 Hello, and welcome to the session in which we will discuss the subsidiary or the sub stock sale to non affiliates This topic is covered in advanced accounting. Just to give you the big picture. We have a parent sub relationship and what we are assuming here is the sub is issuing more shares issuing more stocks and Those stocks are sold to a third party. That's not affiliate So it's not it's not sold to the parent company. It's sold to a third party. Now, why would the sub do so? Why would the sub issue new shares? Well, they want to raise capital for expansion The sub wants to expand into new into new territory into a new product. Well, that's what would happen you will need to sell stocks or Sometime you are operating in a foreign country where local ownership is mandatory. Well, what you have to do is you have to Issue additional shares. It doesn't matter. The point is you are issuing more shares When this happen a non operation increase or decrease occur in the fair value in the book value of the sub as a result of this transaction the value of the sub Might go up the value of the sub might go down their book value as well as their fair value Now this change not reflected yet in the parent investment because the parent has an investment because there's a parent sub relationship and as a result the parent Percentage ownership as well as the NCI might increase or decrease What we have to do we have to maintain a reciprocity between the sub equity and the investment parent balance because what you did when you purchase The sub you purchased their equity Now what's happening? The sub equity is changing and now your investment that's sitting on the parent company is not reflecting that Therefore what we have to do is we have to prepare consolidation entries to show the changes in NCI and equity balance of the sub So everything still kind of balances and what happened as a result shareholders are assigned a pro rata of the difference Now that pro rata could be an increase in the value of the shareholders or a decrease in this session will work an example Where we have an increase in the share and the shareholders value We have to do basically what we have to understand is that the book value of the sub that's held by the parent company will change That's what you have to know as a result We have to adjust the carrying value of the investment in the sub and The change will be done in additional paid in capital whether that's an increase or a decrease in investment Now I went through all of this and this may not make any sense Or it may be it may make a little bit of sense the best way is to illustrate this in an example But to summarize what we're trying to do is the sub is issuing more shares now The sub can issue more shares also the sub can buy back some of their shares in this example I'm gonna say we're gonna issue shares and as a result of this issuance the book value and the fair value of the sub will change as a result we have to make an adjustment on the parent company because As a result of issuing new shares think about it if there are 100,000 shares and now the sub issued an additional 50 shares Well, what happened is the parent percentage will change as well as the NCI will change or let's assume not 50 Let's assume only 10,000 10,000 shares now the the percentage The percentages will change. 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No credit card required Starting with this example We're gonna assume that we have a sub with the 75,000 shares $1 par value comments like the 75,000 additional paid in capital is 210,000 and retained earnings is 255 total equity total book value of equity is 540,000 Here comes the parent company and the parent company wants to buy 60 of the 75,000 shares. Well, let's think about it for a moment 60 out of the 75,000 is 80 percent Therefore the parent company wants to buy 80 percent of this company 80% paying 480,000 now we have to find out what's the total value of this sub Well, the total value is 600,000 because if we are paying 480,000 to buy 80 percent. It means the full value of the company is 600,000 now we have to find out since we paid six since we valued the company at 600,000 There's a difference between the fair value and the book value and let's find out how much is the difference Obviously, it's 60. Let's compute the difference and assign it to an asset because this is the access fair value So we're gonna pay consideration transferred by the parent 480,000 the non-controlling interest is 600,000 if the parent gets 480 the fair value of NCI is 120 So the total value of the company is 600,000 Now the book value of the company is 540 the difference is 60,000 and we're gonna assign this difference to an asset called an intangible asset called customer list and we're gonna Amortize this customer list over a 10-year period. So what we did is we find the access fair value and We determine. What are we going to list this? The next thing we are going to do is we're gonna start to see how are we going to prepare consolidation for this company? The subnet income for year 20x0 at the end of the year is $50,000 now let's prepare the consolidation worksheet for the 20x0 So how do we prepare the consolidation worksheet? The first thing we have to do is we have to eliminate the sub equity account, right? Because that's the first step Well, let's do that We're gonna debit the common stock of the sub 75,000 which is to eliminate this account debit additional paid in capital 210 to eliminate this account debit retained earning 255 now In reciprocity, we're gonna have to credit the investment account 80 percent of this balance So