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Solution Manual for Advanced Accounting 1st Edition by Hamlen

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Solution Manual for Advanced Accounting 1st Edition by Hamlen

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CHAPTER 14

 

SOLUTIONS   TO EXERCISES AND PROBLEMS

 

EXERCISES

 

E14.1            Partnership Formation

 

a.

Capital balances are equal to fair market value of contributed assets.

  Cheng Morales
Cash $ 4,000 $         0
Computer equipment 60,000 0
Building 0 130,000
Liability (28,000) (42,000)
  $ 36,000 $ 88,000

 

The entry to record the formation of the partnership is:

Cash   4,000  
Computer equipment   60,000  
Building   130,000  
  Loan payable   28,000
  Mortgage payable   42,000
  Capital, Cheng   36,000
  Capital, Morales   88,000

 

b.

Investment by Cheng $ 36,000
Investment by Morales    88,000
Total capital $124,000
   
Capital account of Cheng ($124,000/2) $ 62,000
Capital account of Morales ($124,000/2) $ 62,000

 

There is a bonus of $26,000 from Morales to Cheng. The entry to record the formation of the partnership, reflecting that bonus, is:

Cash   4,000  
Computer equipment   60,000  
Building   130,000  
  Loan payable   28,000
  Mortgage payable   42,000
  Capital, Cheng (= $36,000 + $26,000)    

 

62,000

  Capital, Morales (= $88,000 – $26,000)    

 

62,000

Since the partners are to have equal capital and Morales has invested $88,000, Cheng is presumed to have invested a similar amount. Specific assets account for $36,000 of Cheng’s investment; goodwill of $52,000 must therefore be recorded to bring Cheng’s investment to $88,000. The entry to record the formation of the partnership is:

Cash   4,000  
Computer equipment   60,000  
Building   130,000  
Goodwill   52,000  
  Loan payable   28,000
  Mortgage payable   42,000
  Capital, Cheng (= $36,000 + $52,000)    

 

88,000

  Capital, Morales   88,000

 

 

E14.2            Partnership Formation

 

Because Roberta is the only partner not contributing expertise that would support goodwill recognition, we base the apparent total value of the firm on her investment.

 

Total value = $450,000 = $75,000/(1/6)

 

Total tangible assets invested amount to $285,000 (= $20,000 + $150,000 + $40,000 + $15,000 + $60,000), implying goodwill of $165,000 (= $450,000 – $285,000).

 

The following entry is needed to record formation of the partnership under the goodwill approach.

Cash   75,000  
Note receivable   60,000  
Equipment   150,000  
Goodwill   165,000  
  Capital – Max (= 3/6 x $450,000)    

 

225,000

  Capital – Nat (= 2/6 x $450,000)   150,000
  Capital – Roberta (= 1/6 x $450,000)    

 

75,000

 

Total tangible assets invested amount to $285,000 (= $20,000 + $150,000 + $40,000 + $15,000 + $60,000). Max’s share (1/2) is $142,500, Nat’s share (1/3) is $95,000 and Roberta’s share (1/6) is $47,500. To bring the respective amounts invested into this alignment, bonuses will flow from Max ($170,000 – $142,500) and Roberta ($75,000 – $47,500) to Nat.

 

Thus the entry to record the formation under the bonus method is:

Cash   75,000  
Note receivable   60,000  
Equipment   150,000  
  Capital – Max   142,500
  Capital – Nat   95,000
  Capital – Roberta   47,500

 

 

E14.3                    Partnership Income Allocation

 

a.

  Maddox Gross
Original balance $ 85,000 $ 93,000
Salary 35,000 0
Withdrawal of salary (35,000) 0
Loss distribution*   (8,500) (8,500)
Ending balance $ 76,500 $ 84,500

 

*Net income                        $ 18,000

Less salary                        (35,000)

Balance of net income             $(17,000)

 

b.

  Maddox Gross
Original balance $ 85,000 $ 93,000
Salary 35,000 0
Withdrawal of salary (35,000) 0
Income distribution**   6,500    6,500
  $ 91,500 $ 99,500

 

**Net income                               $48,000

Less salary                                35,000

Balance of net income           $13,000

 

 

 

E14.4                    Partnership Income Allocation – Various Options

 

Net income of partnership:

Revenues $ 80,000
Expenses 55,000
Net income $ 25,000

 

a.

  Kingston Allen
Capital, January 1 $ 56,000 $ 84,000
Investment 8,000  
Allocation of income (assumed equal) 12,500 12,500
Capital, December 31 $ 76,500 $ 96,500

 

b.

  Kingston Allen
Capital, January 1 $ 56,000 $ 84,000
Investment 8,000  
Allocation of income:    
Kingston, 65% 16,250  
Allen, 35% _______ 8,750
Capital, December 31 $ 80,250 $ 92,750

 

c.

  Kingston Allen
Capital, January 1 $ 56,000 $ 84,000
Investment 8,000  
Allocation of income:    
Interest on average capital:    
Kingston, 10% x $60,000* 6,000  
Allen, 10% x $84,000   8,400
Balance is $10,600 ($25,000-$14,400) divided equally 5,300 5,300
Capital, December 31 $ 75,300 $ 97,700

* $60,000 = ($56,000 + $64,000)/2

 

 

d.

  Kingston Allen
Capital, January 1 $ 56,000 $ 84,000
Investment 8,000  
Allocation of income:    
  Salaries 12,000 8,000
Interest on beginning capital:    
  Kingston, 5% x $56,000 2,800  
  Allen, 5% x $84,000   4,200
Balance is ($2,000), divided equally** (1,000) (1,000)
Capital, December 31 $ 77,800 $ 95,200

 

** ($2,000) = $25,000 – ($12,000 + $8,000 + $2,800 + $4,200)

 

 

E14.5                    Multiple Income Allocation Provisions

 

a.

   

 

Judi (.4)

 

 

Ken (.5)

 

 

Lee (.1)

 

 

Total

 

 

Salaries

Interest

Residual

Total Share

 

 

$22,000

24,000

15,200

$61,200

 

 

$18,000

36,000

19,000

$73,000

 

 

$30,000

12,000

  3,800

$45,800

 

 

$ 70,000

72,000

  38,000

$180,000

 

b.

   

 

Judi (.4)

 

 

Ken (.5)

 

 

Lee (.1)

 

 

Total

 

 

Salaries

Interest

Residual

Total Share

 

 

$22,000

24,000

(10,400)

$35,600

 

 

$18,000

36,000

(13,000)

$41,000

 

 

$30,000

12,000

(2,600)

$39,400

 

 

$ 70,000

72,000

(26,000)

$116,000

 

Judi’s bonus (B) amounts to $16,364, calculated as follows:

 

B = .1(180,000 – B)

B = 16,364

 

Judi’s net allocation increases by $9,818 (= 16,364 -.4 x 16,364).

Ken’s net allocation decreases by $8,182 (= -.5 x 16,364).

Lee’s net allocation decreases by $1,636 (= -.1 x 16,364).

 

 

 

E14.6                    Admission of New Partner

 

If total capital after admission remains at $210,000 and Jordan receives a one-fourth interest ($52,500) for no investment, the existing partners must be paying Jordan a bonus of $52,500. Existing partners contribute to the bonus based on their income-sharing ratio. Hawk contributes $31,500 ( = .6 x $52,500) and Dove contributes $21,000 ( = .4 x $52,500).

