concepts of consolid. statements - 1 parent subsidiary consolidated financial statements are...

Concepts of Consolid. Statements - 1

Parent Subsidiary

Consolidated financial statements

are prepared.

Concepts of Consolidated Financial Statements

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CONSOLIDATEDFINANCIAL STATEMENTS

“Economic Substance Over Legal Form”

Conditions for consolidation– Majority control

• Parent company owns more than 50% of voting stock• Intent is long-term control• ALL majority owned subsidiaries MUST be

consolidated (SFAS No. 94 - October 1987)

– Effective control by majority shareholders• Not in bankruptcy or reorganization• Not in restricted foreign environment


CONSOLIDATED STATEMENTSGeneral Concepts

Same GAAP as separate statements

Only external transactions

Specific consolidation mechanics depend on Parent’s accounting for investment in subsidiary


CONSOLIDATED STATEMENTSOther Issues

Classification of “noncontrolling” (minority) interest

Elimination of intercompany items– Receivables and payables– Profits on intercompany sales

Mechanics of consolidation


LIMITATIONS OFCONSOLIDATED STATEMENTS

Limited relevance for certain users– Minority stockholders– Separate creditors– Regulatory authorities (related to

subsidiary)

Consolidation of highly diversified companies

Difficult financial analysis


Consolidation - The Effects of the Passage of Time

The parent can account for its

investment in one of three ways:

Equity Method Cost Method Partial Equity

The parent can account for its

investment in one of three ways:

Equity Method Cost Method Partial Equity

Let’s briefly compare the

three methods

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Concepts of Consolid. Statements - 73-7

Concepts of Consolid. Statements - 83-8


Before the consolidation balances can be determined, the Parent’s investment

account must be adjusted to reflect

application of the Equity method.Record the Investment in Sub on the

acquisition date.Recognize the receipt of dividends

from the sub.Recognize a share of the sub’s

income (loss).FMV adjustments and other

intangible assets.

Record the Investment in Sub on the acquisition date.

Recognize the receipt of dividends from the sub.

Recognize a share of the sub’s income (loss).

FMV adjustments and other intangible assets.

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CONSOLIDATION MECHANICS

Consolidation workpapers– No “set of books” for consolidated entity– Each party maintains their own books

Eliminating entries– Necessary to eliminate “intercompany

items”– Appear only on consolidation workpapers


CONSOLIDATION MECHANICS

OtherAssets(BOOK)

Invest.In S

(ELIMIN)

Liab.(BOOK)

Stk.Equity

OtherAssets(FMV)

Liab.(FMV)

Stk.Equity(ELIMIN)

Parent Co. Subsidiary Co. Consolidated Entity

OtherAssets

Liab.

Stk.Equity

+

+

=

=

Consolid – Other. Issues - 12

INVESTMENT ELIMINATION

Investment account (Parent’s books) vs. Stockholders’ equity (Subsidiary’s books)

Treatment of the differential– Cost of the investment– FMV of subsidiary’s net assets– Book value of subsidiary’s net assets


INVESTMENT ELIMINATIONContinued

Positive differential (Cost vs. Book value)– Errors or omissions on subsidiary’s books– Excess of FMV over book value of subsidiary’s

net assets– Existence of goodwill

Negative differential (Cost vs. Book value)– Errors or omissions on subsidiary’s books– Excess of book value over FMV of subsidiary’s

net assets– Bargain purchase or “negative goodwill”


INVESTMENT ELIMINATIONContinued

Treatment of noncontrolling interest Cost vs. Equity methods on Parent’s books Intercompany receivables and payables Valuation accounts at acquisition

– Accumulated depreciation– Allowance for change in FMV of investment

securities– Allowance for uncollectible accounts– Discount or premium on bonds payable

Negative Retained earnings of subsidiary at acquisition Other stockholders’ equity accounts

– Accounts accruing to common stock


Subsequent Consolidation - Worksheet Entries

5 basic entries are posted to the worksheet.The Sub’s equity accounts are eliminated.Other intangible assets are recorded and

the Sub’s assets are adjusted to FV. The Equity in Sub Income account is

eliminated.The Sub’s dividends are eliminated.Amortization Expense is recorded for the

FMV adjustments and other intangible assets associated with the consolidated entity.

5 basic entries are posted to the worksheet.The Sub’s equity accounts are eliminated.Other intangible assets are recorded and

the Sub’s assets are adjusted to FV. The Equity in Sub Income account is

eliminated.The Sub’s dividends are eliminated.Amortization Expense is recorded for the

FMV adjustments and other intangible assets associated with the consolidated entity.

