Consolidated Statement of Financial Position on the Date of Acquisition
LEARNING OBJECI!ES 
• Know the criteria for consolidation of a subsidiary
• Understand the Parent Company approach and the Economic Unit approach of consolidation
• Prepare a worksheet for a Consolidated Statement of Financial Position for affiliated companies
immediately after acquisition
The concept of consolidation
A consolidated financial statement for a parent company and its subsidiaries is a financial
statement prepared by combining the individual statements of the affiliated companies As you will see! a
number of ad"ustments! called elimination entries! are required immediately prior to combining the
accounts #he need to make ad"ustments to the accounts before consolidating means that the most efficient
way to prepare consolidated financial statements is with the use of a consolidated statements worksheet $n
this chapter you will learn how to prepare a worksheet for a consolidated statement of financial position
immediately after acquisition of a subsidiary company by a parent company $n subsequent chapters! you
will learn how to prepare a full set of statements %$ncome Statement! Statement of &etained 'arnings!
Statement of Financial Position! and Statement of Cash Flows( in the years subsequent to the acquisition
Consolidated statements worksheets are off the books in the sense that none of the accounting
work involved in their preparation! including the elimination entries,  is entered into the "ournals and
ledger of either the parent company or the subsidiary companies &ecall from Chapter )! however! that the
 parent company does record entries to account for its investment in the subsidiary using either the cost
method or the equity method $n order to contrast the difference between cost or equity method
ad"ustments %on the parent company books( with elimination entries %on the consolidated worksheet only(!
this book shows all elimination entries in a shaded format
#he purpose of consolidated financial statements is to show the financial position and results of
operations of separate! but affiliated companies! as if they were a single company #his approach is in
accordance with the economic entity concept Under the economic entity concept! *AAP requires a
single set of financial statements be prepared for each economic entity +hen an entity consists of more
than one corporation! consolidated financial statements are required Consolidated financial statements
,
 
 present the financial position and results of operations of the economic entity that consists of two or more
legal entities #hese separate legal entities! the parent company and the subsidiaries! continue to e-ist
separately #herefore it would not be appropriate for the financial activities of the parent and subsidiaries
to be actually combined into a single set of accounting records Figure , illustrates the relationship
 between a Parent Company and its Subsidiaries
Insert Figure 1 about here
.istorically! a consolidated statements worksheet was done by hand on one or more accountant/s
worksheets 0epending on the particular approach used! a worksheet to consolidate one parent company
and one subsidiary requires a worksheet of si- or more columns! resulting in the need to use a foldout
worksheet 1 what is usually called ,) column or ,2 column working paper +ith the advent of the personal
computer %PC(! it is more efficient to prepare these worksheets using a PC spreadsheet +hile the
mathematics of consolidated statements worksheets are not comple-! the need to post elimination entries
makes the PC spreadsheet a very efficient way of preparing consolidated financial statements
3earning the theory and practice of consolidated financial statements is a very important sub"ect in
financial accounting because the practice is so common #he vast ma"ority of publicly traded companies!
as well as many closely held companies have subsidiaries As was observed in Chapter ,! there are several
reasons for these affiliations 4usiness corporations with international operations normally will form
separate subsidiary companies for each country or geographic region in which they have substantial
operations #his approach to organi5ing the business is dictated by legal considerations! ta-ation! and the
natural effect of cultural diversity on business practices! production and distribution! and product mi- For
e-ample! the pharmaceutical manufacturer 6ohnson 7 6ohnson has about ,89 operating companies
worldwide,  Subsidiaries will also often be established for diversified companies or for lines of business!
which form an essential component of corporate activity but are functionally unrelated to the core business
A common e-ample of this type of situation is the e-istence of finance type subsidiaries :any
manufacturers of durable goods %automobiles! appliances! and farm equipment( have finance subsidiaries
that provide financial services to consumers or dealers Another e-ample is the ownership by retailing
)
 
