4 Non Wholly Owned Subs

CONSOLIDATION OF NON-
WHOLLY OWNED
SUBSIDIARIES
Seda Oz, PhD
seda.oz@uwaterloo.ca
AFM 491, SAF, University of Waterloo
November 5, 2018 Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 1
CONSOLIDATED FINANCIAL
STATEMENTS
 IFRS 10 specifies the accounting principles involved in the
preparation of consolidated financial statements.
 Consolidated financial statements consist of a balance

sheet, a statement of comprehensive income, a statement of
changes in equity, a cash flow statement, and the
accompanying notes.
Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 2

THINGS TO REMEMBER
 The acquirer and the acquiree are separate legal entities
 Both:
 maintain their own accounting records
 have shareholders that they need to prepare F/S for
 borrow money
 file their own tax returns
 Consolidated F/S are just prepared for reporting purposes.
No accounting books!

NON-WHOLLY OWNED
SUBSIDIARIES
 Previous chapter implemented consolidation using the
Acquisition Method and assumed 100% ownership.
 What if the parent acquires less than 100% of the shares?
 The parent purchased less than 100% in a business
combination
 Conserves cash / cheaper
 Sold off some to raise money
 Unable to get 100%
 Reduces share dilution if share exchange
 Spreads ownership risk
 Non-controlling interest can provide a market for the sub’s
shares
 What is this?

NON-CONTROLLING
INTEREST
 The shares not acquired by the parent are owned NCI
by the other shareholders, referred to as the “non-
controlling shareholders”.
 The value of shares held by the non-controlling
shareholders appears on the balance sheet as “non-
controlling interest” (NCI).
 Three questions arise when preparing
consolidated financial statements for less-than-
100% subsidiaries:
 How should the portion of the subsidiaries net
assets not acquired by the parent be valued on the
consolidated financial statements?
 How should NCI be measured?
 How should NCI be presented?

CONSOLIDATION
THEORIES
 Four theories propose a solution to preparing consolidated
financial statements for non-wholly subsidiaries.
 Proprietary Theory
 is presently used for consolidating certain types of joint
arrangements and was an option under GAAP prior to 2013 for
consolidating joint ventures
 Parent Company Theory
 Was used prior to January 2011
 Parent Company Extension Theory (partial Goodwill method)
 In effect since Jan 1, 2011
 Entity Theory (full Goodwill method)
 In effect since Jan 1, 2011

CONSOLIDATION THEORIES
Subsidiary’s assets, liabilities NCI
and goodwill
Proprietary • Parent’s share at fair value • N/A – NCI is completely
• “proportionate ignored
consolidation” for certain
joint arrangements
Parent company
(not GAAP)
Parent company
extension
• IFRS10 allowed option
• “partial goodwill”
method
Entity
• “full goodwill” method
** method used in text **

PROPRIETARY CONCEPT
 Sometimes referred as proportionate consolidation
 NCI is completely outside the corporate entity and not
included at all on F/S.
 Include only P’s % of A + L
 Only goodwill identified in the purchase
 Not permitted under GAAP ……………….. Fuck this man
whatasnake
 What was used in Canada for Joint Ventures
 Focuses on ownership not control (legal view)
 Not a complete picture of what is at P’s disposal
 Only eliminate P’s % of S’s unrealized profit

PROPRIETARY CONCEPT
Economic
Entity
P @ BV
80% of
S owned
NCI By P
@FV
20% NCI portion

not in Entity

EXAMPLE
 See Part a of SANTIAGO – PERALTO Problem posted as a separate file (doc & xlsx files)
Investment in Jake 4500000

Cash 4500000
Common Shares 750000

Retained Earnings 1500000
Contributed Surplus 750000
Acquisition Differential 1500000
Capital Assets 1200000

Goodwill 675000
Inventory 150000
Long Term Liabilities 225000

and goodwill
joint arrangements
Parent company • Parent’s proportion at FV • At proportion of carrying
(not GAAP) • NCI’s proportion at carrying amount
amount • NCI presented as a liability
Parent company
extension
method
Entity

