1

Baker / Lembke / King

The Reporting
Entity and
Consolidated
Financial
Statements
Irwin/McGraw-

The McGraw-Hill
The McGraw-Hill
Companies,
Inc., 1999
Companies,

Limitations of Consolidated Financial Statements

Poor
Poorperformance
performanceof
ofone
oneor
ormore
morecompanies
companiesmay
maybe
be

hidden
hidden

Not
Notall
allthe
theconsolidated
consolidatedretained
retainedearnings
earningsbalance
balanceisis
necessarily
necessarilyavailable
availablefor
fordividends
dividendsof
ofthe
theparent
parent

Financial
Financialratios
ratiosbased
basedon
onconsolidated
consolidatedstatements
statements
are
arenot
notnecessarily
necessarilyrepresentative
representativeof
ofany
anysingle
single
company
companyin
inthe
theconsolidation
consolidation

Similar
Similaraccounts
accountsof
ofdifferent
differentcompanies
companiesthat
thatare
are
combined
combinedin
inthe
theconsolidation
consolidationmay
maynot
notbe
beentirely
entirely
comparable
comparable

Additional
Additionalinformation
informationabout
aboutindividual
individualcompanies
companies
may
mayrequire
requirevoluminous
voluminousfootnotes
footnotes
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Indirect Control
P
P owns 80 percent of X
X

X owns 60 percent of Z
Z
PPindirectly
indirectlycontrols
controlsZZ
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The McGraw-Hill Companies, Inc., 1999

Indirect Control
P
.90

.70

Y
.30

.40
Z
PPindirectly
indirectlycontrols
controlsZZ
Irwin/McGraw-

The McGraw-Hill Companies, Inc., 1999

Indirect Control
P
.80
.90
W

.80

.15

X
.30

Y
.15

Z
PPindirectly
indirectlycontrols
controlsZZ
Irwin/McGraw-

The McGraw-Hill Companies, Inc., 1999

Questions Preparer Should Ask

Do
Dothese
thesestatements
statementsappear
appear
as
asififthe
theconsolidated
consolidated
companies
companieswere
wereactually
actually
aasingle
singlecompany?
company?

Irwin/McGraw-

The McGraw-Hill Companies, Inc., 1999

Questions Preparer Should Ask

Are
Arethere
thereany
anyitems
itemsincluded
includedin
in
the
thestatements
statementsthat
thatwould
wouldnot
not
appear,
appear,or
orthat
thatwould
wouldbe
bestated
stated
at
atdifferent
differentamounts,
amounts,in
inthe
the
statements
statementsof
ofaasingle
singlecompany?
company?

Irwin/McGraw-

The McGraw-Hill Companies, Inc., 1999

Questions Preparer Should Ask

Are
Arethere
thereitems
itemsthat
thatdo
donot
notappear
appear
in
inthese
thesestatements
statementsthat
thatwould
would
appear
appearififthe
theconsolidated
consolidatedentity
entity
were
wereactually
actuallyaasingle
singlecompany?
company?

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The McGraw-Hill Companies, Inc., 1999

The Consolidated Entity

Parent
Parent

Subsidiary
Subsidiary

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10

The Consolidated Entity

Poppers
common
stock

Suns
common
stock

Popper
Popper
Company
Company

Sun
Sun
Corporation
Corporation

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The McGraw-Hill Companies, Inc., 1999

11

Balance Sheets --December 31, 19X1

Popper
Assets
Cash
Receivable (net)
Inventory
Fixed Assets (net)
Other Assets
Investment in Sun Stock
Total Assets
Liabilities and Equities
Short-Term Payables
Long-Term Payables
Common Stock
Retained Earnings
Total Liabilities and Equities
Irwin/McGraw-

Sun

5,000
84,000
95,000
375,000
25,000
300,000
$884,000

$ 60,000
200,000
500,000
124,000
$884,000

3,000
30,000
60,000
250,000
15,000

$358,000
8,000
50,000
200,000
100,000
$358,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

12

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Cash
Receivables (net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term
Payables
$5,000
++$3,000
$5,000
$3,000 $ 67,000
113,000 Long-Term Payables
250,000
153,000
625,000 Common Stock
500,000
40,000 Retained Earnings
122,000
$939,000 Total Liabil. and Equities $939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

13

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Cash
Receivables (net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term Payables
$ 67,000
$84,000
+
$30,000
$84,000
+ $30,000 250,000
113,000 Long-Term
Payables
--$1,000
$1,000
153,000
625,000 Common Stock
500,000
40,000 Retained Earnings
122,000
$939,000 Total Liabil. and Equities $939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

14

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Cash
Receivables (net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term Payables
$ 67,000
113,000 Long-Term Payables
250,000
$95,000
$95,000++$60,000
$60,000
153,000
--$2,000
$2,000
625,000 Common Stock
500,000
40,000 Retained Earnings
122,000
$939,000 Total Liabil. and Equities $939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

15

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Cash
Receivables (net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term Payables
$ 67,000
113,000 Long-Term Payables
250,000
153,000
625,000 Common
Stock ++$250,000
$375,000
$375,000
$250,000 500,000
40,000 Retained Earnings
122,000
$939,000 Total Liabil. and Equities $939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

