Advanced accounting, 5th edition international student version ch16

16
16
Partnerships Liquidation

Advanced Accounting, Fifth Edition
Slide
16-1


Learning
Learning Objectives
Objectives

Slide
16-2

1.

Describe the steps used to distribute available partnership
assets in liquidation under the Uniform Partnership Act (UPA).

2.

List the order of priority for each class of creditors in
partnership liquidation under the UPA.

3.

Prepare a liquidation schedule to settle debts and allocate
assets.

4.

Prepare a “safe payment approach” liquidation schedule.

5.

Describe the four steps in the preparation of an advance
plan for the distribution of cash in a partnership liquidation.

6.

Prepare the journal entries to incorporate a partnership.


Steps
Steps in
in the
the Liquidation
Liquidation Process
Process
First Step: Compute net income or loss up to the
date of dissolution.
Second Step: Assets not acceptable for
distribution in their present form are converted
into cash.
Last Step: Distribute available assets to
creditors and partners.

Slide
16-3

LO 1 Steps in the liquidation process.


Steps
Steps in
in the
the Liquidation
Liquidation Process
Process

Review Question
The first step in the liquidation process is to
a. Convert noncash assets into cash.
b. Pay partnership creditors.
c. Compute any net income (loss) up to the date of
dissolution.
d. Allocate any gains or losses to the partners.

Slide
16-4

LO 1 Steps in the liquidation process.


Steps
Steps in
in the
the Liquidation
Liquidation Process

Process
Liabilities rank in order of payment, as follows:

Slide
16-5

I.

Liabilities to creditors other than partners,

II.

Liabilities to partners other than for capital and
profits (such as loans),

III.

Liabilities to partners in respect of capital,

IV.

Liabilities to partners in respect of profits.

LO 1 Steps in the liquidation process.


Priorities
Priorities of
of Partnership
Partnership and

and Personal
Personal
Creditors
Creditors
UPA (Section 15) provides that partners are jointly
liable for all contracts and other obligations of the
partnership.
Order of Priority concerning availability of assets:
A. Partnership assets
1. Partnership creditors.
2. Personal creditors that did not recover their claims in
full from personal assets.
B. Personal assets
1. Personal creditors.
2. Partnership creditors not satisfied from partnership
assets.
Slide
16-6

3. Claims of partnership against partner with deficit
equity.

LO 2 Order of priority for each class of creditors.


Priorities
Priorities of
of Partnership
Partnership and
and Personal

Personal
Creditors
Creditors

Review:
True/False: Personal assets are first
allocated to partnership creditors and then
to personal creditors.

False

Slide
16-7

LO 2 Order of priority for each class of creditors.


Priorities
Priorities of
of Partnership
Partnership and
and Personal
Personal
Creditors
Creditors

Review Question

If a partner with a debit capital balance during
liquidation is insolvent, the following results:

a. The partner must borrow money to invest in the
partnership.
b. The partnership will give the partner cash to the
extent of the partners’ debit balance.
c. The partner’s debit balance will be allocated to the
other partners.
d. None of the above.

Slide
16-8

LO 2 Order of priority for each class of creditors.


Priorities
Priorities of
of Partnership
Partnership and
and Personal
Personal
Creditors
Creditors

Review Question

In accordance with the marshaling of assets provision of
the Uniform Partnership Act, rank the following liabilities
of a partnership in order of payment.
1) $20,000 loan from B. Barry who is a partner.
2) $30,000 of profits from the last year of operations.

3) $3,000 payable to a supplier.
4) $100,000 in capital balances of the partners.

Slide
16-9

a. 2,3,4,1.

c. 3,1,4,2.

b. 4,2,1,3.

d. 3,1,2,4.
LO 2 Order of priority for each class of creditors.


Simple
Simple Liquidation
Liquidation Illustrated
Illustrated
Exercise 16-6: Pete, Tom, and Zack have operated a
laundromat for 10 years. The partners, who share profits
4:3:3, respectively, decide to liquidate the partnership. The
firm’s balance sheet just before the partners sell other assets
for $30,000 isAssets
as follows:
Liabilities and Capital
Cash
Other assets

$

15,000
110,000

$

125,000

Liabilities
Pete, Capital
Tom, Capital
Zack, Capital

$

$

42,000
55,000
14,000
14,000
125,000

Personal status of each partner just before liquidation is as follows:
Pete
Tom
Zack
Slide
16-10

Assets
$
55,000
30,000
30,000

Liabilities
$
80,000
10,000
50,000

LO 3 Preparing a liquidation schedule.


