Advanced Accounting 1 C1

The National Teachers College School of Business – Accountancy Advanced Accounting 1

Chapter 4: Partnership Lump-sum Liquidation Accounting for Partnership Liquidation: The conversion of assets into cash is referred to as realization; the payment of claims is referred to as liquidation. The latter term is also used in a broader sense to refer to the complete winding up process. Basic Procedures in Liquidation 1. Sharing gains and losses. The books should be adjusted and has closed the net profit or loss for the period in the manner they have agreed to in the partnership agreement. a. The cumulative profit and loss of a partnership during its existence is the difference between total capital contribution and total capital withdrawals. b. Certain gains and losses during the liquidation process actually may have occurred during normal operating periods. 2. Advance planning when the partnership is formed. 3. Rule on set off – partnership loans (receivable) to the partners. When a partnership has a loan outstanding (receivable) to a partner, the partnership receivable should be subtracted, or set off, from the partner’s capital account. 4. Rule on set off – partner loans (payable) to the partnership. When a partner has a loan outstanding (payable) to the partnership, the loan may or may not rank on an equal level with other partnership liabilities as to priority – it may depends on whether the partner’s loan is subordinate to the other partnership liabilities. The legal doctrine of set off – whereby a deficit balance in partner’s capital account may be set off against any balance existing in his/her loan account – has been incorporated into accountant’s procedures for determining which partners would receive cash asit becomes available. These procedures effectively treat the loan as an additional investment. 5. Liquidation expenses. Certain costs incurred during the liquidation process. 6. Marshalling of assets. This doctrine is applied when the partnership and/or one or more of the partners are insolvent. 7. Distribution of cash or other assets to partners. Types of Liquidation: Liquidation may be categorized broadly as Lump-sum liquidation and Installment liquidation. Lump-sum Liquidation: A lump-sum liquidation is one in which all assets are converted into cash within a very short time, creditors are paid, and a single, lump-sum payment is made the partners for their capital interests. Lump-sum liquidations are rare or nonexistent because partners liquidated their loan and capital accounts as cash becomes available for distribution. Usually, partners have personal needs for cash, and there is no sound business reason to wait until the very last asset is converted in before distributing any cash to the partners. Example: Chapter 4, Problem 1 of Advanced Financial Accounting 1 by Antonio J. Dayag Assume the following data for QRS Partnership had the following condensed balance sheet just before liquidation on November 1, 20x4, reports the following balances:

Assets

Liabilities and Capital

Cash Noncash asset

P24,000 84,000

Liabilities Q, Loans Q, Capital (30%) R, Capital (50%) S, Capital(20%)

P12,000 2,400 9,600 48,000 36,000 P108,000

P108,000

Required: Prepare statement of liquidation, assuming: 1. The noncash assets were realized at P96,000. QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4 Noncash assets

Cash Balances before liquidation Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities Payment to partners – loan Balances after payment of partners’ loans Payment to partners capital

24,000 96,000 120,000 (12,000) 108,000 (2,400) 105,600 (105,600)

84,000 (84,000)

Liabilities

Q, loan

P12,000 P2,400 _______ _______ 12,000 2,400 (12,000) _______ 2,400 (2,400)

Q, capital

R, capital

S, capital

9,600 3,600 13,200 _______ 13,200 _______ 13,200 (13,200)

48,000 6,000 54,000 _______ 54,000 _______ 54,000 (54,000)

36,000 2,400 38,400 _______ 38,400 _______ 38,400 (38,400)

Q, capital

R, capital

S, capital

9,600 (10,800) 1,200 _______ (1,200) 1,200

48,000 (18,000) 30,000 _______ 30,000 _______ 30,000 _______ 30,000 (30,000)

36,000 (7,200) 28,800 _______ 28,800 _______ 28,800 _______ 28,800 (28,800)

2. The noncash assets were realized at P48,000. QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4 Noncash assets

Cash Balances before liquidation Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities Offset deficit versus loans Balances after offsetting Payment to partners – loan Balances after payment of partners’ loans Payment to partners capital

