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FAR - Notes Chapter 3

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Marketable Securities
Securities should be classified into one of three categories
1. Trading Securities securities (both debt and equity) bought and held for the purpose to sell them soon
2. Available for sale securities (both debt and equity) that does not meet the definition of the other to
! reported as either current or non!current asset" depending on the intent of the corporation
#. $eld to %aturity Securities debt securities that the corp intends to hold until maturity
! reported as current if matures ithin 1 yr& non!current if matures in more than a yr
! stoc's don(t mature" so only debt securities are classified as this
Trading and available for sale are reported at fair value (mar' to mar'et)
)nreali*ed gain+losses on trading securities are included in earnings& I,-A& operating cash flo
)nreali*ed loss on trading securities ..
/aluation Account ..
)nreali*ed g+l on available for sale are reported in other comprehensive income& 0U1-& investing cash flo
)nreali*ed loss on available for sale securities ..
/aluation Account ..
2eclassification& transfer of security from one group to another
From To Adjustment
Trading Any other no ad3ustment necessary (already recogni*ed in income)
Any other Trading 2ecogni*e in income immediately
Avail for Sale (debt) $eld to %at unreali*ed g+l is amorti*ed over the remaining life of debt
$eld to %at (debt) Avail for Sale unreali*ed g+l at transfer date shall be reported in 0U1-
4f there is a permanent decline in fair value" rite don as impairment of asset and record as reali*ed loss in
current earnings I,-A
A sale of security from any category results in a reali*ed gain+loss and is reported in current income
5ash ..
Trading security ..
2eali*ed gain .. (I,-A)
5ash ..
)nreali*ed gain on Avail for sale .. (0U1-)
Avail for sale security ..
2eali*ed gain on Avail for sale .. (I,-A)

)nreali*ed gain+losses care not ta. deductible and therefore cause a temporary difference
Business Combinations/Consolidations
5onsolidated 1+S ignore important legal relationships and emphasi*e economic substance over form
5onsolidate all ma3ority oned subsidiaries (over 678 voting)
,o not consolidate hen company is under legal reorgani*ation (ban'ruptcy) or control of sub is ith a
trustee
Cost method (0-19% ownership) do not consolidate" no significant influence
Equity Method (20%-0%) do not consolidate" significant influence
Conso!id"te (0%#) control
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FAR - Notes Chapter 3
http://www.cpa-cfa.org
Cost Method (external reporting) (also called fair value method or avail for sale)
,o not consolidate
9+S
2ecord at cost (1%/ : legal fees)
4nvestment in investee ..
5ash ..
Ad3ust to 1%/ at year end
)nreali*ed holding losses ..
%ar'etable security ..
,ividend distribution or return of capital
5ash ..
4nvestment in investee ..
4+S
,ividends to the parent are reported as income
5ash ..
,iv income ..
,istributions that e.ceed parents share of the investee(s retained earnings
5ash ..
4nvestment in investee ..
%ost tested concepts on cost method
The ;investment in investee< is not ad3usted for investee earnings
The ;investment in investee< is ad3usted to 1%/ (1AS9 116)
5ash dividends from the investee are reported as income by the parent
Euit! Method (external reporting) do not consolidate
-.ercises significant influence ons 278!678 voting stoc'" largest shareholder or holds ma3ority of
board of director seats
So can on belo 278 voting stoc' and still e.ert significant influence and therefore use equity method
9+S
2ecord at cost (1%/ : legal fees)
4nvestment in investee ..
5ash ..
=hen sub earns money+reports >4" increase by parents onership 8 of investee(s earnings
4nvestment in investee ..
-quity in earnings+investee income ..
,ividend distribution or return of capital" decrease by parents onership 8 of dividends from investee
5ash ..
4nvestment in investee ..
4+S
0arents onership 8 of investee(s earnings is recorded as income
4nvestment in investee ..
-quity in earnings+investee income ..
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FAR - Notes Chapter 3
http://www.cpa-cfa.org
4nvestee cash dividends reduce parents investment
5ash ..
4nvestment in investee ..
