AC 304: ADVANCED FINANCIAL
ACCOUNTING
CONSOLIDATION OF
FINANCIAL STATEMENTS
To be covered
1. Definitions
2. Why consolidated group accounts
3. Exemptions from presenting group financials
4. Control
5. Purchase consideration
6. Goodwill computation
7. IAS 28 investment in Associate
8. IFRS 11: Joint Arrangements
9. Basic consolidation Techniques
ü Consolidated SOFP
ü Consolidated SPL&OCI
Definitions
A parent: Is an entity that controls another entity
A subsidiary: Is an entity that is controlled by another entity
Control: Is the power to govern the financial and operating policies
of an entity so as to obtain benefits from its activities.
A group: Parent Company & Subsidiaries
Non controlling interest: Equity in a subsidiary not attributable,
directly or indirectly to a parent.
Effective controlling interest: Equity in a subsidiary attributable,
directly or indirectly to a parent.
Consolidated financial statements: The financial statements of a
group in which the assets, liabilities, equity, income, expenses and
cash flows of the parent and its subsidiaries are presented as those
of a single economic entity.
Why consolidated group accounts?
ü To show a clearer picture of the position and profitability of a
parent company and its subsidiaries after properly making the
necessary adjustments for inter-company dealing and
transactions.
ü To show how the management of the parent company was
able to utilize the assets at its disposal to generate profit.
ü Attempt to show the financial position and earnings of a
company as if the parent company. bought assets of the
subsidiary instead of buying the share capital.
Exemption from presenting
Consolidated financial
v The parent is itself a wholly-owned subsidiary, or is a partially
owned subsidiary of another entity and its other owners, including
those not otherwise entitled to vote, have been informed about,
and do not object to, the parent not presenting consolidated
financial statements;
v The parent's debt or equity instruments are not traded in a public
market (a domestic or foreign stock exchange or an over-thecounter market, including local and regional markets);
v The parent did not file, nor is it in the process of filing, its financial
statements with a securities commission or other regulatory
organization for the purpose of issuing any class of instruments in
a public market; and
v The ultimate or any intermediate parent of the parent produces
consolidated financial statements available for public use that
comply with International Financial Reporting Standards
CONTROL
Control is presumed when one entity acquires more than one-half of
another entity's voting rights, unless it can be demonstrated that
such ownership does not constitute control
Even if one of the entity does not acquire more than one-half of the
voting rights of another entity, it might have obtained control of
that other entity if, as a result of the combination, it obtains:
i. Power over more than one-half of the voting rights of the other
entity by virtue of an agreement with other investors; or
ii. Power to govern the financial and operating policies of the
other entity under a statute or an agreement; or
iii. Power to appoint or remove the majority of the members of the
board of directors or equivalent governing body of the other
entity; or
iv. Power to cast the majority of votes at meetings of the board of
directors or equivalent governing body of the other entity.
PURCHASE CONSIDERATION
Purchase consideration refers to what an entity gives up to
acquire an interest in another entity. This amount is used to
compute goodwill that arises out of acquisition that results to
control. This includes the fair value of all forms of consideration
at the acquisition date.
The consideration transferred may include cash, other assets, a
business or subsidiary of the acquirer, contingent consideration,
ordinary or preference equity instruments, options or warrants.
However, there are four possible common forms of
considerations as follows:ü Cash
ü Share exchange or loan for share exchange
ü Deferred consideration
ü Contingent consideration
PURCHASE CONSIDERATION
When calculating goodwill the considerations transferred for
acquisition may be measured as follows:
Cash consideration:- This should be measured at the actual
cash transferred to acquire the subsidiary.
Share for share exchange:- This is when the parent offers
shares to existing shareholders of subsidiary in exchange
equity interests (shares) in subsidiary. This should be measured
at the fair value of parent’s shares transferred as at the date of
acquisition. The nominal value of equity should be recorded
separately with premium
Deferred consideration: This is consideration which is not
payable immediately but is payable in the future subject to no
condition whatsoever. Such consideration should be valued at
present value of the amount payable in the future discounted
using the cost of capital to parent. This is subsequently
increased by finance cost which has to expensed at the end of
each period.