whose operations complement the operations of the parent company! which will often be in another
industry FAS4 Statement ;2 requires that all ma"ority owned subsidiaries be consolidated! including those
whose principal business is financial services #he footnote disclosures shown below for the Ford :otor
Company indicate how significant the financial services segment can be $n ,;;<! Ford :otor Company/s
financial services segment! consisting principally of a subsidiary %Ford Credit( earned =)!8;, million as
compared with =)!>,< million from automotive sales
Reporting of Manufacturing and Financial er!ices Income
Automotive ,;;< ,;;> ,;;2 Financial Services ,;;< ,;;> ,;;2
Sales? &evenues?   United States =8<!92@ =8!@89 =8!8>; United States =))!@; =),!@ =,8!><   'urope )8!99< )<!,) ))!<) 'urope !82) !,22 )!<   All Bther ,2!;<; ,9!2;2 ,9!8>> All Bther )!<>8 )!,,2 ,!<,9
#otal =,,@!;< ;
=,,9!2; <
#otal =)@!;<@ =)<!<2, =),!9)
Bperating income? et income?   United States =)!@99 =)!29; =2!,, United States =)!),< =,!8,@ =,!,,;   'urope %2;8( )9 <,, 'urope )<@ ), ),@   All Bther ), @>) ,!9@2 All Bther 98 22 @
#otal =)!>,< =!)@, =>!@)< #otal =)!8;, =)!9@ =,!;>
ource" #nnual report of the Ford Motor Company for 1$$%&
Consolidation policy – the criteria for consolidation
As the above discussion demonstrates! there are many different reasons for corporate affiliations
and many different types of affiliated companies $n addition! a subsidiary need not be ,99D owned
$ndeed! one of the advantages of the stock ac'uisition business combination is that control of a subsidiary
can be achieved with less than ,99D ownership! whereas a merger cannot normally be accomplished with
much less than complete ownership Prior to ,;@8! *AAP required a subsidiary to becontrolled and to
have economically homogeneous operations in order to be consolidated Control was generally
interpreted to mean ownership of more than >9D of the voting common stock of the subsidiary unless other 
circumstances indicated that it was controlled by another entity! such as a bankruptcy trustee #he concept

 
carried as investments in the consolidated financial statements #he result of this approach was that the
consolidated financial statements would not report any of the assets and liabilities of these unconsolidated
subsidiaries but would simply show a single account for the investment in the common stock #he income
statement of the consolidated entity would report a single line in the income statement for these subsidiaries
as well 1 e'uity in the income of unconsolidated subsidiaries
#he problem with the above approach was that it results in less than optimal disclosure!
 particularly in the statement of financial position A brief discussion of the relationship between a
manufacturing or retailing parent company and its financial services subsidiary is illustrative Bne purpose
of a financial services subsidiary is to make loans to consumers or dealers who purchase the products of the
 parent company #he operating profit of such a subsidiary results from its fees for servicing the loans to its
customers and from the interest it charges on those loans #he subsidiary can also leverage its investment
and increase profitability by borrowing 0epending on the level of risk it chooses to take! some portion of
the subsidiary/s debt will be long term debt #he subsidiary/s principal business is financing the parent
company/s sales! either by direct loans to the customer or by purchasing the receivables of the parent
company in accordance with a factoring arrangement #he transactions! which finance the sales of the
 parent company! allow the parent company to report its sales as essentially cash sales #he parent company
also avoids the need to borrow money to finance its sales! which function being done by the subsidiary
#he financial reporting problem that arises is that the parent/s financial statements will not show either the
receivable from the lending transactions or the related long term debt if the subsidiary is unconsolidated
As mentioned earlier! prior to ,;@8! *AAP did not allow consolidation of this type of subsidiary! giving
rise to a reporting problem that became known as off balance sheet financing
E$n ,;@8 the FAS4 issued FAS4 Statement o ;2! Consolidation of All :a"orityGBwned
SubsidiariesH! which was designed to provide financial statement users with more complete information
about the financial position of consolidated entities)  FAS4 Statement o ;2 requires consolidation of all
ma"orityGowned subsidiaries unless control is deemed temporary or control does not rest with the parent
company A subsidiary in the process of being sold or spunGoff is an e-ample of a temporarily controlled
subsidiary Bther conditions may result in control being transferred from the parent company to another
) Statement of Financial Accounting Standards o ;2! Consolidation of All Majority-Owned Subsidiaries  %Stamford! C#? Financial Accounting Standards 4oard! ,;@8(
2
entity For e-ample! the courtGappointed trustee would normally control a subsidiary in bankruptcy $n
addition! a subsidiary domiciled in another country may be controlled by the government of that country
under certain conditions #he imposition of capital repatriation restrictions by the local government is
generally grounds for nonconsolidation Unconsolidated subsidiaries are accounted for by the equity
method and reported in the consolidated financial statements as investments .owever! the e-istence of
conditions which give rise to uncertainty regarding the reali5ation of the investment in the subsidiary
require use of the cost method &efer to Figure )G, in Chapter ) for a flow chart of the decision process for 
accounting for passive! substantial influence! and controlled investments in common stock
Consolidation of Finance Company ubsidiaries
#he following data taken from the annual report of the (eneral Electric Company illustrate the potential
impact of finance company subsidiaries on a consolidated statement of financial position?
*eneral 'lectric Company and Consolidated Affiliates
*eneral 'lectric Company Separate
)otal #ssets %millions of US=( *+- *. */..
)otal 0iabilities
ource" ,;;8 annual report of *eneral 'lectric Company
$n ,;;<! the FAS4 issued a proposed statement of financial accounting standards that would
change the definition of control  Under this proposal! control of a subsidiary may be presumed even if the
subsidiary is not ma"ority owned #he proposed standard does not specify an e-act percentage which
allows the presumption of control but does require consideration of the circumstances of the investment
 prior to making a decision regarding the choice of accounting method for the investment For e-ample!
control may be present if a parent company owns a maority of the common stock !oted in the most
recent stockholders/ meeting Bther issues which affect the decision to consolidate include the presence or
absence of another large minority investor! the ability to affect the election of a ma"ority of directors! and
the ability to influence ma"or policy decisions of the investee
 Proposed Statement of Financial Accounting Standards! Consolidated Financial Statements: Policy and
 Procedures %Stamford! C#? Financial Accounting Standards 4oard! ,;;>(
>
 
