An introduction to consolidated financial statements
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An Introduction to Consolidated Financial Statements. Business Combinations Consummated Through Stock Acquisitions. Business combination. One or more companies become subsidiaries of a common parent corporation. The Reporting Entity. Parent Financial Statements _____ _____ _____ _____

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An Introduction to Consolidated Financial Statements

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An introduction to consolidated financial statements

An Introduction to ConsolidatedFinancial Statements


Business combinations consummated through stock acquisitions

Business Combinations ConsummatedThrough Stock Acquisitions

Business combination

One or more companies

become subsidiaries of a

common parent corporation.


The reporting entity

The Reporting Entity

Parent

Financial

Statements

_____ _____

_____ _____

_____ _____

_____ _____

Subsidiary

Financial

Statements

_____ _____

_____ _____

_____ _____

_____ _____

Consolidated

Financial

Statements

_____ _____

_____ _____

_____ _____

_____ _____


The reporting entity1

The Reporting Entity

A parent company may acquire a

subsidiary in a very different industry

from its own as a means of diversifying

its overall business risk.

There are also legal reasons for

maintaining separate identities.


The parent subsidiary relationship

The Parent-Subsidiary Relationship

Parent Company

Owns more than 50%

of another company

Affiliate


The parent subsidiary relationship1

90%

ownership

80%

ownership

Subsidiary A

Subsidiary B

The Parent-Subsidiary Relationship

Parent Company


Consolidation policy

Consolidation Policy

Consolidated financial statements provide

information that is not included in the separate

statements of the parent corporation.


Consolidation policy1

1

Control is likely to be temporary.

2

Control does not rest with the

majority owner.

Consolidation Policy

A subsidiary can be excluded from

consolidation in only two situations:


Consolidation policy2

Consolidation Policy

Consolidation policy is usually presented

under the following headings:

Principles of

consolidation

Basis of

consolidation


Parent and subsidiary with different fiscal periods

Parent and Subsidiary withDifferent Fiscal Periods

Consolidated statements are prepared for and

as of the end of the parent’s fiscal period.

If the difference does not exceed three months…

it is acceptable to use the subsidiary’s

statements with disclosure.


Consolidated balance sheet at date of acquisition 100 at book value

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Assets Penn Skelly Consolidated

Current assets

Cash$ 20,000$10,000$ 30,000

Other current assets 45,000 15,000 60,000

Total current assets$ 65,000$25,000$ 90,000

Plant assets$ 75,000$45,000$120,000

Less: Accum. depr. 15,000 5,000 20,000

Total plant assets$ 60,000$40,000$100,000

Investment in Skelly 40,000 0 0

Total assets$165,000$65,000$190,000


Consolidated balance sheet at date of acquisition 100 at book value1

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Liabilities Penn Skelly Consolidated

Current liabilities

Accounts payable$ 20,000$15,000$ 35,000

Other current liabilities 25,000 10,000 35,000

Total current liabilities$ 45,000$25,000$ 70,000

Stockholders’ equity

Capital stock$100,000$30,000$100,000

Retained earnings 20,000 10,000 20,000

Total stockholders’ equity$120,000$40,000$120,000

Total liabilities and

stockholders’ equity$165,000$65,000$190,000


Learning objective 4

Learning Objective 4

Allocate the excess of the

investment cost over the

book value of the subsidiary

at the date of acquisition.


Parent acquires 100 of subsidiary with goodwill

Parent Acquires 100% ofSubsidiary with Goodwill

Penn purchased all the stock of Skelly for $50,000.

Skelly stockholder’s equity is $40,000.

What is the consolidating (eliminating) entry?


Parent acquires 100 of subsidiary with goodwill1

Parent Acquires 100% ofSubsidiary with Goodwill

Capital Stock30,000

Retained Earnings10,000

Goodwill10,000

Investment in Skelly50,000

To eliminate reciprocal investment and equity

accounts and to assign the excess of investment

cost over book value acquired to goodwill


Learning objective 5

Learning Objective 5

Prepare a consolidated balance

sheet at the date of acquisition,

including preparation

of eliminating entries.


Consolidated balance sheet at date of acquisition 100 at book value2

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Assets Penn Skelly Consolidated

Current assets

Cash$ 10,000$10,000$ 20,000

Other current assets 45,000 15,000 60,000

Total current assets$ 55,000$25,000$ 80,000

Plant assets$ 75,000$45,000$120,000

Less: Accum. depr. 15,000 5,000 20,000

Total plant assets$ 60,000$40,000$100,000

Investment in Skelly 50,000

Goodwill 10,000

Total assets$165,000$65,000$190,000


Consolidated balance sheet at date of acquisition 100 at book value3

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Liabilities Penn Skelly Consolidated

