Chapter 9

Indirect and
Mutual Holdings
Indirect and Mutual Holdings:
Objectives

1. Prepare consolidated statements when the

parent controls through indirect holdings.
2. Apply consolidation procedures to the
special case of mutual holdings.

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 Indirect and Mutual Holdings

1: INDIRECT HOLDINGS

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Types of Indirect Holdings
Father-son-grandson Connecting Affiliates

Parent Parent

80% 80% 20%

Subsidiary A Subsidiary A Subsidiary B

40%
70%

Subsidiary B
Parent owns 80% of A,
and through A,
56% of B (80% x 70%).
Parent owns 80% of A,
20% of B,
and through A an additional
32% of B (80% x 40%).
Parent owns a total of 52% of B.

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Equity Method for Father-Son-
Grandson Holdings

Son applies equity method for Investment in

Grandson
Father applies equity method for Investment
in Son
Controlling interest share of consolidated net
income includes:
– Share for direct holding of son
– Share for indirect holding of grandson (by father
through son)

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Example: Father-Son-Grandson

On 1/1/11 Poe acquires 80% of Saw. On

1/1/12 Saw acquires 70% of Tub.

Earnings and dividends for 2010:

Poe Saw Tub

Separate $10
earnings 0 $50 $40
Dividends 60 30 20

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Equity Method Entries

SAW APPLIES EQUITY METHOD (70%):

Cash (+A) 14  
Investment in Tub (-A)   14
Investment in Tub (+A) 28  
Income from Tub (R, +SE)   28
for dividends and for income    
POE APPLIES EQUITY METHOD (80%):
Cash (+A) 24  
Investment in Saw (-A)   24
Investment in Saw (+A) 62.4  
Income from Saw (R, +SE)   62.4
for dividends and for income = 80% x    
(50+28)

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Allocations to CI and NCI

  Poe Saw Tub CI NCI Total

Separate income 100.0 50.0 40.0     190.0
Allocate:      
Tub    28.0 (40.0)   12.0  
70% Saw: 30% NCI      
 
Saw  62.4 (78.0) 15.6  
80% Poe: 20% NCI          
Poe's  (162.4) 162.4
100% CI
Consolidated net
      162.4 27.6 190.0
income

This allocation may look like the "step-down

method" allocation presented in cost accounting
texts. Mathematically it is!

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Allocation Results
  Poe Saw Tub CI NCI Total

Separate income 100.0 50.0 40.0     190.0

Allocate:
Tub  28.0  (40.0) 12.0
70% Saw: 30% NCI
Saw  62.4 (78.0)   15.6  
80% Poe: 20% NCI    
Poe     
100% CI (162.4)     162.4  
Consolidated net
income     162.4 27.6 190.0

• On separate income statements: • For consolidated statements:

Poe's net income = $162.4 Noncontrolling interest share =
Saw's "Income from Tub" = $28.0 12.0 + 15.6 = $27.6
Poe's "Income from Saw" = $62.4

© Pearson Education Limited 2015 9-9

Indirect Holdings with Connecting
Affiliates
Indirect holdings with connecting affiliates
– Handle similar to Father-son-grandson, but
– Father has direct holdings in both Son and Grandson
Example: Pet holds 70% of Sal and 60% of Tie. Sal
holds an additional 20% of Tie.
  Pet Sal Tie
$7 $3 $2
Separate income 0 5 0
Dividends 40 20 10
Intercompany profit transactions:
– Downstream: Pet sold Sal land with a gain of $10. This will
be fully attributed to Pet.
– Upstream: Sal sold $15 inventory to Pet, and Pet holds
ending inventory with unrealized profit of $5. This will be
allocated between Pet and NCI.

