Part Two

Consolidated Financial Statements (IFRS

10)
Outline
 Overview
 Application of the control concept
 Consolidation procedure
 Other consolidation requirements
Overview
 IFRS 10 is replaces IAS 27 Consolidated and
Separate Financial Statements and SIC 12
Consolidation-Special Purpose Entity
 Types of interest in other entities
Subsidiary Associate Joint Investment
Interest Interest Arrangement Interest
Ownership ≥50% 20% - 49% Joint < 20%

Accounting IFRS 10 IAS 28 IFRS 11 IFRS 9

Standards

Accounting Control = Significant Joint operation At fair value.

Treatment Consolidation influence = = in accordance Separate
Equity with relevant financial
method IASs/IFRSs; statements
Joint venture = are not
equity method. required.
When to consolidate FSs?
Types of investments
1. Subsidiaries
2. Joint arrangement
3. Associates
4. Other investments

Interaction between IFRS 10, IFRS 11, IFRS 12 and IAS 28

INTRODUCTION
●IFRS 10
6

 requires a parent to present consolidated financial statements, in

which the accounts of the parent and subsidiary (or subsidiaries)
are combined and presented as a single entity.
statements
Exception!!! A parent need not present consolidated financial
if and only if all of the following hold.
(a) The parent is itself a wholly-owned subsidiary or it 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.
(b) Its securities are not publicly traded.
(c) It is not in the process of issuing securities in public securities
markets.
(d) The ultimate or intermediate parent publishes consolidated
financial statements that comply with IFRS.
IFRS 10 CONSOLIDATED FINANCIAL STATEMENTS

 Definition of Consolidation:
√ The process of combining the F/Ss of a parent
company and one or more legally separate and
distinct subsidiaries as a single economic entity
for financial reporting purposes.
 Definition of 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.
 When and why to prepare Consolidated FSs?
 Why Consolidated F/S
● Consolidated F/S provides Information about

 resources under the control of the group (assets) and

 claims against those resources

 assists users to better assess the prospects for future

net cash inflows to the group which is useful in
making decisions about providing resources to the
group.
When to prepare consolidated FSs?
 When a parent controls a subsidiary!
 How do we know existence of control?
 When an investor controls an investee?
 An investor controls an investee if and only if it has all of the following.
1) Power over the investee
2) Exposure to, or rights to, variable returns from its involvement
with the investee  Risk vs. Return
3) The ability to use its power over the investee to affect the amount
of the investor's returns
 If there are changes to one or more of these three elements of control, then
an investor should reassess
 whether it controls an investee.
 is exposed, or has rights, to variable returns from its involvement
with the investee and
 has the ability to affect those returns through power over the
investee. (IFRS 10)
When to prepare consolidated FSs?
 Power: What it means to you?
 It is the existing rights that give the current
ability to direct the relevant activities (activities of
the investee that significantly affect the investee's
returns) of the investee.
 i.e. financing, operating policies and strategic
activities like
 Rights to appoint, reassign or remove key management
personnel who can direct the relevant activities
 Rights to appoint or remove another entity that directs
the relevant activities
 Rights to direct the investee to enter into, or veto changes
to, transactions for the benefit of the investor
NB. Only substantive rights & rights not protective shall be considered.
When to prepare consolidated
FSs?
Exposure to variable returns
 Returns that are not fixed
 Returns have a potential to vary as a result of
investee’s performance. +ve or –ve return.
Ability to use power
 An investor must have the ability to use its power.
 An investor shall be the principal not the agent.
 ASSESSING CONTROL OF AN INVESTEE
12

1. Determine whether the rights of the investor give it the

ability to direct the relevant activities ABILITY TO
DIRECT
2. Determine whether the investor is exposed, or has
rights, to the variability associated with the returns of
the investee RIGHTS, RISK

3. Determine whether the investor has the ability to use its

power over the investee to affect its own returns
DIRECTING
When to prepare consolidated FSs?
 How power can be obtained?
It arrises from rights-
Voting rights /currently exisiting/: wholly
owned subsiduary or relative size of
investor’s voting right.
Potential voting rights: arising from
convertible instruments or options,
including forward contracts.
Other contractual arrangements, or

A combination thereof.
Application
 Consolidated FSs
Assessing control?
 A parent will have a direct or indirect interest
on a subsidiary.
Which companies does P control?
A. (Identify a subsidiary of Co P?) why?
 S1 Co is a wholly owned subsidiary
 Co. S2 Co, S3 Co and S4 Co are
partly owned subsidiaries.