Capital balances after admission are:

Hawk – capital: $120,000 – $31,500 = $ 88,500
Dove – capital: $ 90,000 – $21,000 = 69,000
Jordan – capital:   52,500
Total   $210,000

 

Under the goodwill approach, Hawk and Dove will own 75 percent of the partnership. Their combined capital of $210,000 for a 75 percent share of the new partnership implies a value of $280,000 for the new partnership (= $210,000/.75). Since Jordan makes no tangible investment, Jordan’s entire share of $70,000 (= $280,000 – $210,000) is deemed to be goodwill.

 

Capital balances after admission are:

Hawk – capital $120,000
Dove – capital 90,000
Jordan – capital 70,000
Total $280,000

 

 

E14.7                    Admission of New Partner

 

Xavier must pay $1,257,750 to be admitted to the partnership.

 

Under the proposed arrangements, Blackman, Coulter, and Xavier would be equal partners. The annual amount available for income sharing is the $1,350,000 currently earned by Blackman ($600,000), Coulter ($600,000), and Xavier ($150,000). Thus each partner would receive $450,000 annually (= $1,350,000/3).

 

Xavier’s increased earnings would be $300,000 annually (= $450,000 – $150,000). The present value of this amount, discounted at 20% over ten years, is $1,257,750 (= $300,000 x present value of annuity factor, 10 years, 20% = $300,000 x 4.1925).

 

 

E14.8                    Admission of New Partner

 

  1. Jeter should contribute $257,142.86

 

Capital – Martinez $108,000
Capital – O’Neill 176,000
Capital – Clemens   316,000
Total capital $600,000

 

This capital will represent 70 percent of the partnership after Jeter’s admission. The total capital will be $857,142.86 (= $600,000/.7). Hence, Jeter must invest $257,142.86 (= $857,142.86 ‑ $600,000).

 

Jeter’s payment of $210,000 for a 30 percent interest implies that the total value of the partnership is $700,000 (= $210,000/.30). First record implied goodwill of $100,000 (= $700,000 ‑ $600,000), and then transfer 30 percent of each partner’s capital to Jeter. The resulting capital balances are:

 

   

 

Original

Capital

 

 

Implied

Goodwill

 

 

 

Total

 

 

Transfer

To Jeter

Balances After

 

Acquisition

Martinez

 

O’Neill

Clemens

Jeter

$108,000

 

176,000

316,000

           0  

$600,000

  $20,000 (.2)

 

30,000 (.3)

50,000 (.5)

           0          $100,000

$128,000

 

206,000

366,000

         0    

$700,000

$(38,400)

 

(61,800)

(109,800)

210,000

$           0  

$ 89,600

 

144,200

256,200

    210,000

$700,000

 

 

E14.9        Post-Retirement Capital Balances

 

  Bosworth Cunneyworth
Capital balances before Ashworth’s retirement $80,000 $100,000
Write‑up of assets 20,000 40,000
Bonus to Ashworth (11,667) (23,333)
Capital balances after Ashworth’s retirement $88,333 $116,667

 

Following are the journal entries (not required) leading to these capital balances.

 

  1. Adjust capital accounts to reflect write‑up of assets from $400,000 to $480,000.

 

Assets   80,000  
  Ashworth, Capital   20,000
  Bosworth, Capital   20,000
  Cunneyworth, Capital   40,000

 

  1. Record Ashworth’s retirement under the bonus method.

 

Ashworth, Capital   65,000  
Bosworth, Capital (1/3)   11,667  
Cunneyworth, Capital (2/3)   23,333  
  Cash   100,000

 

 

E14.10     Retirement: Bonus and Goodwill Calculations

 

After deducting drawings of $50,000, Stevens’ capital account is $190,000. Stevens’ bonus is therefore $60,000 (= $250,000 – $190,000). Once Stevens’ retirement is recorded, total capital net of drawings is $350,000 [= ($780,000 – $180,000) – ($190,000 + $60,000)].

 

Partial goodwill amounts to $60,000 [= $250,000 – ($240,000 – $50,000). Thus goodwill increases by $60,000, capital decreases by $190,000 (or by $250,000 if the $60,000 goodwill increment is added to Stevens’ capital) and cash decreases by $250,000.

 

Total goodwill is $200,000 (= $60,000/.3), of which $140,000 (= .7 x $200,000) pertains to the other partners. Thus total capital net of drawings is $550,000 [(= $600,000 + $200,000 goodwill – $250,000 withdrawal by Stevens) = $600,000 – $190,000 net decrease in Stevens’ capital + $140,000 increase in capital of other partners].

 

E14.11      Retirement Journal Entries: Various Assumptions

 

a.

Capital ‑ Baxter   70,000  
  Capital ‑ Helman   35,000
  Capital ‑ Caines   35,000

To record transfer of Baxter’s capital to Helman and Caines. Payment was made from personal funds.

 

b.

Capital ‑ Helman   10,000  
Capital ‑ Caines   10,000  
  Capital ‑ Baxter   20,000

To record bonus to retiring partner.

 

Capital ‑ Baxter   90,000  
  Cash   90,000

To record payment to Baxter from partnership funds.

 

 

c.

Goodwill   40,000  
  Capital – Baxter   20,000
  Capital – Helman   10,000
  Capital – Caines   10,000

To record goodwill under the total goodwill approach; $90,000 ‑ $70,000 = $20,000

goodwill attributable to Baxter; $20,000/.5 = $40,000 goodwill of the firm.

 

Capital ‑ Baxter   90,000  
  Cash   90,000

To record payment to Baxter from partnership funds.

 

d.

Goodwill   20,000  
  Capital ‑ Baxter   20,000

To record goodwill under the partial goodwill approach; $90,000 ‑ $70,000 = $20,000 goodwill attributable to Baxter.

 

Capital ‑ Baxter   90,000  
  Cash   90,000

To record payment to Baxter from partnership funds.

 

e.

Capital ‑ Baxter   70,000  
  Cash   70,000

To record payment to Baxter from partnership funds. (The $20,000 transfer of personal funds is not recorded on partnership books.)

 

 

E14.12      Lump-Sum Liquidation

 

Callahan receives $25,600.

Koh receives zero.

Mateer receives $34,400.

 

Cash from sale of assets $105,000
Cash on hand    7,000
Total cash available 112,000
Less: Payments to creditors (52,000)
Cash available to partners $ 60,000

 

 

If assets are sold for $105,000, there is a loss of $30,000 which the partners must share in their income‑sharing ratio.

 

  Callahan Koh Mateer
Original capital balance $ 40,000 $   6,000 $44,000
Loss of $30,000 divided (6:5:4) (12,000) (10,000) (8,000)
  28,000 (4,000) 36,000
Allocation of Koh’s deficit, divided (6:4)   (2,400)    4,000 (1,600)
Cash distribution $ 25,600 $         0 $34,400

 

 

E14.13            Rights of Creditors

 

Distribution of assets of AB Partnership: Case 1 Case 2
Partnership creditors $42,000 $31,000
Creditors of Partner A 3,000  
Partner B   3,000 ______
  $48,000 $31,000
Distribution of assets of Partner A:    
Creditors of Partner A $10,000 $17,000
Partnership creditors _____   13,000
  $10,000 $30,000
Distribution of assets of Partner B:    
Creditors of Partner B $ 9,000 $15,000
     

In case 1, the partnership is solvent, and A’s creditors collect only $13,000 of the $17,000 owed them. In case 2, the partnership is insolvent and partnership creditors collect only $44,000 of the $51,000 owed them.

