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in Microsoft®
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Prepared by
Peter Secord
Saint Mary’s
University
© 2003 McGraw-Hill
Ryerson Limited
Chapter 10
Other
Consolidation Reporting
Issues
Chapter 10
© 2003 McGraw-Hill Ryerson Limited
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Other Consolidation Reporting Issues
• Chapter Outline
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Joint Ventures and Proportionate Consolidation
Future Income Taxes and Business Combinations
Segmented Disclosures
Examples
International Views
Chapter 10
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Joint Ventures
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Joint Ventures
• Joint Ventures are a common mechanism
where two or more companies with common
interests (but perhaps different geographic or
technical scope) arrange to do business
together, generally on a project or “venture”
basis
– Generally, a separate business entity is formed,
which may or may not be incorporated
– The venturers continue in their own businesses;
the venture tends to carry on a “new” business
under the control of the venturers, such as
entering a new market or developing a new oil well
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Joint Ventures and Proportionate Consolidation
• Joint ventures are very common in certain
industries, including oil and gas exploration
and development and in food, beverages and
hospitality
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Joint Ventures
• In terms of definitions, the CICA Handbook
notes:
– A joint venture is an “economic activity” resulting
from a contractual arrangement whereby two or
more venturers jointly control the economic activity
• This activity is typically a business venture
– Joint control of an economic activity is the
contractually agreed sharing of the continuing
power to determine its strategic operating,
investing and financing policies
• The venture tends to be governed by a board of
directors appointed by the venturers
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Joint Ventures
• The venturers are the parties to the joint
venture, have joint control over that joint
venture, have the right and ability to obtain
future economic benefits from the resources
of the joint venture and are exposed to the
related risks
• The combination of the joint right and ability
to obtain future economic benefits and
exposure to the related risks suggests that
neither accounting model, full consolidation or
the equity method, is fully appropriate
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Joint Ventures
• The venturers are bound by contractual
arrangements which establish that the venturers
have joint control over the joint venture,
regardless of the difference that may exist in
their ownership interest
– Although they each have “significant influence”, none
of the individual venturers is in a position to exercise
unilateral control over the joint venture
– Decisions in all areas essential to the
accomplishment of the joint venture require the
consent of the venturers in such manner as defined
in the terms of the contractual arrangement
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Joint Ventures
• Joint ventures are unique:
– The characteristic of joint control distinguishes
interests in joint ventures from investments in
other activities where an investor may exercise
control or significant influence
• A contract is generally required, but not in all
cases:
– Activities conducted with no formal contractual
arrangements which are jointly controlled in
substance are joint ventures
• The unique aspects of joint ventures require a
unique accounting treatment
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Joint Ventures and Proportionate Consolidation
• Proportionate consolidation is the
appropriate accounting treatment in Canada
for external financial reporting by venturers of
their investments in joint ventures
• Proportionate consolidation is an application
of the proprietary concept of reporting
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Proportionate Consolidation
• The proprietary approach incorporates the
amounts recorded by the subsidiary into the
consolidated financial statements at fair value
at the date of acquisition, but only to the
extent of the proportion acquired
• The basis of the inclusion in this manner is
that the investor shares in the risks and
rewards of ownership in direct proportion to
the shareholding percentage
• With a joint venture, joint control makes this
treatment appropriate
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Joint Ventures: International View
• Under US GAAP, proportionate consolidation
is not permitted
• Net income will be the same under the equity
method, as the venturer’s share of net
income of the venture is recognized
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Joint Ventures: International View
• Proportionate consolidation is often used by
companies reporting under International
Accounting Standards
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Joint Ventures: International View
2000 annual report
• IAS 31 recommends proportionate consolidation,
allows use of the equity method for joint ventures
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Joint Ventures: International View
• Exercise Caution:
– The term “joint venture” is frequently used in the
“international context” in a manner which is less
restrictive than the definitions of the CICA
Handbook, and (for some companies) refers to
any intercorporate partnership, regardless of the
control structure.