B. Which companies does P control? (Identify a subsidiary of P?) Why?

 S Co. is a subsidiary: P Co owns 51% of the equity shares in S Co.
 S Co in its turn owns 51% of the equity shares in SS Co. SS Co is
therefore a subsidiary of S Co and consequently a subsidiary of P Co.
 SS Co would describe S Co as its parent (or holding) company and P
Co as its ultimate parent company.
 How much is the share of P in SS Co.?
EXAMPLE: ASSESSING POWER

● Entity A and B each have 50%

ownership interest in the trust.
● Entity A appointed as manager of
Entity A Entity B
trust.
● Manager: manages the assets of
the trust, identifies development
Trust opportunities, manages
development activity and
manages leasing activity.
● Cannot be removed without
cause.
● Relevant activities?
● Who directs?
 Example 1
 An investor acquires 48 per cent of the voting
rights of an investee.
 The remaining voting rights are held by
thousands of shareholders, none individually
holding more than 1 per cent of the voting
rights.
 None of the shareholders has any arrangements
to consult any of the others or make collective
decisions.
 Does the investor with 48% holding has a
control?
Example 1..
 Solutions:
 When assessing the proportion of voting rights
to acquire, on the basis of the relative size of the
other shareholdings, the investor determined
that a 48 per cent interest would be sufficient to
give it control without the need to consider any other
evidence of power.
Example 2
 Investor A holds 40 percent of the voting rights
of an investee and twelve other investors each
hold 5 per cent of the voting rights of the
investee.
 A shareholder agreement grants investor A
the right to appoint, remove and set the
remuneration of management responsible for
directing the relevant activities.
 To change the agreement, a two-thirds
majority vote of the shareholders is required.
 Does Investor A has control? Why?
Example 2...
 Solution: In this case, investor A concludes that the
absolute size of the investor’s holding and the
relative size of the other shareholdings alone are
not conclusive in determining whether the investor
has rights sufficient to give it power. However,
investor A determines that its contractual right to
appoint, remove and set the remuneration of
management is sufficient to conclude that it has
power over the investee.
 The fact that investor A might not have exercised this
right or the likelihood of investor A exercising its right
to select, appoint or remove management shall not be
considered when assessing whether investor A has
power.
Example : 3

 Investor A holds 45 per cent of the voting rights

of an investee.
 Two other investors each hold 26 per cent of the
voting rights of the investee.

 The remaining voting rights are held by three

other shareholders, each holding 1 per cent.
There are no other arrangements that affect
decision-making.
 Does Investor A has control? Why?
Example : 3...

 Solution :
 In this case, the size of investor A’s voting interest
and its size relative to the other shareholdings are
sufficient to conclude that investor A does not have
power.

 Only two other investors would need to co-operate

to be able to prevent investor A from directing the
relevant activities of the investee.
Application example : 4

 An investor holds 45 per cent of the

voting rights of an investee.
 Eleven other shareholders each hold 5
per cent of the voting rights of the
investee.
 None of the shareholders has contractual
arrangements to consult any of the
others or make collective decisions.
 Does an investor has control? Why?
Application example : 4

 Solution
 In this case, the absolute size of the investor’s
holding and the relative size of the other
shareholdings alone are not conclusive in
determining whether the investor has rights
sufficient to give it power over the investee.
 Additional facts and circumstances that may
provide evidence that the investor has, or does
not have, power shall be Considered.
CONSOLIDATED FINANCIAL STATEMENTS
 PRINCIPLE
● Consolidated financial statements present the parent and all
its subsidiaries as financial statements of a single economic
entity. i.e. it is presenting a group of entities as if it were a
single economic entity.
● Requirements for preparation of consolidated financial

statement
1. Uniform accounting policies P & S
2. Same reporting periods for P & S
3. Eliminate intragroup transactions and balances
4. Non-controlling interest (the equity in a subsidiary that
is not attributable, directly or indirectly, to the parent)
is presented within equity, separately from the parent
shareholders’ equity.
Question?
 What you will do if the parent & subsidiary
1. use different accounting policies?
2. Use different reporting periods?
 CONSOLIDATED FINANCIAL STATEMENTS
 Afterwards,
 the aggregated statement of financial position (also called
aggregated balance sheet) and
 the aggregated statement of comprehensive income are
prepared.
 This means that the balance sheets and the statements
of comprehensive income of the parent and of the
combined line by line by
subsidiaries are
adding together like items of assets, liabilities,
equity, income, and expenses (e.g. machines,
inventories, the parent’s investments in its subsidiaries,
and the amounts of share capital)
 CONSOLIDATED FINANCIAL STATEMENTS

Consolidation Procedures
1. Offset (eliminate): the carrying amount of the parent’s
investment in each subsidiary; and the parent’s portion of equity
of each subsidiary;
2. Non-controlling interests in the net income of consolidated
subsidiaries are adjusted against group income, to arrive at the net
income attributable to the owners of the parent.
3. Non-controlling interests in the net assets of consolidated
subsidiaries should be presented separately in the consolidated
statement of financial position.
 Consolidation Procedures
• Other matters to be dealt with include:
(a) Goodwill on consolidation should be dealt with
according to IFRS 3
(b) Dividends paid by a subsidiary must be accounted for
IFRS 10 states that all intragroup balances and
transactions, and the resulting unrealised profits, should
be eliminated in full. Unrealised losses resulting from
intragroup transactions should also be eliminated
unless cost can be recovered.
Consolidated Financial Statements Preparation Process

