Chapter 1 Test Bank

BUSINESS COMBINATIONS

Multiple Choice Questions

LO1
1.

Which of the following is a reason why a company would expand through a

combination, rather than by building new facilities?
a.
b.
c.
d.

A combination might provide cost advantages.

A combination might provide fewer operating delays.
A combination might provide easier access to intangible assets.
All of the above are possible reasons that a company might choose a
combination.

LO2
2.

A business combination in which a new corporation is created and two or more

existing corporations are combined into the newly created corporation is called a
a.
b.
c.
d.

3.

A business combination occurs when a company acquires an equity interest in another

entity and has
a.
b.
c.
d.

4.

merger.
purchase transaction.
pooling-of-interests.
consolidation.

at least 20% ownership in the entity.

more than 50% ownership in the entity.
100% ownership in the entity.
control over the entity, irrespective of the percentage owned.

FASB favors consolidation of two entities when

a. one acquires less than 20% equity ownership of the other.
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b. one companys ownership interest in another gives it control of the acquired

company, yet the acquiring company does not have a majority ownership in the
acquired. Typically, this is in the 20%-50% interest range.
c. one acquires two thirds equity ownership in the other.
d. one gains control over the entity, irrespective of the equity percentage owned.
LO3
LO4
5.

Michangelo Co. paid $100,000 in fees to its accountants and lawyers in

acquiring Florence Company. Michangelo will treat the $100,000 as
a. an expense for the current year.
b. a prior period adjustment to retained earnings.
c. additional cost to investment of Florence on the consolidated balance
sheet.
d. a reduction in paid-in capital.

6.

Picasso Co. issued 10,000 shares of its $1 par common stock, valued at
$400,000, to acquire shares of Bull Company in an all-stock transaction.
Picasso paid the investment bankers $35,000. Picasso will treat the
investment banker fee as:
a.
b.
c.
d.

7.

an expense for the current year.

a prior period adjustment to Retained Earnings.
additional goodwill on the consolidated balance sheet.
a reduction in paid-in capital.

Durer Inc acquired Sea Corporation in a business combination and Sea

Corp went out of existence. Sea Corp developed a patent listed as an asset
on Sea Corps books at the patent office filing cost. In recording the
combination
a. fair value is not assigned to the patent because the research and
development costs have been expensed by Sea Corp.
b. Sea Corps prior expenses to develop the patent are recorded as an
asset by Durer at purchase.
c. the patent is recorded as an asset at fair market value.
d. the patent's market value increases goodwill.

8.

In a merger, which of the following will occur?

a. A merger occurs when one corporation takes over the operations of
another business entity, and the acquired entity is dissolved.
b. None of the business entities will be dissolved.
c. The acquired assets will be recorded at book value by the acquiring
entity.
d. None of the above is correct.
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9.

According to FASB Statement 141, which one of the following items may
not be accounted for as an intangible asset apart from goodwill?
a.
b.
c.
d.

10.

A production backlog.
A talented employee workforce.
Noncontractual customer relationships.
Employment contracts.

Under the provisions of FASB Statement No. 141R, in a business

combination, when the fair value exceeds the investment cost, which of
the following statements is correct?
a. A gain from a bargain purchase is recognized for the amount that the
fair value of the identifiable net assets acquired exceeds the
acquisition price.
b. the value is allocated first to reduce proportionately (according to
market value) non-current assets, then to non-monetary current
assets, and any negative remainder is classified as a deferred credit.
c. it is allocated first to reduce proportionately (according to market
value) non-current assets, and any negative remainder is classified as
an extraordinary gain.
d. It is allocated first to reduce proportionately (according to market
value) non-current, depreciable assets to zero, and any negative
remainder is classified as a deferred credit.

11.

With respect to goodwill, an impairment

a.
b.
c.
d.

will be amortized over the remaining useful life.

is a two-step process which analyzes each business unit of the entity.
is a one-step process considering the entire firm.
occurs when asset values are adjusted to fair value in a purchase.

Use the following information in answering questions 12 and 13.

Manet Corporation exchanges 150,000 shares of newly issued $1 par value
common stock with a fair market value of $25 per share for all of the outstanding
$5 par value common stock of Gardner Inc and Gardner is then dissolved. Manet
paid the following costs and expenses related to the business combination:
Costs of special shareholders meeting
to vote on the merger
$13,000
Registering and issuing securities
14,000
Accounting and legal fees
9,000
Salaries of Manets employees assigned
to the implementation of the merger
15,000
Cost of closing duplicate facilities
11,000
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12.

