C. Limited liability - separate legal existence of individual affiliates provides an element of protection of the parent’s assets from creditors of the subsidiary. D. In some cases, one of the entities may be subject to regulation while others are not. In a stock acquisition, the other entities may maintain their unregulated status. IV. CONSOLIDATED FINANCIAL STATEMENTS A. Statements prepared for a parent company and its subsidiaries. They represent the sum of assets, liabilities, revenues, and expenses of the affiliates after eliminating the effect of any transactions among the affiliated companies. B. When a parent acquires controlling interest in a subsidiary, the parent makes an entry to debit Investment in Subsidiary and credit either cash, debt, or stock (or combination) depending on medium of exchange. Assume the acquisition has a cash purchase price of $5 million. Entry in parent’s books is: C. Investment in Subsidiary $5,000,000 Cash $5,000,00 C. The investment account represents the parent’s investment in the different asset and liability accounts of the subsidiary. The subsidiary continues to maintain detailed books based on historical book values, which are not as current as the market values assessed by the parent at the date of acquisition but are detailed as to classification. Consolidation process summarization: Investment Account on the Parent’s Books Asset and Liability Accounts on the Subsidiary’s Books Valuation in the financial statements MARKET VALUE HISTORICAL VALUE Classification in the financial statements ONE ACCOUNT MULTIPLE ACCOUNTS D. Process of preparing consolidated financial statements aims to achieve market value and multiple accounts characteristics (items in the diagonal in part C above). Consolidated statements ignore the legal aspects of the separate entities and focus on the economic entity under the control of management, and thus focus on substance rather than form. Consolidated statements are not to be used as substitutes for the statements prepared by the separate subsidiaries. 2
Chapter 3 V. INVESTMENTS AT THE DATE OF ACQUISITION A. Recording Investments at Cost (Parent’s Books) 1. Purchase method – stock investment is recorded at its cost as measured by the fair value of the consideration given or received, whichever is more clearly evident. 2. Both direct and indirect costs (costs of maintaining an M&A dept, for example) should be expensed as incurred. B. If cash is used for the acquisition, the investment is recorded at its cash cost, including broker's fees and other direct costs of the investment. C. If the company acquires only part of shares and pays an acquisition fee, the investment is recorded at its cost of purchasing shares and other direct costs of investment. D. If the company issues stock in the acquisition, the investment is recorded at the fair value of the stock issued, giving effect to any costs of registering the stock issue.
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