Transcript Chapter 4

Chapter 4
Consolidated Balance Sheet
At Acquisition
The Objective Of Consolidation
Sub A
Parent
Sub B
Parent And Subs As If One Entity
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User Needs
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Creditors
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Consolidated Entity ≠ Legal Entity
Creditors must look to single entity parent or
subsidiary
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User Needs
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Taxation Authorities
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U.S. has consolidated tax return
In Canada – the single legal entities must file
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User Needs
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Non-Controlling
Shareholders
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Must look to single entity
statements to evaluate their
investment
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User Needs
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Majority Shareholders
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The major users of
consolidated financial
statements
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Consolidation Policy
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Terminology
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The “correct” term is “Non-Controlling Interest”
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Control may not required holding a majority share of
voting shares.
Consolidation is still required
“Minority Interest” is still widely used
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In most cases, control requires a majority of the
voting shares
In these situations, Minority Interest is an appropriate
description of the Non-Controlling Interest
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Conceptual Alternatives
In Consolidation
Controlling Interest
Non-Controlling
Interest
What Is The Nature
Of This Interest?
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Conceptual Alternatives
In Consolidation
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Proprietary Approach
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The Non-Controlling
Interest is not part of
the consolidated entity
Like proportionate
consolidation
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Proprietary Approach Procedures
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Assets:
Only the parent’s share of fair values
Non-controlling interest
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In assets: None disclosed
In income: None disclosed
Unrealized Profits:
Eliminate parent’s share
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Conceptual Alternatives
In Consolidation
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Parent Company
Approach
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The Non-Controlling
Interest is a debt-like
interest in the consolidated
entity
Current CICA approach
(for the most part)
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Parent Company Approach
Procedures
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Assets:
Includes subsidiary carrying values, plus
the parent’s share of fair value changes
Non-controlling interest
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In assets: With the liabilities
In income: Deducted in the determination of
income (like interest)
Unrealized Profits:
Eliminate parent’s share
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Conceptual Alternatives
In Consolidation
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Entity Approach
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The Non-Controlling
Interest is an equity
interest in the
consolidated entity
The IFRS approach
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Entity Approach Procedures
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Assets: Includes 100 percent of
subsidiary fair values
Non-controlling interest
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In assets: With shareholders’ equity
In income: Shown as distribution of income
(like preferred dividends)
Unrealized Profits: Eliminate 100 percent
(upstream and downstream)
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Conceptual Alternatives
In Consolidation
Why Study?
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Aids in understanding the current rules
and their inconsistencies
Will assist with the changeover to IFRSs
(going to entity approach)
For Students: It can be examinable
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Conceptual Alternatives
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Asset Value Example
Parco owns 65 percent of the voting
shares of Subco.
Parco has Land with a carrying value of
$1,000,000.
Subco has Land with a carrying value of
$500,000 and a fair value of $700,000.
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Proprietary Approach Solution
Parco’s Carrying Value
65 Percent Of Subco’s Fair Value
[(65%)($700,000)]
Consolidated Land
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$1,000,000
455,000
$1,455,000
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Parent Company Approach
Solution
Parco’s Carrying Value
$1,000,000
Subco’s Carrying Value
500,000
65 Percent Of Subco’s Fair Value Change
[(65%)($700,000 - $500,000)]
130,000
Consolidated Land
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$1,630,000
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Entity Approach Solution
Parco’s Carrying Value
100 Percent Of Subco’s Fair Value
Consolidated Land
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$1,000,000
700,000
$1,700,000
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Evaluation
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Proprietary
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Parent Company
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Does not reflect the economic entity which is made
up of 100 percent of both companies’ assets
Non-controlling interest has none of the
characteristics of debt
Entity
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Reflects properly the nature of the non-controlling
interest
Used in IFRSs (Current and Proposed)
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Procedural Approaches
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Every text has a different
approach
Everyone who has ever
taught the subject believes
that they have a better
way
Difficult to move between
alternatives
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Procedural Approaches
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Work Sheets
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A mechanistic approach that is
easy to use, provided a proper
format is provided
Provides no understanding of
the underlying concepts
In our view:
Consolidations for “Dummies”
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Procedural Alternatives
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Direct Calculations Of Required Balances
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The most efficient approach
Requires complete understanding of
concepts
Consolidations for the “gifted”
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Procedural Alternatives
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Journal Entries into direct calculations
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Stresses an understanding of concepts
Provides for movement towards direct
calculations of required balances
Is not dependent on the format of the
problem
Supported by a large quantity of problem
material in this text
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General Approach
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Eliminate the investment account against the
subsidiary Shareholders’ Equity at acquisition
Allocate the excess of the investment cost over
the carrying values of the subsidiary assets to fair
value changes and goodwill
Establish the Non-Controlling Interest At
Acquisition
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General Approach
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Various adjustments and eliminations
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General Approach
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Allocate the subsidiary’s Retained
Earnings since acquisition
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To Controlling Interest
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To Non-Controlling Interest
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Investment Analysis Schedule
Investment Cost
Subsidiary Shareholders’ Equity
$1,000,000
(
800,000)
Differential (Excess Of Cost Over Book Value)
Fair Value Increase On Assets
$ 200,000
(
20,000)
Fair Value Decrease On Assets
30,000
Fair Value Increase On Liabilities
40,000
Fair Value Decrease On Liabilities
Goodwill
(
50,000)
$200,000
This type of analysis is required in almost every consolidation
problem. The basic rules are as shown in this example. The numbers
were created for this example.
