Chapter 4

Consolidated Financial
Statement (part 1)
Related standards:
PFRS 10 Consolidated Financial Statements
Section 9 of the PFRS for SMEs
 Learning Objectives:

• State the elements of control

• Prepare consolidated financial statements at the acquisition
• Prepare consolidated financial statements at a subsequent date
Introduction:

• Consolidated financial statements – “the financial statements of a group in

which the assets, liabilities, equity, income, expenses and cash flows of the
parent and its subsidiaries are presented as those of a single economic
entity.”
• Group – “a parent and its subsidiaries.”
• Parent – “an entity that controls one or more entities.”
• Subsidiary – “a entity that is controlled by another entity.”
All parent entities are required to prepare CFS, except:
1. A parent is exempt from presenting CFS if:
a) a. it is a subsidiary of another entity whether wholly-owned or partially-
owned) and all its other owners do no object to its non-presentation of
CFS.
b) Its debt or equity instruments are or traded in a public market (or being
processed for such purpose); and
c) Its ultimate or any intermediate parent produces CFS that are available for
public use and comply with PFRSs.
2. Post-employment benefit plans or other long-term employees benefit plans
to which PAS 19 applies.
Control
- is the basis for consolidation. PFRS 10 requires an investor to determine
whether it is a parent by assessing whether it controls the investee.
Control of an investee- “an investor controls an investee when the investor is
exposed, or has rights, to variable returns from it involvement with the
investee and has the ability to affect those returns through it power over the
investee.”

Control exists if the investor has ALL of the ff:

a. Power over the investee;
b. Exposure, or rights, to variable returns from the investee; and
c. Ability to the affect returns through use of power,
Power
- An investor has power over an investee when the investor has existing rights that
give it the current ability to direct the investee’s relevant activities.
Relevant activities – “activities of the investee that significantly affect the
investee’s returns.”
Examples of rights that can give an investor power:
a) Voting rights (or potential voting rights)
b) Rights to appoint or remove members of the investee’s key management
personnel or another entity that directs the relevant activities of the investee
c) Rights to direct the investee to enter into transactions for the benefit of the
investor; and
d) Other decision-making rights that give the investor the ability to direct the
investee’s relevant activities.
Administrative rights
- when voting rights do not have a significant effect on an investee’s
return, such as when voting rights relate to administrative tasks only and
contractual arrangements determine the direction of the relevant activities,
the investor needs to assess those contractual arrangements in order to
determine whether it has rights sufficient to give it power over the investee.
Unilateral Rights
- If two or more investors individually (unilaterally) have the ability to
direct different relevant activities, the investor that has the current ability to
direct activities that most significantly affect the returns of the investee has
power over the investee.
Protective Rights
- an investor can have power over an investee even if other entities have
existing rights that give them the current ability to participate in the direction
of the relevant activities, for example when another entity has significant
influence.
- However, an investor that holds only protective rights does not have
power over an investee, and consequently does not control the investee.
Protective rights are “rights designed to protect the interest of the party
holding those rights without that party power over the entity to which those
rights relate.
Examples:
a) A lender’s right to seize the assets of the borrower if the borrower defaults
on a loan, or to restricts the borrower from undertaking activities that are
detrimental to the lender.
b) The right of holders of non-controlling interests to approve capital
expenditure above a specified amount, or the issue of equity or debt
instruments.
Substantive Rights
- in assessing whether it has a power, an investor considers only
substantive rights, i.e., rights which the investor has the ability to
exercise.
- However, an investor that holds only protective rights does
not have power over an investee, and consequently does not
control the investee.
Application examples – Substantive rights

Fact pattern (applies to each cases)

An investee’s policies over relevant activities can be changes only at schedules shareholder’s
meetings or at a special meetings.
• The next scheduled shareholder’s meeting is in 8 months.
• Shareholder’s that individually or collectively hold at least 5% of the voting rights can call a
special meeting to change the existing policies over the relevant activities. This requires
giving notice to the other shareholders, which means that a special meeting cannot be
held for at least 30 days.
• Case #1
An investor holds a majority of the voting rights in the investee.

Analysis:
The investor’s voting rights are substantive because the investor is able to
direct the investee’s relevant activities in both a scheduled shareholder’s
meeting and a special meeting.
• Case #2
An investor owns a forward contract (or an option contract that is ‘ín the money’) to
purchase a majority of the investee’s shares. The contract’s settlement date is in 25 days.

Analysis:
The investor’s voting rights are substantive. The existing shareholders are unable to
change the existing policies over the relevant activities because a special meeting cannot
be held for at least 30 days, at which point the contract will have been settled.
• Case #3
The settlement date of the forward contract (or option contract) in case #2 is in
6 months.

Analysis:
The investor’s voting rights are not substantive. The existing shareholders can
change the existing policies over the relevant activities through a special
meeting.
Voting Rights
- the investor’s ability to direct the relevant activities of an investee is normally
obtained through voting or similar rights.

Power with a majority of the voting rights.