All companies must disclose consolidation policy in footnotes to financial statements if subsidiary
operations materially affect the financial statements2  #his disclosure is frequently the first of the
accounting policies footnotes Figure ) shows an e-amples from two recent corporate annual reports
Place figure / about here
Interpreti!e e2ercise" Following FAS4 ;2 criteria! a 2;D owned finance affiliate would not be consolidated #he criteria for consolidation in the ,;;< FAS4 e-posure draft would require consolidation of a 2;D owned affiliate if the 2;D holding were sufficient to e-ercise control over corporate policy +hy might a company create a financing affiliate and retain only a minority interest in its common stockI
Consolidation theory
&ecall that a merger transaction accounted for by the purchase method of accounting %Chapter ,(
requires the assets and liabilities of the merged company be recorded at fair market value on the books of
the acquiring entity #he purchase method of accounting also requires reporting the assets and liabilities of
a subsidiary in the consolidated financial statements on the date of acquisition at fair market value +hen
the subsidiary is less than ,99D owned! a question arises regarding the values to be assigned to
consolidated subsidiary assets and liabilities whose book values and fair market values differ on the
acquisition date #wo alternative practices e-ist Currently! the most common practice is to follow what is
called the parent company approach Under the parent company approach the assets and liabilities of
the subsidiary are consolidated at an amount equal to their book value plus the controlling interest share of
the amount by which fair market value e-ceeds book value on the date of acquisition For e-ample! assume
an @9D owned subsidiary had buildings with a book value of =,99!999 and a fair market value of =)99!999
on the acquisition date #he consolidated statement of financial position as of the date of acquisition would
report these buildings at =,@9!999 %historical book value plus @9D of the costGbook value differential(!
following the parent company approach #he argument in favor of this approach is that the acquisition
transaction by the parent company involves only the controlling interest share of the fair market value 1
 book value differential +hile this argument may be valid on strict technical grounds! it is not consistent
with economic reality
<
 
#he ,;;> FAS4 draft e-posure opinion>! Consolidated Financial Statements: Policy and
 Procedures! recommended that the parent company approach to preparation of consolidated financial
statements be prohibited $n its place! only the economic unit approach would be permitted Under the
economic unit approach! subsidiary assets and liabilities would be consolidated at the same values for
 both wholly owned and less than ,99D owned subsidiaries Under this approach! all subsidiary assets and
liabilities would be consolidated at fair market value on the date of acquisition $n the above e-ample!
subsidiary buildings with a book value of =,99!999 and a fair market value of =)99!999 on the acquisition
date would be consolidated at =)99!999 #he e-istence of a noncontrolling interest would not affect asset
valuation #his approach is consistent with the move toward fair market value recognition that permeates
all recent FAS4 Standards! notably those concerned with investments %FAS4 Statements ,,> 7 ,)2( and
contributions %FAS4 Statement ,,<(<  #he illustrations that follow in this and later chapters follow the
economic unit approach
parent company approach as compared with the economic unit approach
Parent company
L
CI3 - '-cess of F:M over 4M of Subsidiary net assets
Economic unit
L
13 of '-cess of F:M over 4M of subsidiary net assets
+here? C$D controlling interest percent F:M fair market value 4M book value
>  Ibid < Statement of Financial Accounting Standards o ,,>! Accounting for Certain In!estments in Debt and
 "#uity Securities Statement of Financial Accounting Standards o ,)2! Accounting for Certain
 In!estments by $eld by %ot-for-Profit Organi&ations Statement of Financial Accounting Standards o ,,<! Accounting for Contributions 'ecei!ed and Made  %Stamford! C#? Financial Accounting Standards 4oard! ,;;>G,;;<(
8
Proportional consolidation 4 a hybrid approach to in!estment reporting
A third alternative approach is theoretically possible and sometimes used in unusual circumstances!
 particularly where companies wish to adopt a compromise approach that falls between the equity method
and consolidation #his approach! called proportional consolidation consolidates only the controlling
interest share of the investee/s assets and liabilities8  Proportional consolidation is a generally accepted
 practice in the petroleum industry for e-ploration and production ventures $n order to diversify risks!
e-ploration efforts are often conducted as "oint ventures where no company owns a ma"ority interest in the
venture For e-ample! assume a 29D owned investee had buildings with a book value of =,99!999 and a
fair market value of =)99!999 on the acquisition date Proportional consolidation would report these assets
at a value of =@9!999 %=)99!999 - 29D( in the consolidated financial statements Figure ) shows a footnote
from the ,;;< annual report of the Bccidental Petroleum Corporation describing its use of proportional
consolidation Proportional consolidation may seem intuitively appealing at first glance! but this approach
should not be used for controlled subsidiaries 4oth the parent company and the economic unit
approaches to consolidation provide more complete information for the statement user #hese approaches
show subsidiary assets and liabilities at appro-imately full value on the date of acquisition and also present
an equity account for the noncontrolling interest in the consolidated statement of financial position
Concept 'uestion and reflection" +hat are some of the ways that fair market value of business assets can  be determinedI
Consolidated Statement of Financial Position at the date of Acquisition
135o6ned subsidiaries 4 cost and book !alue e'ual
#he procedures for consolidation of purchase method subsidiaries begins with an allocation
schedule #his schedule is identical to the schedule used for applying the equity method of accounting as
illustrated in Chapter ) #he allocation schedule is prepared as of the date of acquisition and supports the
consolidation procedures used in all future years e-t! a worksheet for consolidated financial statements
@
 
