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Treatment to the acquired company: The acquired company records in its books the receipt of the payment from the acquiring company and the issuance of stock.FASB 141 Disclosure Requirements: FASB 141 requires disclosures in the notes of the financial statements when business combinations occur.

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Consolidated financial statements show the parent and the subsidiary as one single entity.

During the year, the parent company can use the equity or the cost method to account for its investment in the subsidiary. However, at the end of the year, a consolidation working paper is prepared to combine the separate balances and to eliminate the intercompany transactions, the subsidiary’s stockholder equity and the parent’s investment account.

If the acquired company is liquidated then the company needs an additional entry to distribute the remaining assets to its shareholders.

Treatment to the purchasing company: When the purchasing company acquires the subsidiary through the purchase of its common stock, it records in its books the investment in the acquired company and the disbursement of the payment for the stock acquired.

If other factors exist that reduce the influence or if significant influence is gained at an ownership of less than 20%, the equity method may be appropriate (FASB interpretation 35 (FIN 35) underlines the circumstances where the investor is unable to exercise significant influence).

To account for this type of investment, the purchasing company uses the equity method.

Such disclosures are: When a company purchases 20% or less of the outstanding common stock, the purchasing company’s influence over the acquired company is not significant.

(APB 18 specifies conditions where ownership is less than 20% but there is significant influence).

Treatment of Purchase Differentials: At the time of purchase, purchase differentials arise from the difference between the cost of the investment and the book value of the underlying assets.

Purchase differentials have two components: Purchase differentials need to be amortized over their useful life; however, new accounting guidance states that goodwill is not amortized or reduced until it is permanently impaired, or the underlying asset is sold.

The purchasing company uses the cost method to account for this type of investment.

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