Chapter 19 Consolidated Statement of Financial Position with Consolidated Adjustments

1.
1.1 1.2 1.3 1.4

Objectives
Account for the effects of intra-group trading in the statement of financial position. Explain why it is necessary to use fair values when preparing consolidated financial statements. Account for the effects of fair values adjustments in consolidation. Account for the effects of mid-year ac uisition of su!sidiary.

$onsolidation Adjustments

%ntra-group &rading

'ividends and (re-ac uisition profit

)id-year ac uisitions

$urrent accounts

*nrealised profit in inventory

*nrealised profit in sales of non-current asset

%ntra-group lending

'ividends

2.

ntra!"roup #radin"

"1#-1

2.1

(arent +(, and su!sidiary +-, may well trade with each other leading to the following potential pro!lem areas. +a, $urrent account !etween parent and su!sidiary +!, /oans held !y one company in the other +c, 'ividends and loan interest +d, *nrealised profits on sales of inventory +e, *nrealised profits on sales of non-current assets Current accounts At the year end0 current accounts may not agree0 owing to the existence of in!transit items such as goods or cash. Cash or "oods in transit &he usual rules are as follows. +a, %f the goods or cash are in transit !etween ( and -0 ma1e the adjusting entry to the statement of financial position of the recipient. Cash in transit& 'r $ash in transit $r $urrent account 'oods in transit& 'r %nventory $r $urrent account &his adjustment is for the purpose of consolidation onl(. 2nce in agreement0 the current accounts may !e contra and cancelled as part of the process of cross casting the assets and lia!ilities. &his means that reconciled current account !alance amounts are removed from !oth receiva!les and paya!les in the consolidated statement of financial position.

$A% 2.2

2.3

+!, +c,

2.4

)*ample 1 + ntercompan( current accounts

"1#-2

3elow are the statements of financial position of 4 /td and - /td as at 31 'ecem!er 2515. 4 /td - /td ,on!current assets 6555 6555 (roperty0 plant and e uipment 155 145 %nvestments in - at cost 175 275 Current assets %nventory &rade receiva!les $ash #otal assets )-uit( and liabilities )-uit( -hare capital -hare premium 9etained earnings ,on!current liabilities 15: loan notes Current liabilities #otal e-uit( and liabilities 255 15 45 285 ;8 28 345 155 35 25 185 45 1#5 35 25 15 345 145 38 15 8 1#5

"otes. 1. 4 /td !ought 750555 shares in - /td in 2515 when - /td<s reserves included a share premium of 6350555 and retained profits of 680555. 2. 4 /td<s accounts show 6;0555 owing to - /td= - /td<s accounts show 670555 owed !y 4 /td. &he difference is explained as cash in transit. 3. "o impairment of goodwill has occurred to date. 4. 4 /td uses the proportion of net assets method to value the non-controlling interest. .e-uired& (repare the consolidated statement of financial position of 4 /td as at 31 'ecem!er 2515.

"1#-3

Solution& >1 -hareholdings in - /td. ?roup "on-controlling interest : 75 25 155 >2 $ash in transit &he 620555 cash in transit should !e adjusted for in - /td<s accounts prior to consolidation. &he outstanding intercompany !alance re uiring cancelling is therefore 6;0555. Consolidated adjustment& $ash in transit $urrent account >3 "et asset of - /td At date of ac uisition 6555 155 35 8 138 At the reporting date 6555 155 35 25 185 'r +6, 20555 $r +6, 20555

-hare capital -hare premium 9etained earnings "et assets >4 $alculation of ?oodwill (arent holding +investment, at fair value "$% value at ac uisition +25: x 138 +>2,,

6555 175 2@ 25@ +138, @2

/ess. Aair value of net assets at ac uisition +>2, ?oodwill on ac uisition >8 "on-controlling interest

6555

"1#-4

"$% value at ac uisition +>3, "$% share of post ac uisition reserves B25: x +25 C 8,D

2@ 3 35

>; ?roup retained earnings 4 /td - /td. 75: x +25 C 8, 6555 45 12 82 $onsolidated statement of financial position as at 31 'ecem!er 2515 ,on!current assets 6555 ?oodwill +>4, @2 (roperty0 plant and e uipment +155 E 145, 245 312 Current assets %nventory +35 E 38, &rade receiva!les +25 E 15 C 2 C ; +>2,, $ash +15 E 8 E 2 +>2,, #otal assets )-uit( and liabilities )-uit( -hare capital -hare premium 9etained earnings "on-controlling interest +>8, ,on!current liabilities 15: loan notes Current liabilities (aya!les +28 E 45 C ; +>2,, #otal e-uit( and liabilities ;8 22 1@ 41;