is prepared $n simple illustrations the consolidated statements worksheet may seem unnecessary because
of the small number of ad"ustments required .owever! we will see that more comple- consolidation
situations are much easier to analy5e using a worksheet than would be the case in attempting to prepare the
statements in a less formal way
As an illustration! assume that on 6anuary ,! ,;-9 3ogan Company acquires ,99D of Kelly
Company common stock for a cash price of =,99!999 in a business combination accounted for by the
 purchase method Bn the date of acquisition Kelly Company capital consists of >9!999 shares of =, par
value common stock outstanding and a retained earnings balance of >9!999 #here are no direct acquisition
costs and Kelly/ assets have book values appro-imately equal to fair market values on the date of
acquisition #he "ournal entry to record this acquisition on the books of 3ogan is?
 1/1/x0 Investment in Kelly Company 100,000
 Cash 100,000
An allocation schedule for the acquisition of Kelly by 3ogan is as follows?
Cost of Kelly Stock 100,000$
Stockholders' equity of Kelly
Retained earnings 50,000 
Excess of cost over book value -$
$n this simple e-ample a consolidated balance sheet for Kelly and 3ogan on 6anuary ,! l;-9 is
 prepared by combining the accounts of the two companies after making one worksheet elimination entry
#his entry requires that we eliminate both the $nvestment in Kelly account and the stockholders/ equity
accounts of Kelly #o illustrate how this elimination entry is made refer toE2hibit +51! which shows the
worksheet for the Consolidated Statement of Financial Position Assume that the assets! liabilities! and
stockholders/ equity of 3ogan and Kelly immediately after the acquisition of the Kelly common stock by
3ogan on 6anuary ,! ,;-9 are as illustrated in the first two columns of the worksheet shown in E2hibit +51
;
 
worksheet and e-tending the balances of the assets and liabilities across the worksheet to the consolidated
column $n general "ournal form entry %,( is as follows?
1/1/x0 Common stock, Kelly 50,000 
Retained earnings, Kelly 50,000 
Investment in Kelly 100,000 
E2hibit +51 shows how the consolidated statements worksheet transforms two separate financial
statements into a single financial statement 'ntry %,( accomplishes two ob"ectives First! it eliminates the
account $nvestment in KellyH! which is replaced by the individual assets and liabilities of Kelly in the
consolidated statement Second! the entry eliminates the stockholders/ equity accounts of Kelly Since
3ogan owns all of Kelly Company common! from a consolidated viewpoint Kelly Company common stock 
is essentially treasury stock Since *AAP requires reporting treasury stock as temporarily retired!
subsidiary stock is eliminated in a consolidation )he concept that dri!es all consolidation procedures is
that consolidated financial statements should sho6 only the results of transactions 6ith outsiders
#he effects on the accounts of transactions between the parent company and its subsidiaries or between
subsidiaries should always be eliminated
0ess than 13 o6ned subsidiaries 4 cost and book !alue e'ual
Assume that 3ogan acquired only an @9D interest in the common stock of Kelly $f the price paid
for Kelly common is equal to the book value of the net assets of Kelly! the price paid by 3ogan would be
=@9!999
$n order to prepare a consolidated statement of financial position! an allocation schedule is first prepared?
Cost of Kelly Stock 80,000$
Stockholders' equity of Kelly
Retained earnings 50,000 
Excess of cost over book value -$
,9
 
