4AC3 – ADVANCED FINANCIAL ACCTG.

Chapter 2: Investments in Equity Securities

- Class is about consolidation

- Eg. Company A/ B
o Company A is parent company
 Company B is subsidiary/ Company A acqd. Company B
o The shares may be cheaper if you purchase 10% shares instead of all the shares
- 2 types of investments:
o Strategic investments:
 Maintain a long-term relationship, which has significant influence, control
and Joint Control
 Ability to influence opr. Invsmt and financial decisions of the firm
 Signif. Influence: applies you have some influence/impact on opr
invstg of the firm (20-50%)
 Control:
o Non-strategic invsmt.:
 Used for short-term trading (FVTPL – Fair Value thru profit and loss) and
not held for short-term trading ( FVTPL or, if irrevocably elected FVTOCI –
Fair Value thru OCI)
- Reporting methods for invsmt. In equity securities
o Significant influence reporting method is the Equity Method
 N/A for reporting unrealized gains
 The reason is because it wouldn’t influence decision making
o Held for LT not ST, wont influence if the invsmt is good or
not
o Control reporting method is Full consolidation
 N/A for reporting unrealized gains
 The reason is because it wouldn’t influence decision making
o Joint Control reporting method is equity method
 N/A for reporting unrealized gains
o FVTPL reporting method is Fair Value Method
 To report unrealized gains, completed In Income Stmt.
o FVTOCI reporting method is Fair Value Method
 To report unrealized gains, completed In OCI
- IFRS 9 requires all nonstrategic invsmt. Reported at FV including private companies
which don’t have quoted market rt. Early adoption is permitted
o IFRS13, new stndrd. For FV mrsmt.
- For the midterm, responsible for IFRS 9
- ASPE 3856  IFRS 9
- Become familiar with ASPE for prof. exams
- IFRS 10 – Consolidated Financial Statements
 o If LULU controls Spalding the LULU is the “parent” and must consolidate Spalding
the “subsidiary” by replacing LULU’s investment in Spalding w/ the assets &
liabilities from Spalding’s balance sheet
 Control is there IF LULU has the pwr. To direct the activities if Spalding to
generate returns for LULU
- ASPE 1591 / 1601   IFRS 10
o 1591.24 allows cost method or the equity method or full consolidation for
subsidiaries
- IAS 28 – Investments in Associates
o An associate is an investee over which the investor exercises significant influence
and is reported using equity method
 Significant influence allows investor to affect the strategic operating and
financing policies of the investee but does not convey control or joint
control
 Invsmt. Btwn. 20% and 50% of voting shares, w/out control being
present, is presumed to be significant influence in the absence of
contrary evidence
o ASPE 3051   IAS 28
o IAS 28 – Joint ventures / IFRS 11 – Joint Arrgmt.
 Joint Arrgmt.
 Participants contribute resources to carry out a specific
undertaking.
 Joint oprtn. And joint venture are two types.
o Joint Oprtn.
 Venturers contribute the use of assets bet retain
title to the assets
 IFRS 11 requires proportionate consolidation for
joint oprtns.
o Joint Venturers
 Venturers contribute assets to a separate legal
entity, which has the title to the assets
 Legal agrmt.
 IAS28 requires equity method for joint ventures
 EG. Toyota and Subaru
 Joint Control
 Key feature, no one can venture can unilaterally control the
venture regardless of the size of equity contribution
o IAS 39 – Financial Instrmt. – Recognition / Mrsmt.
 Deals w/ non-strategic equity invsmt. FVTPL and AFS (Avail. For sale)
 FVTPL invsmt. At the start are reported at FV and revalued at FV at each
reporting dt. Via the Income Stmt.
 AFS invsmt. Are valued @ FV.
 Unrealized gains/ losses are reported in OCI
  When invsmt. Is sold, the prev. reported unrealized gains/ losses
will be rmvd. From OCI into NI
 Exception:
o Fair value not readily determinable – cost method used

