In: Accounting
It is true that the current market valuation of the companies is always undervalued under GAAP. Firstly, GAAP does not record the unrealized increases in a firm’s market value as the reported asset amounts in increases. The failure to record the unrealized increase in firm’s market value affects the valuation of the companies. For instance, the parent’s payments for its post control equity acquisitions were in excess of the subsidiary’s proportionate carrying amounts (Hsu, Duh & Cheng, 2012). Considering the owners retain such transactions, no gain or losses are usually recorded. Thus, the parent company will reduce its paid in capital for excess of the purchase price over the carrying amount. The GAAP accounting is same to the retirement of stock for the payment in excess of the company certain carrying amount.
A second reason includes the failure to establish new valuation basis for subsidiary. When the date control is created, the GAAP does not require the new subsidiary’s valuation basis to be established. Additional acquisitions of the remaining portions of the non controlling interests do not establish new valuation basis for a subsidiary. In terms of a parent company, a new valuation of basis for subsidiary could be established. When the parent increases the consolidated carrying amount at the subsidiary usually earns income, and not by the subsequent purchases of the parent’s non controlling shares.
The main characteristics of a variable interest entity (VIE) includes that the equity investment at must be adequate to allow the entity to finance their operations without additional financial support from other firms. The VIEs is also characterized with that the equity investors lacks key characteristics of a controlling financial interest. The features includes he direct or indirect ability to make decisions about the company’s operations through voting rights (Hsu et al., 2012). It also discusses the obligation to absorb the expected losses of the entity if they are incurred. The features indicate the implications of the variable interest entity and their impacts on business combinations.
The inclusion of VIEs in the company’s consolidated financial statements would be useful to the investors as it assists in improving the financial reporting by enterprises involved with the variable interest entities. Most of the accounting boards have argued that businesses, which have a financial controlling interest in a variable interest entity, are able to impose effective enterprise controls (Reinstein, Churyk & Berde, 2012). The interpretation of the inclusion of the VIEs helps the investors to decide on whether to consolidate their entities. VIEs also enhance the effective distribution of risks to allow for the combination of interests. Therefore, the investors will have an opportunity to assess the enterprise risks and thus, providing information useful in making informed business and economic decisions.