An investor that holds more than half (51% or more) of the voting rights of an
investee is presumed to have power over the investee, except when this is clearly
not the case.
Holding more than half of the voting rights results to power when:
a. The relevant activities are directed through majority vote; or
b. A majority of the members of the governing body that directs the relevant
activities are appointed through majority vote.
Majority of the voting rights but no power.
An investor does not have power over an investee, even if he holds more than
half of the voting rights, if:
a) The right to direct the investee’s relevant activities is conferred to a third
party who is not an agent of the investor. For example, the investee’s
relevant activities are subject to direction by a government, court,
administrator, receiver, liquidator or regulator.
b) The investor’s voting rights are not substantive.
Power without a majority of the voting rights.
An investor can have power even if he holds less than a majority of the voting
rights of an investee. For example, through:

a) A contractual arrangement between the investor and other vote holders;

b) Rights arising from other contractual arrangements;
c) The investor’s voting rights;
d) Potential voting rights;
e) A combination of (a) – (d).
Contractual arrangement with other vote holders
A contractual arrangement between an investor and other vote holders can
give the investor power if the contractual arrangement gives the investor:

a) The right to exercise the voting rights of other vote holders sufficient to
give the investor power;
b) The right to direct how other vote holders vote to enable the investor to
make decisions about the relevant activities.
The investor’s voting rights
- An investor with less than a majority of the voting right has power when he
has the practical ability to direct the relevant activities unilaterally.

Example 1
Entity A holds 40% of the voting rights of Entity B. the remaining 60% is held
by numerous shareholders in very small denominations. None of the
shareholders make collective decisions.
Analysis:
Entity A has power over Entity B because the other shareholdings are widely
dispersed and are not being exercised collectively.
Example 2
Entity A holds 30% of the voting rights of Entity B. Four other investors hold
5% each. The remainder is widely dispersed. None of the shareholders make
collective decisions. Decisions about Entity B’s relevant activities require a
majority of vote. Seventy-five percent (75%) of the voting rights have been
cast in previous shareholder’s meetings.

Analysis:
Entity A has no power over Entity B because it does not have the ability to
unilaterally direct Entity B’s relevant activities. This requires the active
participation of the other shareholders.
Example 3
Entity A holds 40% of the voting rights of Entity B. Two other investors hold
28% each. The remaining 4% is held by numerous other investors.

Analysis:
Entity A has no power over Entity B because two other investors have the
ability to cooperate and prevent Entity A from directing the relevant activities
of Entity B.
Potential voting rights
- When determining the existence of control, an investor considers potential
voting rights that are currently exercisable, regardless of the intention or
financial ability to exercise them.

Substantive removal and other rights held by other

parties
-may affect the decision maker’s ability to direct the relevant activities of an
investee.
Removal rights are “rights to deprive the decision maker of its decision-
making authority.”
Exposure or rights to variable returns
- An investor is exposed or has a right, to variable returns, if its returns from its
involvement with the investee vary depending on the investee’s performance.

Ability to use power to affect investor’s returns

- The investor’s ability to use its power to affect its returns from the investee
provides the link between power and variable returns.
Elements of Control

Power Ability to affect returns Variable returns

Control
Accounting requirements
• Reporting Dates
-the FS of the parent and its subsidiaries used in preparing CFS shall have
the same reporting date.
• Uniform accounting policies
-if the subsidiary uses different accounting policies, its financial
statements need to be adjusted to conform to the parent’s accounting
policies before they are consolidated.
• Consolidation period
- consolidation begins from the date the investor obtains control of the
investee and ceases when the investor loses control of the investee.
Measurement
• Income and expenses
- are based on the amounts of assets and liabilities recognized in the CFS
at the acquisition date.
• Investment in subsidiary
- are accounted for in the parent’s separate FS either:
1. measured at cost;
2. in accordance with PFRS 9; or
3. using the equity method
1. Measurement at cost;
-initially measured equal to the value assigned to the consideration
transferred at the acquisition date and subsequently measured at that
amount, unless the investment becomes impaired.
2. Measurement in accordance with PFRS 9
-the investment in subsidiary is initially measured equal to the value
assigned to the consideration transferred at the acquisition date and
subsequently measured at fair value.
3. Measurement using the equity method
- the investment in subsidiary is initially measured equal to the value
assigned to the consideration transferred at the acquisition date and
subsequently increased or decreased for the investor’s share in the
changes in the investee’s equity.
Non-controlling interest (NCI)
-is presented in the consolidated statement of financial position within
equity, separately from the equity of the owners of the parent.
NCI in the net assets of the subsidiary consist of:
a. The amount determined at the acquisition date using PFRS 3;
b. The NCI’s share of changes in equity since the acquisition date.

NCI in profit or loss and comprehensive income

- The profit and loss and each component of other comprehensive income in the
consolidated statement of profit or loss and other comprehensive income are
attributed to the following:
1. Owners of the parent
2. Non-controlling interests.
Preparing the Consolidated FS
*CFS are prepared by combining the FS of the parent and its subsidiaries
line by line by adding together similar items of assets, liabilities, equity,
income and expenses.

Consolidation at date of acquisition

-only the statements of financial position of the combining entities are
consolidated. The consolidation involves the following steps:
1. Eliminate the “Investment in subsidiary” account. This requires:
a. measuring the identifiable assets acquired and liabilities assumed in
the business combination at their acquisition-date fair values.
 b. Recognizing the goodwill from the business combination
c. Eliminating the subsidiary’s pre-combination equity accounts and
replacing them with the non-controlling interest.
2. Add, line by line, similar items of assets and liabilities of the combining
entities. The subsidiary’s assets and liabilities are included in the CFS at
100% of their amounts irrespective of the interest acquired by the parent.
Traditional Accounting Method
- the CFS can also be prepared by using (a) consolidation journal entries
and (b) consolidation worksheet.