Accounting for Indirect Ownership Interests | My Assignment Tutor

Lecture 9 : Accounting for Indirect Ownership InterestsHI5020 Corporate AccountingHolmes InstituteApplied Business Statistics for ManagersTopics covered in this session:▪ Understand that controlling interest can be direct and indirect▪ Understand that non-controlling interest can be direct and indirect▪ Understand that the financial interest of the parent company onthe subsidiary company can be different from the votinginterest/controlling interest.▪ Understand the concept of sequential acquisition and nonsequential acquisition.Holmes InstituteApplied Business Statistics for ManagersIndirect ownership interests▪ AASB 10 requires that:➢ the consolidated financial report includes all subsidiaries of the parent▪ Subsidiary defined as (AASB 10):➢ an entity that is controlled by another entity▪ As we already know, control is the criterion for determining whether an entity isto be consolidated▪ According to paragraphs 6 and 7 of AASB 10:Holmes InstituteApplied Business Statistics for ManagersIndirect ownership interests (cont.)6 An investor controls an investee when it is exposed, or has rights, to variable returnsfrom its involvement with the investee and has the ability to affect those returnsthrough its power over the investee.7 Thus, an investor controls an investee if and only if the investor has all the following:(a) power over the investee (see paragraphs 10–14);(b) exposure, or rights, to variable returns from its involvement with the investee(see paragraphs 15 and 16); and(c) the ability to use its power over the investee to affect the amount of the investor’sreturns (see paragraphs 17 and 18).‘Control’ can be exercised even in the absence of any direct ownership interest—it canarise through indirect ownership interestsHolmes InstituteApplied Business Statistics for ManagersFigure 28.1: Example of control being exercised through an indirect interestHolmes InstituteApplied Business Statistics for ManagersCalculating direct and indirect interests▪ Using the information in the last slide we can calculate thepercentage interest by constructing a table:Holmes InstituteApplied Business Statistics for ManagersIndirect ownership interestsNon-controlling interests represent:the equity in a subsidiary not attributable, directly or indirectly,to a parentIt is also possible to hold both direct and indirect interests in thesame entityHolmes InstituteApplied Business Statistics for ManagersWhere a parent entity holds both a direct and an indirect interest in a subsidiaryHolmes InstituteApplied Business Statistics for ManagersIndirect ownership interests▪ Consolidation in the presence of indirect interestsChoice of two methods in performing consolidation:1. Sequential-consolidation approach– Consolidation of each separate legal entity with its controlled entities isperformed sequentially (time-consuming and messy)2. Multiple-consolidation approach– This is the method advocated in this book– In eliminating the investments held by the immediate parent entities (theinvestments as they would appear in the separate legal entities’ financialstatements), only direct ownership interests are taken into account– Post-acquisition movements in the subsidiaries’ shareholders’ equity areallocated to the ultimate parent entity on the basis of the sum of the directand indirect ownership interestsHolmes InstituteApplied Business Statistics for ManagersIndirect ownership interests (continued)▪ Hence, indirect interests are relevant only for apportioning postacquisition movements in shareholders’ equity▪ Again, any pre-acquisition allocations or distributions are to beapportioned to the parent and to the non-controlling interest on thebasis of direct ownership interests only▪ We need to know both the direct and indirect ownership interests beforewe are able to prepare the consolidated financial statements▪ Indirect interests are relevant for apportioning post-acquisitionmovements in shareholders’ funds▪ Any pre-acquisition allocations or distributions are to be apportionedon the basis of direct ownership interests onlyHolmes InstituteApplied Business Statistics for ManagersIndirect ownership interests (cont.)Journal entriesTo eliminate parent’s investment in subsidiary Dr Share capitalDr Retained earningsDr GoodwillCr Investment in subsidiaryxxxx The investment elimination is undertaken on the basis of directownership interestsTo recognise impairment of goodwill associated with acquisition Dr Impairment expense—goodwillxCr Accumulated impairment losses—goodwillx Holmes InstituteApplied Business Statistics for ManagersIndirect ownership interests (cont.)Journal entries (cont.)To eliminate dividends declared by subsidiary DrDividend payable(statement of financial position)Dividend receivable(statement of financial position)xxCr DrDividend revenuex(statement of comprehensive income)Dividend declared (statement of changes in equity)Crx After eliminations, the consolidated financial statements should show the dividends paidand declared by the parent entity as well as the direct non-controlling interests in thedividends paid and declared by the subsidiaries—that is, total dividends paid anddeclared are those dividends that flow away from the economic entityHolmes InstituteApplied Business Statistics for ManagersIndirect ownership interests (cont.)Non-controlling interests (AASB 10)➢ To be presented separately from the parent shareholders’ equity in theconsolidated statement of financial position within equity➢ To be separately disclosed in the profit or loss of the groupHolmes InstituteApplied Business Statistics for ManagersNon-controlling interests▪ Non-controlling interests in profit are calculated on the basis ofthe sum of both direct and indirect ownership interests▪ Apportionment of non-controlling interest in pre-acquisition sharecapital and reserves is based on direct ownership interests only▪ Apportionment of post-acquisition movements in retainedearnings and other reserves is based on the sum of both directand indirect ownership interestsHolmes InstituteApplied Business Statistics for ManagersNon-controlling interests in current period profitsWhere there is an intermediate parent entity