Associates help needed
cornflower
Registered Posts: 129 Dedicated contributor 🦉
Please can someone help me with this question using the equity method? I've been trying to get this right all week and just can't do it.
On 1.1.10 entity A acquires a 35% interest in entity B over which it is able to exercise significant influence. Entity A paid 475,000 for it's interest in B. At that date the book value of B net assets was 900,000 and their fair value 1,100,000 and the difference is items of PPE with a useful life of 10 years. During the year B made a profit of 80,000 and paid a dividend of 120,000 on 31.12.10. Entity B also owned an investment in securities classified as available for sale that increased in value by 20,000.
How should entity A account for it's investment in B?
I am totally stuck
On 1.1.10 entity A acquires a 35% interest in entity B over which it is able to exercise significant influence. Entity A paid 475,000 for it's interest in B. At that date the book value of B net assets was 900,000 and their fair value 1,100,000 and the difference is items of PPE with a useful life of 10 years. During the year B made a profit of 80,000 and paid a dividend of 120,000 on 31.12.10. Entity B also owned an investment in securities classified as available for sale that increased in value by 20,000.
How should entity A account for it's investment in B?
I am totally stuck
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Comments
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cornflower wrote: »Please can someone help me with this question using the equity method? I've been trying to get this right all week and just can't do it.
On 1.1.10 entity A acquires a 35% interest in entity B over which it is able to exercise significant influence. Entity A paid 475,000 for it's interest in B. At that date the book value of B net assets was 900,000 and their fair value 1,100,000 and the difference is items of PPE with a useful life of 10 years. During the year B made a profit of 80,000 and paid a dividend of 120,000 on 31.12.10. Entity B also owned an investment in securities classified as available for sale that increased in value by 20,000.
How should entity A account for it's investment in B?
I am totally stuck
I am also studying for consolidated group accounts with CIMA.
I make the answer £503,000 to be included as a line in Non-Current Assets as A Group investment in B.
How I have got this answer is:
At Acquistion Date At Reporting Date
£ £
Net Assets at 1.1.12 900,000 900,000
Fair Value Adjustment 200,000 - (1,100,000-900,000) 200,000
FV Adj to Depreciation - (20,000) - (200,000/10 years)
Increase in Securitys - 20,000
Increase in Profits - 80,000
____________ ___________
Total Net Assets 1,100,000 1,180,000
Increase in Net Assets = 1,180,000 - 1,100,000 = £80,000
Price A paid for share in B =£ 475,000
Add Share in Profits of B £ 28,000 (80,000 * 35%)
__________
£ 503,000
Hopefully this is the answer in your book and if not I need to do some more work myself. Good Luck with your studies
Jo0 -
Hi,
When you are tackling questions like this it is important to break it all down into stages and to deal with each stage in its entirety, thus building up your answer. Here you have a investor that has acquired an associate. Therefore IAS 28 provisions kick in. IAS 28 also deals with the definition of the equity method of accounting. Under equity accounting you know that you recognise the investment at cost which is then adjusted for the investor's share of the associate's profit/loss. So tackle it in this order:
1st - Deal with the cost of the investment
The scenario tells you the A acquired a 35% interest in B for $475,000. Now what I can do is to actually break this down for you because A has acquired 35% of B's net assets and 35% of the fair value adjustment, hence:
Share in book value of B's net assets (35% x $900,000).......................................$315,000
Share in fair valuation of B's net assets (35% x ($1,100,000 - $900,000)..............$ 70,000
Goodwill is therefore ($475,000 - $315,000 - $70,000)..........................................$ 90,000
As per the question - cost of the investment in B by A......................................................................$475,000
(it's no coincidence that my reconciliation there balances back to the $475k investment
- all I have done is simply work backwards).
2nd - Deal with the associate's profit made in the year
Share of B's reported profit for the period (35% x $80,000).....................................$28,000
Adjustment needed to reflect the effect of fair values *
(35% x ($1,100,000 - $900,000) / 10 yrs.................................................................($ 7,000)
..........................................................................................................................................................$21,000
*the scenario tells you that difference of $200k relates to
PPE which has a useful life left of 10 yrs, hence this FV adj needs depreciating.