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Example –
Consolidation At Acquisition
Parco purchases 70 percent of the outstanding voting shares of Subco
for cash of $735,000. Subco’s assets have a fair value of $1,400,000.
Parco
Subco
Assets
$3,500,000
$1,200,000
Liabilities
$1,300,000
$ 500,000
900,000
200,000
1,300,000
500,000
$3,500,000
$1,200,000
Shareholders’ Equity
Common Stock
Retained Earnings
Total Equities
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Example –
Investment Analysis Schedule
Investment Cost
70%
100%
$735,000
$1,050,000
Book Value
( 490,000)
Differential
$245,000
Fair Value Increase On Assets
Goodwill
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( 140,000)
$105,000
(
700,000)
$ 350,000
(
200,000)
$150,000
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Consolidated Balance Sheet
Proprietary Approach
Assets [$3,500,000 - $735,000 +
(70%)($1,200,000 + $200,000)]
Goodwill
$3,745,000
105,000
Total Assets
$3,850,000
Liabilities [$1,300,000 + (70%)($500,000)]
$1,650,000
Shareholders’ Equity
Common Stock (Parco’s)
Retained Earnings (Parco’s)
Total Equities
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900,000
1,300,000
$3,850,000
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Consolidated Balance Sheet
Parent Company Approach
Assets [$3,500,000 - $735,000
+ (100%)($1,200,000) + (70%)($200,000)]
Goodwill
$4,105,000
105,000
Total Assets
$4,210,000
Liabilities
Regular [$1,300,000 + (100%)($500,000)]
$1,800,000
Non-Controlling Interest [(30%)($700,000)]
Total Liabilities
210,000
$2,010,000
Shareholders’ Equity
Common Stock (Parco’s)
Retained Earnings (Parco’s)
Total Equities
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900,000
1,300,000
$4,210,000
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Consolidated Balance Sheet
Entity Approach
Assets [$3,500,000 - $735,000 +
(100%)($1,200,000 + $200,000)]
Goodwill
$4,165,000
150,000
Total Assets
$4,315,000
Liabilities [$1,300,000 + (100%)($500,000)]
$1,800,000
Shareholders’ Equity
Non-Controlling Interest [(30%)($1,050,000)]
315,000
Common Stock (Parco’s)
900,000
Retained Earnings (Parco’s)
Total Equities
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1,300,000
$4,315,000
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International Convergence
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IFRS No. 3 and IAS No. 27
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Require 100 percent of the
fair values of identifiable
assets
Require treating the noncontrolling interest as part
of shareholders’ equity
Like entity approach except
no 100 percent of goodwill
Current proposals will record
100 percent of goodwill
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Consolidated Balance Sheet
IFRS No. 3 and IAS No. 27
Assets [$3,500,000 - $735,000 +
(100%)($1,200,000 + $200,000)]
Goodwill
$4,165,000
105,000
Total Assets
$4,270,000
Liabilities [$1,300,000 + (100%)($500,000)]
$1,800,000
Shareholders’ Equity
Non-Controlling Interest [(30%)($700,000 + $200,000)]
270,000
Common Stock (Parco’s)
900,000
Retained Earnings (Parco’s)
Total Equities
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1,300,000
$4,270,000
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Summary Of Chapter 4 Procedures
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Step A-1 Procedure Eliminate 100 percent of the Investment In
Subsidiary account.
Step A-2 Procedure Eliminate 100 percent of all the acquisition date
balances in the subsidiary’s common shareholders’ equity (includes
both contributed capital and retained earnings).
Step A-3 Procedure Allocate any debit or credit Differential that is
present at acquisition to the investor’s share of fair value changes
on identifiable assets, fair value changes on identifiable liabilities,
and positive or negative goodwill.
Step A-4 Procedure Allocate to a Non-Controlling Interest account
in the consolidated Balance Sheet, the non-controlling interest’s
share of the at acquisition book value of the common shareholders’
equity of the subsidiary (includes both contributed capital and
retained earnings).
Step B-1 Procedure Eliminate 100 percent of all intercompany
assets and liabilities.
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Definitional Calculations
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Identifiable Assets And Liabilities The amount to be included in the
consolidated Balance Sheet for any identifiable asset or liability is
calculated as follows:
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100 percent of the carrying value of the identifiable asset
(liability) on the books of the parent company at the Balance
Sheet date; plus
100 percent of the carrying value of the identifiable asset
(liability) on the books of the subsidiary company at the Balance
Sheet date; plus (minus)
the parent company’s share of the fair value increase (decrease)
on the asset (liability) (i.e., the parent company’s share of the
difference between the fair value of the subsidiary’s asset or
liability at time of acquisition and the carrying value of that asset
or liability at the time of acquisition).
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Definitional Calculations
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Goodwill The Goodwill to be recorded in the
consolidated balance sheet is equal to the excess of the
cost of the investment over the parent company’s share
of the fair values of the subsidiary’s net identifiable
assets as at the time of acquisition.
Non-Controlling Interest - Balance Sheet The NonControlling Interest to be recorded in the consolidated
Balance Sheet is an amount equal to the non-controlling
interest’s ownership percentage of the book value of the
subsidiary’s common stock equity at the Balance Sheet
date. It will also include any preferred stock equity of
the subsidiary that is outstanding.
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Definitional Calculations
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Contributed Capital The Contributed
Capital to be recorded in the consolidated
Balance Sheet is equal to the contributed
capital from the single entity Balance
Sheet of the parent company.
Retained Earnings Consolidated Retained
Earnings will be equal to the Retained
Earnings balance that is included in the
Balance Sheet of the parent company.
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