Question

Discuss the effects of intercompany transactions when consolidating financial statements. Your discussion should include the effects on both the parent and the subsidiary.

Answer 1

Effects of intercompany transactions when consolidating financial statements

Objective:-

This Statement should be applied in the preparation and presentation of consolidated financial statements for a group of enterprise under the control of a parent. This Statement should also be applied in accounting for Investment in subsidiaries in the separate financial statements of apparent.

Definition:-

Control: It is defined as under

The ownership, directly or indirectly through subsidiary, of more than one- half of the voting power of an enterprise: or Control of the composition of the corresponding governing body in case of any other enterprise so as to obtain economic benefits from its activates.

A Subsidiary is an enterprise that is controlled by another enterprise (known as the parent )

A Parent is the enterprise that control one or more subsidiaries.

A group is a parent and all its subsidiaries.

Consolidated financial statements are the financial statements of a group presented as those of a single enterprise.

Equity is the residual interest in the assets of an enterprise after deducting all its liabilities.

Minority Interest is that part of the net results of operations and of the net results of operations and of the net assets of a subsidiary attributable to interests which are not owned, directly or indirectly through subsidiaries, by the parent.

Presentation of Consolidated Financial Statements:-

A Parent which presents consolidated financial statements should present these statements in addition to its separate financial statements, will improve comparison of performance among different enterprise for the same period and among different accounting periods for the same enterprise.

Scope of Consolidated Financial Statements:-

A Parent which presents consolidated financial statements should consolidate all subsidiaries, domestic as well as foreign.

Consolidation Procedure:-

In preparing consolidated financial statements, the financial statements of the parent and its subsidiaries should be combined on a line by line basis basis by adding together like items of assets liabilities, income and expenses, In order thet the consolidated financial statements present financial information about the group as thet of a single enterprise, the following steps should be taken:-

1. The cost of the parent of its investment in each subsidiary and the parent’s portion of equity of each subsidiary at the date on which investment is made, should be eliminated.
2. Any excess of the cost of the parent of its investment in a subsidiary,over the parent’s portion of equity of the subsidiary, at the date on which investment in the subsidiary is made, should be described as goodwill to be recognized as an asset in the consolidated financial statements.
3. When the cost of the parent of its investment in a subsidiaty is less then the parent’s portion of equity of the subsidiary, at the date on which investment in the subsidiary is made, the difference should be treated as a capital reserve in the consolidated financial statements.
4. Minority interests in the income of consolidated subsidiaries for the reporting period should be identified and adjusted against the income of the group’s in older to arrive at the net income attributable to the owners of the parent.
5. Minority interests in the net assets of consolidated subsidiaries should be identified and presented in the consolidated balance sheet separately from liabilities and the equity of the parent’s shareholders.

A minority interest in the net assets consists of:-

• The amount of equity attributable to minorities at the date on which investment in a subsidiary is made.
• The minorities share of movement in equity since the date te parent subsidiary relationship came in existence.

Other Points:-

1. Where the carrying amount of the investment in the subsidiary is different from its cost, the carrying amount is considered for the purpose of above computations.
2. Intergroup balances and intergroup transactions and resulting unrealized profits should be eliminated in full. Unrealized losses resulting from intergroup transactions should also be eliminated unless cost cannot be recovered.
3. The financial statements used in the consolidation should be drawn up to the same reporting date. If it is not practicable to draw up the financial statements of one or more subsidiaries t such date and accordingly, those financial statements are drawn up to different reporting dates, adjustment should be made for the effects of significant transactions or those dates and the sate or the parent’s financial statements. In any case the, the difference between reporting dates should not be more than six months.
4. Consolidated financial statements should be prepared using uniform accounting policies in preparing the consolidated financial statements, that fact should be disclosed together with the proportions of the items in the consolidated financial statements to which the different accounting policies have been applied.
5. Minority interest should be presented in the consolidated balance sheet separately from liabilities and the equity of the parent’s shareholder. Minority interests in the income of the group should also be separately presented.

Disclosure:-

Following disclosures should be made in consolidated financial statements:-

1. List of all subsidiaries.
2. Proportion of ownership interest.
3. Nature of relationship between parent and subsidiary whether direct control or control through subsidiaries.
4. Name of subsidiaries of which the reporting dates are different.
5. The fact for applying different accounting policies for preparation of consolidated financial statements.
6. If consolidation of particular subsidiary has not been made as per the grounds allowed in accounting standard the reason for not consolidating should be mentioned.