lesson 1 overview - units.it...theories for consolidation: parent company theory father company...

Lesson 1 Overview

4 Università degli Studi di Trieste

D.E.A.M.S.

Paolo Altin

Overview

Gruppo illy S.p.A. is the holding company of the Illy family.

The Group controls illycaffè, Domori (manufacturers of high quality chocolate products), Dammann Frères (a French company of tea dealers) and Mastroianni (a winery located in Montalcino, Tuscany).

The Group is also a shareholder in other companies, such as Agrimontana (a leader in the production of highend pastry products, including marrons glacés and fruit preserves).

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Overview

Gruppo illy S.p.A. was created with the long-term goal of developing a gastronomic pole, in which each company is a reference point of top quality.

Each company is led by its respective founder or by relevant successors, in order to guarantee a high level of independence in managerial leadership, as well as maintain intact the spirit of research and innovation of the individual brands. Riccardo Illy is the President of the Group.

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Overview

Each individual company possesses its own personal history and traditional know-how and the holding company is committed to constantly searching out the best possible synergies, also with regard to sustainability.

Illy group

Sustainable value report 2015

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Overview

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Overview

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Overview

A desire for each part to the business to have its own limited liability (financial problems in one part of the business can’t have an adverse effect on the others).

The will to make each part of the business have some sense of independence and autonomy.

To create or preserve a market image of a smaller independent business.

To separate functions of a business: production, distribution, retail, etc.

To enhance the geographical basis of a certain business .

Others.

Why businesses operate in the form of groups?

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Overview

Parent company or holding company = the company that owns the shares of the other one.

Subsidiary company = is the company whose shares are owned by the parent company.

A group exists when a parent company has one or more subsidiary companies.

Wholly owned subsidiary = where the parent company owns all the issued equity share capital of a subsidiary.

Partially or partly owned subsidiary = when the parent company owns more than 50% but less than 100% of the issued equity share capital of a subsidiary.

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Overview

«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».

IFRS 10

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Overview

This theory focuses solely on the parent’s percentage interest in the subsidiary.

Group is considered to be a consequence of equity investments in the parent company.

The net assets’ share related to minority interest is not consolidated. Non-controlling interest is not recognized.

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Theories for consolidation: Proprietary Theory

Overview

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Theories for consolidation: Proprietary Theory

FATHER COMPANY

Non-current assets 1.200 Equity 1.300

Current Assets 1.300 Liabilities 1.500

Equity investment in Son 300

2.800 2.800

SON COMPANY

Non-current assets 800 Equity 400

Current Assets 400 Liabilities 800

1.200 1.200

FATHER COMPANY - CONSOLIDATED




3.400 3.400

Father company owns 75% of the subsidiary Son. There is no goodwill.

1.200 + 75%*800

Overview

This theory considers the group as it was a single entity, therefore non-controlling interest is not expressed as a separate part of the equity.

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Theories for consolidation: Entity Theory

Overview

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Theories for consolidation: EntityTheory

FATHER COMPANY




2.800 2.800

SON COMPANY



1.200 1.200





3.700 3.700


1.300 + (400 – 300)

1.200 + 800

Overview

This theory focus on the parent but gives recognition to NCI.

The group is seen as an extension of the parent company.

The consolidation includes minority interest, that is capital invested in the subsidiaries by investors other than the parent company.

Non-controlling interest is separately presented in shareholders’ equity.

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Theories for consolidation: Parent Company Theory

Overview

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Theories for consolidation: Parent Company Theory

FATHER COMPANY




2.800 2.800

SON COMPANY



1.200 1.200



Current Assets 1.700 Non-controlling interest 100

Equity investment in Son 0 Liabilities 2.300

3.700 3.700


400*25%

Overview

Within a group, each subsidiary will prepare its own independent annual financial statements.

The law also requires that the parent company prepares a consolidated or group financial statements.

Which is included in the annual report of the parent company (along with its own financial statements).

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Overview

To prevent the preparation of misleading accounts by such means as inflating the sales through selling to another member of the group.

To provide a more meaningful EPS figure: consolidated accounts show the full earnings on a parent’s company investment while parent’s individual accounts only show the dividend received from the subsidiaries.

To provide a better measurement of the performance of a parent company’s directors: in consolidated accounts the total earnings of a group can be compared with its total assets in arriving at a group’s return on capital employed (ROCE). 20

Why are group required to prepare consolidated accounts?

