assets acquired. b. Reassessed as to the accuracy of its measurement and then recognized immediately in profit or loss. c. Reassessed as to the accuracy of its measurement and then recognized in retained earnings. d. Carried as a capital reserve indefinitely. 11. This type of business combination occurs when, for example, a private entity decides to have itself “acquired” by a smaller public entity in order to obtain a stock exchange listing. a. Step acquisition c. Reverse acquisition b. Rewind acquisition d. Stock acquisition 12. Acquisition accounting requires an acquirer and an acquiree to be identified for every business combination. Where a new entity (H) is created to acquire two preexisting entities, S and A, which of these entities will be designated as the acquirer? a. H. b. S. c. A. d. A or S.

Use the following information for the next four questions:

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On January 1, 20x1, KNAVE acquired 80% of the equity interests of RASCAL, Inc. in exchange for cash. Because the former owners of RASCAL needed to dispose of their investments in RASCAL by a specified date, they did not have sufficient time to market RASCAL to multiple potential buyers. As January 1, 20x1, RASCAL’s identifiable assets and liabilities have fair values of ₱4,800,000 and ₱1,600,000, respectively. 13. KNAVE Co. elects the option to measure non-controlling interest at fair value. An independent consultant was engaged who determined that the fair value of the 20% non-controlling interest in RASCAL, Inc. is ₱620,000. If KNAVE Co. paid ₱4,000,000 cash as consideration for the 80% interest in RASCAL, Inc., how much is the goodwill (gain on bargain purchase) on the business combination? a. 800,000 b. 2,060,000 c. 1,440,000 d. 1,420,000

D Solution: Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

4,000,000 620,000 4,620,000 (3,200,000) 1,420,000

14. KNAVE Co. elects the option to measure non-controlling interest at fair value. An independent consultant was engaged who determined that the fair value of the 20% non-controlling interest in RASCAL, Inc. is ₱620,000. If KNAVE Co. paid ₱2,400,000 cash as consideration for the 80% interest in RASCAL, Inc., how much is the goodwill (gain on bargain purchase) on the business combination? a. (180,000) b. (800,000) c. (160,000) d. (200,000)

A Solution: Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired (4.8M –1.6M) Gain on a bargain purchase

2,400,000 620,000 3,020,000 (3,200,000) (180,000)

15. KNAVE Co. elects the option to measure non-controlling interest at fair value. A value of ₱1,000,000 is assigned to the 20% non-controlling interest in RASCAL, Inc. [(₱4M ÷ 80%) x 20% = 1,000,000].

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If KNAVE Co. paid ₱4,000,000 cash as consideration for the 80% interest in RASCAL, Inc., how much is the goodwill (gain on bargain purchase) on the business combination? a. 200,000 b. 1,800,000 c. 2,440,000 d. 1,440,000

B Solution: Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

4,000,000 1,000,000 5,000,000 (3,200,000) 1,800,000

16. KNAVE Co. elects the option to measure the non-controlling interest at the non-controlling interest’s proportionate share of RASCAL, Inc.’s net identifiable assets If KNAVE Co. paid ₱4,000,000 cash as consideration for the 80% interest in RASCAL, Inc. and, how much is the goodwill (gain on bargain purchase) on the business combination? a. 1,440,000 b. 800,000 c. 1,400,000 c. 960,000

A Solution: Fair value of identifiable assets acquired Fair value of liabilities assumed Fair value of net identifiable assets acquired Multiply by: Non-controlling interest NCI’s proportionate share in net identifiable assets Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

4,800,000 (1,600,000) 3,200,000 20% 640,000 4,000,000 640,000 4,640,000 (3,200,000) 1,440,000

Use the following information for the next two questions: On January 1, 20x1, SMUTTY acquired all of the identifiable assets and assumed all of the liabilities of OBSCENE, Inc. On this date, the identifiable assets acquired and liabilities assumed have fair values of ₱6,400,000 and ₱3,600,000, respectively. SMUTTY incurred the following acquisition-related costs: legal fees, ₱40,000, due diligence costs, ₱400,000, and general administrative costs of maintaining an internal acquisitions department, ₱80,000.

