5

Consolidation
of Less-than-
Wholly Owned
Subsidiaries

© 2009 The McGraw-Hill Companies, Inc. All rights reserved.

McGraw-Hill/Irwin
 Effect of a Noncontrolling Interest

• When a subsidiary is less than wholly owned,

the consolidation procedures must be
modified slightly to recognize the
noncontrolling interest

5-2
 Effect of a Noncontrolling Interest

• Consolidated Net Income

– In the absence of transactions between
companies included in the consolidation,
consolidated net income is equal to:
• The parent’s income from its own operations,
excluding any investment income from
consolidated subsidiaries, plus the net income
from each of the consolidated subsidiaries,
adjusted for any differential write-off

5-3
 Effect of a Noncontrolling Interest

• The income attributable to the subsidiary

noncontrolling interest is deducted from
consolidated net income on the face of the
income statement to arrive at consolidated
net income attributable to the controlling
interest
– The income attributable to a noncontrolling
interest in a subsidiary is based on a
proportionate share of that subsidiary’s net
income
5-4
 Effect of a Noncontrolling Interest

• Consolidated retained earnings

– That portion of the consolidated entity’s
undistributed earnings accruing to the
parent’s stockholders
– Calculated by adding the parent’s share of
subsidiary cumulative net income since
acquisition to the parent’s retained earnings
from its own operations and subtracting the
parent’s share of any differential write-off

5-5
 Effect of a Noncontrolling Interest

• Consolidated retained earnings

– Retained earnings related to subsidiary
noncontrolling shareholders is included in the
Noncontrolling Interest amount reported in the
equity section of the consolidated balance
sheet
– More consistent with the parent company
theory rather than the entity approach

5-6
 Illustration of consolidated net income
and consolidated retained earnings
Push Corporation acquires 80 percent of the stock of Shove Company for an
amount equal to 80 percent of Shove’s total book value. During 20X1, Shove
reports net income of $25,000, while Push reports net income of $120,000,
including equity-method income from Shove of $20,000 ($25,000 x .80).
Consolidated net income for 20X1 is computed and allocated as follows:

Push’s net income $120,000

Less: Equity-method income from Shove (20,000)
Shove’s net income 25,000
Consolidated net income $125,000
Income attributable to noncontrolling interest (5,000)
Income attributable to controlling interest $120,000

5-7
 Illustration of consolidated net income
and consolidated retained earnings
Net income and dividends during the two years following acquisition are:
Push Shove
Retained earnings, January 1, 20X1 $400,000 $250,000
Net income, 20X1 120,000 25,000
Dividends, 20X1 (30,000) (10,000)
Retained earnings December 31, 20X1 $490,000 $265,000
Net income, 20X2 148,000 35,000
Dividends, 20X2 (30,000) (10,000)
Retained earnings, December 31, 20X2 $608,000 $290,000

Consolidated retained earnings at December 31, 20X2, two years after the
date of combination, is computed as follows, assuming no differential:
Push’s retained earnings, December 31, 20X2 $608,000
Equity accrual from Shove since acquisition
($25,000 + $35,000) x .80 (48,000)
Push’s retained earnings from its own operations,
December 31, 20X2 $560,000
Push’s share of Shove’s net income since acquisition
$60,000 x .8 48,000
Consolidated retained earnings, December 31, 20X2 $608,000
5-8
 Consolidated Balance Sheet with
Majority-Owned Subsidiary
On January 1, 20X1, Peerless acquires 80 percent of the common stock of
Special Foods for $310,000. At that date, the fair value of the noncontrolling
interest is estimated to be $77,500.

