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1. INTRODUCTION
In business, consolidation or amalgamation is the merger and acquisition of many
smaller companies into much larger ones. In the context of financial accounting,
consolidation refers to the aggregation of financial statements of a group company
as consolidated financial statements. The taxation term of consolidation refers to the
treatment of a group of companies and other entities as one entity for tax purposes.
Under the Halsbury's Laws of England, 'amalgamation' is defined as "a blending
together of two or more undertakings into one undertaking, the shareholders of each
blending company, becoming, substantially, the shareholders of the blended
undertakings. There may be amalgamations, either by transfer of two or more
undertakings to a new company, or to the transfer of one or more companies to an
existing company".
2. MEANING
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Accounting
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"Consolidated
and
separate financial
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The 2013 Act now mandates consolidation of financial statements for any company
having a subsidiary, associate or a joint venture [section 129(3)]. The manner of
consolidation is required to be in line with the requirements of AS 21 as per the draft
rules. Further, the 2013 Act requires adoption and audit of consolidation of financial
statements in the same manner as standalone financial statements of the holding company
[section 129(4)]. Apart from consolidation of financial statements, the 2013 Act also
requires a separate statement, containing the salient features of financial statements of its
subsidiary (ies) in a form as prescribed in the draft rules* [First proviso to section 129
(3)]. Further, section 137(1), also requires an entity to file accounts of subsidiaries outside
of India, along with the financial statements (including consolidation of financial
statements).
While section 129 of the 2013 Act, requires all companies to file a statement containing
salient features of the subsidiaries financial
Statements, in addition to the consolidation of financial statements, section 137 of the
2013 Act further requires entities with foreign subsidiaries to submit individual
Financial statements of such foreign subsidiaries along with its own standalone and
consolidated financial statements. There seems to
Be significant amount of overlap and additional burden on companies with respect to
these compliances.
To illustrate this point, in order to comply with these requirements, a company which has
a global presence, with subsidiaries both
Within as well as outside India will need to comply to the following:
Prepare its standalone financial statements [section 129(1) of the 2013 Act]
Prepare a consolidation of financial statements, including all subsidiaries, associates
and joint ventures (whether in India or outside) [section 129(3) of the 2013 Act]
Prepare a summary statement for all its subsidiaries, associates and joint ventures of
the salient features of their respective Financial statements [Proviso to section 129(3)
of the 2013 Act]
Submit the standalone financial statements of subsidiary(ies) outside India to the
Registrar of Companies (roc) [section 137(1) of The 2013 Act].
This situation clearly indicates the extent of duplication and additional costs which will
be incurred by entities in order to provide the Same information in multiple forms or
formats.
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5. APPLICABILITY
Applicability of Consolidated Financial Statement (CFS):
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Listed Company
Companies Act 2013 (the Act), in terms of Section 129(3), establishes the requirement
for consolidated financial statements for Indian companies and provides that where a
company has one or more subsidiaries, it shall prepare a consolidated financial statements
of the parent company and its subsidiaries, joint ventures and associates.
6. NON APPLICABILITY
The Ministry of Corporate Affairs (MCA) had also issued a couple of amendments
Companies (Accounts) Rules, 2014 to provide that preparation of consolidated financial
statement shall not be required by;
an intermediate wholly-owned subsidiary, other than a wholly-owned subsidiary
whose immediate parent is a company incorporated outside India
a company which does not have a subsidiary or subsidiaries but has one or more
associate companies or joint ventures or both for the financial year 2014-15
More recently, on 16 January 2015, the MCA issued another amendment that provides
that the requirements in respect of consolidation of financial statements shall not
apply to a company having subsidiary or subsidiaries incorporated outside India only
for the financial year commencing on or after 1 April 2014.
Apparently it seems that all unlisted companies with a foreign subsidiary are exempt
from preparing consolidated financial statements for the financial year 2014-15.
However, on a plain reading, it is not completely clear whether the exemption is
available if a company has at least one foreign subsidiary along with Indian
subsidiaries, or will be available if a company has only foreign subsidiaries but no
Indian subsidiaries.
