Asked by Stephanie Nieto on Jun 11, 2024
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LEO Inc. acquired a 60% interest in MARS Inc. on January 1, 2019 for $400,000. Unless otherwise stated, LEO uses the cost method to account for its investment in MARS Inc. On the acquisition date, MARS had common stock and retained earnings valued at $100,000 and $150,000 respectively. The acquisition differential was allocated as follows: $80,000 to undervalued inventory.
$40,000 to undervalued equipment. (to be amortized over 20 years)
The following took place during 2019:
▪ MARS reported a net income and declared dividends of $25,000 and $5,000 respectively.
▪ LEO's December 31, 2019 inventory contained an intercompany profit of $10,000.
▪ LEO's net income was $75,000.
The following took place during 2020:
▪ MARS reported a net income and declared dividends of $36,000 and $6,000 respectively.
▪ MARS' December 31, 2020 inventory contained an intercompany profit of $5,000.
▪ LEO's net income was $48,000.
Both companies are subject to a 25% tax rate. All intercompany sales as well as sales to outsiders are priced to provide the selling company with gross margin of 20%.
What would be the amount of changes to the acquisition differential during 2020?
A) $2,000
B) $40,000
C) $78,000
D) $82,000
Acquisition Differential
The difference between the purchase price of a company and the fair value of its identifiable net assets at the time of acquisition.
Amortized
The process of spreading the cost of an intangible asset over its useful life, or the gradual reduction of a debt through regular payments of principal and interest over a set period.
Undervalued Equipment
Equipment whose market value is higher than its book value or valuation on financial statements, suggesting it may be worth more than it appears.
- Implement the principle of acquisition differential and modify it as necessary during the consolidation process.
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Learning Objectives
- Implement the principle of acquisition differential and modify it as necessary during the consolidation process.
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