CONSOLIDATION

PART 2
ICAP MODULE B FINANCIAL ACCOUNTING & MODULE D COST ACCOUNTING.NEW CLASSES. JOIN KHALID AZIZ

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Illustration
Consider a family of 3 Father (employed as a manager) Weekly take-home pay of $500 Mother (sells food parcels from home) Collects an average of $100/week Receives $150/week from husband for housekeeping 1 child, Mere (full-time student) Receives $25/week as pocket-money from her parents Receives $15/week as allowance from her sponsor

Illustration
Calculate how much each family member receives in a week
Family Member Father Mother Mere Total 100 + 150 = 25 + 15 = Amount 500 250 40 $790

Illustration
Calculate how much the family receives in a week
Family Member Amount

Father
Mother Mere Total 100 + 150 150 = 25 + 15 25 =

500
100 15 $615

We must exclude or eliminate transactions within the family

Learning Objective 5

5. Elimination Entries
The purpose of an elimination entry is To exclude or eliminate transactions between members of the entity Known as Intra-group or Inter-company transactions

Learning Objectives
You will be able to 1. Define an Economic Entity 2. Explain the concept of Control 3. Identify factors that indicate Control 4. Differentiate between pre & post acquisition equity 5. Explain the purpose of Elimination Entries 6. Record Elimination Entries for a. Pre-acquisition Equity b. Dividends from pre-acquisition profits c. Goodwill on acquisition d. Revaluation of assets at acquisition date

Learning Objective 6

6. Record Elimination Entries

How is an elimination entry constructed? Its just like selecting the Undo option or reversing an arithmetic process or reversing balance-day adjustments

From Lecture May 1st

Example 1
Tonga

On 1 April 2006, Tonga Ltd acquired all the shares of Nuku Ltd for a cash payment of $225,000 On that date, the equity of Nuku Ltd consisted of Share Capital $150,000 Reserves $ 30,000 Retained Profits $ 20,000

Limited 100%
Nuku Limited

6.a Pre-acquisition Equity

Books of Nuku Ltd Books of Tonga Ltd

Capital
Reserves

150,000
30,000

Shares in Nuku Ltd 225,000

Eliminate intra-group assets

Retained Profits 20,000 200,000

Eliminate intra-group equity

6.a Pre-acquisition Equity

Elimination entry at date of acquisition

Dr Share Capital 150,000 Dr Reserves 30,000 Dr Retained Profits 20,000 Dr Goodwill 25,000 Cr Shares in Nuku Ltd 225,000
This is known as the pre-acquisition entry Must be made in the Worksheet every year

6.b Dividends from Pre-acquisition Profits

Such dividends
Are treated as a return of capital Reduce value of investment (shares) in subsidiary

Same Companies in Example 1

Example 2

Immediately after the acquisition, Nuku Ltd declared a dividend of $12,000 out of pre-acquisition profits

6.b Dividends from Pre-acquisition Profits

When the dividend is declared, what entries will be passed by
Nuku Ltd (Subsidiary) Tonga Ltd (Parent)

6.b Dividends from pre-acquisition profits

Books of Nuku Ld (Subsidiary)
Dr Dividend Provided Cr Dividend Payable 12,000 12,000
Liability

Reduction to Retained Profits

6.b Dividends from pre-acquisition profits

Entries in books of Tonga Ld (Parent)
Dr Dividend Receivable 12,000 Cr Shares in Nuku Ltd 12,000 These are both Assets Investment in Nuku Ltd now = $213,000 Originally $225,000 Less Return of Capital $ 12,000

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6.b Dividends from Pre-acquisition Profits

What elimination entries are required?

1. Intra-group Payable/Receivable 2. Pre-acquisition entry

6.b Dividends from Pre-acquisition Profits

Intra-group Payable/Receivable Dr Dividend Payable 12,000 Cr Dividend Receivable 12,000
All intra-group payables & receivables are eliminated in this manner 1. Accounts Payable/Receivable 2. Loans Payable/Receivable 3. Debentures Payable/Receivable

6.b Dividends from Pre-acquisition Profits

Pre-acquisition entry
Dr Share Capital 150,000 Dr Reserves 30,000 Dr Retained Profits (Opening) 20,000 Dr Goodwill 25,000 Cr Dividend Provided 12,000 Cr Shares in Nuku Ltd 213,000

6.b Dividends from Pre-acquisition Profits

Pre-acquisition entry
Dr Retained Profits (Opening) 20,000 Cr Dividend Provided 12,000 In future periods Close Dividend Provided to Retained Profits Net Effect 20,000 12,000 = 8,000 All PNL items are adjusted against R/Profits

6.b Dividends from Pre-acquisition Profits

How do we treat a dividend already declared (but not paid) by the subsidiary at acquisition date? If cum div, subtract from cost of acquisition If ex div, excluded from analysis payable to previous shareholders

6.c Goodwill on Acquisition

Any goodwill is recognised as a consolidation adjustment

If subsidiary already has goodwill in its books Deduct recorded goodwill from FV of INA Journalise difference in pre-acquisition entry

See Comprehensive Example 14.6 page 566

6.d Revaluation of Assets

If assets of the subsidiary are revalued upon consolidation, an adjustment is necessary Dr Asset Cr Business Combination Valuation Reserve Cr DTL

BCVR is a component of Equity Added when calculating FV of INA Eliminated through pre-acquisition entry

6.d Revaluation of Assets

Also need to provide additional Depreciation Increase in Value divided by remaining useful life Dr Depreciation Expense Cr Acc. Depreciation This extra Expense effectively reduces Profit & Tax Dr DTL Cr I/Tax Expense

Same Companies in Example 1

Example 3

In addition to the information in Example 1 Nuku Ltd has only 1 asset (Equipment) Cost $45,000 Book value $27,000 Fair value $36,000 Remaining Useful life = 3 years

Tax Rate = 30%

6.d Revaluation of Assets

What revaluation entries are required in the consolidated statements? Dr Acc.Depn- Equipment 18,000 Cr Equipment $45,000 - $36,000 9,000 Cr BCVR 6,300 30% of $9,000 Cr DTL 2,700 Known as the revaluation entry Made every year until the asset is sold Then change account to Transfer to BCVR

6.d Revaluation of Assets

On 31 March 2007 Dr Depreciation Cr Acc. Depn- Equipment (9,000/3 years) Dr DTL Cr I/Tax Expense (2,700/3 years) 3,000 3,000

900

900

Step 1

Calculate Fair Value of Identifiable Net Assets

Amount
150,000

Equity Item
Share Capital

Reserves
BCVR Retained Profits Total

30,000
6,300 20,000 $206,300

Step 2

Calculate Cost of Acquisition

Immediate cash payment of $225,000

Step 3

Calculate Goodwill
225,000
206,300 $ 18,700

Cost of Acquisition
Less Fair Value of INA Goodwill

6.d Revaluation of Assets

Pre-acquisition entry on 31 March 2007
Assuming Dividend was paid during the year

Dr Share Capital Dr Reserves Dr Retained Profits Dr BCVR Dr Goodwill Cr Dividend Provided Cr Shares in Nuku Ltd

150,000 30,000 20,000 6,300 18,700 12,000 213,000

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