 

 

E14.14                                                 Safe Payment Calculation

 

Rane $           0
Snow    50,000
Hale              0
   
Cash from sale of assets $ 130,000
Cash on hand    10,000
Total cash available 140,000
Less: Payments to creditors (90,000)
Cash available to partners $   50,000

 

 

 

  Rane (.5) Snow (.3) Hale (.2)
Original capital balances $100,000 $170,000 $ 80,000
Loss of $60,000 on sale of assets (30,000) (18,000) (12,000)
Assume total loss on remaining assets of $240,000  

 

(120,000)

 

 

(72,000)

 

 

(48,000)

  (50,000)   80,000 20,000
Allocate Rane’s deficit (3:2)      50,000 (30,000) (20,000)
  $           0 $ 50,000 $         0

 

 

E14.15            Lump-Sum Liquidation

 

     Conley (.6)      Lewis (.4)        Total
Balances per books $140,000 $ 90,000 $230,000
Add Lewis’ loan        —       80,000   80,000
Pre-liquidation balances 140,000 170,000 310,000
Gain on sale of assets 12,000      8,000   20,000*
Pre-distribution balances $152,000 $178,000 $330,000

 

* $20,000 = $450,000 – ($130,000 + $100,000 + $200,000)

 

Cash available (70,000 + 450,000) $520,000
Payment of liabilities (190,000)
Cash available for the partners 330,000
Distribution to Conley (152,000)
Distribution to Lewis (178,000)
Cash balance after distributions to partners $         –      
   

 

 

E14.16            Cash Distribution Plan

 

       White (.5)      Ellis (.3)    Riley (.2)
Capital balances per books $ 75,000 $ 60,000 $100,000
Deduct loan receivable                             ( 40,000)
Pre-liquidation balances   75,000   60,000   60,000
Divide by income-sharing % .5 .3 .2
Standardized capital balances 150,000 200,000 300,000
Equalize Ellis and Riley                           (100,000)
  150,000 200,000 200,000
Equalize White, Ellis & Riley              (50,000) (50,000)
  $150,000 $150,000 $150,000

 

Convert equalization adjustments     20,000
Convert equalization adjustments   15,000 10,000
       

Cash Distribution Plan:         First $48,000 to creditors;

Next $20,000 to Riley;

Next $25,000 to Ellis and Riley in a 3:2 ratio;

Cash over $93,000 to White, Ellis and Riley in a 5:3:2 ratio

 

 

 

 

PROBLEMS

 

P14.1                    Partnership Formation: Working Backward

 

Tangible net assets invested amount to $66,000 (= $12,000 cash + $18,000 equipment + $15,000 cash + $11,000 library + $10,000 note). Because the capital balances in Scenario #2 add up to $66,000, Scenario #2 must reflect the bonus approach. The flow of bonuses is as follows:

 

  Tangible Investment Capital Balance Bonus To (From)
Brian $30,000 $22,000      $(8,000)
Jennifer   26,000   33,000        7,000
Eric   10,000   11,000        1,000

 

In Scenario #1, total capital of $90,000 (= $30,000 + $45,000 + $15,000) and goodwill of $24,000 (= $90,000 – $66,000) were recorded, based on Brian’s investment of $30,000 for a 1/3 (= 2/6) interest. Thus goodwill of $19,000 (= $45,000 – $26,000) is being attributed to Jennifer and $5,000 (= $15,000 – $10,000) to Eric.

 

In Scenario #3, total capital of $108,000 (= $36,000 + $54,000 + $18,000) and goodwill of $42,000 (= $108,000 – $66,000) were recorded. Because these amounts cannot be calculated from the problem data, the partners apparently decided that their various skills have a total value of $42,000. Goodwill is now attributed to each partner as follows: Brian–$6,000, Jennifer–$28,000 and Eric–$8,000.

 

First, as to profitability, the fact that goodwill is subject to annual impairment testing means that its presence in the accounts may result in lower earnings than under the bonus method in Scenario #2, other things being equal. The larger amount of goodwill recognized in Scenario #3 may depress earnings more than in Scenario #1. Moreover, conventional return-on-assets measures will be further reduced because the firm’s asset base is inflated by the presence of goodwill (the numerator could be smaller and the denominator is always larger).

 

Second, as to leverage, if one takes the account balances without adjustment, the presence of goodwill results in lower leverage measures because total assets and equity are higher than in the bonus case. And, without the ability to set higher prices, any interest coverage ratio (or times interest earned) will be reduced by the effect of any goodwill impairment losses on earnings.

 

The presence of goodwill will weaken some profitability measures but has mixed effects on credit-worthiness. Recognizing the “softness” inherent in goodwill, particularly in the non-purchased goodwill here, an analyst may remove its effects.

 

 

 

P14.2                    Partnership Formation

 

a.

Partnership Balance Sheet

Date of Partnership Formation

Assets   Liabilities  
Cash (a) $ 46,000 Accounts payable $ 53,000
Accounts receivable (net) 48,000 Mortgage payable   55,000
Marketable securities 57,500 Total liabilities 108,000
Inventory 85,000 Invested capital  
Equipment (b) 15,000 Capital, Berrini (d) 116,750
Building 65,000 Capital, Fiedler (e) 58,375
Land 25,000 Capital, Wade (e)   58,375
  ______ Total invested capital (c) 233,500
 

 

Total assets

 

 

$341,500

Total liabilities and invested capital  

 

$341,500

 

Supporting computations:

 

(a)         $7,000 (Berrini) + $28,000 (Fiedler) + $11,000 (Wade) = $46,000.

(b)         Original cost of equipment = $18,000 + $12,000 (depreciation) = $30,000. One                             half of $30,000 = $15,000.

(c)         Note that Berrini’s investment = $137,000, the fair market value of net assets                                invested, as shown next:

 

Cash $    7,000
Accounts receivable 48,000
Inventory 85,000
Equipment 15,000
Building 65,000
Land 25,000
Accounts payable (53,000)
Mortgage payable (55,000)
  $137,000

 

Fiedler’s investment = $28,000

Wade’s investment = $11,000 + $57,500 (securities) = $68,500

Total investment = $137,000 + $28,000 + $68,500 = $233,500

 

(d)         $233,500 (total investment) x 50% = $116,750

(e)         $233,500 (total investment) x 25% = $ 58,375

 

 

b.

Partnership Balance Sheet

                                            Date of Partnership Formation

Assets   Liabilities  
Cash $ 46,000 Accounts payable $ 53,000
Accounts receivable (net) 48,000 Mortgage payable   55,000
Marketable securities 57,500 Total liabilities 108,000
Inventory 85,000 Invested capital  
Goodwill (c) 40,500 Capital, Berrini (a) 137,000
Equipment 15,000 Capital, Fiedler (b) 68,500
Building 65,000 Capital, Wade (a)   68,500
Land 25,000 Total invested capital 274,000
 

 

Total Assets

 

 

$382,000

Total liabilities and invested capital  

 

$382,000

 

Supporting calculations:

 

(a)     Both Berrini and Wade contributed more than their fair share, whereas Fiedler contributed less, and will be credited with the goodwill. Berrini’s investment of $137,000 = 50% (total investment of $274,000 including goodwill. Berrini’s and Wade’s investment are in the proper ratio ($137,000 = 50% of $274,000, $68,500 = 25% of $274,000). Goodwill of $40,500 is attributed to Fiedler’s admission to bring capital balances into the correct relationship.

