CHAPTER 1 UNDERSTANDING THE ISSUES 1. (a) Product extension—manufacturer expands product lines in boating industry. (b) Vertical forward—manufacturer buys distribution outlets (c) Conglomerate—unrelated businesses (d) Vertical backward—manufacturer acquires a supplier (e) Vertical forward—an entertainment company acquires outlets for its products (f) Market extension—companies providing the same services expand their geographic market 2. By accepting cash in exchange for the net assets of the company, the seller would have to recognize an immediate taxable gain. However, if the seller were to accept common stock of another corporation instead, the seller could construct the transaction as a tax-free reorganization. The seller could then account for the transaction as a tax-free exchange. The seller would not pay taxes until the shares received were sold. 3. Identifiable assets (fair value) .. $600,000 Deferred tax liability ($200,000 × 40%) .................. (80,000) Net assets ................................ $520,000 Goodwill Price paid ................................. $850,000 Net assets ................................ (520,000) Goodwill ................................... $330,000 4. (a) The net assets and goodwill will be recorded at their full fair value on the books of the parent on the date of acquisition. (b) An investment account is recorded at the price paid for the interest. 5. Puncho will record the net assets at their fair value of $800,000 on its books. Also, Puncho will record goodwill of $100,000 ($900,000 – $800,000) resulting from the excess of the price paid over the fair value. Semos will record the removal of its net assets at their book values. Semos will record a gain on the sale of business of $500,000 ($900,000 – $400,000). 6. (a) Value Analysis: Price paid ............................... $800,000 Fair value of net assets .......... 520,000 Goodwill .................................. $280,000 Current assets (fair value) ...... $120,000 Land (fair value) ..................... 80,000 Building and equipment (fair value) ............................ 400,000 Customer list (fair value) ........ 20,000 Liabilities (fair value) .............. (100,000) Goodwill .................................. 280,000 Total ....................................... $800,000 (b) Value Analysis: Price paid ............................... $450,000 Fair value of net assets .......... 520,000 Gain ........................................ $ (70,000) Current assets (fair value) ...... $120,000 Land (fair value) ..................... 80,000 Building and equipment (fair value) ............................ 400,000 Customer list (fair value) ........ 20,000 Liabilities (fair value) .............. (100,000) Gain ........................................ (70,000) Total ....................................... $450,000 7. The 2015 financial statements would be revised as they are included in the 2016–2015 comparative statements. The 2012 statements would be based on the new values. The adjustments would be: