Accounting for indirect interests and changes in degree of ownership of subsidiaries Chapter 26 Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Learning objectives Understand that the determination of the total ownership interest in a subsidiary must take account of both direct and indirect ownership interests Understand what an indirect equity ownership represents and how it is calculated Understand that the parent entity’s interest in the post-acquisition movements of a subsidiary’s retained profits and other reserves will be based upon the sum of the direct and indirect ownership interests (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Learning objectives (cont.) Understand that even in the presence of indirect ownership interests, the pre-acquisition capital and reserves of a subsidiary will be eliminated on consolidation on the basis of only the direct ownership interests Understand how to account for incremental investments in a subsidiary Understand how to account for the disposal of a subsidiary from the perspective of both the parent entity and the economic entity Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Status of newly converged accounting standards From 2005, the new standard is NZ IAS 27 ‘Consolidated and Separate Financial Statements’ replaces SSAP-8 ‘Consolidated Financial Statements’ There are two other standards of particular relevance: NZ IFRS 3 ‘Business Combinations’ NZ IAS 38 ‘Intangible Assets’ Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests NZ IAS 27 requires that: the consolidated financial report include all subsidiaries of the parent Subsidiary defined as (NZ IAS 27): an entity (including a partnership) that is controlled by another entity (the parent) Control: is the power to govern the financial and operating policies of an entity so as to obtain benefits from its activities can arise through indirect interests i.e. without any direct ownership interest (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Continues Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Minority interests: the portion of the profit or loss and net assets of a subsidiary attributable to equity interests that are not owned by the parent Also possible to hold both direct and indirect interests in a particular entity: (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Consolidation in the presence of indirect interests: Refer to Worked Example 26.1 Choice of two methods in performing consolidation: Sequential-consolidation approach Consolidation of each separate legal entity with its controlled entities is performed sequentially (time- consuming and messy) Multiple-consolidation approach In eliminating investments held by the immediate parent entities only direct interests are taken into account Post-acquisition movements in subsidiaries’ shareholders’ funds allocated to ultimate parent entity on basis of sum of direct and indirect interests (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Journal entries To eliminate parent’s investment in subsidiary: Debit Share capital Debit Retained earnings Debit Goodwill Credit Investment in subsidiary To recognise impairment of goodwill associated with acquisition: Debit Impairment expense — goodwill Credit Accumulated impairment losses — goodwill (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Journal entries (cont.) To eliminate dividends proposed by subsidiary: Debit Dividend payable (balance sheet) Credit Dividend proposed (income statement) Debit Dividend revenue (income statement) Credit Dividend receivable (balance sheet) (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Indirect ownership interests (cont.) Minority interests (NZ IAS 27): to be presented separately from the parent shareholders’ equity in the consolidated balance sheet within equity to be separately disclosed in the profit or loss of the group Refer to Worked Example 26.1, 'Consolidation in the presence of indirect interests', pp. 1066–76 Refer to Worked Example 26.2, 'Consolidation of a complex group', pp. 1077–84 Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Increase in the ownership interest held in a subsidiary Parent entity might acquire additional shares in a subsidiary over time NZ IFRS 3 requires: each exchange transaction to be treated separately by the acquirer that the cost of the transaction and fair value information at the date of the transaction be used to determine the amount of any goodwill results in a step-by-step comparison of the cost of the individual investments Refer to Worked Example 26.3, 'Increase in ownership interest of subsidiary', pp. 1085–9 (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Increase in the ownership interest held in a subsidiary (cont.) Journal entries To eliminate investment in subsidiary and recognise goodwill (each acquisition to be accounted for separately): Debit Share capital Debit Retained earnings Debit Goodwill Credit Investment in subsidiary (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Increase in the ownership interest held in a subsidiary (cont.) Journal entries (cont.) To recognise impairment of goodwill (separately for each acquisition): Debit Impairment loss — goodwill Credit Accumulated impairment losses — goodwill (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Increase in the ownership interest held in a subsidiary (cont.) To eliminate dividends proposed by subsidiary: Debit Dividend payable (balance sheet) Credit Dividend proposed (income statement) Debit Dividend income (income statement) Credit Dividend receivable (balance sheet) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary When a parent entity sells shares in a subsidiary: profit or loss in its own individual accounts will be different from that in consolidated accounts NZ IAS 27 requires investments in subsidiaries etc. to be measured at either: cost; or in accordance with NZ IAS 39 (i.e. at fair value) (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) From the parent’s perspective, profit or loss on sale of shares is the difference between: carrying value of shares; and value of sales proceeds Carrying value: is the amount shown in the financial statements for a particular asset or liability From group’s perspective consideration to be given to economic entity’s share of post-acquisition profits and reserve movements before determining profit or loss on sale of shares (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) Refer to Worked Example 26.3 Journal entries To record sale of shares in parent’s journal: Debit Cash Credit Investment in subsidiary Credit Profit on sale of investment (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) Consolidation adjusting journal entries: Debit Profit on sale of investment Debit Loss on sale of subsidiary Credit Profit after tax Credit Retained profits Credit Revaluation reserve Balance in revaluation reserve can be transferred to retained profits: Debit Revaluation reserve (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) Discount generated on consolidation Refer to Worked Example 26.4 Consolidation journal entries To eliminate the first acquisition: Debit Share capital Credit Investment in subsidiary To record assets at fair value in relation to acquisition: Debit Property, plant and equipment Credit Revaluation reserve (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) Consolidation journal entries (cont.) To eliminate the second acquisition: Debit Share capital Debit Capital profits reserve Debit Retained profits Debit Revaluation reserve Credit Investment in subsidiary Credit Discount on acquisition (Continues) Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Sale of shares in a subsidiary (cont.) Consolidation journal entries (cont.) To eliminate discount on acquisition and treat it as part of income: Debit Discount on acquisition Credit Gain on acquisition of investments See Worked Example 26.5, 'Sale of all shares held in the subsidiary', pp. 1095–96 Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Summary The chapter considers how to account for indirect interests and changes in the degree of ownership in a subsidiary It is possible to control another entity without direct ownership i.e. through an indirect ownership interest In accounting for additional acquisitions of shares, on consolidation, each investment acquisition must be eliminated separately When shares in a subsidiary are sold, profit or loss in individual investors’ accounts will be different from that in the consolidated accounts Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider

Summary of main changes to accounting standards NZ IAS 27 ‘Consolidated and Separate Financial Statements’ is generally consistent with SSAP-8 ‘Consolidated Financial Statements’ Significant changes Goodwill amortisation is prohibited and goodwill must be subject to regular impairment testing Discounts on acquisition now to be treated as part of the profit or loss of the reporting period Outside equity interests now referred to as minority interests Copyright  2006 McGraw-Hill Australia Pty Ltd PPTs t/a New Zealand Financial Accounting 3e by Grant Samkin Slides prepared by Grant Samkin and Annika Schneider