 

(b)     $68,500 = 25% (total investment of $274,000 including goodwill)

 

(c)

Fiedler’s capital account $68,500
Less Fiedler’s cash investment 28,000
Goodwill $40,500

 

 

P14.3                    Partners’ Disputes Over Income Allocations

 

The basic problem seems to be that the actual workload of the three partners differs from that originally contemplated. Although the existing provisions allow ample opportunity for a nice share of the income to flow to Hillie, the lower net income along with the partial implementation provision* shut her out in 2013 and almost shut her out in 2012. In contrast, Bill and Al continue to receive almost all of the partnership income despite the declining value of their efforts in the firm.

 

* Salaries to Bill and Al absorbed all of the 2013 income and Hillie’s share of the 2012

income amounted to only $26,800 [= .2 x $134,000 = $160,000 – ($80,000 + $50,000) –

.04($30,000 + $50,000)].

 

 

The proposed bonus provision ought to ameliorate Hillie’s discontent; in 2013 and 2012 she would have received $31,250 and $40,000, respectively, off the top. Al, however, would have seen his share reduced to $46,154 [= 5/13($125,000 – $31,250)] in 2013 and to $36,058 [= 5/13($160,000 – $40,000)] in 2012 . Note: When income is insufficient to cover both salaries, Bill and Al share proportionately. Al’s share of the total salary allocation is 5/13 [= $50,000/($80,000 + $50,000)].

 

Under the new bonus provision, Hillie’s 2014 bonus (B), based on income of $175,000, is $35,000 [B = .25($175,000 – B) = $43,750/1.25]. The comparative income allocation is therefore:

 

   

 

Bill

 

 

Al

 

 

Hillie

   

 

New

 

 

Old

 

 

New

 

 

Old

 

 

New

 

 

Old

 

 

Bonus

Salary

Interest**

Residual

Total

 

 

$80,000

400

     —       $80,400

 

 

$80,000

1,200

   3,000

$84,200

 

 

$50,000

667

     —      

$50,667

 

 

$50,000

2,000

   6,000

$58,000

 

 

$35,000

8,933

     —       $43,933

 

 

$26,800

   6,000

$32,800

 

** Under the new bonus provision, only $10,000 (= $175,000 – $35,000 – $80,000 – $50,000) of income remains to be allocated via interest on capital balances. The maximum amount to be allocated via interest is $30,000 [= (.04 x $30,000) + (.04 x $50,000) + (.2 x $134,000) = $1,200 + $2,000 + $26,800], Bill’s share of the $10,000 is therefore $400 [= $10,000 x ($1,200/$30,000)], Al’s is $667 [= $10,000 x ($2,000/$30,000)] and Hillie’s is $8,933 [= $10,000 ($26,800/$30,000)].

 

This approach leads to a shift in income away from Bill and Al and toward Hillie. Although the shifts shown in the above table may not seem very large, Hillie’s income share rises by 34% in 2014.

 

 

 

P14.4                    Income Allocations: Schedule of Changes in Capital Accounts

 

Capital balances at beginning of year

Added to Sills’ capital account during the years was the income share (interest + salary + bonus + share of residual). Withdrawn from Sills’ account was the income share plus $15,000. Thus, the net withdrawal from Sills’ account was $15,000. By using the end of year balance in the account, we can compute the beginning balance. The same logic applies to calculating Perez’s beginning capital account balance.

 

Sills:  
  End of year balance $   5,000
  Plus net withdrawal 15,000
Beginning balance $ 20,000
Perez:  
  End of year balance $ 80,000
  Less net addition (10,000)
Beginning balance $ 70,000
Lamke:  
  Total capital balance at beginning of year $120,000
  Less other partners’ balances ($20,000 + $70,000) (90,000)
  Beginning balance $ 30,000

 

b.

Silverstone Partnership

                                    Schedule of Changes in Capital Accounts

                                    For the Year Ended December 31, 2013

  Lamke Perez Sills
Capital balances, January 1 $30,000   $ 70,000 $20,000
Allocation of net income:      
  Interest (1) 1,500 3,500 1,000
  Salaries 15,000 20,000 10,000
  Bonus (2) 9,600
  Residual profit (3) 11,800 11,800 11,800
Balance after distributions 58,300 105,300 52,400
Withdrawals (4)    3,300    25,300 47,400
Ending Balance $55,000 $ 80,000 $ 5,000

 

(1)         Interest payments to partners

  Capital Balance Beginning of year  

 

Times 5%

 

 

Interest Paid

Lamke $30,000 x .05 $1,500
Perez   70,000 x .05    3,500
Sills   20,000 x .05   1,000
      $6,000

 

(2)     Bonus to Sills

 

Income before salaries and bonus $90,000
Plus interest    6,000
Income before salaries, bonus and interest 96,000
Times 10% x     .1
Bonus $ 9,600

 

(3)     Income after salaries, bonus, and interest

 

Income before salaries, bonus and interest   $96,000
Less interest   (6,000)
Less salaries:    
  Lamke $15,000  
  Perez 20,000  
  Sills 10,000 (45,000)
Less bonus to Sills   (9,600)
Income after salaries, bonus, and interest   $35,400

 

Each partner is allocated $35,400/3 = $11,800.

 

(4)     Drawings by partners

Lamke: (given) $ 3,300
Perez: Total distribution less $10,000 retained =

 

$3,500 + $20,000 + $11,800 – $10,000 =

 

 

25,300

Sills: Total distribution plus $15,000 =

 

$1,000 + $10,000 + $9,600 + $11,800 + $15,000 =

 

 

47,400

 

 

P14.5                    Financial Statement Effects of Partnership Expansion

 

The alternatives affect the amounts of assets and equities, not liabilities. Alternatives 2 and 3 look good because debt is a small part of the capital structure (and total assets) and cash and the quick ratio [= (cash + receivables)/accounts payable] are highest. This may be offset by the presence of additional other assets (probably goodwill) which produce greater depreciation and possible impairment charges that exceed the additional earnings generated.

 

The principal red flag involves the very large portion of total assets represented by other assets. What is the composition of other assets? To the extent that goodwill is included, as it undoubtedly is in alternatives 3 and 4, impairment losses can cause a drag on earnings without corresponding earning power. Remember, the partnership group is the same, with the same talents, whether or not goodwill is recorded.

 

 

In each alternative, Ingalls has the same 20% of total capital. Ingalls’ capital represents the greatest percentage of total assets in #3. Yet in #4, Ingalls acquires the 20% capital interest for $12,000 (rather than $40,000) cash. Either of these alternatives is probably preferred to the other two although we cannot determine how much cash was paid in the personal transaction #1.

 

                                         Dr. (Cr.)
 

 

 

Cash

Other assets

Capital – Graham

Capital – Hyde

Capital – Ingalls

         #1    

 

 

10,000

6,000

(16,000)

         #2      

 

 

40,000

(12,000)

(4,000)

(24,000)

         #3      

 

 

40,000

80,000

(60,000)

(20,000)

(40,000)

#4

 

 

12,000

8,000

(20,000)

 

#1: Personal transaction between Ingalls, Graham and Hyde.

