PART 8: ACCOUNTING FOR EQUITY INTERESTS IN OTHER ENTITIES

Chapter 28
Accounting for group structures
28.1

The purpose of providing consolidated financial statements is to show the results and
financial position of a group of organisations as if they are operating as a single economic
entity. The group will comprise the parent entity and all of its subsidiaries.

28.2

Goodwill is typically recognised as part of the consolidation process, therefore, goodwill will
be recognised in the consolidated accounts but will not appear in the separate accounts of the
parent entity or subsidiary.
When performing a consolidation we eliminate the parent entitys interest in the preacquisition share capital and reserves of the subsidiary against the cost of the investments
with any difference being of the nature of goodwill, or excess (discount) on consolidation.
Because the investment in the subsidiary is eliminated as part of the consolidation process
then it is an account that will appear in the balance sheet of the parent entity, but will not
appear in the consolidated financial statements.

28.3

(a)

The term legal entity refers to each individual entity that has its own legal status, such
as a company or a trust.

(b)

An economic entity is a group of entities comprising the parent entity and each of its
subsidiaries. An economic entity may comprise many legal entities.

(c)

A parent entity controls another entity.

(d)

Subsidiaries are defined as entities controlled by a parent entity.

28.4

Goodwill is calculated as the excess of the cost of an acquisition incurred by an entity

(measured at fair value) over the net fair value of the identifiable assets, liabilities and
contingent liabilities acquired. Fair value is defined as the amount for which an asset could be
exchanged between a knowledgeable, willing buyer and a knowledgeable, willing seller in an
arms length transaction. We must consider the fair value of both the net assets acquired, and
the purchase consideration given in exchange. A discount, or excess on consolidation, arises
where the fair value of the net assets acquired exceeds the cost of the acquisition.

28.5

The requirement in AASB 127 to consolidate operates on the basis of the existence of
control. Control is defined at paragraph 4 of AASB 127 as: the power to govern the
financial and operating policies of an entity so as to obtain benefits from its activities. As we
can see, a necessary attribute of control is that an entity must govern the financial and
operating policies of another entity in a way that provides 'benefits' to the parent entity as a
result of outcomes flowing from the subsidiary's activities. This requirement means that
parties such as receivers and managers of financially troubled organisations, as well as
trustees, would not be required to consolidate a controlled entitys financial statements with
their own financial statements because, apart from the professional fees being received, those
concerned would not be managing such organisations for their own benefit but on behalf of
owners and creditors. Hence, XYZ Chartered Accountants do no need to prepare
consolidated accounts which include the accounts of Collapse Ltd.

28.6

Fair value means the amount for which an asset could be exchanged between a
knowledgeable, willing buyer and a knowledgeable, willing seller in an arms length

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transaction. It is relevant to consolidation accounting as in producing consolidated financial

statements we must eliminate the parent entitys investment in a subsidiary (and that interest
should be recorded at the fair value of the purchase consideration) against the parent entitys
interest in the pre-acquisition share capital and reserves of the subsidiary. Prior to making this
adjustment we must ensure that all assets acquired are recorded at fair value, and if this is not
the case, then a revaluation must be undertaken in the consolidation worksheet prior to the
entry to eliminate the investment in the subsidiary. The elimination entry will typically lead to
the recognition of goodwill. Goodwill is calculated as the excess of the cost of an acquisition
incurred by an entity (measured at fair value) over the net fair value of the identifiable assets,
liabilities and contingent liabilities acquired. Hence, if items are not recorded at fair value
then goodwill will be incorrectly stated.
28.7

AASB 127 adopts the entity concept and hence this is the concept to be applied within
Australia. Pursuant to the entity concept, the entire group is viewed as a single economic
entity, which is owned partly by the shareholders of the parent entity and partly by external
interests (referred to as minority interests). The consolidated financial statements reflect the
financial position and financial performance of the economic entity as if it were operating as a
single economic unit under common managerial control - the control emanating from the
management group of the ultimate parent organisation. The consolidated income statement
reflects the profit or loss that arises from transactions with parties external to the economic
entity. The consolidated balance sheet shows the assets of the economic entity and all
liabilities owing to parties external to the economic entity, in other words no liabilities owing
to one member of the economic entity by another member will be shown in the consolidated
balance sheet. Pursuant to the entity concept of consolidation, minority interests are treated
as part of consolidated equity.
Under the proprietary concept, all assets and liabilities of the parent entity and only a
proportionate share (being the ownership share) of the subsidiaries assets and liabilities are
included in the consolidation process. Minority interest is not included if the proprietary
concept is embraced by virtue of the view that any minority interest is external to the
consolidated group. This would mean that if the parent entity holds 70 per cent of the shares
in the subsidiary, it would include 70 per cent of the assets, liabilities, revenues and expenses
in the consolidation process (and not 100 per cent of the assets and liabilities, as would be the
case under the entity concept). That is, under the proprietary concept only 70 per cent of the
subsidiarys assets would be included, although the parent entity would effectively be able to
control all the subsidiarys assets.
Under the parent-entity concept, all assets and liabilities of the parent and its subsidiaries are
included. The minority interest is treated as a liability, rather than as part of equity.