$f the subsidiary is less than ,99D owned! a noncontrolling interest in the equity of the
consolidated companies e-ists $n order to show this noncontrolling interest in the consolidated statement
of financial position! the entry to eliminate the $nvestment in Kelly and Kelly/s equity accounts is altered
slightly?
 Retained earnings , Kelly 50,000
Noncontrolling interest 20,000
#he entry eliminates ,99D of the stockholder/s equity of Kelly and the account $nvestment in
KellyH #he noncontrolling interest equity account is equal to the noncontrolling interest percentage %)9D(
multiplied times Kelly stockholders/ equity %=,99!999( #he noncontrolling interest account is a new
account! created by this entry #herefore! the noncontrolling interest is shown in the consolidated
statements but does not appear in separate statements of either the parent company or its subsidiaries #he
worksheet for the consolidated statement of financial position is shown in E2hibit +5/
Place E2hibit +5/ about here 7see E2cel Files8
13 o6ned subsidiaries 4 cost greater than book !alue
+hen the cost of a subsidiary investment e-ceeds the underlying book value of the subsidiary/s
net assets as of the date of acquisition! additional elimination entries are required #he purchase method of
accounting for business combinations requires that a consolidated balance sheet show the assets of the
subsidiary in the financial statements at the fair market value as of the date of acquisition Subsidiary
assets should not be consolidated at book value if fair market value and book value are different on the
acquisition date As in the previous illustrations! the first step in preparing a worksheet for consolidated
financial statements is to construct an allocation schedule based on the acquisition data As an e-ample
assume that Picardi Company acquires Sanche5 Company on 6anuary ,! ,;-9 in a purchase method
 business combination whereby Picardi pays =,>9!999 for all of the outstanding common stock of Sanche5
Company $n addition! Picardi incurs =,9!999 in direct acquisition costs in the form of consulting fees
$mmediately prior to the acquisition! Sanche5 had assets and liabilities with book and fair market values on
6anuary ,! ,;-9 as shown in E2hibit +5+&
,,
 
January 1, 19x0
Cash $15,000 $15,000
Common s tock, Sanchez $5 par 50,000 
Additional paid in Capital 20,000 
Retained earnings, Sanchez 50,000 
$157,500
+hen the cost of an investment in a subsidiary company is not equal to the underlying book value
of the subsidiary/s net assets! the assets and liabilities of the subsidiary must be ad"usted in the consolidated
statements to fair market value Accordingly! an allocation schedule is required #his schedule is prepared
in same manner as for an investee to be merged or for an investee accounted for by the equity method #he
allocation schedule for the acquisition of the Sanche5 $nvestment by Picardi is shown in E2hibit +5- #his
schedule also provides all the necessary data needed for the elimination entries in the worksheet for a
consolidated statement of financial position
,)
 
Stockholders' equity of Sanchez
Additional paid in Capital 20,000
Retained earnings 50,000 
Excess of cost over book value 40,000$
Allocation:
Excess of cost over book value 40,000$
Using the data in the allocation schedule the following elimination entries are required for the
consolidation of Picardi and Sanche5 as of 6anuary ,! ,;-9 #he first entry eliminates the stockholders/
equity accounts of the subsidiary and Picardi/s account! $nvestment in Sanche5H #he difference between
these two accounts is the e2cess of cost o!er book !alue that must be assigned to other subsidiary accounts
in the consolidation #he e-cess of cost over book value in the allocation schedule represents the total
amount of additional net upward valuations that must be made in the subsidiary/s net assets upon
consolidation For purpose of convenience and illustration this allocation is made in a second entry Jou
will see that the two entries may be easily combined into a single compound entry .owever! we will
continue to illustrate this process in separate entries for reasons of clarity #he second entry eliminates the
e-cess of cost over book value and ad"usts the remaining assets and liabilities of the subsidiary in
,
 
Additional paid in Capital, Sanchez 20,000 
Retained earnings, Sanchez 50,000 
Investment in Sanchez 160,000 
Excess of cost over book value 40,000 
#he separate financial statements of the two companies! the elimination entries! and the consolidated totals
for the statement of financial position on 6anuary ,! ,;-9 are shown in E2hibit +5.
Place E2hibit +5. about here 4 see E2cel files&
0ess than 13 o6ned subsidiaries 4 cost greater than book !alue
+hen a subsidiary with undervalued net assets is acquired in a transaction where less than ,99D
of its outstanding voting common stock is acquired! the noncontrolling interest is affected@  E2hibit +5% 
shows an allocation schedule for the Picardi 1 Sanche5 consolidation assuming that Picardi pays the same
 price as in E2hibit +5-! but acquires only a ;9D interest in the voting common stock of Sanche5 4ecause
Picardi acquires only a ;9D interest! the e-cess of cost over book value increases to =>)!999 #he
allocation section of the schedule is also affected by the e-istence of a ,9D noncontrolling interest in the
subsidiary Any ad"ustment in the identifiable net assets of the subsidiary will now change the amount of
the noncontrolling interest $n this e-ample! the building is undervalued by =>!999 and the equipment is
undervalued by =,9!999 +hen these are ad"usted upward on the consolidated statements worksheet! the
noncontrolling interest must be increased by ,9D of the total of these two ad"ustments! or =,!>99 %=,>!999
- ,9D( )he remaining amount of the e2cess of cost o!er book !alue of *+9,. is assumed to be
applicable to unidentifiable assets 4 good6ill& Furthermore, this good6ill is deemed to be solely
@ #here are several ways this scenario may be handled in the consolidated statements worksheet According to the parent company approach! only that portion of cost book value differentials applicable to the controlling interest should be reflected in the consolidated statements .owever! the action required by the economic unit approach is to ad"ust subsidiary identifiable net assets to ,99D of fair market value as of the date of acquisition All illustrations in this book follow theeconomic unit approach
,2
 
