 Hello and welcome to the session in which we would look at a consolidated financial statement example that is considered post-acquisition. So after we acquire the financial statements, we have to do those consolidation on a yearly basis. So this example, I would say it's comprehensive, although it's comprehensive, it's still a basic because we're going to be adding to those consolidation different steps as we go along the course. So make sure you understand every step you understand every computation we are doing here because all what's going to happen, we're going to be adding more layers to that onion. So make sure you are aware of this. Now this topic is covered on the CPA exam as well as an advanced accounting. So whether you're an accounting students or a CPA candidate, I strongly suggest you take a look at my website farhatlectures.com. What can I do? What do I offer you? Well, most likely you have a CPA review course. I don't replace your CPA review course. 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So let's take a look at this problem and what I'm going to do, I'm going to break it down step by step. So you have to follow everything that I'm doing. Now I did kind of explain this concept earlier when we did the first year acquisition, but I'm going to go over this process again. So it's very important that you keep up. You keep up your knowledge. So we have a parent company acquired all the outstanding stocks of the subsidiary. So we purchased 100% in exchange for $5,875,000 in cash. So simply put, we gave them cash and we got older stocks. Therefore, consideration transferred $5,875,000. The parent meant and tend to maintain subsidiaries as a wholly owned subsidiary. So they're going to keep two separate accounting record. Both companies have December 31st physical and at the acquisition date, the subsidiary stockholders' equity was $2,000,000, including $1.5 million of retained earnings. That's fine. We're going to see what that $2,000,000 composed of, but simply put, now we have the book value, stockholders' equity book value. So we paid $5,875,000 for something that's worth $2,000,000 on the books. Therefore, we paid an access $3,875,000. Now this access, we have to explain it. We have to find out if we can explain it first. In other words, we have to allocate this access, this access amount to various assets, whether they are tangible or intangibles. And if we cannot assign it to any particular asset or liability, then we assign it to what? To Goodwill. So let's see what we have here. We have an unpatent technology on doorbooks and it's undervalued by $800,000. That's fine. So now what we're going to happen of this $3,875,000, we know $800,000 goes to that unpatent technology. It was undervalued. But remember, once we add this technology, when we're going to be doing the consolidation, we're going to have to amortize $100,000 expense and $100,000 of amortization. Why? Because we added assets, assets are expensed, so we're going to expense $100,000 during the consolidation process. This is why I have this $100,000 access amortization. That's not enough. Of the $3,875,000, you only used $800,000. Well, guess what? We have another patent that's undervalued by $2.5 million. It has a 10-year life. Again, of this $3,875,000, we're going to assign $2.5 million to an undervalued patent. Okay? And why? That's always the case in the real world. Why? Because when you create a patent, you cannot capitalize it. But if somebody purchases your company, buys your company, they're going to assign a value. They have the right to assign a value to that patent. So that patent is worth $2.5 million. We think it's going to serve us for 10 years. Therefore, we're going to have an additional access amortization of $250,000. Also, we have an undervalued long-term debt by $100,000. So we're going to have to add $100,000 to our debt. Well, over five years, it's basically $20,000 per year. That's the undervalued debt. So those are the three amortization or expense computation that we have to undergo as we are going through the consolidation process. Because we're going to be adding more assets. We're going to have more expenses. We're going to be adding more debt. We're going to have more interest expense. Okay? Because we're adding the debt. We're adding that new debt that's undervalued. So keep that in mind. Keep those three figures. And if we net them out, plus $100,000, plus $250,000, minus $20,000, because when we consolidate, we have to back out that interest expense. So in total, will be $330,000. So keep that number in mind. Okay? The remaining is $675,000. We cannot assign to anything. Therefore, we consider it goodwill. So now we understand how goodwill is computed. We took the $3,875,000 assigned to various assets, what we can assign. And anything that unassignable, which is we cannot find a number for an asset to park that money in, the value, not the money, the value, we will assign to goodwill. Now, post-acquisition parent company employs the equity method to account for its investment in the subsidiary. And we're going to see how this work. During the two years following the business, subsidiary reported the following income in 2020 in the year of purchase, income of 480 dividend of 25, year 2021, income of 960 dividend of 50. No assets impairment have occurred since the acquisition date. The first thing I'm going to