28.8

Goodwill is calculated as the excess of the cost of an acquisition incurred by an entity

(measured at fair value) over the net fair value of the identifiable assets, liabilities and
contingent liabilities acquired. Hence, if items are not recorded at fair value because no
adjusting consolidation journal entry has been made then goodwill will be incorrectly stated.

28.9

We eliminate the investment in the controlled entity (the subsidiary) against the parent entitys
interest in the pre-acquisition shareholders funds of that subsidiary.

28.10 The requirement to consolidate in AASB 127 is based upon the existence of control. Control
is defined in AASB 127 as the power to govern the financial and operating policies of an
entity so as to obtain benefits from its activities.
Paragraph Aus9.1 of AASB 127 states:
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Each entity that is a parent of a group that is a reporting entity shall present
consolidated financial statements in which it consolidates its investments in
subsidiaries in accordance with this Standard.
Reflecting the requirement that an entity be controlled, a subsidiary is defined in AASB 127
as:
an entity, including an unincorporated entity such as a partnership, that is
controlled by another entity (known as the parent).
The control of both the financial and operating policies must exist prior to establishing the
existence of control. Substance over form considerations are to be employed in determining
the existence of control, thereby necessitating the exercise of professional judgement. As
paragraph G1 of the Guidance section of a prior version of AASB 127 states (this guidance
was removed when AASB 127 was revised and re-released in April 2007, but it is still valid.
This removal of guidance was consistent with a revision in policy of the AASB which saw the
Board going back and removing a great deal of guidance that had previously been added to
the Australian version of IFRSs):
Whether an entity has control of another entity will always be a
question to be decided in the light of the prevailing
circumstances. The definition of control depends upon substance
rather than form and, accordingly, determination of the existence
of control will involve the preparer of the financial reports in
exercising professional skill and judgement.
Control provides an exhaustive criterion for determining the existence of a parent
entity/subsidiary relationship. Control enables the identification of all the circumstances in
which consolidated financial statements should be prepared, and there are no exceptions to
the rule. Although not exhaustive, paragraph 13 of AASB 133 provides a number of factors
which may indicate the existence of control. Paragraph 13 states:
Control is presumed to exist when the parent owns, directly or indirectly through
subsidiaries, more than half of the voting power of an entity unless, in
exceptional circumstances, it can be clearly demonstrated that
such ownership does not constitute control. Control also exists
when the parent owns half or less of the voting power of an entity
when there is:
(a) power over more than half of the voting rights by virtue of an
agreement with other investors;
(b) power to govern the financial and operating policies of the
entity under a statute or an agreement;
(c) power to appoint or remove the majority of the members of
the board of directors or equivalent governing body and
control of the entity is by that board or body; or
(d) power to cast the majority of votes at meetings of the board
of directors or equivalent governing body and control of the
entity is by that board or body.
The Australian Guidance section of a former version of AASB 127
(paragraph G2, which has since been removed but is nevertheless still
relevant) also states:
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Any of the factors identified in paragraph 13 of AASB 127