• Peerless records the acquisition on its books with the following entry:
Investment in Special Foods Stock 310,000
Cash 310,000
Record purchase of Special Foods stock.
5-9
Consolidated Balance Sheet with
Majority-Owned Subsidiary
Balance Sheets of Peerless Products and Special Foods,
January 1, 20X1, Immediately after Combination
Peerless Special
Products Foods
Assets
Cash $40,000 $50,000
Accounts Receivable 75,000 50,000
Inventory 100,000 60,000
Land 175,000 40,000
Buildings and Equipment 800,000 600,000
Accumulated Depreciation (400,000) (300,000)
Investment in Special Foods Stock 310,000
Total Assets $1,100,000 $500,000
Liabilities and Stockholders’ Equity
Accounts Payable $100,000 $100,000
Bonds Payable 200,000 100,000
Common Stock 500,000 200,000
Retained Earnings 300,000 100,000
Total Liabilities and Equity $1,100,000 $500,000

Values of Select Assets of Special Foods

Fair Value
Book Value Fair Value Increment
Inventory $60,000 $65,000 $5,000
Land 40,000 50,000 10,000
Buildings and Equipment 300,000 360,000 60,000
$400,000 $475,000 $75,000

5-10
Consolidated Balance Sheet with
Majority-Owned Subsidiary

5-11
 Workpaper for Consolidated Balance Sheet,
January 1, 20X1, Date of Combination;
80 Percent Acquisition at More than Book Value

5-12
Consolidated Balance Sheet with
Majority-Owned Subsidiary

Eliminating entries

E(2) Common Stock—Special Foods 200,000

Retained Earnings 100,000
Differential 87,500
Investment in Special Foods Stock 310,000
Noncontrolling Interest 77,500
Eliminate investment balance and establish
noncontrolling interest.

E(3) Inventory 5,000

Land 10,000
Buildings and Equipment 60,000
Goodwill 12,500
Differential 87,500
Assign differential.

5-13
Consolidated Financial Statements with
Majority-Owned Subsidiary
Continuing with the earlier illustration, with respect to the assets to which the
$87,500 differential relates, assume that all of the inventory is sold during
20X1, the buildings and equipment have a remaining economic life of 10 years
from the date of combination, and straight-line depreciation is used.
Assume that management determines at the end of 20X1 that the goodwill is
impaired and should be written down by $3,125.
Management has determined that the goodwill arising in the acquisition of
Special Foods relates proportionately to the controlling and noncontrolling
interests, as does the impairment. Assume that Peerless accounts for its
investment using the equity method.

Income and Dividend Information about Peerless Products

and Special Foods for the Year 20X1
20X1:
Separate operating income, Peerless $140,000
Net income, Special Foods $50,000
Dividends $60,000 $30,000
5-14
 Initial year of ownership
Parent Company Entries
Investment in Special Foods Stock 310,000
Cash 310,000
Record purchase of Special Foods stock.
Cash 24,000
Investment in Special Foods Stock 24,000
Record dividends from Special Foods:
$30,000 x .80
Investment in Special Foods Stock 40,000
Income from Subsidiary 40,000
Record equity-method income:
$50,000 x .80
Income from Subsidiary 4,000
Investment in Special Foods Stock 4,000
Adjust income for differential related to inventory sold:
$5,000 x .80
Income from Subsidiary 4,800
Investment in Special Foods Stock 4,800
Amortize differential related to buildings and equipment:
($60,000 x .80) / 10 years
5-15
Initial year of ownership – Eliminating
Entries

5-16
Initial year of ownership – Eliminating
Entries

– Refer Figure 5-5 in the text for the equity-method workpaper for
consolidated financial statement

5-17
Noncontrolling Interest, 20X1

5-18
Consolidated Net Income and Retained
Earnings, 20X1

5-19
 Second Year of Ownership
Income and Dividend Information about Peerless Products
and Special Foods for the Year 20X2:
Separate operating income, Peerless $160,000
Net income, Special Foods $75,000
Dividends $60,000 $40,000

Parent Company Entries

Cash 32,000
Investment in Special Foods Stock 32,000
Record dividends from Special Foods:
$40,000 x .80
Investment in Special Foods Stock 60,000
Income from Subsidiary 60,000
Record equity-method income:
$75,000 x .80
Income from Subsidiary 4,800
Investment in Special Foods Stock 4,800
Amortize differential related to buildings and equipment
5-20
 Second Year of Ownership
• Summary of changes in the parent’s investment
account for 20X1 and 20X2:

• The workpaper to prepare a complete set of

consolidated financial statements for the year 20X2
is illustrated in Figure 5–8 in the text

5-21
Second Year of Ownership
Elminating Entries:
E(18) Income from Subsidiary 55,200
Dividends Declared 32,000
Investment in Special Foods Stock 23,200
Eliminate income from subsidiary.
E(19) Income to Noncontrolling Interest 13,800
Dividends Declared 8,000
Noncontrolling Interest 5,800
Assign income to noncontrolling interest.
E(20) Common Stock—Special Foods 200,000
Retained Earnings, January 1 122,500
Differential 73,375
Investment in Special Foods Stock 317,200
Noncontrolling Interest 78,675
Eliminate beginning investment balance:
$122,500 = $120,000 + $2,500
E(21) Land 10,000
Buildings and Equipment 60,000
Goodwill 9,375
Differential 73,375
Accumulated Depreciation 6,000
Assign beginning differential.
E(22) Depreciation Expense 6,000
Accumulated Depreciation 6,000
Amortize differential related to buildings
and equipment: $60,000 / 10 years 5-22
 Noncontrolling Interest, 20X2;
80 Percent Acquisition at More than Book Value

5-23
 Consolidated Net Income and Retained
Earnings, 20X2;
80 Percent Acquisition at More than Book Value

5-24
 Discontinuance of Consolidation

• A parent should subsidiary from future

consolidation if the parent can no longer
exercise control over it
– If a parent loses control of a subsidiary and no
longer holds an equity interest in the former
subsidiary, it recognizes a gain or loss for the
difference between any proceeds received from
the event leading to loss of control and the
carrying amount of the parent’s equity interest

5-25
 Discontinuance of Consolidation

• If the parent loses control but maintains a

noncontrolling equity interest in the former
subsidiary, it must recognize in income a
gain or loss for the difference, at the date
control is lost, between:
1. The sum of any proceeds received by the
parent and the fair value of its remaining
equity interest in the former subsidiary, and
2. The carrying amount of the parent’s total
interest in the subsidiary
5-26
 Treatment of Other Comprehensive
Income
• FASB 130 requires that companies separately
report other comprehensive income
– Includes revenues, expenses, gains, and losses that
under GAAP are excluded from net income
– Other comprehensive income accounts are temporary
accounts that are closed at the end of each period to a
special stockholders’ equity account, Accumulated
Other Comprehensive Income
– The consolidation workpaper normally includes an
additional section for other comprehensive income

5-27
 Treatment of Other Comprehensive
Income
Assume that during 20X2 Special Foods purchases $20,000 of investments
classified as available-for-sale. By December 31, 20X2, the fair value of the
securities increases to $30,000. Other than the effects of accounting for
Special Foods’ investment in securities, the financial information reported at
December 31, 20X2, is identical to that presented in Figure 5–8 in the text.

• Adjusting entry recorded by subsidiary

Investment in Available-for-Sale Securities 10,000
Unrealized Gain on Investments (OCI) 10,000
Record increase in fair value of available-for-sale securities.

• Adjusting entry recorded by parent company

Investment in Special Foods Stock 8,000
Other Comprehensive Income from Subsidiary— 8,000
Unrealized Gain on Investments (OCI)
Record Peerless’s proportionate share of the increase in
value of available-for-sale securities held by subsidiary.

