INTRODUCTION TO CONSOLIDATED FINANCIAL

STATEMENTS
Concept
Companies may expand organically by building up their business from their own trading, or by
acquisitive growth (i.e. by acquiring shares in other entities).

Types of investment
Subsidiary (IFRS 10)
A subsidiary is an entity that is controlled by another entity

An investor controls an investee if and only if the investor has all the following:
a) power over the investee to direct the relevant activities;
b) exposure, or rights, to variable returns from its involvement with the investee; and
c) the ability to use its power over the investee to affect the amount of the investor’s returns.
In the exam, in absence of any other information, if the parent owns greater than 50% of the equity
(ordinary) shares, the entity can be assumed to be a subsidiary.

Associate
Associate (IAS 28)
An associate is an entity over which the investor has significant influence.

Significant influence is the power to participate in the financial and operating policy
decisions of the investee but is not control or joint control over those policies. This could be shown by:
(a) representation on the board of directors
(b) participation in policy-making processes
(c) material transactions between the entity and investee
(d) interchange of managerial personnel
(e) provision of essential technical information.

Presumptions
If an investor holds, directly or indirectly:
(a) 20% or more of voting power
– presumption of significant influence unless demonstrated otherwise.
(b) < 20% of voting power
– presumption of no significant influence unless demonstrated otherwise
Trade investment
A trade investment is a simple investment in the shares of another entity that is not an associate or a
subsidiary.

This means that the investor does not have significant influence or control. In absence of information to
the contrary, if an investor holds less than 20% of the voting power, the entity is considered to be a
trade investment.

 Trade investments are simply shown as investments under non-current assets in the statement
of financial position.
 Dividends received from trade investments are recorded as investment income in the statement
of profit or loss and other comprehensive income.

Summary
The solution to the information gap depends on the type of investment held by an investor. The
accounting treatment depends on the extent of influence achieved.
Degree of influence Presumed if size of Type of investment Accounting treatment
investment is
Control > 50% Subsidiary Consolidate
Significant influence 20% <_50% Associate Equity accounting
No influence 0% < 20% Trade investment Investment in SOFP &
investment income in
SPLOCI

LECTURE EXAMPLE 1
J has a 40% shareholding in each of the following three companies:
K: J has a management agreement with K stating that J is responsible for all key operating and
financial decisions in K.
L: J has significant influence over the affairs of L
M: J has the right to appoint or remove a majority of the directors of M

Required: Which of these companies are subsidiaries of J for financial reporting purposes?
A None of them B K, L and M
C K and L only D K and M only

Parent's separate financial statements

Statement of financial position (SOFP)
When the parent company acquires shares in a subsidiary, associate or trade investment, in the
parent’s statement of financial position, an investment is recorded at cost (for exam purposes) within
non-current assets.

Statement of comprehensive income (SOCI)

Any dividends received from the subsidiary, associate or trade investment are recorded as investment
income in the parent company’s statement of profit or loss and other comprehensive income.
Group financial statements
The parent company’s shareholders will only have access to the parent’s separate financial statements
(not the subsidiary’s financial statements). Therefore they will only be able to see the investment as
cost in the statement of financial position and dividend income in the statement of profit or loss and
other comprehensive income. They will not be able to see the impact of the parent’s control over the
net assets and profit of the subsidiary.

The purpose of group financial statements is to bridge the information gap. Provided the parent has a
controlling influence, it is required to produce an additional set of financial statements which aim to
record the substance of its relationship with its subsidiaries (single economic entity) rather than its strict
legal form (separate legal entities).
This additional set of accounts is referred to as group, or consolidated financial statements which:
(a) Present the results and financial position of a group of companies as if it was a single business
entity
(b) Are issued to the shareholders of the parent
(c) Are issued in addition to and not instead of the parent's own financial statements
(d) Provide information on all companies controlled by the parent.

Consolidated statement of financial position

Consolidation method for statement of financial position
(SOFP)

LECTURE EXAMPLE 2
Pegasus acquired 100% of the share capital of Sylvester on 1 January 20X1 for $1,300,000 in cash.
The statements of financial position of Pegasus and Sylvester as at 1 January 20X1 are set out below:
Pegasus Sylvester
 $'000 $'000
ASSETS
Non-current assets
Property, plant and equipment 20,000 900
Investment in Sylvester 1,300
21,300
Current assets
Inventories 3,200 400
Trade receivables 2,500 175
Cash 500 125
6,200 700
27,500 1,600
EQUITY AND LIABILITIES
Equity
Share capital 5,000 100
Retained earnings 19,450 1,200
24,450 1,300
Current liabilities
Trade payables 2,500 260
Income tax payable 550 40
3,050 300
27,500 1,600
Required
Prepare the consolidated statement of financial position of the Pegasus Group as at 1 January 20X1.