24,000 48,000 72,000 (12,000) 60,000 ________ 60,000 (1,200) 58,800 58,800

84,000 (84,000)

Liabilities

Q, loan

P12,000 P2,400 _______ _______ 12,000 2,400 (12,000) _______ 2,400 (1,200) 1,200 (1,200)

3. The noncash assets were realized at P36,000. The personal assets and liabilities of the partners on this date are as follows: Personal assets Q R S

P288,000 216,000 108,000

Partnership liabilities P240,000 228,000 108,000

QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4 Noncash assets

Cash Balances before liquidation Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities Offset deficit versus loans Balances after offsetting partner’s loan Additional investment by Q Balances after additional investment Payment to partners capital

24,000 36,000 60,000 (12,000) 48,000 ________ 48,000 (2,400) 50,400 50,400

84,000 (84,000)

Liabilities

Q, loan

P12,000 P2,400 _______ _______ 12,000 2,400 (12,000) _______ 2,400 (2,400)

Q, capital

R, capital

S, capital

9,600 (14,400) (4,800) _______ (4,800) 2,400 (2,400) 2,400

48,000 (24,000) 24,000 _______ 24,000 _______ 24,000 _______ 24,000 (24,000)

36,000 (9,600) 26,400 _______ 26,400 _______ 26,400 _______ 26,400 (26,400)

Q, capital

R, capital

S, capital

9,600 (12,600) (3,000) _______ (3,000) 2,400 (600) 600

48,000 (21,000) 27,000 _______ 27,000 _______ 27,000 (429) 26,571 (26,571)

36,000 (8,400) 27,600 _______ 27,600 _______ 27,600 (171) 27,429 (27,429)

4. The noncash assets were realized at P42,000. QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4 Noncash assets

Cash Balances before liquidation Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities Offset deficit versus loans Balances after offsetting partner’s loan Additional investment by Q Balances after additional investment Payment to partners capital

24,000 42,000 66,000 (12,000) 54,000 ________ 54,000 ________ 54,000 54,000

84,000 (84,000)

Liabilities

Q, loan

P12,000 P2,400 _______ _______ 12,000 2,400 (12,000) _______ 2,400 (2,400)

5. The noncash assets were realized at P24,000. The personal assets and liabilities of the partners on this date are as follows: Personal assets Q R S

P288,000 216,000 117,600

Partnership liabilities P284,000 228,000 108,000

QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4 Cash Balances before liquidation Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities

24,000 24,000 48,000 (12,000) 36,000

Noncash assets

84,000 (84,000)

Liabilities

Q, loan

Q, capital

R, capital

S, capital

P12,000 _______ 12,000 (12,000)

P2,400 _______ 2,400 _______ 2,400

9,600 (18,000) (8,400) _______ (8,400)

48,000 (30,000) 18,000 _______ 18,000

36,000 (12,000) 24,000 _______ 24,000

Offset deficit versus loans Balances after offsetting partner’s loan Additional investment by Q Balances after additional investment Additional loss due to insolvency of Q Balances after additional – Loss Payment to partners capital

________ 36,000 3,600 39,600 ________ 39,600 (39,600)

(2,400)

2,400 (6,000) 3,600 (2,400) 2,400

_______ 18,000 _______ 18,000 (1,714) 16,286 (16,286)

_______ 24,000 _______ 24,000 (686) 23,314 (23,314)

6. The noncash assets includes goodwill of P54,000 and prepaid expenses of P18,000. The partners agreed to write-off these accounts since they are valueless. The remaining noncash assets were realized at P1,200 with liquidation expenses paid amounting to P14,400. The personal assets and liabilities of the partners on this date are as follows: Personal assets Q R S