Consolidated and Separate Financial Statements (provided above) would
normally indicate the existence of control by one entity of
another entity. In addition, control would normally be indicated
by:
(a) the capacity to cast, or regulate the casting of, a majority of
the votes that are likely to be cast at a general meeting of
another entity, irrespective of whether the capacity is held
through shares or options; and
(b) the existence of a statute, agreement, or trust deed, or any
other scheme, arrangement or device, which, in substance,
gives an entity the power to enjoy the majority of the benefits
and to be exposed to the majority of the risks of that entity,
notwithstanding that control may appear to be vested in
another party.
28.11 When considering the capacity to control we also need to consider potential voting rights such as share options or other forms of financial instruments that could be convertible into
equity - which might currently be exercisable or convertible or, alternatively, convertible or
exercisable only at a future date or contingent upon a future event. Where the potential
voting rights are currently exercisable they should be taken into account when assessing the
existence of control. As paragraphs 14 and 15 of AASB 127 state:
14. An entity may own share warrants, share call options, debt or equity instruments
that are convertible into ordinary shares, or other similar instruments that have the
potential, if exercised or converted, to give the entity voting power or reduce another
partys voting power over the financial and operating policies of another entity
(potential voting rights). The existence and effect of potential voting rights that are
currently exercisable or convertible, including potential voting rights held by
another entity, are considered when assessing whether an entity has the power to
govern the financial and operating policies of another entity. Potential voting rights
are not currently exercisable or convertible when, for example, they cannot be
exercised or converted until a future date or until the occurrence of a future event.
15. In assessing whether potential voting rights contribute to control, the entity
examines all facts and circumstances (including the terms of exercise of the potential
voting rights and any other contractual arrangements whether considered
individually or in combination) that affect potential voting rights, except the
intention of management and the financial ability to exercise or convert.
The Implementation Guidance that accompanies AASB 127 comments further on potential
voting rights. Paragraph IG2 of the Implementation Guidance to AASB 127 states:
Paragraph 4 of AASB 127 defines control as the power to govern the financial and
operating policies of an entity so as to obtain benefits from its activities.
Paragraph 2 of AASB 128 defines significant influence as the power to participate
in the financial and operating policy decisions of the investee but not to control
those policies. Paragraph 3 of AASB 131 defines joint control as the contractually
agreed sharing of control over an economic activity. In these contexts, power refers
to the ability to do or effect something. Consequently, an entity has control, joint
control or significant influence when it currently has the ability to exercise that
power, regardless of whether control, joint control or significant influence is
actively demonstrated or is passive in nature. Potential voting rights held by an
entity that are currently exercisable or convertible provide this ability. The ability
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to exercise power does not exist when potential voting rights lack economic
substance (e.g. the exercise price is set in a manner that precludes exercise or
conversion in any feasible scenario). Consequently, potential voting rights are
considered when, in substance, they provide the ability to exercise power.
28.12 No, not all goodwill of the subsidiary will be shown in the presence of minority interests.
Pursuant to AASB 3, only the goodwill acquired (purchased) by the parent entity is to be
recognised on consolidation. Where the parent acquires all of the shares of the subsidiary, all
of the goodwill of the subsidiary must be shown in the consolidated financial statements.
However, where the parent does not acquire all the shares - that is, there is a minority interest
- only a fraction of the total goodwill is to be shown on consolidation. The goodwill
attributable to minority interests is not to be shown. For example, if a parent entity acquired a
70 per cent interest in a subsidiary at a cost of $800 000 when the share capital and reserves
of the subsidiary were $1 035 000 then this will provide a total for goodwill of ($1 035 000 X
0.7) - $800 000, which equals $75 000. In a sense the consolidated financial statements will
understate the value of goodwill. Had Parent Entity acquired all of the shares of Subsidiary
Ltd we might have expected it to pay $1 142 857 (which is $800 000 x 10/7). Eliminating $1
035 000 from this would have given a goodwill figure of $107 857, which equals $75 500 x
10/7. Hence, the total goodwill residing in the subsidiary at acquisition date - although
unrecognised in the consolidated accounts (because it was not purchased) - could be assumed
to be $107 857. However, only $75 500 is brought to account in the consolidated balance
sheet, this being the proportion of goodwill acquired by the parent entity. This is consistent
with the requirement of AASB 3 that only purchased goodwill be recognised.
Exposure Draft ED 139 Proposed Amendments to AASB 3: Business Combinations
released in 2005 has proposed changes to the existing requirements pertaining to the
recognition of goodwill that would require the entire goodwill, including the purchased
interest of the minority interest, to be shown in the consolidated balance sheet. If
implemented, this would represent a fundamental change to how consolidated financial
statements are prepared.
28.13 In principle, it would be possible to control another entity without having any ownership
interests in it. This would, however, be rather uncommon. As paragraph G3 of the Guidance
section of the former (pre-April 2007) version of AASB 127 stated:
The holding of an ownership interest usually entitles the investor
to an equivalent percentage interest in the voting rights of the
investee. Consequently, as noted in paragraph 13 of AASB 127, a
majority ownership interest would normally, though not
necessarily, be accompanied by the existence of control.
However, it is the voting rights rather than the ownership interest
that provide the potential for control. In fact, it may be possible
to control another entity without holding any ownership interest
in that entity. This would be rare in the private sector. However, in
the case of non-business entities in the public sector where the
holding of an equity interest is frequently not possible, control
without ownership will usually be the case.
28.14 The pre-acquisition shareholders funds of the subsidiary are eliminated on consolidation
(against the investment in the subsidiary). This then typically provides goodwill on
consolidation (which is, in effect, a balancing item). In the period following acquisition, the
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subsidiary will generate profits or losses. Because these results have been generated in the
period after acquisition, and therefore reflect the efforts of the management team of the
parent entity, they should be reflected in the results of the economic entity. That is, unlike
pre-acquisition earnings, post-acquisition earnings of the subsidiary are considered to be part
of the earnings of the economic entity and therefore should be included in consolidated
retained earnings.
28.15 The response would be that the intended action would be a breach of the accounting
standards. All entities under the control of the parent entity must be consolidated regardless
of the industry or activity in which the subsidiary is involved. Control provides an exhaustive
criterion for determining the existence of a parent entity - subsidiary relationship. Control
enables the identification of all the circumstances in which consolidated financial statements
should be prepared, and there are no exceptions to the rule. It is emphasised that it is not
permissible to elect not to consolidate a controlled entity on the basis of a judgment that the
controlled entity (subsidiary) is operating in a significantly different sphere of activity. As
paragraph 20 of AASB 127 stipulates:
A subsidiary is not excluded from consolidation because its business activities are
dissimilar from those of the other entities within the group. Relevant information is
provided by consolidating such subsidiaries and disclosing additional information
in the consolidated financial statements about the different business activities of
subsidiaries. For example, the disclosures required by AASB 114 Segment
Reporting help to explain the significance of different business activities within the
group.
28.16 AASB 127 adopts the criterion of control in determining when to consolidate. The legal form
of the controlled entity is not relevant, hence partnerships, trusts and companies could all be
consolidated within one set of accounts. Adoption of the criterion of control for defining an
economic entity has significant implications in respect of the parent entity/subsidiary
relationships identified in accordance AASB 127 and the legal form of the entities involved.
Adoption of the criterion of control will enable a complete economic entity to be reflected in
consolidated accounts even though, for example, some of the subsidiaries may be in the form
of partnerships or trusts. This is consistent with the definition of subsidiaries provided within
AASB 127, which is:
A subsidiary is an entity, including an unincorporated entity such as a partnership,
that is controlled by another entity (known as the parent).
Paragraph 19 of AASB 127 further states:
A subsidiary is not excluded from consolidation simply because
the investor is a venture capital organisation, mutual fund, unit
trust or similar entity.
As the text indicates, control has not always been the main criterion for determining which
entities to consolidate. Prior to The Corporations Legislation Amendment Act 1991, Section
295 of the Corporations Law had required group accounts to be prepared. However, Section
9 had defined a group as meaning:
(a)
(b)