255 15 82 2;2 35 2#2 ;8 8# 41;

"1#-8

$/% 2.8

0nrealised profit in inventor( >here goods have !een sold !y one group company to another at a profit and some of these goods are still in the purchaser<s inventory at the year end0 then the profit loading on these goods is unreali1ed from the viewpoint of the group as a whole. &his is !ecause we are treatin" the "roup as if it is a sin"le entit( . ,o!one can ma2e a profit b( tradin" with himself. Adjustments for unreali1ed profit in inventor( &he process to adjust is. +a, 'etermine the value of closing inventory included in an individual company<s accounts which has !een purchased from another company in the group. +!, *se mar1-up or margin to calculate how much of that value represents profit earned !y the selling company. +c, )a1e the adjustments. &hese will depend on who the seller is. 1. %f the seller is the parent compan(0 the profit element is included in the holdin" compan(3s accounts and relates entirely to the group. Adjustment re uired. 'r ?roup retained earnings +deduct the profit in 45, $r ?roup inventory 2. %f the seller is the subsidiar(0 the profit element is included in the su!sidiary company<s accounts and relates partly to the group0 partly to non-controlling interests. Adjustments re uired. 'r -u!sidiary retained earnings +deduct the profit in 46 C at reporting date, $r ?roup inventory

2.;

"1#-;

2.@

)*ercise 1 + 0nrealised profit in inventor( 4 /td !ought #5: of the e uity share capital of - /td0 two years ago on 1 Fanuary 255# when the retained earnings of - /td stood at 680555. -tatements of financial position at the year end of 31 'ecem!er 2515 as follows. 4 /td - /td ,on!current assets 6555 6555 (roperty0 plant and e uipment 155 35 %nvestments in - at cost 34 134 Current assets %nventory &rade receiva!les 3an1 #otal assets )-uit( and liabilities )-uit( -hare capital 9etained earnings ,on!current liabilities Current liabilities #otal e-uit( and liabilities #5 115 15 344 35 25 28 8 75

18 18# 1@4 125 85 344

8 31 3; 27 1; 75

- /td transferred goods to 4 /td at a transfer price of 6170555 at a mar1-up of 85:. &wo-thirds remained in inventory at the year end. &he current account in 4 /td and /td stood at 6220555 on that day. ?oodwill has suffered an impairment of 6150555. 4 /td uses the fair value method to value the non-controlling interest. &he fair value of the non-controlling interest at ac uisition was 640555. .e-uired& (repare the consolidated statement of financial position of 4 /td as at 31 'ecem!er 2515.

"1#-@

Solution&

"1#-7

$C% 2.7

0nrealised profit in sale of non!current assets %f one group mem!er sells non-current assets to another group mem!er0 adjustments must !e made to recreate the situation that would have existed if the sale had not occurred. +a, &here would have !een no profit on the sale. +!, 'epreciation would have !een !ased on the original cost of the asset to the group. Adjustments for unreali1ed profit in sale of non!current assets &wo consolidation adjustments will usually !e needed to achieve this. +a, An adjustment to alter retained earnin"s and non!current assets cost so as to remove any element of unreali1ed profit or loss. &his is similar to the adjustment re uired in respect of unrealiGed profit in inventory. +!, An adjustment to alter retained earnings and accumulated depreciation is made so that consolidated depreciation is !ased on the asset<s cost to the group. %n practice0 these steps are com!ined so that the retained earnings of the entity ma1ing the unrealiGed profit are de!ited with the unrealiGed profit less the additional depreciation. &he dou!le entry is as follows 1. -ale !y parent 'r ?roup retained earnings +deduct the profit in 45, $r "on-current assets 2. -ale !y su!sidiary 'r ?roup retained earnings +deduct the profit in 46 at reportin" date, 'r "on-controlling interest

2.#

"1#-#

$r "on-current assets

2.15

)*ample 2 + 0nrealised profit in non!current asset 4 /td transfers an item of plant to its su!sidiary +- /td, for 6;0555 at the start of 2515. &he plant originally cost of 6150555 and had an original useful economic life of 8 years when purchased 3 years ago. &he useful economic life of the asset has not changed as a result of the transfer. .e-uired& $alculate the unrealiGed profit on the transaction at the end of the year of transfer +2515,. Solution& "3H !efore transfer 6 150555 +;0555, 40555 +20555, 20555 "3H after transfer 6 'ifference 6

$ost 'epreciation +3 yrs, $arrying value 'epreciation $arrying value

;0555 +30555, 30555

20555 +10555, 10555

&he overall adjustment would !e 610555 at the reporting date. &o adjust the accounts. Consolidation adjustment& $onsolidated retained earnings +>;, (roperty0 plant and e uipment 'r +6, 10555 $r +6, 10555

