1

Session-2: Consolidated Financial

Statements

Overview of Financial Statements:

Holding company and consolidated financial
statements
Standalone Vs. Consolidated Statements
Theories of CFS for reporting minority interest.
Analysis of group performance

Key Words: Parent-only, stand-alone, consolidated,

minority interest, holding/parent company, subsidiary.

IIM Lucknow

13/06/2014

Analyst point
2

Users of the financial statements of a parent company are

usually concerned with, and need to be informed about, the
financial position and results of operations of not only the
enterprise itself, but also of the group as a whole.
This need is served by providing the users (a) separate financial statements of the parent; and
(b) consolidated financial statements, which present
financial information about the group as that of a single
enterprise without regard to the legal boundaries of the
separate legal entities.

IIM Lucknow

13/06/2014

Some facts
3

Sl.N Company
o

Operating though
number of subsidiaries

Reliance
Industries Ltd.

The number of RILs subsidiary

Companies as on 31st March,
2014 was 103. (AR-2013-14
page-89).

2
3.

ITC Ltd.
Jaiprakash
Associates

31 (AR-2012-2013)
22 (AR-2012-2013)

Infosys
11 direct and 25 step down
technologies Ltd. (AR-2014)
IIM Lucknow

13/06/2014

NIKE, Inc.
4

NIKE, Inc. has 130 wholly-owned subsidiaries, 20 of

which operate in the United States, and 110 of which
operate in foreign countries. All of the subsidiaries,
except for NIKE IHM, Inc., Triax Insurance, Inc., and NIKE
(Suzhou) Sports Company, Ltd. carry on the same line
of business, namely the design, marketing distribution
and sale of athletic and leisure footwear, apparel,
accessories, and equipment. NIKE IHM, Inc., a Missouri
corporation, and NIKE (Suzhou) Sports Company, Ltd., a
Chinese corporation, manufacture plastics and Air-Sole
shoe cushioning components. Triax Insurance, Inc., a
Hawaii corporation, is a captive insurance company
that insures the Company for certain risks.
IIM Lucknow

13/06/2014

Consolidated Financial
Statement

Financial statements for a group of enterprises under the

control of a parent.
Along with several new accounting regulations related to
disclosure practices, Indian companies were asked to provide
Consolidated Financial Statements (CFS) since 2002.
Unlike other disclosure regulations, consolidation was a major
deviation from the earlier stand that consolidation would not
provide additional information to the users of financial
statements (Specially in Indian Practice).

IIM Lucknow

13/06/2014

What the research says

6

The move towards harmonizing of the accounting

standards led to the issue of consolidated accounting
in 1997 which became effective from the year 2000.
This standard treats CFS as the primary financial
statements.

IIM Lucknow

13/06/2014

Implication
7

Presented by parent: Consolidated financial statements are

presented by a parent (also known as holding enterprise) to
provide financial information about the economic activities of its
group.
Resources controlled by group: These statements are intended to
present financial information about a parent and its subsidiary(ies)
as a single economic entity to show the economic resources
controlled by the group, the obligations of the group and results
the group achieves with its resources.
Application of Accounting Standard: In the preparation of
consolidated financial statements, other Accounting Standards also
apply in the same manner as they apply to the separate financial
statements.
IIM Lucknow 13/06/2014

A: Concept of holding company

8

a.
b.
c.
d.

A holding company is a company which controls another company

(known as subsidiary) by owning its majority of shares carrying
voting rights or controlling the composition of its board of
directors.
AS-21 on consolidated financial statements gives the following
definition:
Subsidiary- is an enterprise being controlled by parent company
Parent- is an enterprise that has one or more subsidiaries
A group- parent and all its subsidiary
Control- It is the power to govern the financial and operating
policies of an entity, so as to obtain benefits from its activities.
IIM Lucknow

13/06/2014

Criterion for determining control

9

Majority voting power: when parent owns, directly or

indirectly through subsidiaries, more than half of the voting
power of an entity.
Other criteria of deciding existence of control:
1.Power over more than half of the voting rights by virtue of an
agreement with other investors
2.Power to govern the financial and operating policies of the
entity under a statute or an agreement
3.Power to appoint or remove the majority of the members of the
board.
4.Power to cast the majority of votes at meetings of the BOD
IIM Lucknow

13/06/2014

Example-1
10

Observe the shareholding pattern of B Ltd.

