CHAPTER 5:

Consolidation Subsequent to
Acquisition Date

A. Garabedian
Certain slides © 2019 McGraw-Hill Education
 Topics in Ch 5
 Impairment
 Consolidation if Parent uses EQUITY method to record its
investment in S

 Consolidation if Parent uses COST method to record its

investment in S ( see some templates)

 Elimination of inter-company payables & receivables

 Textbook example page 228 – 80% acquisition of S

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 Testing Goodwill and Other
Assets for Impairment
 IAS 36 Impairment of Assets applies to all assets, unless they are
specifically excluded because of a requirement in another standard.
 Asset is impaired if carrying amount > recoverable amount.
 The recoverable amount = the higher of
fair value less costs of disposal
and
value in use

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 Testing Goodwill and Other
Assets for Impairment
IAS 36 has different requirements for impairment testing for
the following types of assets:

 Property, plant, equipment, and intangible assets with definite

useful lives.
 Intangible assets with indefinite useful lives or not yet
available for use.
 Cash-generating units and goodwill.

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Property, Plant, Equipment and Intangible Assets
with Definite Useful Lives

There is a two-step approach to determining if an impairment

loss should be reported.
 Step 1: The entity assesses whether indicators exist that an asset may
be impaired. If, in the preparer’s judgment, any such indicators exist,
then step 2 must be performed and the recoverable amount
determined.

 Step 2: The recoverable amount is determined and compared with

the asset’s carrying amount.
 If the recoverable amount < the carrying amount,
impairment exists & asset is written down to its recoverable amount.

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Property, Plant, Equipment and Intangible Assets
with Definite Useful Lives
The following factors should be considered at a minimum when assessing
whether there is an indication of impairment:
External Factors Internal Factors
There is evidence of obsolescence or physical damage of
An asset’s market value has declined significantly.
an asset.
Significant adverse changes in the technological, market,
There have been significant adverse changes in how an
economic, or legal environment of the entity have
asset is used or expected to be used.
occurred.
A significant increase in market rates of return has Evidence has arisen that the economic performance of an
occurred that will cause a reduction to value in use. asset is, or will be, worse than expected.
The carrying amount of the investment in subsidiary in the
The carrying amount of the net assets of the entity is more separate-entity financial statements exceeds the carrying
than its market capitalization. amounts in the consolidated financial statements of the
investee’s net assets, including associated goodwill.
The dividend from the subsidiary exceeds the total
comprehensive income of the subsidiary.

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 Intangible Assets

With a definite useful live (slide 5)

The recoverable amount is only compared to carrying amount if there is an
indication that the asset may be impaired.
With Indefinite Useful Lives
An intangible asset that is not subject to amortization is tested for impairment
annually.
However, Goodwill impairment tests must be conducted at least once a year unless
it is clear that there has been no impairment during the year; ie e
 Fair value > Carrying value, &
 The reporting unit has seen little change in its assets+liabilities, &
 Based on recent events there is no reason to expect a change in fair values.

GW impairment test be conducted more often than once a year when there is an
indication that the cash-generating unit may be impaired

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 What is the Recoverable Amount?

 For intangibles:
Is there a market price available?

Could cash flows related to the asset be separately

identified?

 For goodwill:
Due to it’s nature, this asset cannot be separately
identified and measured. It can only be determined as a
residual.

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 Complications!

Goodwill as a residual:

 We valued goodwill at the date of combination as a residual

value. On that date there was a price paid by the acquirer,
validating the FMV of the subsidiary.

 But as time passes, what is the ‘fair value’ of the subsidiary?

The purchase price used at the date of combination is no
longer valid.

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 Cash-Generating Units and
Goodwill
 A business divides itself into separate cash-generating units, each
of which has cash inflows from an asset or a group of assets that
are largely independent of the cash inflows from other assets or
asset groups.

 Goodwill resulting from a business combination should be

divided among each cash-generating unit that will benefit from
the goodwill.

 Each unit to which goodwill is so allocated must represent the

lowest level applicable and will not be larger than an operating
segment determined in accordance with IFRS 8.
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 Goodwill is allocated to cash-
generating units as follows:
 The total value of the subsidiary is allocated to each cash-
generating unit.
 The FV of the subsidiary’s individual net assets is also
allocated to each cash-generating unit.
 For each cash-generating unit,
the allocated value - FV => goodwill of the cash-generating
unit
 Sum of each cash-generating unit’s goodwill = total
acquisition goodwill of the subsidiary.
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 Cash-Generating Units and
Goodwill
 Before goodwill impairment is tested, individual assets should
be tested for impairment and any losses recorded.
 Then the recoverable amount of each cash-generating unit is
compared to its carrying amount, incl. goodwill.
If the recoverable amount < carrying amount, an impairment loss
should be recognized and should be allocated to reduce:
a. First, reduce the carrying amount of any goodwill.
b. Then reduce the other assets of the unit pro rata based on the
carrying amount of each asset.