#2: Bonus to old partners.

#3: Goodwill to old partners [$80,000 = $40,000/.2 – ($50,000 + $30,000 + $40,000)]

#4: Goodwill to new partner [$8,000 = ($50,000 + $30,000)/.8 – ($50,000 + $30,000 + $12,000)]

 

 

P14.6                    Investment Club: Admission and Income Allocation

 

Because the Club maintains its books on a cost basis, unrealized gains and losses are not reflected in the capital accounts of existing partners. However, the gains and losses that occurred prior to the admission of Grant and Lee are attributable to the old partners. In joining the Club, Grant and Lee must therefore invest an amount that is equivalent to the current value of a proportionate share of Club equity.

 

Grant and Lee must each invest $7,000, as shown below:

 

Current value of Club equity:
Cash $   3,200
Fair market value of securities 122,800
Total $126,000

 

Equity value per partner = $126,000/18 = $7,000.

 

 

Allocation of 2014 income to partners:

   

 

Total

 

 

Grant

 

 

Lee

18 Old Partners
Dividends $4,200 $210 $210 $3,780
Gain on Security A:        
Prior to January 1, 2014 3,600 0 0 3,600
After January 1, 2014 2,000 100 100 1,800
Loss on Security B:        
Prior to January 1, 2014 (1,800) 0 0 (1,800)
After January 1, 2014 (1,000) (50) (50) (900)
Total $7,000 $260 $260 $6,480

 

Gains and losses that occurred prior to January 1, 2014 are attributable to the 18 old partners. Gains and losses since January 1, 2014 are attributable to all 20 partners ($260 = .05 x ($4,200 + $2,000 – $1,000).

 

 

To answer this question, we calculate the capital accounts of the partners after the sale of the portfolio. Certain other calculations are required first.

 

  1. Cost of portfolio at time of sale:
Cost at December 31, 2014 $   78,300
Less cost of securities sold in 2014   (14,000)
Plus cost of securities bought in 2014    40,000
Cost of portfolio at time of sale $ 104,300

 

  1. Gain on sale of portfolio:
Selling price $ 228,000
Cost (per (1) above)   (104,300)
Gain $ 123,700

 

  1. Amount of unrealized gain prior to January 1, 2014:
Fair market value of portfolio at January 1, 2014 $122,800  
Less: January 1, 2014 FMV of securities sold in 2014 (15,800)  
Remaining FMV at December 31, 2014   $ 107,000
     
Cost of portfolio at January 1, 2014   78,300  
Less: Cost of securities sold in 2014 (14,000)  
Remaining cost at December 31, 2014     (64,300)
Remaining pre-January 1, 2014 gain   $   42,700

 

 

 

  1. Amount of gain accrued after January 1, 2014:
Total gain, per (2) above $123,700
Gain accrued prior to January 1, 2014, per (3)    (42,700)
Gain accrued after January 1, 2014 $ 81,000

 

  1. Total assets of Club at dissolution:
Cash:  
Balance at January 1, 2014 $   3,200
Invested by Grant and Lee 14,000
Invested during 2014 (20 x $500) 10,000
Proceeds from 2014 sale of securities 16,800
Received from 2014 dividends 4,200
Invested in new securities during 2014 (40,000)
Cash balance at December 31, 2014    8,200
Proceeds from 2015 sale of securities 228,000
Total assets at dissolution $236,200

 

Partners’ capital accounts at time of dissolution:

 

 

 

 

 

 

 

Total

 

 

 

Grant

 

 

 

Lee

 

 

18 Old Partners

 

 

Capital at January 1, 2014

 

 

$ 81,500

 

 

 

 

 

 

 

 

$ 81,500

 

 

Invested by Grant and Lee

 

 

14,000

 

 

$ 7,000

 

 

$ 7,000

 

 

0

 

 

Invested during 2014

 

 

10,000

 

 

500

 

 

500

 

 

9,000

 

 

2014 income allocation (see c.)

 

 

7,000

 

 

260

 

 

260

 

 

6,480

 

 

Capital at December 31, 2014

 

 

$112,500

 

 

$ 7,760

 

 

$ 7,760

 

 

$ 96,980

 

 

Allocation of remaining

pre-2014 gain

 

 

 

42,700

 

 

 

0

 

 

 

0

 

 

 

42,700

 

 

Allocation of

post-January 1, 2014 gain

 

 

 

81,000

 

 

 

4,050

 

 

 

4,050

 

 

 

72,900

 

 

Capital at time of dissolution

 

 

$236,200

 

 

$11,810

 

 

$11,810

 

 

$212,580

 

Thus, Grant and Lee each received $11,810 and the 18 old partners as a group received $212,580.

 

 

 

P14.7                    Admission – Various Cases

 

Case 1

  1. Since the goodwill account did not change, but total capital balances did change, the bonus method was used to account for Lansing’s admission.
  2. Lansing invested $50,000 in assets other than cash in the partnership. A bonus to the existing partners of $15,000 (to Simpson, $7,500 and to Scott, $7,500) accounted for the changes in Simpson’s and Scott’s capital balances.
  3. Lansing’s percentage of ownership is 29% (rounded). $35,000/($42,500 + $42,500 + $35,000) = .29

 

Case 2

  1. Neither the bonus nor goodwill method was used to account for the admission of Lansing.
  2. Lansing purchased Scott’s interest in the partnership. It is impossible to determine the amount that Lansing paid Scott. The transaction occurred between Lansing and Scott as individuals. The only effect on partnership books is to transfer the capital account from Scott to Lansing.
  3. Lansing’s percentage of ownership is 50% = $35,000/($35,000 + $35,000)

 

Case 3

  1. Since the goodwill account did not change, but total capital balances did change, the bonus method was used to account for Lansing’s admission.
  2. Lansing invested $10,000 cash in the partnership. A bonus to the new partner of $10,000 (from Simpson, $5,000 and from Scott, $5,000) accounted for Lansing’s total capital balance of $20,000.
  3. Lansing’s percentage of ownership is 25%. $20,000/($30,000 + $30,000 + $20,000) = .25

 

Case 4

  1. Since the goodwill account changed, the goodwill method was used to account for Lansing’s admission.
  2. Lansing invested tangible net assets of $40,000 (assets of $90,000 and liabilities of $50,000). Also, $20,000 of goodwill to the new partner accounts for Lansing’s capital balance of $60,000.
  3. Lansing’s percentage of ownership is 46% (rounded). $60,000/(35,000 + 35,000 + 60,000) = .46.

 

Case 5

  1. Since the goodwill account changed, the goodwill method was used to account for Lansing’s admission.
  2. Lansing invested $20,000 in the partnership. Also goodwill to existing partners of $10,000 (to Simpson, $5,000 and to Scott, $5,000) was recognized.
  3. Lansing’s percentage of ownership is 20%. $20,000/($40,000 + $40,000 + $20,000) = .20.

 

 

 

P14.8              Retirement of Two Partners

 

a.

Capital ‑ Dewitt   50,000  
Capital ‑ Galax   40,000  
Capital ‑ Farber   7,500  
Capital ‑ Wayne   7,500  
Capital ‑ Lane   7,500  
  Cash and other assets   112,500

To record retirement of Dewitt and Galax under the bonus method.