the company; and,

its subsidiaries at the end of the financial year.

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Subsidiaries were defined as being companies; hence, any entity that was not a company
could not be legally consolidated. As Sullivan (1985) showed, companies were able to
interpose unit trusts into the group structure to effectively partition certain entities in such a
way that they would not be included in the consolidation process.
28.17 We make all consolidation eliminations and adjustments in a consolidation journal which is
posted to the consolidation worksheet. At no stage do we post consolidation eliminations or
adjustments to the ledgers of the separate entities making up the economic entity. The reason
we do this is that each separate entity must be accounted for separately and treated as a
distinct entity. It would be inappropriate to eliminate investments in other entities, inter-entity
receivables and payables, the effects of inter-entity transactions, and so forth within the
individual accounts of the separate legal entities. Consolidation adjustments are only to be
made when we are combining the separate accounts to produce a consolidated set of financial
statements for the economic entity and these adjustments are not to impact the financial
statements of the separate legal entities.
28.18 A discount on acquisition arises where the cost of acquiring shares or other identifiable net
assets is less than the fair value of those acquired net assets. The required treatment of the
discount is provided at paragraph 56 of AASB 3, which states:
If the acquirers interest in the net fair value of the identifiable assets, liabilities
and contingent liabilities recognised in accordance with paragraph 36 exceeds the
cost of the business combination, the acquirer shall:
(a) reassess the identification and measurement of the acquirees identifiable
assets, liabilities and contingent liabilities and the measurement of the cost of
the combination; and
(b) recognise immediately in profit or loss any excess remaining after that
reassessment.
28.19 (a)

The practice could not be employed today as parent entities are required to
consolidate all entities that they control, regardless of the legal form of the investees.
This can be contrasted with the earlier situation where consolidated accounts were
only to include entities that were of a corporate form.

(b)

It would seem reasonable to suggest that the financial reports of an entity that
controlled material investments in non-corporate entities could not be considered to
be true and fair in the absence of information about those investments and the
associated assets and obligations of those entities. As Sullivan (1985) states:
It is difficult to concede that the preparation of group accounts can proceed to
any fulfilment of the true-and-fair notion, however conceived, when entire
segments of a groups operations can be partitioned from scrutiny and when
the accounts of the instrument itself need not be prepared for public purposes.
The use of the interposed unit trust instrument is at once antipathetical to
common sense precepts of any system of accounting based on the true-andfair concept and espousing corollary doctrines of full-and-fair disclosure and
the duty to report the substance, and not the mere form, of commercial
transactions (p. 195).

28.20
Biggin
Ltd

Smallin
Ltd

Elimination and
adjustments
Dr
Cr

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$000
Income statement together
with reconciliation of opening
and closing retained earnings
Profit before tax
Tax
Profit after tax
Retained earnings at
30 June 2008
Balance sheet
Shareholders equity
Retained earnings at
30 June 2009
Share capital
Asset revaluation reserve
Current liabilities
Accounts payable
Non-current liabilities
Loans
Current assets
Cash
Accounts receivable
Non-current assets
Land
Plant
Investment in Smallin Ltd
Goodwill

$000

$000

$000

$000

300
(100)
200

100
(30)
70

400
130
270

200

100

1001

200

400
1 000
300

170
200
200

2001
1501

470
1 000
350

60

40

100

600
2 360

250
860

850
2 770

80
350

45
95

125
445

200
1 000
730

2 360

120
600

860

320
1 600

280
2 770

7301
2801
730

730

Consolidation adjustments
1.

Dr
Dr
Dr
Dr
Cr

Share capital
Retained earnings
Asset revaluation reserve
Goodwill
Investment in Smallin Ltd

200 000
100 000
150 000
280 000
730 000

It is assumed that there were no impairment losses in relation to goodwill. Remember that
there is a general prohibition on the amortisation of goodwill and goodwill balances will only
be adjusted as a result of the recognition of an impairment loss (which occurs where the
carrying value of the asset exceeds its recoverable amount).

