Chapter 3: An Introduction to

Consolidated Financial Statements

by Jeanne M. David, Ph.D., Univ. of Detroit Mercy

to accompany
Advanced Accounting, 10th edition
by Floyd A. Beams, Robin P. Clement,
Joseph H. Anthony, and Suzanne Lowensohn

Pearson Education, Inc. publishing as Prentice Hall 3-1

 Intro to Consolidations: Objectives
1. Recognize the benefits and limitations of
consolidated financial statements.
2. Understand the requirements for inclusion of a
subsidiary in consolidated financial statements.
3. Apply the consolidation concepts to parent
company recording of the investment in a
subsidiary at the date of acquisition.
4. Allocate the excess of the fair value over the
book value of the subsidiary at the date of
acquisition.
Pearson Education, Inc. publishing as Prentice Hall 3-2
Objectives (continued)
5. Learn the concept of noncontrolling interest when
the parent company acquires less than 100% of the
subsidiary's outstanding common stock.
6. Amortize the excess of the fair value over the
book value in periods subsequent to the
acquisition.
7. Prepare consolidated balance sheets subsequent
to the date of acquisition, including preparation of
elimination entries.
8. Apply the concepts underlying preparation of a
consolidated income statement.
Pearson Education, Inc. publishing as Prentice Hall 3-3
An Introduction to Consolidated Financial Statements
1: Benefits & Limitations

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 Business Acquisitions
FASB Statement 141R
Business combinations occur
Acquire controlling interest in voting stock
More than 50%
May have control through indirect
ownership
Consolidated financial statements
Primarily for owners & creditors of parent
Not for noncontrolling owners or subsidiary
creditors
Pearson Education, Inc. publishing as Prentice Hall 3-5
An Introduction to Consolidated Financial Statements
2: Subsidiaries

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 Who is a Subsidiary?
ARB No. 51 allowed broad discretion
FASB Statement No. 94
Control based on share ownership
FASB Statement No. 160
Financial control

Subsidiaries, or affiliates, continue as separate

legal entities and reporting to their controlling and
noncontrolling interests.

Pearson Education, Inc. publishing as Prentice Hall 3-7

 Consolidated Statements
Prepared by the parent company
Parent discloses
Consolidation policy, Reg. S-X
Exceptions to consolidation, temporary
control and inability to obtain control
Fiscal year end
Use parent's FYE, but
May include subsidiary statements with FYE
within 3 months of parent's FYE.
Disclose intervening material events
Pearson Education, Inc. publishing as Prentice Hall 3-8
An Introduction to Consolidated Financial Statements
3: Parent Company Recording

Pearson Education, Inc. publishing as Prentice Hall 3-9

 Penn Example: Acquisition Cost =
Fair Value = Book Value
Skelly BV=FV
Cash $10 Penn acquires 100% of Skelly for
Other current assets 15 $40, which equals the book value
Net plant assets 40 and fair values of the net assets
Total $65 acquired.
Accounts payable $15
Cost of acquisition $40
Other liabilities 10
Less 100% book value 40
Capital stock 30
Excess of cost over book value $0
Retained earnings 10
To consolidate, eliminate Penn's
Total $65 Investment account and Skelly's
capital stock and retained
earnings.
Pearson Education, Inc. publishing as Prentice Hall 3-10
 Balance sheets Separate Consolidated
Penn Skelly Penn & Sub.
Cash $20 $10 $30
Other curr. assets 45 15 60
Net plant 60 40 100
Investment in Skelly 40 0 0
Total $165 $65 $190
Accounts payable $20 $15 $35
Other curr. liabilities 25 10 35
Capital stock 100 30 100
Retained earnings 20 10 20
Total $165 $65 $190
Pearson Education, Inc. publishing as Prentice Hall 3-11
An Introduction to Consolidated Financial Statements
4: Allocations at Acquisition Date

Pearson Education, Inc. publishing as Prentice Hall 3-12

 Cost, Fair Value and Book Value
Acquisition cost, fair values of identifiable net
assets and book values may differ.
Allocate excess or deficiency of cost over
book value and determine goodwill, if any.
When BV = FV, excess is goodwill.
Cost less BV = Excess to allocate
Allocate first to FV-BV differences
Remainder is goodwill (or bargain purchase)