do, I'm going to show you the journal entries that they make on a yearly basis under the equity method. Now, it's very important that you understand those entries. Okay? So what's going to happen is this year one, they purchase the investment. I'm sorry, obviously year one, yes, they did purchase the investment, debit, investment, credit, cash, but you don't, we don't have to worry about this. Year one, they have income of 480,000. We debit investment because this is the equity method, we get 100% of the income. We credit, debit investment, credit income from equity 480,000. They paid dividend of 25,000, debit dividend, credit the investment. So notice, investment went up, then by the amount of the dividend, investment went down because we are using the equity method. Now, remember, remember that we have those access amortization. Okay? Because of the access amortization, we have to reduce because what happened is this, when we bring, when we consolidate, we have more assets. Okay? And when we have more assets, we're going to have additional expenses because assets gets expensed. So as a result, we have a net additional expenses of 330,000. Therefore, what's going to happen? We're going to debit income from equity. So notice, we were debiting this account, we're reducing our income and we are reducing our investment by 330,000. Now, why do we do this? Because we added those assets. As a result, they increased our expenses. The net is 330,000. Now, we're going to do the same thing for year two. Year two or 2021, we have an income of 960. It's going to increase our investment. We're going to record income from equity. Then we're going to have dividend of 50, and it's going to reduce our investment by 50. Then we're going to have the 330,000 entry because those assets notice eight years, 10 years and five years. So by year two, we still have them all fully being amortized. Okay? So this is what we have now. It's very important at this point to draw the investment account. So what do we have under the investment account? We purchased this investment for 5,875,000. This is the purchase of the investment. In year one, we increased the investment by 480,000. Then we reduced it by 25, then we reduced it by 330. So this is year one. Increased it by 480, reduced it by 25, reduced it by 330. Year two, we increased the investment by 960, reduced it by 50, the dividend, and reduced it by 330. So these numbers here. Then we end up with 6,580,000. So our investment is 6,580,000 because we are keeping this investment using the equity method on our books, on the parent books. Now in year 2021, we are going to consolidate, we are going to bring both companies together. Now to bring both companies together, we have to do, we have to complete the worksheet. Now we're going to go to the worksheet on Excel sheet and show you all the figures and how are we going to process this, this, this consolidation. But before we proceed, remember that the equity investment, the investment is 6,580,000. So you understand where this number is coming from. So let's go ahead and take a look at the Excel sheet. Okay, here's the Excel sheet for both the parent company showing the parent and the subsidiary. And we have the numbers, revenues for the parent, expenses for the parent, revenue for the subsidiaries, expenses for the subsidiaries. I want to point out a few accounts I want you to be aware of. Equity, earning, and sub, 630. Where did this number came from? Remember the equity earnings, net income was 960, then we deducted 330,000. So the equity from the sub is 630, the equity, the equity earnings from the sub. And investment in the sub, you remember the 6,580,000, this number here. Hopefully you remember how we came up to that. It's very important that you see this, because those numbers are, we came up with these numbers. So I just want to make sure you're aware of this, where these numbers are coming from. Now to consolidate, we're going to go through it step by step, and we're going to be using those steps. S, A, I, D, E, P, and we're going to be adding more steps down the road. So just make sure you are comfortable with these steps. So what is the first step in the consolidation process? The first step is this. Eliminate the subsidiary stockholders' equity January first balances in the book portion of the investment. Simply put, when we start, we're going to have to eliminate the equity section of the subsidiary. So we're going to eliminate their common stock account. This is part of their equity. We're going to eliminate the common stock. We're going to eliminate their beginning retained earnings, not ending retained earnings, because why beginning retained earnings and not ending retained earnings? Because in this company, they earned their profit. They earned their profit. We're going to have to eliminate the beginning retained earnings, which is 1,955,000. Not the ending. Basically the ending, it's going to go away by closing revenues and dividend. It's going to be closed away. So we need to eliminate the beginning. So those are basically, let's start with the first entry. Now I'm going to do the entry on the sheet here, but keep in mind, those are actual entries on the worksheet, not in any books, not in the parent's book, not in the subsidiary books. So these entries are worksheet entries. So if I have a credit, if the subsidiaries has $500,000, you