PURCHASE CONSIDERATION
Contingent consideration: This is cash considerations which is
payable in the future with conditions attached. It is initially
recorded in parent’s books at it’s Fair-Value as at the
acquisition date (normally provided).
Loan Consideration: This occurs when shareholders of
subsidiary are issued with loan (debt) instruments for free in
exchange of acquired interest in subsidiary. This is measured at
Nominal Value of instrument offered with finance cost being
periodically expensed.
Purchase consideration does not include costs of acquisition.
Those costs include finder’s fees; advisory, legal, accounting,
valuation and other professional or consulting fees; general
administrative costs, including the costs of maintaining an
internal acquisitions department, which must be expensed as
incurred, or in the case of debt or equity issue costs, dealt with
according to IFRS 9 / IAS 32.
GOODWILL COMPUTATIONS
Partial goodwill
ü If the non-controlling interest is valued at the noncontrolling interest’s proportionate share of the
acquiree’s identifiable net assets measured at fair value
(as stated above) then the resultant goodwill is partial
goodwill.
ü This approach is similar to the method under the old IFRS
3 - goodwill is the difference between the consideration
paid to the acquirer and its share of identifiable net
assets acquired.
ü This is referred to as a ‘partial goodwill’ method because
goodwill related only to the parent is brought into the
books of accounts.
ü The method used for valuation of non-controlling interest
indirectly ensures that there is no goodwill recognised
for the non-controlling interest’s share.
GOODWILL COMPUTATIONS
Full goodwill
ü If the non-controlling interest is valued at fair value, the
resultant goodwill is full goodwill.
ü It is called the full goodwill method because the goodwill
pertaining to the parent as well as the non-controlling
interest is recognized in the financial statements.
ü The upside of recognizing full goodwill (method 2) is that
assets on the statement of financial position will be
increased. Also using this method will be consistent with the
definition of control which requires the entity having control
over another entity to consolidate 100% of net asset.
ü The potential downside is that any future impairment of
goodwill will be greater. However, goodwill impairment
testing may be easier in that there is no need to gross up
goodwill for partially owned subsidiaries.
IAS 28 Investment in Associates
An Associate is an entity over which the investor has significant
influence and which is neither a subsidiary nor a joint venture of the
investor.
Significant influence is the power to participate in, but not control, the
financial and operating policy decisions of an entity. It is usually
evidenced by representation on the board of directors, which allows
the investing entity to participate in policy decisions. A holding
between 20% and 50% of the voting power is presumed to give
significant influence, unless it can be clearly demonstrated that this is
not the case. Conversely, it is presumed that a holding of less than 20%
does not give significant influence, unless such influence can be clearly
demonstrated.
Accounting for associates are not consolidated as the parent does not
have control. Instead they are shown in the non-current assets section
of the consolidated statement of financial position. Determination of
Investment in associate or joint venture value will be shown in later
slides as part of consolidation technique.
BASIC CONSOLIDATION TECHNIQUES
The principle of commercial substance over legal form is
applied(substance over form) i.e. individual assets and
liabilities are combined because they are under the control
of the parent company
Control is reflected by all of the assets and liabilities of the
subsidiary
The actual ownership of the shares in the subsidiary are
reflected in an adjustment for Non Controlling Interest in
the equity section of consolidated statement of financial
position
Consolidated Statement of Financial Position
Step 1: Establish group structure
Step 2: Determine net assets of subsidiary (at the date of
acquisition and reporting date)
Step 3: Determine goodwill on acquisition
Step 4: Calculate Non Controlling Interest
Step 5: Calculate the value of investment in Associate
Step 6: Compute consolidated retained earnings
Step 7: Prepare a consolidated SOFP
Consolidated Statement of Financial Position
Step 1/w1: Group Structure
Refer to previous discussion on group structure.
Here you are also required to identify the effective acquisition
date, reporting date and consequently consolidation period.
This working is useful to decide the status of any investments. If
one entity is controlled by another entity then it is a subsidiary
and must be consolidated.
Consolidated Statement of Financial Position
W2: Net assets of each subsidiary
This working sets out the fair value of the subsidiary's identifiable net assets
at acquisition date and at the reporting date.
