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Topics 1 to 3 – Consolidation: Principles, accounting requirements, intra-group transactions and non-controlling interests
Parent Ltd acquired 80% of the issued shares of Subsidiary Ltd on 1 July 2014. At the acquisition date, the equity of Subsidiary Ltd consisted of Share Capital of $200,000; Retained Earnings of $ 74,000 and General Reserve of $6,000.
Parent Ltd uses the full goodwill method. The fair value of non-controlling interest at 1 July 2014 was $63,000.
All the identifiable net assets of Subsidiary Ltd were recorded at fair value at the date of acquisition, except for the following assets:4
| Carrying amount | Fair value | |
| $ | $ | |
| Plant (cost $150,000) | 100,000 | 110,000 |
| Land | 60,000 | 76,000 |
The plant has a further 10-year life, with benefits expected to be received evenly over that period. The land was sold on 1 February 2015 for $80,000. Any valuation reserve in relation to the land is transferred to retained earnings on consolidation.
Three years after acquisition, the financial information at 30 June 2017 of the two companies appears as follows:
| Parent Ltd | Subsidiary Ltd | |
| $ | $ | |
| Sales | 632,000 | 440,000 |
| Other revenue: | ||
| Debenture interest | 10,000 | – |
| Management and consulting fees | 10,000 | – |
| Dividends from Subsidiary Ltd | 24,000 | – |
| Total revenue | 676,000 | 440,000 |
| Cost of sales | 260,000 | 170,000 |
| Manufacturing expenses | 180,000 | 120,000 |
| Depreciation on plant | 30,000 | 30,000 |
| Administrative expenses | 30,000 | 16,000 |
| Financial expenses | 22,000 | 10,000 |
| Other expenses | 28,000 | 24,000 |
| Total expenses | 550,000 | 370,000 |
| Profit before tax | 126,000 | 70,000 |
| Income tax expense | (50,000) | (34,000) |
| Operating profit after tax | 76,000 | 36,000 |
| Retained earnings 1 July 2016 | 100,000 | 90,000 |
| 176,000 | 126,000 | |
| Transfer to general reserve | 6,000 | – |
| Interim dividend paid | 20,000 | 20,000 |
| Final dividends declared | 20,000 | 10,000 |
| 46,000 | 30,000 | |
| Retained earnings 30 June 2017 | 130,000 | 96,000 |
| General reserve | 100,000 | 20,000 |
| Other components of equity | 26,000 | 20,000 |
| Share capital | 600,000 | 200,000 |
| Debentures | 400,000 | 200,000 |
| Current tax liability | 50,000 | 34,000 |
| Dividend payable | 20,000 | 10,000 |
| Deferred tax liability | – | 14,000 |
| Other liabilities | 180,000 | 24,000 |
| 1,506,000 | 618,000 | |
| Assets | ||
| Financial assets | 100,000 | 120,000 |
| Debentures in Subsidiary Ltd | 200,000 | – |
| Shares in Subsidiary Ltd | 263,200 | – |
| Plant (cost) | 240,000 | 204,000 |
| Accumulated depreciation – plant | (130,000) | (110,000) |
| Other depreciable assets | 152,000 | 110,000 |
| Accumulated depreciation | (80,000) | (50,000) |
| Inventory | 180,000 | 170,000 |
| Deferred tax asset | 170,800 | 60,000 |
| Land | 402,000 | 114,000 |
| Dividend receivable | 8,000 | – |
| 1,506,000 | 618,000 |
Additional information:
(a) The inventory on hand of Subsidiary Ltd on 1 July 2016 included a quantity priced at $20,000 that was transferred from Parent Ltd during the prior financial year. This inventory had cost Parent Ltd $15,000. This entire inventory was sold by Subsidiary Ltd to parties external to the group during the current financial year.
(b) Subsidiary Ltd sold inventory to Parent Ltd for $120,000 during the year. This inventory had an original cost to Subsidiary Ltd of $110,000. This entire inventory was held by Parent Ltd during the year.
(c) On 1 January 2016, Subsidiary Ltd sold an item from its inventory to Parent Ltd for $40,000. Parent Ltd had treated this item as an addition to its plant. The item was put into service as soon as received by Parent Ltd and depreciation charged at 20% p.a. The cost of that item to Subsidiary Ltd was $30,000.
(d) The management and consulting fees of Parent Ltd were all paid by Subsidiary Ltd and represented charges made for administration $4,400 and technical services $5,600. The latter were recognised as manufacturing expenses by Subsidiary Ltd.
(e) All debentures issued by Subsidiary Ltd are held by Parent Ltd. The related interest has been recorded by Parent Ltd accordingly and Subsidiary Ltd recorded the interest paid in financial expenses.
(f) Other components of equity relate to movements in the fair values of the financial assets. The balance of these accounts on 1 July 2016 was $20,000 for Parent Ltd and $16,000 for Subsidiary Ltd.
(g) The tax rate is 30%.
Required:
Prepare an acquisition analysis and the consolidation journal entries necessary for preparation of the consolidated financial statements for the year ending 30 June 2017 for the group comprising Parent Ltd and Subsidiary Ltd.
Note: show all necessary workings and narrations.
| Question 1 | Max. marks allocated |
| Acquisition analysis | 5 |
| Consolidation entries – accuracy | 35 |
| Total | 40 |
Expert Answer
Aquisition analysis:
parent ltd holds 80% of subsidiary ltd.in consolidated financial statements, parent’s & subsidiary’s financial statements are added showing non controlling interest under liabilities side.
goodwill as per full goodwill method = Fair value of subsidiary as a whole- Fairvalue of net identifiable assets.
Fair value of subsidiary as a whole: The fair value of non-controlling interest ( 100%-80%=20%) at 1 July 2014 was $63,000. that implies Fair value of subsidiary ltd as a whole =$ 63000/20% =$ 315000.
Fairvalue of net identifiable assets is shown by sum of share capital,retained earnings and general reserve which amounts to 280000.this is increased by adjustments of difference between carrying amount and fairvalue of Plant and land i.e 10,000(110000-100000)& 20000(80000-60000) respectively.
therefore, goodwill = 315000-280000-10000-20000 =5000.
share of non controlling interest in goodwill=5000*0.2=1000.
journal entries:
a) opening stock of subsidiary ltd has been overvalued by 5000. since goods acquired from parent are ultimately sold to an external party and profit of $5000 realised during the cuurent year, there is no net impact on the financial performance of the entity.
b)since inventory of parent includes purchase from subsidiary, the unrealised profit of the inter group transaction should me eliminated.
i) Inventory a/c DR 10000
To retained earningsa/c 10000.
ii) Sales a/c DR 120000
To Purchases a/c 120000
d) Since it is inter group transaction , it should be eliminated.
management and consultation fees a/c DR 10000
To manufacturing expenses a/c 10000
e) since all debentures of subsidiary are held by parent, the interest income of parent and finace expense of subsidiary is eliminated.Also, in F.S, the debentures shall not be shown
i) debenture interest a/c DR 10000
To Financial expenses a/c 10000
ii) Debentures a/c (liability) DR 200000
To Debentures in subsidiary a/c (asset) 200000
f) No adjustment required.
