土豆妮

Mustang Corporation formed a special purpose entity (SPE) for purposes of providing research and development. An unrelated firm absorbs the expected losses of the SPE and the independent shareholders of the SPE receive the expected residual returns. Is the SPE considered a variable interest entity (VIE) according to FASB Interpretation No. 46(R) and is consolidation required by Mustang, respectively?

A) Yes; No.

B) Yes; Yes.

C) No; No.

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Since the shareholders do not absorb the expected losses, the SPE is considered a VIE. The unrelated firm (not Mustang) that absorbs the losses is the primary beneficiary and must consolidate the VIE.

土豆妮

Firm A recently leased equipment used in its manufacturing plant. If the leased asset is worth less than $100,000 at the end of the lease, Firm A will pay the lessor the difference.

Firm B provided debt financing to an unrelated entity. The debt has a provision whereby Firm B cannot be repaid until all other senior debt is satisfied.

Do Firm A and Firm B have a variable interest?

A) Only one has a variable interest.

B) Neither have a variable interest.

C) Both have a variable interest.

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A lease residual guarantee and subordinated debt are both examples of variable interests. Firm A will experience a loss if the leased asset is worth less than $100,000 at the end of the lease. Firm B will experience a loss if the senior debt is not paid in full.

土豆妮

Which of the following securities would most likely be characterized as a held-to-maturity security?

A) Debt or equity securities.

B) Debt securities.

C) Equity securities.

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Only debt securities, that a company has a positive intent and ability to hold to maturity, can be characterized as a held-to-maturity security.

土豆妮

The proportionate consolidation method results in:

A) same net income as the equity method.

B) different net income from the equity method.

C) same equity as the cost method.

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The proportionate consolidation results in the SAME net income and equity as the equity method.

土豆妮

The proportionate consolidation method will least likely achieve the same results as the acquisition method because:

A) there are no minority interests.

B) of the use of the equity method on the income statement.

C) no joint ventures are included.

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Proportionate consolidations and acquisitions are the same except for the exclusion of minority interests in proportionate consolidations.

土豆妮

Joseph Haggs, CFA, is an analyst working for Garvess Jones, a large publicly traded investment-baking firm. Haggs covers the Internet sector. Recently, one of the more successful companies Haggs covers, Simpson Corporation, made an aggressive move to acquire another Internet company, Bailey Corporation (BC). BC is a company specializing in graphics and animation on the World Wide Web and has 1,000,000 shares outstanding. Simpson also holds minimal investments in other technology companies both public and private. In 1999 Simpson saw an opportunity to substantially increase its share in BC. Simpson feels that their sophisticated animation can greatly improve Simpson's market share and sees an acquisition as an opportunity to expand their business. The relevant financial data are in the following tables.

Bailey Corporation
Selected Financial Data, Years Ended December 31
(in Thousands)
Item	1998	1999	2000
Sales	$50,000	$60,000	$70,000
Less: cost of goods sold (COGS)	37,000	43,700	47,250
Earnings before interest & taxes (EBIT)	13,000	16,300	22,750
Less: Interest	10,000	13,000	19,000
EBT	3,000	3,300	3,750
Less: Taxes	1,000	1,100	1,250
Net Income	$2,000	$2,200	$2,500
Dividends Paid	$1,000	$1,200	$1,500
Total Shares Outstanding	1,000,000

Simpson’s Purchase Transactions in BC’s Stock
Date	January 1, 1998	January 1, 1999	January 1, 2000
Number of Shares	10,000	290,000	700,000
Price per Share	10	11	15

Because this is the largest acquisition in Simpson's history, Mr. Haggs' supervisor has asked him to prepare a report for Garvess Jones' clients detailing the affects of the acquisition on Simpson's financial statements.

Haggs wonders which accounting method Simpson uses to calculate the book value of the BC investment for the year ending December 31, 1999. Which is the correct method?

A) Equity method.

B) Acquisition method.

C) Investment in Financial Assets method.

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When a company owns an influential but non-controlling interest in another company, commonly 20-50%, it must account for it under the equity method.

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Haggs wonders which accounting method Simpson uses to calculate the book value of the BC investment for the year ending December 31, 1998. Which is the correct method?

A) Equity method.

B) Investment in Financial Assets method.

C) Acquisition method.

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When a company owns a non-influential and non-controlling interest in another company the investment must be carried at cost. Simpson must carry its BC investment at cost for 1998.

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Haggs wonders which accounting method Simpson uses to calculate the book value of the BC investment for the year ending December 31, 2000. Which is the correct method?

A) Equity method.

B) Pooling-of-interests method.

C) Acquisition method.

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When a company's interest in another exceeds 50% it is considered to have controlling interest and must consolidate the financial statements.

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Haggs wants to make sure that he assumes the proper accounting method when he does his analysis. The acquisition of BC stock will lead to Simpson's total net cash flow equaling which of the following for the year ending December 31, 1999?

A) $?3,190,000.

B) $?2,830,000.