– Proportionate consolidation is not necessarily
applied in all cases which would qualify for this
method in Canada
– Further, proportionate consolidation can be, and
often is, applied in cases that would not qualify in
Canada
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Future Income Taxes and Business
Combinations
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Future Income Taxes and Business Combinations
• The liability method is GAAP for tax allocation
in Canada, in common with the US and IAS
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Future Income Taxes and Business Combinations
• In earlier chapters, we recognized the income
tax effects and accounted for future income
taxes when we eliminated unrealized profits
• We did this when we had asset and liability
values for tax purposes which differed from
values for financial reporting purposes
– Gains realized for tax purposes were unrealized in
the consolidated financial statements
• There are other intercorporate investment
situations where income tax effects, including
future income taxes, must be recognized
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Future Income Taxes and Business Combinations
• At any point in time, there may be a difference
between the tax basis of an asset or liability
and its carrying amount
• This difference can occur when the purchase
discrepancy is recognized and allocated in a
business combination accounted for as a
purchase
• The difference in carrying value (new book
value in consolidation, as compared to tax
basis) gives rise to future income taxes which
must be recognized in the financial statements
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Future Income Taxes and Business Combinations
• Basic principles
– The premise is that an enterprise should recognize
a future income tax liability whenever recovery or
settlement of the carrying amount of an asset or
liability would result in future income tax outflows
– Similarly, an enterprise should recognize a future
income tax asset whenever recovery or settlement
of the carrying amount of an asset or liability would
generate future income tax reductions
• These situations arises whenever the values in
consolidation differ from the tax values as
recorded by the individual companies
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Future Income Taxes and Business Combinations
• There are two essential provisions of the
Handbook which apply in the context of
business combinations:
– “Old” future income taxes recorded by the
subsidiary company are not carried forward into the
consolidated financial statements
– “New” future income taxes are recognized on any
temporary differences arising in consolidation
between the reported values (consolidated) and the
tax basis of the asset on the books of the individual
enterprise (the subsidiary)
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Future Income Taxes and Business Combinations
• Example
– In a business combination, the carrying amount of a
particular asset is stated at its fair value of $20,000.
In the books of the acquired company the asset had
a book value of $12,000 and a tax basis of $9,000,
which does not change. Assume a tax rate of 40%
– The “old” future tax liability of (12,000 - 9,000) * 40%
= $1,200 must be eliminated
– A “new” future tax liability must be reported in the
consolidated financial statements in the amount of
(20,000 - 9,000) * 40% = $4,400
– Such allocations change the reported goodwill
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Future Income Taxes and Business Combinations
• A business combination may increase the
likelihood that loss carry forwards or other tax
deductible amounts may be claimed
– Other previously unrecognized future income tax
assets (of either parent or subsidiary) may be
recognized at the time of a business combination,
providing that it is more likely than not that the
benefits will be realized
– These future income tax assets are identifiable
assets in the allocation of the purchase price
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Segmented Reporting
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Segmented Reporting
• When consolidated financial statements are
prepared, a significant amount of detail is lost
– This lost detail could be very useful for analysts
and other users of the financial statements
– Yet, individual financial statements of subsidiaries
may provide so much information as to overload
– Managers do not wish competitors to have
confidential or sensitive data
• An efficient method of communicating just
enough pertinent detail is necessary
• The mechanism of segmented reporting
provides this vehicle
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Segmented Reporting
• Segments may be defined in various ways;
there are fundamental issues associated with
segment definition:
– The CICA Handbook recommends a management
approach, based on the way segments are
organized within the enterprise for making
operating decisions and assessing performance
– As a result:
• Segments are based on defined organizational
structure in a transparent manner
• Preparers can provide the required information
in a cost-effective and timely manner.