remember, common stock is credit. Therefore, I'm going to have to debit this account. Therefore, what I do is I debit as I debit the first thing I debit common stock. I'm going to go up here, retained earning is also a credit. I'm going to have to debit retained earnings for the amount of the subsidiary, the beginning retained earning, 1,955,000. In the prior example, at some point, I closed ending retained earnings. And the reason I closed ending retained earnings in the prior example, in case you're wondering, it's because we purchased the company after they closed our books. Here, we purchased the company's two years ago. So those entries are happening, look, those entries are happening December 31st, 2021. We purchased this company January 1st, 2020. So we have year one done, year two done. Okay, so this is two years. And what we do, once we eliminate the equity account, we're going to eliminate them against the investment account. Therefore, we're going to have to credit the investment account for those entries, for those entries. And to do so, we're going to have to combine those two. And the amount will be, we're going to have to credit the investment account for the amount. And that's going to be 2,455, should be 2,455. Okay, so this is the first entry. Let me highlight it in a different color. I'm going to use yellow for this one. Okay, so basically I, what I did is I removed, this is what I did. I eliminated the sub equity. That's the first step I did. The second step, it's A, I'm going to allocation of the subsidiaries acquisition date, access fair value over book value, and amortize balances as of the beginning of the year. Now remember, I had the unpatented technology, I had the patent, and I had goodwill. Okay, I had those three assets. Now what I'm going to have to do, I'm going to have to allocate those, allocate them. In other words, I have to increase their value. Okay, but we have to be very careful here. Let me go back and get the figures for you, or I'm going to go back to the Excel sheet to show you the access fair value, then we're going to come back and work them. Okay, so let's take a look at the power point. When we looked at the power point, we find out that the un, the patented was undervalued by 2.5 million. The unpatented technology by 800,000, the loan 100,000, and we have goodwill of 675. And notice goodwill, just kind of, just want to let you know, there is no amortization just in case you're wondering why aren't we, why aren't we amortizing goodwill? We don't amortize goodwill. So these are the numbers. So if you want to copy them down, copy them down. Let's go back to the Excel sheet. Now what's going to happen is this. Remember, we are working in this example, December, and let me write it down, 31st year 2021. What does that mean? It means we already allocated those assets once before, allocated those assets once before. What does that mean? It means, for example, if we take the unpatented technology, or let's start with the, yeah, with the patent technology. Remember, the patent technology, it was undervalued initially, the undervalued was 2.5 million. So remember, it was 2.5 million. And we said it's a 10 year, it's a 10 year deal. Therefore, we're going to start to amortize it every year at 250,000. So here December 31st, 2020, December 31st, 2020, we amortized 2.5 million. Therefore, what's the value? What's the, quote, book value of this an amortized patent? The book value is, whoops, let me see where it's false, 2 million, 2.5 million minus 250,000. So this is the, I'm going to put this in quote, book value of the addition, the book value of the addition. Why? Because I already amortized at 2,200,000. Okay, I already amortized at 2,200,000. Therefore, what I'm going to be adding to the patent, not 2.5 million, if I was doing it in year one, I will have 2.5 million. I'm only adding for now, I'm only adding for now 2,225,000. The same concept apply to the unpatented technology. The unpatented technology initially, initially it had a value of 800,000. If you remember, and we're going to amortize that over, how many years for this one? Over eight years. Therefore, every year we're going to chip away, we're going to amortize 100,000. Therefore, for year 2021, we'd have 800, for year 2020, first 800,000 minus 100,000. December 31, 2020, the book value would have been 700,000, 700,000, December 31. Now we're going to add it back. Now again, this is at the end of the year, at the end of the year, we're going to add, we're going to add only 700,000, 700,000, because why? We need to add those, we need to add those, allocate the sub acquisition, access over book value, unamortized balances. So we still have 700,000 because we want to add them as of unamortized balances. Now in year one, if you're wondering what happened in year one, year one, I will have, in year one, let me, I will have here 2.5 million in, not 25, 2.5 million in case you're wondering year one, mean 2020, and I will have 800,000 here. This is, if I'm doing this December 31, 2020, year one, I'm doing this 2 years later, okay? Therefore, I am, I am, I would only report the unamortized balance. Now I'm going to also amortize them again this year, but first I have to do this step. Now obviously goodwill is not amortized, therefore goodwill is 675,000. So I'm going to be adding those, adding those assets, and against those, I'm