$7% 2.11

7ividends paid b( subsidiar( >hen a su!sidiary company pays a dividend during the year the accounting treatment is not difficult. -uppose - /td0 a ;5: su!sidiary of 4 /td0 pays a dividend of 610555
"1#-15

on the last day of its accounting period. %ts total reserves !efore paying the dividend stood at 680555. +a, 6455 of the dividend is paid to non-controlling shareholders. &he cash leaves the group and will not appear an(where in the consolidated statement of financial position. +!, &he parent company receives 6;55 of the dividend0 de!iting cash and crediting profit or loss. &his will !e cancelled on consolidation. +c, &he remaining !alance of retained earnings in - $oIs statement of financial position +640555, will !e consolidated in the normal way. &he groupIs share +;5: J 640555 K 620455, will !e included in group retained earnings in the statement of financial position= the non-controlling interest share +45: J 640555 K 610;55, is credited to the non-controlling interest account in the statement of financial position. $)% 2.12 ntra!"roup lendin" As a result of intra-group lending one group company will show a loan in their statement of financial position and another group company will show an investment +or receiva!le,. 2n consolidation these should !e eliminated a"ainst each other and are therefore not added across to form part of group !orrowings or group investments.

2.13

6.
3.1

7ividends and Pre!ac-uisition Profits

&he parent company0 as a mem!er of the su!sidiary0 is entitled to its share of the dividends paid !ut it is necessary to decide whether or not these dividends come out of the pre!ac-uisition profits of the subsidiar(. %f the dividend is paid from pre!ac-uisition profits0 the dou!le entry is !eing as follows. 'r $r $ash %nvestment in su!sidiary

3.2

%n other words0 it reduces the cost of the parent compan(3s investment. 3.3 )*ample 6 + 7ividends paid from pre!ac-uisition of the subsidiar( ( ac uires a ;5: interest in - on 1 -eptem!er 2515. -Is year end is 31 'ecem!er. 2n

"1#-11

15 Fanuary 2511 - pays a dividend of 6150555 in respect of 2515. (Is share of the dividend is 6;0555. 4owever0 as it relates to the year of ac uisition0 620555 +;0555 J 4L12, is treated as !eing from post-ac uisition profits and 640555 +;0555 J 7L12, is treated as !eing from pre-ac uisition profits. >hy do we ma1e this distinctionM %f we consider the situation of a holding company deciding whether to invest in a su!sidiary0 we can see the significance of a dividend paid from pre-ac uisition profits. %f the prospective su!sidiaryIs financial statements disclose that it proposes to pay a dividend in the near future0 the prospective holding company 1nows that if it invests in the shares some of its investment will !e returned to it very soon. Also0 a dividend paid out of pre-ac uisition profits cannot !e regarded as a return on the companyIs investment !ecause it relates to the period !efore the investment was made. -o we treat it as what it effectively is C a reduction in the cost of the investment. &o continue the example0 it assumes that ( has paid 61@80555 for its ;5: shareholding in -. At the date of ac uisition - had share capital of 61550555 and retained earnings of 6@50555. %n 2511 - pays a 6150555 dividend of which ( receives 6;0555. 640555 is deemed to !e from pre-ac uisition profits. &he goodwill calculation at 31 'ecem!er 2511 is as follows. 6 $onsideration transferred /ess. pre-ac uisition dividend "et assets ac uired. -hare capital 9etained earnings ?roup share +;5:, ?oodwill 6 1@80555 +40555, 1@10555 1550555 @50555 1@50555 +1520555, ;#0555

8.

9id!(ear Ac-uisitions

"1#-12

4.1

4.2

%f a parent company ac uires a su!sidiary mid-year0 the net assets at the date of ac uisition must !e calculated !ased on the net assets at the start of the su!sidiary<s financial year plus the profits of up to the date of ac uisition. &o calculate this it is normally assumed that su!sidiary<s profit after ta* accrues evenl( over time.

