1. Chapter 14
Chapter 14
Partnerships: Ownership Changes and Liquidation

2. Ownership changes
Dissolution - the change in the relation of the partners caused by any partner ceasing to be associated in the carrying on as distinguished from the winding up of the business
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3. Ownership changes, continued
Changes may suggest:
The existing assets of the original partnership should be revalued;
Previously unrecorded intangible assets exist that are traceable to the original partnership; and/or
Intangible assets, such as goodwill, exist that are traceable to a new partner
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4. Admission of a new partner
Accomplished by either
A contribution of assets to an existing partnership
either the bonus or goodwill method of accounting is employed
A contribution of assets to an existing partner
generally a transfer of book values from one partner to another
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5. The value of assets contributed to an existing partnership
May be in excess of that suggested by the book value of the original partnership’s net assets which suggests that the partnership may have
unrecognized appreciation on recorded net assets
and/or unrecognized goodwill
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6. The value of assets contributed to an existing partnership, continued
May be less than that suggested by the book value of the original partnership’s net assets
suggests unrecognized depreciation or write-downs on recorded net assets of the original partnership
and/or additional intangible assets being contributed by the incoming partner
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7. Contribution of assets to an existing partnership
Bonus Method
Goodwill Method
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8. The bonus method Total capital of new partnership is:
The book value of the previous partnership
– Any write-downs in the value of the previous partnership’s net assets
+ The value of the consideration paid to the partnership by the incoming partner
Note: only net asset write-downs (versus write-ups) are recognized
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9. The bonus method, continued
New partner’s initial capital balance equals the percent interest in the capital of the new partnership
Bonus may be either to old partners or the new partner
Bonus is allocated based on profit/loss percentages, not interest in capital percentages
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10. Bonus method: No asset write-down suggested
Facts
A & B are original partners with a partnership net book value of $200,000
Profit/loss percentages: A = 60%, B = 40%
C acquires 20% interest in capital for $70,000 cash
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11. Bonus method: No asset write-down suggested, continued
Analysis
Value of new partnership suggested by incoming partner: $350,000 ($70,000  20%)
No asset write-down suggested [$350,000 > ($200,000 + $70,000)]
Book value of new partnership: $270,000 ($200,000 + $70,000)
C’s interest in new partnership: $54,000 (20%  $270,000)
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12. Bonus method: No asset write-down suggested, continued
Journal Entry
Cash 70,000
A, Capital 9,600
B, Capital 6,400
C, Capital 54,000
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13. Bonus method: Asset write-down suggested
Facts
A & B are original partners with a partnership net book value of $200,000
Profit/loss percentages: A = 60%, B = 40%
C acquires 20% interest in capital for $42,000 cash
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14. Bonus method: Asset write-down suggested, continued
Analysis
Value of new partnership suggested by incoming partner: $210,000 ($42,000  20%)
$32,000 asset write-down suggested ($210,000 – [$200,000 + $42,000])
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15. Bonus method: Asset write-down suggested, continued
Analysis, concluded
Book value of new partnership: $210,000 ($200,000 - $32,000 + $42,000)
C’s interest in new partnership: $42,000 (20%  $210,000)
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16. Bonus method: Asset write-down suggested, continued
Journal Entries
A, Capital 19,200
B, Capital 12, Net Assets 32,000
Cash 42,000 C, Capital 42,000
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17. The goodwill method Total capital of new partnership is:
The book value of the previous partnership
 Unrecognized appreciation or depreciation on the recorded net assets of the previous partnership
+ Unrecognized goodwill traceable to the previous partnership
+ The value of the consideration, both tangible and intangible, received from the new incoming partner
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18. The goodwill method, continued
Both net asset write-downs and write-ups are recorded
New partner’s initial capital balance equals the percent interest in the capital of the new partnership
Goodwill may be traceable to the original partners and/or the new partner
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19. Identifying and measuring goodwill traceable to the previous partnership
1. Calculate the value of the partnership suggested by the incoming partner (incoming partner’s contribution divided by the percent interest in capital acquired)
2. Adjust the book value of the original partnership for any unrecognized net asset appreciation or depreciation
(continued . . .)
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20. Identifying and measuring goodwill traceable to the previous partnership
(. . . continued)
3. Calculate adjusted book value of original partnership plus investment of new partner
4. If 1. above is greater than 3. above, goodwill exists and is traceable to the original partners
5. Goodwill is the difference between the value in 1. above and the value in 3. above
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21. Goodwill traceable to the previous partnership
Facts
A and B are original partners with a partnership net book value of $200,000
Recorded net assets have a fair value of $220,000
Profit/loss percentages: A = 60%, B = 40%
C acquires 20% interest in capital for $70,000 cash
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22. Goodwill traceable to the previous partnership, continued
Analysis.