In the business combination of Manet and Gardner

a. the costs of registering and issuing the securities are included as part
of the purchase price for Gardner.
b. only the salaries of Manet's employees assigned to the merger are
treated as expenses.
c. all of the costs except those of registering and issuing the securities
are included in the purchase price of Gardner.
d. only the accounting and legal fees are included in the purchase price
of Gardner.

13.

In the business combination of Manet and Gardner

a. all of the items listed above are treated as expenses.
b. all of the items listed above except the cost of registering and issuing
the securities are expensed.
c. the costs of registering and issuing the securities are deducted from
the fair market value of the common stock used to acquire Gardner.
d. only the costs of closing duplicate facilities, the salaries of Manet's
employees assigned to the merger, and the costs of the shareholders'
meeting would be treated as expenses.

14.

In Statement 142, which of the following methods does the FASB consider
the best indicators of fair values in the evaluation of goodwill impairment?
a.
b.
c.
d.

15.

Senior executives estimates.

Financial analyst forecasts.
Market value.
The present value of future cash flows discounted at the firms cost of
capital.

Raphael Company paid $2,000,000 for the net assets of Paris Corporation
and Paris was then dissolved. Paris had no liabilities. The fair values of
Paris assets were $2,500,000. Pariss only non-current assets were land
and equipment with fair values of $160,000 and $640,000, respectively. At
what value will the equipment be recorded by Raphael?
a.
b.
c.
d.

$640,000
$240,000
$400,000
$0

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16.

According to FASB 141, liabilities assumed in an acquisition will be valued

at the
a.
b.
c.
d.

17.

estimated fair value.

historical book value.
current replacement cost.
present value using market interest rates.

In reference to the FASB disclosure requirements, which of the following is

correct?
a. Information related to several minor acquisitions may not be
combined.
b. Firms are not required to disclose the business purpose for a
combination
c. Notes to the financial statements of an acquiring corporation must
disclose that the business combination was accounted for by the
acquisition method.
d. All of the above are correct.

18.

Goodwill arising from a business combination is

a.
b.
c.
d.

19.

charged to Retained Earnings after the acquisition is completed.

amortized over 40 years or its useful life, whichever is longer.
amortized over 40 years or its useful life, whichever is shorter.
never amortized.

In reference to international accounting for goodwill, which of the following

statements is correct?
a. U.S. companies have complained that past accounting rules for
amortizing goodwill placed them at a disadvantage in competing
against foreign companies for merger partners.
b. Some foreign countries permitted the immediate write-off of goodwill
to stockholders equity.
c. The IASB and the FASB are working to eliminate differences in
accounting for business combinations.
d. All of the above are correct.

20.

In recording acquisition costs, which of following procedures is correct?

a. Registration costs are expensed, and not charged against the fair
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value of the securities issued.

b. Indirect costs are charged against the fair value of the securities
issued.
c. Consulting fees are expensed.
d. None of the above procedures is correct.

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Exercises
LO2
Exercise 1
On January 2, 2005 Bison Corporation issued 100,000 new shares of its $5 par
value common stock valued at $19 a share for all of Deer Corporations
outstanding common shares. Bison paid $15,000 to register and issue shares.
Bison also paid $10,000 for the direct combination costs of the accountants. The
fair value and book value of Deer's identifiable assets and liabilities were the
same. Summarized balance sheet information for both companies just before the
acquisition on January 2, 2005 is as follows:
Bison

Deer

Cash
Inventories
Other current assets
Land
Plant assets-net
Total Assets

$ 150,000
320,000
500,000
350,000
4,000,000
$5,320,000

$ 120,000
400,000
500,000
250,000
1,500,000
$2,770,000

Accounts payable
Notes payable
Capital stock, $5 par
Paid-in capital
Retained Earnings
Total Liabilities & Equities

$1,000,000
1,300,000
2,000,000
1,000,000
20,000
$5,320,000

$ 300,000
660,000
500,000
100,000
1,210,000
$2,770,000

Required:
1. Prepare Bison's general journal entry for the acquisition of
Deer, assuming that Deer survives as a separate legal entity.
2. Prepare Bison's general journal entry for the acquisition of
Deer, assuming that Deer will dissolve as a separate legal entity.