 

Total paid                                                                               $112,500

Total capital of retirees                                           90,000

Total bonus                                                               22,500

Divided among partners                                          /         3

Portion met by each remaining partner            $   7,500

 

b.

Goodwill   22,500  
  Capital ‑ Dewitt   12,500
  Capital ‑ Galax   10,000

To record goodwill prior to retirement of Dewitt and Galax.

 

  Dewitt Galax
Payment $62,500 $50,000
Capital balance 50,000 40,000
Goodwill attributable to retiree $12,500 $10,000

 

Capital ‑ Dewitt   62,500  
Capital ‑ Galax   50,000  
  Cash and Other Assets   112,500

To record retirement of Dewitt and Galax under the goodwill method.

 

c.

Under the bonus method of accounting for retirement, Wayne’s capital balance is reduced to zero. This is likely his objection to the procedure.

 

In either case, the firm does not have sufficient cash to pay the retirees. Certainly some cash is also needed for operating expenses so that depleting the cash account would be unwise. A simple solution would be to pay retirees in installments over a period of several years.

 

 

 

P14.9              Retirement – Various Cases

 

Case 1

 

  1. Since the goodwill account did not change, but total capital balances did change, the bonus method was used to account for Goldsmith’s retirement.
  2. Goldsmith was paid $30,000 upon retirement. A bonus to the remaining partners of $10,000 ($5,000 each) was recorded.

 

Case 2

 

  1. The goodwill method (partial goodwill approach) was used to account for Goldsmith’s retirement.
  2. Goldsmith was paid $50,000 upon retirement. Goodwill of $10,000 was recognized before retirement and attributed only to Goldsmith.

 

Case 3

 

  1. Neither the bonus nor goodwill method was used to account for Goldsmith’s retirement.
  2. Flint purchased Goldsmith’s interest in the partnership. It is impossible to tell what Flint paid Goldsmith. The transaction occurred between Flint and Goldsmith as individuals. The only effect on partnership books is to transfer the capital account from Goldsmith to Flint.

 

Case 4

 

  1. Neither the bonus nor goodwill method was used to account for Goldsmith’s retirement. (The problem states that no bonus was recorded in this case.)
  2. Goldsmith received assets with fair market value of $45,000. Assets were written up to $145,000 with the partners sharing the gain equally. Then $45,000 of assets were distributed to Goldsmith.

 

Case 5

 

  1. The goodwill method (total goodwill approach) was used to account for Goldsmith’s retirement.
  2. Goldsmith was paid $50,000 upon retirement. Goodwill of $30,000 was recognized before retirement and assigned equally to each partner.

 

 

 

P14.10                                               Financial Statement Effects of Retirement/Admission

 

Goodwill currently accounts for about 39% (= 800/2,068) of the firm’s total assets and represents 79% [= 800/(270 + 195 + 547)] of the partners’ capital. In fact, if goodwill is subtracted to get “tangible net worth,” total liabilities/total assets exceeds .83 [= (47 + 209 + 600 + 200)/(2,068 – 800)]. Any additional goodwill under the goodwill method of retirement will increase goodwill’s significance as a part of total assets. Because goodwill is considered a soft, perhaps worthless asset, additional goodwill tends to devalue the balance sheet.

 

Under the bonus method of retirement, $80,000 in capital will be transferred from the other partners to Mills before Mills’ capital account is eliminated. Existing goodwill remains unchanged. The net effect is to reduce partners’ capital by $80,000 and accentuate the presence of debt in the firm’s capital structure.

 

If you include in the calculation the additional $350,000 debt incurred to pay Mills and exclude the goodwill, total liabilities/total assets approaches 1.11 [= (47 + 209 + 600 + 200 + 350)/(2,068 – 800)] under both methods!

 

b.

Because the $350,000 exceeds Mills’ capital balance of $270,000, partial goodwill is $80,000 and total goodwill is $400,000 (= 80,000/.2). The following entries record the goodwill and Mills’ retirement.

 

Goodwill   400,000  
  Capital – Mills   80,000
  Capital – Sinclair   80,000
  Capital – Other Partners   240,000

To record goodwill of $400,000, assigning it to the partners

in accordance with their income-sharing percentages.

 

Cash   350,000  
  Notes Payable–1st National Bank   350,000

 

Capital–Mills   350,000  
  Cash   350,000

 

At this point, total capital amounts to $1,062,000 (= 195,000 + 80,000 + 547,000 + 240,000); it will be $1,112,000 after Luh’s $50,000 investment. Thus Luh invests $50,000 for a 10% interest in $1,112,000, or $111,200. Under the bonus method of admission, Luh’s bonus is $61,200 (= 111,200 – 50,000), charged $15,300 (25%–the income-sharing ratio of Sinclair and the other partners remains 1:3) to Sinclair and $45,900 (75%) to the other partners.

 

Under the goodwill method of admission, we have goodwill to the new partner (50,000 < 111,200) of $68,000 [= (1,062,000/.9) – (1,062,000 + 50,000)]. The pro-forma balance sheets appear next.

Moore, Mills, Sinclair & Co.

                                                 Pro-forma Balance Sheets

                                After Mills’ Retirement and Luh’s Admission

     Bonus

 

   Method

Goodwill

 

   Method

Cash and cash equivalents $   228,000 $ 228,000
Accounts receivable–clients    430,000    430,000
Notes receivable–Sinclair    100,000    100,000
Prepayments      60,000     60,000
Fixed assets, net    500,000    500,000
Goodwill, net 1,200,000(1) 1,268,000(4)
  $2,518,000 $2,586,000
     
Trade payables $     47,000 $     47,000
Accrued liabilities    209,000      209,000
Notes payable – 1st National Bank    950,000      950,000
Notes payable – Moore    200,000      200,000
Capital – Luh    111,200      118,000
Capital – Sinclair    259,700(2)     75,000(5)
Capital – other partners    741,100(3)   87,000(6)
  $2,518,000 $2,586,000

 

(1) 1,200,000 = 800,000 + 400,000 recognized upon retirement

(2) 259,700 = 195,000 + 80,000 – 15,300

(3) 741,100 = 547,000 + 240,000 – 45,900

(4) 1,268,000 = 800,000 + 400,000 + 68,000 (= 118,000 – 50,000) from Luh’s admission

(5) 275,000 = 195,000 + 80,000

(6) 787,000 = 547,000 + 240,000

 

The resulting pro-forma balance sheets are not very different. Total assets and total capital are larger by the additional $68,000 of goodwill arising when Luh is admitted by the goodwill method. Using the comparisons made in Requirement 1, we see that:

 

  Bonus Method Goodwill Method
Goodwill/Total Assets .477 .490
Total Liabilities/Total Assets .558 .544

 

Thus the two pro-forma balance sheets have about the same degree of healthiness (or sickliness). Leverage is slightly worse under the bonus method whereas the soft goodwill is slightly more significant component of total assets under the goodwill method.

 

 

 

P14.11                                               Partnership Admission and Liquidation

 

The amount, in present value terms, to be received by each partner is as follows:

 

Reitmyer ($200,000 + .4 x ($1,200,000 – $700,000)) $400,000
Simon ($150,000 + .4 x ($1,200,000 – $700,000)) 350,000
Trybus ($70,000 + .2 x ($1,200,000 – $700,000))   170,000
Total $920,000

 

In this situation, the properties are sold for $1,200,000. After paying the $300,000 of liabilities, there is $920,000 (= $900,000 from sale transaction plus $20,000 existing cash) to be divided by the partners, in a 4:4:2 ratio. These transactions occur immediately, and no present value calculations are required.