Simple
Simple Liquidation
Liquidation Illustrated
Illustrated
Exercise 16-6: Determine the amount of cash each partner
will receive in liquidation and how much cash each partner
must invest in the firm, given their personal positions.
Part A
Balances
Sale of assets and
allocation of loss
Allocate Zack's balance
Investment by Tom
Payment to creditors

Payment to Pete

Slide
16-11

   Cash   
15,000
30,000
45,000
              
45,000
14,286
59,286
(42,000)
17,286
(17,286)
-

Noncash
  Assets  
110,000
(110,000)
               
               
                
-

Liabilities
(42,000)

Pete
    40%   
(55,000)

(42,000)
               
(42,000)
               
(42,000)
42,000
 
              
-

32,000
(23,000)
5,714
(17,286)
              
(17,286)
              
(17,286)
17,286
-

Capital Balances
Tom
Zack
    30%   
    30%   

(14,000)
(14,000)
24,000
10,000
4,286
14,286
(14,286)
              
              
-

24,000
10,000
(10,000)
             
              
                
-

LO 3 Preparing a liquidation schedule.


Simple
Simple Liquidation
Liquidation Illustrated
Illustrated
Exercise 16-6: Determine the amounts that the personal
creditors will receive from personal assets and any
distribution from the partnership.
Part B

Personal
 Assets 
Pete

$

55,000

Personal
Liabilities
$

80,000

Excess
(Deficiency)
$

Distribution
from
Partnership

(25,000) $

17,286

Total
Payable to
 Creditors 
$

72,286

Tom

30,000

10,000

20,000

-

10,000

Zack

30,000

50,000

(20,000)

-

30,000

Slide
16-12

LO 3 Preparing a liquidation schedule.


Installment
Installment Liquidation
Liquidation
Partners receive cash in installments
before
Total liquidation losses and
Total cash available are known.
Many of the procedures followed are necessary to
satisfy legal requirements and to protect the
person in charge of the liquidation and the
residual partners’ interests.

Slide
16-13

LO 4 Safe payment approach.


Installment
Installment Liquidation
Liquidation
Safe Payment Approach
Based on three assumptions:
1. Loan to or from an individual partner will be
combined with respective partner’s capital
account.
2. Remaining noncash assets will not provide any

additional cash.
3. Partner with a debit balance in capital account
will be unable to pay amounts owed.

A safe payment schedule is prepared each time cash is to be distributed.
Slide
16-14

LO 4 Safe payment approach.


Installment
Installment Liquidation
Liquidation
Exercise 16-5: Following is the balance sheet of the BDO
Partnership:
Cash

$ 10,000

Liabilities

$ 18,000

Accounts Receivable 40,000

Brink, Capital

45,000

Inventory

30,000

Davis, Capital

27,000

Equipment

60,000

Olsen, Capital

50,000

$140,000

$140,000

The partners share income 40:40:20, respectively. Assume
that 70% of the receivables are collected and that inventory
with a book value of $15,000 is sold for $10,000. All cash
available at this time is to be distributed.
Slide
16-15

LO 4 Safe payment approach.

Installment
Installment Liquidation
Liquidation
Exercise 16-5: Determine the proper distribution of cash,
using the safe payment approach.

Account balances
Sale of inventory,
collect A/R, allocate loss
Payment to creditors
Payment to partners

Capital Balances
Noncash
Brink
Davis
Olsen
    Cash   
Assets  
Liabilities
    40%    
    40%   
    20%   
$ 10,000 $ 130,000 $ (18,000) $ (45,000) $ (27,000) $ (50,000)
38,000
(43,000)
48,000
87,000
(18,000)
 (18,000)              

  18,000
30,000
87,000
(30,000)
$
$ 87,000 $
$

Capital balances before safe payment to partners
Allocation of potential loss
Allocation of deficit
Safe payment
Slide
16-16

$

  2,000
(43,000)

  2,000
(25,000)

1,000
(49,000)

(43,000)
1,667
(41,333) $

(25,000)

(49,000)
28,333
(25,000) $ (20,667)

(43,000)
34,800
(8,200)
6,533
(1,667) $

(25,000)
(49,000)
34,800
17,400
9,800
(31,600)
(9,800)
3,267
$ (28,333)

LO 4 Safe payment approach.


Installment
Installment Liquidation
Liquidation
Advance Plan for the Distribution of Cash
Objective is to derive the order and the amount

of cash that should be distributed to each
partner such that no partner receiving a cash
distribution will have to make an additional
investment.

Slide
16-17

LO 5 Four steps in an advance plan.


Installment
Installment Liquidation
Liquidation
Advance Plan for the Distribution of Cash
Step 1 Determine net capital interest of each partner.
Step 2 Provide an order of cash distribution in which the
ratio of partners’ capital interest will eventually be
equal to their profit and loss ratio. (All partners will
then have an equal ability to absorb their share of partnership
losses.)

