Joyful Sound Music Company purchased the net assets (i.e.,assets minus liabiliti
ID: 2433553 • Letter: J
Question
Joyful Sound Music Company purchased the net assets (i.e.,assets minus liabilities) of
Metrodome Company for $845,000.Metrodome is a retailer of music,instruments, and related
items. Its net assets have been carried on its own books at atotal of $530,000. An appraisal of
all of Metrodome’s assets and liabilities revealed a netfair market value of $783,000. Joyful is
willing to pay extra because of Metrodome’s very loyalretail customers, most of whom have
dealt exclusively with the company for more than 30 years. (a)What is the amount of goodwill
that Joyful should record at acquisition of Metrodome? (b) Whatmight cause the purchased
goodwill in this situation to become impaired?
Explanation / Answer
(a) What is the amount of goodwill that Joyful should recordat acquisition of Metrodome? ========================================================== Goodwill = Purchase Price– Fair Market Value of Net Assets Goodwill at aquisition ofMetrodome = $845,000 - $783,000 = $62,000 (b) What might cause the purchased goodwill in thissituation to become impaired? ========================================================== Sometimes, the value of goodwill of a company increases overtime, but it needs to be seen whether the carrying value is reallymore or less equal to the fair value of goodwill attributable tothat company.If the fair value is less than the carrying value, the goodwill isdeemed "impaired" and must be charged off. This charge reduces thevalue of goodwill to the fair market value.
Joyful agreed to pay extra because of Metrodome’svery loyal retail customers, most of whom have dealt exclusivelywith the company for more than 30 years. If in future the orders/contract from such customers havebeen reduced to a considerable magnitude, goodwill impairmentmay be noticed. When there are indications that goodwill may be impaired, atest is conducted and the recoverable amount of the goodwill iscalculated and compared with its carrying amount. The excess ofcarrying amount over the recoverable amount is charged to incomestatement as an expense.
The principle is that no asset should be shown in the balancesheet at an amount greater than its recoverable amount at thebalance sheet date, in case of a liability the amount should not beless than the amount actually due for payment at the balancedate.
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