CHAPTER 11 GROUP ACCOUNTS – CONSOLIDATIONS

1 INTRODUCTION

A number of companies controlled by a single body of shareholders is a group.
Although each company is a separate entity legally the shareholders are interested in
the performance of the group as a whole and so a single set of financial statements is
needed to show the combined performance of the group. The accounts of the
individual companies are combined into a set of consolidated accounts. There are other
forms of group accounts but the most common is consolidated accounts.
The essential feature of a group is that one company, the holding company, controls all
the others, the subsidiary companies. Control is of fundamental importance in the
definition of a subsidiary by FRS 2 and CA 89 to reflect the commercial substance of
the relationship between parent and subsidiary.
2 BASIC CONSOLIDATION
When a company is acquired the shares in that company are purchased and these
represent the assets and liabilities of the company. The acquiring company records the
purchase of share capital as an investment in subsidiary. This investment remains at
its historic cost. On consolidation the assets and liabilities of the companies are added
together and the investment in subsidiary is cancelled out by the shareholders funds of
the company acquired. Only the share capital of the holding company remains in the
consolidated balance sheet.
2.1 EXERCISE 1
The balance sheets of Peter plc and Paul Ltd at 1 January 20X4 are as follows:
Peter plc Paul Ltd
£ £ £ £
Fixed assets 50,000 5,000
Current assets
Stock 24,500 3,000
Debtors 17,000 2,500
Bank and cash 8,800 1,000
50,300 6,500
Creditors < one year 32,000 18,300 4,700 1,800
68,300 6,800
Share capital 30,000 2,000
Profit and loss account 38,300 4,800
68,300 6,800
Peter plc acquired all the share capital of Paul Ltd on 1 January 20X4 for £6,800 paid for
in cash.
Show Peter plc’s balance sheet after the acquisition, and the consolidated balance
sheet.
2.2 SOLUTION 1
The balance sheet of Peter plc after this transaction is:
£ £
Fixed assets
Investment in subsidiary
Current assets
Stock
Debtors
Cash ______
Creditors < one year ______
______
______
Share capital
Profit and loss account ______
______
The consolidated balance sheet is:
£ £
Fixed assets
Current assets
Stock
Debtors
Bank and cash ______
Creditors < one year ______
______
______
Share capital
Profit and loss account ______
______
2.3 GOODWILL ON CONSOLIDATION
In the above example the consideration paid by Peter plc was exactly the same as the
fair value of the net assets of Paul Ltd. This is not usually the case. When the
consideration is more than the value of the net assets then goodwill on consolidation
arises. This does not impact the balance sheet of the holding company itself but does
affect the consolidation, where it is treated as an intangible asset and dealt with in
accordance with FRS 10.
When the consideration is less that the value of the net assets acquired this is negative
goodwill or discount on acquisition. This is shown on the face of the consolidated
balance sheet under goodwill and written back to the profit and loss account over the
periods expected to benefit from the discount.
2.4 RESERVES
When a company is acquired part of the way through the year it is necessary to split
the reserves on consolidation between those which existed at the date of acquisition
(pre-acquisition reserves) and those arising after the acquisition date (post-acquisition
reserves). Post-acquisition reserves form part of the group’s profit on consolidation.
2.5 EXERCISE 2
Assuming for the above example Peter plc had paid £8,000 for the share capital on 30
June 20X3 when the profit and loss account stood at £4,000, show the consolidated
balance sheet at 31 December 20X3.
2.6 SOLUTION 2
£ £
Fixed assets
Goodwill
Current assets
Stock
Debtors
Bank and cash ______
Creditors < one year ______
______
______
Share capital
Profit and loss account ______
______
2.7 MINORITY INTERESTS
A minority interest arises if a company acquires a controlling amount of the share
capital of another company but not all of it. In order to represent the fact that the
holding company controls the assets of a subsidiary even though it does not own all of
them – there being shares owned by others – a consolidation is usually done bringing
in the counterbalancing liability of minority interest on the consolidated balance sheet.
It must be shown as a separate main heading on the balance sheet, either under total
assets less current liabilities or after the profit and loss account balance. It must not be
shown between share capital and the profit and loss account amount as this
presentation would imply that it is part of shareholders’ funds, which it is not.
2.8 EXERCISE 3
Again using Exercise 1, if Peter plc acquired 1800 shares (i.e. 90%) in Paul Ltd for
£7,200 on 30 June 20X3 what would have been the consolidated balance sheet at 31
December 20X3?
2.9 SOLUTION 3
£ £
Fixed assets
Goodwill
Current assets
Stock
Debtors
Bank and cash ______
Creditors < one year ______
______
______
Share capital
Profit and loss account
Minority interest ______
______
The minority interest is worked out as follows:
Share capital 2,000
Profit and loss account 4,800
6,800 of which 10% is not held by Peter plc, i.e.£680
2.10 SUMMARY
When goodwill, a split of reserves or minority interests are involved in a consolidation
each will require a consolidation schedule to show how the figures are calculated.
When a subsidiary is acquired part of the way through the year a consolidated profit
and loss account will also be necessary for that year, as it will be for all subsequent
years when the group trades. The net assets of subsidiaries must be brought into the
consolidated financial statements of the group at their fair value as opposed to their
book value. Fair value is exchange value at arms length between willing parties. An
adjustment may need to be done in the consolidation if this has not been done in the
books of the subsidiary.
2.11 EXERCISE 4
Plunder plc acquired 80% of Victim Ltd on 1 April 20X2. The profit and loss account
balance of Victim Ltd at that date was £3,300. The balance sheets of the two companies
at 31 December 20X2 are as follows:
Plunder plc Victim Ltd
£ £ £ £
Fixed assets 55,000 10,500
Investment in subsidiary 15,000
Current assets 37,000 9,800
Creditors < one year 18,200 6,400
18,800 3,400
88,800 13,900
Share capital 40,000 10,000
Profit and loss account 48,800 3,900
88,800 13,900
Goodwill is to be written off over four years.
Prepare a consolidated balance sheet and the necessary supporting schedules at 31
December 20X2.
3 EXEMPTIONS FROM GROUP ACCOUNTS
3.1 GROUP ACCOUNTS
There is no requirement for groups which fulfil two out of the three following
conditions to prepare group accounts:
• Turnover < £11.2m net
• Total assets < £5.6m net
• Average number of employees < 250
3.2 INDIVIDUAL SUBSIDIARY
Subsidiaries may occasionally be excluded from a consolidation – in exceptional
circumstances – on the following grounds:
• Differing activities (this is rare)
• Materiality
• Severe long-term restrictions on control
• New subsidiary held for resale
• Disproportionate expense or undue delay (permissible under CA 85 but rejected by
FRS 2)
The completeness of the information presented in the consolidated accounts should not
be put in jeopardy by excluding a subsidiary, but in cases where the exceptional
circumstances listed above are identified FRS 2 makes it mandatory for the subsidiary
to be excluded.