applicable to the controlling interest ! thus no further ad"ustment is needed to the noncontrolling interest
account;
Place E2hibit +5% about here 4 see E2cel files
Using the data in the allocation schedule the following elimination entries are required for the
consolidation of Picardi and Sanche5 as of 6anuary ,! ,;-9 #he first entry eliminates the stockholders/
equity accounts of the subsidiary! the parent/s account $nvestment in Sanche5H! and establishes a
noncontrolling interest equal to the subsidiary stockholder/s equity multiplied by the noncontrolling interest
%,9D( #he difference between these three amounts is the e-cess of cost over book value! which will be a
debit amount when the price paid for the investment e-ceeds the fair value of the subsidiary net assets on
the date of acquisition #he second entry assigns the e-cess of cost over book value to the appropriate
accounts in accordance with the allocation schedule #hus the buildings account and the equipment
account are increased by =>!999 and =,9!999 respectively resulting in these items being reported at fair
market value on the date of acquisition #he noncontrolling interest account initially set up in the first entry
is increased by =,!>99 to reflect the increased carrying values of the identifiable assets! and the remaining
amount of the e-cess of cost over book value is recorded as goodwill %applicable to the controlling
interest(
Additional paid in Capital, Sanchez 20,000 
Retained earnings, Sanchez 50,000 
Investment in Sanchez 160,000 
Noncontrolling interest 1,500 
N%Sanche5 equity of =,)9!999 O ,9D(
,>
 
#he separate financial statements of Picardi and Sanche5! the elimination entries! and the consolidated
totals for the statement of financial position on 6anuary ,! ,;-9 are shown in E2hibit +5:
Place E2hibit +5: about here 4 see E2cel files
Financial statement disclosure of noncontrolling interest
+hen a noncontrolling interest e-ists as a result of a less than ,99D owned subsidiary! a question
arises regarding the appropriate classification of the noncontrolling interest account in the consolidated
statement of financial position #hree potential classifications e-ist #he noncontrolling interest could
 potentially be shown as a liability! as an element of stockholders/ equity! or in a separate section between
the liability and stockholders/ equity sections in the consolidated statement of financial position $n an
e-posure draft issued on Bctober ,<! ,;;> the FAS4 gave strong endorsement for inclusion of
noncontrolling interest in the stockholders/ equity section,9  oncontrolling interest does not meet the
definition of a liability in FAS4 Concepts Statement o < thus it seems clear that this alternative is not
appropriate,,  #he other alternative! showing the noncontrolling interest in the statement of financial
 position between the liability and stockholders/ equity section! is the most common disclosure under
current practice #he FAS4 carefully considered this alternative and concluded that the definition of
stockholders/ equity is broad enough to include noncontrolling interests even though! from a strict technical
standpoint! the subsidiary shareholders that make up the noncontrolling interest are not shareholders of the
 parent company #he FAS4 further concluded that there was no compelling reasonH to establish a separate
section in the Consolidated Statement of Financial Position for noncontrolling interests,)  #hus! the
appropriate disclosure of noncontrolling interests from a conceptual perspective is to include this account
as a separate element of stockholders/ equity
Comprehensi!e illustration
Assume that Prospect Company acquires ;9D of the voting common stock of Sunshine Company
for =);9!999 on 6anuary ,! ,;-9! and also incurs an additional =,9!999 of direct acquisition costs #he
statement of financial position of Sunshine Company and the fair market values of its assets and liabilities
,9 Proposed Statement of Financial Accounting Standards! Consolidated Financial Statements: Policy and
 Procedures %Stamford! C#? Financial Accounting Standards 4oard! ,;;>(! pars ))! ,9,G,98 ,, Statement of Financial Accounting Concepts o <! "lements of Financial Statements %Stanford! C#? Financial Accounting Standards 4oard! ,;@>( ,) Proposed Statement of Financial Accounting Standards! Consolidated Financial Statements: Policy and
 Procedures %Stamford! C#? Financial Accounting Standards 4oard! ,;;>(! par ,9<
,<
 