3rd - Deal with the revaluation of the available-for-sale assets
Share in revaluation of available-for-sale asset (this will be recognised in
other comprehensive income) (35% x $20,000)...................................................................................$7,000
4th - Deal with the dividend received by A in the year
Dividends reduce the value of the investment because they are essentially a
return on the investment, hence:
Dividend received by A during t he year (35% x $120,000)..............................................................(42,000)
Closing balance of A's investment in B per A statement of financial position..................................461,000
I will be able to then reconcile my closing balance of $461,000 (which might also make it easier for you to understand where my figures all plug into the equation) as follows:
Share in book value of B's net assets
$315,000 + 35% ($80,000 profit in year - $120,000 divi + $20,000 increase in AVS investment).....$308,000
Share in fair valuation of B's net assets
$70,000 minus $7,000 depreciation of fair value adjustment............................................................$ 63,000
Goodwill on investment in B
$475k proceeds, less ($900k x 35%) $315k, less ($200k x 35%) $70k............................................$ 90,000
Closing balance of A's investment in B.........................................................................................$461,000
I hope that helps you. Rather than tackle the question all in one go, try to break it down into bits and build up your answer like I did here - it makes it simpler to approach and keeps things 'on track'.
Best wishes
Steve0 -
Ok so in that post all my careful spacing out hasn't happened
At Acquistion Date
£
Net Assets at 1.1.12 900,000
Fair Value Adjustment 200,000 - (1,100,000-900,000)
________
Total Net Assets 1,100,000
At Reporting Date
£
Net Assets at 31.12. 900,000
Fair Value Adjustment 200,000
FV Adj to Depreciation (20,000) - (200,000/10 years)
Increase in Securitys - 20,000
Increase in Profits - 80,000
____________
Total Net Assets 1,180,000
I forgot to deduct the dividend paid from the share of the net assets which is 35% of of 120,000 £42,000 the difference between my answer of £503,000 and Steve's of £461,000....Is that right?0 -
I forgot to deduct the dividend paid from the share of the net assets which is 35% of of 120,000 £42,000 the difference between my answer of £503,000 and Steve's of £461,000....Is that right?
Hi Jo,
Yes, the difference between your answer and mine is the dividend paid to the shareholders of B. It's a really easy mistake to make - especially when you've got all that other information to deal with. Just remember that the investor will only receive their share of the dividend. Put simply all you're doing is:
Cost of investment + Share of profit + Revaluation - Dividend = Carrying value.
Also, try to keep in mind that goodwill in an associate is not shown separately in the statement of financial position - it is always combined in with the cost of the investment!
All the best and good luck with the studies.
Steve0 -
Steve Collings wrote: »Hi Jo,
Yes, the difference between your answer and mine is the dividend paid to the shareholders of B. It's a really easy mistake to make - especially when you've got all that other information to deal with. Just remember that the investor will only receive their share of the dividend. Put simply all you're doing is:
Cost of investment + Share of profit + Revaluation - Dividend = Carrying value.
Also, try to keep in mind that goodwill in an associate is not shown separately in the statement of financial position - it is always combined in with the cost of the investment!
All the best and good luck with the studies.
Steve
Thanks Steve and I hope I haven't confused you too much Cornflower.
So am I right in thinking that the dividend would be shown in the income statement as dividends received?0 -
Hi Jo
No you wouldn't recognise the dividend in the income statement because under equity accounting the parent's share of the associate's profit after tax (profit before dividends) is included under equity accounting as 'income from associate' in the income statement. The dividend will reduce the cost of the investment because this is a return on the investment (see the $42k reduction in my reconciliation of cost to carrying value in my earlier thread).
Keep in mind the following where associates are concerned:
Carrying value = share of net assets at acquisition + goodwill + share of post-acquisition profit or loss less dividends from the associate.
Hope that helps.
Steve0 -
Thanks again Steve
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Just one last 'tip' where associates are concerned! Don't show the goodwill in the associate separately on the face of the consolidated statement of financial position because it is included in the cost of the investment! Only show goodwill separately on the face of the consolidated statement of financial position for a subsidiary consolidated under the provisions in IAS 27.
All the best
Steve0