Financial institutions support A Ltd in the management of B Ltd.

Does A Ltd. Controls
B Ltd.?
IIM Lucknow 13/06/2014

Implication
11

A.

B.
C.

D.

E.

F.

No control can establish through holding

majority voting power.
Point No. 1, 3, and 4 is not applicable.
Only issue is that it governs the financial
and operating policies of B Ltd.
In case there is an agreement between the
FIs and A Ltd. regarding governance of B
Ltd., then only the control establishes.
Control is by agreement with other
shareholders.
Effective from the date
agreement.
IIM of
Lucknow
13/06/2014

What about potential voting rights (PVR)

12

Financial instruments which are

convertible into equity shares with
voting rights are termed as instruments
having potential voting rights.
Example: Convertible debentures,
convertible preference shares, share
warrants.
The issue is whether potential voting
rights are to be counted for the purpose
of evaluating control.?
IIM Lucknow

13/06/2014

Implication
13

As per Indian Accounting standards PVRs

are not considered while evaluating control.
In international practice those PVRs are
taken into account while evaluating control.
Example-2 : X ltd. holds 40% stake in Y ltd.,
out of 20 million equity shares of the
investee company. In addition it holds 20
million out of 30 million share warrants
issued by the company.
Does X ltd. control Y ltd.?

Assume 1 equity share= 1 voting right.

IIM Lucknow

13/06/2014

Implication
14

X Ltd holds majority voting right of Y ltd

on the basis of current and potential
voting rights. Hence Y Ltd is a subsidiary
of X Ltd.
It is not relevant to analyze whether X ltd
intends to exercise the warrants or it has
the financial ability to exercise the
warrants. Only issue is to be evaluated
that, whether it has authority to exercise
the warrants.
IIM Lucknow

13/06/2014

Share warrants
15

A certificate, usually issued along with a bond or

preferred stock, entitling the holder to buy a specific
amount of securities at a specific price, usually above
the current market price at the time of issuance, for
an extended period, anywhere from a few years to
forever. In the case that the price of the security rises
to above that of the warrant's exercise price, then the
investor can buy the security at the warrant's
exercise price and resell it for a profit. Otherwise, the
warrant will simply expire or remain unused. Warrants
are listed on options exchanges and trade
independently of the security with which it was
issued, also called subscription warrant.
IIM Lucknow

13/06/2014

16

Indirect control and

consolidation

S Ltd. has the following shareholding pattern:

Note: Is it possible to establish control by means of voting

rights enjoyed by the group as a whole.

Analysis
17

Both B Ltd. and C Ltd., are subsidiaries

of A ltd. While evaluating control the
voting rights of the group as a whole are
taken into account. So A Ltd controls S
Ltd.
Even voting rights held by subsubsidiary of A ltd. (i.e. B Ltd and C Ltd)
are also taken into account. The chain
continues to the lowest possible level.
IIM Lucknow

13/06/2014

18

1.
2.
3.

4.

5.

6.

Advantages of holding
company

Used extensively to further the combination movement

Fruits of monopoly
The person controlling holding company need to invest a
comparatively small amount in order to control the subsidiary
companies.
Maintaining separate identities of various companies, it would be
possible to carry forward losses for income tax purposes.
Each subsidiary company has to prepare its own accounts
separately.
If it is desirable that the control of the holding company be given
up , it can be easily arranged- shares in the subsidiary company
should be disposed in the market. IIM Lucknow 13/06/2014

19

Parents excluded from

consolidation
A.

B.
C.

A parent which is a subsidiary of

another company having informed its
minority shareholders and not having
any objections from shareholders.
Parents debt and equity are not listed.
The parent is not a potential listing
candidate.

IIM Lucknow

13/06/2014

Exclusion of subsidiary
20

a.
b.

A parent which presents CFS should consolidate all

subsidiaries, domestic as well as foreign, other than the
following:
When control is intended to be temporary.
It operates under severe long-term restrictions which
significantly impair its ability to transfer funds to the parent.