P240,000 216,000 108,000

Partnership liabilities P204,000 192,000 112,800

QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4

Balances before liquidation Payment of liquidation expenses Balances after payment of liquidation exp. Write-off goodwill and prepaid expenses Balances after write-offs Realization and distribution of gains Balances after realization Payment of liabilities Balances after payment of liabilities Offset deficit versus loans Balances after offsetting partner’s loan Additional investment by Q Balances after additional investment Payment of liabilities Balances after payment of liabilities Payment to partners capital

Cash

Noncash assets

Liabilities

Q, loan

Q, capital

R, capital

S, capital

24,000 14,400 9,600 ________ 9,600 1,200 10,800 (10,800) -0-

84,000 _________ 84,000 (72,000) 12,000 (12,000)

12,000 _______ 12,000 _______ 12,000 _______ 12,000 (10,800) 1,200 _______ 1,200 _______ 1,200 (1,200)

2,400 _______ 2,400 _______ 2,400 _______ 2,400 _______ 2,400 (2,400)

9,600 (4,320) 5,280 (21,600) (16,320) (3,240) (19,560) _______ (19,560) 2,400 (17,160) 17,160

48,000 (7,200) 40,800 (36,000) 4,800 (5,400) (600) _______ (600) _______ (600) 600

36,000 (2,880) 33,120 (14,400) 18,720 (2,160) 16,560 _______ 16,560 _______ 16,560 _______ 16,560 _______ 16,560 (16,560)

-017,760 17,760 (1,200) 16,560 16,560

7. Following are the data available before liquidating the partnership: a. Prepaid expenses amounted to P8,400 were refunded to the partnership with the exception of P1,440 that was forfeited. b. R agreed to personally take certain equipment having a P6,000 book value (the partners estimated its current value at P7,200) c. S agreed to personally take certain furniture having a P3,600 book value ( the partners estimated its current value at P3,000) d. The remaining noncash assets were realized at P32,400. QRS Partnership Statement of Realization and Liquidation November 1 – 30, 20x4

Cash Balances before liquidation Increase in equipment Decrease in furniture Balances after revaluation Refund of prepaid expenses Balances after refunds Received noncash assets Balances after receipt of noncash assets Realization and distribution of loss Balances after realization Payment of liabilities Balances after payment of liabilities Offset deficit versus loans Balances after offsetting partner’s loan Payment to partners – loan Balances after payment of loans Payment to partners capital

24,000 ________ 24,000 6,960 30,960 ________ 30,960 32,400 63,360 (12,000) 51,360 ________ 51,360 (1,668) 49,692 (49,692)

Noncash assets

84,000 1,200 (600) 84,600 (8,400) 76,200 (10,200) 66,000 (66,000)

Liabilities

Q, loan

Q, capital

R, capital

S, capital

12,000

2,400

_______ 12,000 _______ 12,000 _______ 12,000 _______ 12,000 (12,000)

_______ 2,400 _______ 2,400 _______ 2,400 _______ 2,400 _______ 2,400 (732) 1,668 (1,668)

9,600 360 (180) 9,780 (432) 9,348 _______ 9,348 (10,080) (732) _______ (732) 732

48,000 600 (300) 48,300 (720) 47,580 (7,200) 40,380 (16,800) 23,580 _______ 23,580 _______ 23,580 _______ 23,580 (23,580)

36,000 240 (120) 36,120 (288) 35,832 (3,000) 32,832 (8,064) 26,112 _______ 26,112 _______ 26,112 _______ 26,112 (26,112)

