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Intercorporate Investments

Intercorporate Investments
Marketable securities
less than 20% ownership

Equity method
20-50% ownership

Consolidation
50-100% ownership

Marketable Securities
Generally bonds or stock held as investments of excess cash Highly liquid and readily valued Less than 20% passive ownership interest Three methods of accounting based on why you hold it (intent)
the identical debt security could receive any of the three treatments based on why you hold it

Numbers from Problem 11.22, Security M At acquisition, recorded at cost Marketable Sec. (B/S-A) 37.0 Cash (B/S-A) 37.0 Div. or int. revenue recorded when earned Cash or Rec. (B/S-A) 1.5 Div. or Int. Rev. (I/S-R) 1.5 Acquis. and div./int. are always as above

Debt Held to Maturity


Only for debt you intend to hold to maturity Measure based on historical value Recognize interest as earned At maturity
37.0 37.0

Cash Marketable Sec.

Trading Securities
Trading securities
Securities held to trade for short-term profits Most common in banks Revalue securities to market Recognize unrealized holding gains or losses on the income statement

Unreal. Loss on TS (I/S-Loss) Mktable Sec--TS (B/S-A)

2.0
2.0

Recognize remaining gain or loss on sale


Cash (B/S-A) 43.0 Mktable. Sec.--TS (B/S-A) 35.0 Realized Gain on TS (I/S-Gain) 8.0

Securities available for sale


Not trading securities or debt held to mat.
Revalue securities to market Record gains/losses in other equity account

Unreal. Loss on SAS (B/S-SE) Mktable. Sec.--SAS (B/S-A)

2.0
2.0

Back out gain or loss from equity account at sale and record any additional gain or loss Cash (B/S-A) 43.0 Unreal. Loss on SAS (B/S-SE) 2.0 Mktable Sec.--SAS (B/S-A) 35.0 Realized Gain on SAS (I/S-Gain) 6.0

Equity Method Accounting


For active investments of 20%-50%
At acquisition, treat like any other purchase Equity Investments Cash 100 100

When company earns money, increase investment by your share of their earnings
Equity Investments Equity Income 5 5

When they pay dividends, reduce investment by dividend Cash Equity Investments 1
1

Majority Ownership
Fold the other company into the consolidated entity Add their financials to the rest of the groups
Each line on the income statement, balance sheet and cash flow statement is the sum for the group

In some countries (e.g., Continental model countries), parent also provides parent-only statements using equity method for subsidaries

Acquisition Example
Assume you acquire another company: Mkt. Book Value Value Identifiable Assets $120M $80M Goodwill $20M Liabilities - $40M - $40M Shareholders Equity $100M $40M

Purchase Accounting
Now required in US, common outside US
Ident. Assets (AR, Inv., PP&E) $120M Goodwill (plug) $20M Liab. (AP, L-T Debt, etc.) $40M Cash $100M

Acquiring >50% and < 100% creates minority interest


liability in US, SH equity in some countries

E.g., acquiring 90% Ident. Assets (AR, Inv., PP&E) Goodwill (plug) Liab. (AP, L-T Debt, etc.) Cash Minority Interest (Liab)

$120M $20M $40M $90M $10M

Merger of Equals
Was called pooling accounting in US
Now prohibited

Allowed in limited contexts internationally


Stock deal for two firms of about equal size Bring on book value of other firm

Ident. Assets (AR, Inv., PP&E) $80M Liab. (AP, L-T Debt, etc.) $40M Common stock & APIC $40M

Goodwill
Currently not amortized in US for accounting purposes
Tested for impairment annually

Outside of the US, goodwill is sometimes charged directly to equity


results in lower asset values and higher future earnings

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