P Company & S Company

P Company S Company
Consolidated

Various Various Assets

Assets Various
Purchase Assets
Premium

Invetsment Reclassified
in S
Eliminated

Liabilities
Liabilities Stockholders'
Equity
Stockholders' Liabilities
Equity
Stockholders' Minority Interest
Equity

Reclassified
 Consolidated Statement of
Financial Position
Procedures to prepare consolidated statement of financial
position
1. Eliminate reciprocal accounts:
Eliminate any accounts recorded for
transactions between the parent & subsidiaries.
Take individual accounts of the parent &
subsidiary to identify reciprocal accounts.
• Example:
– Asset in a P Co. Equity in S Co.
– Receivables a P Co. Payable in S Co.
 Consolidated Statement of
Financial Position
Procedures to prepare consolidated statement of financial
position
2. Add together all the uncancelled assets and
liabilities throughout the group
Example: Prepare the consolidated statement
of financial position on 31 Dec. 20X6.
 P Co regularly sells goods to its one subsidiary
company, S Co, which it has owned since S Co's
incorporation.
 The statement of financial position of the two
companies on 31 Dec. 20X6 are given below.
Example: Statement of Financial Position
Assets P Co S Co
Non-current assets
Property, plant and equipment 35,000.00 45,000.00
Investment in 40,000 $1 shares in S Co at cost 40,000.00 -
Total Non-current Assets 75,000.00 45,000.00
Current assets
Inventories 16,000.00 12,000.00
Receivables: S Co 2,000.00 -
Other 6,000.00 9,000.00
Cash at bank 1,000.00 -
Total Current assets 25,000.00 21,000.00
Total assets 100,000.00 66,000.00
Equity and liabilities
Equity
ordinary shares (40,000 shares $1) - 40,000.00
70,000 $1 ordinary shares 70,000.00
Retained earnings 16,000.00 19,000.00
Total Equities 86,000.00 59,000.00
Current liabilities
Bank overdraft - 3,000.00
Payables to P Co - 2,000.00
Payables to Others 14,000.00 2,000.00
Total Liabilities 14,000.00 7,000.00
Total equity and liabilities 100,000.00 66,000.00
 Solution
1. The cancelling items are:
(a) P Co's asset 'investment in shares of S Co' ($40,000)
cancels with S Co's 'share capital‘ ($40,000)
(b) P Co's asset 'receivables: S Co' ($2,000) cancels with
S Co's liability 'payables: P Co' ($2,000)
2. The remaining assets and liabilities are added
together to produce the following consolidated
statement of financial position.
 CONSOLIDATED STATEMENT OF FINANCIAL
POSITION AS AT 31 DECEMBER 20X6
Assets P Co S Co Cancelling Items Consolidated Bal
Non-current assets
Property, plant and equipment 35,000.00 45,000.00 80,000.00
Investment in 40,000 $1 shares in S Co at cost 40,000.00 -40000 -
Total Non-current Assets 75,000.00 45,000.00 80,000.00
Current assets -
Inventories 16,000.00 12,000.00 28,000.00
Receivables: S Co 2,000.00 - -2000 -
Other 6,000.00 9,000.00 15,000.00
Cash at bank 1,000.00 - 1,000.00
Total Current assets 25,000.00 21,000.00 16,000.00
Total assets 100,000.00 66,000.00 124,000.00
Equity and liabilities -
Equity -
40,000 $1 ordinary shares - 40,000.00 -40000 -
70,000 $1 ordinary shares 70,000.00 70,000.00
Retained earnings 16,000.00 19,000.00 35,000.00
Total Equities 86,000.00 59,000.00 105,000.00
Current liabilities -
Bank overdraft - 3,000.00 3,000.00
Payables to P Co - 2,000.00 -2000 -
Payables to Others 14,000.00 2,000.00 16,000.00
Total Liabilities 14,000.00 7,000.00 19,000.00
Total equity and liabilities 100,000 66,000 100,000.00 66,000.00 124,000.00
 CONSOLIDATED STATEMENT OF FINANCIAL
POSITION AS AT 31 DECEMBER 20X6
Assets $ $
Non-current assets
Property, plant and equipment 80,000.00
Total Non-current Assets 80,000.00
Current assets -
Inventories 28,000.00
Receivables: S Co -
Other 15,000.00
Cash at bank 1,000.00
Total Current assets 44,000.00
Total assets 124,000.00
Equity and liabilities
Equity -
70,000 $1 ordinary shares 70,000.00
Retained earnings 35,000.00
Total Equities 105,000.00
Current liabilities -
Bank overdraft 3,000.00
Payables to Others 16,000.00
Total Liabilities 19,000.00
Total equity and liabilities 100,000 66,000 124,000.00
 Consolidated Statement of PL
• Add PL accounts of P & S line by line.
• The non-controlling interest is reported as
one-line adjustment at the end of the
statement.
Example:
• P Co acquired 75% of the ordinary shares of S Co on
that company's incorporation in 20X3.
• The summarised statements of profit or loss and
movement on retained earnings of the two companies
for the year ending 31 December 20X6 are set out
below.
 Statement of PL & RE
Statement of PL as of 31 Dec 20X6 P Co S Co
Sales revenue 75,000.00 38,000.00
Cost of sales - 30,000.00 - 20,000.00
Gross profit 45,000.00 18,000.00
Administrative expenses - 14,000.00 - 8,000.00
Profit before tax 31,000.00 10,000.00
Income tax expense - 10,000.00 - 2,000.00
Profit for the year 21,000.00 8,000.00