- Invsmt. Valued @ FV (IFRS 9 )

o FVTPL invsmt.
 Includes invesmt. Held for ST trading
 Default category
 Includes invsmt. Not held for ST trading ( AFS under IAS 39) if FVTOCI
election not made
 Recorded @ FV; Unrelzd. Gains and losses as well as dividends rcvd. Or
receivable are reported in income
o FVTOCI invsmt.
 Includes invsmt. Not held for ST trading (AFS under IAS 39) if irrevocable
FVTOCI election made
 Election made if for long term trading ;
 Classified as current or noncurrent assets depending on how long mgmt..
intends to hold on to these shares
 Unrlzd. Gains/losses are recorded in OCI
 Dividends recorded in income. When sold, Cumltv. Unrlzd.
Gains/losses are cleared out of cumltv. OCI and trsfrd. Directly to
R/E
 OCI can be presented either at the end of one single stmt. or on a
separate stmt. Of OCI
 Both stmt. Show “comprehensive income” as the last line on the
stmt.
 NI is added to R/E and OCI is added to “Cumltv. OCI” which is a separate
component of shareholder’s equity
- The Cost Method
o Still permttd. Under ASPE so you must know how cost method works
o Can be used to report control invesmt. In non-consolidated separate entity
financial stmt.
 4 COLUMNS
 P,S,ADJ. ENTRY, CONLDTD. #
o P can use stand alone or cross stmt
o Impairment losses are reported in NI
o Dividends are reported in income
o Cumltv. Divd. Recvd. In excess of NI since acq. (‘liquidating divd.”) are reported in
income
- The Equity Method ( used for signif. Infl. And joint ventures)
o Applies to invsmt. In associates, where the investor has the ability to exercise
significant influence
 o Indications of signif. Influence include
 Representation of BOD (most impt.)
 Participation in policy-making processes or decisions about dividends and
distributions
 Material transacts. Btwn. Investor and investee
 Exchange of mgmt. personnel
 Exchange of essential tech. info.
 Trade secrets, drawings
o Holding btwn 20% - 50% of voting shares indicates the presence of significant
influence, can also exist with less than 20%
 To determine significant influence, requires application of jdgmt.
o When an investor has control, other investors may /may not have significant
influence depending on representation on BOD, participation in decisions., must
look to facts and jdgmts. (IAS 28)
o Records the investor’s share of the changes in the associate’s shareholders
equity
 Adjsmt. Are made for acq. Cost greater than book value, unrealized
intercompany profits, impairment losses, and other factors
o The equity method provides infor. On the potential for future cash flows
o Timely recognition of losses/ profits in the investee facilitates both the
stewardship and cash flow prediction obj.
 Share of profits/losses belong in investor’s IS
o Prediction, the equity method reflects the accrual method of income mrsmt.
 More predictive of future cash flows than the cost method (eg. Investee
losing $$ but declares dividend, cost method and eqt. Method provide
diff. signals abt. Future cash flows)
o Do not use FV methods for SI invsmt. Because these are LT opr. Assets
 Do not use FV acctg. Under IFRS GAAP for oprtg. assets
- Using equity method, the investor:
o Records its proportionate share of the investee’s opr. Income as its own
operation income
 Invsmt. In B
 Invsmt Income
o Reduces the invsmt. Acct. by its share of investee divd. Rcvd.
 Cash
 Invsmt. In B
o Records its shares of the investee’s non-oprtg. Income (eg. Discntd. Oprtns.)
separately

o Amortizes acq. Costs greater than book value of investee (“acq. Diff” thru either
amortization or, for gdwill, overall impairment losses for equity acct.