Step 3 Determine the amount of cash to distribute to
bring the ratios of their capital interests into
alignment with their profit and loss ratios.
Step 4 Prepare a cash distribution plan.
Slide
16-18

LO 5 Four steps in an advance plan.

Installment
Installment Liquidation
Liquidation
Problem 16-5: Baker, Strong, and Weak have called on
you to assist them in winding up the affairs of their
partnership.
1. The trial balance of the partnership at June 30, 2008, is:

Slide
16-19

Debit
Credit
Cash
$ 6,000
Accounts Receivable
22,000
Inventory
14,000
Plant and Equipment (net)
99,000
Baker, Advance
12,000
Weak, Advance
7,500
Accounts Payable
$ 17,000
Baker, Capital

67,000
Strong, Capital
45,000
Weak, Capital
31,500
Total
$160,500
$160,500
LO 5 Four steps in an advance plan.


Installment
Installment Liquidation
Liquidation
Problem 16-5:
2. The partners share profits and losses as follows: Baker,
40%; Strong, 40%; and Weak, 20%.
3. The partners are considering an offer of $100,000 for the
accounts receivable, inventory, and plant and equipment
as of June 30. The $100,000 would be paid to the
partners in installments, the number and amounts of
which are to be negotiated.

Slide
16-20

Required:
Prepare an advance cash distribution plan as of June
30, 2008. Prepare a schedule to show how the
potential cash ($106,000) would be distributed as it

becomes available.

LO 5 Four steps in an advance plan.


Installment
Installment Liquidation
Liquidation
Problem 16-5:
Step 1 Determine net capital interest of each partner.

Capital balance
Advance balance
Net capital interest

Slide
16-21

Baker  
Strong  
Weak    
$ 67,000 $ 45,000 $ 31,500
12,000
0
7,500
$ 55,000 $ 45,000 $ 24,000

LO 5 Four steps in an advance plan.

Installment
Installment Liquidation
Liquidation
Problem 16-5:
Step 2 Provide an order of cash distribution in which
the ratio of partners’ capital interest will eventually be
equal to their profit and loss ratio.
Capital and advance balances
Profit and loss ratio
Loss absorption potential
Order of cash distribution

Slide
16-22

Baker  
Strong  
Weak    
$ 55,000 $ 45,000 $ 24,000
40%
40%
20%
$ 137,500 $ 112,500 $ 120,000
1
3
2

LO 5 Four steps in an advance plan.

Installment
Installment Liquidation
Liquidation
Problem 16-5:
Step 3 Determine the amount of cash to distribute to
bring the ratios of their capital interests into alignment
with their profit and loss ratios.
Profit and loss rates
Loss absorption potential
Net capital interest
Reduce loss absorption potential of Baker

Loss Absorption Potential   
  Baker            Strong         Weak
40%
40%
20%
$ 137,500 $ 112,500 $ 120,000
17,500
120,000

Reduce loss absorption potential of
-Baker
-Weak

Slide
16-23

120,000

7,500
$

Remainder

112,500

Cash Distribution
   Baker
  Strong   Weak  
40%
40%
20%
$ 55,000 $ 45,000 $ 24,000
7,000
48,000
45,000
24,000
3,000

112,500 $ 112,500

7,500
$ 112,500

$ 45,000
40%

1,500
$ 45,000 $ 22,500

40%
20%

LO 5 Four steps in an advance plan.


Installment
Installment Liquidation
Liquidation
Problem 16-5: Step 4
plan.
First
Next
Next
Remainder

To Creditors
To Baker
To Baker and Weak
Remainder -Profit and Loss Ratio

Slide
16-24

$ 17,000
7,000
4,500

Prepare a cash distribution

Creditors
100%

Cash Distribution
   Baker
  Strong 
100%
67%
40%

33%
20%

40%

Cash Distribution
     Total    Creditors    Baker   Strong
$ 17,000 $ 17,000
7,000
$ 7,000
4,500
3,000
77,500
$ 106,000

 Weak  

Weak

$

1,500

31,000 $ 31,000
15,500
$ 17,000 $ 41,000 $ 31,000 $ 17,000
LO 5 Four steps in an advance plan.


Installment
Installment Liquidation
Liquidation

Review Question
In a partnership liquidation, the final cash
distribution to the partners should be made in
accordance with the:
a. partners' profit and loss sharing ratio.
b. balances of the partners' capital accounts.
c. ratio of the capital contributions by the
partners.
d. ratio of capital contributions less
withdrawals by the partners.

Slide
16-25

LO 5 Four steps in an advance plan.