we're gonna take this balance, which is 540,000 times 80 percent that's 732 and we're gonna take this balance 540,000 multiplied by 20 percent to establish the NCI 108 now What else do we have to do remember? We have 60,000 hanging. Okay, what are we going to do? We're going to recognize this access acquisition fair value Okay, which is how much? 60,000 therefore we debit customer list 60,000 because we bought the company now we have to add this new asset New asset to the consolidation to the consolidated financial statement. Therefore, we debit the new asset We credit investment in sub 48 and credit NCI 48 now bear in mind I did not show you the the original journal entry basically when we purchased the company at this point I assume you know it it's gonna be investment in sub 480 and we're gonna assume we paid cash Credit cash for a I mean I did not do this entry because at this point if you are looking at this lecture your way advanced So, you know, there's an investment in sub of 480. We're eliminating this investment as we are doing the consolidation Now since we have this new new asset 60,000 We are gonna have to have access Amortization so we have to recognize Amortization of 6,000 because we're gonna amortize the 60,000 over 10 years Then at the end we have to eliminate the parent equity in sub the earning in sub, which is how much the sub earned 50,000 the access amortization is is 6,000 therefore what we left is 44 we own 80 percent which is 35 5200 remember at some point because we're using the equity method we increased we increase the Investment by this much when we consolidate we have to reduce it So therefore let's look at the investment in sub what happened to the investment in sub first We made the purchase 480,000 when we purchased the sub that's how much how much we paid then we increased net income remember We have net income and this is 35,200 I just had it here, which is 50 minus 6,044 times 80 percent this is what's gave us the 35,200 Now remember when we started the consolidation first we remove 432,000 this is from the prior slide kind of just show you what we did here. So this way you don't So this is the 42 now we are crediting we are let me put it in a different color We are crediting the investment to remove it in the consolidation process. We're gonna credit the investment first 432 credit the investment again 48,000 when we put the new asset, which is the customer list then remove again credit the investment 335,200 now what that did what that did brought the investment down to zero because we have to remove the investment Now bear in mind the parent The parent by itself the parent They still have on its own on Its own on its own financial statements. They still have The investment in the sub all what I showed you here is the consolidation So the investment is zero as a consolidation, but the sub let me go back here and This is zero the parent will have its own investment and the value Let's meet let me just kind of they will they would still have 480 Plus 35 200 so I just want to make sure because we have to keep track of the investment account It helped us in our it helped us in our in our understanding So if we take 480,000 plus 35 200 the sub the parent not the sub the parent has an investment value of 550 200 we assume there is no dividend in this example to keep it again to keep it simple to keep it simple So so far the investment. This is on the parent books. We still have that now January 1st 20x1, which is at the beginning of the following year the sub issued an additional 25,000 shares to outside parties so the parent did not buy any of this Okay, $1 par value and they sold each share for $10. Let's a journalize the entry We're gonna debit cash 250 credit comments stock 25,000 shares times a dollar And the remainder is additional paid in capital So I showed you the entry because I want to show you the sub equity Before the issuance of stock and the sub equity after after we issue the stock the common stock went up by 25,000 this account went up by 225,000 which is right here and retained earnings remember we had the sub had a 50,000 in net income went from 255 to 305. This is the sub the sub books So notice there was change in the sub book value There's change in the sub book value. Now. Let's take a look at the sub Valuation as of 1 1 the new valuation of the sub here's what's gonna happen. We paid them for 80 The NCI was 120 Remember the sub income minus amortization is 44 Adjust value 1 1 20 x 1 is 644 then the sub issued an additional 25 250,000 in cash now the sub is valued at 894,000 that's the sub value bear in mind That we issued new shares because remember we owned as a parent company 60,000 shares when they had 60,000 when they had 60,000 of 75 now we still have 60,000 but now the outstanding shares are 100,000 the parent becomes a 60% owner of this company the ownership changes from 80 to 60% Now we have to change our it we have to change Our investment in a sense. We have to change How much is reflected in the investment against their equity against their book equity? Well, let's take a look at this now. We own 60 percent if we take 894 times 60 percent the parent post acquisition ownership is 536 400 now what we're saying is our investment should if we own 60 percent of this company at fair value Our investment should be five thirty six four hundred. Well, what is our investment account our investment? which is five Five fifteen two hundred. What did that number came from five fifteen two hundred? Let me go back here Remember, I told you to keep track of the parent investment five twelve two hundred. This is where this