THE PARENT COMPANY
THEORY
 The NCI’s A & L & revenues & expenses are part of the
economic entity, but there has not been an independent
transaction to value them.
 Only include NCI’s % at book value
 P’s % of S’s A + L @ FMV
 Application of historical cost – only know the value of what
you bought.
 NCI closer to a creditor, has a fixed claim.
 NCI’s % at their historical cost (BV) (hasn’t changed)
 Consolidated = P (@ CV) + S (@ CV) + FV (% P)
 NCI on B/S grouped with Liabilities
 NCI on I/S as an expense,
 No adjustments to NCI values for FVI, unrealized profits etc
THE PARENT COMPANY
THEORY
Economic
Entity
P @ BV
80% of
NCI S owned
@ By P
BV @FV
20% NCI portion

In Entity @ BV no GW

EXAMPLE
 See Part b of SANTIAGO – PERALTO posted as a separate file (doc & xlsx files)

Cash 4500000
Common Shares 1000000

Retained Earnings 1000000
Contributed Surplus 2000000
Investment 4500000
Non-Controlling Interest 1000000
Capital Assets 1200000

Goodwill 675000
Inventory 150000
Long Term Liabilities 225000
and goodwill
joint arrangements
Parent company
extension
method
Entity • 100% of A and L at fair value • At proportion of fair value of
• IFRS10 allowed option • 100% of Goodwill at fair value entity
•Could also value NCI using
trading price of sub’s shares
at acquisition date if publicly
traded
Copyright @ 2017 Seda Oz, PhD. All Rights Reserved • NCI presented as equity 15
THE PARENT COMPANY
EXTENSION THEORY
 Addresses concern about goodwill valuation under the
entity theory.
 Reflects both parent’s and non-controlling interest’s share
of identifiable net assets at full fair values.
 However only parent’s share of subsidiary’s goodwill is
reflected on consolidated balance sheet.

THE PARENT COMPANY
EXTENSION THEORY – IN SHORT
 Cross between Parent Co & New Entity

 Values S’s net identifiable assets @ FV for 100%
 Only recognizes P’s share of the Goodwill (NCI doesn’t
have any GW- can’t reasonably be measured)
 NCI = FV of S’s net assets (@ 100%)
- FV of S’s net assets (@ P’s %)
Or NCI = FV of S’s net assets (@ 100%) × NCI %

THE PARENT COMPANY
EXTENSION THEORY
Economic
Entity
P @ BV
80% of
NCI S owned
@ By P
FV @FV
20% NCI portion

@FMV except not GW

EXAMPLE
 See Part c of SANTIAGO – PERALTO Problem posted as
a separate file
 doc & xlsx files

THE ENTITY THEORY
 Views the consolidated entity as having two distinct groups of
shareholders – the controlling and non-controlling shareholders.
 The basis of GAAP for consolidation beginning January 1, 2011
or upon earlier adoption of IFRS 3.
 The consolidated balance sheet reflects full fair values of
subsidiary’s net assets and goodwill as if the parent had acquired
100% instead of the lesser amount actually acquired.
 For the balance sheet to reflect full fair value of the subsidiary,
the price per share paid by the parent is effectively extrapolated to
the shares not acquired, to establish an implied fair value for the
entire company.
 This assumes a linear relationship to calculate the value of NCI

THE ENTITY THEORY
 As parent’s holding moves further away from 100%, or as
parent acquires control through a series of small purchases,
straight-line extrapolation loses validity.
 If the subsidiary was a public company and its shares were
actively traded prior to acquisition, an alternative approach to
valuing the non-controlling interest would be to multiply the
number of non-controlling shares by the acquisition date
trading price (market price of subsidiary’s shares)
 Another alternative approach for valuing non-controlling
interests would be to perform an independent business
valuation using valuation techniques, which could be costly.

THE ENTITY THEORY
 The entity theory results in the following:
 Assets acquired and liabilities assumed are valued at their
total fair value at the date of acquisition.
 Non-controlling interest is valued on the basis of the market
value of the company acquired, not the underlying book value
as in the parent company theory
 NCI is presented in consolidated equity based on fair values
of subsidiary’s net assets and goodwill
 Would adjust NCI’s for amortization of fair value increments
(decrease in value)

THE ENTITY THEORY –
IN SHORT
 The FV of S = P’s value + NCI’s value
 We can measure P’s (the total consideration given)
 Can’t measure NCI’s as no transaction has taken place
 100% of S’s A + L all valued at FMV
 Best predictive value of cash generating ability
 NCI’s share will also reflect goodwill (full goodwill)
 Are they proportionally the same?
 If Yes - makes life (& calculations) easier
 If No - then need to estimate a value for NCI
 Why would it be no? If P paid a premium for control (happens
often)
 How you value NCI (proportionately or something less) will
affect the Goodwill.

