NTC Chapter 1

True-False Statements
1. In a business combination, the investee takes control of the net assets of the investor.

2. All business combinations result in one entity taking control of the net assets of another
entity.

3. An acquisition of net assets result in one entity taking control of the net assets of another
entity while the acquisition of stock does not result in taking control of the net assets of
another entity.

4. When two entities competing in the same industry combine, it is called a horizontal
business combination.

5. Horizontal business combinations are likely to occur when management is attempting to

dominate a geographic segment of the market.

6. One way that a horizontal business combination can increase sales for an entity is to
expand into new product markets.

7. A vertical business combination generally involves companies attempting to improve the

efficiency of operations by purchasing suppliers of inputs or purchasers of outputs.

8. When a retail clothing store purchases a competitor in another city, a vertical

combination has occurred.

9. A vertical combination is one where the entities have a potential buyer-seller relationship.

10. A business combination in which a supplier of raw materials is acquired is a

conglomerate combination.

11. A conglomerate combination is often undertaken to help increase income stability due to
diversifying the asset base of an entity.

12. Conglomerate combinations are easy for the government to challenge in court.

13. If negotiation between management groups leads to a mutually agreeable business

combination, the process is called a friendly takeover.

14. An offer by an acquirer to buy the stock of another company is commonly called a tender
offer.

15. A tender offer that is opposed by the acquiree management is called a hostile bid.

16. Greenmail exists when a company is encouraged to buy a potential acquiree.

17. A poison pill is the term used to describe the issuance of a special kind of convertible
preferred stock to deter the acquisition of the company.

18. The sale of the crown jewels defensive maneuver involves the sale of more assets than
does the scorched earth defense.

19. Golden parachutes give a bonus to all employees if the company is acquired.

20. A business combination occurs when one entity gains control over the net assets of
another entity.

21. The only way to attain control over the net assets of another entity is to purchase the net
assets.

22. In an acquisition where the acquirer pays cash for the acquiree assets, the book value of
the acquirer increases.

23. In an acquisition of assets for assets, the ownership structure of the acquiree does not
change.

24. In an acquisition of assets for assets, the ownership structure of the acquirer changes.

25. There is an increase in the total capitalization of an acquirer when the acquirer issues
stock for acquiree assets.

26. In an exchange of stock (acquirer) for assets (acquiree), the ownership structure of the
acquiree does not change.

27. In an exchange of stock (acquirer) for assets (acquiree), the acquiree stockholders
become acquirer stockholders.

28. Control over the acquiree assets is directly achieved in an asset for asset exchange but
indirectly achieved in an asset (acquirer) for stock (acquiree) exchange.

29. A business combination that occurs where only one of the original entities in existence
after the combination is called a statutory consolidation.

30. The acquiree entity is liquidated in a statutory merger.

Conceptual Multiple Choice Questions

1. In a business combination, which of the following occurs?
a. The investee takes control of the investor
b. The investee and investor share control of each other
c. The investor takes control of the investee
 d. Neither entity controls the other

2. Which of the following types of business combinations typically occurs when

management is attempting to monopolize a particular industry?
a. Horizontal combination
b. Vertical combination
c. Conglomerate combination
d. Market domination can be the goal of any type of combination

3. Horizontal business combinations occur when one entity purchases which of the
following?
a. A supplier
b. A customer
c. A competitor
d. None of the above

4. Which of the following is a vertical combination?

a. A combination where the two entities are unrelated
b. A combination where the two entities are competitors in the same industry
c. A combination where the two entities have a potential buyer/seller relationship
d. None of the above describes a vertical combination

5. Which of the following types of business combinations typically occurs when

management is attempting to diversify its investment?
a. Horizontal combination
b. Vertical combination
c. Conglomerate combination
d. Diversification can be the goal of any type of combination

6. Management acquires a business in a tangentially related industry to the current business.

What form of business combination is accomplished?
a. Vertical combination
b. Conglomerate combination
c. Mega combination
d. Horizontal combination

7. The defensive maneuver where a company buys stock from a potential acquirer at a
premium over the market price is called which of the following?
a. White knight
b. Shark repellent
c. Greenmail
d. Sale of the crown jewels

8. The defensive maneuver where a company seeks to be acquired by a company perceived

to be a better match than the company making an offer to buy the potential acquiree is
called which of the following?
 a. Poison pill
b. White knight
c. Golden parachutes
d. Fatman defense