as of 6anuary ,! ,;-9 is shown in E2hibit +59 4ased on this information! an allocation schedule necessary
to prepare a consolidated statement of financial position for both Prospect Company and Sunshine
Company is shown in E2hibit +5$
Place E2hibits +59 and +5$ about here 4 see E2cel files
#he allocation schedule shows an e-cess of cost over book value of =,)2!>99 #his is the amount
 by which the net assets of Sunshine must be increased in total in the consolidation elimination entries #he
allocation section of the schedule provides the necessary detail to make these entries ote that the
inventory! land! and building accounts are all undervalued #hus these accounts will be debited in the
elimination entries #he equipment! however! is o!er!alued by *1.,! and will have to be decreased in
value by an elimination entry Since a decrease in an asset account must be accomplished with a credit!
this overvaluation is shown in the allocation schedule as a negative number ote also that the longGterm
debt is o!er!alued by *1, $n the consolidations worksheet! an elimination entry will be needed which
includes a debit to this account for =,9!999! because longGterm debt has a credit balance Accordingly! the
allocation schedule shows the overvaluation of longGterm debt as a positive number In effect, the
allocation schedule sho6s the elimination entry debits as positi!e amounts and the elimination entry
credits as negati!e amounts
$n addition to the investment in subsidiary account and the subsidiary stockholders/ equity! other
accounts may require elimination as well An important category of these is intercompany debts $f any of
the companies involved in a consolidation has obligations to any of the other companies! intercompany
debt e-ists For e-ample! assume Sunshine Company owes Prospect Company =8!999 #his intercompany
debt would be shown on the books of Sunshine as an account payable and on the books of Prospect as an
account receivable either of these amounts may be included in the financial statements because! from a
consolidated perspective! neither the payable nor the receivable involves an e-ternal entity
As in the previous illustrations! the noncontrolling interest must be increased by the
noncontrolling interest percent multiplied by the net increase in the identifiable assets of the subsidiary
#he residual number in the allocation schedule is the goodwill! which is only applicable to the controlling
interest shareholders #he required elimination entries for this consolidation! including the entries based on
the allocation schedule in E2hibit +5$ and the intercompany account payable are as follows?
,8
Additional paid in Capital, Sunshine 25,000 
Common stock, Sunshine 100,000 
Retained earnings, Sunshine 70,000 
Investment in Sunshine 300,000 
1/1/x0 Accounts payable 7,000 
Accounts receivable 7,000 
#he first entry eliminates the stockholders/ equity of Sunshine and the parent company/s account!
investment in Sunshine #his entry also establishes a =,;!>99 noncontrolling interest account equal to the
noncontrolling interest percent %,9D( of Sunshine Company stockholders/ equity #he debit difference
 between these three amounts is equal to the e-cess of cost over book value in the allocation schedule
%E2hibit +5$( #he second entry eliminates the unallocated differential by assigning it to the assets and
liabilities of the subsidiary based upon the allocation schedule #he third entry eliminates the intercompany
account receivable and account payable #he separate financial statements of the two companies! the
elimination entries! and the consolidated totals are shown in E2hibit +51 ote that the debit in entry
three is posted to the current liabilitiesH account because no separate account for accounts payable appears
in the consolidated statement of financial position
Place E2hibit +51 about here 4 see E2cel files
ummary
• Know the criteria for consolidation of a subsidiary
• Understand the Parent company approach and the Economic unit approach of consolidation
• Prepare a worksheet for a Consolidated Statement of Financial Position for affiliated companies
immediately after acquisition
,@
 
Consolidated financial statements are based on the theory that the primary focus of financial reporting
is the economic entity #c'uisitions5of5 stock business combinations create economic entities
composed of more than one ;usiness Corporation #ccordingly the financial statements of the
parent company and its subsidiaries are consolidated  for reporting purposes $mmediately after
acquisition of a subsidiary by a parent company a consolidated statement of financial position may be
 prepared #his chapter illustrates that the most efficient way of preparing this financial statement is with
the use of a worksheet where the separate financial statements of the companies to be consolidated are
combined #his worksheet allows the elimination entries to be posted to the financial statement elements
 prior to their final consolidation #he worksheet is easily prepared with the use of computeri5ed
spreadsheet software! although it also may be done manually #he worksheet for consolidated financial
statements is off the books  because the elimination entries and the subsidiary accounts are never entered in
the parent company/s ledger
Current FAS4 standards require that all ma"orityGowned subsidiary companies be consolidated! unless
control does not rest with the parent company #here is also a proposed FAS4 standard! in e-posure draft
form! that would require consolidation of a subsidiary that was deemed controlled! even where the parent
company does not own a ma"ority interest in the subsidiary/s common stock For e-ample! control might
 be achieved if the parent company owns more than >9D of the shares voted at the annual meeting
#wo alternative theories may serve as a basis for determining the reported value of subsidiary company
assets in consolidated financial statements Under the parent company approach! the assets and liabilities
of the subsidiary are consolidated at an amount equal to their book value plus or minus the controlling
interest share of the difference between book value and fair market value Under the economic unit
approach! subsidiary assets and liabilities are consolidated at fair market value for both ,99D owned and
less than ,99D owned subsidiaries #he parent company approach is currently the prevalent practice
.owever! the FAS4 has proposed %in the ,;;> e-posure draft( that the economic unit approach be
followed for all consolidations )here is no difference bet6een the economic unit approach and the
parent company approach for 135o6ned subsidiaries
A consolidated statement of financial position is based upon an allocation schedule that assigns the
,;
 