4.3

)*ample 8 + 9id!(ear ac-uisition 2n 1 )ay 2515 4 /td !ought ;5: of - /td paying 6@;0555 cash. &he summariGed statements of financial position for the two companies as at 35 "ovem!er 2515 are. 4 /td 6 1370555 #70555 23;0555 Current assets %nventory &rade receiva!les 3an1 #otal assets )-uit( and liabilities )-uit( -hare capital 9etained earnings ,on!current liabilities 7: /oan notes Current liabilities #otal e-uit( and liabilities &he following information is relevant. +1, &he inventory of - /td includes 670555 of goods purchased from 4 /td at cost 180555 1#0555 20555 2@20555 - /td 6 1180555 1180555 1@0555 250555 1820555

,on!current assets (roperty0 plant and e uipment %nvestments

850555 17#0555 23#0555 330555 2@20555

450555 ;#0555 15#0555 250555 230555 1820555

"1#-13

+2,

+3,

+4, +8, +;, +@,

plus 28:. 2n 1 Fune 2515 - /td transferred an item of plant to 4 /td for 6180555. %ts carrying amount at that date was 6150555. &he asset had a remaining useful economic life of 8 years. &he 4 ?roup values the non-controlling interest using the fair value method. At the date of ac uisition the fair value of the 45: non-controlling interest was 6850555. An impairment loss of 610555 is to !e charged against goodwill at the yearend. - /td earned a profit of 6#0555 in the year ended 35 "ovem!er 2515. &he loan note in - /td<s !oo1s represents monies !orrowed from 4 /td during the year. All of the loan note interest has !een accounted for. %ncluded in 4 /td<s receiva!les is 640555 relating to inventory sold to - /td during the year. - /td raised a che ue for 620855 and sent it to 4 /td on 2# "ovem!er 2515. 4 /td did not receive this che ue until 4 'ecem!er 2515.

.e-uired& (repare the consolidated statement of financial position of 4 /td as at 35 "ovem!er 2515. Solution& >1 -hareholdings in - /td. ?roup +ac uired @ months, "on-controlling interest : ;5 45 155 >2 *nrealised profit in inventory K 670555 x 28L128 K 610;55 Consolidated adjustment& ?roup retained earnings ?roup inventory >3 &ransfer of plant from - /td to 4 /td 'r +6, 10;55 $r +6, 10;55

"1#-14

*nrealised profit K 180555 C 150555 K 680555 Excessive depreciation K +180555 C 150555, L 8 years x ;L12 K 6855 "et unrealiGed profit K 80555 C 855 K 640855 Consolidated adjustment& ?roup retained earnings +40855 x ;5:, "on-controlling interest +40855 x 45:, ?roup property0 plant and e uipment >4 %mpairment of goodwill Consolidated adjustment& ?roup retained earnings +10555 x ;5:, "on-controlling interest +10555 x 45:, ?oodwill >8 /oan note of - /td Consolidated adjustment& 7: /oan notes +- /td, %nvestment +4 /td, >; $ash in transit Consolidated adjustment& $ash in transit 9eceiva!les +4 /td, (aya!les +- /td, 9eceiva!les +4 /td, >@ "et asset of - /td At date of ac uisition 6 450555 At the reporting date 6 450555 'r +6, 20855 10855 10855 $r +6, 20855 'r +6, 250555 $r +6, 250555 'r +6, ;55 455 $r +6, 'r +6, 20@55 10755 $r +6,

40855

10555

-hare capital

"1#-18

9etained earnings *nrealised profit in plant +>3,

;30@85 1530@85

;#0555 +40855, 1540855

(re-ac uisition profit K ;50555 E #0555 x 8L12 K ;30@85. >7 ?oodwill (arent holding +investment, at fair value "$% value at ac uisition /ess. Aair value of net assets at ac uisition +>@, ?oodwill on ac uisition /ess. %mpairment of goodwill $arrying amount ># "on-controlling interest "$% value at ac uisition +>7, "$% share of post ac uisition reserves B45: x +1540855 C 1530@85,D /ess. "$% share of impairment +>4, 6 850555 355 +455, 4#0#55 >15 ?roup retained earnings 4 /td - /td. B;5: x +1540855 C 1530@85,D %mpairment of goodwill +>4, 6 17#0555 485 +;55, 17@0285 $onsolidated statement of financial positions as at 35 "ovem!er 2515 - /td ,on!current assets 6 ?oodwill +>7, 210285 (roperty0 plant and e uipment +1370555 E 1180555 C 40855 +>3,, 2470855 %nvestments +#70555 C @;0555 C 250555 +>8,, 20555
"1#-1;

6 @;0555 850555 12;0555 +1530@85, 220285 +10555, 210285

2@10@85 Current assets %nventory +180555 E 1@0555 C 10;55 +>2,, &rade receiva!les +1#0555 E 250555 C 20855 C 10855 +>;,, 3an1 +20555 E 20855 +>;,, #otal assets )-uit( and liabilities )-uit( -hare capital 9etained earnings +>15, "on-controlling interest +>#, ,on!current liabilities 7: /oan notes +250555 C 250555, Current liabilities $66:;;; < 26:;;; + 1:=;; $45%% #otal e-uit( and liabilities 350455 380555 40855 3410;85

850555 17@0285 23@0285 4#0#55 27@0185 840855 3410;85

"1#-1@