Chapter 7, Problem 5E

To determine

Business combination:

A business combination refers tothe combining of one or more business organizations in a single entity. Business combinations leadto the formation of combined financial statements. After business combination, the entities having separate control mergeinto one having control over all the assets and liabilities. Merging and acquisition are two types of business combinations.

Consolidated financial statements:

Consolidated financial statements refer to the combined financial statements of entities which are prepared at year-end. Prepared when one organization is either acquired by the other entity or two organizations merged to form a new entity, consolidated financial statements serve the purpose of both the entities about financial information.

Value analysis:

Value analysis in a business combination is an essential part of determining the worth of the acquired entity. This type of analysis helps compute goodwill or gain on acquisition. If the net worth of the acquired entity is less than the consideration paid, then it results in goodwill, and if the net worth of the acquired entity is more than the consideration paid, then it results in gains on the acquisition.

:

Prepare all entries for the sale of the Company B shares on July 1, 2018 for each of the following situations:

1. 24,000 shares are sold for $890,000.

2. 12,000 shares are sold for $455,000.

3. 6,000 shares are sold for $232,500.

Explanation of Solution

1.

Prepare all entries for the sale of the Company B shares on July 1, 2018 when 24,000 shares are sold for $890,000:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Retained earnings		12,000
	Investment in Company B			12,000
	(Being investment in Company B recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Investment in Company B   $\left(\$35,000-\left(\$5,000÷2\right)\right)\times 80\%$		26,000
	Investment income			26,000
	(being the current year investment recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Cash		890,000
	Investment in Company B			878,000
	Gain on sale of subsidiary			12,000
	(being the gain on sale recorded)

Table: (1)

Working note:

  $\begin{array}{c}Investmentincome=\left(\left(CompanyB\text{'}s\mathrm{int}erest\times 80\%\right)\times \frac{1}{2}\right)-\frac{1}{2}\times 80\%\times 5,000\\ =\frac{1}{2}\times 80\%\times 35,000-\frac{1}{2}\times 80\%\times 5,000\\ =\$14,000-\$2,000\\ =\$12,000\end{array}$

2.

Prepare all entries for the sale of the Company B shares on July 1, 2018 when 12,000 shares are sold for $455,000:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Retained earnings		12,000
	Investment in Company B			12,000
	(Being investment in Company B recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Investment in Company B		12,000
	Investment income			12,000
	(being the current year investment recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Cash		455,000
	Investment in Company B			439,000
	Gain on sale of subsidiary			16,000
	(being the gain on sale recorded)

Table: (2)

Working note:

  $\begin{array}{c}Investmentincome=\left(\left(CompanyB\text{'}s\mathrm{int}erest\times 80\%\right)\times \frac{1}{2}\right)-\frac{1}{2}\times 80\%\times 5,000\\ =\frac{1}{2}\times 80\%\times 35,000-\frac{1}{2}\times 80\%\times 5,000\\ =\$14,000-\$2,000\\ =\$12,000\end{array}$

3.

Prepare all entries for the sale of the Company B shares on July 1, 2018 when 6,000 shares are sold for $232,500:

Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Retained earnings		3,000
	Investment in Company B			3,000
	(Being investment in Company B recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Investment in Company B		6,000
	Investment income			6,000
	(being the current year investment recorded)
Date	Accounts Title and Explanation	Post Ref.	Debit ($)	Credit ($)
	Cash		232,500
	Investment in Company B			219,500
	Paid-in-capital in excess of par			13,000
	(being the gain on sale recorded)

Working note:

Investment income:

  $\begin{array}{c}Investmentincome=\left(\left(CompanyB\text{'}s\mathrm{int}erest\times 80\%\right)\times \frac{1}{4}\right)-\frac{1}{4}\times 80\%\times 5,000\\ =\frac{1}{4}\times 80\%\times 35,000-\frac{1}{4}\times 80\%\times 5,000\\ =\$7,000-\$1,000\\ =\$6,000\end{array}$

Retained earnings:

  $\begin{array}{c}Retainedearnings=Amortizationperyear\times Percentageof\mathrm{int}erest\times 3\times \frac{1}{4}\\ =\$5,000\times 80\%\times 3\times \frac{1}{4}\\ =\$3,000\end{array}$