28.21
Largey
$000

Smalley
$000

Elimination
and
adjustments
Dr
Cr
$000
$000

Consolidated
statement
$000

Income statement together with

reconciliation of opening and
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closing retained earnings

Profit before tax
Tax
Profit after tax
Retained earnings at
30 June 2008
Balance sheet
Shareholders equity
Retained earnings at
30 June 2009
Share capital
Revaluation reserve
Current liabilities
Accounts payable
Non-current liabilities
Loans
Current assets
Cash
Accounts receivable
Non-current assets
Land
Plant
Investment in Smalley Ltd
Goodwill

300
(100)
200

150
(50)
100

400

150

1501

400

600
1 200
300

250
300
200

3001
1501

700
1 200
350

100

100

200

600
2 800

250
1 100

850
3 300

100
350

145
155

245
505

700
1 000
650

200
600

900
1 600

50
3 300

2 800

1 100

450
150
300

6501
501
650

650

Consolidation adjustments
1.

Dr
Dr
Dr
Dr
Cr

Share capital
Retained earnings
Asset revaluation reserve
Goodwill
Investment in Smalley

300 000
150 000
150 000
50 000
650 000

28.22

Income statement together

with reconciliation of opening
and closing retained earnings
Profit before tax
Tax
Profit after tax
Retained earnings at
30 June 2008

Whopper
$000

Weenie
$000

750
(250)
500

375
(125)
250

1 000

375

Elimination and
adjustments
Dr
Cr
$000
$000

2501

3751

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statement

$000

1 375
(375)
1 000
1 000
289

Balance sheet
Shareholders equity
Retained earnings at
30 June 2009
Share capital
Asset revaluation reserve
Current liabilities
Accounts payable
Non-current liabilities
Loans
Current assets
Cash
Accounts receivable
Non-current assets
Land
Plant
Investment in Weenie Ltd

1 500
3 000
750

625
750
500

2 000
3 000
875

250

250

500

1 500
7 000

625
2 750

2 125
8 500

250
875

200
300

450
1 175

1 750
2 875
1 250

750
1 500

7 000

2 750

2 500
4 375

8 500

750
3751
1

1 2501
1 500

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Consolidation adjustments
1.

Dr
Dr
Dr
Cr
Cr

Share capital
Retained earnings
Asset revaluation reserve
Investment in Weenie Ltd
Gain on acquisition of subsidiary

750 000
375 000
375 000
1 250 000
250 000

28.23 AASB 127 defines control as the power to govern the financial and operating policies of an
entity so as to obtain benefits from its activities.
The existence of control would normally be indicated by:

the capacity to dominate the composition of the board of directors or other managing
body;

the capacity to appoint or remove all or a majority of the directors of another entity;

(a)

the capacity to control the casting of a majority of the votes cast at a meeting of the
board of another entity;
the ability to cast more than half the votes able to be cast at a general meeting;
the capacity to dominate the decision-making of another body, other than as an
appointed manager;
the capacity to bear, in substance, the majority of risks and benefits of ownership
through a statute, agreement, trust deed or any other scheme, arrangement or device,
notwithstanding that control appears to lie with another party.
LBX Pty Limited
FXL have a majority on the board of directors, with three of the five seats. In addition
FXL takes the lead on all decisions. It would, therefore, appear that FXL has control
over LBX. However, the question is whether FXL has the capacity to control LBX.
Mr and Mrs T have a 75 per cent interest in the share capital of LBX and thus they
have the capacity to control decisions at general meetingssuch as the composition
of the board.
As Mr and Mrs T have capacity to control, FXL thus does not have capacity to
control, and therefore is not required to consolidate LBX Pty Limited.

(b)

BBT Pty Limited

The existence of the agreement would indicate that FXL has control over the
financing operations. However, for control to exist there must be the capacity to
control both the financing and operating decisions.
BBT shareholders still have the capacity to control the composition of the board of
directors and thus, the operating activities. Therefore, FXL does not meet the control
criterion and should not consolidate BBT Pty Limited.

(c)

A Pty Limited

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In this case FXL and B have joint interest in A Pty Limited (A). FXL has provided
finance and is guaranteed a return in the form of interest on its investment, whatever
the profitability of the company. B, however, will only receive their remuneration if A
is profitable. This contract would, therefore, appear to be imposing the majority of the
risks and benefits of ownership on B. FXL, on the other hand, appears to be
accepting the risks and rewards of any other financier.
As a result it would appear as though B has the capacity to control and therefore,
there is no requirement for FXL to consolidate A Pty Ltd.
(d)

FXL trading trust

FXL is acting in the capacity of trustee to the trust. As a result it has a fiduciary duty
to the beneficiaries: Mr F, Mrs X and Mr L. Although FXL has complete control over
operating and financing decisions of the trust, it receives no benefits.
As a result FXL would not have capacity to control the trust in order to pursue the
objectives of FXL Pty Limited and would, therefore, not consolidate the trust. Mr F
may have control or there may be joint control held by all the beneficiaries.

(e)

JIB Pty Limited

FXL holds a 75 per cent interest in JIB. FXL does not have any seats on the board of
directors and has no say in the financing or operating decisions. FXL is not exhibiting
control in its actions, however, given its 75 per cent interest it will have a capacity to
control. Therefore, JIB should be consolidated by FXL.