 

The amount, in present value terms, to be received by each partner is as follows:

 

Reitmyer $266,170
Simon 266,170
Trybus   256,170
Total $788,510

 

In this situation, $50,000 is received immediately and divided among the partners in a 4:4:2 ratio. The annual salary of $40,000 is received by each partner for ten years; this has a present value of $245,784 (= $40,000 x present value of annuity factor, 10 years, 10% = $40,000 x 6.1446). A final payment of $1,000 is made to each partner at the end of year 10, which has a present value of $386 (= $1,000 x present value factor, 10 years, 10% = $1,000 x .3855). Thus the present values of the amounts received by each partner are:

 

  Reitmyer Simon Trybus
Initial payment $ 20,000 $   20,000 $   10,000
Present value of ten years’ salary 245,784 245,784 245,784
Present value of final payment          386        386        386
Total $266,170 $ 266,170 $256,170

 

Because all partners receive the same salary, note that Trybus fares better under this arrangement than under the immediate sale, while the other two partners receive less.

 

 

The amount, in present value terms, to be received by each partner is as follows:

 

Reitmyer $239,680
Simon 239,680
Trybus   154,550
Total $633,910

 

In this situation, $50,000 is received immediately and divided among the partners in a 4:4:2 ratio. The annual salary of $40,000 is received by each partner for two years; this has a present value of $69,420 (= $40,000 x present value of annuity factor, 2 years, 10% = $40,000 x 1.7355). The properties are sold for $950,000 at the end of the fourth year. After paying the $400,000 of liabilities, there is $550,000 to be divided by the partners. The present value of the net proceeds is $375,650 (= $550,000 x present value factor, 4 years, 10% = $550,000 x .6830).

 

Thus the present values of the amounts received by each partner are:

 

  Reitmyer Simon Trybus
Initial payment $ 20,000 $   20,000 $ 10,000
Present value of two years’ salary 69,420 69,420 69,420
Present value of sale proceeds   150,260    150,260      75,130
Total $239,680 $ 239,680 $154,550

 

The amount, in present value terms, to be received by each partner is as follows:

 

Reitmyer $266,166
Simon 266,166
Trybus   256,166
Total $788,498

 

In this situation, $50,000 is received immediately and divided among the partners in a 4:4:2 ratio. The annual salary of $40,000 is received by each partner for five years; this has a present value of $151,632 (= $40,000 x present value of annuity factor, 5 years, 10% = $40,000 x 3.7908). The remaining five year’s of salary are then prepaid, at the end of year 5. The discounted value of these payments is $151,632 per partner (= $40,000 x present value of annuity factor, 5 years, 10% = $40,000 x 3.7908), and the present value is $94,148 (= $151,632 x present value factor, 5 years, 10% = $151,632 x .6209). The final payment of $1,000 is also prepaid to each partner at the end of year 5, which has a present value of $386 (= $1,000 x present value factor, 5 years, 10% = $1,000 x .6209 = $621; this amount discounted to the present is $386 = $621 x present value factor, 5 years, 10% = $621 x .6209).

 

Thus the present values of the amounts received by each partner are:

  Reitmyer Simon Trybus
Initial payment $ 20,000 $   20,000 $   10,000
Present value of five years’ salary 151,632 151,632 151,632
Prepayment of five years’ salary 94,148 94,148 94,148
Prepayment of final payment          386          386          386
Total $266,166 $ 266,166 $256,166

 

Note that, except for a small rounding error in the discount factors, this outcome is identical to requirement b. The acceleration of the payments makes no difference in present value terms.

 

e.

The amount, in present value terms, to be received by each partner is as follows:

 

Reitmyer $   444,828
Simon 444,828
Trybus      298,230
Total $1,187,886

 

In this situation, $50,000 is received immediately and divided among the partners in a 4:4:2 ratio. The annual salary of $40,000 is received by each partner for five years; this has a present value of $151,632 (= $40,000 x present value of annuity factor, 5 years, 10% = $40,000 x 3.7908). The election of the buyout requires the partners to pay the Ushers $250,000 (= $50,000 x 5). The present value of this payment is $155,225 (= $250,000 x present value factor, 5 years, 10% = $250,000 x .6209). This payment would be divided among the partners in a 4:4:2 ratio. The properties are sold for $2,000,000 at the end of the fifth year. After paying the $650,000 of liabilities, there is $1,350,000 to be divided by the partners. The present value of the net proceeds is $838,215 (= $1,350,000 x present value factor, 5 years, 10% = $1,350,000 x .6209). Thus the present values of the amounts received by each partner are:

 

  Reitmyer Simon Trybus
Initial payment $ 20,000 $   20,000 $   10,000
Present value of five years’ salary 151,632 151,632 151,632
Buyout payment made to Ushers* (62,090) (62,090) (31,045)
Present value of sale proceeds 335,286 335,286 167,643
Total $444,828 $ 444,828 $298,230

 

* Total is $155,225.

 

 

 

P14.12                                               Partnership Liquidation – Safe Payments

 

November

Cash on hand $30,000
Cash from sale    8,000
  $38,000

 

Since $40,000 is owed to creditors (to be paid in December) no cash can be distributed to partners.

 

December

Cash at beginning of month $38,000
Cash from sale (= (.85 x $14,000) + $3,100) 15,000
Payments to outside creditors        (40,000)
Cash available for distribution $13,000

 

Assuming a total loss on all remaining assets, there will be a loss of $26,000 on sale of equipment. Since no relationship was specified in the agreement, partners share the loss equally. Ogleby’s loan account is added to her capital balance.

 

  Able Bowen Cratz Ogleby
Capital balance, Nov. 2 $16,000 $ 7,000 $   3,000 $28,000
Loss realized in November* (2,125) (2,125) (2,125) (2,125)
Loss realized in December** (1,625) (1,625) (1,625) (1,625)
  12,250   3,250    (750) 24,250
Assumed loss on remaining assets  

 

(6,500)

 

 

(6,500)

 

 

(6,500)

 

 

(6,500)

    5,750 (3,250) (7,250) 17,750
Allocate deficiencies   (5,250)   3,250   7,250 (5,250)
  $     500 $         0 $         0 $12,500

 

Distribute $500 to Able and $12,500 to Ogleby.

 

*    Loss of $3,500 (= $4,000 – $7,500) on fixtures and loss of $5,000 (= $4,000 – $9,000) on equipment, total loss for November $8,500.

** Loss of $2,100 (= $11,900 – $14,000) on supplies and $4,400 (= $3,100 – $7,500) on fixtures, total loss for December $6,500

 

 

January

Cash available for distribution = $4,500.

 

  Able Bowen Cratz Ogleby
Capital balance before December distribution  

 

$12,250

 

 

$ 3,250

 

 

$ (750)

 

 

$24,250

December cash distribution    (500) _____           ____           (12,500)
  11,750   3,250   (750) 11,750
Loss realized in January***    (375)    (375)    (375)    (375)
  11,375   2,875 (1,125) 11,375
Assumed loss on remaining assets  

 

(5,000)

 

 

(5,000)

 

 

(5,000)

 

 

(5,000)

    6,375 (2,125) (6,125)   6,375
Allocate deficiencies (4,125)   2,125   6,125 (4,125)
  $ 2,250 $         0 $         0 $ 2,250

 

Distribute $2,250 to Able and $2,250 to Ogleby.