16

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Cash
Receivables (net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term Payables
$ 67,000
113,000 Long-Term Payables
250,000
153,000
625,000 Common Stock
500,000
40,000 Retained
Earnings
$25,000
++$15,000
$25,000
$15,000 122,000
$939,000 Total Liabil. and Equities $939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

17

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
$60,000 + $8,000
Cash $60,000 + $8,000
$1,000
$1,000
Receivables--(net)
Inventory
Fixed Assets (net)
Other Assets
Total Assets

Irwin/McGraw-

Liabilities and Equities

$ 8,000 Short-Term Payables
113,000 Long-Term Payables
153,000
625,000 Common Stock
40,000 Retained Earnings
$939,000 Total Liabil. and Equities

$ 67,000
250,000
500,000
122,000
$939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

18

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Liabilities and Equities
Cash
$ 8,000 Short-Term Payables
$200,000
++$50,000
Receivables
(net)
$200,000
$50,000 113,000 Long-Term Payables
Inventory
153,000
Fixed Assets (net)
625,000 Common Stock
Other Assets
40,000 Retained Earnings
Total Assets
$939,000 Total Liabil. and Equities

Irwin/McGraw-

$ 67,000
250,000
500,000
122,000
$939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

19

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Liabilities and Equities
Cash
$ 8,000 Short-Term Payables
Receivables (net)
113,000 Long-Term Payables
Inventory
153,000
$500,000
+
$200,000
+ $200,000 625,000 Common Stock
Fixed$500,000
Assets (net)
--$200,000
$200,000
Other Assets
40,000 Retained Earnings
Total Assets
$939,000 Total Liabil. and Equities

Irwin/McGraw-

$ 67,000
250,000
500,000
122,000
$939,000

The McGraw-Hill Companies, Inc., 1999

Consolidated Balance Sheet

20

Popper Company
Consolidated Balance Sheet
December 31, 19X1
Assets
Liabilities and Equities
Cash
$ 8,000 Short-Term Payables
Receivables (net)
113,000 Long-Term Payables
Inventory
153,000
Fixed
Assets (net)
625,000 Common Stock
$124,000
+
$100,000
Other$124,000
Assets + $100,000
40,000 Retained Earnings
--$100,000
$2,000
$100,000 - $2,000 $939,000 Total Liabil. and Equities
Total Assets

Irwin/McGraw-

$ 67,000
250,000
500,000
122,000
$939,000

The McGraw-Hill Companies, Inc., 1999

Intercompany Receivable and Payable

21

Popper
Popper
Company
Company
Intercompany
receivable/payable
$1,000
Sun
Sun
Corporation
Corporation

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The McGraw-Hill Companies, Inc., 1999

22

Profits on Intercompany Sales

Cost of
goods
$4,000
Popper
Popper
Company
Company
Sales
$6,000
Sun
Sun
Corporation
Corporation

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The McGraw-Hill Companies, Inc., 1999

23

Proprietary Theory
NonconParents trolling
share
share
Goodwill

Portion
included in
consolidated
financial
statements

Irwin/McGraw-

Fair value
increment
Book value

Recognition
Recognition of
of
Subsidiary
Subsidiary Net
NetAssets
Assets
The McGraw-Hill Companies, Inc., 1999

24

Proprietary Theory
NonconParents trolling
share
share
Revenue
Portion
included in
consolidated
financial
statements

Expenses
Net income

Irwin/McGraw-

Recognition
Recognition of
of
Subsidiary
SubsidiaryNet
Net Income
Income
The McGraw-Hill Companies, Inc., 1999

25

Parent Company Theory

NonconParents trolling
share
share
Goodwill

Portion
included in
consolidated
financial
statements

Irwin/McGraw-

Fair value
Increment
Book value

Recognition
Recognition of
of
Subsidiary
Subsidiary Net
NetAssets
Assets
The McGraw-Hill Companies, Inc., 1999

26

Parent Company Theory

NonconParents trolling
share
share
Revenue
Portion
included in
consolidated
financial
statements

Expenses
Net income

Irwin/McGraw-

Recognition
Recognition of
of
Subsidiary
SubsidiaryNet
Net Income
Income
The McGraw-Hill Companies, Inc., 1999

27

Entity Theory
NonconParents trolling
share
share
Goodwill

Portion
included in
consolidated
financial
statements

Irwin/McGraw-

Fair value
increment
Book value

Recognition
Recognition of
of
Subsidiary
Subsidiary Net
NetAssets
Assets
The McGraw-Hill Companies, Inc., 1999

28

Entity Theory
NonconParents trolling
share
share
Revenue
Portion
included in
consolidated
financial
statements

Expenses
Net income

Irwin/McGraw-

Recognition
Recognition of
of
Subsidiary
SubsidiaryNet
Net Income
Income
The McGraw-Hill Companies, Inc., 1999

29

Chapter Three

The
The
End
End

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The McGraw-Hill Companies, Inc., 1999