o Eliminates after-tax unrealized intercompany profits
 o
- Equity Methid Acctg.
o Intial INvsmt. is recorded at cost
o Investor recognizes its share of investerr’s net opr. Income (loss) on the IS
o Dividend pd. By the investee are treated as a reduction of the investor’s invsmt.
acct.
o Equity method does not record gain relate to FV increments and share of Good
will, FV method does
o Investeer records its share of investee’s non-opr. Income/loss
o Finite life assets, investor amortizes acq. Costs pd. In excess of book value
 Int. invsmt = share of bk OE + share of FVI’s + share of GW
o Investor eliminates its share of unrealized profits or losses on intercompany
transactions until the assets are sold to outsiders or consumed by the purchaser
- Other Equity Acctg. Considerations:
o Losses Exceeding Invsmt. Acct. Balances
 If investor has guaranteed investee’s oblgtn. Or is commtd. To providing
addtl. Financial support, continue recording losses and reflect negative
invsmt. balance as a liability
 If there are no such guarantees or commtmt., leave invsmt. balance at nil
and begin recoding future share of investee profits only after they exceed
the investor’s share of previous losses not recgnzd.
o Impairment losses (IAS 36):
 Compare the invsmt. recoverable amt. to its carrying amt and if
recoverable < carrying then write down to recoverable amt.
 Recoverable amt. is the higher of value in use (PV of future CF) and fair
value less costs to sell.
o Gains and Losses on Sale of Invsmt:
 When a portion of shares held are sold, gain or loss is calctd. Based on
avg. cost of shares sold
- Changes To and From Equity Method
o Change from FVTPL to Equity when SI obtained
 New eqt. Method carrying value is fair value carrying value when switch
occurs
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Chapter 3: Business Combinations

- Involves one company obtaining control of the net assets of another company
o Acquirer is the entity that obtains control of one or more businesses in busn.
Cmbtn.
o Discussed in IFRS 10
- Busn. Combtn. Occurs in 3 ways
o When one company acq. Enough voting shares of another company to control
the use of the net assets of that company
o One company acquires the assets or net assets of another company, provd. The
assets constitute a business
o One company gains control over another company thru a contractual arrgmt.,
w/out acq. Any share of the other company
- Forms of Business Combinations
o Purchase of assets or net assets
 Control over another company’s assets or net assets can be obtained by
purchasing the assets outright, leaving the selling company only with the
consideration received for the asset sale and any liabilities present before
the sale or only with the consideration received for the net asset sale
o Purchase of shares
 An alt. to the purchase of assets is for the acquirer to purchase enough
voting shares from the shareholders of the acquire that it can determine
the acquiree’s strategic oprtg. And financing policies
 Share purchase can be less costly since control can be achvd. By
purchasing less than 100% of the voting shares
 Share purchases can also have impt. Income tax advantages
o Both forms of bus. Combinations result in the assets or net assets of the acquire
being combined with those of the acquirer
 o If control is achvd. With the purchase of assets or net assets, the combining
takes place in the acctg. Record og the acquirer
o If control is achvd. By putchasing shares, the combing takses place wen the
consolidated financial stmt. Are prepared

Acq. cost
- The Acquisition Method
o Method of acctg. Which must be adopted on or before Jan.2, 2011
o The acq. Company records the identifiable net assets at fair values regardless of
the acq. Cost
o If acq. Cost is > FV of identifiable net assets the excess is reported as goodwill
similar to purchase method
o If acq. Cost is < FV of identifiable net assets the difference is reported as gain on
purchase
o Not consistent with historical principle but consistent with general trend toward
use of fair values
o Acq. Method applies to all busn. Combinations
o Acquirer should be identified for all bus. Combinations
o Acq. Dt. Is the dt. The acquirer obtains control of the acquire
o Acquirer should reflect the identifiable assets and liabilities acqd. At fair value
separately from goodwill
- Identifying the Acquirer
o Identifying the acquirer using IFRS 3
 The acquirere usually is the party that ends up with control; that is, the
ability to make the investee’s decisions.
 Some potential indicators are as follows: (IFRS 3, Appendix B, B13-B17)
 If cash pmt. Are reqd. for acq., the acquirer is usually the company
making the pmt. (B14)
 If shares are exchanged for acq., acquirer is usually the company
whose s/holders hold more than 50% of the votes in the
combined company, or if more than 2 companies are involved it is
usually the company whose s/holders hold the largest # of votes
(B15(a))
 If voting % are identical then examine makeup of board and
mgmt. to see which company is dominant (B15( c ), (d))
 In a share exchange acquirer is often but not always the company
that issue shares (B14)
 Acquirer is often but not always the larger company (B16)
 The acquirer is usually the combining entity that pays a premium
over the pre-combination fair value of the equity interests of the
other combining entity or entities (B15(e))
- Allocation of Acq. Cost
 o Acq, cost includes:
 Any cash pd.
 The fair value of assets trsfrd.
 The PV of any promises to pay cash in the future
 The FV of any shares issued, based on the market price of share on the
acq. Dt.
 The FV of contingent consideration
 Does not include fees of consultants, accountants, and lawyers which do
not increase FV; should be expensed in pd. Of acq.
 Cost of issuing debt or shares are not included in acq. Cost, charged to
related debt or share capital