Pearson Education, Inc. publishing as Prentice Hall 3-13

 Example: BV FV but Cost = FV
Piper acquires 100% of Sandy for $310.
Sandy BV FV BV = 100 + 145 = $245
Cash $40 $40 FV = 385 75 = $310
Receivables 30 30
Inventory 50 75
Cost FV = $0 goodwill
Plant, net 200 240
Total $320 $385
Liabilities $75 $75
Cost $310
Capital stock 100
100% BV 245
Retained earnings 145 Excess of cost over BV $65
Total $320
Pearson Education, Inc. publishing as Prentice Hall 3-14
 Piper and Sandy (cont.)
Allocate to: Amt Amort.
Inventory 100%(+25) 25 1st yr
Plant 100%(+40) 40 10 yrs
Total $65

Piper's elimination worksheet entry:

Capital stock 100
Retained earnings 145
Inventory 25
Plant 40
Investment in Sandy 310
Pearson Education, Inc. publishing as Prentice Hall 3-15
 Example: BV FV and Cost FV
Panda acquires 100% of Salty for $530.
Salty BV FV BV = 250 + 190 = $440
Cash $100 $100 FV = 580 85 = $495
Receivables 40 40
Inventory 250 250 Cost FV = $35 goodwill
Plant, net 130 190
Total $520 $580
Liabilities $80 $85 Cost $530
Capital stock 250
100% BV (250+190) 440
Retained earnings 190
Excess of cost over BV $90
Total $520

Pearson Education, Inc. publishing as Prentice Hall 3-16

 Panda and Salty (cont.)
Allocate to: Amt Amort.
Plant 60 4 yrs
Liabilities -5 5 yrs
Goodwill 35 -
Total $90
Panda's elimination worksheet entry:
Capital stock 250
Retained earnings 190
Plant 60
Goodwill 35
Liabilities 5
Investment in Salty 530
Pearson Education, Inc. publishing as Prentice Hall 3-17
 Example: BV FV and Cost FV
Printemps acquires 100% of Summer for $185.
Summer BV FV BV = 75 + 105 = $180
Cash $10 $10 FV = 250 - 40 = $210
Receivables 30 30
Inventory 80 90
Plant, net 100 120
Total $220 $250
Liabilities $40 $40 Cost $185
Capital stock 75 100% BV (75+105) 180
Retained earnings 105 Excess of cost over BV $5
Total $220
Pearson Education, Inc. publishing as Prentice Hall 3-18
 Printemps and Summer (cont.)
Allocate to: Amt Amort.
Inventory 10 1st yr
Plant, land 20 -
Bargain purchase (25) Gain
Total $5
Printemps records the acquisition of Summer assuming a cash
purchase as follows. Note that the investment account is
recorded at its fair value and the bargain purchase is treated
immediately as a gain.
Investment in Summer 210
Gain on Bargain purchase 25
Cash 185
Pearson Education, Inc. publishing as Prentice Hall 3-19
 Worksheet Elimination Entry
Unamortized excess equals $30 (gain is recognized)
$10 for undervalued inventory
$20 for undervalued land included in plant
assets
Printemps' elimination worksheet entry:
Capital stock 75
Retained earnings 105
Unamortized excess 30
Investment in Summer 210
Inventory 10
Plant 20
Unamortized excess 30
Pearson Education, Inc. publishing as Prentice Hall 3-20
 Printemps Summer Adjustments Consol-
BV BV DR CR idated
Cash $30 $10 $40
Receivables 50 30 80
Inventory 100 80 10 190
Plant, net 450 100 20 570
Investment in
Summer 210 210 0
Unamortized excess 30 30
Total $840 $220 $880
Liabilities $270 $40 $310
Capital stock 200 75 75 200
Retained earnings 370 105 105 370
Total $840 $220 $880
240 240
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An Introduction to Consolidated Financial Statements
5: Noncontrolling Interests

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 Noncontrolling Interest
Parent owns less than 100%
Noncontrolling interest represents the
minority shareholders
Part of stockholders' equity
Measured at fair value, based on parent's
acquisition price

Parent pays $40,000 for an 85% interest

Implied value of the full investee is
40,000/85% = $47,059.
Minority share = 15%(47,059) = $7,059.
Pearson Education, Inc. publishing as Prentice Hall 3-23
 Example: Noncontrolling Interests
Popo acquires 80% of Sine for $400 when Sine
had capital stock of $200 and retained earnings
of $175. Sine's assets and liabilities equaled
their fair values except for buildings which are
undervalued by $50. Buildings have a 10-year
remaining life.
Cost of 80% of Sine $400 Allocate to:
Implied value of Sine (400/80%) $500 Building $50
Book value (200+175) 375 Goodwill 75
Excess over book value $125 Total $125