Equity capital
Share premium
Other components of equity
Retained earnings
Fair-value Adjustment
Post acq'n dep'n/amort. on FVA
PURP if the sub is the seller
At acquisition At reporting date
X
X
X
X
X
X
X
X
(X)/X
(X)/X
(X)/X
(X)
Sub's dividend (if not yet accounted for)
(X)
xxx
xxx
PAP
xxx
Consolidated Statement of Financial Position
W2: Net assets of each subsidiary
Remember to update the face of the statement of
financial position for adjustments made to the net assets
at the reporting date (such as fair value uplifts and
provisions for unrealised profits (PURPS)).
The fair value of the subsidiary's net assets at the
acquisition date are used in the calculation of goodwill.
The movement in the subsidiary's net assets since
acquisition is used to calculate the non-controlling interest
and group reserves.
Consolidated Statement of Financial Position
W3: Goodwill
Fair value of purchase consideration
NCI at acquisition**
Less: Fair value of identifiable net assets at acquisition
(w2)
Goodwill at acquisition
Less: Impairment to date
Goodwill to consolidated SFP
Amount
x
x
xx
(xx)
xx
(x)
xx
**If full goodwill method adopted, NCI value = FV of NCI at date
of acquisition. This will normally be given in a question.
**If proportionate goodwill method adopted, NCI value = NCI %
of the fair value of the net assets at acquisition (per W2).
Consolidated Statement of Financial Position
W4: Non-Controlling Interest
Amount
NCI value at acquisition (W3)
x
NCI % of post-acquisition movement in net assets (W2)
x
Less: NCI % of goodwill impairment (fair value method only) (x)
NCI to consolidated SFP
xx
Consolidated Statement of Financial Position
W5: Investment in associate
Amount
Cost
x
Add: P% of increase in reserves
x
Less: impairment losses
x
Less: P% of unrealised profits if P is the seller
x
Less: P% of excess depreciation on fair value adjustments
x
Investment in associate
xx
Consolidated Statement of Financial Position
W5: Group Reserve:-Retained Earnings
Parent's retained earnings (100%)
For each subsidiary: group share of post
acquisition retained earnings (W2)
Add: gain on bargain purchase (W3)
Less: goodwill impairment** (W3)
Less: PURP if the parent was the seller
Retained earnings to consolidated SFP
Amount
X
X
X
(X)
(X)
XX
** If the NCI was valued at fair value at the acquisition date,
then only the parent's share of the goodwill impairment is
deducted from retained earnings.
Consolidated Statement of Financial Position
W5: Group Reserve:-Other components of equity
Other components of equity
For each subsidiary: group share of postacquisition other components of equity (W2)
Other components of equity to consolidated SFP
.
Amount
x
x
xx
Consolidated Statement of Financial Position
Step 07:Group statement of financial position as at the reporting
date
Goodwill (W3)
Assets (P + S)
Total assets
Owner's equity and liabilities
Equity capital (Parent's only)
Retained earnings (W5)
Other components of equity (W5)
Non-controlling interest (W4)
Total equity
Liabilities (P + S)
Total equity and liabilities
Amount
x
x
xx
x
x
x
x
xx
x
xx
Consolidated Statement of Financial Position
ü Eliminate the carrying amount of the parent's
investments in its subsidiaries (these will be replaced
by goodwill)
ü Add together the assets and liabilities of the parent
and its subsidiaries in full
ü Include only the parent's balances within share capital
and share premium
ü Set up and complete standard workings 1 – 5 to
calculate goodwill, the non-controlling interest and
group reserves.
Principles of Consolidated income Statement
The consolidated income statement shows the profit
generated by all resources disclosed in the related
consolidated statement of financial position, i.e. the net assets
of the parent company (P) and its subsidiary (S).
The consolidated income statement follows these basic
principles:
• From revenue to profit for the year include all of P’s
income and expenses plus all of S’s income and expenses
(reflecting control of S).
• After profit for the year show split of profit between
amounts attributable to the parent's shareholders and
the non-controlling interest (to reflect ownership).
