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Int. Acc. FA LECT 8: CH 17 part 2: Investments (Consolidation (Key…
Int. Acc. FA LECT 8: CH 17 part 2: Investments
1 Equity at fair value
a) Held-for-trading example
initial recording of the investments:
Recording of a cash dividend
Investments of <20%:
Recognition of unrealized fair value gains and losses
Carrying value
= amount as previously recorded on the balance sheet
Fair value
= current market value
The unrealized loss is reflected in the accounts by:
Debiting
an income statement account
--> Net income will be lower
And:
Crediting
an asset account on the balance sheet --- This asset account (“fair value adjustment”) is subtracted from the (historical) cost amount of the equity investment portfolio to derive the fair value of the investment portfolio
b) Non-trading
The only difference here is that the unrealized holdings gains and losses are directly incorporated in the company’s equity through other comprehensive income (OCI)
Still reported as part of income in the income statement are:
Dividends received
Realized gains and losses
For example when laws require a minimum level of share ownership
2 Equity method
Ownership of <50%: --> No legal control over the investment’s net assets
--> But --- significant influence on operating and financial policies:
Significant influence defined as an ownership interest between 20% and 50%
Use the “equity method” of accounting
2 Equity method
Net assets = equity (assets -/- liabilities)
The equity method recognizes that net income increases the investee’s net assets, while losses and dividends decrease the invested company’s net assets
Record the investment at cost and subsequently adjust the amount each period for
changes in the investee’s net assets:
The investor’s proportionate share of the earnings (losses); and
Dividends received by the investor
Consolidation
Investor is referred to as the
parent.
Investee is referred to as the
subsidiary
.
Controlling interest
à When one corporation acquires a voting interest of more than 50 percent in another corporation
Investment in the subsidiary is reported on the parent’s books as a long-term investment.
Parent generally prepares
consolidated financial statements
If the parent owns 100% of the shares in the subsidiary, “consolidation” boils down to:
Elimination of all dependencies between parent and subsidiary --> Avoid double-counting!
Aggregating the remaining accounts
Consolidated financial statements: “Group” financial statements in which the separate accounts of the parent and subsidiary are merged and aggregated as if this group was one company
Key eliminations:
[Loans between the parent and subsidiary]
[Intercompany profits]
The investment asset vs. the subsidiary’s equity
Consolidation
Summary:
The equity investment is eliminated from A’s balance sheet
The assets and liabilities from B are added to A’s balance sheet
What would happen if A owned only 80% of the shares in B?
Take the same steps by consolidating subsidiary B’s net assets for the full 100%
But: also Include a liability (or correction to equity) for the “minority interest” of the remaining 20% shareholders on the balance sheet
Under the second view, IFRS rules require the parent company to replace the equity investment on its consolidated balance sheet with the net assets of the subsidiary