Professional Documents
Culture Documents
Chapter 7
Chapter 7
Intercompany Direct Loan Parent Bonds Purchased by Subsidiary Subsidiary Bonds Purchased by Parent
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Interest Revenue
B/S Assets Interest Receivable Investment in Bond Liabilities Interest Payable Bond Payable 10 91
11
b. 11
10 91
c. 10 a.91
c. 10 a. 91
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Retirement of Debt
1. Issuing firm uses own resources to retire its own bonds no intercompany (IC) issues 2. Issuing firm borrows from unaffiliated entity and uses funds to retire its own debt no IC 3. Issuing firm borrows from affiliate and uses funds to retire its own debt simple IC loan 4. Non-issuing firm purchases debt securities of an affiliate from outside entities - resulting in IC constructive retirement Parent -> Outside -> Subsidiary Subsidiary -> Outside -> Parent
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Subsidi ary
Parent
Parent
Outside
Subsidi ary
Outside
DOWNSTREAM
UPSTREAM
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Constructive Gains/Loss
From consolidated point of view: Bond retired Reciprocal elimination: Bond payable and Bond investment The difference Book Value of Bond Payable vs Purchase Price of Bond Investment = Gain/Loss If BV Bond Payable > Purchase Price Bond Investment = Constructive Gain If BV Bond Payable < Purchase Price Bond Investment = Constructive Loss
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Constructive Retirement
One company purchases debt instruments of an affiliate from outside entities Constructive gains and losses on bonds are
1. Realized gains and losses from the consolidated viewpoint 2. That arise when a company purchases the bonds of an affiliate 3. From other entities 4. At a price other than the book value of the bonds.
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Constructive Retirement
Agency theory
Assigns gain or loss to the issuing firm Conceptually a superior than other methods
Text:
Follows agency theory Simplifies discussion using straight line amortization of premiums & discounts
Other methods
Par value theory or assign all gain or loss to the parent
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Piecemeal Recognition
Every year, a part of constructive gain/loss will be recognized. Example: Total constructive gain 60,000 Piecemeal recognition under straight line amortization : 60,000/5 years = 12,000 per year. Equity method at Pams Book: Effect of Constructive Gain
2012 Investment in Sue Income from Sue 48 48 2013 2014 2015 2016
12
12
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12
12
12
12
12
12
18
2013 Pams Book Interest expense Interest payable Bonds payable Sues Book Interest revenue Interest receivable Investment in Pams bonds Workpaper Journal 2013 110 50 970 980 500 10,060
1,006 970
36 110 98 12 50 50
1,004 980
24 110 98 12 50
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1,002 990
12 110 98 12 50 50 50
1,000 1,000
110 98 12 50 50 19
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530,000*
Piecemeal Recognition
Every year, a part of constructive gain/loss will be recognized. Example: Total constructive loss 300,000 Piecemeal recognition under straight line amortization : 300,000/5 years = 60,000 per year. For Controlling interest (Pro) = 90% * 60,000 = 54,000 For NCI = 10%*60,000 = 6,000 Equity method at Pros Book: Effect of Constructive Loss
2012 Income from Sky Investment in Sky Investment in Sky Income from Sky
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2013
2014
2015
2016
216 216 54 54 54 54 54 54 54 54
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Subsequent Years
2013 Skys Book Interest expense Interest payable Bonds payable Pros Book Interest revenue Interest receivable Investment in Skys bonds 470 250 5,090 470 250 5,060 470 250 5,030 470 250 5,000 1,060 500 9,820 1,060 500 9,880 1,060 500 9,940 1,060 500 10,000 2014 2015 2016
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Workpaper Journal
2013
2014
2015
2016
a. Eliminate reciprocal Bond Payable & Invest. Bond Payable Investment in Sky 4,910 162 4,940 108 4,970 54 5,000 -
NCI
Investment in S Bond
18
5,090
12
5,060
6
5,030
5,000
b. Eliminate reciprocal Bond interest rev. & exp. Interest revenue Investment in Sky NCI Interest expense 470 54 6 530 470 54 6 530 470 54 6 530 470 54 6 530
c. Eliminate reciprocal Bond interest payable & receivable Interest Payable Interest Receivable 250 250
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250 250
250 250
250 250
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