Exam (elaborations) TEST BANK Advanced Accounting Part 2 (2015 Edition) ZEUS VERNON B. MILLAN

Exam (elaborations) TEST BANK Advanced Accounting Part 2 (2015 Edition) ZEUS VERNON B. MILLAN BANK Advanced Accountin g Part 2 ZEUS VERNON B. MILLAN ALL RIGHTS RESERVED 2015 No part of this work covered by the copyright hereon may be reproduced or used in any form or by any means - electronic or mechanical, including photocopying – without the written permission of the author. ISBN 978-621-95096-5-7 Published by: BANDOLIN ENTERPRISE No. 100 Montebello Village, Bakakeng Sur, Baguio City 2600, Philippines 2 TABLE OF CONTENTS CHAPTER 13 BUSINESS COMBINATIONS (PART 1).............1 OVERVIEW ON THE TOPIC...........................................1 INTRODUCTION........................................................1 OBJECTIVE..............................................................4 SCOPE...................................................................5 DEFINITION OF BUSINESS COMBINATION........................5 Essential elements in the definition of a business combination 5 ACCOUNTING FOR BUSINESS COMBINATION....................7 IDENTIFYING THE ACQUIRER........................................8 DETERMINING THE ACQUISITION DATE.........................10 RECOGNIZING AND MEASURING GOODWILL..................11 Consideration transferred...............................12 Non-controlling interest..................................12 Previously held equity interest in the acquiree13 Net identifiable assets acquired.....................13 RESTRUCTURING PROVISIONS....................................22 SPECIFIC RECOGNITION PRINCIPLES............................23 1. Operating leases.......................................23 2. Intangible assets.......................................26 EXCEPTION TO THE RECOGNITION PRINCIPLE – CONTINGENT LIABILITIES 32 EXCEPTIONS TO BOTH THE RECOGNITION AND MEASUREMENT PRINCIPLES 34 Additional concepts on Consideration transferred 37 EXCEPTIONS TO THE MEASUREMENT PRINCIPLE.............40 CHAPTER 13: SUMMARY..........................................43 CHAPTER 13: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)............................................................44 CHAPTER 13: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).........................................48 CHAPTER 13: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) 55 CHAPTER 14 BUSINESS COMBINATIONS (PART 2)............63 SHARE-FOR-SHARE EXCHANGES.................................63 BUSINESS COMBINATION ACHIEVED IN STAGES..............67 BUSINESS COMBINATION ACHIEVED WITHOUT TRANSFER OF CONSIDERATION 70 MEASUREMENT PERIOD............................................73 DETERMINING WHAT IS PART OF THE BUSINESS COMBINATION TRANSACTION 79 Reacquired rights...........................................82 Settlement of pre-existing relationships between the acquirer and acquiree...................................................82 SUBSEQUENT MEASUREMENT AND ACCOUNTING...........89 DISCLOSURES........................................................96 CHAPTER 14: SUMMARY..........................................96 CHAPTER 14: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)............................................................97 CHAPTER 14: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).........................................99 CHAPTER 14: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................108 CHAPTER 15 BUSINESS COMBINATIONS (PART 3)..........115 3 SPECIAL ACCOUNTING TOPICS FOR BUSINESS COMBINATION115 GOODWILL..........................................................115 Due diligence................................................116 Methods of estimating goodwill....................117 REVERSE ACQUISITIONS.........................................122 COMBINATION OF MUTUAL ENTITIES.........................126 CHAPTER 15: SUMMARY........................................127 CHAPTER 15: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................127 CHAPTER 15: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................128 CHAPTER 15: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................132 CHAPTER 15: THEORY OF ACCOUNTS REVIEWER........134 CHAPTER 15 - SUGGESTED ANSWERS TO THEORY OF ACCOUNTS QUESTIONS ........................................................................141 CHAPTER 16 CONSOLIDATED FINANCIAL STATEMENTS (PART 1) 142 OVERVIEW ON THE TOPIC.......................................142 SCOPE...............................................................143 CONTROL...........................................................143 POWER..............................................................144 Administrative rights....................................145 Unilateral rights............................................145 Protective rights...........................................145 Substantive rights........................................146 Voting rights.................................................147 Substantive removal and other rights held by other parties .....................................................................151 EXPOSURE OR RIGHTS TO VARIABLE RETURNS............151 ABILITY TO USE ITS POWER TO AFFECT INVESTOR’S RETURNS 151 ACCOUNTING REQUIREMENTS..................................152 Uniform accounting policies.........................152 Reporting