number came from So now we need to make an adjustment. What happened is our investment went up You might be saying hold on a second. Why did your investment go up? I mean you did not do anything Basically kind of in a sense your investment went up. Well, here's what happened because the Sub sold shares at more at a price That's higher that what we initially purchased the shares at when they purchased it when they sold the shares at ten dollars the new sale Well, it means the stock price is ten dollars when we purchase those shares We purchased them less than ten dollars. Well, you could do the you could do the computation But it was less than ten dollars as a result. We're gonna enjoy this increase in value Therefore the the increase in value should be twenty one thousand two hundred, which is five thirty six four hundred compared to five fifteen two hundred Now you're saying, okay, how do we enjoy in quote enjoy this increase in value? We don't book again We don't book a loss so we don't say we're gonna debit investment and credit gain for this much or credit any sort of OCI What's gonna happen? We're gonna consider this as Additional capital so we're gonna debit investment in sub we're gonna increase our sub value by twenty one thousand two hundred and remember no gain no loss we increase the equity twenty one thousand two hundred therefore now what happened is To our investment in sub we started at forty eight net income was thirty five two hundred and at the beginning of the year We enjoy an increase in the sub therefore our value in the sub starting one one Twenty X one is five thirty six four hundred So make can make a note of this number because we need it because I want to keep track of the investment in the sub Now in subsequent years, which is in twenty X one. We're gonna back to normal consolidation So let's go back to our normal consolidation. Let's assume in twenty X one at the end of the year We earned eighty thousand dollar in net income prepared the consolidation entries. Well, this is our Equity at the beginning of the year remember we increased our common stock we increase our paid in capital again We're gonna have to do the same thing. We're gonna have to eliminate the Equity accounts against the investment. Let's do that debit common stock 100,000 debit additional paid in capital debit retained earnings done done done Credit investment in sub now our investment in sub is only sixty percent. Therefore. We credit investment in sub Five five oh four now, you know make a note of this because you're gonna be crediting the investment in the account and you credit NCI in sub forty percent three thirty six now the sub ownership went up the sub used to be only I'm sorry. The NCI share used to be 20 now. It's forty percent. We also have to recognize the access The access acquisition date fair value assigned to a customer list now. We only debit 54 because the prior year we debit at sixty then we amortize six now We only have fifty four now. We're gonna amortize another six this year So we debit customer list fifty four thousand to add it to the to add this asset credit the investment again in sub sixty percent of that Again, the NCI now has a forty percent share. Once again, we're gonna amortize six thousand of the customer list And we're gonna eliminate the parent equity in sub which the net income was eighty thousand minus Six thousand in the excess amortization, which will give us seventy four times sixty percent Will give us at forty four thousand four hundred. Let's go back and do the Do the Go through the investment in the sub account. Remember, we had the now the balance was five thirty six four hundred as of one One twenty X one Then we added net income of forty four thousand four hundred remember the company had net income of forty four thousand four hundred This is net income for twenty X one then during the consolidation we credited the account five or four against the equity of sub Again, this is on the prior slide and we credited the account thirty two four hundred when we added that new asset the customer list then we have to remove the Investment in sub against the earnings, which is forty four thousand four hundred If you add those up again the investment together the investment Will go away if we add them up now bear in mind bear in mind on the parent company We still have investment in sub by itself five thirty six four hundred plus forty four thousand four hundred whatever that number is will be our investment separately But in the consolidation the investment account will be Eliminated now this topic in this situation. I work an example where We sold the sub sold additional shares and we enjoy again. That doesn't have to be always the case We could have many other scenarios Where the sub sells additional shares and as a result the value goes down We could have a scenario where the sub sold to the parent company some shares Like they meant for example if they sold an additional 25,000 shares they will sell 80% of them to the parent company and the parent company will maintain its capital We could also have the scenario where the sub buys back its own shares So I don't want you to think this is the only scenario that you could have You could have many scenarios. You could have gains. You could have losses You could have no change because if you have the parent company purchase 80% of the new issue shares They're gonna keep the same ownership level Anyhow, what should you do to learn about this topic further? Go to farhat lectures comm Invest in your education. This is an advanced accounting topic. 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