Statement of Retained Earnings

Retained earnings, 1 Jan 20X6 87,000.00 17,000.00
Profit for the year 21,000.00 8,000.00
Retained earnings 31 Dec 20X6 108,000.00 25,000.00

Required: prepare consolidated statement of PL

 Solution
Consolidated Statement of PL as of 31 Dec 20X6
P Co S Co Consolidated
Sales revenue 75,000.00 38,000.00
113,000.00
Cost of sales - 30,000.00 - 20,000.00 - 50,000.00
Gross profit 45,000.00 18,000.00 63,000.00
Administrative expenses - 14,000.00 - 8,000.00 - 22,000.00
Profit before tax 31,000.00 10,000.00 41,000.00
Income tax expense - 10,000.00 - 2,000.00 - 12,000.00
Profit for the year 21,000.00 8,000.00 29,000.00
Profits attributable to
Owners of the parent (100%) 29,000.00
Non controlling interest (0%) 0.00
 Non-controlling Interest
 The non-controlling interest in the acquiree is
generally measured on the acquisition date either
at
its fair value or
at its proportionate share in the recognized
amounts of the acquiree’s identifiable net assets.
 Since this choice also affects the amount of
goodwill recognized, it can be referred to as the
full goodwill option.
 The full goodwill option may be exercised
differently for each business combination
 NON-CONTROLLING INTEREST (NCI)
42

● Non-controlling interest (NCI) in net assets consists of:

 the amount of the NCI recognized in accounting for Bus Com
at date of acquisition; plus

 the NCI’s share of recognized changes in equity (ie

recognized changes in Sub’s net assets) since the date of the
combination.
 Overview of the Consolidation Process
 Elimination entries are used in the worksheet to increase or
decrease the combined totals for individual accounts so that
only transactions with external parties are reflected in the
consolidated amounts.

 Elimination entries appear only in the consolidation worksheet

and do not affect the books of the separate companies.
Worksheet Format
Example:
Consolidation of
Wholly Owned
Subsidiaries with No
Differential
Consolidated B/S With Wholly Owned Subsidiary

 100 Percent Ownership Acquired at Book Value

Example
Peerless acquires all of Special Foods’ outstanding common
stock for $300,000, an amount equal to the fair value of
Special Foods as a whole. On the date of combination, the
fair values of Special Foods’ individual assets and liabilities
are equal to their book values shown in the following figure.
 Cont.…
Balance Sheets of Peerless Products and Special Foods, January 1,
20X1, Immediately before Combination
 Cont.…

Fair value of consideration-------------------------------------- $300,000

Book value of shares acquired
Common stock—Special Foods-------------------$200,000
Retained earnings—Special Foods---------------100,000
300,000
Difference between fair value and book value $0

 Record the purchase of Special Foods stock

Peerless records the stock acquisition on its books with the
following entry on the combination date:
Investment in Special Foods -----------300,000
Cash-----------------------------------------------300,000
 Cont.….
Balance Sheets of Peerless Products and Special Foods, January 1,
20X1, Immediately after Combination
 Cont.…
■ Note that the $300,000 of cash was paid to the former
stockholders of Special Foods, not to the company itself.
■ Accordingly, that cash is no longer in the consolidated entity.
Instead, Peerless’ balance sheet now reflects a $300,000
Investment in Special Foods Stock account.
■ Instead, Peerless’ balance sheet now reflects a $300,000
Investment in Special Foods Stock account.
The Basic Elimination Entry: The Equity Method
 What needs to be eliminated?
■ The parent’s investment account.
 It represents the initial investment adjusted for the parent’s
cumulative share of the subsidiary’s income and dividends.
■ The parent’s income from subsidiary account.
■ The subsidiary’s equity accounts.
Cont.…
 Cont.…

The only elimination entry in the above worksheet removes the

Investment in Special Foods Stock account and the subsidiary’s
stockholders’ equity accounts.

Basic Elimination Entry:

Common stock ……………. 200,000
Retained earnings………… 100,000
Investment in Special Foods…….300,000

 The investment account must be eliminated because, from a

single entity view-point, a company cannot hold an investment in
itself.
 The subsidiary’s stock and the related stockholders’ equity
accounts must be eliminated because the subsidiary’s stock is
held entirely within the consolidated entity and none represents
claims by outsiders.
 Consolidated Balance Sheet
Consolidated Balance Sheet, January 1, 20X1, Date of
Combination; 100 Percent Acquisition at Book Value
 Consolidation Subsequent to Acquisition
To illustrate the process of consolidation subsequent to the start of a parent
subsidiary relationship, assume that on January 1, 20X1, Peerless Products
Corporation acquires all of the common stock of Special Foods Inc. for $300,000, an
amount equal to Special Foods’ book value on that date. Peerless accounts for its
investment in Special Foods stock using the equity method. Selected information
about Peerless and Special Foods as of the date of combination and for the years 20X1
and 20X2 appears in the following figure.
 Initial Year of Ownership
Parent Company Entries
On January 1, 20X1, Peerless records its purchase of Special Foods
common stock with the following entry:
Investment in Special Foods……..300,000
Cash……………………………………………..300,000
Record the purchase of Special Foods stock.