date..............................................152 Consolidation period.....................................153 Measurement................................................153 NON-CONTROLLING INTERESTS (NCI).......................154 PREPARING THE CONSOLIDATED FINANCIAL STATEMENTS154 CONSOLIDATION AT DATE OF ACQUISITION.................155 CONSOLIDATION SUBSEQUENT TO DATE OF ACQUISITION162 Step 1: Analysis of effects of intercompany transaction 162 Step 2: Analysis of net assets.......................162 Step 3: Goodwill computation......................163 Step 4: Non-controlling interest in net assets164 Step 5: Consolidated retained earnings.......164 Step 6: Consolidated profit or loss................164 Step 7: Profit or loss attributable to owners of parent and NCI .....................................................................165 SUBSIDIARY’S OUTSTANDING CUMULATIVE PREFERENCE SHARES 180 CHAPTER 16: SUMMARY........................................181 CHAPTER 16: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................184 CHAPTER 16: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................185 4 CHAPTER 16: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................190 CHAPTER 17 CONSOLIDATED FINANCIAL STATEMENTS (PART 2) 193 INTERCOMPANY TRANSACTIONS...............................193 Intercompany sale of inventory....................203 Intercompany sale of property, plant and equipment 212 Intercompany dividends...............................220 Intercompany bond transaction...................228 CHAPTER 17: SUMMARY........................................235 CHAPTER 17: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................236 CHAPTER 18 CONSOLIDATED FINANCIAL STATEMENTS (PART 3) 241 IMPAIRMENT OF GOODWILL....................................241 INTERCOMPANY ITEMS IN-TRANSIT AND RESTATEMENTS.246 CONTINUOUS ASSESSMENT.....................................255 Changes in ownership interest not resulting to loss of control .....................................................................255 Loss of control..............................................261 Derecognition of other comprehensive income266 IMPORTANCE OF CONSOLIDATION.............................269 THEORIES OF CONSOLIDATION.................................269 Historical background...................................272 Advantages and disadvantages of the entity theory 272 ADDITIONAL ILLUSTRATIONS:...................................274 CONSOLIDATION OF REVERSE ACQUISITION................288 SPECIAL PURPOSE ENTITIES....................................295 CHAPTER 18: SUMMARY........................................296 CHAPTER 18: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................297 CHAPTER 18: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................297 CHAPTER 19 CONSOLIDATED FINANCIAL STATEMENTS (PART 4) 311 COMPLEX GROUP STRUCTURES................................311 Identifying the acquisition date....................312 Consolidation of a vertical group..................313 Consolidation of a D-shaped (mixed) group. 323 Complex group structure with Associate......327 INVESTMENT IN SUBSIDIARY MEASURED AT OTHER THAN COST 333 PUSH-DOWN ACCOUNTING.....................................338 PFRS 12 DISCLOSURE OF INTERESTS IN OTHER ENTITIES344 CHAPTER 19: SUMMARY........................................346 CHAPTER 19: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................346 CHAPTER 19: THEORY OF ACCOUNTS REVIEWER........353 CHAPTER 19 - SUGGESTED ANSWERS TO REVIEW THEORY QUESTIONS ........................................................................357 CHAPTER 20 SEPARATE FINANCIAL STATEMENTS..........358 OBJECTIVE..........................................................358 5 SCOPE...............................................................358 DEFINITIONS........................................................358 PREPARATION OF SEPARATE FINANCIAL STATEMENTS.....359 COST METHOD.....................................................359 FAIR VALUE METHOD.............................................359 EQUITY METHOD..................................................360 DISCLOSURE........................................................361 CHAPTER 20: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................362 CHAPTER 20: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................362 CHAPTER 20: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................363 CHAPTER 20: THEORY OF ACCOUNTS REVIEWER........364 CHAPTER 20 - SUGGESTED ANSWERS TO REVIEW THEORY QUESTIONS ........................................................................364 CHAPTER 21 THE EFFECTS OF CHANGES IN FOREIGN EXCHANGE RATES .............................................................365 OBJECTIVE..........................................................365 Two ways of conducting foreign activities....365 Two main accounting issues.........................365 SCOPE...............................................................366 FUNCTIONAL CURRENCY.........................................366 CHANGE IN FUNCTIONAL CURRENCY.........................368 FOREIGN CURRENCY TRANSACTIONS.........................369 Initial recognition..........................................369 Subsequent measurement...........................370 Monetary items.............................................370 Direct and indirect