Overview

In very simple terms, consolidated financial statements are a combination of the final statements of the parent company with those of its subsidiaries.

The group financial statements will look like the financial statements of the parent company had it owned and operated all of the assets of the business directly (instead of through subsidiaries).

The heading at the top of each statement should mention the word ‘consolidated’ or ‘group’. That’s the way to understand if we are reading a consolidated financial statement and not a single company’s one.

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Overview The group income statement includes the total revenue figure for

all group companies.

The balance sheet includes property, plant and equipment for all group companies.

The logic of group financial statements is that if the parent company owns enough shares to control its subsidiary, all of the subsidiary’s assets and claims should be reflected on the group balance sheet.

However, in many cases, one or two items will be reported that are peculiar to group financial statements which represent exceptions to the approach described above.

Goodwill arising on consolidation

Minority or outsiders’ interests

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Overview Goodwill arising from consolidation

It occurs when a parent company acquires a subsidiary from previous owners and pays more for the subsidiary than the value of the subsidiary’s individual assets (net of liabilities) appear to be worth.

This excess may represent such things as the value of a good reputation that the new subsidiary already has in the market, or the value of its having a loyal and skilled workforce.

Goodwill arising on consolidation will appear as an intangilble non-current asset on the group balance sheet.

...we could have a ‘negative goodwill’ as well...

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Overview

Minority or outsiders’ interest

One of the principles followed when preparing group financial statements is that all of the revenue, expenses, assets, liabilities and cash flows of each subsidiary are reflected to their full extent in the group financial statements.

This is true whether or not the parent owns all of the shares in each subsidiary, provided that the parent has control.

Control normally (but not always!) means owning more than 50 per cent of the subsidiary’s ordinary shares.

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Overview Minority or outsiders’ interest

• Where not all of the shares are owned by the parent, the investment of those shareholders in the subsidiary, other than the parent company, appears as part of the shareholders’ equity in the group balance sheet.

• This shows that, although the net assets of the group are being financed mainly by the parent company’s shareholders, ‘outside’ shareholders also finance a part.

• Similarly, the group income statement reflects the fact that not all of the net profit of the group is attributable to the shareholders of the parent company; a part of it is attributable to the ‘outside’ shareholders.

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Overview Loss of control

• Consolidation of an investee shall begin from the date the investor obtains control of the investee and cease when the investor loses control of the investee.

• If a parent loses control of a subsidiary, the parent:

a. derecognises the assets and liabilities of the former subsidiary from the consolidated statement of financial position.

b. recognises any investment retained in the former subsidiary at its fair value when control is lost

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Example Major plc has just bought, from the

previous shareholders, 45m (out of 60m) ordinary shares in Minor plc, paying £75m for them.

The remaining 15m Minor plc shares are owned by other shareholders. These shareholders are now referred to by Major plc as the ‘minority’.

Minor plc is now a subsidiary of Major plc and, as is clear from Major plc’s balance sheet, its only subsidiary company.

No intercompany transactions between Major and Minor.

MAJOR

MINOR

75%

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Example

The balance sheets of the two companies immediately following the takeover of Minor plc by Major plc were as follows:

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Example

The balance sheets of the two companies immediately following the takeover of Minor plc by Major plc were as follows:

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Example

The balance sheet of the group:

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Example Goodwill is simply the excess of what Major paid for the shares

over their fair value, based on tangible assets.

Major plc bought 45 million of 60 million shares, paying £75m.

According to Minor plc’s balance sheet, this was net assets (non-current and current assets, less current and non-current liabilities) of £80m (102 – 22). The part of this value related to Major is 60m (45/60 x 80m).

So Major plc paid £75m for £60m (that is, 45/60 × £80m) of net assets – an excess of £15m usually referred to as ‘goodwill arising on consolidation’.

The goodwill arises from the elimination of the participation in Minor.

This asset is seen as being the value of a loyal workforce, a regular and profitable customer base, and so on, that a new business setting up would not have.

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Example

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Example

Minority interests take account of the fact that, although Major plc may control all of the assets and liabilities of Minor plc, it only provides the equity finance for three-quarters of them.

The other quarter, £20m (that is, 15/60 × £80m), is still provided by shareholders in Minor plc, other than Major plc. These are ‘minority interests’ or ‘non-controlling interests’.

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Example

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After-tax profit of Minor is assumed to be £8m.

(15/60 of Minor’s after-tax profit)

Overview

PWC, Consolidation and equity method of accounting

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