F5 - M3 - Consolidated Financial Statements Flashcards
What is the requirement to use the consolidation method?
This is when you have over 50% ownership in the investee or control over an investee is established. Once this occurs you use the acquisition method.
What percentage of ownership determines what method you use? For example, what method you use if you owned 20%?
0% - 20% - This would be the fair value method.
20%-50% - Equity Method
Over 50% - Consolidate - Acquisition method
What is controlling interest? How does this work on the parent companies books?
Controlling interest - This is when an entity owns more than 50% of another entity but not 100%. The amount they control is called the controlling interest. So let’s say that you invest in a company, and you purchase 80% of their shares. That 80% would be the controlling interest, but the 20% would be non-controlling.
Even though you only own 80% of the investment, you have to report the full 100% of the subsidiaries assets. So if the subsidiary had a building for 1,000,000, even though you own 80% of the entity, you would still report that 1,000,000 on your books.
What is non-controlling interest?
This is portion of the entity, that you do not own. So if you own 80% but not 100%, then that 20% would be non controlling interest.
This amount is reported at fair value in the equity section of the consolidated balance sheet, separate from the parents equity.
The parents basis in the investee is the acquisition price. What is the formula for this?
Fair Value = Acquisition price = Investment in subsidiary
What is the acronym for the consolidation adjustments?
CARINBIG
C - Common stock - subsidiary (Debit to remove)
A - APIC - subsidiary (Debit to remove)
R - Retained earnings - subsidiary (Debit to remove)
I - Investment in subsidiary (credit to remove)
N - Noncontrolling interest (portion that we do not own)
B - Balance sheet adjustment to FV (Subs assets brought from historical value to Fair Value)
I - Identifiable intangible assets to FV (Subs assets brought from historical value to Fair Value)
G - Goodwill or gain(if there is anything left over, it goes to this account)
What is the year end consolidating journal entry?
DR - Common stock - subsidiary
DR - APIC - subsidiary
DR - Retained earnings - subsidiary
CR - Investment in subsidiary
CR - Noncontrolling interest
DR - Balance sheet adjustment to FV
DR - Identifiable intangible assets to FV
DR - Goodwill
What are intercompany transactions and what are some examples?
This is when one entity that has over 50% of interest over another entity sells either bonds, inventory, pp&e, and etc. to the subsidiary. Or vise versa. These are intercompany transactions.
Now you may report these on your trial balance, but these cannot be reported as revenue or expenses on the financial statements. These have to be eliminated.
What are some income statement items that are eliminated through intercompany transactions?
Interest expense/interest income (bonds)
Gain on sale/depreciation expense
Sale/COGS
Give a breakdown of how intercompany inventory sales work?
It is pretty common for the parent company or the subsidiary to sell inventory to one another. And normally this inventory is sold for a good profit. Since this is not an arms length transaction, the amounts could have been sold for much more than they were worth which makes it look like a bigger profit. Due to this, on consolidated financial statements, we have to eliminate those transactions and eliminate the profit recorded.
The two accounts impacted are ending inventory and the cost of the good being sold to the purchasing affiliate.
When you do an intercompany elimination for the sale of inventory, how much of that inventory do you remove? For example, let’s say you own 80% of the entity, how much inventory do you remove?
Even though you own 80% you remove the full 100%.
If you sold inventory to an entity that you own more than 50% of in the prior year, and it was not removed as an intercompany transaction, what do you do?
So let’s say in year 1 you sold 1,000,000 of inventory to an entity that you have more than 50% of control of, and all of that was reported as revenue. That would roll into retained earnings going into year 2.
In year 2, you would have to make an adjustment to remove that amount out of RE since it was supposed to be eliminated due to consolidation.
What is the journal entry to remove the sale of inventory?
DR: Intercompany Sales - Reverse this out to remove it
DR: Retained Earnings - Taking any profit that was recorded in RE and getting rid of it.
CR: Intercompany cost of good sold - Remove COGS at 100% cost
CR: COGS - This is the amount that was sold to a third party
CR: Ending Inventory
When it come to selling the inventory to an entity you have 50% or more ownership in, how does this work if the entity you sold it to, sells some of the inventory to a third party?
Let’s say that the parent has inventory that cost them 1,000,000, and they sold it to an entity they control for 1,100,000, The 1,000,000 transaction needs to be removed along with the 100,000 in profit.
Once you know what the ending inventory amount is on the subsidiary books, you need to break that 100,000 based on what is was sold by the sub and what is still on hand. So let’s say they had 660,000 of ending inventory, that means they have sold 440,000 (1,100,000-1,000,000). (440,000/1,100,000) = 40% and (660,000/1,100,000) = 60%. That means that out of the 100,000 profit, 40,000 was COGS and 60,000 was ending inventory for the subsidiary. Then you back that out with the journal entry shown in the other flashcard.
Another intercompany transaction that has to be eliminated is bonds. Why is that? How does that process work?
For example, let’s say the parent company issues a bond at 1,000,000 dollars to the open market. A year goes by, no one buys it, so your subsidiary that you own more than 50% of, buys the bond at 950,000. This is pretty much the same thing as if you bought the bond back yourself for a lessor price, since you own so much of the entity that bought it.
Due to this, you would have to retire the bond, and record a gain or loss on the bond. In this case, you would have a gain of 50,000 since you bought the bond back for less than you issued it for.