7. LIMITATIONS
OF
CONSOLIDATED
FINANCIAL
STATEMENTS
While consolidated financial statements are useful, their limitations also must be kept
in mind.
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Some information is lost any time data sets are aggregated; this is particularly
true when the information involves an aggregation across companies that have
substantially different operating characteristics.
Results of individual companies included in the consolidation are not
disclosed, thereby hiding poor performance.
Not all the consolidated retained earnings balance is necessarily available for
dividends of the parent
Financial ratios are not necessarily representative of any single company in the
consolidation
Similar accounts of different companies that are combined in the consolidation
may not be entirely comparable.
Additional information about companies may be needed for a fair
presentation, thus requiring voluminous footnotes
HOLDING COMPANY
A holding company is a company that owns other companies' outstanding stock.
The term usually refers to a company that does not produce goods or services
itself; rather, its purpose is to own shares of other companies to form a corporate
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group. Holding companies allow the reduction of risk for the owners and can
allow the ownership and control of a number of different companies
Utilities:
The Public Utility Holding Company Act of 1935 caused many energy companies to
divest their subsidiary businesses. Between 1938 and 1958 the number of holding
companies declined from 216 to 18. An energy law passed in 2005 removed the 1935
requirements, and has led to mergers and holding company formation among power
marketing and power brokering companies.
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Stock ownership test: More than 50% in value of the corporation's outstanding
stock is owned by five or fewer individuals.
Parent company:
A parent company is a company that owns enough voting stock in another firm
(subsidiary) to control management and operations by influencing or electing
its board of directors. A parent company could simply be a company that wholly
owns another company. This would be known as a "wholly owned subsidiary".
When an existing company establishes a new company and keeps majority shares
with itself, and invites other companies to buy minority shares, it is called a parent
company.
Meaning:
A subsidiary, subsidiary company or daughter company is a company that is
owned or controlled by another company, which is called the parent company, parent,
or holding company. The subsidiary can be a company, corporation, or limited
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2. A non-current liability that can be found on a parent company's balance sheet that
represents the proportion of its subsidiaries owned by minority shareholders.
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2. Profit that results when the price of a security held by a mutual fund rises above
its purchase price and the security is sold (realized gain). If the security continues to
be held, the gain is unrealized. A capital loss would occur when the opposite takes
place.
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profits are transferred to capital reserve. It is used for meeting capital losses. It is
shown on the liabilities side of balance sheet.
Gross profit
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Operating profit
Pre-tax profit
Net profit
8.6 DIFFERENCE
BETWEEN
CAPITAL PROFITS
Following are the main differences between capital profit and revenue profit.
Mode
of
Earning
Capital profit is earned by selling assets, shares and debentures at a price more than
their book value and face value. Revenue profit is earned in the ordinary course of the
business.
Distribution
Capital profit is not available for the distribution to shareholders as dividend. Revenue profit
is
available
for
the
distribution
to
shareholders
as
dividend.
Use
Capital profit is transferred to capital reserve and used for meeting capital losses. Revenue
profit is used to distribute dividend and create reserve and fund for various purposes.
Treatment
Capital profit is shown on the liabilities side of the balance sheet as capital reserve. Revenue
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profit is shown as debit balance on the debit side of the trading and profit and loss
accounts and on asset side of the balance sheet as accumulated loss.
Scope
Two types of accounts of holding companies
Group financial statements Group financial statements
Consolidating financial statements of subsidiaries
Separate financial statements
Key definitions
Subsidiaries and parents
o Subsidiary is one which is controlled by a parent
o Need not be a company
o Subsidiary can be any type of organization
Control
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Exceptions to consolidation
There are two exceptions:
- Where control is temporary
- Subsidiary operates under long term restrictions which significantly
impair its ability to transfer funds
Consolidation procedure
Line by line consolidation of assets/liabilities/incomes and expenses of
the subsidiary
Investment of the parent in the capital of the subsidiary (A), and parents portion of
equity of the subsidiary (B) , should be eliminated.
If is A is more than B, A-B is goodwill
If B is more than A, B-A is capital reserve
This determination is done on the date of investment in the subsidiary.
