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CHAPTER 12 Group financial statements

CHAPTER 12 Group financial statements

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CHAPTER 12 Group financial statements

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  1. CHAPTER 12Group financial statements

  2. Contents • Introduction – Company groups • Rationale for group financial statements • Current practice • Acquisition accounting • Associated companies • Joint ventures

  3. Group financial statements • Group (or consolidated) financial statements are the financial statements of a set of two or more enterprises organised as an economic entity • Group is defined according to concept of “control” • Control = power (de jure or de facto) to govern the financial and operating policies of an entity so as to obtain benefits from its activities (IFRS)

  4. Company groups • Company group characteristics • Vertical group • Horizontal group • Conglomerate • Group expansion • Development of new subsidiaries • Acquisition by takeover of other companies • Meger between companies

  5. Shares - Rights • Membership rights : • Influence on management, voting power • Equity rights: • Right to participate in distribution of profits + equivalent part of liquidation balance • In principle: rights are proportional to capital share • Exceptions: preferent shares, limitations to voting power, multiple votes per share,...

  6. Types of participating shareholdings

  7. Group structure Enterprise A 100% 25% 51% Enterpise B Enterprise C Enterprise D 9% 100% Enterprise E Enterprise F

  8. Rationale for group financial statements • Interdependent relationships within a group (patrimonial, contractual, personal ties) • Loss of part of their independence of individual entities • Common or unified management • Economic interest of the group > individual interests of legal entities involved • It is economically more relevant to present the financial statement of the economic whole as an aggregate of all assets and liabilities under unified control

  9. From individual to group accounts

  10. Current practice • IAS 27 Consolidated and Separate Financial Statements • IFRS 3 Business Combinations • IAS 28 Investments in Associates • IAS 31 Investments in Joint Ventures • Seventh EC Company law Directive

  11. Offsetting the investment in a subsidiary

  12. Acquisition accounting • Purchase method of accounting • Fair value adjustments of acquired assets and liabilities • Subsequent measurement of goodwill • Minority interests • Merger accounting • Group income statement

  13. Purchase method of accounting • Acquisition (or purchase method of) accounting is the method used to account for business combinations • Goodwill arises as a consolidation difference if the purchase cost of the investment is not equal to the book value of equity in the subsidiary

  14. Goodwill as consolidation difference

  15. Fair value adjustments of acquired assets and liabilities • The individual assets and liabilities of the acquired company have to be revised to their fair value at acquisition date • This exercise may imply (de-)recognition of new (old) assets and liabilities • Goodwill will be the difference between the revalued net assets and the investment by the parent • The fair value at acquisition date is considered to be the historical cost from the point of view of the parent

  16. Fair value adjustments applied

  17. Goodwill after fair value adjustments

  18. Subsequent measurement of goodwill • IAS before 2004 + European Accounting Directives: • Amortise goodwill on a systematic basis over the best estimate of its useful life • Rebuttable assumption of a maximum of 20 years • IFRS 3 “Business Combinations” (2004): • Test goodwill for impairment annually (or more frequently if indications)

  19. Minority interests • Minority interests (or non-controlling interests) appear if the group does not own 100% of the shares in a subsidiary • They represent the part of the net assets and profit or loss of the subsidiary attributable to the equity interests that are not owned

  20. Minority interests applied

  21. Merger accounting • Two companies can combine by merging their activities and managements without one of them acquiring the other • Two types of merger • Fusion • Pooling of interests • IFRS3 Business Combinations (2004) banned merger accounting methods

  22. Illustration - Merger accounting

  23. Illustration - Acquisition accounting

  24. Group income statement • In the group income statement, the effect of intra-group transactions has to be eliminated • Only income and expenses recognized with regard to parties outside the group will be retained • Follow-up effects of fair value adjustments over time have to be integrated • Amortization of goodwill or impairment losses on goodwill may also significantly impact the group income statement

  25. Intra-group transactions

  26. Fig.12.1 Consolidation procedures Adjust recognition criteria / measurements of financial statements of subsidiaries to uniform principles (IFRS) Aggregation of financial statements of all subsidiaries Fair value adjustments / Remove investment in subsidiaries / Identify goodwill and minority interests Deduct amortization/ impairment losses on goodwill / Follow-up of fair value adjustments Remove intra-group transactions and balances Group financial statements

  27. Associated companies • Associated companies are companies in which the investor company has “significant influence” • Different types of relationships between investor company and investee company mainly according to voting rights under control • Accounting rules differ according to the type of relationship

  28. Types of participating shareholdings (bis)

  29. Illustration - Associated company Company A buys 20% of Company C

  30. Illustration - Equity method

  31. Illustration - Proportionate consolidation

  32. IAS 28 Investments in Associates • IAS 28 Investments in Associates assumes significant influence if the investor holds at least 20 per cent of the voting rights of the investee • IAS 28 requires the equity method to account for associated companies • The part of the investor in the profit and loss of the associated company is introduced as a separate caption in the group income statement (“income from associates”)

  33. Joint ventures • A joint venture is a contractual arrangement whereby two or more parties undertake an economic activity that is subject to jount control (IAS 31 Investments in Joint Ventures) • IFRS recognizes three kinds of arrangement: • Jointly controlled operations • Jointly controlled assets • Jointly controlled entities • IFRS recommends use of proportionate consolidation for jointly controlled entities