Peerless records its 20X1 income and dividends from Special

Foods under the equity method as follows:
Investment in Special Foods……….50,000
Income from Special Foods……………….50,000
Record Peerless’ 100% share of Special Foods’ 20X1 income.

Cash………………………………………..30,000
Investment in Special Foods………..30,000
Record Peerless’ 100% share of Special Foods’ 20X1 dividend.
 Consolidation Worksheet-Initial Year of Ownership
 The book value portion of Peerless’ investment has changed because
earnings and dividends have adjusted the investment account balance.
The book value portion of the investment account can be summarized
as follows:
 Cont.….

Basic Elimination Entry:

Common stock ……………………..200,000
Retained earnings…………………100,000
Income from Special Foods….….50,000
Dividends declared ……………………………30,000
Investment in Special Foods……………..320,000
 December 31, 20X1, Equity-Method Worksheet for Consolidated Financial
Statements, Initial Year of Ownership; 100 Percent Acquisition at Book Value
 Second and Subsequent Years of Ownership
Parent Company Entries
Peerless’ separate income from its own operations for 20X2 is
$160,000, and its dividends total $60,000. Special Foods reports net
income of $75,000 in 20X2 and pays dividends of $40,000.
Peerless records the following equity-method entries in 20X2:

Investment in Special Foods……….75,000

Income from Special Foods……………….75,000
Record Peerless’ 100% share of Special Foods’ 20X2 income.

Cash………..40,000
Investment in Special Foods………..40,000
Record Peerless’ 100% share of Special Foods’ 20X2 dividend.
 Cont.….
 The book value of Peerless’ investment in Special Foods (which is equal
to the book value of Special Foods’ equity accounts) can be analyzed
and summarized as follows:
 Consolidation Worksheet- Second Year of Ownership
Basic Elimination Entry:
Common stock ……………………..200,000
Retained earnings…………………120,000
Income from Special Foods …….75,000
Dividends declared ……………………………40000
Investment in Special Foods……………..355,000
 December 31, 20X2, Equity-Method Worksheet for Consolidated Financial
Statements, Second Year of Ownership; 100 Percent Acquisition at Book Value
Consolidation of Less‐
than‐Wholly‐Owned
Subsidiaries with No
Differential
 Consolidated Balance Sheet with a
Less-than-wholly-owned Subsidiary

Example
 In order to illustrate the consolidation process for a less-
than-wholly-owned subsidiary, we use the Peerless-Special
Foods example.
 The only difference is that we assume that instead of
acquiring all of the common stock of Special Foods, Peerless
buys only 80 percent of the shares.
 Thus, we assume that the other 20 percent of the shares are
widely held by other shareholders (the NCI shareholders).
 Cont.….
 80 Percent Ownership Acquired at Book Value
E.g. Peerless acquires 80 percent of Special Foods’
outstanding common stock for $240,000, an amount equal to
80 percent of the fair value of Special Foods’ net assets on
January 1, 20X1. On this date, the fair values of Special Foods’
individual assets and liabilities are equal to their book values.
 Cont.….

Fair value of consideration-------------------------------------- $240,000

Add the fair value of the NCI interest-------------------------- 60,000
Total fair value of consideration--------------------------------$300,000
Book value of shares acquired
Common stock—Special Foods-------------------$200,000
Retained earnings—Special Foods---------------100,000
$300,000
Difference between fair value and book value $ 0

 Peerless records the 80 percent stock acquisition on its

books with the following entry on January 1, 20X1:

Investment in Special Foods -----------240,000

Cash-----------------------------------------------240,000
 Cont.….
Here in this case, the $300,000 book value of net assets is now
jointly owned by Peerless (80 percent) and the NCI shareholders
(20 percent).
 Thus, the original $300,000 credit to the Investment in Special
Foods account from the wholly owned example is now
“shared” with the NCI shareholders as shown in the breakdown
of the book value of Special Foods:
 Consolidation Worksheet
Worksheet for Consolidated Balance Sheet, January 1, 20X1,
Date of Combination; 80 Percent Acquisition at Book Value
 The Basic Elimination Entry
Basic Elimination Entry:
Common stock ……………..200,000
Retained earnings…………100,000
Investment in Special Foods……. 240,000
NCI in NA of Special Foods………… 60,000

 The following elimination entry nets this accumulated

depreciation out against the cost of the building and equipment.