quotation........................371 RECOGNITION OF EXCHANGE DIFFERENCES................371 ITEMS MEASURED AT OTHER THAN HISTORICAL COST...381 SEVERAL EXCHANGE RATES.....................................383 EXCHANGE DIFFERENCES RECOGNIZED IN OCI...........384 FOREIGN OPERATIONS...........................................385 Translation to the presentation currency......385 Translation procedures.................................386 Translation of a foreign operation.................393 Net investment in a foreign operation..........401 Disposal or partial disposal of a foreign operation 413 HYPERINFLATIONARY ECONOMY...............................414 Translation procedures – Hyperinflationary economy 414 DISCLOSURE........................................................419 CHAPTER 21: SUMMARY........................................419 CHAPTER 21: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................420 CHAPTER 21: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................424 CHAPTER 21: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................435 CHAPTER 21: THEORY OF ACCOUNTS REVIEWER........445 CHAPTER 21 - SUGGESTED ANSWERS TO REVIEW THEORY QUESTIONS ........................................................................453 CHAPTER 22 6 ACCOUNTING FOR DERIVATIVES AND HEDGING TRANSACTIONS (PART 1).........................454 OVERVIEW ON THE TOPIC.......................................454 INTRODUCTION....................................................454 PURPOSE OF DERIVATIVES......................................455 Risks.............................................................455 DEFINITION OF A DERIVATIVE..................................456 COMMON TYPES OF DERIVATIVES.............................458 MEASUREMENT OF DERIVATIVES..............................461 NO HEDGING DESIGNATION....................................461 HEDGING............................................................461 Hedging instrument......................................462 Hedged items...............................................463 HEDGE ACCOUNTING.............................................464 Hedging relationships...................................466 FAIR VALUE HEDGES..............................................466 CASH FLOW HEDGES.............................................467 HEDGES OF A NET INVESTMENT IN A FOREIGN OPERATION468 CHAPTER 22: SUMMARY........................................469 CHAPTER 22: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................470 CHAPTER 22: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................473 CHAPTER 23 ACCOUNTING FOR DERIVATIVES AND HEDGING TRANSACTIONS (PART 2).........................475 ACCOUNTING FOR FORWARD CONTRACTS..................475 Illustration 1: Fair value hedge of a recognized asset 475 Illustration 2: No hedging designation (Held for speculation) .....................................................................478 Illustration 3: Fair value hedge of a recognized liability 479 Illustration 4: No hedging designation (Held for speculation) .....................................................................482 FAIR VALUE HEDGE OF AN UNRECOGNIZED FIRM COMMITMENT 482 Illustration 5: Fair value hedge of a firm sale commitment .....................................................................483 Illustration 6: Fair value hedge of a firm purchase commitment .....................................................................486 Illustration 7: FV hedge - firm purchase commitment (Present value)...........................................................489 Illustration 8: FV hedge - firm purchase commitment (Present value)...........................................................492 FAIR VALUE HEDGE VS. CASH FLOW HEDGE...............494 FIRM COMMITMENT VS. FORECAST TRANSACTION........495 CHOICE TO DESIGNATE AS EITHER FAIR VALUE HEDGE OR CASH FLOW HEDGE ........................................................................496 SUBSEQUENT ACCOUNTING FOR ACCUMULATED OCI IN CASH FLOW HEDGE ........................................................................496 Illustration 9: Cash flow hedge – forecasted purchase transaction .....................................................................497 Illustration 10: Cash flow hedge of a forecasted sale transaction – Present value (Indirect quotation)................501 Illustration 11: CF hedge of a recognized liability – Present value .....................................................................503 7 CHAPTER 23: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................506 CHAPTER 23: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................509 CHAPTER 23: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................518 CHAPTER 24 ACCOUNTING FOR DERIVATIVES AND HEDGING TRANSACTIONS (PART 3).........................523 ACCOUNTING FOR FUTURES CONTRACT.....................523 Illustration 1: No hedging designation..........523 Illustration 2: FV hedge of a recognized asset measured at fair value.............................................................525 Illustration 3: FV hedge of a recognized asset measured at LOCON..........................................................527 Illustration 4: Fair value hedge of a firm sale commitment .....................................................................528 CASH FLOW HEDGE – SPECIFIC