Current liabilities

Accounts payable$ 20,000$15,000$ 35,000

Other current liabilities 25,000 10,000 35,000

Total current liabilities$ 45,000$25,000$ 70,000

Stockholders’ equity

Capital stock$100,000$30,000$100,000

Retained earnings 20,000 10,000 20,000

Total stockholders’ equity$120,000$40,000$120,000

Total liabilities and

stockholders’ equity$165,000$65,000$190,000


Consolidated balance sheet at date of acquisition 100 at book value4

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Assets Penn Skelly Consolidated

Current assets

Cash$ 10,000$10,000$ 20,000

Other current assets 45,000 15,000 60,000

Total current assets$ 55,000$25,000$ 80,000

Plant assets$ 75,000$45,000$120,000

Less: Accum. depr. 15,000 5,000 20,000

Total plant assets$ 60,000$40,000$100,000

Investment in Skelly 50,000

Goodwill 14,000

Total assets$165,000$65,000$194,000


Consolidated balance sheet at date of acquisition 100 at book value5

Consolidated Balance Sheet at Dateof Acquisition (100% at Book Value)

Liabilities Penn Skelly Consolidated

Current liabilities

Accounts payable$ 20,000$15,000$ 35,000

Other current liabilities 25,000 10,000 35,000

Total current liabilities$ 45,000$25,000$ 70,000

Minority interest$ 4,000

Stockholders’ equity

Capital stock$100,000$30,000$100,000

Retained earnings 20,000 10,000 20,000

Total stockholders’ equity$120,000$40,000$120,000

Total liabilities and

stockholders’ equity$165,000$65,000$194,000


Minority interest

Minority Interest

Minority interest in subsidiaries is generally

shown in a single amount in the liability section

of the consolidated balance sheet.

The alternatives are to include the minority interest

in consolidated stockholders’ equity or to place it

in a separate minority interest section.


Minority interest1

Minority Interest

The interest of minority

stockholders represents

equity investments in the

consolidated net assets by

stockholders of the company

affiliated with the parent.


Consolidated balance sheet after acquisition

Consolidated Balance SheetAfter Acquisition

Assumptions

1. Penn acquired a 90% interest in Skelly on

January 1 for $50,000 when Skelly’s

stockholders’ equity was $40,000.

2. The accounts payable of Skelly includes

$5,000 owed to Penn.

3. During the year, Skelly had income of

$20,000 and declared $10,000 dividends.


Consolidated balance sheet after acquisition1

Consolidated Balance SheetAfter Acquisition

What is the balance in the investment in

Skelly’s account at December 31?

Original investment January 1$50,000

+ 90% of Skelly’s net income 18,000

– 90% of Skelly’s dividends– 9,000

Investment account balance$59,000


Consolidated balance sheet after acquisition2

Consolidated Balance SheetAfter Acquisition

Capital Stock30,000

Retained Earnings20,000

Goodwill14,000

Investment in Skelly59,000

Minority Interest 5,000

To eliminate reciprocal investment and

equity balances, record goodwill, and

enter the minority interest


Consolidated balance sheet after acquisition3

Consolidated Balance SheetAfter Acquisition

Dividends Payable9,000

Dividends Receivable9,000

To eliminate reciprocal dividends

receivable and payable

Accounts Payable5,000

Accounts Receivable5,000

To eliminate intercompany receivable

and accounts payable


Effect of allocation on consolidated balance sheet at acquisition

Effect of Allocation on ConsolidatedBalance Sheet at Acquisition

The separate books of the affiliated

companies do not record cost/book

value differentials in acquisitions that

create parent-subsidiary relationships.

Working paper procedures are used

to adjust subsidiary book values to

reflect the cost/book differentials.


Effect of allocation on consolidated balance sheet at acquisition1

Effect of Allocation on ConsolidatedBalance Sheet at Acquisition

The adjusted amounts appear in the

consolidated balance sheet.

The amount of the adjustment to

individual assets and liabilities is

determined using an investment

cost-allocation schedule.


Effect of allocation on consolidated balance sheet at acquisition2

Effect of Allocation on ConsolidatedBalance Sheet at Acquisition

On Dec. 3, 2003, Pilot purchases 90% of Sand

Corporation’s outstanding common stock for

$5,000,000 cash plus 100,000 shares of $10

stock with a market value of $5,000,000.

Additional costs are $300,000.

$200,000 is recorded as cost of the investment.