 

*** Loss of $1,500 (= $4,500 – $6,000) on equipment in January.

 

 

P14.13                                Partnership Liquidation – Safe Payments

 

                   Dodge

 

(40%)

Edsel

 

(25%)

Ford

 

(20%)

Harley

 

(15%)

 

 

Total

 
Capital $   71,000 $ 42,000 $ 53,000 $     9,000 $175,000  
Partners’ loans 80,000 (25,000)      -0-        -0-     55,000  
  Combined capital   151,000   17,000 53,000    9,000 230,000  
January transactions:            
  Loss– inventory return (600) (375) (300) (225) (1,500)  
  Loss – inventory sale (6,000) (3,750) (3,000) (2,250) (15,000)  
  Loss – equipment sale (12,800) (8,000) (6,400) (4,800) (32,000)  
  Liquidation expenses   (2,200) (1,375) (1,100)    (825)    (5,500)  
   January 31 capital 129,400    3,500   42,200        900 176,000  
Less:            
  Reserved cash (8,000) (5,000) (4,000) (3,000) (20,000)  
  Potential loss –

 

accounts receivable

 

 

(16,800)

 

 

(10,500)

 

 

(8,400)

 

 

(6,300)

 

 

(42,000)

 
  Potential loss on land (12,000) (7,500) (6,000) (4,500) (30,000)  
  Potential loss on truck (14,800) (9,250) (7,400) (5,550)   (37,000)  
     77,800 (28,750)   16,400 (18,450) 47,000  
Allocation of Edsel’s and Harley’s   deficiencies  

 

(31,467)

 

 

28,750

 

 

(15,733)

 

 

18,450

 

 

       -0-    

 
January 31 safe payment $   46,333 $       -0-   $       667 $       -0-     $ 47,000  
             
  Dodge

 

(40%)

Edsel

 

(25%)

Ford

 

(20%)

Harley

 

(15%)

 

 

Total

January 31 Capital $   129,400 $   3,500 $ 42,200 $       900 $ 176,000
Less: payment to partners (46,333) -0-      (667)    -0- (47,000)
February transactions:          
  Loss on truck (2,800) (1,750) (1,400) (1,050) (7,000)
  Transfer of truck (30,000) -0- -0- -0- (30,000)
  Accounts written off (10,800) (6,750) (5,400) (4,050) (27,000)
  Liquidation expenses    (1,200)    (750)    (600)    (450)    (3,000)
   February 28 capital    38,267 (5,750) 34,133    (4,650)    62,000
Less:          
  Reserved cash (4,000) (2,500) (2,000) (1,500) (10,000)
  Potential loss on land (12,000) (7,500) (6,000) (4,500) (30,000)
     22,267 (15,750) 26,133 (10,650)   22,000
Allocation of Edsel’s and Harley’s deficiencies  

 

(17,600)

 

 

15,750

 

 

(8,800)

 

 

10,650

 

 

       -0-    

February 28 safe payment $     4,667 $       -0-   $ 17,333 $       -0-     $ 22,000
           
February 28 capital $   38,267 $ (5,750) $ 34,133 $   (4,650) $ 62,000
Less: payment to partners (4,667) -0- (17,333) -0- (22,000)
March transactions:          
  Gain on land sale 38,000 23,750 19,000 14,250 95,000
  Liquidation expenses (3,200) (2,000) (1,600) (1,200) (8,000)
March 31 capital and safe payment  

 

$     68,400

 

 

$ 16,000

 

 

$ 34,200

 

 

$     8,400

 

 

$127,000

 

 

 

P14.14     Close Books and Prepare Cash Distribution Plan

 

a.

  Capital Accounts                          
  A (.2) B (.3) C (.5) Total
Preclosing balances per books $80,000 $51,000 $30,000 $161,000
Deduct drawings (30,000) (15,000) (10,000) (55,000)
Income allocation:        
     Salaries 20,000 30,000 50,000
     Residual    4,000    6,000   10,000    20,000
Postclosing balances $74,000 $72,000 $30,000 $176,000

 

Postclosing balances $ 74,000 $ 72,000 $ 30,000 $176,000
Add loan payable to C       –          –     20,000   20,000
Preliquidation balances 74,000   72,000   50,000 $196,000
Divide by

 

income-sharing %

 

 

.2

 

 

.3

 

 

.5

 
Standardized capital 370,000 240,000 100,000  
Equalize A and B (130,000)          –              –      
  240,000 240,000 100,000  
Equalize A, B and C (140,000) (140,000)          –      
  $100,000 $100,000 $100,000  
Convert equalization adjustments  

 

26,000

 

 

 

 

 

 

26,000

Convert equalization adjustments  

 

28,000

 

 

42,000

 

 

 

 

70,000

 

Cash Distribution Plan

First $69,000 to creditors

Next $26,000 to A

Next $70,000 to A and B in 2:3 ratio

Any further amount A, B and C in 2:3:5 ratio

 

Because cash of $55,000 is already available, only $14,000 must be realized from the other assets to liquidate the liabilities. If $14,000 is realized, the loss on the other assets is $196,000 (= 210,000 – 14,000). As expected, this loss equals the total preliquidation capital of $196,000. When allocated to the partners in their 2:3:5 income-sharing ratio, and assuming no additional investments are made, each capital account will be driven to zero.

 

 

 

P14.15                                Analysis of Liquidation Scenario

 

There appears to be inadequate control over cash receipts. An opportunity to steal cash exists when a single individual is responsible for collecting the coins and depositing them. (Note: An actual case arose in Northeastern Pennsylvania when a police officer who emptied parking meters unsupervised was accused of stealing the proceeds). This opportunity, coupled with Green’s worsening personal financial situation, may have presented a temptation that Green found difficult to resist. If so, this may explain the observed decrease in operating cash flow.

 

With 24 monthly payments of $500 each remaining, the present value at .0075 per month (equivalent to 9% annually) is $10,945 (= 21.8891 x $500). Thus the partners are better off by paying the $10,000 to cancel the lease.

 

To use the cash distribution plan methodology, we must first close the books and allocate the income. Net income of $6,000 (= $25,000 – $13,000 – $6,000) is allocated $3,600 (60%) to Green and $2,400 (40%) to Blue. Thus the capital position of the partners prior to liquidation is:

 

  Green Blue Total
Capital accounts per trial balance $ 5,000 $ 4,850 $ 9,850
Income allocation 3,600 2,400 6,000
Addition of loan payable to Blue        0     11,000 11,000
    $ 8,600 $18,250 $26,850
To standardize, divide by income % .60 .40  
Standardized capital balance 14,333 45,625  
Equalize Green and Blue        0   (31,292)  
  $14,333 $14,333  
Convert equalization adjustment ($31,292 x .4)   $12,517  

 

Therefore, the cash distribution plan is:

 

First $11,350 to creditors (includes $10,000 lease buyout).

Next $12,517 to Blue.

Any further amount to Green and Blue in a 3:2 ratio.

 

Green might be better off staying with it (and, if stealing, stop to eliminate any suspicions Blue may have) because sale of the equipment, supplies and prepayments (total net book value $25,500) must realize $21,567 (= $11,350 + $12,517 – $2,300) before Green will receive will receive anything.