Value of new partnership suggested by incoming partner: $350,000 ($70,000  20%)
$80,000 of unrecognized net asset appreciation and/or goodwill is suggested: ($350,000 - [$200,000 + $70,000])
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23. Goodwill traceable to the previous partnership, continued
Analysis, continued
The $80,000 is allocated
$20,000 ($200,000 vs. $220,000) to unrecorded net appreciation
$60,000 to goodwill
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24. Goodwill traceable to the previous partnership, continued
Journal Entries
Goodwill 60,000
Net Assets 20,000
A, Capital 48,000
B, Capital 32,000
Cash 70,000
C, Capital 70,000
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25. Identifying and measuring goodwill traceable to the new partner
1. Calculate the value of the partnership suggested by the incoming partner (incoming partner’s contribution divided by the percent interest in capital acquired)
2. Adjust the book value of the original partnership for any unrecognized net asset appreciation or depreciation
(continued . . .)
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26. Identifying and measuring goodwill traceable to the new partner, continued
3. Calculate adjusted book value of original partnership plus investment of new partner
4. If 1. above is less than 3. above, then goodwill exists and is traceable to the new partner
(continued . . .)
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27. Identifying and measuring goodwill traceable to the new partner, continued
5. Goodwill is the difference between
a) The amount that should have been paid by the new partner, as indicated by the adjusted book value of the previous partnership [(adjusted book value of the original partnership  total percentage interest of the original partners in the new partnership) – the adjusted book value] and
b) The amount actually paid by the new partner
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28. Goodwill traceable to the new partner
Facts
A and B are original partners with a partnership net book value of $200,000
Recorded net assets have a fair value of $220,000
Profit/loss percentages: A = 60%, B = 40%
C acquires 20% interest in capital for $45,000 cash
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29. Goodwill traceable to the new partner, continued
Analysis
Value of new partnership suggested by incoming partner: $225,000 ($45,000  20%)
Unrecognized net asset appreciation traceable to original partners: $20,000 ($220,000 - $200,000)
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30. Goodwill traceable to the new partner, continued
Analysis, continued
The amount that should have been paid by the new partner: $55,000 [($220,000  80%) – $220,000]
Goodwill traceable to the new partner: $10,000 ($55,000 - $45,000)
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31. Goodwill traceable to the new partner, continued
Journal Entries
Net Assets 20,000
A, Capital 12,000
B, Capital 8,000
Cash 45,000
Goodwill 10,000
C, Capital 55,000
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32. Contribution of assets to existing partners
Generally, a portion of the selling partner’s book value of capital is transferred to the buying partner
Example: The book value of B’s capital interest is $50,000. C acquires one-half of B’s capital interest for $30,000:
B, Capital 25,000
C, Capital 25,000
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33. Withdrawal of a partner
Withdrawing partner may sell interest to
the partnership and/or
an individual partner
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34. Selling of an interest to the partnership
The bonus or goodwill method may be employed
The bonus method will only recognize net asset write-downs (versus write-ups)
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35. Selling of an interest to the partnership, continued
If the goodwill method is used
generally only net unrecorded appreciation and/or goodwill traceable to the selling partner is recognized
net asset write-downs should be recognized to the extent that they are traceable to the whole entity
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36. Partnership liquidation guidelines
The UPA establishes rules governing the priority in which partnership assets are distributed
The doctrine of “right of offset” combines loans due to partners with the capital balances of partners
The liability for debit capital balances is covered by the doctrine of “marshalling of assets”
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37. Partnership liquidation guidelines, continued
If debit capital balances are not eliminated, they are allocated to the other partners with credit capital balances
All attempts should be made to avoid premature liquidation payments to partners
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38. Marshalling of assets doctrine
Applies when a partnership is insolvent (liabilities exceed assets)
unsatisfied partnership creditors can attach to net personal assets
unsatisfied partnership creditors can attach to any solvent individual partner
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39. Marshalling of assets doctrine, continued
Applies when individual partners are insolvent (personal liabilities exceed personal assets)
unsatisfied personal creditors can attach to partnership net assets
unsatisfied personal creditors can attach only to the extent of an insolvent partner’s capital balance
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40. Types of liquidation approaches
Lump sum liquidation - all assets are in a distributable form and all outside creditors are satisfied before distributions are made to partners
Installment liquidation - payments may be made to partners in installments rather than in a final lump sum. Caution must be exercised to insure that no premature distributions are made
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41. Types of liquidation approaches, continued
A predistribution plan - developed in advance of actual distributions which serves as a guideline for the order and amount of future distributions
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42. Installment liquidation guidelines
The “right of offset” doctrine is employed
All liabilities, possible losses, and liquidation expenses are anticipated
Prior to a distribution, all remaining non-cash assets are assumed to be worthless
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43. Installment liquidation guidelines, continued
With respect to potential debit capital balances, all partners are assumed to be personally insolvent
Actual distributions are based on a schedule of safe payments or a predistribution plan
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44. Installment liquidation
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45. Installment liquidation
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46. Predistribution plan
Based on how much loss a partner could absorb (i.e., maximum loss absorbable, the MLA)
MLA = partner’s capital balance  partner’s profit and loss percent
Partner with the largest MLA is the strongest and should be the first to receive a distribution
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47. Predistribution plan, continued
Actual distributions reduce partners’ capital balances and their respective MLAs
When all partners have equal MLAs they will all receive a distribution
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