Principles of Consolidated income Statement
The mechanics of consolidation
As with the statement of financial position, it is common to use
standard workings when producing a consolidated income
statement:
• Group structure diagram
• Net assets of subsidiary at acquisition (required for goodwill
calculation - if asked to calculate)
• Goodwill calculation (if asked to calculate goodwill or if you are
required to calculate an impairment that is to be charged to
profits)
• Non-controlling interest (NCI) share of profit (see below)
Principles of Consolidated income Statement
Non-Controlling Interest
Profit
TCI
Profit/TCI of the subsidiary for the year
(pro-rated for mid-year acquisition)
X
X
PURP (if S is the seller)
(X)
(X)
Excess depreciation/amortisation
Goodwill impairment (under FV model
only)
(X)
(X)
(X)
X
(X)
X
X
X
× NCI %
Profit/TCI attributable to the NCI
Principles of Consolidated income Statement
Investment in Associate
For an associate, a single line item is presented in the
statement of profit or loss below operating profit. This is
made up as follows:
Amount
P% of associate's profit after tax
X
Less: Current year impairment loss
(X)
Less: P% of unrealised profits if associate is the seller
(X)
Less: P% of excess depreciation on fair value
(X)
adjustments
Share of profit of associate
X
Principles of Consolidated income Statement
Investment in Associate
Dividends received from the associate must be removed from the
consolidated statement of profit or loss.
Transactions and balances between the associate and the parent
company are not eliminated from the consolidated financial statements
because the associate is not a part of the group.
The group share of any unrealised profit arising on transactions between
the group and the associate must be eliminated.
If the associate is the seller:
üDr. Share of the associate's profit (P/L)/Retained earnings (SFP)
üCr. Inventories (SFP)
If the associate is the purchaser:
üDr. Cost of sales (P/L)/Retained earnings (SFP)
üCr. Investment in the associate (SFP)
Pro-foma Consolidated income Statement
Revenue (P + S)
Cost of sales (P + S)
Gross profit
Operating costs (P + S)
Profit from operations
Share of profit from associate
Investment income (P + S)
Finance costs (P + S)
Profit before tax
Income tax (P + S)
Profit for the period
Other comprehensive income (P + S)
Total comprehensive income
Amount
X
(X)
XX
(X)
XX
X
X
(X)
XX
(X)
XX
X
XX
Pro-foma Consolidated income Statement
Profit attributable to:
Equity holders of the parent (bal. fig)
X
Non-controlling interest
X
Profit for the period
XX
Total comprehensive income attributable
to:
Equity holders of the parent (bal. fig)
X
Non-controlling interest
Total comprehensive income for the
period
X
XX
Possible Adjustments
1) Sales and purchases
The effect of intra-group trading must be eliminated from the
consolidated income statement. Such trading will be included in
the sales revenue of one group company and the purchases of
another.
• Consolidated sales revenue = P’s revenue + S’s revenue –
intra-group sales.
• Consolidated cost of sales = P’s COS + S’s COS – intragroup sales.
2) Interest
• If there is a loan outstanding between group companies
the effect of any loan interest received and paid must be
eliminated from the consolidated income statement.
• The relevant amount of interest should be deducted from
group investment income and group finance cost.
Possible Adjustments
3. Dividends
A payment of a dividend by S to P will need to be
cancelled. The effect of this on the consolidated is:
• Only dividends paid by P to its own shareholders
appear in the consolidated financial statements.
These are shown within the consolidated
statement of changes in equity.
• Any dividend income shown in the consolidated
income statement must arise from investments
other than those in subsidiaries or associates.
Possible Adjustments
4.
Provision for un-realised profit Inventory
• If any goods sold intra-group are included in closing inventory,
their value must be adjusted to the lower of cost and net
realizable value (NRV) to the group (as in the Consolidated
Statement Financial Position).
• The adjustment for un-realised profit should be shown as an
increase to cost of sales (return inventory back to true cost to
group and eliminate un-realised profit).
5. Transfers of non-current assets
If one group company sells a non-current asset to another group
company the following adjustments are needed in the income
statement to account for the unrealized profit and the additional
depreciation.
