Equity method vs. Purchase method
2007年 04月 03日
Studying Japanese bookkeeping exam topics, I had a chance to go over the difference between Equity method and Consolidated F/S.
I tried making a sample case study, which is illustrated below, to deepen my understanding. Please be noted, therefore, that the following explanation could be wrong because I didn’t refer to any specific study materials to make the following summary.
Suppose P corp. acquired some part of outstanding common stock of S corp.
Below is the S corp’s balance sheet, which is revaluated at its fair value.
Case 1:
P corp. acquired 100% of the outstanding common stock of S corp. for $40,000.
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Purchase method is to be adopted in the consolidated financial statement of P corp.
The cost incurred to acquire the S corp. (=$40,000), and the fair value of S corp’s net asset (=$32,000) is offset with each other, and the remainder is to be reported as GOODWILL. (=$8,000)
(Another approach is to offset the BOOK VALUE of the S corp's net asset and the cost incurred for P corp to acquire the S corp. And the remainder should be spared for the adjustment of fair-value revaluation of S corp's assets and liabilities in the consolidated B/S, and report the final remainder as Goodwill.)
According to FAS142 in USGAAP, if I remember correctly, the goodwill should go through the impairment test at least once a year, instead of being amortized over a certain period of time. (Thus, it causes PERMANENT DIFFERENCE because amortization is still permitted in the context of REG.)
In the context of Japanese bookkeeping exam, howeve, the goodwill should be amortized within a period to the extent it doesn’t exceed 20 years.
Case 2:
P corp. acquired 40% of the outstanding common stock of S corp. for $40,000.
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Equity method is to be adopted in the consolidated financial statement of P corp. When preparing for the consolidated balance sheet under equity method, you don’t add up the respective balance sheets of the two or more companies. Instead, the amount of the P corp’s investment in S corp. is reported as a part of the asset in the consolidated financial statement.
And this amount (=$40,000) changes by the amount of P copr's share of the net income or the amount of dividend of S corp.
The amount of $40,000 in the above example consists of two parts: P corp's share of the net asset of S corp at the faif value basis. (=$12,800=$32,000×40%) and the amount tantamount to Goodwill. (=$27,200=$40,000 - $12,800)
(*above calculation ignores the effect of Deferred Tax Accounting for convenience!)
Again, in the context of Japanese bookkeeping, this $12,800 part is to be amortized over a period, which decreases the amount of investment in S corp. I don’t know what they would do in USGAAP, but I don’t think they would do in the same way as JGAAP, because the amount of Goodwill goes through impairment test instead of periodical amortization in Purchase method.
It’s fun to encounter such differences of the accounting treatments between USGAAP and JGAAP, isn’t it?