going to be crediting the investment account, because this is what I purchased. I purchased those assets with my investment account. Therefore, if I'm adding the assets, I cannot keep my investment account. So I'm showing what I purchased. I purchased the company in which I paid more for the patent, the unpatented technology, and goodwill. If I'm going to put them on the books, or my books on the consolidated, I have to remove the investment account, because this is, so I cannot keep the investment account and keep the extra asset. So for those, I'm going to put them in a different color just to kind of, this is the second entry. I'm going to put it in a dark green, okay? And this is the second entry. Now, again, if you want to, you know, it's just basically, I just showed you the journal entry, the journal entry. This is the debit. I'm sorry, these are the debits. I added the assets and removed the investment, but those, they don't add up, because I'm also, I have to remove also, yeah, I have to remove the loan. The loan is 80,000, okay? Why the loan is 80, now, why do I have to remove the loan of 80,000? Why do I have to remove the loan of 80,000? Remember, the loan was 100,000, 100,000 over five years. Therefore, in year two, the balance of the loan that I'm adding will be only 80,000, because in year one, I already chipped out 20,000 from it. Let me just double check the debits. The debits are, where's the sum? That's not showing the sum. Yeah, they do equal to each other. Yeah, they do equal. So make sure the debits and the credits are equal to each other. So I'm done with this step. Now, elimination of parent, equity, and subsidiary earning, okay? So any earnings that I had from the subsidiary, I'm going to do IND together. I'm going to have to eliminate the earnings and I'm going to have to eliminate the dividend. And what am I talking about here? Remember what I did here? Remember, I showed you that I recorded the earnings from the company, okay? I recorded the earnings. Basically, the income was 960, then I reduced the income by 330. Okay, remember, I told you this is the 660. Now, I have to remove this income and I also have to remove the dividend. So let's go back to the Excel sheet and do so. So you also have to remove the income. How do I remove the income? I just have to reverse what I did here. All what I have to do is reverse this. So I debited investment, credited income. I'm going to have to debit income and credit investment. But I'm going to have to, like those two entries, kind of those two entries, I'm going to put them in red now. Those two entries basically, you know, they net each other out. So basically, those two entries add up to be debit investment 660, credit income 660. So let's go back to the Excel sheet. So what I'm going to do, I'm going to have to get rid of the income. So debit income, let me do it in, for this one, I'm going to use, let's see, I'm going to use blue for this one. I'm going to use blue. So I'm going to use 660. And I'm going to have to remove this debit earnings and credit investment. So I'm doing exactly the opposite of what I did earlier. Okay, also I have to remove the dividend. I have to remove the dividend. I have to credit dividend because dividend is a debit. I'm going to credit dividend. Again, close this against investment, which is, it's a debit. So I'm done with step IND, which is, I'm going to, I did them in blue. IND, I'm done with the investment. I'm not doing the investment. I closed my earnings and I closed my dividend. It's what I, it's, I did this earlier when I was, when I was going throughout the year, at the end of the year, when I do the consolidation, I have to reverse this. So I'm done with that step. I have to recognize current access, fair value, amortization and depreciation. Now I have to book. Remember, every year I have to chip away from those assets. Okay. And I have to chip away from the, remember the, the loan is overvalued. I have to chip away the interest expense. Okay. So for the assets, I have to book an additional depreciation. Well, I'm going to, rather than depreciation, what I'm going to be calling it is amortization, amortization expense. So I'm going to have to chip 250,000. I'm going to have to credit those account. I'm going to have to credit patent, credit, unpatented technology, because I'm going to have to credit those. I'm going to do those in, let's see what color I'm going to put them in. Hopefully you can see this. Okay. So this is the, I'm going to credit this. And as a result, I'm going to have to debit something else. I'm going to have to debit amortization expense, amortization expense. So notice 350, 350. Also, I'm going to have to reduce, because I'm chipping away from my loan an additional 20,000. I'm going to also do this in the same color. Debit the liability 20,000. And I'm going to have to credit reduce my interest expense by 20,000. Okay. So that's the, that's this step. E-recognize of current access amortization. I'm done with this step. Eliminate of intra entity receivable and payable. If any, I don't, I don't have any intra company receivable and payable. Now I am ready to consolidate first. Make sure your debits and credits equal to each other. So let's just make sure we can, we can make always make sure that's the case. Why? Because you want to double check yourself. Again, you will not see an example like