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Calculating Investment Balances
Sal: Tie:
Underlying equity Jan 1 Dec 31 Underlying equity Jan 1 Dec 31
Capital stock 200 200 Capital stock 100 100
Retained earnings 50 69 Retained earnings 80 90
Goodwill 12 12
Goodwill 12 12
Unrealized profit in
inventory (5) Total 192 202
Subtotal (split 70:30) 276 Split
Unrealized profit on land (10) 60%:20%:20%
Total 262 266 Investment in Tie
(60%) 115.2 121.2
Split 70%:30%
Investment in Tie
Investment in Sal (70%) 183.4 183.2 (20%) 38.4 40.4
* (70% x 276) - 10 = 183.2    
Noncontrolling
Noncontrolling interest interest (20%) 38.4 40.4
(30%) 78.6 82.8
* 30% x 276 = 82.8

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  Pet Sal Tie CI NCI Total
Separate income 70.0 35.0 20.0     125.0
Unrealized $5 profit on inventory
(upstream) (5) (5)
Unrealized $10 gain on land (downstream) (10) (10)
Allocate:            
Tie  60% Pet: 20% Sal: 20% NCI  12.0 4.0 (20.0)   4.0  
Sal  70% Pet: 30% NCI 23.8 (34.0)     10.2  
Pet 100% CI (95.8)     95.8    
Consolidated net income       95.8 14.2 110.0
Dividend distributions:            
Tie  60% Pet: 20% Sal: 20% NCI 6 2 (10)   2  
Sal  70% Pet: 30% NCI 14 (20)     6  
Pet  100% CI (40)     40    

Sal's Income from Tie = $4.0

Pet's Income from Tie = $12.0
Pet's Income from Sal = $23.8 - $10 unrealized gain = $13.8

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Worksheet Entries

Sales (-R, -SE) 15.0  

Cost of sales (-E, +SE)   15.0
Cost of sales (+E, -SE) 5.0  
Inventory (-A)   5.0
Gain on land (-Ga, -SE) 10.0  
Plant assets (-A)   10.0
Income from Tie (-R, -SE) 16.0  
Dividends (+SE)   8.0
Investment in Tie (-A)   8.0
both Sal's 20% and Pet's 80%    
NCI share, Tie (-SE) 4.0  
Dividends (+SE)   2.0
NCI, Tie (+SE)   2.0

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 Income from Sal (-R, -SE) 13.8  
Investment in Sal (+A) 0.2  
Dividends (+SE)   14.0
including 10 unrealized gain on land    
NCI share, Sal (-SE) 10.2  
Dividends (+SE)   6.0
NCI, Sal (+SE)   4.2
Capital stock, Tie (-SE) 100.0  
Retained earnings, Tie (-SE) 80.0  
Goodwill (+A) 12.0  
Investment in Tie (Sal & Pet’s) (-A)   153.6
NCI, Tie (+SE)   38.4
Capital stock, Sal (-SE) 200.0  
Retained earnings, Sal (-SE) 50.0  
Goodwill (+A) 12.0  
Investment in Sal (-A)   183.4
NCI, Sal (+SE)   78.6

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Consolidation Worksheet

Income statement: Pet Sal Tie DR CR Consol

Sales 200.0 150.0 100.0 15.0   435.0
Income from Sal 13.8     13.8   0.0
Income from Tie 12.0 4.0   16.0   0.0
Gain on land 10.0     10.0   0.0
Cost of sales (100.0) (80.0) (50.0) 5.0 15.0 (220.0)
Other expenses (40.0) (35.0) (30.0)     (105.0)
NCI share, Sal 10.2 (10.2)
NCI share, Tie       4.0   (4.0)
Controlling interest
share 95.8 39.0 20.0 95.8

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Statement of retained Pet Sal Tie DR CR Consol
earnings:
Beginning retained earnings 223.0 50.0 80.0 80.0   223.0 
50.0
Add net income 95.8 39.0 20.0     95.8
8.0
Deduct dividends (40.0) (20.0) (10.0)   2.0  (40.0)
14.0
6.0
Ending retained earnings 278.8 69.0 90.0 278.8
Balance sheet: Pet Sal Tie DR CR Consol
Other assets 50.6 19.6 85.0     155.2
Inventories 50.0 40.0 15.0   5.0 100.0
Plant assets, net 400.0 200.0 100.0   10.0 690.0
Investment in Sal (70%) 183.2     0.2 183.4 0.0
Investment in Tie (60%, 121.2 40.4     8.0 0.0 
20%) 153.6
Goodwill       12.0    24.0
12.0
Total 805.0 300.0 200.0 969.2

