Consolidated Financial
Statements: Issues in IFRS
Asish K Bhattacharyya
Measurement Of Subsidiary’s
Assets and Liabilities At Fair Value
• IFRS-3 has adopted the entity theory in
stipulating accounting principles and methods
for combining the financial statements of a
parent and its subsidiaries.
• The entity theory views the parent and
subsidiary as a single entity.
• Accordingly, all the assets and liabilities of the
subsidiary and any goodwill are reflected in the
consolidated balance sheet at their full fair
values on the date of combination, regardless of
the actual percentage of ownership acquired.
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Measurement Of Subsidiary’s
Assets and Liabilities At Fair Value
• Therefore, the first step in the preparation of
consolidated financial statements is to restate
the assets and liabilities notionally in the
subsidiary’s balance sheet on the date of
acquisition at their fair value.
• The next step is to prepare consolidated
financial statements.
• The consolidation procedure stipulated in IAS-27
is substantially same as that in AS-21.
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Negative Goodwill
• If the parent’s share in the net fair value of
subsidiary’s assets and liabilities at the
date of acquisition exceeds the parent’s
cost of acquisition, the excess is often
described as ‘negative goodwill’.
• IFRS-3 requires that the negative goodwill
should be recognized in the profit and loss
account.
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Negative Goodwill
• Therefore, in preparing consolidated financial
statements immediately after the parentsubsidiary relationship is established, the
negative goodwill should be recognized in the
consolidated profit and loss account.
• The negative goodwill (income in the bargain
purchase) belongs to the parent.
• Therefore, it should not be considered in
allocating subsidiary’s profit or loss to the
minority interest.
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Minority Interest
• IFRS -3 requires that minority interest should be
presented in the balance sheet within equity,
separate from the parent shareholders’ equity.
• The accounting principle is based on the fact
that a minority interest is not a liability of the
group; rather, it represents the residual interest
in the net asset of the subsidiary by some of the
shareholders of the subsidiary.
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Potential Voting Rights
• IFRS -3 stipulates that in order to assess
whether one entity has control over another, the
existence and effect of potential voting rights
that are currently exercisable or convertible
should be considered.
• In consolidating financial statements of a parent
and its subsidiary, the proportions of profit or
loss and changes in equity allocated to the
parent and minority interests are determined
based on the present ownership interests and
do not reflect the possible exercise or
conversion of potential voting rights.
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Variable Interest Entities
• Commonly, SPEs are set up as trusts or
partnerships with very little equity
participation.
• Equity investors in an SPE usually do not
bear the residual economic risks.
• Therefore, it is not appropriate to
determine control over the financial and
operating decisions of an SPE based on
equity voting rights of different entities.
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Variable Interest Entities
• Moreover, some types of SPEs are controlled
through some arrangements other than voting
interests.
• As a result, these SPEs are outside the purview
of ARB-51, which has taken the voting interest
approach in determining whether an enterprise
has a controlling financial interest in another
entity.
• FASBI-46 brings within the purview of ARB-51
an SPE in which an enterprise has a controlling
financial interest although it does not hold a
majority voting interest.
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Variable Interest Entities
• An entity that is the primary beneficiary of
a VIE must present consolidated financial
statements by consolidating the VIE’s
financial statements with its own.
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Variable Interest Entities: Definition
• FASBI-46 covers those VIEs which have
one or both of the following characteristics:
1. The equity investment at risk is not
sufficient to permit the entity to finance its
activities without additional subordinated
financial support from other parties
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Variable Interest Entities: Definition
• 2. As a group, the holders of the equity investment at
risk lack any one of these three characteristics of a
controlling financial interest:
(a) The direct or indirect ability to make decisions about
the entity’s activities through voting or similar rights
( b) The obligation to absorb the expected losses of the
entity if they occur, which makes it possible for the entity
to finance its activities
(c) The right to receive the expected residual returns of
the entity if they occur, which is the compensation for the
risk of absorbing the expected losses
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Variable Interest Entities: Definition
• ‘Subordinated financial support’ refers to
variable interests that will absorb some or
all of an entity’s expected losses if they
occur.
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Primary Beneficiary
• The primary beneficiary of a VIE is an entity that
absorbs a majority of the VIE’s expected losses,
receives a majority of its expected return or both,
as a result of holding variable interests (i.e.
ownership, contractual, or other pecuniary
interests).
• An entity having a variable interest in a VIE
should determine at the time it becomes
involved with the entity whether or not it is the
primary beneficiary of the entity.
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