Monthly Archives: September 2013

Consolidation Methods II, Full Consolidation – CIIA Exam

ACO holds 60% of the share capital of BCO since BCO was created. 
On 31.12.X the financial statements of the two co's appear
as follows:
Assets ACO BCO - ACO BCO
Fixed Assets 4000 500 Capital 2000 800
Invest. in BCO 480 - Retained Es 2500 650
Loan to BCO 200 - Equity 4500 1450
Inventories 1500 800 - - -
Trade Debtors 1820 700 Loans 2000 300
- - - Trade Creditors 1500 250
- 8000 2000 - 8000 2000
-
Statement of comp. income (SCI)
Expenses ACO BCO Income ACO BCO
Op Exp. 8500 3000 Revenues 10000 3800
Other Exp. 2000 850 Other Income 1000 200
Net income 500 150 - - -
- 11000 4000 - 11000 4000
Task: fill in the ACO consolidated financial statements using the
full consolidation method
Assets ACO - ACO
Fixed Assets ..... Capital .....
Invest. in ass. ..... Retained Es .....
Loan to BCO ..... ACO's share in cons eq. .....
Inventories ..... Minority Int. .....
Trade Debtors ..... Cons. eq .....
- - Trade creditors .....
- ..... - .....
-
Statement of comprehensive income (SCI)
Expenses ACO Income ACO
Op Exp. ..... Revenues 10000
Other Exp. ..... Other Income 1000
Cons. Net income ..... - -
of which: ACO's share ..... - -
- ..... - .....
Assets ACO - ACO
Fixed Assets 4500 Capital 2000
Invest. in ass. - Retained Es 2890
Loan to BCO - ACO's share in cons eq. 4890
Inventories 2300 Minority Int. 580
Trade Debtors 2520 Cons. eq 5470
- - Loans 2100
- - Trade creditors 1750
- 9320 - 9320
-
Statement of comprehensive income (SCI)
Expenses ACO Income
ACO Op Exp. 11500 Revenues 13800
Other Exp. 2850 Other Income 1200
Cons. Net income 650 - -
of which: ACO's share 590 - -
minority interests 60 - -
- 15000 - 15000
Tricky parts of the balance sheet: a.) not adding the capital of BCO to ACO stays 2000 b.) calculating retained earnings 2500 + 60% of 650 = 2890 c.) the investment in BCO is left out d.) the loan to BCO is deducted from the loans 2300-200 = 2100 Tricky part of the statement of comprehensive income a.) calculating the 60% of the net income of BCO (90) and adding it to the ACO income (500)

Consolidation Methods – CIIA Final

Overview of the consolidation methods.

With the first two methods, full and proportionate consolidation, assets and liabilities (A+Ls) are included in the consolidated group balance sheet (either 100%=full or x%=proportion owned). With the equity method you only add the x% owned equity of subsidiary, no A+L are added to group balance sheet. The one thing common to all three: shareholders equity is always including the x% equity of subsidiary. In other words you always add the equity proportion owned to the group balance sheet.

Method Details
Full consolidation -
- replace book value with the whole A+L of subsidiary
- separetly disclose the share not owned by the group
- share not owned = minority interests
Proportionate conso -
- replace book value of interest in co by corresponding
- proportion of each amount of the A+L of subsidiaries
Equity method -
- replace the book value of parent co by the
- relevant proportion of the subsidiaries' net assets
- other items in parent co's BS remain unch
- not strictly speaking a method of consolidation

Absorption (a) and Quasi-Merger (b) Acquisition (c and d) Calculation IV – CIIA Final

Companies ACO and BCO are set to merge. ACO will buy BCO by exchanging 10 own shares for 1 BCO share. Balance sheets:

Description ACO BCO
Current Assets 120 60
Other Assets 380 140
TOTAL ASSETS 500 200
Liabilities 300 110
Common Stock 160 80
Retained Earnings 40 10
- Notes -
# shares 8000 400
par value 20 200
Exchange ratio: 10 ACO shares for 1 BCO share
a) Show the balance sheet of ACO after absorption
Current Assets 180
Other Assets 520
TOTAL ASSETS 700
Liabilities 410
TOTAL LIABILITIES 410
Common Stock 240
Retained earnings 40
Additional paid-in capital 10
EQUITY 290
b) Show the balance sheet of ACO after quasi-merger
Current Assets 120
Other Assets 380
Holding in BCO 90
TOTAL ASSETS 590
Liabilities 300
TOTAL LIABILITIES 300
Common Stock 240
Retained earnings 40
Additional paid-in capital 10
EQUITY 290
Note: The liabilities of BCO can't be seen in this case!
c) Show the balance sheet of ACO after acquisition
Current Assets 10
Other Assets 380
Holding in BCO 110
TOTAL ASSETS 500
Liabilities 300
TOTAL LIABILITIES 300
Common Stock 160
Retained earnings 40
EQUITY 200
d) Show the balance sheet of GROUP (!) ACO after acquisition
Current Assets 10
Other Assets 380
Holding in BCO 90
Goodwill 20
TOTAL ASSETS 500
Liabilities 410
TOTAL LIABILITIES 410
Common Stock 160
Retained earnings 40
EQUITY 200
 

Goodwill Calculation III – Equity Accounting – CIIA Final

Situation:

Co Jaguar Ltd purchases 40% of voting rights and capital of Co Coati Ltd for 700 as of Jan 1st 2012. The Equity of Co Coati Ltd at that time 1650. In 2012 Co Coati Ltd made a profit of 130 (of which 40 are paid out as dividend the following year), in 2013 a loss of 50 results. No dividends were paid in 2012.

a. calculate the goodwill as of the purchase date.

