5.3 Numerical Upscaling Method for the Saturation Equation
5.3.3 Computation of Source Terms
The preparation of a consolidated statement of financial position, in a very simple form, consists of two procedures.
(i) Take the individual accounts of the parent company and each subsidiary and cancel out items which appear as an asset in one company and a liability in another.
(ii) Add together all the uncancelled assets and liabilities throughout the group.
Items requiring cancellation may include the following.
(a) The asset 'shares in subsidiary companies' which appears in the parent company's accounts will be matched with the liability 'share capital' in the subsidiaries' accounts.
There may be intra-group trading within the group; as receivable in account of one company and payable in the accounts of another company, but not at the same amounts. This is applicable to dividend (dividend receivable and dividend payable), interest (interest receivable and interest payable), trade (trade payable and trade receivable), and bill (bill receivable and bills payable)
(b) The parent company may have acquired shares in the subsidiary at a price greater or less than their par value. The asset will appear in the parent company's accounts at cost, while the liability will appear in the subsidiary's accounts at par value. This raises the issue of goodwill, which is dealt with later in this chapter.
P
80 % 75 %
100 % 90 %
S 2 S 3 S 4 S 1
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(c) Even if the parent company acquired shares at par value, it may not have acquired all the shares of the subsidiary (so the subsidiary may be only partly owned). This raises the issue of non-controlling interests, (d) The inter-company trading balances may be out of step because of goods or cash in transit.
(e) One company may have issued loan stock of which a proportion only is taken up by the other company.
Pre and post-acquisition profits
When a subsidiary is acquired, it will already have accumulated profits, these are known as pre-acquisition profits. These profits are not part of the group, and therefore are not shown in the consolidated reserves. All the profits earned after the subsidiary was acquired will belong to the group, but only to the extent of the share ownership. These are known as post acquisition retained reserves (PARR).
Therefore the pre-acquisition profits are included in the goodwill calculation, and the share of post-acquisition profits is shown in the consolidated reserves. Post-acquisition profits are easily established as profits at the balance sheet less profits at date of acquisition.
Pre-acquisition reserves are all reserves whether capital or revenue in nature, existing on the date of acquisition of the interest of the parent company in the subsidiary company. If a subsidiary has already been trading before it is acquired by a parent company, it will already have reserves (share premium account, capital redemption reserve, revaluation reserve, income statement etc) in its statement of financial position. The reserves which are built up before the date of acquisition are known collectively as pre- acquisition profits.
Post-acquisition reserves on the other hand, refer to all reserves that are generated after the acquisition date.
These are not capital investment (in fact, they represent a return on the investment in subsidiary).In this context, post-acquisition profits include any increase in reserves owned by the share after the date of acquisition. This includes, not just profits in the subsidiaries’ income statement, but also increase in other reserves such as the revaluation reserve (i.e. when a subsidiary’s fixed assets are revalued). The group’s share of post-acquisition profits should be included in the group’s reserves in the consolidated statement of financial position.
Non Controlling Interest
The Non-controlling interest in a subsidiary consists of shareholders who are not part of the parent company and they are totally unaffected by any distinction between pre- and post- acquisition profits. In other words, the Non-controlling interest (in a subsidiary’s ordinary shares) in the consolidated statement of financial position will be the appropriate percentage of the subsidiary’s net assets.
Goodwill
When a premium is paid above the fair value of the net assets acquired over a subsidiary, it results in goodwill.
IFRS 3 business combinations states the positive purchased goodwill must be capitalised upon consolidation and reviewed for impaired at least annually under IAS 36 impairment of assets. The impairment goes through the consolidated income statement.
Negative goodwill is investigated and is taken to the consolidated income statement immediately as a credit.
Negative goodwill is also known as “bargain purchase”.
The new revised IFRS 3 method of calculating goodwill now gives the parent company a choice between 2 methods of calculating goodwill and dealing with NCI:
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(i) NCI’s share of net assets - this is the old method (also known as the partial goodwill). Here the goodwill is calculated in the traditional way. The NCI are basically ignored in the goodwill calculation and just the parent’s share is shown.
(ii) Fair value – this is the new method (also known as the full goodwill). Both the parent’s and the NCI’s goodwill is established and shown in the consolidated financial statements.
Illustration 1
Extracts from the Statement of Financial Position of Holiva Plc and Long Gear Plc as at 31/12/2010 are as follows:
Holiva Plc Long Gear Plc N’000 N’000 Share Capital
Ordinary share at N1.00 each 180,000 60,000 Accumulated Reserves 48,00024,000
228,00084,000
The entire share capital of Long Gear Plc was acquired when the accumulated reserves was N18 million. Cost of acquisition was N88 million.
Required: Calculate the goodwill SOLUTION
Net Assets N’000
Ordinary Share Capital 50,000 Pre-Acquisition Reserves 18,000
68,000
Cost 88,000
Goodwill 20,000
Illustration 2
On 1 January 20X0 Rose plc acquired 100% of the 10,000 N1 common shares in Tulip plc for N1.50 per share in cash and gained control. The fair value of the net assets of Tulip plc at that date was the same as the book value.
The statements of financial position at the date of acquisition were as follows:
Rose plc Tulip plc
N N
ASSETS
Non-current assets 20,000 11,000
Investment in Tulip 15,000 —
Net current assets 8,00 3,000
Net assets 43,000 14,000
Share capital 16,000 10,000
Retained earnings 27,000 4,000
43,0000 14,000
Required: Prepare the group accounts immediately after the acquisition.
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Rose plc Tulip plc Group
N N N
ASSETS
Non-current assets 20,000 11,000 31,000
Goodwill — — 1,000
Investment in Tulip 15,000 — —
Net current assets 8,000 3,000 11,000
Net assets 43,000 14,000 43,000
Share capital 16,000 10,000 16,000
Retained earnings 27,000 4,000 27,000
43,000 14,000 43,000
Note 1
Net Assets Acquired 14,000
Cost of Acquisition (10,000x1.50) 15,000
Goodwill 1,000
Note 2 N
Non-current assets other than goodwill (20,000 + 11,000) 31,000
Goodwill (as calculated in Note 1) 1,000
Net current assets (8,000 + 3,000) 11,000
43,000
Note 3. Calculate the consolidated share capital and reserves for the group