Detailed Answer
(b) Sage paid $400,000 for its 40% investment in Adams
when Adams’ net assets had a carrying amount of $900,000.
Therefore, the book value Sage purchased is $360,000 (40% ×
$900,000), resulting in an excess of cost over book value of
$40,000 ($400,000 – $360,000). This excess must be attributed
to specific assets of Adams; any amount not attributed to specific
assets is attributed to goodwill. In this case, the excess is attributed
to plant assets (40% × $90,000 = $36,000) and inventory
(40% × $10,000 = $4,000). The portion attributed to plant
assets is amortized over eighteen years, while the portion attributed
to inventory is expensed immediately (since all inventory
was sold during year 1). Therefore, Sage’s investment income
is $42,000, as computed below.
Share of income (40% × $120,000) $48,000
Excess amortization [($36,000/18) + $4,000] (6,000)
$42,000