LO2
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Exercise 2
On January 2, 2005 Altamira Company issued 80,000 new shares of its $2 par
value common stock valued at $12 a share for all of Lascaux Corporations
outstanding common shares. Altamira paid $5,000 for the direct combination costs
of the accountants. Altamira paid $10,000 to register and issue shares. The fair
value and book value of Lascaux's identifiable assets and liabilities were the same.
Summarized balance sheet information for both companies just before the
acquisition on January 2, 2005 is as follows:

Cash
Inventories
Other current assets
Land
Plant assets-net
Total Assets

Altamira
$ 75,000
160,000
200,000
175,000
1,500,000
$2,110,000

Lascaux
$ 60,000
200,000
250,000
125,000
750,000
$1,385,000

Accounts payable
Notes payable
Capital stock, $2 par
Paid-in capital
Retained Earnings
Total Liabilities & Equity

$ 100,000
700,000
600,000
450,000
260,000
$2,110,000

$ 155,000
330,000
250,000
50,000
600,000
$1,385,000

Required:
1. Prepare Altamira's general journal entry for the acquisition of
Lascaux assuming that Lascaux survives as a separate legal entity.
2. Prepare Altamira's general journal entry for the acquisition of
Lascaux assuming that Lascaux will dissolve as a separate legal entity.

Exercise 3
Dolmen Corporation purchased the net assets of Carnac Inc on January 2, 2005 for
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$280,000 and also paid $10,000 in direct acquisition costs. Carnac's balance sheet
on January 2, 2005 was as follows:
Accounts receivable-net $ 90,000 Current liabilities $ 35,000
Inventory
180,000 Long term debt
80,000
Land
20,000 Common stock ($1 par) 10,000
Building-net
30,000 Paid-in capital
215,000
Equipment-net
40,000 Retained earnings
20,000
Total assets
$360,000 Total liab. & equity $360,000
Fair values agree with book values except for inventory, land, and equipment, that
have fair values of $200,000, $25,000 and $35,000, respectively. Carnac has
patent rights valued at $10,000.
Required:
Prepare Dolmen's general journal entry for the cash purchase of Carnac's net
assets.

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Exercise 4
The balance sheets of Palisade Company and Salisbury Corporation were as follows on December
31, 2004:
Palisade

Salisbury
Current Assets
$ 260,000
Equipment-net
440,000
Buildings-net
600,000
Land
100,000
Total Assets
$1,400,000
Current Liabilities
100,000
Common Stock, $5 par
1,000,000
Paid-in Capital
100,000
Retained Earnings
200,000
Total Liabilities and Stockholders'
$1,400,000
equity

$ 120,000
480,000
200,000
200,000
$1,000,000
120,000
400,000
280,000
200,000
$1,000,000

On January 1, 2005 Palisade issued 30,000 of its shares with a market value of $40 per share in
exchange for all of Salisbury's shares, and Salisbury was dissolved. Palisade paid $20,000 to
register and issue the new common shares. It cost Palisade $50,000 in direct combination costs.
Book values equal market values except that Salisburys land is worth $250,000.
Required:
Prepare a Palisade balance sheet after the business combination on January 1, 2005.

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LO4
Exercise 5
Paradise Inc purchased the net assets of Sublime Company on January 2, 2005 for
$320,000 and also paid $5,000 in direct acquisition costs. Sublime's balance sheet
on January 2, 2005 was as follows:
Accounts receivable-net $180,000 Current liabilities $ 25,000
Inventory
180,000 Long term debt
90,000
Land
30,000 Common stock ($1 par) 10,000
Building-net
30,000 Paid-in capital
225,000
Equipment-net
30,000 Retained earnings
100,000
Total assets
$450,000 Total liab. & equity $450,000
Fair values agree with book values except for inventory, land, and equipment, that
have fair values of $200,000, $25,000 and $35,000, respectively. Solitaire has
patent rights valued at $10,000.
Required:
Prepare Paradise's general journal entry for the cash purchase of Sublime's net
assets.

LO4
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Exercise 6
On January 2, 2005 Tennessee Corporation issued 100,000 new shares of its $5 par
value common stock valued at $19 a share for all of Alaska Companys
outstanding common shares in an acquisition. Tennessee paid $15,000 for
registering and issuing securities and $10,000 for other direct costs of the
business combination. The fair value and book value of Alaska's identifiable assets
and liabilities were the same. Summarized balance sheet information for both
companies just before the acquisition on January 2, 2005 is as follows:

Cash
Inventories
Other current assets
Land
Plant assets-net
Total Assets

Tennessee
$ 150,000
320,000
500,000
350,000
4,000,000
$5,320,000

Alaska
$ 120,000
400,000
500,000
250,000
1,500,000
$2,770,000

Accounts payable
Notes payable
Capital stock, $5 par
Paid-in capital
Retained Earnings
Total Liabilities & Equities

$1,000,000
1,300,000
2,000,000
1,000,000
20,000
$5,320,000

$ 300,000
660,000
500,000
100,000
1,210,000
$2,770,000

Required:
Prepare a balance sheet for Tennessee Corporation immediately after the business combination.