PEGASUS GROUP SOFP AS AT 1 JAN 20X1

NON-CURRENT ASSET $ ‘000 $ ‘000
Property plant & equip 20,000 + 900 20,900
CURRENT ASSETS
Inventory 3,200 + 400 3,600
Receivables 2,500 + 175 2,675
Cash 500 + 125 625 6,900
27,800
EQUITY:
Share capital Parent only 5,000
Retained earnings Parent only 19,450 24,450
CURRENT LIABILITIES
Payables 2,500 + 260 2,760
IT payable 550 + 40 590 3,350
27,800

(w1) Group Structure:

Pegasus

100% 1.1.x1 Pre acquisition reserve $1,200,000

Sylvester

(w2) Consideration (investment) 1,300,000

Share capital 100,000
Retained earnings (w1) 1,200,000 (1,300,000)
0

Pre-and post-acquisition reserves

In Lecture example 2, Sylvester's net assets were represented not just by share capital but also
reserves. We call those reserves 'pre-acquisition reserves' since they were controlled by someone else
prior to Pegasus' investment in Sylvester on 1 January 20X1. They are not consolidated as they are
cancelled with the cost of the investment.
Any profits made after acquisition – post-acquisition reserves – must be consolidated in the group
financial statements.

LECTURE EXAMPLE 3
Three years later, 31 December 20X3, the summarised statement of financial position of Pegasus and
Sylvester are as follows.
Pegasus Sylvester
$'000 $'000
ASSETS
Non-current assets
Property, plant and equipment 24,000 4,200
Investment in Sylvester 1,300
25,300 4,200
Current assets 8,500 2,100
33,800 6,300
EQUITY AND LIABILITIES
Equity
Share capital 5,000 100
Retained earnings 26,800 5,200
31,800 5,300
Current liabilities 2,000 1,000
33,800 6,300
Required
Prepare the consolidated statement of financial position of the Pegasus Group as at 31 December
20X3.

PEGASUS GROUP SOFP AS AT 31 DEC 20X3

NON-CURRENT ASSET $ ‘000 $ ‘000
PPE 24,000 + 4,200 28,200
CURRENT ASSETS 8,500 + 2,100 10,600
38,800
EQUITY:
Share capital Parent only 5,000
Retained earnings (w3) Parent & Sub 30,800 35,800
CURRENT LIABILITIES 2,000 + 1,000 3,000
 38,800

(w1) Group Structure: Pegasus

100% 1.1.x1 Pre acquisition reserve $1,200,000

Sylvester

(w2) Consideration (investment) 1,300,000

Share capital 100,000
Retained earnings (w1) 1,200,000 (1,300,000)
0

(w3) Retained earnings Pegasus Sylvester

Per Question 26,800 5,200
- Pre-acquisition retained earnings (1,200)
Post-acquisition reserves 4,000
Pegasus share of post-acquisition: 4,000
Retained earnings (100% x 4,000)
30,800

Accounting treatment for an associate

Remember that an associate is an entity in which the parent has significant influence. In absence of
other information, this is presumed when the parent holds 20% to 50% of the voting rights.

Consolidated financial statements

An investment in an associate is accounted for in consolidated financial statements using the equity
method.
As the parent does not have control, 100% of the associate’s assets, liabilities, income and expenses
cannot be added to the parent’s line by line. Instead, significant influence is reflected by bringing in the
group share of the associate in two lines in each of the consolidated statement of financial position and
statement of profit or loss and other comprehensive income.

STATEMENT OF FINANCIAL POSITION

IAS 28 states the following treatment:
Non-current assets
Investment in associates (Working) X

Working
Cost of associate X
Share of post-acquisition retained reserves A
Less: impairment losses on associate to date (B)
X

Retained earnings
Parent Subsidiary Associate
Per question X X X
Pre-acquisition retained earnings (X) (X)
X X
Subsidiary – share of post acquisition X
Associate – share of post acquisition A
Less: impairment of associate (B)
X

STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME

Profit or loss
A's Profit for the year × Group % (less impairment loss for year) X
Shown before group profit before tax.
Other comprehensive income
A's Other comprehensive income for the year × Group % X

Illustration of equity method

Scenario:
P owns several subsidiaries. On 1 January 20X5, P purchased 30% of the ordinary shares of A for
$100,000. At that date, A’s retained earnings were $40,000.
As at 31 December 20X7, A’s retained earnings had risen to $90,000. A’s profit and other
comprehensive for the year ended 31 December 20X7 were $15,000 and $6,000 respectively. A has
not paid any dividends since the acquisition date.
Up to 31 December 20X6, there was no impairment of the investment in the associate but during the
year ended 31 December 20X7, the investment in the associate suffered an impairment loss of $3,000.
CONSOLIDATED STATEMENT OF PROFIT OR LOSS AND OTHER COMPREHENSIVE INCOME
FOR THE YEAR ENDED 31 DECEMBER 20X7 (EXTRACT)
Profit or loss
$
Share of associate’s profit for year [(15,000 × 30%) – 3,000 impairment] 1,500
Shown before group profit before tax.
Other comprehensive income
Share of associate’s other comprehensive income (6,000 × 30%) 1,800

LECTURE EXAMPLE 4
Which of the following statements regarding associates is true?
(1) Associates are consolidated in the group financial statements
(2) An associate is an entity in which the parent has control
(3) Associates are equity accounted in the group financial statements
(4) An associate is an entity in which the parent has significant influence
A (1) and (4)
B (1) and (2)
C (3) and (4)
D (2) and (3)