Optional Accumulated Depreciation Elimination Entry:

Accumulated depreciation………..300,000
Building and equipment………………300,000
Worksheet for Consolidated Balance Sheet, January 1, 20X1,
Date of Combination; 80 Percent Acquisition at Book Value
 Consolidation Subsequent to Acquisition-
80 Percent Ownership Acquired at Book Value
Initial Year of Ownership
Assume that Peerless already recorded the acquisition on January 1,
20X1, and that during 20X1, Peerless records operating earnings of
$140,000, excluding its income from investing in Special Foods, and
declares dividends of $60,000. Special Foods reports 20X1 net income
of $50,000 and declares dividends of $30,000.
Parent Company Entries
 Peerless records its 20X1 income and dividends from Special
Foods under the equity method as follows:
Investment in Special Foods……….40,000
Income from Special Foods……………….40,000
Record Peerless’ 80% share of Special Foods’ 20X1 income.

Cash………………………………………..24,000
Investment in Special Foods………..24,000
Record Peerless’ 80% share of Special Foods’ 20X1 dividend.
 Consolidation Worksheet-Initial Year of Ownership
 In this example, the accounts that must be eliminated because of
inter-corporate ownership are the stockholders’ equity accounts of
Special Foods, including dividends declared, Peerless’ investment in
Special Foods stock, and Peerless’ income from Special Foods.
 However, the book value portion of Peerless’ investment has changed
since the January 1 acquisition date because under the equity
method, Peerless has adjusted the investment account balance for its
share of earnings and dividends. The book value portion of the
investment account can be summarized as follows:
December 31, 20X1, Equity-Method Worksheet for Consolidated Financial
Statements, Initial Year of Ownership; 80 percent Acquisition at Book Value
 Cont.….
 Under the equity method, the parent recognized its share
(80 percent) of the subsidiary’s income on its separate
books.
 In the consolidated income statement, however, the
individual revenue and expense accounts of the subsidiary
are combined with those of the parent.
Basic Elimination Entry:
Common stock ……………………..200,000
Retained earnings…………………100,000
Income from Special Foods….….40,000
NCI in NI of Special Foods………..10,000
Dividends declared ……………………………30,000
Investment in Special Foods……………..256,000
NCI in NA of Special Foods…………………..64,000
 Cont.….

Optional Accumulated Depreciation Elimination Entry:

Accumulated depreciation………..300,000
Building and equipment………………300,000
 Second and Subsequent Years of Ownership
The consolidation procedures employed at the end of the second and
subsequent years are basically the same as those used at the end of the
first year.
Parent Company Entries
Consolidation after two years of ownership is illustrated by continuing
the example of Peerless Products and Special Foods. Peerless’ separate
income from its own operations for 20X2 is $160,000, and its dividends
total $60,000. Special Foods reports net income of $75,000 in 20X2 and
pays dividends of $40,000. Equity-method entries recorded by Peerless
in 20X2 are as follows:
Investment in Special Foods……….60,000
Income from Special Foods……………….60,000
Record Peerless’ 80% share of Special Foods’ 20X2 income.

Cash………..32,000
Investment in Special Foods………..32,000
Record Peerless’ 80% share of Special Foods’ 20X2 dividend.
 Consolidation Worksheet- Second Year of Ownership
 In order to complete the worksheet, Peerless must calculate the
worksheet elimination entries using the following process. The book
value of equity can be analyzed and summarized as follows:
 Cont.….
Basic Elimination Entry:
Common stock ……………………..200,000
Retained earnings…………………120,000
Income from Special Foods….….60,000
NCI in NI of Special Foods………..15,000
Dividends declared ……………………………40,000
Investment in Special Foods……………..284,000
NCI in NA of Special Foods…………………..71,000
December 31, 20X2, Equity-Method Worksheet for Consolidated Financial
Statements, Second Year of Ownership; 80 Percent Acquisition at Book
Value
 Consolidation of
Wholly Owned
Subsidiaries Acquired
at More than Book
Value
 Consolidated Financial Statements- 100 Percent
Ownership Acquired at more than Book Value

 When one company acquires another, the acquiree’s fair

value usually differs from its book value, and so the
consideration given by the acquirer does as well
 This difference between the FV of the consideration given and
the BV of the acquiree’s NA is referred to as a differential
 The differential is included in the original acquisition price
Reasons for Positive Differential
 Errors or omissions on the subsidiary’s books;
 Excess of FV over the BV of the subsidiary’s NA;
 Existence of goodwill.
 Cont.….
 The amount of positive differential must be amortized.
 The amortization or reduction of the differential involves the
reduction of the investment account.
 At the same time, the investor’s net income must be reduced
by an equal amount to recognize that a portion of the amount
paid for the investment has expired using the following entry.

Income from Investee ---------------------------XXXX

Inv’t in Common Stock of Investee------------------XXX
 Cont.….

E.g. Assume that Peerless Products acquires all of Special

Foods’ common stock on January 1, 20X1, for $387,500, an
amount $87,500 in excess of the book value. The acquisition
price includes cash of $300,000 and a 60-day note for $87,500
(paid at maturity during 20X1). At the date of combination,
Special Foods holds the assets and liabilities shown below:
 Cont.….