5-28
 Consolidation of Subsidiaries
Acquired Prior to 2009
• FASB 141R governs accounting for business
combinations that are completed in fiscal years that
begin on or after December 15, 2008
– Most acquired subsidiaries currently held by parent
companies and included in their consolidated financial
statements were acquired prior to the effective date of
FASB 141R
– Because companies are prohibited from applying FASB
141R retroactively, they are faced with consolidating
numerous subsidiaries under the previous standards

5-29
 Consolidation of Subsidiaries
Acquired Prior to 2009
• Differences in Consolidation Procedures
– General approach to consolidation is the same
under both current and prior standards
– The major differences are that:
• The current standards place greater emphasis on
fair value than previous standards
• The computation of the differential relates to the
entire subsidiary rather than just the parent’s share
of less-than-wholly owned subsidiaries

5-30
 Illustration of Consolidation under
Previous Accounting Standards
Consolidation in Initial Year of Ownership
In the current example, the entries on Peerless’s books are the same under
both current and prior standards.

The differential is $70,000, the difference between Peerless’s $310,000

purchase price for its stock in Special Foods and the $240,000 book value of
the shares it acquired ($300,000 x .80).

Assume that, during 20X1, management determines that the goodwill is

impaired and must be written down by $2,500.

The workpaper to prepare consolidated financial statements for 20X1 using the
prior accounting standards is shown in Figure 5–14 in the text. The eliminating
entries are shown in the next slide.

5-31
Illustration of Consolidation under
Previous Accounting Standards

5-32
 Illustration of Consolidation under
Previous Accounting Standards
• Under the previous standards, consolidated net
income generally referred to the parent’s share of
the income of the consolidated entity, the amount
remaining after deducting the income allocated to
the noncontrolling interest
• Previously, the presentation of the noncontrolling
interest was not specified
– Most companies reported the noncontrolling interest in
the consolidated balance sheet as a “mezzanine” item
between liabilities and stockholders’ equity

5-33
 Illustration of Consolidation under
Previous Accounting Standards
• Consolidation in second year of ownership
– Basically the same as under current standards
– The only difference is that the amounts of most
elimination entries are different because of the
difference in the differential, and accordingly the
consolidated amounts are different

5-34
 Additional Considerations

• Subsidiary valuation accounts at acquisition

– FASB 141R indicates that all assets and
liabilities acquired in a business combination
should be valued at their acquisition-date fair
values and no valuation accounts are to be
carried over
• Its application in consolidation following a stock
acquisition is less clear

5-35
 Additional Considerations

• Negative retained earnings of subsidiary at

acquisition
– A parent company may acquire a subsidiary
with a negative in its retained earnings account
– The investment elimination entry appears as
follows:

5-36
 Additional Considerations

• Other stockholders’ equity accounts

– In general, all stockholders’ equity accounts
accruing to the common shareholders receive
the same treatment as common stock and are
eliminated at the time common stock is
eliminated

5-37
 Additional Considerations

• Subsidiary’s disposal of differential-related assets

– Both the parent’s equity-method income and
consolidated net income are affected
– Parent’s books: The portion of the differential included in
the subsidiary investment account that relates to the
asset sold must be written off by the parent under the
equity method as a reduction in both the income from
the subsidiary and the investment account
– In consolidation, the portion of the differential related to
the asset sold is treated as an adjustment to
consolidated income

5-38
 Additional Considerations

• Inventory
– Any inventory-related differential is assigned to
inventory for as long as the subsidiary holds the units
– In the period in which the inventory units are sold, the
inventory-related differential is assigned to Cost of
Goods Sold
– The inventory costing method used by the subsidiary
determines the period in which the differential cost of
goods sold is recognized
• FIFO: The inventory units on hand on the date of
combination are viewed as being the first units sold after the
combination
• LIFO: The inventory units on the date of combination are
viewed as remaining in the subsidiary’s inventory
5-39
 Additional Considerations

• Fixed Assets
– A differential related to land held by a subsidiary is
added to the Land balance in the consolidation
workpaper each time a consolidated balance sheet is
prepared
• If the subsidiary sells the land to which the differential
relates, the differential is treated in the consolidation
workpaper as an adjustment to the gain or loss on the sale of
the land in the period of the sale
– The sale of differential-related equipment is treated in
the same manner as land except that the amortization
for the current and previous periods must be considered

5-40