Situation % Capital
Equity as of Jan1st 100 1650
Fair value of 40% 40 660
Paid price for 40% 40 700
Calculated value of 100% 100 1750
Calculation of goodwill
Difference (paid price) 700 - (fair value price) 660 40

Mergers: Goodwill Calculation II – Purchase Method – CIIA Final

The following example deals with a MERGER example. The two main methods for accounting for mergers are the pooling of interests method (which is no longer allowed under IFRS) and the purchase method. This example deals with the purchase method!

Co A Ltd and Co B Ltd were merged on January 1st, 2013. Co A Ltd acquired Co B Ltd with an exchange of common voting shares. The no. of Co A Ltd shares issued for the merger was 700. The market price of Co A Ltd common share at the merger date was CHF 10, with a par value of CHF 1.

a. Calculate the cost of acquisition of Co B Ltd

# shares Mkt price/share Multiplication
700 10 7000

The balance sheets at the merger date, as well as the fair value of assets and liabilities of Co B Ltd

Description A Historical cost B Historical cost B Fair Value
Current Assets 3000 2100 2600
Buildings - 1000 1500
Plants 5000 800 1200
TOTAL ASSETS 8000 3900 5300
Payables 800 400 400
Long term debt 1200 1000 1000
TOTAL LIABILITIES 2000 1400 1400
Share capital 3000 1500 -
Retained earnings 3000 1000 -
EQUITY 6000 2500 3900
Notes:
Trademarks - - 1500
Patents - - 1200

In addition the following fair value was estimated for Co B Ltd’s trademarks (1500) and patents (1200).

b. Calculate the difference between the acquistion price and the equity of Co B Ltd breaking down this difference into its components (goodwill, hidden appreciation of identifiable assets and debts)

Description Cost
Purchase price paid by Co A Ltd 7000
Equity of Co B Ltd 2500
Difference 4500
Hidden appreciation
Description Fair value Book Value Difference
Current assets 2600 2100
Buildings 1500 1000
Plants 1200 800
Trademark 1500 0
Patent 1200 0
TOTAL ASSETS FAIR VALUE 8000 3900 4100
Payables 400 400
Long term debt 1000 1000
TOTAL LIABILITIES FAIR VALUE 1400 1400 0
NET IDENTIFIABLE ASSETS 6600 2500 4100
Calculating Goodwill after hidden appreciation of assets
Description Cost
Difference purchase price vs fair value 4500
Hidden appreciation of identfiable assets 4100
Difference = Goodwill 400

c. Prepare the balance sheet of the combined entity according to the purchase method.

Description A Historical cost B Fair Value Combined Entity
Current Assets 3000 2600 5600
Buildings - 1500 1500
Plants 5000 1200 6200
Goodwill - - 400
Other intangible assets - 2700 2700
TOTAL ASSETS 8000 8000 16400
Payables 800 400 1200
Long term debt 1200 1000 2200
TOTAL LIABILITIES 2000 1400 3400
Share capital 3000 - 3700
Additional paid-in capital - - 6300
Retained earnings 3000 - 3000
EQUITY 6000 - 13000
Additional paid in capital = 7000 - 700*1 (par value of shares) = 6300

Goodwill Calculation I – CIIA Final

Question: Calculate the Goodwill if the acquisition price was 36.3
Description Book Value Fair Value Sum
Current Assets 13.2 15.1 -
Property Plant Equipement 22.6 29.3 -
Other Assets 2.18 4.5 -
Current Liabilities 7.1 6.5 -
Long-Term Liabilities 10.2 10.9 -
Step 1: Sum the assets and liabilities (only Fair Value necessary)
Description Book Value Fair Value Sum
Current Assets 13.2 15.1 -
Property Plant Equipement 22.6 29.3 -
Other Assets 2.18 4.5 -
TOTAL ASSETS - 48.9 -
Current Liabilities 7.1 6.5 -
Long-Term Liabilities 10.2 10.9 -
TOTAL LIABILITIES - 17.4 -
Step 2: Calculate difference assets and liabilities
Description Amount
TOTAL ASSETS 48.9
TOTAL LIABILITIES 17.4
DIFFERENCE (=EQUITY) 31.5
Step 3: Calculate difference to purchase price (36.3) = Goodwill
Description Amount
PURCHASE PRICE 36.3
CALCULATED DIFFERENCE (A-L) 31.5
PURCHASE PRICE - EQUITY (Step 2) = GOODWILL 4.8
 

Portfolio Management – Concave (Constant-Mix) & Convex Strategies (Contant Proportion Portfolio Insurance)

When looking for examples of which portfolio strategies have a convex and which a concave payoff I came across the two charts below in a stanford.edu paper that was written in the Financial Analyst Journal 1995!

Figure 8 shows nicely that the Constant-Mix strategy produces a concave payoff diagramm whereas figure 10 shows how the Constant-Proportion Portfolio Insurance (CPPI) strategy produces a convex payoff diagramm.

Background: One of the CIIA Exam questions in 2006 had been,

Which of the following strategy has a concave payoff? (4 points)

The constant-mix strategy.
The static portfolio insurance strategy.
The constant proportion portfolio insurance strategy (CPPI).
The buy and hold strategy.

CPPI has a convex payoff, the buy and hold strategy aswell as the static portfolio insurance strategy have a linear payoff diagramm. So the correct answer is a.)

Convex strategies don’t work well in volatile markets. You sell stocks as they fall and buy stocks as they rise. In a trending market however they do very well as you’re buying the winners or selling the losers. The Constant Proportion Portfolio Insurance is good for trend followers.

Concave strategies don’t work well in trending markets as a result. You’re selling as stocks keep rising, and buying as the knife falls. However in volatile markets with lots of girations but not a big move in either direction, the strategy Constant-Mix will do well.

Portfolio-Management-Concave

Portfolio-Management-Convex