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Equity Method Of Accounting

Equity Method Of Accounting

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Equity Method Of Accounting

Equity Method Of Accounting
Equity Method Of Accounting - Hello Friend Accounting Methods, In the article you read this time with the title Equity Method Of Accounting, We have prepared this article for you to read and retrieve information therein. Hopefully the contents of postings Article accounting, We write this you can understand. Alright, good read.

Title : Equity Method Of Accounting
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Equity Method Of Accounting

Acquisition


AcquirerTarget
Accounting
U.S.GAAPU.S.GAAP
Purchase price
-$185 million in cash (20% stake)
Pre-Acquisition Balance Sheets (12/31/2010)
in million $
AcquirerTarget
Current assets
13,900716
PP&E
26,977108




Total assets
40,877824








Current liabilities
10,363220
Other liabilities
11,1218
Common stock
6,127108
Retained earnings
13,266488




Total liabilities and equity
40,877824
Pro-Forma (i.e. projected) Income Statement (for the year ending 12/31/2011)
in million $
AcquirerTarget
Revenue
66,1762,176
Expenses
63,5152,068




Net Income
2,661108




Dividends
1,5250
(Questions and Answers)
  1. Assuming the acquisition goes through at the beginning of 2011, and that Acquirer will have a significant influence on Target, the total assets after acquisition would be:
    • 40,877
    • The accounting for an ownership interest of between 20% and 50% in an associate is handled using the equity method. Acquirer also have a significant influence (NOT control) on Target.
    • Under the equity method, the initial investment is recorded at cost and reported on the balance sheet as a noncurrent asset.
    • Because the acquisition in this case is fully funded by cash, there will be no change to total assets for Acquirer.
  2. The fair value of Target's other assets PP&E is $250 million. The amount allocated to goodwill would be:
    • 37.4
    • (Partial) goodwill = Purchase price (cash) - Pro-rata book value of Target - Amount of excess purchase price allocated to PP&E = 185 - (108+488)*20% - (250-108)*20% = 37.4
    • Full goodwill = 185/20% - (108+488) - (250-108) = 187.0 = 37.4/20%
  3. For this question only, assume that as a result of the acquisition, Acquirer must depreciate an additional $50 million over a 10-year period to zero salvage value. Target's contribution to Acquirer's EBT for 2011 is projected to:
    • 16.6
    • Equity income: 108*20% - (50-0)/10 = 16.6
  4. For this question only, assume that the acquisition occurs on December 31, 2010, and that there is no additional depreciation expense as a result of the acquisition. Compared to its beginning of year investment balance, the balance for Acquirer's investment in Target on December 31,2011, will be lower, higher, or unchanged?
    • Higher
    • No calculations are required to solve this problem.
    • Acquirer's investment balance = Investment balance at the beginning of year + equity income - dividend paid (under no additional depreciation assumption)
    • Increase/Decrease to Acquirer's investment balance = Target's equity income - Target's dividend paid (under no additional depreciation assumption)
    • The equity income is positive Target had positive net income, and there is no additional depreciation expense to subtract. Additionally, Target is not expected to make any dividend payments for 2011.
    • Based on this, Acquirer's investment balance will increase.
  5. "Since Target is profitable and pays no dividends, the equity method will result in higher net income than proportionate consolidation. Additionally, the equity method will result in lower return on assets (ROA) than the acquisition method with partial goodwill." Is this stament correct for both net income and ROA?
    • Under the condition above, the equity method, proportionate consolidation, and the acquisition method all report the same net income.
    • ROA is higher under the equity method than under proportionate consolidation because the equity method does report lower assets than proportionate consolidation.
  6. If an analyst were to follow IFRS instead of U.S. GAAP, the accounting method predescribed for this type of investment would most likely be (A) the equity method, (B) the acquisition method, or (C) proportionate consolidation?
    • Equity method
    • When the investment constitutes 20% to 50% of the associate, and the investor has significant influence on the associate, IFRS prescribes the equity method for accounting for the invesment.


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