Pearson Education, Inc. publishing as Prentice Hall 3-24

 Elimination Entry
Popo's elimination worksheet entry:
Capital stock 200
Retained earnings 175
Building 50
Goodwill 75
Investment in Sine 400
Noncontrolling interest 100
An unamortized excess account could have been used for the
excess assigned to the building and goodwill.

Pearson Education, Inc. publishing as Prentice Hall 3-25

 Popo Sine Adjustments Consol-
BV BV DR CR idated
Cash $50 $10 $60
Receivables 130 50 180
Inventory 80 100 180
Building, net 300 240 50 590
Investment in Sine 400 400 0
Goodwill 75 75
Total $960 $400 $1,085
Liabilities $150 $25 $175
Capital stock 250 200 200 250
Retained earnings 560 175 175 560
Noncontrolling interest 100 100
Total $960 $400 $1,085
500 500
Pearson Education, Inc. publishing as Prentice Hall 3-26
An Introduction to Consolidated Financial Statements
6: Amortizations After Acquisition

Pearson Education, Inc. publishing as Prentice Hall 3-27

 Unamortized Excess
Excess assigned to assets and liabilities are
amortized according to the account

Balance sheet Amortization Income statement

account period account
Inventories and Generally, 1st year Cost of sales and
other current assets other expense
Buildings, Remaining life at Depreciation and
equipment, business amortization
patents, combination expense
Land, copyrights Not amortized
Long term debt Time to maturity Interest expense
Pearson Education, Inc. publishing as Prentice Hall 3-28
 Piper and Sandy (cont.)
Cost $310 Allocate to: Amt Amort.
100% BV 245 Inventory 25 1st yr
Excess $65 Plant 40 10 yrs
Total $65

Beginning Current Ending

unamortized year's unamortized
excess amortization excess
Inventory 25 (25) 0
Plant 40 (4) 36
Total 65 (29) 36

Pearson Education, Inc. publishing as Prentice Hall 3-29

 Panda and Salty (cont.)
Cost $530 Allocate to: Amt Amort.
100% BV 440 Plant 60 4 yrs
Liabilities -5 5 yrs
Excess $90
Goodwill 35 -
Total $90
Beginning Current Ending
unamortized year's unamortized
excess amortization excess
Plant 60 (15) 45
Liabilities (5) 1 (4)
Goodwill 35 0 35
Total 90 14 76
Pearson Education, Inc. publishing as Prentice Hall 3-30
 Printemps and Summer (cont.)
Cost $185 Allocate to: Amt Amort.
Inventory 10 1st yr
100% BV 180 Plant, land 20 -
Excess $5 Bargain purchase (25) Gain
Total $5

Beginning Current Ending

unamortized year's unamortized
excess amortization excess
Inventory 10 (10) 0
Land 20 0 20
Total 30 (10) 20

Pearson Education, Inc. publishing as Prentice Hall 3-31

An Introduction to Consolidated Financial Statements
7: Subsequent Balance Sheets

Pearson Education, Inc. publishing as Prentice Hall 3-32

 Balance Sheets After Acquisition
In preparing a consolidated balance sheet
Eliminate the parent's Investment in
Subsidiary
Eliminate the subsidiary's equity accounts
(common stock, retained earnings, etc.)
Adjust asset and liability accounts for any
unamortized excess balance
Record goodwill, if any
Record Noncontrolling Interest, if any

Pearson Education, Inc. publishing as Prentice Hall 3-33

 Popo and Sine (cont.)
Cost of 80% of Sine $400 Allocate to:
Implied value of Sine $500 Building $50 10 yrs
Book value 375 Goodwill 75 -
Excess $125 Total $125

Beginning Current Ending

unamortized year's unamortized
excess amortization excess
Building 50 (5) 45
Goodwill 75 0 75
Total 125 (5) 120

Pearson Education, Inc. publishing as Prentice Hall 3-34

After 1 year: Popo Sine Popo Sine
Cash $40 $15 Liabilities $100 $50
Receivables 110 85 Capital stock 250 200
Inventory 90 100 Retained earnings 574 185
Building, net 280 235
Investment in Sine 404
Total $924 $435 Total $924 $435