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 Reversing an Impairment Loss
Impairment losses on assets other than goodwill can be reversed
only to the extent of the pre-loss carrying amount of the
intangible asset.
Step 1. the entity assesses whether there are any indications that
the impairment loss either decreased or no longer exists. Step 2.
if so, the recoverable amount is determined.
Impairment loss is reversed if there has been a change in the
estimates used to determine the asset’s recoverable amount, not
if the present value of future cash flows has increased solely
from the passage of time. The reversal of an impairment loss is
reported in Net Income.
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 Disclosure Requirements

 Extensive disclosure requirement are required for

Impairment of assets:
 For each class of assets, the amount of impairment losses and reversals of
impairment losses segregated by amounts recognized in the net income and
amounts recognized in OCI.

 The events and circumstances that led to the recognition or reversal of an

impairment loss for individual assets, the basis of recoverable amount, the
basis used to determine fair value less costs to sell, and the discount rate used.

 For cash-generating units or indefinite-life intangible assets, the carrying

amount of goodwill and of indefinite-life intangibles allocated to the unit, the
basis of recoverable amount, description of key cash flow projection
assumptions, and the methodology to determine fair value less cost to sell.

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 LO 3
Exhibit 5.17
PREPARATION OF CONSOLIDATED FINANCIAL STATEMENTS
Basic Steps
Parent Company Uses
Cost Method Equity Method

1. Calculate and allocate the acquisition differential at the date of acquisition Yes Yes
2. Prepare an acquisition differential amortization and impairment schedule
(date of acquisition to present date) Yes Yes
3. Calculate consolidated net income – current year. Yes No *
4. Prepare the consolidated income statement. Yes Yes
5. Calculate the start-of-year balance of consolidated retained earnings** Yes No*
6. Prepare the consolidated retained earnings statement.*** Yes Yes
7. Calculate the end-of-year balance of consolidated retained earnings Yes No*
8. Calculate non-controlling interest at the end of the year
(for the consolidated balance sheet). Yes Yes
9. Prepare a statement of changes in non-controlling interest (optional) Yes Yes
10. Prepare a consolidated balance sheet. Yes Yes

*If the parent company uses the equity method of accounting, the parent’s net income equals
Consolidated net income attribuatable to the shareholders of the parent, and the parent’s
Retained earnings always equal consolidated retained earnings. Therefore, the calculations in steps 3, 5 and 7
Are not necessary.
** Only do so if preparing a statement of retained earnings.
***Not required in all problems.

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 Consolidation of 100%
Owned Subsidiary
Recall from Chapter 3: The investment account is
replaced by the carrying amount of the subsidiary’s
assets and liabilities plus the acquisition differential
(Purchase price consists of carrying amount of the subsidiary’s assets
and liabilities plus the acquisition differential).

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 Methods of Accounting for an
Investment in a Subsidiary
 The cost and equity methods are used in the parent’s own
internal records for accounting for investments in
subsidiaries.
 The cost method records income when the investor’s right to
receive a dividend is established.

 The equity method captures the investor’s share of any

changes to the investee’s shareholders’ equity.
 The equity method captures the net effect of any adjustments
that would be made on the consolidated financial statements.

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 Methods of Accounting for an
Investment in a Subsidiary
 Dividend income and equity method income from a
subsidiary are usually not taxable.
 Consolidated net income will be the same regardless of
whether the parent used the cost method or the equity
method for its internal accounting records.

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 Consolidated Income and
Retained Earnings
 The acquisition differential is amortized, written down, or de-
recognized on consolidation not the subsidiary’s financial
statements, as if the parent had purchased these net assets
directly.
 Consolidated retained earnings reflects only the parent’s share
of the combined company’s retained earnings.

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 ACCOUNTING FOR INVESTMENTS IN A SUBSIDIARY –
THE EQUITY METHOD
 On Consolidation:
 The Investment income account on the I/S:
 Is replaced with the subsidiary’s revenue, expenses, …

P Co. I/S S Co. I/S

Sales revenue Sales revenue
Investment income …
… Expenses
Expenses Non-controlling interest (I/S)

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 CONSOLIDATED NET INCOME, continued
Equity method is “one-line” consolidation, if the parent uses
the equity method to account for its investment in the
subsidiary, cons. f/s can be prepared as follows:

100% OF S Co. Revenues and

Replaced Expenses
“Investment
By: +/-
Income”
Amortization/impairment of (100%)
(equity
acquisition differential allocations
pick-up
-
entry)
“NCI ‘expense’” in the net income
on P Co. I/S
of the subsidiary
•Why is this needed?
•What does it represent?
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 ACCOUNTING FOR INVESTMENTS IN A SUBSIDIARY –
THE EQUITY METHOD
 On consolidation,
 The Investment account on the B/S:
 Is replaced with the subsidiary’s net asset values (cash, A/R,
inventory,…,liabilities)
S Co. B/S
P Co. B/S
Cash
Cash
A/R
A/R
Inventory …
Inventory
including
Investment in S Co.
Liabilities
And Non-Controlling Interest

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 CONSOLIDATED BALANCE SHEET

100% of Subsidiary Net

Assets (at net book value)
“Investment in +/-
Subsidiary” on Replaced 100% of any unamortized/
P Co. B/S By:
unimpaired acquisition
differential allocations
-
“NCI on B/S”, shown as
part of S/E on the cons.
B/S (under the entity
approach)
•Why is this needed?
•What does it
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represent?
 LO1

Equity Method of Accounting

The equity method is often referred to as a “One-line

consolidation”, because it aggregates all consolidation
adjustments in the parent’s investment revenue
account & the parent’s investment in subsidiary
account. It does not produce consolidated balances for
every account.

