Exercise 8 (LO 4) Contingent consideration. Grant Company purchased the net asse

Question

Exercise 8 (LO 4) Contingent consideration. Grant Company purchased the net asses of Harding Company on January 1, 2015, and made the following entry to record the purchase Current Assets Equipment Land Buildings Goodwill 100,000 160,000 50,000 . . 300,000 100,000 Note Payable. Account to be determined . Common Stock ($1 par). 50,000 40,000 100,000 520,000 Provide the correct title for the $40,000 credit account above and make the required entry on January 1, 2017, for each of the following independent contingency agreements: 1. An additional cash payment would be made on January 1, 2017, equal to twice the amount by which average annual earnings of the Harding Division exceed $25,000 per year, prior to January 1, 2017. Net income was $50,000 in 2015 and $60,000 in 2016. Assume that the expected value of the agreement on the purchase date was $40,000. Assume that no adjust- ment was made at the end of 2015 or 2016. 2. Added shares would be issued on January 1, 2017, equal in value to twice the amount by which average annual earnings of the Harding Division exceed $25,000 per year, prior to January 1, 2017. Net income was $50,000 in 2015 and $60,000 in 2016. The market price of the shares on January 1, 2017, was $5. Assume that the expected value of the agreement on the purchase date was $40,000. The agreement is classified as an equity transaction. 3. Added shares or cash (at the option of the acquirer) would be issued on january 1, 2017, to compensate for any fall in the value of Grant common stock below $6 per share. The market price of the shares on January 1, 2017, was $5. Assume that the expected value of the agree- ment on the purchase date was $40,000 and that it is classified as a liability. Assume that no adjustment was made at the end of 2015 or 2016. Shares were issued on January 1, 2017

Explanation / Answer

$40000 credit entry should be entered as "contingent earn-out" Debit Credit 1 (The company has already recorded a contingent earn-out of 40000 on 1st Jan 2015) Total Contingent Earn-out = 2 * [(50000 + 60000)/2 - 25000] Total Contingent Earn-out = 60000 Balance Contingent Earn-out to be provided for = 60000 - 40000 = 20000 a Goodwill 20000 Contingent Earn-Out 20000 b Contingent Earn-Out 60000 Cash 60000 2 (The Company's fair value of shares is 5$ on 1st Jan 2017) Thus, Par Value shall be 60000 * 1/5 = 12000 12000 shares at 5$, premium being $4 per share a Goodwill 60000 Common Stock ($1 Par) 12000 Paid-in Capital in Excess of Par Value 48000 3 (The company has already recorded a contingent earn-out of 40000 on 1st Jan 2015) Total Contingent Earn-out = ($6 - $5) * 100000 original shares Total Contingent Earn-out = $ 100000 Balance Contingent Earn-out to be provided for = 100000 - 40000 = 60000 (i) If Added Shares are given: a Goodwill 60000 Contingent Earn-Out 60000 Contingent Earn-Out 100000 Common Stock ($1 Par) 20000 Paid-in Capital in Excess of Par Value 80000 (ii) If Added Cash are given: a Goodwill 60000 Contingent Earn-Out 60000 Contingent Earn-Out 100000 Cash 100000

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