THE ENTITY THEORY –
IN SHORT
Calculating NCI’s value
1. Linear extrapolation from P’s purchase.
P buys 80 shares @ $5 for 80% (NCI has 20 sh)
If P paid $400 for 80%, 100% = 400/.80 = $500,
NCI = .20 x 500 = $100 (400 + 100 = 500)
2. Based on mkt price of S’s shares (if S is a public company).
P paid $1 premium per share,
so NCI’s 20 shares @ ($5 -1) = $4 => $80.
Total value 400 + 80 = 480
3. Could also do an independent valuation of S – but it is time
consuming, expensive & uncertain

THE ENTITY THEORY
Economic
Entity
P @ BV
80% of
NCI S owned
@ By P
FV @FV
20%
NCI portion
@FMV including GW

EXAMPLE
 See Part d of SANTIAGO – PERALTO Problem posted as
a separate file
 doc & xlsx files

and goodwill
joint arrangements
Parent company • 100% assets and liabilities at fair • At proportion of fair value of
extension value net identifiable assets only
• IFRS10 allowed option • Goodwill – parent’s proportion at • NCI presented as equity
method
fair value
Entity • 100% of A and L at fair value • At proportion of fair value of

• IFRS10 allowed option • 100% of Goodwill at fair value entity (i.e., NIA + goodwill)
• Could also value NCI using
trading price of sub’s shares
at acquisition date if publicly
traded
Copyright @ 2017 Seda Oz, PhD. All Rights Reserved • NCI presented as equity 27
WHICH ONE TO USE?
 At various times and by different Acctg Bodies all 4 have
been used. Different concepts for different issues, end up
with a mixed bag.
 That is what makes learning
consolidation so frustrating!
 Old GAAP was closest to Parent Co
 IFRS: Closest to Entity Concept.
 Except if total value of S’s GW can not be measured use
Parent Co Extension.
 In U.S. must use Entity concept

SUMMARY
Proprietary Parent Parent Ext Entity
NCI none @ BV, @ BV + of FVI @ MV

identifiable net including
assets GW,
In liabilities Between L&E in Equity
What % of Only P’s % 100% at 100% @ FV 100% at FV
S’s A & L @ FV BV + P% of
(identifiable) FVI
included?
Goodwill Only what Only what Only what P paid Implied
P paid for P paid for for 100%
GAAP? Sometimes IFRS if can’t IFRS
in Joint reasonably extend & US
Operations GW to NCI, but still GAAP
in Shareholder’s Eq

WHEN OWN <100%
 NCI on B/S
 Establish at acquisition = NCI’s % of S’s FV
 Like the equity method will increase/ decrease as the BV of S
changes
 Increases for their % of S’s net income
 Decrease for their % of dividends rec’d

GOODWILL SUMMARY
 If it is reasonable to estimate it for NCI, then do that (Entity
theory)
 If it is not reasonable to extrapolate it (can’t be reasonably
measured), only recognize goodwill paid for (Parent Co
Extension theory)
 Own much less than 100%
 Paid a premium for your control that might not apply to
others
 Also used for Gain on purchase (negative goodwill) – gain
only applies to P
 Negative Goodwill?????

BARGAIN PURCHASES
 “Negative goodwill” results when the total consideration
(purchase price) is less than the fair value of identifiable net
assets.
 Often described as a bargain purchase, this can occur when
share prices are depressed or subsidiary has had recent
operating losses.
 IFRS 3 requires that negative goodwill be reduced to zero
by:
 (1) first reducing any goodwill on the subsidiary’s books, then
 (2) recognizing any remaining negative goodwill as a gain.
 Gain is only recognized by P (not by NCI)

BARGAIN PURCHASES
 Negative goodwill is rare
 you’re paying less for the company than what it’s worth
 if you sold the assets and liabilities one by one, you would get
more than selling the company as a whole
 Happens with a distressed company looking to get rid of
everything as fast as possible and take a discount on the
purchase price
 IFRS says: if you get negative goodwill, do your
calculation again to get it right
 IFRS doesn’t like situations where there is negative goodwill

EXAMPLE
 See Zoe Ltd on UW - LEARN

NEGATIVE ACQUISITION
DIFFERENTIAL
 If the Acquisition Differential is negative does that mean
there will be negative goodwill (a gain)?
Paid $700
CV (assets – liabilities) 800
Acquisition differential (100)
Gain ?

