Baker / Lembke / King

Partnerships:
Formation,
Operation, and
Changes in
15
Membership
McGraw-Hill/ Irwin © The McGraw-Hill
Copyright © 2002 by The McGraw-Hill Companies, Inc.Companies,
All rights reserved.
Inc., 1999
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Definition of a Partnership
 Association of two or more persons. The
“persons” are usually individuals; however,
they could be corporations or other
partnerships.
 To invest something. This means that each
partner must contribute something to the
partnership.
 Business for profit. A partnership may be
formed to perform any legal business, trade,
profession, or other service.
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Articles of Copartnership

 The name of the partnership and

the names of the partners.
 The name of business to be
conducted by the partnership and
the duration of the partnership
agreement.
 The initial capital contribution of
each partner and the method by
which future capital contributions
are to be accounted for.
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Articles of Copartnership

 A complete specification of the

profit or loss distribution, including
salaries.
 Procedures used for Citranges in
the partnership.
 Other aspects of operating the
partners decide on, such as the
management rights of each
partners, election procedures, and
accounting methods.
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Accounting for Partnership Formation

> A separate accounting entity

> Use fair market value for assets and liabilities

January 1, 19X1
Cash 13,000,000
Fair
Inventory 9,000,000
Market
Equipment 19,000,000
Value
Liabilities 11,000,000
Aldi, Capital 20,000,000
Bayu, Capital 10,000,000

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Distribution Methods

 Preselected ratio
 Interest on capital
balances
 Salaries to partners
 Bonuses to partners

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Profit Allocation

During 19X1, the AB Partnership earns a profit of

Rp10,000,000 for the year. Aldi Maintains a capital
balance of Rp20,000,000 during the year and Bayu’s
capital investment fluctuates between Rp10,000,000
and Rp6,500,000.
Profits shared 60%:40%
Aldi Bayu Total
Profit sharing percentage 60%40% 100%
Net income Rp10,000,000
Allocate 60:40 Rp6,000,000Rp4,000,000(10,000,000)
Total Rp6,000,000Rp4,000,000Rp -0-

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Year-End Entries

During the year, Bayu withdrew Rp4,000,000

from the business. A closing entry is needed to
reflect this reduction in Bayu, Capital.
Bayu, Capital 4,000,000
Bayu, Drawing 4,000,000
Another entry is required to distribute the profit in
accordance with the partnership agreement.
Income Summary 10,000,000
Aldi, Capital 6,000,000
Bayu, Capital 4,000,000

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Interest on Capital Balances
Bayu’s Weighted-Average Capital Balance

Months Months Times

Date Debit Credit Balance Maintained Dollar Balance
January 1 Rp10,000,000 4 Rp 40,000,000
May 1 Rp3,000,000 7,000,000 4 28,000,000
September 1 Rp500,000 7,500,000 2 15,000,000
November 1 1,000,000 6,500,000 2 13,000,000
Total 12 Rp96,000,000

Average capital: Rp96,000,000  12 months =

Rp8,000,000

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Interest on Capital Balances

Aldi and Bayu agreed to allow interest of 15 percent

on the weighted-average capital balances with any
remaining profit to be distributed 60:40 percent.

Aldi Bayu Total

Profit percentage 60% 40% 100%
Average capital Rp20,000,000 Rp8,000,000
Net income Rp10,000,000
Interest on average capital Rp 3,000,000 Rp1,200,000 (4,200,000)
Residual income Rp 5,800,000
Allocate 60:40 Rp 3,480,000 Rp2,320,000 (5,800,000)
Total Rp 6,480,000 Rp3,520,000 Rp -0-

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Interest on Capital Balances

The partnership agreement provides for salaries of

Rp2,000,000 to Aldi and Rp5,000,000 to Bayu. Any
remainder is to be distributed in a ratio of 60:40 percent.

Aldi Bayu Total

Profit percentage 60% 40% 100%
Net income Rp10,000,000
Salary Rp2,000,000 Rp5,000,000 (7,000,000)
Residual income Rp 3,000,000
Allocate 60:40 1,800,000 1,200,000 (3,000,000)
Total Rp3,800,000 Rp6,200,000 Rp -0-

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Bonuses

A bonus of 10 percent of income in excess of

Rp5,000,000 is to be credited to Bayu’s capital
account before distributing remaining profit.

Case 1: The bonus is computed as a percentage

of income before subtracting the bonus.
Bonus = .10 (Net income - Minimum income)
Bonus = .10 (Rp10,000,000 - Rp5,000,000)
Bonus = Rp500,000

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Bonuses

A bonus of 10 percent of income in excess of

Rp5,000,000 is to be credited to Bayu’s capital
account before distributing remaining profit.

Case 2: The bonus is computed as a percentage

of income after subtracting the bonus.
Bonus = .10 (Net income - Minimum income -Bonus)
Bonus = .10 (Rp10,000,000 - Rp5,000,000 - Bonus)
Bonus = .10 (Rp5,000,000 - Bonus)
Bonus = Rp500,000 - .10 Bonus
1.10 Bonus = Rp500,000
Bonus = Rp454,545
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Bonuses

The distribution of net income based on Case 2

(bonus of Rp454.55) is calculated as follows:

Aldi Bayu Total

Profit percentage 60% 40% 100%
Net income Rp10,000,000
Bonus to partner (rounded) Rp 455 (455)
Residual income Rp 9,545
Allocation 60:40 Rp5,727 3,818 (9,545)
Total Rp5,727 Rp4,273 Rp -0-

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Multiple Bases for Profit Allocation
AB Partnership agreement specifies the following:

