Exam 5: Analyzing Investing Activities: Intercorporate Investments

Parent Company Inc. successfully bids for Child Company Inc. in year X1. Parent Company Inc. has purchased all of Child's shares outstanding for $8,500. Following are excerpts from both companies' financial statements for year X1, prior to the acquisition. Parent Company Inc. Child Company Inc. Total Assets \ 37,234 \ 5,379 Total Liabilities \ 23,467 \ 3,764 Total Shareholder's Equity \ 13,767 \ 1,615 Total Liabilities and Shareholders' Equity \ 37,234 \ 5,379 Also assume the following information: the acquisition was accounted for using the purchase method. $1,500 of the excess price relates to depreciable assets, and those assets have an additional useful life of 10 years at the time of the acquisition. Parent Company Inc. uses the straight line depreciation method and has a 34% tax rate. The combined net income for both companies for year X2 (excluding any expenses that need to be recorded as a result of the purchase method accounting for the merger) was $1,560. -What would be total assets in the consolidated financial statements for the date on which the merger became effective, assuming any excess purchase price relates to goodwill?

Parent Company Inc. successfully bids for Child Company Inc. in year X1. Parent Company Inc. has purchased all of Child's shares outstanding for $8,500. Following are excerpts from both companies' financial statements for year X1, prior to the acquisition. Parent Company Inc. Child Company Inc. Total Assets \ 37,234 \ 5,379 Total Liabilities \ 23,467 \ 3,764 Total Shareholder's Equity \ 13,767 \ 1,615 Total Liabilities and Shareholders' Equity \ 37,234 \ 5,379 Also assume the following information: the acquisition was accounted for using the purchase method. $1,500 of the excess price relates to depreciable assets, and those assets have an additional useful life of 10 years at the time of the acquisition. Parent Company Inc. uses the straight line depreciation method and has a 34% tax rate. The combined net income for both companies for year X2 (excluding any expenses that need to be recorded as a result of the purchase method accounting for the merger) was $1,560. -What would be total assets in the consolidated financial statements for the date on which the merger became effective?

How many shares outstanding will Acquirer have if they are successful in its acquisition?

Held-to-maturity securities are always classified as non-current assets.

A U.S. company has a subsidiary located in Great Britain. If the British pound is the functional currency and is appreciating relative to the dollar, what will happen to the following ratios after translation? Debt/Equity Net Profit Margin A) Higher Lower B) Higher Same C) Same Same D) Lower Higher

Held-to-maturity securities are equity securities that management intends and has the ability to hold to maturity.

When a company acquires another company and pooling-of-interest accounting is used, the statement of cash flows (after acquisition) will show a cash outflow in the investing section equal to the book value of the acquired company.

If the acquisition is completed as of 12/31/06, what will the reported earnings per share be for the year ended 12/31/06 assuming purchase accounting is used?

When a company with a higher price-earnings (P/E) ratio acquires a company with a lower P/E ratio in a stock-for-stock transaction accounted for as a pooling-of-interests, the earnings per share of the acquiring company will increase.

One of the problems with pooling-of-interests accounting is that it results, more often than not, in an understatement of assets.

Wilde Corporation owns 30% of the outstanding stock of Bernie Inc. Bernie recorded net income of $10M and paid dividends of $3M in 2006. For each of the following ratios, state the effect (higher, lower or no effect) that the use of the equity method would have on Wilde's financial ratios compared to the use of the cost method in 2006. Explain your answers. i. Gross margin ii. Total Asset turnover iii. Cash flow from operations to current liabilities iv. Debt to Equity

If a company acquires 100% of another company using its stock, they must use pooling-of-interests accounting.

Constant Corp. bought Steady Company on June 30, 2005 in a pooling-of-interests transaction. Both companies are in stagnant markets. Steady had total assets of $50,000 and total liabilities of $30,000 with fair market values of $60,000 and $30,000, respectively. Constant issued 1,000 shares, valued at $45 per share. Both companies operate in tax-free havens and take a half-year's depreciation in the year acquired using ten-year lives. Monthly operating results are as follows: $\quad\quad\quad\quad\quad\quad\quad\quad\quad\text { Per Month }$ Sales \ 3,000 \ 1,000 Expenses 2,000 800 Net income \ 1,000 \ 200 Assume revenue and earnings remain same for the next year. Company is following SFAS 142. -If accounted for as a purchase, 2005 consolidated revenues are reported as:

You are analyzing the financial statements of Floyd Corp. Floyd has made several acquisitions in the past few years using newly issued stock. These acquisitions have all been accounted for using purchase accounting. In each case, the purchase price exceeded the book value and fair value of the net assets of the acquired company. The book value and fair value of debt of acquired companies were the same. Floyd uses FIFO for inventory valuation purposes. a. Explain why Floyd's acquisition history makes it difficult to analyze the trend of its financial results. b. For each of the following measures, state the effect (higher, lower or no effect) on financial statement using the purchase method compared with the pooling method. i. Gross Profit Margin Percentage ii. Long-term debt-to-equity ratio iii. Pretax earnings

When using the current rate method to record foreign subsidiary results, all assets and liabilities are translated at a rate, in effect as of the statement date.

Which exchange rates are used for foreign subsidiaries with different functional currencies? Using the following abbreviations identify which of the below are correct methods for converting accounts receivable. Year-end rates: YE Average rates: AR Historical rates: HR Temporal Current Rate A) AR AR B) YE YE C) YE AR D) HR YE

When an acquisition is made and accounted for using the purchase method, the post-acquisition common stock account:

Purchase accounting is less commonly used for acquisitions than pooling-of interest accounting.

Agwen Corporation owns 25% of the shares of Bronwo Corporation, which traded on the New York Stock Exchange. Which method is Agwen most likely to use to account for this investment?

The current rate method should be used to translate foreign currency into the parent currency when the functional currency is deemed to be the parent currency.