Note: a subsidiary is not excluded from consolidation, just

because its business activities are dissimilar from those of the
other entities within the group.
IIM Lucknow

13/06/2014

Some issues
21

1.
2.
3.

4.

Inter company transactions

Danger in the oppression of minority shareholders
Subsidiary companies are forced to appoint persons as
directors with unduly high remuneration.
Manipulation of accounts-especially if the accounts of
various companies are made up to different dates.

Note; private companies, subsidiary to a public limited company ,

do not enjoy the privileges given to private companies.
IIM Lucknow

13/06/2014

Accounting Standards (for

CFS)

22

Accounting Standard (AS) 21, Consolidated Financial

Statements, issued by the Council of the Institute of Chartered
Accountants of India, comes into effect in respect of accounting
periods commencing on or after 1-4-2001.
An enterprise that presents consolidated financial statements
should prepare and present these statements in accordance with
this Standard.
SEBI has made CFS mandatory (Clause-32 of the listing
agreement)
Note: AS-21 does not deal with the following: Accounting
standard for amalgamation (As-14), Accounting for investments
in associates (AS-23), and accounting for investments in joint
IIM Lucknow 13/06/2014
ventures.

International context
23

The consolidation process in the International Financial Reporting

Standards (IFRS) is similar to the Indian accounting standards.
However, the assets and liabilities are to be measured at the fair
value for the purpose of arriving at the goodwill. The excess
amount paid over the fair value of the assets taken over will be
treated as goodwill.
Minority interest also gets presented in the balance sheet. The US
GAAP requires the parent view of consolidation and does not
allocate goodwill that belong to the minority interest.
Note: Principles of preparation of consolidated
financial statements are explained
in IAS 27.
IIM Lucknow 13/06/2014

Transitional Provisions
24

1.

2.

On the first occasion that consolidated financial statements

are presented, comparative figures for the previous period
need not be presented.
In all subsequent years full comparative figures for the
previous period should be presented in the consolidated
financial statements.

IIM Lucknow

13/06/2014

Minority Interest
25

That part of the net results of operations and of the net assets
of a subsidiary attributable to interests which are not owned,
directly or indirectly through subsidiary(ies), by the parent.

Para -25. Minority interests should be presented in the

consolidated balance sheet separately from liabilities and the
equity of the parents shareholders. Minority interests in the
income of the group should also be separately presented.

IIM Lucknow

13/06/2014

Content of CFS
26

Consolidated financial statements normally

include:
Consolidated balance sheet
Consolidated statement of profit and loss
and notes, other statements and explanatory
material that form an integral part thereof.
Consolidated cash flow statement is presented in
case a parent presents its own cash flow statement.

Note: Consolidated financial statements are

presented, to the extent possible, in the
same format as that adopted by the parent
for its separate financialIIMstatements
Lucknow 13/06/2014

Disclosures in CFS
27

Following disclosures should be made:

(a) List of all subsidiaries including the name, country of incorporation or
residence, proportion of ownership interest and, if different, proportion
of voting power held;
(b) in consolidated financial statements:
(i) Nature of the relationship between the parent and a subsidiary, if the
parent does not own, directly or indirectly through subsidiaries, more
than one-half of the voting power of the subsidiary;
(ii) the effect of the acquisition and disposal of subsidiaries on the
financial position at the reporting date, the results for the reporting
period and on the corresponding amounts for the preceding period; and
(iii) the names of the subsidiary(ies) of which reporting date(s) is/are
different from that of the parent and the difference in reporting dates.
Example: RIL AR 2013-2014 pp. 269-272
IIM Lucknow

13/06/2014

B: Consolidation procedure
28

Club financial statements of holding company and

subsidiaries on a line by line basis by adding together like
terms of assets, liabilities, income and expenses.

Note: Shares in the subsidiary company held by the

holding company represent the assets (and liabilities) of
the subsidiary company.