Chapter 5: Partnership Installment Liquidation Installment Liquidation: Liquidation in installments is a process of realizing some assets, paying creditors, paying the remaining available cash to partners, realizing additional assets, and making additional cash payments to partners. The liquidation continues until all noncash assets had been realized and cashhad been distributed to partnership creditors and partners. As a result, the partnership realizes more proceeds that would be possible in lump-sum liquidation. Because of the lengthier conversion period, cash may become available for distribution to partners long before the last noncash assets is sold. Basic Principles in Installment Liquidation: The significant element in installment liquidations is that the liquidator authorizes cash payment to partners before all losses that may be incurred in the liquidation are known. If distributions to partners are made and later losses cause deficitsin the partners’ capital accounts, the liquidator will have to demand the return of the payments. If the payments cannot be recovered, the liquidator may be liable to the other partners for the loss caused them by the inappropriate payment of cash. For this reason, the following guidelines are used to assistthe accountant in determining safe installment payments to the partners: 1. Distribute no cash to the partners until all liabilities ang actual liquidation expenses have been paid. 2. Distribute cash after every realization period, the following schedule may be used to determine cash payment to partners: A. Schedule of cash/sale payments anticipate the two worst-case scenario. a.1. Assume a total loss on all remaining noncash assets, and provide all possible losses, including potential liquidation costs and unrecorded liabilities. Possible losses: As a rule, the partnership creditors are entitled to payment in full before anything is paid to partners. The amount of possible losses (and expenses) is measured by: a. Amount of unrealized noncash assets, plus b. Amount of cash withheld such as fot payment of a. unrecorded unpaid expenses (liabilities) b. Anticipated liquidation expenses. Accordingly, the hypothetical or assumed deficit balance is allocated to the partners who have credit balances, using their respective profit and loss sharing ratio. The result of these two worst-case scenarios is that cash is distributed only to the partners who have capital balances sufficient to absorb their share of: 1. The maximum potential losson noncash assets 2. Any capital deficiencies that may result to the partners as a result of a maximum loss on noncash assets. B. Cash Payment Priority Program (Cash distribution plan/Pe-distribution plan) A cash distribution plan has the advantage of informing the partners at the beginning of the liquidation process when they will receive cash in relation to the other partners. Ranking of the partners the “total interest (equity) account balances before liquidation” represent equities of the partners in the partnership, that is, the balance of the capital account, plus or minus the balance (if any) of a loan made by a partner to the partnership or a loan made by the partnership to a partner. The total interest (equity) account balances before liquidation are divided by the profit and loss sharing ratio to determine the maximum loss absorbable (loss absorption abilities/ loss absorption potential/ loss absorption power) Distributing cash in this order brings the total interest (equity) into the profit and loss sharing ratio on a step-by-step basis. 1. Distribution to the highest-ranking partners. 2. Distribute next highest-ranking partner(s). Vulnerability rankings a partner with a lowest absorption abilities is considered to be the most vulnerable to partnership losses. Only the exact amount of cash payments on every period in this sequence needs to be determined. Following are the limitations of the cash priority program:

1. The program is operable only after outside creditors have been paid in full; 2. The program reflects only the order in which cash distributions to the partners will be made if cash is available to distribute to the partners; and 3. The sequence of distributing cash in the program coincides with the sequence that would result if cash were distributed using the schedule of safe payments. Example: Chapter 5, Problem 5 of Advanced Financial Accounting 1 by Antonio J. Dayag The DSV partnership decided to liquidate the partnership as of June 30, 20x4. The balance sheet of the partnership as of this date is presented as follows: DSV Partnership Balance Sheet At June 30, 20x4 ASSETS Cash…………………………………………………………. Accounts receivable (net)…………………………………. 95,000 Inventories…………………………………………………. Property plant equipment (net)……………………………. Total assets……………………………………………….. LIABILITIES AND PARTNER’S CAPITAL LIABILITIES Accounts Payable…………………………………………. P405,000 PARTNERS’ CAPITAL DD, capital………………………………………………... P100,000 SS, capital…………………………………………………. VV, capital……………………………………………….. 75,000 Total capital………………………………………………. P315,000 Total Liabilities and Capital……………………………….