a number of adjustments must be made tosubsidiaries’ profits before we can determine non-controlling interests in profits:➢Intragroup dividends paid to an ‘intermediate parent’ from a subsidiary are subtracted from theprofits of that intermediate parent before the non-controlling interest in profits of thatorganisation is calculated➢If the non-controlling interest in a subsidiary is valued at fair value at acquisition date, thegoodwill impairment loss relating to the purchase of a subsidiary should be attributed to thatsubsidiary➢If the non-controlling interest in a subsidiary is valued at the non-controlling interest’sproportionate share of the subsidiary’s identifiable net assets at acquisition date, then thegoodwill impairment loss relating to the purchase of a subsidiary should be attributed to theimmediate parent entity of the subsidiary because it is only the immediate parent entity’s shareof goodwill which has been recognisedHolmes InstituteApplied Business Statistics for ManagersSequential and non-sequential acquisitionsExamples would include:➢ The parent acquires its interest in the intermediate subsidiary before theintermediate subsidiary acquires its interest in the other subsidiary (this isreferred to as sequential acquisition and is represented in the following slide)➢ The parent acquires its interest in the intermediate subsidiary after theintermediate subsidiary acquires its interest in the other subsidiary (this isreferred to as non-sequential acquisition and is represented in the slidefollowing the next slide)Holmes InstituteApplied Business Statistics for ManagersSequential acquisitionHolmes InstituteApplied Business Statistics for ManagersNon-sequential acquisitionHolmes InstituteApplied Business Statistics for ManagersNon-sequential acquisitions▪ In a sequential acquisition, the consolidated financial statements will beaccounted for in the same manner as when acquisitions occur simultaneously.Since we have considered simultaneous acquisitions up to now, we shouldhave no trouble accounting for sequential transactions▪ In a non-sequential acquisition—the situation where the parent entity acquiresits control of the intermediate subsidiary after the intermediate subsidiaryacquired its interest in another subsidiary—the ultimate parent (OrganisationA) is acquiring an interest in the B Group, rather than solely in Organisation B▪ In determining the fair value of the assets acquired in Organisation B, which isnecessary for our consolidation entry that eliminates the investment inOrganisation B against the pre-acquisition capital and reserves ofOrganisation B, we must consider the value of both Organisation B andOrganisation CHolmes InstituteApplied Business Statistics for ManagersNon-sequential acquisitions (cont.)▪ The value of Organisation B’s investment in Organisation Cwill be affected by post-acquisition profits and reservemovements in Organisation C▪ Therefore, Organisation A’s investment in Organisation Bmust be eliminated against Organisation A’s share of theowners’ equity of the B Group (Organisation B plusOrganisation C) as at the date of Organisation A’s investment▪ The profits earned by Organisation C, after Organisation Bacquired its interest in Organisation C but prior toOrganisation A’s acquisition of the B Group, are treated aspart of pre-acquisition reserves, and therefore eliminated onconsolidationHolmes InstituteApplied Business Statistics for ManagersExample 1▪ A Ltd has a 60 per cent interest in B Ltd and B Ltd has an 80per cent interest in C Ltd. Both acquisitions were made in2012. During the financial year ended 30 June 2015, A Ltdpaid a dividend of $300 000, B Ltd paid a dividend of $200000 and C Ltd paid a dividend of $100 000. What amount ofdividends paid would be shown in the consolidated financialstatements of A Ltd and its controlled entities for the yearending 30 June 2015?Holmes InstituteApplied Business Statistics for ManagersAnswer: Example 1▪ The ownership structure can be summarised as follows (the broken arrow representsthe indirect ownership interest of the parent entity):Holmes InstituteApplied Business Statistics for ManagersAnswer: Example 1 continued▪ The consolidated financial statements—specifically, the consolidatedstatement of changes in equity—would show the dividends that areflowing away from the economic entity. In this case this would representthe dividends paid by the parent entity ($300 000), plus the dividendspaid to the direct non-controlling interests of B Ltd ($80 000), and thedividends paid to the direct non-controlling interests of C Ltd ($20 000),giving total dividends to be shown in the consolidated financialstatements of $400 000.Holmes InstituteApplied Business Statistics for ManagersExample 2▪ Maroubra Ltd holds 70 per cent of the ownership equity of Coogee Ltdand Coogee Ltd holds 80 per cent of the ownership equity of ClovellyLtd. During the financial year the following dividends are paid by therespective companies:▪ Required▪ What amount of dividend payments would be shown in the consolidatedfinancial statements?Holmes InstituteApplied Business Statistics for ManagersAnswer: Example 2▪ The amount of dividends to be shown in the consolidatedfinancial statements would be $156 000, which is thedividends paid by the parent entity ($120 000), plus the directnon-controlling interest in the dividends paid by Coogee Ltd(0.30 × $80 000 = $24 000), plus the direct non-controllinginterests in the dividends paid by Clovelly Ltd (0.20 × $60 000= $12 000).Holmes InstituteApplied Business Statistics for ManagersSummary▪ The lecture showed that it is possible to control another entity—andtherefore be required to consolidate it—without necessarily having anydirect ownership in that separate legal entity▪ When consolidating in the presence of indirect interests, the eliminationof the investments held by the immediate parent entities is to beundertaken on the basis of the direct ownership interest▪ The economic entity’s interest in the post-acquisition profits ofsubsidiaries and post-acquisition movements in reserves will be basedon the sum of both the direct ownership interests and the indirectownership interests

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