ACCOUNTING.............530 Illustration 5: CF hedge – Assessment of Hedge effectiveness .....................................................................531 ACCOUNTING FOR OPTIONS....................................535 Illustration 1: Fair value hedge of a recognized asset – Put option .....................................................................535 Illustration 2: No hedging designation – Call option 537 Illustration 3: CF hedge - forecasted transaction (Indirect quotation).....................................................539 ACCOUNTING FOR SWAPS.......................................541 Illustration 1: CF hedge - variable-rate debt (Payment at maturity)......................................................541 Illustration 2: CF hedge - variable-rate debt (Periodic payments) .....................................................................543 FAIR VALUE HEDGE – HEDGED ITEM IS MEASURED AT AMORTIZED COST ........................................................................547 Illustration 3: Fair value hedge of a fixed-rate debt547 CHAPTER 24: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................552 CHAPTER 24: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................560 CHAPTER 25 ACCOUNTING FOR DERIVATIVES AND HEDGING TRANSACTIONS (PART 4).........................569 ACCOUNTING FOR NET INVESTMENT HEDGES.............569 Illustration: Hedge of a net investment in foreign operation .....................................................................569 EMBEDDED DERIVATIVES........................................574 Hybrid contracts with financial asset hosts. .575 Separation of embedded derivative from host contract 575 ADDITIONAL ILLUSTRATIONS:...................................576 CHAPTER 25: SUMMARY........................................584 CHAPTER 25: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................585 CHAPTER 25: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................585 CHAPTER 25: THEORY OF ACCOUNTS REVIEWER........591 8 CHAPTER 25 - SUGGESTED ANSWERS TO THEORY OF ACCOUNTS QUESTIONS ........................................................................614 CHAPTER 26 CORPORATE LIQUIDATION AND REORGANIZATION 615 INTRODUCTION....................................................615 CORPORATE LIQUIDATION.......................................615 Measurement basis......................................615 Financial reports...........................................616 REORGANIZATION.................................................642 Types of corporate reorganization................642 CHAPTER 26: SUMMARY........................................643 CHAPTER 26: MULTIPLE CHOICE – THEORY (FOR CLASSROOM INSTRUCTION PURPOSES)..........................................................646 CHAPTER 26: MULTIPLE CHOICE – COMPUTATIONAL (FOR CLASSROOM INSTRUCTION PURPOSES).......................................651 CHAPTER 26: EXERCISES (FOR CLASSROOM INSTRUCTION PURPOSES) ........................................................................658 APPENDICES APPENDIX A...........................................664 INTERMEDIATE FINANCIAL ACCOUNTING - PART 1A CONTENTS AT A GLANCE APPENDIX B...........................................665 INTERMEDIATE FINANCIAL ACCOUNTING - PART 1B CONTENTS AT A GLANCE APPENDIX C...........................................666 INTERMEDIATE FINANCIAL ACCOUNTING - PART 2 CONTENTS AT A GLANCE APPENDIX D...........................................667 INTERMEDIATE FINANCIAL ACCOUNTING - PART 3 CONTENTS AT A GLANCE APPENDIX E............................................668 ADVANCED ACCOUNTING - PART 1 CONTENTS AT A GLANCE REFERENCES..........................................669 9 Chapter 13 Business Combinations (Part 1) Chapter 13: Multiple Choice – Computational (For classroom instruction purposes) Measuring goodwill / gain on bargain purchase Use the following information for the next two questions: Fact pattern On January 1, 20x1, DIMINUTIVE Co. acquired all of the assets and assumed all of the liabilities of SMALL, Inc. As of this date, the carrying amounts and fair values of the assets and liabilities of SMALL acquired by DIMINUTIVE are shown below: Assets Carrying amounts Fair values Cash in bank 40,000 40,000 Receivables 800,000 480,000 Allowance for probable losses on receivables (120,000) - Inventory 2,080,000 1,400,000 Building – net 4,000,000 4,400,000 Goodwill 400,000 80,000 Total assets 7,200,000 6,400,000 Liabilities Payables 1,600,000 1,600,000 On the negotiation for the business combination, DIMINUTIVE Co. incurred transaction costs amounting to ₱400,000 for legal, accounting, and consultancy fees. 1. Case #1: If DIMINUTIVE Co. paid ₱6,000,000 cash as consideration for the assets and liabilities of SMALL, Inc., how much is the goodwill (gain on bargain purchase) on the business combination? a. 1,200,000 b. 1,120,000 c. 1,280,000 d. 1,240,000 2. Case #2: If DIMINUTIVE Co. paid ₱4,000,000 cash as consideration for the assets and liabilities of SMALL, Inc., how much is the goodwill (gain on bargain purchase) on the business combination? a. (800,000) b. (720,000) c. (880,000) d. 1,200,000 Non-controlling interests Use the following information for the next four questions: Fact pattern 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. 1 As January 1, 20x1, RASCAL’s identifiable assets and liabilities have fair values of ₱4,800,000 and ₱1,600,000, respectively. Case #1: Non-controlling interest measured at fair value 3. 