28.24 (a)

The bank currently appears to have control over both the financial and operating
policies of SPG Ltd as its authorisation is required for expenditure over $5000 and
any change in operations. However, the bank is using its powers pursuant to the loan
agreement in order to obtain repayment of its debt. Thus, the bank does not receive
the majority of risks and benefits of that entity because as soon as the debt has been
repaid, the bank may have no further interest in SPG limited. Therefore, controls rests
with GPS Limited.

(b)

This case could be contrasted to (a) because here the bank has appointed directors to
the board, called on the security due to the default of the loan, and become the
mortgagee in possession. In this case, if the loan could be repaid, the bank would still
have the ability to sell the business or do what it sees fit. It effectively now has the
majority of the risks and benefits of the business.
It may, however, appear that the bank does not control ZYX Limited, as the
ownership is not for the purpose of pursuing the objectives of the controlling entity.
However, in the present circumstances, the bank has two members on the board. This
is equal representation. In addition, the fact that they have exercised their right under
the loan agreement to take possession of some of the firms assets does not, in itself,
give them decision rights. However, the debt has been converted into equity.
Therefore, based on all facts, control probably rests with ZYX Pty Limiteds bankers.

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2812

(c)

The relevant indicators for control are:

(i)
(ii)

The capacity to dominate the composition of the board of directors.

The capacity to control the casting of a majority of the votes cast at a meeting
of the board of directors.

The information would indicate that M Ltd is not in a position to control the board,
with only two out of five votes/seats. However, the fact that M Ltd has the capacity
to cast the majority of the votes that are likely to be cast at a general meeting adds
weight to the fact that with 30 per cent M Ltd is likely to have a majority of votes at a
general meeting. The Accounting Standard does not indicate how much weighting
should be given to such factors.
However, the ability of the remaining 70 per cent to have the capacity to vote is a
very important factor. It can be argued that whilst the company is run smoothly, the
other 70 per cent of the shareholders have no need to attend general meetings. But as
soon as they believe changes are needed they have the capacity to vote and will in fact
attend. Based on all factors, it would appear that M Ltd does not have control and no
other shareholder has the capacity to have control. Therefore, no control of
Investment Co Pty Limited exists.
(d)

The relevant factors which indicate B 1 Ltd has control are:

it appoints the Managing Director (which would not of itself be sufficient);

B1 Ltd receives a management fee from B2 Ltd in the event of a loss;
B2 Ltd appears to bear more than the majority of risks and potentially receives
less of the benefits; and
B1 Ltd has options exercisable at its option at a discount.
Control would appear to rest with B1 Ltd.
(e)

In this situation B Ltd, with 51 per cent of the votes, has the ability to control the
casting of votes at a general meeting. R Ltd, whilst without the ability to control the
casting of votes at a shareholder meeting, dominates the composition of the board
and controls the majority of votes cast at a directors meeting, although the question
does not indicate how the 49 per cent shareholder has one extra seat.
Based on these factors, prima facie no party has control. However, in terms of risks
and benefits, B clearly receives the majority. Thus, while voting appears to be even,
B receives the majority of risks and benefits. Therefore, control rests with B Ltd.

(f)

The shareholder and director voting in this case is split evenly three waysno single
party has the capacity to control. The only other factor is that P Ltd is involved in the
day-to-day running of the business.
If this mere fact were said to give P Ltd some additional power, the counter argument
would be that together J Ltd and G Ltd could out-vote P Ltd and place another party
into the position of day-to-day manager of the business. Therefore, no control rests
with any party.

28.25 Consolidation worksheet journal entries

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2813

Fair value adjustment

$
720 000
120 000
600 000
750 000
150 000

Plant and equipment cost

Accumulated depreciation
Carrying amount
Fair value at date of acquisition
Excess of fair value over carrying amount
Dr
Cr

Accumulated depreciation
Plant and equipment

120 000

Dr
Cr

Plant and equipment

Revaluation reserve

150 000

Dr
Cr

Revaluation reserve
Deferred tax liability

45 000

120 000
150 000
45 000

Declaration of dividends out of pre-acquisition earnings of subsidiary

If the dividend had been declared on 30 June 2008 then the balance sheet of Winkipop Ltd as
at 30 June 2008 should reflect these dividends with the consequence that retained earnings
would have been reduced by $200 000 and an amount of $200 000 would be shown as a
payable. However, when we refer to the balance sheet of Winkipop Ltd we see that there is
no account for dividends payable, and accounts payable only amounts to $100 000 which
indicates that the proposed dividend has not been recognized in the accounts. A dividend paid
out of pre-acquisition earnings will not have an impact on the recognition of goodwill as
there will be a corresponding decrease in the retained earnings recorded in the accounts of
the subsidiary, and in the amount of the investment in the subsidiary as shown in the accounts
of the parent entity. At this stage the dividend can be ignored.
Elimination of investment
Share capital
Retained earnings
Revaluation reserve
As shown in the Winkipops accounts
Revaluation adjustment
Total pre-acquisition capital and reserves
Fair value of consideration
Excess on consolidation