Book values of Special Foods’ Identifiable Assets and

Liabilities as of January 1, 20X1, the Date of Combination
 Cont.….
 On the acquisition date, all of Special Foods’ assets and
liabilities have FVs equal to their BVs, except as follows:
 Cont.….
Fair value of consideration-------------------------------------- $ 387,500
Book value of Special Foods’ NA
Common stock—Special Foods-------------------$200,000
Retained earnings—Special Foods---------------100,000
$300,000
Difference between fair value and book value $87,500
 Cont.….

 In consolidation, the differential is assigned to the

appropriate asset and liability balances, and consolidated
income is adjusted for the amounts expiring during the
period by assigning them to the related expense items
(e.g., depreciation expense)
 Of the $87,500 total differential, $75,000 relates to
identifiable assets of Special Foods.
 The remaining $12,500 is attributable to goodwill.
 Cont.….
The apportionment of the differential appears as follows:
 The entire amount of inventory to which the differential relates
is sold during 20X1; none is left in ending inventory.
 The buildings and equipment have a remaining economic life
of 10 years from the date of combination, and Special Foods
uses straight-line depreciation.
 Management determines that a $3,000 goodwill impairment
loss should be recognized in the consolidated income statement
at the end of 20X1.
 Cont.….

Parent Company Entries

For the first year immediately after the date of combination,
20X1, Peerless Products earns income from its own separate
operations of $140,000 and pays dividends of $60,000. Special
Foods reports net income of $50,000 and pays dividends of
$30,000.
 Cont.….
 During 20X1, Peerless makes the normal equity-method entries on
its books to record its purchase of Special Foods stock and its
income and dividends from Special Foods:
Investment in Special Foods ---------------- 387,500
Cash-------------------------------------------------- 300,000
Notes Payable-------------------------------------- 87,500
Record the initial investment in Special Foods.

Investment in Special Foods………. 50,000

Income from Special Foods………………. 50,000
Record Peerless’ 100% share of Special Foods’ 20X1 income.

Cash……………………………………….. 30,000
Investment in Special Foods……….. 30,000
Record Peerless’ 100% share of Special Foods’ 20X1 dividend.
 Cont.….

 Under the equity method, the differential is written off periodically

from the investment account to Income from Special Foods to reflect
these changes in the differential ($5,000 inventory+
$6,000 depreciation + $3,000 goodwill impairment = $14,000):

Income from Special Foods -------------------14,000

Investment in Special Foods----------------------14,000
Record amortization of excess acquisition price.
 Cont.….
Consolidation Worksheet—Year of Combination
 The following diagrams illustrate the breakdown of the book
value and excess value components of the investment account
at the beginning and end of the year.
 Consolidation Worksheet-Initial Year of Ownership
 Because a year has passed since the acquisition date, the book
value of Special Foods’ net assets has changed because it has
earned income and declared dividends. The book value
component can be summarized as follows:
 The Basic Elimination Entry
Basic Elimination Entry:
Common stock ……………………….. 200,000
Retained earnings…………………… 100,000
Income from Special Foods……… 50,000
Dividends declared………………………….. 30,000
Investment in Special Foods…………….. 320,000
 The differential and its changes during the period:
 Consolidation Worksheet-Initial Year of Ownership
Amortized Excess Value Reclassification Entry:
Cost of goods sold………………………. 5,000
Depreciation expense…………………. 6,000
Goodwill impairment loss…………… 3,000
Income from Special Foods……………………… 14,000
 Finally, the remaining unamortized differential of $73,500 is
reclassified to the correct accounts based on the ending
balances (the bottom row) in the chart above:
Excess Value (Differential) Reclassification Entry:
Land………………………………….. 10,000
Building……………………………… 60,000
Goodwill…………………………..… 9,500
Accumulated depreciation…………….....… 6,000
Investment in Special Foods…………….…. 73,500
 Cont.….

 These worksheet entries

1) Eliminate the balances in the Investment in Special Foods and
Income from Special Foods accounts,
2) Reclassify the amortization of excess value to the proper income
statement accounts, and
3) Reclassify the remaining differential to the appropriate balance
sheet accounts as of the end of the period.
Optional Accumulated Depreciation Elimination Entry:
Accumulated depreciation………..300,000
Building and equipment………………300,000
December 31, 20X1, Equity-Method Worksheet for Consolidated Financial
Statements, Initial Year of Ownership; 100 Percent Acquisition at More than
Book Value
Consolidated Net Income and Retained Earnings, 20X1; 100 Percent
Acquisition at More than Book Value
 Consolidated Financial Statements- 100 Percent
Ownership Acquired at more than Book Value

Second Year of Ownership

E.g. During 20X2, Peerless Products earns income of $160,000
from its own separate operations and pays dividends of
$60,000; Special Foods reports net income of $75,000 and pays
dividends of $40,000. No further impairment of the goodwill
from the business combination occurs during 20X2.
 Cont.….
Parent Company Entries
 Peerless Products records the following entries on its separate
books during 20X2:
Investment in Special Foods………. 75,000
Income from Special Foods………………. 75,000
Record Peerless’ 100% share of Special Foods’ 20X2 income.