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   Pet Sal Tie DR CR Consol
Liabilities 126.2 31.0 10.0     167.2
100.
Capital stock 400.0 200. 100.0 0    400.0
0 200.
0
Retained 278.8 69.0 90.0     278.8
earnings
2.0
Noncontrolling         4.2 123.2
interest 38.4
78.6
Total 805.0 300. 200.0 969.2
0

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 Indirect and Mutual Holdings

2: MUTUAL HOLDINGS

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Types of Mutual Holdings

Connecting affiliates
Parent mutually owned mutually owned

Parent Parent
80% 20%
80% 10%
20%
Subsidiary A Subsidiary A Subsidiary B
40%

Parent owns 80% of A and the
consolidated entity holds
10% of the Parent’s common
stock in treasury
Parent owns 80% of A and 20%
of B. Subsidiary A has 40%
of B and Subsidiary B has
20% of A. Simultaneous
equations will be used.

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Approaches for Mutual Holdings

Two general approaches

– Treasury stock approach
– Conventional approach
If parent stock is held by subsidiary
– Use either the treasury stock or conventional
approach
If subsidiary stock is mutually held
– Use the conventional approach only

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Treasury Stock or Conventional

Treasury stock method

– Treats parent mutually held stock as treasury
stock
– Parent has fewer shares outstanding
– "Interdependency" assumed eliminated by
treasury stock treatment
Conventional method for mutual holding
– Treats stock as retired
– Parent has fewer shares outstanding
– Simultaneous set of equations
– Fully recognizes interdependencies

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Parent Stock Mutually Held

One or more affiliates holds parent company

stock
Treasury stock method
– Recognize treasury stock at cost of subsidiary's
investment in parent
– Reduce Investment in subsidiary
Conventional method
– Parent treats stock as retired, reducing common
stock, and additional paid in capital or retained
earnings
– Reduce Investment in subsidiary

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Comparison

Both methods reduce

– Income from Subsidiary for the parent dividends
paid to subsidiary
Methods result in different:
– Equity accounts
• Treasury stock
• Retired common stock
– Consolidated retained earnings
– Noncontrolling interest

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Treasury Stock Method - Data

Par owns 90% of Sal acquired at fair value

equal to cost, no goodwill. Sal owns 10% of
Par. At the start of 2012:
Investment in Sal, $270
Sal's total stockholders' equity
– Common stock $200
– Retained earnings $100
During 2012,
Separate income: Par $60, Sal $40
Dividends: Par $30, Sal $20
© Pearson Education Limited 2015 9-24
 Par Uses Treasury Stock
Method
Allocations of income to CI and NCI:
  Par Sal CI NCI Total
Separate Income 60.0 40.0     100.0
Dividend income (3.0) 3.0      
Allocate:          
Sal 90% Par: 10% 38.7 (43.0)   4.3  
Par 100% CI (95.7)   95.7    
Totals     95.7 4.3 100.0

Controlling interest share $95.7

Noncontrolling interest share $4.3
Par's Income from Sal $38.7 – 3.0 = $35.7

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Par's Equity Method Entries

Cash (+A) 18.0  

Investment in Sal (-A)   18.0
for dividends    
Investment in Sal (+A) 38.7  
Income from Sal (+R, +SE)   38.7
for income    
Income from Sal (-R, -SE) 3.0  
Dividends (+SE)   3.0
for Par dividends paid to Sal

In place of the last entry, Par could record its dividend

directly as:
Dividends (-SE) 27.0  
Income from Sal (-R, -SE) 3.0  
Cash (-A)   30.0

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Worksheet Entries
Income from Sal (-R, -SE) 35.7  
Dividends (+SE)   18.0
Investment in Sal (-A)   17.7
Noncontrolling interest share (-SE) 4.3  
Dividends (+SE)   2.0
Noncontrolling interest (+SE)   2.3
Common stock (-SE) 200.0  
Retained earnings (-SE) 130.0  
Investment in Sal (-A)   297.0
Noncontrolling interests (+SE)   33.0
Treasury stock (-SE) 70.0  
Investment in Par (-A)   70.0