Minority interest in the net income of the subsidiary should be adjusted against
group income
Minority interest in the net assets should be identified and reflected separately from
the liabilities and equity of the parent
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Intra-group balances and intra group transactions, and any unrealised profits should
be eliminated completely
Unrealised losses are also eliminated, but may reflect impairment
Financial statements are drawn up to the same date
However, if it is not practical to prepare on the same date, a gap of not more than 6
months is permissible
Uniform accounting policies
De-subsidiarisation
From the date on which the holding-subsidiary relation ceases, the difference
between the relation ceases, the difference between the proceeds of investment, and
the carrying amount of net assets on the balance sheet of
the parent, is recognised as profit/loss
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11 TYPES OF CONSOLIDATION
The consolidation of financial information into a single set of statements become
necessary when the business combination of two or more companies creates a single
economic entity FASB ASC (810-10-10-1)
* There is a presumption that consolidated financial statements are more meaningful
than separate financial statements and that they are usually necessary for a fair
presentation when one of the entities in the consolidated group directly or indirectly has
a controlling financial interest in the other entities.
* Business combination: refers to a transaction or other event in which an acquirer
obtains control over one or more businesses.
Business combinations are formed by a wide variety of transactions or events with
various formats:
1. Statutory merger Any business combination in which only one of the original
companies
continues to exist.
a. One company obtains the assets, and often the liabilities, of another company in
exchange for cash, other assets, liabilities, stock, or a combination of these.
b. The second organization normally dissolves itself as a legal corporation.
c. One company obtains all of the capital stock of another in exchange for cash, other
assets, liabilities, stock, or a combination of these. After gaining control, the acquiring
company can decide to transfer all assets and liabilities to its own financial records.
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d. The second company dissolves. However, because stock is obtained, the acquiring
company must gain 100% control of all shares before legally dissolving the
subsidiary.
To reflect the combination, the acquiring company enters the takeover transaction
into its own records by establishing a single investment asset account. The newly
acquired subsidiary omits any recording of this event; its stock is just simply
transferred to the parent firm the subsidiarys shareholders (no direct effect of the
takeover).
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4. Control of variable interest entity (VIE) Establishes contractual control over a VIE
to engage in a specific activity.
i. Does not involve a majority voting stock interest or direct ownership or assets.
j. Sponsoring the firm and becomes its primary beneficiary with rights to its
residual profits.
k. Can take the form of leases, participation rights, guarantees, or other interests.
Control
The definition of control is central to determining when two or more entities become
one economic entity and therefore one reporting entity.
* Control of one firm by another is most often achieved through the acquisition of
voting shares. Accordingly, GAAP traditionally has pointed to a majority voting share
ownership as a controlling financial interest that requires consolidation.
12 CONSOLIDATION PROCESS
Consolidation Process- Overview
Separate statements are added together, after some adjustments and eliminations, to
generate consolidated statements.
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Parent
Subsidiary
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Common stock of the parent is held by those outside the consolidated entity and is
viewed as the common stock of the entire entity.
Common stock of the subsidiary is held entirely within the consolidated entity and is
not stock outstanding from a consolidated viewpoint.
Parents retained earnings (less the unrealized intercompany profit) remain as the only
retained earnings figure in the consolidated balance sheet.
A single company cannot owe itself money, that is, a company cannot report (in its
financial statements) a receivable to itself and a payable to itself.
Intercompany Sales
The sale should be removed from the combined revenues because it does not
represent a sale to an external party.
Fair value of the consideration given usually reflects the fair value of the acquired
Single-Entity Viewpoint
identifying the treatment accorded a particular item by each of the separate companies
and
identifying the amount that would appear in the financial statements with respect to
that item if the consolidated entity were actually a single company.
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While the parent company and the subsidiary each maintain their own
books, there are no books for the consolidated entity.
The balances of the accounts are taken at the end of each period from the
books of the parent and the subsidiary and entered in the consolidation
work paper.
Where the simple adding of the amounts from the two companies leads to
a consolidated figure different from the amount that would appear if the
two companies were actually one, the combined amount must be adjusted
to the desired figure.
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14 Objective of consolidation
To report the financial position, results or operations, and cash flows from the
combined entity.