9. Shark repellent is a term for administrative measures that may make a hostile takeover
more difficult. Which of the following is not a form of shark repellent?
a. Staggering board of director terms
b. Residency requirement for board members
c. Issuance of convertible preferred stock that converts into common stock of the
acquirer if a takeover is accomplished
d. A supermajority vote is required to approve an acquisition

10. Defensive maneuvers can be internal to the potential acquiree (management or

stockholders) or may involve activities external to the acquiree. Which of the following
is not an internal defensive maneuver?
a. Residency requirement for board members
b. Golden parachutes
c. Packman defense
d. A supermajority vote is required to approve an acquisition

11. Control over an acquiree can be attained through which of the following?
a. Acquisition of the acquiree assets
b. Acquisition of the acquiree stock
c. Either acquisition of the acquiree assets or stock
d. Neither acquisition of the acquiree assets or stock

12. Control enables the acquiring entity to do which of the following?

a. Direct the use of the controlled entity’s assets by establishing capital and
operating budgets and policies
b. Enforce the budgets and policies by selecting, compensating, and terminating
those responsible for implementing decisions
c. Either a or b will illustrate control
d. Both a and b are required to illustrate control

13. In an acquisition of assets, the acquirer must give up which of the following?
a. Cash
b. Other assets
c. Liabilities
d. Any of the above can be given

14. In an acquisition where there is an exchange of assets for assets, how does the value of
the acquiree net assets change?
a. The net assets increase
b. The net assets decrease
c. There is no change in net assets
 d. The net assets may increase, decrease or remain the same

15. In an acquisition where there is an exchange of assets for assets, how does the ownership
structure of the acquiree change?
a. There is no change in the acquiree ownership structure
b. The acquirer stockholders become the acquiree stockholders
c. The acquirer and acquiree stockholders share ownership of the acquiree
d. It is not possible to determine if there is a change in the acquiree ownership
structure

16. In an acquisition where there is an exchange of stock (acquirer) for assets (acquiree), how
does the value of the acquiree net assets change?
a. The net assets increase
b. The net assets decrease
c. There is no change in net assets
d. The net assets may increase, decrease or remain the same

17. Which of the following forms of business combination is not subject to state laws specific
to business combinations?
a. Asset for asset acquisition
b. Statutory merger
c. Statutory consolidation
d. All three are subject to state laws

18. Which of the following is not a true statement with regard to a statutory merger?
a. One entity continues to exist
b. One entity ceases to exist
c. The name of the new entity is not the same as either of the entities
d. All of the above are true statements with regard to a statutory merger

19. Following the completion of a business combination in the form of a statutory

consolidation, what is the balance in the new corporation’s Retained Earnings account?
a. The acquirer Retained Earnings account balance
b. The acquiree Retained Earnings account balance
c. Zero
d. The sum of the acquirer and acquiree Retained Earnings account balances

20. Which of the following is not true with regard to a business combination accomplished in
the form of a stock acquisition?
a. Two companies remain in existence after the combination
b. A parent-subsidiary relationship is said to exist
c. Consolidated financial statements are normally required
d. All of the above statements are true

21. Which of the following contingencies may change the cost of an acquisition?
a. Future acquiree earnings
 b. Future value of acquiree stock
c. Future value of acquirer stock
d. Future value of acquirer debt

22. To qualify as a reorganization (for tax purposes), a business combination must be

structured as which of the following?
a. Statutory merger
b. Statutory consolidation
c. Stock acquisition
d. All of the above can qualify as reorganizations

Problems
1. National acquired assets and liabilities of Regional for Regional’s book
value at the balance sheet date. At that date, National’s inventory had a
book value and market value of P65,000 and P80,000, respectively while
Regional’s inventory had a book and market value of P25,000 and
P25,000, respectively. What amount of inventory would appear on the
balance sheet?

2. Baker Enterprises acquired assets and liabilities assets and liabilities of

Werner Company for Werner’s book value at the balance sheet date. At
that date, Baker’s equipment had a net book value and market value of
P210,000 and P300,000, respectively while Werner’s equipment had a net
book and market value of P70,000 and P70,000, respectively. What
amount of equipment (net) would appear on the balance sheet?