So easy ay to remember is the ?AA0 accounting rules for the equity method is to thin' of it li'e a ban'
account
9eginning 9al
: investee earnings
! investee dividends
@ ending balance
$tep %y step "&quisition (' w"s usin( &ost method) %ut ' %ou(ht more sto&* "nd now h"+e to use equity method)
The investment account and retained earnings account are ad3usted retroactively for the difference beteen
cost method+available for sale method to equity method
5onsidered a change in accounting principal (from cost to equity method)
Apply the ne equity method to the prior periods old onership 8 (1!278)" don(t apply the ne
percentage onership hen ma'ing the retroactive ad3ustment" you did not on that much of the company
bac' then
Conso!id"ted ,in"n&i"! st"tements - &ontro!. use pur&h"se method) poo!in( o, interests is no !on(er permitted
"urchase Method
0arent company internal A-
0urchase for cash (at 1%/ hich is the cost on purchase date)
4nvestment in subsidiary ..
5ash ..
or
0urchase ith parent common stoc'
4nvestment in subsidiary ..
5ommon stoc' .. (parent at par)
A045 .. (0arent 1%/!par)
0aid more than net boo' value (>9/) for subsidiary (premium) should be recorded as goodill
0aid less than >9/ for subsidiary (discount) record as e.traordinary gain
-liminate Sub(s old equity
5onsolidating or'paper eliminating 3ournal entry
C Common stoc' sub ..
A A045 ..
R R+- sub ..
I Investment in Sub ..
M Minority interest ..
A Ad3ust 9+S of sub to 1%/ (paid) ..
G Goodill ..
=hen CAR does not equal I then 4 reconcile using MAG
=hen the questions says you purchased the sub on 1+1+71 but they give you the sub(s financial on 12+#1+71
then you need to find beg retaining earning (1+1+71) so ta'e the ending retaining earning : dividends income
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FAR - Notes Chapter 3
http://www.cpa-cfa.org
4nvestment in subsidiary
Briginal carrying amount of the investment in subsidiary account on parents boo's @ original cost 1%/
,irect out of poc'et costs (finders fee" legal fees) are including in investment in sub account (capitali*ed)
,ebitC investment in sub
4ndirect costs are e.pensed as incurred
,ebitC e.pense
Stoc' registration fees and issuance costs (S-5 filing fees) are a direct reduction of value of stoc' issued
,ebitC A045
9ond issue costs are capitali*ed to ;bond issue cost< and amorti*ed
%inority interest ill be attributed hen the parent does not on 1778 of sub
The consolidated 4+S ill include 1778 of sub(s net income. The minority interest portion of the subs net
income ill be included as a line item deduction
The consolidated 9+S ill include 1778 of sub(s assets and liabilities (not sub(s equity + 5A2). The minority
interest share of the sub(s net assets should be presented on the 9+S beteen DT debt and equity as ;minority
interest in net assets< @ subs stoc' holders equity E minority interest
,etermining purchased goodill or e.traordinary gain
4nvestment in Sub
: liabilities assumed
@ purchase price
! (5urrent assets : DT mar'etable securities)
! Doer of cost or 1%/ of non!current assets
@ : its ?oodill& ! it(s a e.traordinary gain
F/-/0 e0"mp!e1 F/-/1 "re the 2E
#ntercompan! $ransactions eliminate %&&' for external reporting
They are eliminated because they lac' the criteria of beings ;arms length<
,o no eliminate intercompany accounts if you do not consolidate
=hen inventory has been sold intercompany reverse the original intercompany transaction (sale and 5B?S)
and
! if inventory is sold to outsiders correct 5B?S
! if inventory is still on hand correct -nding 4nventory
4f one member of the consolidated group acquired an affiliate(s debt from an outsider" the debt is considered to
be retired (because oned internally) and a g+l is recogni*ed. Bnly e.traordinary is unusual and infrequent
Combined (/S / "ush )o*n +ccounting
5ombined 1+S are for a group of related companies" not consolidated because there is no parent company
! 5ompanies under common control (individual ons many companies)
! 5ompanies under common mgmt
! )nconsolidated subsidiaries (many foreign subs)
3ush down "&&ountin( reports assets and liabilities at fair value in separate 1+S of the subsidiary
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