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15 What is to be consolidated?
If dissolution takes place, appropriate account balances are physically
consolidated in the surviving companys financial records.
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18 Non-controlling Interest
For the parent to consolidate the subsidiary, only a controlling interest is needed not be
100% interest
Non controlling interest or minority interest refers to the claim of these shareholders on
the income and net assets of the subsidiary
Computation of income to the non controlling interest: In uncomplicated situations, it is a
simple proportionate share of the subsidiarys net income.
Those shareholders of the subsidiary other than the parent are referred to as non
-controlling or minority shareholders.
Presentation: FINANCIAL ACCOUNTING STANDARDS BOARD 160 requires that
the term consolidated net income be applied to the income available to all stockholders,
with the allocation of that income between the controlling and non controlling
stockholders shown.
The non controlling interests claim on the net assets of the subsidiary was previously
shown between liabilities and stockholders equity in the consolidated balance sheet.
-Some firms reported minority interest as a liability, although it did not meet the
definition of a liability
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Financial statements are also prepared for a group of companies when no one
company in the group owns a majority of the common stock of any other company
in the group.
Combined financial statements are those that include a group of related companies
without including the parent company or other owner.
Usually have no substantive operations and are used only for financing
purposes.
Used for several decades for asset securitization, risk sharing, and taking
advantage of tax statutes
Qualifying SPEs
Types of SPEs widely used for servicing financial assets and meet very
restrictive conditions established by financial accounting standards board 140.
Conditions generally require that the SPE be demonstrably distinct from the
transferor, its activities be significantly limited, and it hold only certain types
of financial assets.
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Does not have equity investors that have voting rights and share in all profits
and losses of the entity.
FIN 46 (an interpretation of ARB 51) uses the term variable interest entities to
encompass SPEs and other entities falling within its conditions.
Does not apply to entities that are considered SPEs under FASB 140.
Proprietary theory
Entity theory
With the issuance of FASB 141R, the FASBs approach to consolidation has
moved very much toward the entity theory.
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Proprietary Theory
Assets and liabilities of the firm are considered to be those of the owners.
Results in a pro rata consolidation where the parent consolidates only its
proportionate share of a less-than-wholly owned subsidiarys assets, liabilities,
revenues and expenses.
Recognizes that though the parent does not have direct ownership or responsibility, it
has the ability to exercise effective control over all of the subsidiarys assets and
liabilities, not simply a proportionate share
Entity Theory
Focuses on the firm as a separate economic entity, rather than on the
ownership rights of the shareholders.
Emphasis is on the consolidated entity itself, with the controlling and non
controlling shareholders viewed as two separate groups, each having an equity
in the consolidated entity.
All of the assets, liabilities, revenues, and expenses of a less-than-wholly
owned subsidiary are included in the consolidated financial statements, with
no special treatment accorded either the controlling or non controlling interest.
Current Practice
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Accordingly, the full entity fair value increment and the full amount of
goodwill are recognized.
Current approach clearly follows the entity theory with minor modifications aimed at
the practical reality that consolidated financial statements are used primarily by those
having a long-run interest in the parent company.
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> Current financial reporting standards require the acquisition method to account for business
combinations. Appling the acquisition method typically involves recognizing and measuring:
1. The consideration transferred for the acquired business and any non controlling interest.
a. Measured at FV and is equal to the sum of the acquisition-date FV or the assets transferred
by the acquirer, the liabilities incurred by the acquirer to former owners of the acquire, and
the equity interest issued by the acquirer (FASB ASC 805-30-30-7).
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* For combinations resulting in complete ownership by the acquirer, the acquirer recognizes
the asset goodwill as the excess of the consideration transferred over the collective FV of the
net identified assets acquired and liabilities assumed.
* Conversely, if the collective FV of the net identified assets acquired and liabilities assumed
exceeds the consideration transferred, the acquirer recognizes a gain on bargain purchase.
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Acquisition Method: Consideration Transferred Is Less Than Net Identified Asset FV,
Subsidiary dissolved:
* In a bargain purchase, the FV of the assets received and all liabilities assumed in a business
combination are considered more relevant for asset valuation that the consideration
transferred.
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