Use the following information for 3 to 6:

Platek Enterprises acquired assets and liabilities of Smith Company for
P600,000. At that date, Smith Company had the following book values and
market values:
Book Value Market Value
Cash and Receivables P25,000 P25,000
Inventory 125,000 180,000
Plant Assets (net) 300,000 475,000
Current Liabilities (60,000) (60,000)
Long-term Debt (120,000) (120,000)
Common Stock (15,000)
Retained Earnings (255,000)
3. What amount is included in the balance sheet with regard to inventory?
4. What amount is included in the balance sheet with regard to plant
assets?
5. What amount is included in the balance sheet with regard to goodwill?
6. Cozzi Company is being purchased and has the following balance sheet
as of the purchase date:
Current assets . . . . . . . . . . . . P200,000 Liabilities . . . . . . . . . . . . P 90,000
Fixed assets . . . . . . . . . . . . . . 180,000 Equity . . . . . . . . . . . . . . . . 290,000
 The price paid for Cozzi's net assets is P500,000. The fixed assets have a
fair value of P220,000, and the liabilities have a fair value of P110,000.
The amount of goodwill to be recorded in the purchase is:
7. P Company purchased the net assets of S Company for P225,000. On the
date of P's purchase, S Company had no investments in marketable
securities and P30,000 (book and fair value) of liabilities. The fair values
of S Company's assets, when acquired were:
Current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . P120,000
Non-current assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 180,00
0

How should the P45,000 difference between the fair value of the net
assets acquired (P270,000) and the consideration paid (P225,000) be
accounted for by P Company?

Use the following information for questions 8 and 9:

Posch Company issued 12,000 shares of its P20 par value common stock for the net
assets of Sato Company in a business combination under which Sato Company will
be merged into Posch Company. On the date of the combination, Posch Company
common stock had a fair value of P30 per share. Balance sheets for Posch
Company and Sato Company immediately prior to the combination were as follows:
Posh Sato
Current Assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . P. 657,000 P 96,000
Plant and Equipment (net) . . . . . . . . . . . . . . . . . . . . . . 863,000 204,000
Liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . P. 450,000 P 75,000
Common Stock, P20 par value . . . . . . . . . . . . . . . . . . 825,000 120,000
Other Contributed Capital . . . . . . . . . . . . . . . . . . . . 109,000 30,000
Retained Earnings . . . . . . . . . . . . . . . . . . . . . . . . . 136,000 75,000
8. If the business combination is treated as an acquisition and Sato
Company’s net assets have a fair value of P343,200, Posch Company’s
balance sheet immediately after the combination will include goodwill of:
9. If the business combination is treated as an acquisition and the fair value
of Sato Company’s current assets is P135,000, its plant and equipment is
P363,000, and its liabilities are P84,000, Posch Company’s financial
statements immediately after the combination will include:
a. Negative goodwill of P54,000 c. Plant and equipment of
P1,172,000
b. Plant and equipment of d. An extraordinary gain of P54,000
P1,226,000
Use the following information for 10 to 17:
On January 1, 20x4, the Moody Company entered into a transaction for acquisition
of assets and liabilities of Osorio Company. Moody issued P400 in long-term
liabilities and 40 shares of common stock having a par value of P1 per share but a
fair value of P10 per share. Moody paid P20 to lawyers, accountants and brokers for
assistance in bringing about this purchase. Another P15 was paid in connection with
stock issuance costs. Prior to these transactions, the balance sheets for the two
companies were as follows:
Item Moody Osorio
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . P 180 P 40
Accounts Receivable . . . . . . . . . . . . . . . . . . . . . . . . 810 180
Inventory . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,080 280
 Land . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 600 360
Buildings (net) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,260 440
Equipment (net) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 480 100
Accounts Payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . ( 450) ( 80)
Long-term liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,290) ( 400)
Common Stock, P1 par . . . . . . . . . . . . . . . . . . . . . . ( 330)
Common Stock, P20 par . . . . . . . . . . . . . . . . . . . . . . ( 240)
Additional paid-in capital . . . . . . . . . . . . . . . . . . . . . . ( 1,080) ( 340)
Retained Earnings . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,260) ( 340)
Note: Parentheses indicate a credit balance.

In Moody's appraisal of Osorio, three assets were deemed to be undervalued

on the books of Osorio: Inventory by P10, Land by P40 and Buildings by P60.
10. If the transaction is accounted for as an acquisition, what is the amount
of consideration transferred?
11. Compute the amount of inventories after combination.
12. Compute the amount of buildings (net) after combination.
13. Compute the amount of land after combination.
14. Compute the amount of equipment after combination.
15. Compute the amount of common stock at after combination.
16. Compute the amount of additional paid-in capital at after combination.
17. Compute the amount of cash after combination.