Cash……………………………………….. 40,000
Investment in Special Foods……….. 40,000
Record Peerless’ 100% share of Special Foods’ 20X2 dividend.

Income from Special Foods -------------------6,000

Investment in Special Foods----------------------6,000
Record amortization of excess acquisition price.
 Consolidation Worksheet- Second Year of Ownership

 The book value component can be summarized as follows:

 Cont.….
Basic Elimination Entry:
Common stock ……………………..200,000
Retained earnings…………………120,000
Income from Special Foods….….75,000
Dividends declared ……………………………40,000
Investment in Special Foods……………..355,000
 The entire differential amount assigned to the inventory already
passed through CGS during the prior year period.
 The only other amortization item is the excess value assigned to the
building, which continues to be written-off over a 10-year period
($60,000 ÷ 10 = $6,000)
 Again, the goodwill is deemed not to be further impaired this year.
 Cont.….

Amortized Excess Value Reclassification Entry:

Depreciation expense…………………. 6,000
Income from Special Foods…………………. 6,000

Excess Value (Differential) Reclassification Entry:

Land………………………………….. 10,000
Building……………………………… 60,000
Goodwill…………………………..… 9,500
Accumulated depreciation…………….....… 12,000
Investment in Special Foods…………….…. 67,500
 Consolidated Financial Statements- 100 Percent
Ownership Acquired at more than Book Value
These elimination entries
1) Eliminate the balances in the Investment in Special Foods and
Income from Special Foods accounts,
2) Reclassify the amortization of excess value to the proper income
statement accounts, and
3) Reclassify the remaining differential to the appropriate balance
sheet accounts as of the end of the accounting period.
Optional Accumulated Depreciation Elimination Entry:
Accumulated depreciation………..300,000
Building and equipment………………300,000
December 31, 20X2, Equity-Method Worksheet for Consolidated Financial Statements,
Second Year of Ownership; 100 Percent Acquisition at More than Book ValueValue
Consolidation Worksheet—Second Year Following Combination
 Reading Assignment

Consolidation of less-
than Wholly Owned
Subsidiaries Acquired
at More than Book
Value
COMPARISON WITH THE IFRS FOR SMES

● Section 19 Business Combinations and Goodwill of the IFRS for

SMEs differs from full IFRSs—in Section 19:

 goodwill is amortised over its estimated useful life (or 10

years if a reliable estimate cannot be made)

 non-controlling interest must be measured using the

proportionate share method

 there is no specified maximum allowable difference between

the reporting periods of the parent and the subsidiary.
 Reading Assignment
Accounting for Investments in Common Stock

 The method used to account for investments in

common stock depends on:
■ the level of influence or control that the investor is
able to exercise over the investee.
■ choices made by the investor because of options
available.
 Cont.… Reading Assignment
 The fair value method
 Under this method, inter-corporate investments in
common stock are re-measured to fair value at the end of
each period, and the unrealized gain or loss is recognized
in income.
 The fair value method does not apply to inter-corporate
investments that must be consolidated.
 Cont… Reading Assignment
 The Equity Method
 Used when the investor exercises significant influence over
the operating and financial policies of the investee.
 Significant influence is the power to participate in the
financial and operating policy decisions of the investee but is
not control over those policies.
 Used most often when one company holds 20 percent or
more of another company’s common stock.
 Under the equity method, the investor recognizes
income from the investment as the investee earns
the income.
 The investment is reported as one line in the investor’s
balance sheet, and income recognized from the investee is
reported as one line in the investor’s income statement.
 The Equity Method ---Reading Assignment
 Investor’s equity in the investee
■ The investor records its investment at the original cost.

■ This amount is adjusted periodically:

Reported by Investee Effect on Investor’s Accounts

Net income Record income from investment
Increase investment account
Net loss Record loss from investment
Decrease investment account
Dividend declaration Record asset (cash or receivable)
Decrease investment account
 LOSS OF CONTROL

● If a parent no longer controls a subsidiary, the parent:

 Derecognises the assets and liabilities of the former
subsidiary.

 Recognizes any retained investment at fair value when

control is lost.

 This investment is subsequently accounted for as a

financial instrument or, if appropriate as an associate or
joint venture.

 Recognizes a gain or loss associated with loss of control.

Definition of key terms
 Control: Is the ability to affect returns of an investee through power
over the investee. (IFRS 10)
 Power: Existing rights that give the current ability to direct the
relevant activities of the investee (IFRS 10).
 Subsidiary?
 An entity that is controlled by another entity. (IFRS 10)

 Parent?
 An entity that controls one or more subsidiaries. (IFRS 10)

 Group?
 A parent and all its subsidiaries. (IFRS 10)
 Associate?
 An entity over which an investor has significant influence and
which is neither a subsidiary nor an interest in a joint venture.
(IFRS 10)
 Significant influence?
 is the power to participate in the financial and operating policy
decisions of an investee but is not control or joint control over
those policies. (IAS 28)