o Allocation of acq. Cost

 Allocate to identifiable assets and liabilities of acquire
 Include those with value not presently recorded by the acquire, internal
dvlpd. Patents; identifiable intangible assets arising from contractual or
other legal rights, being capable of being separated and sold
 In process R&D, prob. Criteria presumed to be satisfied if acqd. As
part of a business conbntn.
 Failure to allocate to identifiable intangible net assets would inflate
goodwill
 Can allocate only to items that meet the definition of assets and
liabilities.
 Does not meet the definition of a liability at the acq. Dt.
 Fair values are dtrmnd. And allocated for contingent liabilities which are
present oblgtn. (IAS 37(14)) arising from past events if their fair value can
be mrsd. Realiably

 Any excess of cost over the foregoing represents goodwill
 If acq. Cost < FV of identifiable net assets, negative goodwill arises
 Reported as gain on purchase
- Example
- First line : Purchase Price
- Second Line : Identifiable Assets (Bk Value)
- Difference is Acq. Diff.
- Next : FV diff (Diff. w/ fv and bk value) w/ stuff on Balance Sheet
- Next : Any Intangibles (patent, etc.)
- Final : Goodwill
o Rep. what you pd and everything that you identify from what you got
o Asset
 o Date of acq. – no expense; if you overpay, probs go to goodwill
o Impairment done at each yr, if there is then it would be expensed
o
-
o Company A purchased Company B’s assets
 Company A reports it at FV bought
 Company B reports it org. asset
o If purchasing assets by shares
 The acquirer is determined based on which s/holder grp controls A
company after B Corp. is wound up

- Control/ Consolidated F/s

o An enterprise should consolidate all of its subsidiaries to inform s/holders of the
parent company abt. The resources and results/ of opr. And its subsidiaries as a
grp., eliminating intercompany transactions
o Consolidated f/s are supplemented w/footnote disclosures showing opr.
Segments
o Parent and subs. Still reqd. to prepare their own stmts.
o Common control concept
 Balance sheet and earnings manipulation that will set in when entities
under common control are not consolidated by the parent ex/ Enron
- Control
o Synonymous with owning more than 50% but not always
o Determinations
 Representation in the bOD

- Acq. Differential
o Difference btwn. The ttl. Consideration given and the carrying amt. of the assets
of the acqd. Company
o AC = NAV at FV + GW
o AC = BOOK OE + FVI’S +GW
o AC = BOOK OE = FVI’s +GW

- The Direct Approach

o Achieves the same result but a diff. format
o Carrying Amt (parent) + Carrying Amt (subsidiary) +/- Acq. Diff = Cnsldtd. Amt.

Chapter 4: Consolidation of Non-Wholly Owned Subsidiaries

- Shares not owned by the parent but by other shareholders

 - “Noncontrolling interest”
- NCI should be a part of equity (the amt. invested)
- 4 DIFF. METHODS
o How to record NCI
o 1. Proprietary method (Proportional consolidation)
 No longer GAAP unless it’s a joint operation
 If I buy 80% of B will record 80% B’s debt, cash, assets, inventory, etc.
which means there is no NCI
o 2. Parent Company method
 NCI is recgnzd. And reflected as a liability
 Amt. is based on carrying amts. Of the net assets of the subsidiary
 The NCI is worth as much as the bk. value
o 3. Parent Company Extension
 NCI is worth bk. Value, but when we move to FV acctg., we should record
NCI = FV of its net assets
 Current GAAP
o 4. Entity (FV Enterprise Method)
 FV acctg.
 NCI = fv of the firm + gdwill
 What you pd. The 80% , would be the same for the 20%
 CURRENT GAAP – Default
- Income Stmt. In Yr. of Acq.
o Consolidation as of dt. Of consolidation and on a later. Pt. of time
- Negative goodwill
o

Testing Long lived Assets for Impairment