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Exercise 7
Balance sheet information for Sphinx Company at January 1, 2005, is summarized
as follows:
Current assets
Plant assets

230,000
450,000
680,000

Liabilities
$
Capital stock $10 par
Retained earnings
$

300,000
200,000
180,000
680,000

Sphinxs assets and liabilities are fairly valued except for plant assets that are
undervalued by $50,000. On January 2, 2005, Pyramid Corporation issues 20,000
shares of its $10 par value common stock for all of Sphinxs net assets and Sphinx
is dissolved. Market quotations for the two stocks on this date are:
Pyramid common: $28.00
Sphinx common: $19.50
Butler pays the following fees and costs in connection with the combination:
Finders fee
Legal and accounting fees

$10,000
6,000

Required:
1. Calculate Pyramids investment cost of Sphinx Corporation.
2. Calculate any goodwill from the business combination.

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Solutions:
Multiple Choice Questions
1
6
11
16

D
D
B
A

2
7
12
17

D
B
B
C

3
8
13
18

D
A
C
D

4
9
14
19

B
B
C
D

5
10
15
20

Exercise 1
1. General journal entry recorded by Bison for the acquisition of
Deer (Deer survives as a separate legal entity):
Investment in Deer
1,900,000
Common stock
500,000
Paid-in capital
1,400,000
Investment in Deer
10,000
Paid-in capital
15,000
Cash
25,000
2. General journal entry recorded by Bison for the acquisition of
Deer (Deer dissolves as a separate legal entity):
Cash
120,000
Inventories
400,000
Other current assets
500,000
Land
250,000
Plant assets
1,500,000
Goodwill
75,000
Accounts payable
300,000
Notes payable
660,000
Common stock
500,000
Paid-in capital
1,385,000

Exercise 2
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C
A
A
C

1. General journal entry recorded by Altamira for the acquisition of

Lascaux (Lascaux survives as a separate legal entity):
Investment in Lascaux
960,000
Common stock
160,000
Paid-in capital
800,000
Investment in Lascaux
5,000
Paid-in capital
10,000
Cash
15,000
2. General journal entry recorded by Altamira for the acquisition of
Lascaux (Lascaux dissolves as a separate legal entity):
Cash
60,000
Inventories
200,000
Other current assets
250,000
Land
125,000
Plant assets
750,000
Goodwill
55,000
Accounts payable
155,000
Notes payable
330,000
Common stock
160,000
Paid-in capital
790,000
Exercise 3
General journal entry for the purchase of Carnac's net assets:
Accounts receivable
90,000
Inventory
200,000
Land
25,000
Building
30,000
Equipment
35,000
Patent
10,000
Goodwill
15,000
Current liabilities
35,000
Long-term debt
80,000
Cash
290,000

Exercise 4
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The stockholders' equity section for Palisade Corporation subsequent to its acquisition of
Salisbury Corporation on January 1, 2005 will appear as follows:
Palisade Corporation
Balance Sheet
January 1, 2005
Current Assets
Equipment-net
Buildings-net
Land
Goodwill
Total Assets
Current Liabilities
Common Stock, $5 par
Paid-in Capital
Retained Earnings
Total Liabilities and Stockholders'
equity

$ 310,000
920,000
800,000
350,000
320,000
$2,270,000
220,000
1,150,000
1,130,000
200,000
$2,700,000

Exercise 5
General journal entry for the purchase of Sublime's net assets:
Accounts receivable
180,000
Inventory
200,000
Land
25,000
Building-net
30,000
Equipment-net
35,000
Patent rights
10,000
Current liabilities
25,000
Long-term debt
90,000
Cash
325,000
Extraordinary gain
40,000

Exercise 6
Tennessee Corporation
Balance Sheet
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January 1, 2005
Assets:
Liabilities:
Cash
$ 245,000
Accounts payable
$1,300,000
Inventory
720,000
Notes payable
1,960,000
Other current assets 1,000,000
Total liabilities 3,260,000
Total current assets 1,965,000
Land
600,000
Equity:
Plant assets-net
5,500,000
Common stock ($5 par) 2,500,000
Goodwill
100,000
Paid-in capital
2,385,000
Total L.T. assets 6,200,000
Retained earnings
20,000
Total equity
4,905,000
Total assets
$8,165,000
Total liab.& eq. $8,165,000

Exercise 7
Requirement 1
FMV of shares issued by Pyramid: 20,000 x $28.00=
Finders fees
Legal and accounting fees
Total acquisition cost for Sphinx Corporation:

$
$

560,000
10,000
6,000
576,000

576,000

430,000
146,000

Requirement 2
Investment cost from above:
Less: Fair value of Sphinxs net assets ($680,000 of total assets
plus $50,000 of undervalued plant assets minus $300,000 of
debt)
Equals: Goodwill from investment in Sphinx:

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