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ELIMINATING ENTRIESFirst Subsequent Period

(Equity Method)

Impact of current equity method entries– Ignore any impairment of goodwill

Assignment of income to noncontrolling interest

Investment account – Stockholders’ equity of subsidiary– Including identification of noncontrolling interest– Identification of differential– Allocation of differential– Depreciation/amortization of appropriate differentials– Impairment of goodwill


ELIMINATING ENTRIESFurther Subsequent Period

(Equity Method) Impact of current equity method entries

– Ignore impairment of goodwill

Assignment of income to noncontrolling interest

Investment account – Stockholders’ equity of subsidiary– Retained earnings of subsidiary at BEGINNING of current

year– Including identification of noncontrolling interest– Identification of REMAINING differential– Allocation of REMAINING differential

• Including appropriate valuation accounts– Depreciation/amortization of appropriate differentials– Impairment of goodwill


Applying the Cost Method

If the COST METHOD is used by the parent If the COST METHOD is used by the parent company to account for the investment, then the company to account for the investment, then the consolidation entries will change only slightly.consolidation entries will change only slightly.

If the COST METHOD is used by the parent If the COST METHOD is used by the parent company to account for the investment, then the company to account for the investment, then the consolidation entries will change only slightly.consolidation entries will change only slightly.

Remember . . . Remember . . .

1. No adjustments are recorded in the Investment account for current year operations, dividends paid by the subsidiary, or amortization of purchase price allocations.

2. Dividends received from the subsidiary are recorded as Dividend Revenue.

1. No adjustments are recorded in the Investment account for current year operations, dividends paid by the subsidiary, or amortization of purchase price allocations.

2. Dividends received from the subsidiary are recorded as Dividend Revenue.

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Consolidation EntriesCost Method

Adjust Investment in Sub to equity method as of the beginning of the period

This would be necessary for periods after the year of the Investment in the Sub.

This entry is NOT REQUIRED under the Equity Method

Adjust Investment in Sub to equity method as of the beginning of the period

This would be necessary for periods after the year of the Investment in the Sub.

This entry is NOT REQUIRED under the Equity Method

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Eliminate the sub’s equity balances as of the beginning of the period.

This entry is the same under both the Equity Method and the Cost Method.

Eliminate the sub’s equity balances as of the beginning of the period.


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Consolidation EntriesCost MethodAdjust sub’s assets and liabilities to FV.

Set up the Goodwill account and the other intangible assets. This is part of the

elimination of the Investment in Subsidiary account.


Adjust sub’s assets and liabilities to FV.Set up the Goodwill account and the other

intangible assets. This is part of the elimination of the Investment in Subsidiary

account.This entry is the same under both the Equity Method and

the Cost Method.

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This entry is different under the Cost Method.Eliminate the Parent’s Dividend Income

account.Also, eliminate the Sub’s Dividends Paid

account.

This entry is different under the Cost Method.Eliminate the Parent’s Dividend Income

account.Also, eliminate the Sub’s Dividends Paid

account.

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SFAS No. 142 - Goodwill and Other Intangible Assets

For fiscal periods beginning AFTER

December 15, 2001, goodwill is no longer

amortized.

For fiscal periods beginning AFTER

December 15, 2001, goodwill is no longer

amortized.

The “nonamortization” rule is applied to both previously recognized

and newly acquired goodwill.

The “nonamortization” rule is applied to both previously recognized

and newly acquired goodwill.

Any unamortized goodwill arising

from pre-SFAS 142 combinations is

carried on the books as a

permanent asset (subject to

impairment).

Any unamortized goodwill arising

from pre-SFAS 142 combinations is

carried on the books as a

permanent asset (subject to

impairment).

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SFAS No. 142 - Goodwill and Other Intangible Assets

Generally, once goodwill has been recorded, the value will remain unchanged.

Generally, once goodwill has been recorded, the value will remain unchanged.

Sale of a ll or part of therelated subsidiary.

Any im pairm ent in the valueof goodw ill should be reported

as an extraordinary item .

A determ ination that goodw illhas experienced a perm anent

im pairm ent of value.

T w o circum stances exist thatw ill result in adjusting the am ount

of goodw ill on the consolidated balance sheet.

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Goodwill Impairment Test

Step 1– Compare fair value of

REPORTING UNIT to carrying value of the REPORTING UNIT


GOODWILL to carrying value of GOODWILL

(SEE HANDOUT)


REPORTING UNIT to carrying value of the REPORTING UNIT


GOODWILL to carrying value of GOODWILL

(SEE HANDOUT)

3-25

concepts of consolid. statements - 1 parent subsidiary consolidated financial statements are...

Documents

separate statements

subsidiary slide

consolidation workpapers

subsidiary consolidation

consolidation balances

consolidated entity

equity elimin parent

parents investment account