1. Interest of 15 percent on weighted-average

capital balances.
2. Salaries of Rp2,000,000 for Aldi and
Rp5,000,000 for Bayu.
3. A bonus of 10 percent to be paid to Bayu on
partnership income exceeding Rp5,000,000
before subtracting the bonus, partners’
salaries, and interest on capital balances.
4. Any residual to be allocated in the ratio of 60
percent to Aldi and 40 percent to Bayu.
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Multiple Bases for Profit Allocation
Aldi Bayu Total
Profit percentage 60% 40% 100%
Average capital Rp20,000,000 Rp8,000,000
Net income Rp10,000,000
Step 1:
Interest on average capital Rp 3,000,000 Rp1,200,000 (4,200,000)
Remaining after step 1 Rp 5,800,000
Step 2:
Salary 2,000,000 5,000,000 (7,000,000)
Deficiency after step 2 Rp(1,200,000)
Step 3:
Bonus 500,000 (500,000)
Deficiency after step 3 Rp(1,700,000)
Step 4:
Allocate 60:40 (1,020,000) (680,000) 1,700,000
Total Rp3,980,000 Rp6,020,000 Rp -0-

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Partnership Financial Statement

AB Partnership
Statement of Partners’ Capital
For the Year Ended December 31, 19X1
Aldi Bayu Total
Balance, January 1, 19X1 Rp20,000,000Rp10,000,000 Rp30,000,000
Add: Additional investment 500,000 500,000
Net income distribution 3,980,000 6,020,000 10,000,000
Rp23,980,000Rp16,520,000 Rp40,500,000
Less: Withdrawal (4,000,000) (4,000,000)
Balance, December 31, 19X1 Rp23,980,000Rp12,520,000 Rp36,500,000

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New Partner PurCitrases an Interest
On January 1, 19X3, Aldi and Bayu invite Citra to become a
partner in their business. Citra purCitrases a one-fourth
interest in the partnership capital directly from Aldi and Bayu
by paying Rp5,900,000 to Aldi and Rp3,100,000 to Bayu. Citra
will have a capital credit of Rp7,500,000 (25 percent). Citra
will be entitled to 25 percent interest in the profits or losses of
the partnership. The remaining 75 percent interest will be
divided between Aldi and Bayu in their old profit ratio of 60:40.

Aldi, Capital (Rp20,000,000 x .25) 5,000,000

Bayu, Capital (Rp10,000,000 x .25) 2,500,000
Citra, Capital 7,500,000

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New Partner Invests in Partnership
Case 1: The total book value of the partnership before the
admission of Citra is Rp30,000,000. Citra buys one-
fourth interest for Rp10,000,000.
Cash 10,000,000
Citra, Capital (Rp40,000,000 x .25) 10,000,000

Case 2: The total book value of the partnership before the

admission of Citra is Rp30,000,000. Citra buys one-
fourth interest for Rp11,000,000 (bonus method).

Cash 11,000,000
Aldi, Capital (Rp750 x .60)
450,000
Bayu, Capital (Rp750 x .40)
300,000
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Recording Goodwill of Prior Partners
Case 2: Citra pays Rp11,000,000 for a one-fourth interest and
goodwill to prior partners is recognized.

Step 1:
25% of estimated total resulting capital Rp11,000,000
Estimated total resulting capital
(Rp11,000,000  .25) Rp44,000,000
Step 2:
Estimated total resulting capital Rp44,000,000
Total net assets not including goodwill
(Rp30,000,000  Rp11,000,000) (41,000,000)
Estimated goodwill to prior partners Rp 3,000,000

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Recording Goodwill of Prior Partners
Case 2: Citra pays Rp11,000,000 for a one-fourth interest and
goodwill to prior partners is recognized.

Goodwill 3,000,000
Aldi, Capital (Rp3,000,000 x .60) 1,800,000
Bayu, Capital (Rp3,000,000 x .40) 1,200,000

Cash 11,000,000
Citra, Capital (Rp44,000,000 x .25) 11,000,000

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Revaluation of Assets Approach
Case 3: Citra offers Rp8,000,000 for a one-fourth interest in the
partnership. It was determined that the inventory
currently recorded at a book value of Rp14,000,000 has
a fair value of only Rp8,000,000. The partners agree to
a write-down of inventory before admitting Citra.
Aldi, Capital (Rp6,000,000 x .60) 3,600,000
Bayu, Capital (Rp6,000,000 x .40) 2,400,000
Inventory 6,000,000

Citra invests Rp8,000,000 in the

partnership.
Cash 8,000,000
Citra, Capital (Rp32,000,000 x .25) 8,000,000

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Recording Goodwill for New Partner
Case 3: Aldi, Bayu, and Citra agree Aldi and Bayu should
retain 75 percent interest in the partnership.
Step 1:
75% of estimated total resulting capital Rp30,000,000
Estimated total resulting capital
(Rp30,000,000  .75) Rp40,000,000
Step 2:
Estimated total resulting capital Rp40,000,000
Total net assets not including goodwill
(Rp30,000,000  Rp8,000,000) (38,000,000)
Estimated goodwill Rp 2,000,000
Cash 8,000,000
Goodwill 2,000,000

Citra, Capital (Rp40,000,000 x .25) © The McGraw-Hill Companies, Inc., 1999

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Retirement of a Partner from Partnership

May account for using:

 Bonus to retiring partner
 Asset revaluation and then payment to retiring
partner
 Goodwill to retiring partner:
 Onlyrecognize retiring partner’s share of goodwill
 Recognize all goodwill

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Citrapter Sixteen

The
End

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