this on the CPA exam, a full example, but you will see maybe a partial, a partial consolidation. I, you know, I, it's not the sum. I'm going to have to go through this sum here. Say, make sure, you know, it's going to be D. It's D, let's D. D3 to D32. D32 sum D3, D32. That's not, for some reason, it's not working. Oh, yes, because I have those letters in there. That's why it's not working. But every debits equal to credit. Let's make sure they equal to each other. Now what we have to do, we have to start to prepare the consolidation. Again, this is basically an exercise of making sure, putting everything together. Well, I have six, the parent have 6.4 million. The subsidiaries 3.9 million. I add them together. And the answer will be 10.3 million. Cost of goods sold, the same thing. I don't have to do any adjustment. I add the sub plus the parent. No, eventually we might have to do some adjustments, but not for this example. Depreciation expense, I add the sub and I add the, I add the parent. For amortization expense, I add the sub, the parent plus the additional 350,000. So notice here, I have another debit. So I add the sub, the parent and the debit, all those three together to come up to 883. For the interest expense, I add the parent, the sub, then I will deduct 20,000 because of the excess, of the excess that we add on the books. We just added the debt, but we really did not have, that's the fair market value. We did not really have to pay additional 20,000. Obviously the equity and subsidiaries has to be zero because I have to eliminate this. I have to eliminate this because this is intra company. Then I have the total and I have to figure out what is my net income, basically all my revenues minus the expenses, 1,117,000. Now net income, the consolidated net income comes to here. So when you're doing the consolidation, this income goes right here. So just make sure this number, this number goes right here to net income. Now I have to do the same thing with retained earnings. So the only retained earning that's going to survive is the parent retained earning because if I take this retained earning plus this retained earning plus the sub minus the 1,955,000, all what I'm going to be left with, and this is what it's supposed to happen, only the parent retained earnings, only the parent net income. Same thing with dividend. If I take 560 plus 50 minus 50, the only thing that's going to survive is the parent dividend. Now I have my retained earnings and this is going to be the parent's retained earnings. Again, this retained earnings that's going to be the parent's retained earnings down here. The parent retained earnings, that's the only thing that's going to survive the parent's retained earnings, 5,950,000. Now I'm going to start to add the cash, the parent plus the subsidiary's cash. I'm going to add the account receivable. Again, we have no adjustments. You might see adjustments down the road. Inventory, we add the inventory as well. We add the inventory. Investment and sub, it should go down to zero. So let me just make sure this goes down to zero. So we have 6,580,000. This is the debit minus, let's do the credit first, 2,455,000 minus 3,545,000 minus 630,000 minus 50 plus 50 debit, because we have a 50 debit. The investment balance should go down to zero and this should make sense. The investment balance should be zero. This is always the case because if you are bringing all the assets to the books of the subsidiaries, you cannot have the assets and the investment accounts. So this is always should be zero at the end of the consolidation. Now we have to add the equipment, equipment of the sub plus the equipment of the subsidiary. Now we have to take the patent, 95,000 plus the unamortized amount minus the 250 because we have to amortize it. So we're going to bring the asset to its value, which 2,095,000. Same thing with unpatented technology. Parent plus the sub plus the additional fair value, the unamortized minus the amortization expense because basically we're adding, we're really adding now this year we're only adding 600,000 of unpatented technology, not 700,000 because we amortized 100,000. Just like with the patent, we're not adding 2,250,000. We're only adding net 2,000,000 because we have to amortize 250,000 because we have to keep shipping those assets away. We have to expense them. Goodwill, we add them together for the goodwill. They should add up to 1,100,000. Then we add all the assets. We add all the assets together then accounts payable. Same thing. We don't have any adjustments. Add the parent plus the subsidiary long-term debt. We have 1 million, 1.2. We're going to reduce it by 20 and we still have 80,000 to add because we already get rid of 20,000. A common stock, the only thing that survives is the subsidiary and basically retained earnings goes from above and all in all we have 17 million of liabilities and equity and 17 million of assets. Assets and liabilities equal to each other. Therefore, everything looks good and this is what we did. We followed those steps to process the elimination. Now at the end of this recording I'm going to remind you that whether you are an accounting student or CPA candidate, I strongly suggest you take a look at my website, farhatlectures.com. I don't replace your CPA review course. I am a useful addition to your CPA review course. Study hard, good luck and stay safe.