IIM Lucknow

13/06/2014

Preparation of Consolidated Balance Sheet

29

A: Controlling interest acquired at the end of financial

Year:
Balance sheet of H Ltd. And S Ltd. As at 31st March 2012
(suppose H Ltd acquires all the shares of S Ltd on 31 st March
2012.)
Liabilities
share capital
shares of Rs. 10 each
fully paid

H Ltd

S Ltd Assets

H Ltd

S Ltd

Reserves

500000 200000 Sundry assets

480000 260000
100% shares in S
100000
Ltd.
200000

Creditors

80,000 60,000

Total

680000 260000 Total

680000 260000

30

1. Cost of Control/Capital
Reserve
1.

2.

If the holding company pays more for acquiring the

stake in subsidiary company payment for goodwill or
cost of control. Recognized as an asset in the
consolidated balance sheet.
If the holding company pays less for acquiring the stake
in subsidiary company Capital profit and is shown as
capital reserve in the consolidated balance sheet (that is
negative goodwill).

Refer Excel sheet

IIM Lucknow

13/06/2014

2. Minority Interest
31

The holding company may not hold 100% shares of the

subsidiary company. Subsidiary company may not be wholly
owned by the holding company.
Example: Suppose, H Ltd. holds 70% of the shares in S Ltd.
and the balance 30% kept by outsiders.
Two possible approach:
1.
2.

To include up to the proportion of holding- to include 70% of

the respective items i.e. assets and liabilities relating to S ltd.
To include 100% of all such items and show the difference
(30%)as outside ownership on the liability side as a
compensating adjustment.

Note: In actual practice the second method is adopted.

The interest of the minority share holders in the net
assets of the subsidiary company is registered and
shown as MINORITY INTEREST on the liability side of
the consolidated balance sheet.
Refer Excel sheet

32

3. Treatment of Reserves and surplus

and preliminary expenses (Holding
100%)

The holding company, while acquiring shares of the subsidiary

company pays not only for the paid up value of the shares
acquired but also pays for the profits that the subsidiary
company has accumulated till the date of acquisition.

By the same logic, the worth of shares of the subsidiary

company decreases if on the date of acquisition of its shares by
the holding company, the subsidiary company has some
accumulated losses or expenses which have not been written
off till that date.

IIM Lucknow

Refer Excel sheet

13/06/2014

33

4. Treatment of Reserves and

surplus and preliminary

expenses
(<100%)
Case of minority
interest- Minority

shareholders are also entitled to their

proportionate share of profits and
reserves of the subsidiary company.
Thus the minority interest is increased
by the profits and decreased by the
losses of the subsidiary company.

Refer Excel
sheet-Minority-1
IIM Lucknow 13/06/2014

34

5. Revaluation of fixed assets

by subsidiary as on date of
Revaluation of fixed assets by subsidiary as
consolidation

on date of consolidation also has an effect on

the cost of control (or capital reserve) and
minority interest.
Profit on revaluation is also shared by
minority shareholders.

Refer Excel Sheet

IIM Lucknow

13/06/2014

35

1.

2.

3.

6. Capital profits and revenue

profits
Profits and losses of the subsidiary company
pertaining to pre-acquisition period are capital profits
and losses for purpose of preparation of Consolidated
Balance Sheet.
It connotes profit earned by subsidiary company till
the date of acquisition.
As a result profits which may be of revenue nature for
the subsidiary company, may be capital profits so far
as the holding company is concerned.
IIM Lucknow

13/06/2014

Point to be noted
36

Profit arising out of appreciation of fixed

assets on their revaluation even in the
post acquisition period is also a capital
profit and is treated like profits
pertaining to pre-acquisition period.

IIM Lucknow

13/06/2014

Revenue profits
37

1.

2.

3.

Profits earned and losses incurred by the subsidiary

in the post acquisition period are treated as revenue
profit or loss respectively.
Holding companys share of such profits and losses
are shown in the consolidated balance sheet.
Minority shareholders share of post acquisition
profits increases the minority interest (MI) and their
share of post acquisition losses decreases MI.
Refer Excel sheet- Capital and Rev
IIM Lucknow

13/06/2014

B: Controlling interest acquired during the

course of the year.
38

How to treat the Reserves and Profit

& Loss
A/C balances ?.