$700 000
$200 000
100 000
105 000 $205 000
$1 105 000
$950 000
$155 000

As shown above, the net assets of Winkipop Ltd are $1,105,000 at acquisition date. As
$950,000 is paid for the investment, there has been a discount, or excess, on acquisition.
Where an entity is acquired at a discount, paragraph 56 of AASB 3 requires that:
If the acquirers interest in the net fair value of the identifiable assets,
liabilities and contingent liabilities recognised exceeds the cost of the business
combination, the acquirer shall:
(a) reassess the identification and measurement of the acquirees identifiable
assets, liabilities and contingent liabilities and the measurement of the
cost of the combination; and
(b) recognise immediately in profit or loss any excess remaining after that
reassessment.
The above requirement to reassess the value of assets acquired in the business combination
is consistent with an assumption that an excess on acquisition - which in the past has been
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2814

referred to as a discount - usually results from measurement errors and seldom constitutes a
real gain to the acquirer. The acquirer should therefore, in the presence of an excess, reassess
the fair values of the identifiable assets, liabilities and contingent liabilities. However, if the
excess remains after reassessing the fair values of both the amount paid for the subsidiary and
the net assets acquired, it is to be recognised immediately as a gain. Hence, from the above
workings, the consolidation entry to eliminate the investment in Subsidiary Ltd would be:
30 June 2008
Dr
Share capital
Dr
Retained earnings
Dr
Revaluation reserve
Dr
Gain on consolidation
Cr
Investment in Winkipop Ltd

700 000
200 000
205 000
155 000
950 000

28.26 Consolidation worksheet journal entries

Fair value adjustment
$
100 000
140 000
40 000

Land carrying amount

Fair value at date of acquisition
Excess of fair value over carrying amount
30 June 2008
a.
Dr Land
Cr Revaluation reserve

40 000

b.

12 000

40 000

Dr Revaluation reserve
Cr Deferred tax liability

12 000

Elimination of investment
Share capital
Retained earnings
Revaluation reserve
Total pre-acquisition capital and reserves
Fair value of consideration
Goodwill on consolidation
30 June 2008
c.
Dr Share capital
Dr Retained earnings
Dr Revaluation reserve
Dr Goodwill
Cr Investment in Lorne Ltd

$200 000
$150 000
$28 000
$378 000
$500 000
$122 000

200 000
150 000
28 000
122 000
500 000

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2815

Consolidation worksheet for Stubbs Ltd and its controlled entity for the period ending 30 June 2009
Eliminations and adjustments
Anglesea Ltd
Lorne Ltd
Dr
Cr
Consolidated
($000)
($000)
($000)
($000)
statement
($000)

Balance sheets
Shareholders equity
Retained earnings

300

150

Share capital
Revaluation reserve
Current liabilities
Accounts payable
Non-current liabilities
Deferred tax liability
Loans

900

200

110

70

200
1 510

190
610

150(c)
200(c)
28(c),12(b)

300

40(a)

900

180

12(b)

12
390
1 782

Current assets
Cash

100

50

150

Accounts receivable
Inventory
Non-current assets
Land
Plant
Accumulated depreciation
Goodwill
Investment in Lorne Ltd

130
200

90
110

220
310

300
400
(120)

100
350
(90)

500
1 510

610

40(a)
122(c)
___
552

500(c)
552

440
750
(210)
122

1 782

28.27 In considering whether Slowsilver Ltd is required to prepare consolidated financial

statements we should consider the following factors in particular, whether Slowsilver
controls Quickgold so as to obtain benefits from the activities of Quickgold, and whether
Slowsilver is a reporting entity and therefore required to comply with accounting standards:
Power to Govern the Financial and Operating Policies

Slowsilver casts the majority of votes likely to be cast at general meetings of

Quickgold because many small shareholders do not exercise their right to attend
general meetings and vote.

Therefore Slowsilver is apparently able to elect the majority (all?) of the board of
directors of Quickgold, and pass resolutions at general meetings of Quickgold.

Slowsilver has the power to govern the financial and operating policies of Quickgold.
Govern an Entity so as to Obtain Benefits from its Activities

Slowsilver receives 30% of the dividends paid by Quickgold, (and has a 30% interest
in the post investment movements in retained profits and reserves of Quickgold)
because Slowsilver owns 30% of Quickgolds ordinary shares.

Therefore Slowsilvers power to govern Quickgold enables Slowsilver to (potentially)

obtain benefits from Quickgold.

Therefore Slowsilver has control over Quickgold.

Reporting Entity

Slowsilver has numerous small shareholders who would be unable to command the
information they require about Slowsilver or Slowsilver Group.

Therefore Slowsilver Group has users who rely upon general purpose financial reports
for information for decision making.
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2816

Therefore Slowsilver Group is a reporting entity.

Conclusion
Accordingly, Slowsilver is a reporting entity and in accordance with accounting standards is
required to produce consolidated financial statements on behalf of P Group comprising of
Slowsilver and B.