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Segmented Reporting
• To employ the management approach, an
operating segment is defined as a component
of an enterprise:
– that engages in business activities from which it
may earn revenues and incur expenses (including
revenues and expenses relating to transactions
with other components of the same enterprise)
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Segmented Reporting
• To employ the management approach, an
operating segment is defined as a component
of an enterprise:
– that engages in business activities from which it
may earn revenues and incur expenses (including
revenues and expenses relating to transactions
with other components of the same enterprise)
– whose operating results are regularly reviewed by
the enterprise's chief operating decision maker to
make decisions about resources to be allocated to
the segment and assess its performance, and
Chapter 10
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Segmented Reporting
• To employ the management approach, an
operating segment is defined as a component
of an enterprise:
– that engages in business activities from which it
may earn revenues and incur expenses (including
revenues and expenses relating to transactions
with other components of the same enterprise)
– whose operating results are regularly reviewed by
the enterprise's chief operating decision maker to
make decisions about resources to be allocated to
the segment and assess its performance, and
– for which discrete financial information is available
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Segmented Reporting
• Separate disclosure is required for segments
when one or more of these thresholds is met:
– Reported revenue, both external and intersegment, is
10 percent or more of the combined revenue, internal
and external, of all segments
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Segmented Reporting
• Separate disclosure is required for segments
when one or more of these thresholds is met:
– Reported revenue, both external and intersegment, is
10 percent or more of the combined revenue, internal
and external, of all segments
– The absolute amount of reported profit or loss is 10
percent or more of the greater, in absolute amount, of:
• the combined reported profit of all operating
segments that did not report a loss, or
• the combined reported loss of all operating
segments that did report a loss.
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Segmented Reporting
• Separate disclosure is required for segments
when one or more of these thresholds is met:
– Reported revenue, both external and intersegment, is
10 percent or more of the combined revenue, internal
and external, of all segments
– The absolute amount of reported profit or loss is 10
percent or more of the greater, in absolute amount, of:
• the combined reported profit of all operating
segments that did not report a loss, or
• the combined reported loss of all operating
segments that did report a loss.
– Its assets are 10 percent or more of the combined
assets of all operating segments.
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Segmented Reporting
• General information is required:
– Factors used to identify the enterprise's reportable
segments, including the basis of organization
• whether management has chosen to organize the
enterprise around differences in products and
services, geographic areas, regulatory
environments, or a combination of factors and
whether operating segments have been aggregated
– Types of products and services from which each
reportable segment derives its revenues
• Note that the prior approach of geographic and
industrial segmentation has been superceded
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Segmented Reporting
• Segment information is provided for the following
items, until 75% of the total revenue is reached:
– A measure of profit or loss and total assets for each
reportable segment, including detail of
• Revenues, separating internal and external
• Interest revenue and interest expense (separately)
• Amortization and other significant non-cash items
• Unusual items and extraordinary items (separately)
• Equity in the net income of investees
• Income tax expense or benefit
• Investments subject to significant influence
• Expenditure on capital assets and goodwill
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Segmented Reporting
• Comprehensive reconciliation to consolidated
amounts is required:
– The total of the reportable segments' revenues to
the enterprise's total revenues.
– The total of the reportable segments' measures of
profit or loss to the enterprise's corresponding
measure of profit or loss
– The total of the reportable segments' assets to the
enterprise's total assets.
– For all other significant items, in a like manner
• All significant reconciling items should be
separately identified and described
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Segmented Reporting
• Segmented disclosure is generally in the
notes, but can also be on the face of the
financial statements
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Segmented Reporting
• Segmented disclosure is potentially minimal
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Segmented Reporting
• Segmented disclosure may also be highly detailed,
with full explanation, definitions and justification of
the approach used and disclosure provided
• Which approach provides more assistance to the
user of the financial statements?
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Segmented Reporting
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Segmented Reporting
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International View
• Under US GAAP, the management approach
to segment disclosure is also required, and
provides similar results
• Under IAS, definitions, thresholds and
reporting criteria are similar, but disclosure is
provided in a matrix format, with geographic
or industry segments defined and identified
as primary or secondary
– For example, this means that if the geographic
areas are identified as primary segments,
secondary segments (industrial) would also be
reported
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International View
• Graphical depiction can be very effective
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International View
• These graphs illustrate the two layer (matrix)
approach recommended under IAS
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