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17. Case #1: As consideration for the business combination, SMUTTY Co. transferred 8,000 of its own equity instruments with par value per share of ₱400 and fair value per share of ₱500 to OBSCENE’s former owners. Costs of registering the shares amounted to ₱160,000. How much is the goodwill (gain on bargain purchase) on the business combination? a. 716,000 b. 556,000 c. 600,000 d. 1,200,000

D Solution: Consideration transferred (8,000 sh. x ₱500) Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired (6.4M - 3.6M) Goodwill

4,000,000 4,000,000 (2,800,000) 1,200,000

18. Case #2: As consideration for the business combination, SMUTTY Co. issued bonds with face amount and fair value of ₱4,000,000. Transaction costs incurred in issuing the bonds amounted to ₱200,000. How much is the goodwill (gain on bargain purchase) on the business combination? a. 716,000 b. 556,000 c. 600,000 d. 1,200,000

D Solution: Consideration transferred (fair value of bonds) Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired (6.4M - 3.6M) Goodwill

4,000,000 4,000,000 (2,800,000) 1,200,000

19. On January 1, 20x1, ENTREAT Co. acquired all of the identifiable assets and assumed all of the liabilities of BEG, Inc. by paying cash of ₱4,000,000. On this date, the identifiable assets acquired and liabilities assumed have fair values of ₱6,400,000 and ₱3,600,000, respectively. ENTREAT Co. has estimated restructuring provisions of ₱800,000 representing costs of exiting the activity of BEG, costs of terminating employees of BEG, and costs of relocating the terminated employees. How much is the goodwill (gain on bargain purchase)? a. 1,080,000 b. 1,280,000 c. 1,120,000 d. 1,200,000

D Solution: Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired (6.4M - 3.6M) Goodwill

4,000,000 4,000,000 (2,800,000) 1,200,000

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The ₱800,000 restructuring provisions are ignored because these are post-acquisition expenses.

20. On January 1, 20x1, HISTRIONAL Co. acquired all of the identifiable assets and assumed all of the liabilities of THEATRICAL, Inc. by paying cash of ₱4,000,000. On this date, the identifiable assets acquired and liabilities assumed have fair values of ₱6,400,000 and ₱3,600,000, respectively. As of January 1, 20x1, HISTRIONAL holds a building and a patent which are being rented out to THEATRICAL, Inc. under operating leases. HISTRIONAL has determined that the terms of the operating lease on the building compared with market terms are favorable. The fair value of the differential is estimated at ₱80,000. How much is the goodwill (gain on bargain purchase)? a. 1,080,000 b. 1,280,000 c. 1,120,000 d. 1,200,000

C Solution: Fair value of identifiable assets acquired, including intangible asset on the operating lease with favorable terms (₱6.4M + ₱80K)

Fair value of liabilities assumed Fair value of net identifiable assets acquired Goodwill (gain on bargain purchase) is computed as follows: Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

6,480,000 (3,600,000) 2,880,000

4,000,000 4,000,000 (2,880,000) 1,120,000

21. On January 1, 20x1, SUBTERFUGE Co. acquired all of the identifiable assets and assumed all of the liabilities of DECEPTION, Inc. by paying cash of ₱4,000,000. On this date, the identifiable assets acquired and liabilities assumed have fair values of ₱6,400,000 and ₱3,600,000, respectively. Additional information:  SUBTERFUGE intends to sell immediately a factory plant included in the identifiable assets of DECEPTION. All of the “held for sale” classification criteria under PFRS 5 are met. As of January 1, 20x1, the factory plant has a fair value of ₱1,200,000 and a carrying amount of ₱1,000,000 in the books of DECEPTION. Costs to sell the factory plant is ₱80,000.  Not included in the identifiable asset of DECEPTION is a research and development intangible asset that SUBTERFUGE does not intend to use. The fair value of this asset is ₱200,000.