28.28 Dividend paid out of pre-acquisition earnings

We are told in the question that Beach Limited declared a dividend of $40 000 on 10 July
2008 with the dividends being paid from pre-acquisition retained earnings. Where dividends
are paid from pre-acquisition earnings then the investor Sandy Ltd should treat the
dividend as a return on part of the investment, rather than treating the receipt as income.
Given that the investment cost $900 000, and that the dividends distributed from preacquisition earnings amounted to $40 000, then the carrying amount of the investment in the
accounts of Sandy Ltd as at 30 June 2009 should be $860 000. This is not the case, so what
apparently happened was that Sandy treated the cash flow as dividend income, rather than a
return of investment. We will be eliminated all intragroup dividends as part of the
consolidation process. The payment of dividends out of pre-acquisition earnings will not have
an affect on the amount of goodwill acquired.
Fair value adjustment
Property, plant and equipment cost
Accumulated depreciation
Carrying amount
Fair value
Fair value adjustment
a.
b.
c.

700 000
(270 000)
430 000
530 000
100 000

Dr
Cr

Accumulated depreciation
Property, plant and equipment

270 000

Dr
Cr

Property, plant and equipment

Revaluation reserve

100 000

Dr
Cr

Revaluation reserve
Deferred tax liability

270 000
100 000
30 000
30 000

Depreciation adjustment
The acquisition occurred one year ago. Beach Ltd would have been depreciating the asset
over its remaining useful life of 10 years at $43 000 per year. From the economic entitys
perspective the depreciation should be $53 000 per year. This leads to the following
consolidation adjustment:
d.
e.

Dr
Cr

Depreciation expense
Accumulated depreciation

Dr
Cr

Deferred tax liability

Tax expense

10 000
10 000
3 000
3 000

Elimination of investment
Share capital
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Beach Ltd
$500 000
2817

Retained earnings
Revaluation reserve
Total pre-acquisition capital and reserves
Fair value of consideration
Goodwill on consolidation
Recoverable amount of goodwill at 30 June 2009
Impairment expense to be recognised in 2009
f

Dr
Dr
Dr
Dr
Cr

Share Capital
Retained earnings
Revaluation reserve
Goodwill
Investment in Beach Ltd

500 000
200 000
70 000
130 000
900 000

Goodwill impairment
g.
Dr Impairment expense goodwill
Cr Accumulated impairment goodwill

70 000

Intragroup dividends
h.
Dr Profit after tax
Cr Interim dividend

40 000

i.
j.

$200 000
$70 000
$770 000
$900 000
$130 000
$60 000
$70 000

70 000

40 000

Dr
Cr

Profit after tax

Accounts receivable

50 000

Dr
Cr

Dividend payable
Final Dividend

50 000

50 000
50 000

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2818

Consolidation Worksheet as at 30 June 2009

Sandy
Profit after Income Tax

Beach
400 000

Dr
190 000

Retained earnings 1/7/08

300 000
Interim Dividend
(90 000)
Final Dividend
(110 000)
Retained earnings 30/6/09
500 000
Share Capital
1 000 000
Revaluation Reserve
-

200 000
(40 000)
(50 000)
300 000
500 000
-

Total Shareholder Equity

Accounts Payable
Dividends Payable
Loan
Deferred Tax Liability
Total Equities

1 500 000
100 000
100 000
670 000
2 370 000

800 000
10 000
50 000
140 000
1 000 000

Cash
80 000
Accounts Receivable
50 000
Inventory
140 000
Land
600 000
Property, plant and equipment 900 000

40 000
50 000
123 000
400 000
700 000
3,275,000
(313 000)

Accum. Depreciation
(300 000)
(1,165,000)
Investment in Beach Ltd
900 000
Goodwill
Accum. Impairment Losses
000)
Total Assets
2 370 000

Cr
10 000
70 000
40 000
50 000
200 000

Consolidated
d/e
3 000
g
h
i
f
h
40 000
j
50 000

500 000
30 000

f
c/b

70 000

50 000

3 000

e/c

423 000

300 000
(90 000)
(110 000)
523 000
1 000 000

100 000

30 000

1 523 000
110 000
100 000
810 000
27 000
2 570 000

120 000
i

50 000

100 000

b/a

270 000

263 000
1 000 000
1 430 000

270 000

a/d

10 000

(353 000)

900 000

130 000
________

f
f
g

1 000 000

1 523 000

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130 000
70 000
1 523 000

2 570 000

2819

Consolidated Balance Sheet of Sandy Ltd. and its subsidiaries

as at 30 June 2005
$
Assets
Cash
Accounts Receivable
Inventory
Land
Property, plant and equipment
less Accumulated Depreciation
Goodwill
less Accumulated Impairment Losses
000
Total Assets

120 000
263 000
1 000 000
1 430 000
(353 000)
130 000
(70 000)

1 077 000
60
2 570 000

Liabilities
Accounts Payable
Dividends Payable
Loans
Deferred Tax Liability
Total Liabilities

110 000
100 000
810 000
27 000
1 047 000

Shareholder's Equity
Share Capital
Retained Earnings
Total Shareholders Equity
Total Equities

1 000 000
523 000
1 523 000
2 570 000

Notes to and forming part of the Consolidated Accounts

Note xx: Retained Earnings
Retained Profits 1 July 2008
Profit after Income Tax Expense
Interim Dividend
Final Dividend
Retained Profits 30 June 2009

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300 000
423 000
(90 000)
(110 000)
523 000

2820