P 50,000 75,000 500,000 P720,000

140,000

P720,000

The personal assets (excluding partnership loan and capital interests) and personal liabilities of each partner as of June 30, 20x4, follow: Personal assets Personal liabilities Personal net worth

DD P250,000 (P270,000) (P20,000)

SS P450,000 (P420,000) P30,000

VV P300,000 (P240,000 ) P60,000

The DSV Partnership was liquidated during the months of July, August and September. The assets sold and the amounts realized follow: Month July

Assets Sold Inventories Accounts receivable (net) Property plant and equipment

Carrying Amount P 50,000 60,000 400,000

Amount Realized P 45,000 40,000 305,000

August Septembe r

Inventories Accounts receivable (net) Accounts receivable (net) Property plant and equipment

25,000 10,000 25,000 100,000

18,000 4,000 10,000 25,000

Required: Prepare a statement of partnership realization and liquidation for the the DSV partnership fot the three-month period ended September 30, 20x4. DD, SS and VV share profits ang losses in the ratio 50:30:20. The partners wish to distribute available cash at the end of each month after reserving P10,000 of cash at the end of July and August to meet unexpected liquidation expenses Actual liquidation expenses incurred and paid each month amounted to P2,500. Support each cash distribution to the partners with a schedule of safe installment payments. DSV Partnership Statement of Partnership Realization and Liquidation — Installment Liquidation From July 1, 20x4, through September 30, 20x4 Cash Pre liquidation balances, 6/30 July 20x4:Sale of assets and distribution of P120,000 loss Liquidation Expenses Payment to creditors Payment to partners August 20x4: Sale of assets and distribution of P13,000 loss Liquidation expenses Payment to partners September 20x4: Sale of assets and distribution of P70,000 loss Allocate D’s deficit to S & V Liquidation expenses Payment to partners Post liquidation balances

50,000 390,000 440,000 (2,500) 437,500 (405,000) 32,500 (22,500) 10,000 22,000 32,000 (2,500) 29,500 (19,500) 10,000 55,000 65,000 ______ _ 65,000 (2,500) 62,500 (62,500) 0

Noncash Assets 670,000

Liabilities

Capital Balances DD (50%) SS (30%) VV (20%)

(405,000)

(100,000)

(140,000)

(75,000)

(510,000) 160,000

________ (405,000) ________ _ (405,000) 405,000 -0_______ -0-

60,000 (40,000) 1,250 (38,750) ________ (38,750) ________ (38,750)

36,000 (104,000) 750 (103,250) ________ _ (103,250) (22,500) (80,750)

24,000 (51,000) 500 (50,500) ________ _ (50,500) ________ (50,500)

3,900 (76,850) 750 (76,100) 13,700 (62,400)

(2,600) (47,900) 500 (47,400) 5,800 (41,600)

21,000 (41,400) 2,400 (39,000) (1,500) (37,500) 37,500 0

14,000 (27,600) 1,600 (26,000) (1,000) (25,000) 25,000 0

160,000 ________ 160,000 ________ _ 160,000 (35,000) 125,000 ________ 125,000 ________ _ 125,000

_______ -0_______ -0________ _ -0-

(125,000) -0________ _ -0________ _ -0________ 0

________ _ -0________ _ -0________ _ -0________ _ 0

6,500 (32,250) 1,250 (31,000) ________ _ (31,000) 35,000 4,000 (4,000) -0________ _ -0________ _ 0

DSV Partnership Schedule of safe payments to partners Schedule 1. July 31, 20x4 Capital balances, July 31 before cash distribution Assume full loss of P160,000 on remaining noncash assets and P10,000 in possible future liquidation Assume D’s potential deficit must be absorbed by S and V: 30/50 x P46,250 20/50 x P46,250 Assume V’s potential deficit must be absorbed by S completely Safe payments to partnes on July 31, 20x4 Schedule 2. August 31, 20x4 Capital balances, August 31, 20x4 cash distribution Assume full loss of P125,000 on remaining noncash assets and P10,000 in possible future liquidation Assume D’s potential deficit must be absorbed by S and V: 30/50 x P36,500 20/50 x P36,500 Safe payments to partners

DD

SS

VV

(38,750)

(103,250)

(50,500)

85,000 46,250 (46,250)

51,000 (52,250)