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 LO3

Accounting With the Equity Method

(one-line consolidation)

Investment in Subsidiary

Original Cost Dividends Received

Income Earned Acquisition Differential

Amortization

Other Adjustments *

Balance
*In later
Chapter
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 Analysis and Interpretation
of Financial Statements

ROE for the parent’s separate–entity financial statements under the

equity method

ROE for the shareholders of Company P on the consolidated

consolidated financial statements.

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 A Template: Parent uses the COST METHOD –
Calculate Cons. Net Income assume 60% acquisition by P
P Co. net income under cost method
$6,500
- Dividend income received from S Co. 500
= P Co. net income from its’ own operations $6,000
+ S Co. net income $1,200
+/- Amortization/impairment of
acquisition diff. for current year (300 )
$ 900
Consolidated Net Income $6,900

Attributable to Parent Shareholders ($6,000 + 60% 900) $6,540

Attributable to NCI (40% x 900) 360
$6,900

Numbers are just made up!

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 LO3

Calculate consolidated opening R/E

- Parent uses Cost Method to record Sub
 It is necessary to calculate opening consolidated
retained earnings.

 Reflecting the cumulative increase or decrease in subsidiary’s

retained earnings since acquisition.

 Reflecting cumulative consolidation adjustments to that point

(e.g. Acquisition differential amortization)

 When the subsidiary is less than 100% owned, it is also

necessary to calculate balance sheet NCI

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 A Template: Parent uses the COST METHOD –
Opening R/E

P Co. R/E, beginning of year (cost method) $ 10,000 E1

(NOTE: This includes dividends received by P (from S) in prior years.)
S Co. R/E, beginning of year $ 450 E2
S Co. R/E, at acquisition 200
Increase since acquisition $ 250
+/- Cumulative amortization/impairment
of acquisition diff up to beginning of year (100)
$ 150
X P Co.’s ownership share x 60% 90 E2
= P Co. R/E, beginning of year (equity method) $10,090
= Consolidated R/E, beginning of year

Using made up numbers

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 PARENT USES THE COST METHOD
Opening R/E- Cont.

There are 2 errors in the previous slide (E1 and E2). But they cancel
each other, so the overall calculation is correct.

 E1: P Co. R/E at the top includes dividend income received from S.
We really want P Co. R/E from its own operations  the $10,000 is
overstated by the amount of dividends P Co. has received from S
Co.

 E2: S Co. R/E of $450 at the beginning of the year has been
reduced by any dividends paid by S Co (60% of which went to P
Co.)

Then after we calculate P Co.’s 60% share of the increase in S Co. R/E
earnings since acquisition  the $90 value is reduced by the amount of
dividends paid by S Co. to P Co. 30
 What happens to dividends declared by S ?
• 60% go to P Co. and are inter-company (we remove this
entry from consolidated FS)
• 40% go to the outside shareholders’ of S Co, and are
reflected in the NCI.

 Only dividends declared by P Co. appear on the consolidated

statement of R/E.

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 Consolidated R/E

Then,

 Consolidated R/E, beginning of year

 + Consolidated net income (income attributed to Parent)
-Dividends (declared by Parent to Parent shareholders)

 = Consolidated R/E, end of year

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 NCI Subsequent to Acquisition

NCI, beginning of year $ XXX

+ Net Income attributed to NCI
ie NCI share of S Adjusted Net income ) XX
- NCI share of S dividends (X)

= NCI, end of year $ XX

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 Intercompany Receivables
and Payables
 Consolidated financial statements are designed to reflect the
results of transactions between the single consolidated entity and
those outside the entity.

 All transactions between the parent and its subsidiaries, or

between the subsidiaries of a parent, must be eliminated in
the consolidation process to reflect this single-entity concept.

 This chapter focuses on the elimination of intercompany

receivables and payables.

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Order in preparing Consolidated Financial
Statements when investment is recorded in
Parent books under Cost method:

1. Goodwill Calculation
2. Schedule of Amortization & impairment of AD
3. Calculate Consolidation NI – amount
attributable to Parent Shareholders & NCI
4. Calculate Opening R/E
5. Calculate NCI for B/S
6. Draft Consolidated Financial Statements:
Consolidated Income Statement, Consolidated
R/E and Consolidated B/S.