IIM Lucknow

13/06/2014

Implication
39

Acquisition date and the date on which subsidiary

company prepares its final accounts may not
coincide.
Holding company may acquire shares in the course
of a financial year.
Refer-Excel-during year

IIM Lucknow

13/06/2014

Implication
40

Profits already earned and accumulated by the subsidiary

company up to the date of acquisition of the shares by the
holding company are capital profits.
It the shares are acquired during the course of the year the
profit should be treated as accruing from day to day (in the
absence of any other indication) and therefore should be
apportioned on the time basis

IIM Lucknow

13/06/2014

41

B. Treatment Relating to
Preference shares of the
subsidiary
A subsidiary company may have issued

equity shares as well as preference shares.

In such a case , irrespective of the
percentage of preference shares held by
outsiders, the MI will include the paid up
value of the preference shares held by the
outsiders plus the dividend accrued thereon
to the date of consolidation.
Refer Excel- Pref. Shares
IIM Lucknow

13/06/2014

C. Unrealized profits
42

Usually there will be transactions between

holding company and the subsidiary
company involving profits and losses.
Example-1

IIM Lucknow

13/06/2014

D. Mutual owings
43

In preparing consolidated balance sheet,

sums owed by holding company to its
subsidiary and vice versa have to be
eliminated.
(Example-1)

IIM Lucknow

13/06/2014

Implication
44

Dividends received out of capital profits must be credited to

Investment Account : since the cash received is against the
price of shares paid at the time of acquisition.
Only dividends received out of revenue profits can be treated
as income and credited to the profit and loss account

IIM Lucknow

13/06/2014

Example:
45

On 1st November, 1999 H ltd acquired 3,000 equity shares of

Rs.100 each (at a cost of Rs.150 per share) in S ltd., whose
total share capital consisted of 5,000 equity shares of Rs.100
each fully paid up. The balance in the profit and loss account
of S ltd.on 31st March 2000 was Rs.4,40,000 made up as
follows:
Balance brought forward on 1st April 1999
= 140000
Profit (after meeting all expenses and taxation)
= 300000
Total = 440000
S Ltd declared a dividend of 40% and issued bonus shares in the
ratio of 1:1.

IIM Lucknow

13/06/2014

9. Proposed dividend
46

On the liability side of the balance sheet of the subsidiary

company , proposed dividend may appear.
It is assumed that proposed dividend is out of post acquisition
profits. Hence holding companys share of proposed dividend
will be added to the holding companys profit and loss
account, where as minority shareholders share will be added
to minority interest.

IIM Lucknow

13/06/2014

47

2. Consolidation of Profit and

Loss Account.

1.

2.

Usual items of gains, losses and expenses which will appear

in the profit and loss accounts of both holding and subsidiary
company and will be aggregated, but some adjustments are
required.
Profit of the subsidiary company arising before the date of
acquisition- should be debited to consolidated P&L and
credited to capital reserve or goodwill.
All items internal to the holding and subsidiary companies
should be eliminated.

IIM Lucknow

13/06/2014

48

Consolidation of P& L
Account.
3. Transfer of goods between the holding company and the
subsidiary company should be eliminated from the purchases
and sales appearing in the consolidated P&L.
4. Debenture interest or dividends received by the holding
company from the subsidiary will have to be eliminated from
both sides of consolidated P&L.
5. No adjustment is required in respect of tax on dividends or
interest on debentures paid by the subsidiary company to the
holding company.

IIM Lucknow

13/06/2014

49

Consolidation of P& L
Account.
6. In case cumulative preference shares are held by outsiders
and in case the dividend is in arrear, such arrear may be
shown by way of a note in the consolidated balance sheet.
Alternatively the amount due by way of dividends
should be debited to the consolidated P&L and credited to the
minority shareholders account and shown as liability in the
consolidated balance sheet.

IIM Lucknow

13/06/2014

Empirical research.
50

1.