Use the following information for 18 to 27:

Presented below are the financial balances for the Atwood Company and the
Franz Company as of December 31, 20x4, immediately before Atwood
acquired Franz. Also included are the fair
values for Franz Company's net assets at that date.
Atwood Franz Co. Franz Co.
Book Book Fair Values
Values Values December
December December 31, 20x4
31, 20x4 31, 20x4
Cash . . . . . . . . . . . . . . . . . . . . . . . P
. 870,000 P P 240,000
.. 240,000
Receivables . . . . . . . . . . . . . . . . . . 660,000 600,000 600,000
..
Inventory . . . . . . . . . . . . . . . . . . . . 1,230,000 420,000 580,000
....
Land . . . . . . . . . . . . . . . . . . . . . . . 1,800,000 260,000 250,000
.....
Buildings 1,800,000 540,000 650,000
(net) . . . . . . . . . . . . . . . . . . . . .
Equipment 660,000 380,000 400,000
(net) . . . . . . . . . . . . . . . .
Accounts payable . . . . . . . . . . . . . .( 570,000 ( 240,000) ( 240,000)
)
Accrued expenses . . . . . . . . . . . . . .( 270,000 ( 60,000) ( 60,000)
)
Long-term (2,700,000) (1,020,000) (1,120,000)
liabilities . . . . . . . . . . . . . . . .
Common stock, P20(1,980,000)
par . . . . . . . . . .
Common stock, P 5 par . . . . . . . . . . ( 420,000)
Additional paid-in capital . . . . . . . .( 210,000) ( 180,000)
 Retained earnings . . . . . . . . . . . . . (1,170,000)
. ( 480,000)
Revenues . . . . . . . . . . . . . . . . . . . .(2,880,000) ( 660,000)
....
Expenses . . . . . . . . . . . . . . . . . . . . 2,760,000 620,000
..
Note: Parenthesis indicate a credit balance
Assume a business combination took place at December 31, 20x4. Atwood
issued 50,000 shares of its common stock with a fair value of P35 per share
for all of the outstanding common shares of Franz. Stock issuance costs of
P15.000 and direct costs of P10,000 were paid. Atwood is applying the
acquisition method in accounting for Franz. To settle a difference of opinion
regarding Franz's fair value, Atwood promises to pay an additional P5,200 to
the former owners if Franz's earnings exceed a certain sum during the next
year. Given the probability of the required contingency payment and utilizing
a 4% discount rate, the expected present value of the contingency is P5,000.
18. If the transaction is accounted for as an acquisition, what is the amount
of consideration transferred?
19. Compute the amount of inventory after combination:
20. Compute the amount of land after combination:
21. Compute the amount of buildings (net) after combination:
22. Compute the amount of goodwill after combination:
23. Compute the amount of equipment (net) after combination:
24. Compute the amount of retained earnings after combination:
25. Compute the amount of revenues after combination:
26. Compute consolidated expenses at date of acquisition.
27. Compute the consolidated cash upon completion of the acquisition.

The following data pertains to questions 28 through 31 inclusively:

Parent and Sub Inc had the following balance sheets on December 31, 20x4:
Parent Sub
Current Assets P 60,000 P10,000
Fixed Assets (net) 100,000 60,000
Total Assets P160,000 P70,000
Current Liabilities P 42,000 P35,000
Bonds Payable 20,000 12,000
Common Shares 90,000 12,000
Retained Earnings ___8,000 11,000
Total Liabilities and Equity P160,000 P70,000
On January 1, 20x5 Parent purchased all of Sub Inc’s Common Shares for
P40,000 in cash. On that date, Sub’s Current Assets and Fixed Assets were
worth P26,000 and P54,000, respectively. Assuming that Consolidated
Financial Statements were prepared on that date, answer the following:
28. The Current Assets of the combined entity should be valued at:
29. The Fixed Assets of the combined entity should be valued at:
30. The Goodwill arising from this Business Combination would be:
31. The Shareholder’s Equity section of the Consolidated Balance Sheet
would show what amount?
32. CC Inc., DD Inc., and EE Inc. are parties to a consolidation agreement.
Their respective assets and estimated earnings (based on pre-
 consolidation statements) as of January 1, 20x4, the date agreement is to
take effect, are as follows:
CC DD EE
P375,00 P750,00
Assets at appraised value . . . . . . . . . . . . . . . . 0 0 P 375,000
33,75
Estimated annual earnings contribution . . . . 41,250 75,000 0
A new corporation, FF Inc., shall issue a single class of shares for the assets.
Earnings in excess of 6% are to be capitalized at 20% in determining
goodwill contribution of the partners. FF Inc. shall issue shares at P10 par
value equal to total assets transferred plus goodwill. Assuming that after
consolidation, dividends are to be distributed to the former shareholders of
CC, DD, and EE in terms of percentage.