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Parent Mutually Held - Data
Par owns 90% of Sal acquired at fair value equal to
cost, no goodwill. Salt owns 10% of Part. At the
start of 2012: Investment and noncontrolling
interest
– Investment in Sal, $226,154 = 226,154 + 33,846
– Investment in Par, $70,000 equals underlying equity less
mutual holding
– Noncontrolling interest, $33,846 = 200,000+130,000-70,000.
– Sal's total stockholders' equity
was $200,000 CS and $100,000 RE
During 2012,
– Separate income: Par $60,000, Sal $40,000
– Dividends: Par $30,000 (including $3,000 paid to Sal),
Sal $20,000

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Part Uses Conventional Method

Allocation information:
  Part Salt CI NCI Total
Separate Income $60,000 $40,000     $100,000
Salt's allocation .90S .10S
Part's allocation .10P .90P
Solved, substituting 2nd
Equations: equation into 1st:
P = $60,000 + .9S P = 105,495
S = 50,550
S = $40,000 + .1P
CI share = 94,945
CI share = .9P NCI share = 5,055
NCI share = .1S
Conventional method is analogous to reciprocal cost
allocation method.

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Note on Results:

Results:
P = 105,495
S = 50,550
CI = 94,945
NCI = 5,055

CI + NCI = $100,000, the total separate income

Part's Income from Salt = .9S - .1P = $34,945
90% of Sal's income – 10% mutual holding
CI = Part's separate income + Income from Salt
$60,000 + $34,945 = $94,945 (as a check!)

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Part's Equity Method Entries

Cash (+A) 18,000  

Investment in Salt (-A)   18,000
for dividends    
Investment in Salt (+A) 34,945  
Income from Salt (R, +SE)   34,945
for income    
Investment in Salt (+A) 3,000  
Dividends (-SE)   3,000
for Part dividends paid to Salt

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Worksheet Entries - Conventional

Income from Salt (-R, -SE) 34,945  

Dividend Income (-R, -SE) 3,000
Dividends (+SE)   18,000
Investment in Salt (-A)   19,945
Noncontrolling interest share (-SE) 5,055  
Dividends (+SE)   2,000
Noncontrolling interest (+SE)   3,055
Common stock (-SE) 200,000  
Retained earnings (-SE) 130,000  
Investment in Salt (-A)   296,154
Noncontrolling interests (+SE)   33,846
Investment in Salt (+A) 70,000
Investment in Part (-A) 70,000

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Subsidiary Stock Mutually Held

Subsidiaries hold stock in each other

– Use conventional approach
– Treasury stock method is not appropriate
• It is not parent's stock
• Subsidiary stock is eliminated in consolidation

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Subsidiary Mutual Holdings

Pal owns 80% of Set acquired at book value plus

$25,000 goodwill. Set owns 70% of Ton acquired at
book value plus $10,000 goodwill. Ton owns 10% of
Set, cost method.

At the start of 2013:

– Investment in Set (by Pal, 80%), $340,000
– Investment in Ton (by Set, 70%), $133,000
– Investment in Set (by Ton, 10%), $40,000
– Noncontrolling interest, $102,000
For 2013:
  Pal Set Ton
Separate
income 112,000 51,000 40,000
Dividends 50,000 30,000 20,000

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 Allocate Income to CI and NCI

 Allocation Info. Pal Set Ton CI NCI Total

Separate income 112,000 51,000 40,000     203,000

Ton's allocation   .7T     .3T  

Set's allocation .8S   .1S   .1S  

Pal's allocation       1.0P    

Equations: Solve, substituting 2nd equation

P = 112,000 + .8S into 3rd (or 3rd into 2nd):

S = 51,000 + .7T
T = 40,000 + .1S T = 48,495
CI = 1P S = 84,946
NCI = .3T + .1S P = 179,957
CI share = 179,957
NCI share = 14,548 + 8,495 = 23,043

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A Look at the Results
Results:
T = 48,495
S = 84,946
P = 179,957
CI share = 179,957
NCI share = 14,548 + 8,495 = 23,043
Consolidated income
– CI and NCI shares = 203,000, total separate income
Intercompany income
– Pal's Income from Set = .8S = 67,957
– Set's Income from Ton = .7T = 33,946
– Ton's Dividend income = .1(Set's dividends) = 3,000
Individual reported income
– Pal's separate income + income from Set = 179,957
– Set's separate income + income from Ton = 84,946

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