34,000 (16,500)

27,750 _________ _________ -0(24,500) _________ 2,000 -0(22,500)

18,500 2,000 (2,000) -0-

(31,000)

(76,100)

(47,100)

67,500 36,500 (36,500)

40,500 (35,600)

27,000 (20,400)

21,900 _______ (13,700)

14,600 (5,800)

________ -0-

Chapter 6: Corporate Liquidation Corporate Liquidation: Corporation in liquidation usually prepares two classes of financial reports: 1. Statement of Affairs - This initial report shows the available assets value and debts of the debtor corporation. 2. Statement of Realization and Liquidation - This shows how the "receiver" managed the assets of the debtor corporation behalf of the creditors. Statement of Affairs: Normally, at the start of liquidation, a statement of affairs is prepared for the corporation to provide information about the current financial position of company. Historical costs figures are not relevant. The various parties concerned desire information that reflects: 1. The net realizable value of the debtors assets. 2. The ultimate application of these proceeds to specific liabilities. Classification of Assets in Statement of Affairs 1. Assets pledged to fully secured creditors (APFSC) - these assets are expectedto realize an amount at least sufficient to satisfy the related debt. 2. Assets pledge to partially secured creditors (APPSC) - these assets are expected to realize an amount below the related debt. 3. Free Assets (FA) - these assets are not pledged and available to satisfy the claims of creditors. Classification of Liabilities in Statement of Affairs 1. Fully secured liabilities (FSL) - Liabilities expected to be paid in full as result of having sufficient collateral (pledged assets) to satisfy the indebtedness. 2. Partially secured liabilities (PSL) - Liabilities expected not to be paid in full as a result of having insufficient collateral (pledged assets) to satisfy the indebtedness. 3. Unsecured liabilities WITH PRIORITY (UL W/P) - Liabilities having priority under the law. These liabilities, in order to priority are: A. Debts dues for personal service rendered the insolvent by employee, laborers or domestic servant. Unpaid employee"s salaries and wages, and benefit plans. B. Legal expenses, and expenses incured in the administration of insolvent's estate for the common interest of creditors. C. Debts, taxes and assesments due to National Government. 4. Unsecured liabilities WITHOUT PRIORITY (UL W/O P) - have no collateral (pledged assets) relating to their indebtedness. Example: Chapter 6, Problem 1 of Advanced Financial Accounting 1 by Antonio J. Dayag Miner Company is being forced into bankruptcy. The company’s creditors and stockholders have requested an estimate of the results of a liquidation of the company. Miner’s trial balance follows:

Accounts

Debit P 6,000 63,000

Credit

Cash Accounts Receivable Allowance for bad debts P 2,000 Notes Receivable 50,000 Accrued interest on Notes Receivable 1,200 Inventory 60,000 Buildings 182,000 Accumulated Depreciation - Buildings 63,000 Equipment 14,600 The assets are expected to Accumulated Depreciation Equipment 1,400 bring cash on conversion in Prepaid Insurance 1,100 the following amounts: Goodwill 8,500 Accrued Wages - with priority 6,000 Accounts Receivable P 50,000 Taxes Payable with priority 2,400 Notes Receivable including P1,000 accrued interest 40,800 Accounts Payable 170,000 Inventory 30,000 Noted Payable 80,000 Building 75,000 Accrued interest payable 1,600 Equipment 4,200 Common Stock 110,000 Prepaid Insurance 400 Retained Earnings (deficit) 50,000 _________ Total P436,000 P436,000 The note receivable are pledged as security on a note payable of P40,000 m. A note payable of P20,000 is secured by a lien on the building, and the equipment is pledged as security on a note payable of P10,000. One-half of the interest payable relates to the P40,000 note payable; the other half of the interest payable relates to the P20,000 note payable. There is no accrued interest on the other notes payable. Required: 1. Prepare a statement of affairs as of May 31,20x4. Include a deficiency account. 2. Determine the estimated dividend rate to the general unsecured creditors.