Effect of allocation on consolidated balance sheet at acquisition3

Effect of Allocation on ConsolidatedBalance Sheet at Acquisition

Sand Corporation (000) Book Value Fair Value

Assets

Cash$ 200$ 200

Net receivables 300 300

Inventories 500 600

Other current assets 400 400

Land 600 800

Building, net 4,000 5,000

Equipment, net 2,000 1,700

Total assets$8,000$9,000


Effect of allocation on consolidated balance sheet at acquisition4

Effect of Allocation on ConsolidatedBalance Sheet at Acquisition

Sand Corporation (000) Book Value Fair Value

Liabilities

Accounts payable$ 700 $ 700

Notes payable 1,400 1,300

Common stock 4,000

Paid-in capital 1,000

Retained earnings 900

Total liabilities and

stockholders’ equity$8,000


Assignment of excess cost over underlying equity

Assignment of Excess Costover Underlying Equity

Investment in Sand10,000

Common Stock1,000

Additional Paid-in Capital4,000

Cash5,000

To record 90% acquisition of Sand Corporation


Assignment of excess cost over underlying equity1

Assignment of Excess Costover Underlying Equity

Investment in Sand200

Additional Paid-in Capital100

Cash300

To record additional costs of combining with

Sand


Allocation of excess cost over underlying equity

Allocation of Excess Costover Underlying Equity

Investment in Sand$10,200,000

Book value of interest acquired

$5,900,000 ×90% = (5,310,000)

Excess of cost over BV$ 4,890,000


Allocation of excess cost over underlying equity1

Allocation of Excess Costover Underlying Equity

Fair

Value

Book

Value

× 90% =

Excess

Allocated

Inventories 600 500 90

Land 800 600 180

Building net5,0004,000 900

Equipment, net1,7002,000 (270)

Notes payable1,3001,400 90

Total allocated 990

Remainder to goodwill3,900

Total4,890


Consolidated working papers december 31 2003

Consolidated Working PapersDecember 31, 2003

Adjustments and Consolidated

Eliminations Balance

Account Title Pilot Sand Dr. Cr. Sheet

Cash

Receivables, net

Inventories

Other current assets

Land

Building, net

Equipment, net

Investment in Sand

Goodwill

Unamortized excess

Total assets

1,300

700

900

600

1,200

8,000

7,000

10,200

29,900

200

300

500

400

600

4,000

2,000

8,000

b 90

b 180

b 900

b 3,900

a 4,890

b 270

a 10,200

b 4,890

1,500

1,000

1,490

1,000

1,980

12,900

8,730

3,900

32,500


Consolidated working papers december 31 20031

Consolidated Working PapersDecember 31, 2003

Adjustments and Consolidated

Eliminations Balance

Account Title Pilot Sand Dr. Cr. Sheet

Accounts payable

Notes payable

Common stock

Other paid-in capital

Retained earnings

Minority interest

Total liabilities and

stockholders’ equity

2,000

3,700

11,000

8,900

4,300

29,900

700

1,400

4,000

1,000

900

8,000

b 90

a 4,000

a 1,000

a 900

a 590

2,700

5,010

11,000

8,900

4,300

590

32,500


Consolidated income statement

Consolidated Income Statement

The difference between a consolidated and

an unconsolidated income statement of the

parent company lies in the detail presented

rather than the net income amount.


Effect of amortization on consolidated balance sheet after acquisition

Effect of Amortization on ConsolidatedBalance Sheet after Acquisition

Income for 2004:

Sand’s net income$ 800,000

Pilot’s income

(excluding income from Sand)$2,523,500


Effect of amortization on consolidated balance sheet after acquisition1

Effect of Amortization on ConsolidatedBalance Sheet after Acquisition

Dividends Paid:

Sand$ 300,000

Pilot$1,500,000


Effect of amortization on consolidated balance sheet after acquisition2

Effect of Amortization on ConsolidatedBalance Sheet after Acquisition

Amortization of excess:

Undervalued inventories sold in 2004

Undervalued land still held

Undervalued building (45 years useful life)

Overvalued equipment (5 years useful life)

Overvalued notes payable retired in 2004

Goodwill (no amortization)


Consolidated working papers december 31 2004

Consolidated Working PapersDecember 31, 2004

Adjustments and Consolidated

Eliminations Balance

Account Title Pilot Sand Dr. Cr. Sheet

Cash

Receivables, net

Inventories

Other current assets

Land

Building, net

Equipment, net

Investment in Sand

Goodwill

Unamortized excess

Total assets

253.5

540

1,300

800

1,200

9,500

8,000

10,504

32,097.5

100

200

600

500

600

3,800

1,800

7,600

b 180

b 880

b 3,900

a 4,744

b 216

a 10,504

b 4,744

353.5

740

1,900

1,300

1,980

12,900

8,730

3,900

33,937.5


Consolidated working papers december 31 20041

Consolidated Working PapersDecember 31, 2004

Adjustments and Consolidated

Eliminations Balance

Account Title Pilot Sand Dr. Cr. Sheet

Accounts payable

Notes payable

Common stock

Other paid-in capital

Retained earnings

Minority interest

Total liabilities and

stockholders’ equity

2,300

4,000

11,000

8,900

5,897.5

32,097.5

1,200

4,000

1,000

1,400

7,600

a 4,000

a 1,000

a 1,400

a 640

3,500

4,000

11,000

8,900

5,897.5

640

33,937.5


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