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

Also, not included in the identifiable asset of DECEPTION is a customer list, with an estimated value of ₱40,000, in the form of a database where the nature of the information is subject to national laws regarding confidentiality. How much is the goodwill (gain on bargain purchase)? a. 1,200,000 b. 1,280,000 c. 1,080,000 d. 1,040,000

C Solution: Fair value of identifiable assets Costs to sell of the “held for sale” asset Fair value of unrecognized research and development Adjusted value of identifiable assets Fair value of liabilities assumed Fair value of net identifiable assets acquired

6,400,000 (80,000) 200,000 6,520,000 (3,600,000) 2,920,000

Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

4,000,000 4,000,000 (2,920,000) 1,080,000

22. On January 1, 20x1, CHIDE Co. acquired 90% of the identifiable assets and assumed all of the liabilities of SCOLD, Inc. by paying cash of ₱4,000,000. On this date, SCOLD’s identifiable assets and liabilities have fair values of ₱6,400,000 and ₱3,600,000, respectively. Non-controlling interest has a fair value of ₱320,000. As of January 1, 20x1, SCOLD had the following which were not included in the acquisition-date fair value measurement of liabilities:  SCOLD has an existing contract with a customer to deliver products at a specified future date. In accordance with the agreement, SCOLD shall pay a penalty for failure to deliver the said goods. CHIDE determined that the fair value of the penalty is ₱40,000. However, because CHIDE expects to comply with the agreement, it was assessed that payment of penalty is improbable.  SCOLD has guaranteed a bank loan of a third party. CHIDE shall replace SCOLD as the guarantor. If the third party defaults on the loan, CHIDE will be held liable for the guarantee. CHIDE determined that the fair value of the guarantee is ₱120,000. However, both SCOLD and CHIDE believe that the third party will not default on its loan from the bank.  There is a pending unresolved litigation filed by a third party against SCOLD. CHIDE determined that the fair value of settling the litigation is ₱200,000. However, because the legal counsels of both CHIDE and SCOLD strongly believe that they will win the case, it was assessed that payment for the settlement of the litigation is improbable. How much is the goodwill (gain on bargain purchase)? a. 1,880,000 b. 1,200,000 c. 1,560,000 d. 1,520,000

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A Solution: The adjusted fair value of net identifiable assets acquired is computed as follows: Fair value of identifiable assets acquired Total fair value of liabilities assumed: Fair value of liabilities assumed Fair value of contingent liabilities assumed: Contractual contingent liability assumed Contractual contingent liability assumed Non-contractual contingent liability assumed Fair value of net identifiable assets acquired

Consideration transferred Non-controlling interest in the acquiree Previously held equity interest in the acquiree Total Fair value of net identifiable assets acquired Goodwill

6,400,000 3,600,000 40,000 120,000 200,000

(3,960,000) 2,440,000

4,000,000 320,000 4,320,000 (2,440,000) 1,880,000

23. On January 1, 20x1, PRODIGIOUS Co. acquired all of the identifiable assets and assumed all of the liabilities of EXTRAORDINARY, Inc. by paying cash of ₱4,000,000. On this date, the identifiable assets acquired and liabilities assumed have fair values of ₱6,400,000 and ₱3,600,000, respectively. The terms of the business combination agreement are shown below:  Half of the ₱4,000,000 agreed consideration shall be paid on January 1, 20x1 and the other half on December 31, 20x5. The prevailing market rate as of January 1, 20x1 is 10%.  In addition, PRODIGIOUS agrees to provide for the following: a. A piece of land with a carrying amount of ₱2,000,000 and fair value of ₱1,200,000 shall be transferred to the former owners of EXTRAORDINARY. b. After the combination, EXTRAORDINARY’s activities shall be continued by PRODIGIOUS. PRODIGIOUS agrees to provide a patented technology for use in the activities of EXTRAORDINARY. The patented technology has a carrying amount of ₱240,000 in the books of PRODIGIOUS and a fair value of ₱320,000.  Included in the liabilities assumed is an estimated liability on a pending lawsuit filed against EXTRAORDINARY by a third party with an acquisition-date fair value of ₱400,000. The carrying amount of the liability in EXTRAORDINARY’s books immediately before the business combination is ₱480,000. EXTRAORDINARY guarantees to indemnify PRODIGIOUS for any settlement amount of the liability in excess of ₱480,000. How much is the goodwill (gain on bargain purchase)? a. 1,721,843 b. 1,561,843 c. 1,641,843 d. 2,320,000

B Solution: The fair value of the consideration transferred is determin...