6. Financial reporting by groups of companies

Question 1

Group Structures and Financial Reporting

Answer 1

Large businesses often operate through group structures, and the financial reporting requirements depend on the level of control or influence the parent company holds over other entities.

Question 2

IFRS 10 – Consolidated Financial Statements

Answer 2

Requires a parent company to present consolidated financial statements when it controls other entities (subsidiaries).

Question 3

What is the control principle?

Answer 3

Control involves:

Power over the investee
Exposure to variable returns
Ability to use power to affect returns

Over 50% voting ownership and rights - significant influence

FRS 11 – Joint Arrangements
Deals with joint ventures, where businesses share control of profit-raising activities

Question 4

What are some key consolidation adjustments under IFRS 10?

Answer 4

Elimination of intra-group transactions and balances

Elimination of unrealised profit

Alignment of accounting policies

Recognition of goodwill

Presentation of non-controlling interests (NCIs)

Aligning the ARD

Question 5

How is goodwill treated in the consolidated financial statements?

Answer 5

It is capitalised and reviewed for impairment annually under IAS 36.

Question 6

When is the equity method used in accounting for investments?

Answer 6

For associates and joint ventures where the investor has significant influence (typically with 20–50% ownership).

Question 7

What is the initial and subsequent treatment of an investment under the equity method?

Answer 7

Initially recorded at cost

Then adjusted for the investor’s share of post-acquisition profit or loss

Question 8

IFRS 10 (Consolidated Financial Statements)

Answer 8

Look for the control principle - if eg subsidiary, has control - needs to consolidate
Would be too complicated to draw up many sets of FS - which is why consolidated

Control: power, variable returns and the ability to use this power

Power is normally exercised through voting rights, so if more than 50% of the equity shares (and the voting rights) in any of the other companies, this would
indicate control. Then need to consolidate

Associate companies: between a 20% and a 50% equity
shareholding.
These would be consolidated, but using the equity method of accounting identified in IAS 28 (Associates and Joint Ventures)
- SO LONG AS doesnt have significant influence or control - eg a say on or influence over the Board

To avoid double counting, intra-group items such as sale and purchase transactions must be eliminated on consolidation.

Any investments in subsidiaries, carried as investments in its own statement of financial position, -Eliminate during the
consolidation process, specifically through the calculation of goodwill.

Capitalise this goodwill (as an intangible non-current asset) in the consolidated statement of financial position and review it for impairment each year.

Account for acquisitions using the
“acquisition method.” This requires the assets and liabilities of the investee to be
measured at their fair value at the acquisition date.

Align ARD as the parent co
Align accounting policies

Question 9

What constitutes Significant Influence?

Answer 9

An entity over which the investor has significant influence, and which is neither a
subsidiary nor a joint venture, is called an associate. (1)

The key criterion here is
significant influence. This is defined as the “power to participate in the financial and
operating policy decisions of the investee, but not to control or have joint control over
those policies.” (1).

Significant influence is presumed with an equity shareholding of between 20% and 50%
(1).

Award up to 2 marks from the following:
In IAS28 significant influence can be evidenced in one or more of the following ways:
* Representation on the Board of directors (or equivalent) of the investee; (1)
* Participation in the investee’s policy-making process; (1)
* Material transactions between investor and investee; (1)
* Interchange of management personnel; or, (1)
* Provision of technical information. (1)

Question 10

Main principles of Consolidation of FS

Answer 10

The first major principle is the control concept. A group of companies is an
economic entity made up of a set of companies where one entity (the parent)
has control over another entity (the subsidiary). (1)

In accordance with IFRS 10, more than one factor needs to be considered in
deciding whether control exists, for example:
* Power over the investee (the subsidiary), typically through having a
majority of the voting rights;
* Exposure or rights to variable returns from its involvement in the
investee; and,
* The ability to use that power to affect the amount of investor returns. (1)

In a simple group structure, a parent company has a direct interest in the
shares of its subsidiary companies. However, control could be indirect (for
example, via a contract, via de facto control such as a sub-subsidiary). (1)

The basic method of consolidation is where a parent company must produce
financial statements which effectively add together the results of the parent
and its subsidiary. The group financial statements must represent their
assets, liabilities, equity, income, expenses and cash flows as those of a single economic entity. (1)

To avoid double counting, intra-group items including all transactions,
balances and unrealised profits and losses resulting from intra-group trading
must be eliminated. The parent entity’s investment in the subsidiaries is also
eliminated through consolidation. (1)

Consolidated financial statements include – a consolidated statement of financial position, a consolidated statement of profit or loss and other comprehensive income, a consolidated statement of changes in equity, a consolidated statement of cash flows and notes to the consolidated financial
statements. (1)

Answers may also refer to subsidiaries having the same accounting policies and ideally the same reporting date as those of the parent company. (1)