THE VALUE RELEVANCE OF CONSOLIDATED VERSUS

PARENT COMPANY FINANCIAL REPORTING ON THE
LONDON STOCK EXCHANGE
By Victor O. Mller, Babe-Bolyai University, Cluj-Napoca, Romania
Journal: INTERNATIONAL JOURNAL OF BUSINESS
RESEARCH, Volume 11, Number 5, 2011

IIM Lucknow

13/06/2014

Theoretical Framework
51

Relevance and faithful representation are the two fundamental

qualitative characteristics of financial information.
Therefore, in order to make assessments on the quality of
information of financial statements, it is absolutely necessary to
quantify this relevance (capacity to influence) of financial
information.
A fertile environment to perform such a measurement is the capital
market, where investors decisions are reflected directly in the
share price of the reporting entity.

IIM Lucknow

13/06/2014

Objective
52

Parent companies are obligated to a dual reporting

materialized in two sets of financial statements one at
individual level, the other at group level. Therefore, the
question arises naturally which of the two sets best serves
the information needs of investors, respectively which of the
two sets is more value relevant.

Analyze the absolute and relative market value relevance

of consolidated accounting information of listed companies
on the London Stock Exchange between 2003 and 2008.

IIM Lucknow

13/06/2014

Methodology and Analysis

53

Econometric valuation models which

measure the degree of association
between share price and accounting
information supplied by financial
statements (equity and net income).
The basis for this models is the Ohlson
(1995) valuation model, which expresses
share price as a function of current
accounting value of equity plus discounted
value of future (abnormal) results.
IIM Lucknow

13/06/2014

Implication
54

Results prove the importance (usefulness) of

consolidated financial statements especially for
investors on the capital market, and on the
other hand, they question the necessity of
publishing
parent
company
financial
statements.

Students can take this as project assignment Value Relevance of CFS: an investigation in
Indian Capital Market
IIM Lucknow

13/06/2014

2. Empirical evidence
55

2. An Analysis of Consolidated and ParentOnly Financial Statements of Indian

Companies
By: Padmini Srinivasan* and M S
Narasimhan**
Journal: The Icfai University Journal of
Accounting Research, Vol. VII, No. 3,
2008

IIM Lucknow

13/06/2014

Sample Data
56

For the purpose of this study companies in

the BSE 500 were taken. Data for the years
2003- 2007 were taken from CMIE Database,
Prowess and from Capitaline Database. Out
of these, companies with no subsidiary
companies (124 companies) and companies
that did not exist (185 companies) for the
time period were eliminated. This resulted in
191 sample companies. For analysis, sales,
profit and assets are taken between parentonly and CFS.
IIM Lucknow

13/06/2014

Implication
57

The study concludes that the change of

disclosure regulation favoring
consolidation is more proactive in nature
and consistent with the international
practices than changes in the operations
of Indian companies.

IIM Lucknow

13/06/2014

Analysis of Minority Interest

58

Keeping with the emphasis on effective control, MI refers as

noncontrolling interest.
Balance in the MI account shown on the B/S and the MI in net
income are necessarily related.
If the subsidiary pays no cash dividends, then the change in the
balance sheet account equals the MI in net income.
If a cash dividend is paid , then B/S change equals the MI in net
income less the dividends paid to minority owners (B/S change by
amount of undistributed earnings for the period).
Capital contributions or withdrawals also affect the MI shown on
the parent company B/S.
IIM Lucknow

13/06/2014

Example
59

(All figures are in Rs.millions)

Opening balance sheet liability: MI

679

Income statement: MI

83

Financing cash flow: Dividends paid to minority

shareholders

-55

Closing B/S Liability : MI

707

IIM Lucknow

13/06/2014

Analysis
60

MI reflects the minority shareholders

investment in the consolidated
subsidiary.
Assets of a less than wholly owned
subsidiary are not freely available to the
parent as those of a 100%-owned
subsidiary because of the minority
investor.

IIM Lucknow

13/06/2014

Analysis
61

Minority shareholders have only a residual claim on the

assets of the subsidiary.
Generally, the creditors and shareholders of the parent
cannot benefit from the assets of the subsidiary without
respecting the claims of its creditors and minority
holders.
Thus MI occupies a special position and should not be
mechanically aggregated with either liabilities or equity.

Note: MI has the characteristics of a preferred shareholder.

IIM Lucknow

13/06/2014