C) $360,000.

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Simpson paid a total of $?3,190,000 (290,000 shares × $11) however, they also received a dividend from BC of $360,000. For 1999 Bailey Corporation is paying $1.20 in dividends per share (1,200,000 / 1,000,000). As of December 1999, Simpson has purchased 300,000 shares of BC (= 290,000 + 10,000). So dividends received is 300,000 × $1.20 = $360,000. This will make the total cash flow for the year $?2,830,000.

土豆妮

Assume that on the balance sheet date shown below TME Corporation acquires 70% of Abcor, Inc. common stock for $25,000 in cash.

Pre-acquisition Balance Sheets December 31, 2001
	TME Corp.	Abcor, Inc.
Current assets	$80,000	$38,000
Other assets	28,000	15,000
Total assets	$108,000	$53,000
Current liabilities	$60,000	$32,000
Common stock	15,000	14,000
Retained earnings	33,000	7,000
Total liabilities and equity	$108,000	$53,000

What will be the post-acquisition current ratio, using both the acquistion method and the equity method, respectively, for TME?  The choices below represent Acquisition and Equity, respectively.

A) 1.01, 0.92.

B) 1.04, 1.11.

C) 1.21, 1.02.

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With the acquisition method: The current assets are ($80,000 + $38,000 - $25,000) = $93,000. The current liabilities are ($60,000 + $32,000) = $92,000. The current ratio is $93,000/$92,000 = 1.01. With the equity method: The current assets are ($80,000 - $25,000) = $55,000. The current liabilities are $60,000. The current ratio is $55,000/$60,000 = 0.92.

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Using the acquistion method to account for the acquisition, what will be the post-acquisition current assets of TME?

A) $105,000.

B) $93,000.

C) $118,000.

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Using the acquisition basis of accounting, the post-acquisition level of the current assets is the amount of the current assets prior to acquisition minus the amount of cash used for the acquisition. ($80,000 + 38,000 – 25,000) = $93,000.

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Using the acquistion method to account for the acquisition, what will be the post-acquisition amount that will be recorded as the minority interest?

A) $14,700.

B) $21,000.

C) $6,300.

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Click for Answer and Explanation

Since only 70% of Abcor was purchased by TME there is a minority interest that must be accounted for, equal to the percentage of Abcor not owned by TME times Abcor’s net worth. (0.30)($53,000 – 32,000) = $6,300.

土豆妮

On January 9, 2006, Company X paid $2,000,000 for 100,000 shares of stock in Company S. Originally the company intended on holding the securities for the foreseeable future. As of December 31, the stocks were valued at $2,200,000. In 2006, Company S had earnings per share of $0.90 and paid dividends per share of $0.20. In late December 2006, the company decided to place the securities in their active marketable securities portfolio.

What is the impact of this change in status on the value of the assets of Company X?

A) $200,000.

B) $70,000.

C) $0.

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The stocks were classified as debt and equity securities available for sale, but now they will be classified as debt and equity trading securities. However, although it will affect net income, the change in status will not impact the reported value of the assets. According to SFAS 115, securities transferred from available-for-sale to trading securities are transferred at fair market value and unrealized gains or losses would be included in income.

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What is the impact of this change in status on the income and the stockholders' equity of Company X?

A) Stockholders' equity will rise by $200,000, but income will not change.

B) Income will rise by $200,000, but stockholders' equity will not change.

C) Income and stockholder's equity will rise by $200,000.

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The stocks were classified as debt and equity securities available for sale, but now they will be classified as debt and equity trading securities. The gain would have been reported in the securities valuation account in the equity section and not on the income statement, but now will be reported as income.

土豆妮

Which of the following statements about proportionate consolidation and the equity method is least accurate?

A) In a proportionate consolidation, the analyst adds the investor's pro-rata share of each of the affiliate's asset and liability accounts to the historical cost financial statements of the investor.

B) The equity balance under a proportionate consolidation will differ from that of the equity method because the investor records his pro-rata share of the equity of the affiliate firm in a proportionate consolidation.

C) Total assets under proportionate consolidation will most likely exceed the total assets reported under the equity method.

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The equity balance of the investor will remain unchanged irrespective of whether or not the equity method or proportionate consolidation is employed.

土豆妮

Which of the following statements about proportionate consolidation is CORRECT?

A) Minority interest is computed and shown on a proportionate consolidation balance sheet and income statement.

B) Under the proportionate consolidation method, all asset and liability accounts are added together using original historical costs.

C) The porportionate consolidation method is employed by analysts to better reflect the economic reality of the relationship between an investor and affiliate company which is currently accounted for under the equity method.

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The proportionate consolidation method is most appropriate when two firms have entered into a joint venture relationship but the investor accounts for the investment under the equity method because it owns between 20 and 50% of the outstanding shares of the JV. The proportionate consolidation method is used by analysts to better reflect the true economic linkage between the JV and the investor firm. The equity method provides nothing more than a "one-line" consolidation.