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 Case #2: Non-controlling interest measured at fair value 4. 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) Case #3: Non-controlling interest measured at fair value 5. KNAVE Co. elects the option to measure non-controlling interest at fair value. A value of ₱1,000,000 is assigned to the 20% noncontrolling interest in RASCAL, Inc. [(₱4M ÷ 80%) x 20% = 1,000,000]. 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. 200,000 b. 1,800,000 c. 2,440,000 d. 1,440,000 Case #4: Non-controlling interest’s proportionate share in net assets 6. 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 Transaction costs Use the following information for the next two questions: Fact pattern 2 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. 7. 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 8. 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 Restructuring provisions 9. 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 Specific recognition principles – Operating leases Fact pattern 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. Case #1: Acquiree is the lessee – terms are favorable 10. 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 Case #2: Acquiree is the lessee – terms are unfavorable 3 11. 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 patent compared with market terms are unfavorable. 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 Case #3: Acquiree is the lessor 12. As of January 1, 20x1, HISTRIONAL is renting a building and a patent from 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 Intangible assets – separability and contractual-legal criteria 13. On January 1, 20x1, LITHE Co. paid cash of ₱6,000,000 in exchange for all of the net assets of FLEXIBLE, Inc. As of this date, the carrying amounts and fair values of the assets and liabilities of FLEXIBLE acquired by LITHE are shown below: Assets Carrying amounts Fair values Cash 40,000 40,000 Receivables 2,760,000 1,480,00 0 Allowance for probable losses on receivables (400,000) Property, plant and equipment 4,000,000 4,400,00 0 Computer software 400,000 - Patent - 200,000 Goodwill 400,000 80,000 Total assets 7,200,000 6,200,00 0 Liabilities Bonds payable (w/ face amount of ₱1,600,000) 1,600,000 1,800,00 0 In applying the recognition and measurement principles under PFRS 3, LITHE Co. has identified the following unrecorded intangible assets: Type of intangible asset Fair value Research and development projects 200,000 Customer list 160,000 Customer contract #1 120,000 Customer contract #2 80,000 Order (production) backlog 40,000 Internet domain name 60,000 Trademark 100,000 4 Trade secret processes 140,000 Mask works 180,000 Total 1,080,0 00 Additional information:  The computer software is considered obsolete.  The patent has a remaining useful life of 10 years and a remaining legal life of 12 years.  FLEXIBLE, Inc. recognized the research and development costs as expenses when they were incurred.  Customer contract #1 refers to an agreement between FLEXIBLE, Inc. and Numbers Co., a customer, wherein FLEXIBLE, Inc. is to supply goods to Numbers Co. for a period of 5 years. As of acquisition date, the remaining period in the agreement is 3 years. LITHE and FLEXIBLE believe that Numbers Co. will renew the agreement at the end of the current contract. The agreement is not separable.  Customer contract #2 refers to FLEXIBLE’s insurance segment’s portfolio of one-year motor insurance contracts that are cancellable by policyholders.  FLEXIBLE, Inc. transacts with its customers solely through purchase and sales orders. As of acquisition date, has a backlog of customer purchase orders from 60% of its customers, all of whom are recurring customers. The other 40% of FLEXIBLE’s customers are also recurring customers. However, as of acquisition date, FLEXIBLE has no open purchase orders or other contracts with those customers.  The internet domain name is registered. How much is the goodwill (gain on bargain purchase)? a. 900,000 b. 600,000 c. 420,000 d. 1,680,000 Other recognition and measurement principles 14. 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.  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. 5 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 Contingent liabilities 15. 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 Consideration transferred and indemnification asset 16. 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 6 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 Deferred taxes 17. On January 1, 20x1, ATTAINDER Co. acquired all of the assets and assumed all of the liabilities of DISHONOR, Inc. As of this date, the carrying amounts and fair values of the assets and liabilities of DISHONOR acquired by ATTAINDER are shown below: Assets Carrying amounts Fair values Cash in bank 40,000 40,000 Receivables 800,000 480,000 Allowance for probable losses on receivables (120,000) Inventory 2,080,000 1,400,000 Building – net 4,000,000 4,400,000 Goodwill 400,000 80,000 Total assets 7,200,000 6,400,000 Liabilities Payables 1,600,000 1,600,000 ATTAINDER Co. paid ₱6,000,000 cash as consideration for the assets and liabilities of DISHONOR, Inc. It was determined on acquisition date that DISHONOR, Inc. has an unrecorded patent with a fair value of ₱120,000 and a contingent liability with fair value