• Any profit or loss arising on the transfer must be removed from
the consolidated income statement.
• The depreciation charge must be adjusted so that it is based on
the cost of the asset to the group.
Possible Adjustments
6. Impairment of goodwill
• Once any impairment has been identified during the
year, the charge for the year will be passed through the
consolidated income statement.
• This will usually be through operating expenses,
however always follow instructions from the examiner.
• If non-controlling interests have been valued at fair
value, a portion of the impairment expense must be
removed from the non-controlling interest's share of
profit
Possible Adjustments
7. Fair values
If a depreciating non-current asset of the subsidiary has
been revalued as part of a fair value exercise when
calculating goodwill, this will result in an adjustment to the
consolidated income statement.
• The subsidiary's own income statement will include
depreciation based on the value the asset is held at in the
subsidiary's own SFP.
• The consolidated income statement must include a
depreciation charge based on the fair value of the asset,
included in the consolidated Statement Financial Position.
• Extra depreciation must therefore be calculated and
charged to an appropriate cost category (usually in line
with examiner requirements
IFRS 11: JOINT ARRANGEMENTS
IFRS 11 Joint Arrangements adopts the definition of control as
included in IFRS 10 as a basis for determining whether there is
joint control.
Joint arrangements are defined 'as arrangements where two
or more parties have joint control‘. This will only apply if the
relevant activities require unanimous consent of those who
collectively control the arrangement.
Joint arrangements may take the form of either joint
operations or joint ventures.
The key distinction between the two forms is based upon the
parties’ rights and obligations under the joint arrangement.
IFRS 11: JOINT ARRANGEMENTS
Joint Operations
Joint operations are defined as joint arrangements whereby 'the
parties that have joint control have rights to the assets and
obligations for the liabilities‘. Normally, there will not be a
separate entity established to conduct joint operations.
Example of a joint operation
A and B decide to enter into a joint operation to produce a new
product. A undertakes one manufacturing process and B
undertakes the other. A and B have agreed that decisions
regarding the joint operation will be made unanimously and that
each will bear their own expenses and take an agreed share of
the sales revenue from the product.
IFRS 11: JOINT ARRANGEMENTS
Joint Ventures
Joint ventures are defined as joint arrangements whereby 'the
parties have joint control of the arrangement and have rights to
the net assets of the arrangement'. This will normally be
established in the form of a separate entity to conduct the joint
venture activities.
Example of a Joint Ventures
A and B decide to set up a separate entity, C, to enter into a joint
venture. A will own 55% of the equity capital of C, with B owning
the remaining 45%. A and B have agreed that decision-making
regarding the joint venture will be unanimous. Neither party will
have direct right to the assets, or direct obligation for the
liabilities of the joint venture; instead, they will have an interest
in the net assets of entity C set up for the joint venture.
Accounting for JOINT ARRANGEMENTS
Joint Operations
If the joint operation meets the definition of a 'business' then the
principles in IFRS 3 Business Combinations apply when an interest in a
joint operation is acquired:
ü Acquisition costs are expensed to profit or loss as incurred
ü The identifiable assets and liabilities of the joint operation are
measured at fair value
ü The excess of the consideration transferred over the fair value of the
net assets acquired is recognised as goodwill.
At the reporting date, the individual financial statements of each joint
operator will recognise:
ü Its share of assets held jointly
ü Its share of liabilities incurred jointly
ü Its share of revenue from the joint operation
ü Its share of expenses from the joint operation.
The joint operator's share of the income, expenses, assets and liabilities
of the joint operation are included in its individual financial statements
and so they will automatically flow through to the consolidated
financial statements.
Accounting for JOINT ARRANGEMENTS
Joint Operations
In the individual financial statements, an investment in a joint
venture can be accounted for:
ü at cost
ü in accordance with IFRS 9 Financial Instruments, or
ü by using the equity method.
In the consolidated financial statements, the interest in the joint
venture entity will be accounted for using the equity method.
The treatment of a joint venture in the consolidated financial
statements is therefore identical to the treatment of an
associate.
QUESTIONS AND ANSWERS
THE END
BE EVER BLESSED BEYOND MEASURES!!