Popo's elimination worksheet entry:

Capital stock 200
Retained earnings 185
Unamortized excess 120
Investment in Sine (80%) 404
Noncontrolling interest (20%) 101
Building 45
Goodwill 75
Unamortized excess 120
Pearson Education, Inc. publishing as Prentice Hall 3-35
After 1 year: Popo Sine Adjustments Consol-
BV BV DR CR idated
Cash $40 $15 $55
Receivables 110 85 195
Inventory 90 100 190
Building, net 280 235 45 560
Investment in Sine 404 404 0
Goodwill 75 75
Unamortized excess 120 120
Total $924 $435 $1,075
Liabilities $100 $50 $150
Capital stock 250 200 200 250
Retained earnings 574 185 185 574
Noncontrolling interest 101 101
Total $924 $435 $1,075
505 505
Pearson Education, Inc. publishing as Prentice Hall 3-36
 Key Balance Sheet Items
Investment in Subsidiary does not exist on the
consolidated balance sheet
Equity on the consolidated balance sheet
consists of the parent's equity plus the
noncontrolling interest.
Noncontrolling interest is proportional to the
Investment in Subsidiary account when the
equity method is used.
$101 = $404 x .20/.80

Pearson Education, Inc. publishing as Prentice Hall 3-37

An Introduction to Consolidated Financial Statements
8: Consolidated Income Statements

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 Comprehensive Example, Data
Pilot acquires 90% of Sand on 12/31/2009 for
$4,333 when Sand's equity consists of $4,000
common stock, $1,000 other paid in capital, and
$900 retained earnings. On that date Sand's
inventories, land and buildings are understated
by $100, $200, and $1,000, respectively and its
equipment and notes payable are overstated by
$300 and $100.

Pearson Education, Inc. publishing as Prentice Hall 3-39

Assignment and Allocate to:
Amortization Inventory $100 1st yr
Land 200 -
Cost of 90% of Sand $10,200 Building 1,000 40 yrs
Implied value of Sand 10,200/.90 $11,333 Equipment (300) 5 yrs
Book value (4000+1000+900) 5,900 Note payable 100 1st yr
Goodwill 4,333 -
Excess over book value $5,433
Total $5,433
Unamortized Current Unamortized
excess 1/1/10 amortization excess 12/31/10
Inventory 100 (100) 0
Land 200 0 200
Building 1,000 (25) 975
Equipment (300) 60 (240)
Note payable 100 (100) 0
Goodwill 4,333 0 4,333
Total 5,433 (165) 5,268
Pearson Education, Inc. publishing as Prentice Hall 3-40
 Pilot Sand Consol.*
Sales $9,523.50 $2,200.00 $11,723.50
Income from Sand 571.50 $0.00
Cost of sales (4,000.00) (700.00) (4,800.00)
Depreciation exp - bldg (200.00) (80.00) (305.00)
Depreciation exp - equip (700.00) (360.00) (1,000.00)
Other expense (1,800.00) (120.00) (1,920.00)
Interest expense (300.00) (140.00) (540.00)
Net income $3,095.00 $800.00
Total consolidated income $3,158.50
Noncontrolling interest
share 63.50
Controlling interest share $3,095.00
* Cost of sales, building depreciation and interest expense are
increased by $100, $25, and $100, and equipment
depreciation is $60 lower than the sum of Pilot and Sand.
Pearson Education, Inc. publishing as Prentice Hall 3-41
 Key Income Statement Items
The Income from Subsidiary account is
eliminated.
Current period amortizations are included in
the appropriate expense accounts.
Noncontrolling interest share of net income is
proportional to the Income from Subsidiary
under the equity method.
$571.50 x .10/.90
= $63.50

Pearson Education, Inc. publishing as Prentice Hall 3-42

 Push-Down Accounting
SEC requirement
Subsidiary is substantially wholly-owned
(approx. 90%)
No publicly held debt or preferred stock
Books of the subsidiary are adjusted
Assets, including goodwill, and liabilities
revalued based on acquisition price
Retained earnings is replaced by Push-Down
Capital which includes retained earnings and
the valuation adjustments
Pearson Education, Inc. publishing as Prentice Hall 3-43
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Publishing as Prentice Hall

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