NEGATIVE ACQUISITION
DIFFERENTIAL
 Not the same as negative goodwill.
 Results when the parent’s interest in the book values of the

subsidiary’s net assets exceed acquisition cost.
 Could result in negative goodwill if the fair values of the

subsidiary’s net assets also exceed acquisition cost, otherwise
will result in positive goodwill.

SUBSIDIARY WITH
GOODWILL
 Any goodwill on the balance sheet of subsidiary on
acquisition date is not carried forward to the consolidated
balance sheet.
 Not an identifiable asset (Remember Chapter 3)
 That goodwill resulted from a past transaction in which the
subsidiary was the acquirer in a business combination,
reflecting outdated fair values of entity it acquired.
 The parent’s acquisition differential is now calculated as if

the goodwill has been written off by the subsidiary.

SUBSIDIARY WITH
GOODWILL
 Eliminate the old GW against S’s R/E in calculating Book
Value
 Calculate adjusted BV of net assets
 Intuitively, Fair Value of old GW = 0, gets eliminated in the
entry that records the FV
 Or assigned it as a FV excess (decrease in an asset)

IF S HAD HAD GOODWILL OF
$50
Eliminate against R/E
Price paid $1,200
Assets -GW- Liab 750
Acq Diff 450
Allocate to FV excess
Land (100)
Building (200)
Goodwill $150

CONTINGENT
CONSIDERATION
 What happens when a portion of the total cost of the
acquisition is variable depending on future events, so the
eventual total cost is not known with certainty at the date of
acquisition of the subsidiary?
Examples:
 P might agree to pay more to the shareholders if S’s net
income exceeds a certain amount over a defined future
period.
 P issued shares for the acquisition & S’s shldrs are
concerned those shares might decline over time. P
agrees to provide additional cash or shares if mkt price
declines below some specified amount over a defined
period.

CONTINGENT
CONSIDERATION
 IFRS 3 requires the contingent consideration to be recorded
at fair value at the acquisition date as part of the acquisition
cost, using assumptions, probabilities, and other valuation
techniques which can be subjective and require significant
amount of judgment.

CONTINGENT
CONSIDERATION Professional
Judgement
 Classify contingent consideration as either liability or

equity depending on its nature.
 If payable in cash or another asset,
 Adjust cost (PV of expected value of cash) and record a
………………….. now
 If amount estimated to be paid changes due to changes in
circumstances before payment, revalue the liability (at FV),
record change in NI
 Adjust the purchase price if revaluation arose as a result of new
information about facts and circumstances that exists as at the
date of acquisition.

CONTINGENT
CONSIDERATION Professional
Judgement
 Classify contingent consideration as either liability or

equity depending on its nature.
 If payable in additional shares of the parent,
 record now as ……………….
 Do not revalue contingent consideration classified as equity.
 Contingent ones not included as part of the cost of the acq
because they can’t be measured (don’t know future share
price)

DISCLOSURES
 IFRS 3, paragraph B64, requires that a reporting entity
disclose the following for each business combination in
which the acquirer holds less than 100% of the equity
interests in the acquiree at the acquisition date:
 The amount of the NCI in the acquiree recognized at the
acquisition date and the measurement basis for that amount.
 For each NCI in an acquiree measured at fair value, the
valuation techniques and key model inputs used for
determining that value.

ASPE
 Private companies can either consolidate their subsidiaries
or report their investments using either the cost or equity
method or fair value.
 There are some significant differences between US GAAP

and IFRSs with respect to consolidated financial statements.

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CONSOLIDATION OF NON-

AFM 491, SAF, University of Waterloo

 Consolidated financial statements consist of a balance

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 2

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 3

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 4

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20% NCI portion

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 9

Investment in Jake 4500000

Common Shares 750000

Capital Assets 1200000

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 10

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 11

20% NCI portion

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 13

Investment in Jake 4500000

Common Shares 1000000

Capital Assets 1200000

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 16

 Cross between Parent Co & New Entity

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 17

20% NCI portion

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Entity • 100% of A and L at fair value • At proportion of fair value of

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NCI none @ BV, @ BV + of FVI @ MV

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 Results when the parent’s interest in the book values of the

 Could result in negative goodwill if the fair values of the

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 36

 The parent’s acquisition differential is now calculated as if

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 Classify contingent consideration as either liability or

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 42

 Classify contingent consideration as either liability or

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 43

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 There are some significant differences between US GAAP

Copyright @ 2017 Seda Oz, PhD. All Rights Reserved 45

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