schedule also serves as the basis for the elimination entries that eliminate the reciprocal accounts in the
consolidated financial statements At the date of acquisition! the principle reciprocal accounts are the
investment in the subsidiary on the books of the parent company and the stockholders/ equity accounts of
the subsidiary $n situations where there is an e-cess of cost over book value! goodwill may be recorded in
the consolidation process
$n years subsequent to the date of acquisition! consolidated financial statements must also be
 prepared $n these later years! a full set of statements 1 an income statement! a retained earnings statement!
a statement of financial position! and a cash flow statement 1 must all be prepared #he allocation
schedule prepared as of the date of acquisition serves as a basis for this financial statement as well $n
addition! the method of accounting used to account for the investment in the subsidiary common stock will
affect the consolidation procedures #hese procedures will be illustrated and discussed in the following
chapter
Appendix
LEARNING OBJECI!E 
• Prepare a consolidation as of the date of acquisition for a bargain purchase situation
;argain purchase ac'uisitions of a 13 interest
As was illustrated in Chapter ,! a business combination may occur under bargain purchase
conditions! whereby the price paid for the investment in the subsidiary is less than the fair market value of
the net identifiable assets of the investee A bargain purchase may occur because the subsidiary has not
e-hibited a record of past operating performance sufficient to "ustify an acquisition price equal to or greater 
than the appraised value of its identifiable net assets $n a bargain purchase! an allocation schedule is
 prepared to determine the amount of the differential %either an e-cess of cost over book value or an e-cess
of book value over cost( #he allocation section of the schedule is prepared in the same manner as previous
illustrations! e-cept that the residual figure for goodwill will be a negative number 1 indicating negative
goodwill As was illustrated for the asset acquisition scenarios in the appendi- to Chapter ,! negative
goodwill should be further allocated to the longGterm assets of the subsidiary other than investment in
)9
marketable securities,  For subsidiaries to be consolidated! this allocation is done on the worksheet for
consolidated statements
As an e-ample! assume that the Picardi 1 Sanche5 consolidation %E2hibits +5+ and +5-( involves
the payment of =,99!999 %including direct acquisitions costs( for a ,99D interest in the voting common
stock of Sanche5 4ased on the bookQfair market data in E2hibit +5+ this price is */, less than the
book !alue of anche< net assets and *+., less than the fair market !alue of those assets E2hibit
+511 presents an allocation schedule suitable for developing a consolidated statement of financial position
for Picardi and Sanche5 under these conditions Since the price paid for the subsidiary is less than the book 
value of the subsidiary/s net assets! the differential is an e2cess of book !alue o!er cost and is shown in
E2hibit +511 as a negati!e number #he allocation section increases the carrying value of the buildings by
=>!999 and the equipment by =,9!999! which are undervalued by these amounts respectively #hese
allocations are the same as the previous scenarios $n this case! however! the residual amount of goodwill
is a negative =>!999! the amount necessary for the total of the goodwill %a negati!e *+.,( and the
undervaluations of the buildings and equipment %a positi!e *1.,( to equal =)9!999 According to AP4
Bpinion ,<,2! negative goodwill must be assigned to long term assets other than marketable securities in
accordance with their relative market values #he last portion of the schedule uses the fair market values of 
Sanche5 longGterm assets to allocate the negative goodwill to all of the longGterm assets including the land!
which did not have a bookQfair market value differential
Place E2hibit +511 about here 4 see E2cel files
E2hibit +511 provides the information necessary to make three elimination entries that are posted
on the consolidated statement worksheet #hese entries are shown below?
),
 
Retained earnings, Sanchez 50,000 
Investment in Sanchez 100,000 
Buildings 5,000 
Equipment 10,000 
Land 4,866 
Buildings 17,329 
Equipment 12,805 
#he first entry eliminates the stockholders/ equity accounts of Sanche5! the $nvestment in Sanche5
account! and establishes an e2cess of book !alue o!er cost account equal to the difference between the
Sanche5 stockholders/ equity and the investment account $n this case! this amount is a credit of */,
#he second entry eliminates this e2cess of book !alue o!er cost and ad"usts the undervalued assets and
liabilities of the subsidiary in accordance with the allocation schedule #he residual figure in this second
entry is always goodwill $f the goodwill is positive! as in previous illustrations! no other entries are
required $f the goodwill is negative %indicated by a credit balance(! as in this case! it is eliminated in a
third entry using the relative market value allocation shown in E2hibit +511 #he separate statements of the
two companies! the elimination entries! and the consolidated totals for this scenario are shown in E2hibit +5
1/
;argain purchase ac'uisitions of less than a 13 interest
A final series of illustrations shows a bargain purchase scenario where a noncontrolling interest
e-ists Assume for e-ample that Picardi acquires ;9D of the outstanding voting common stock of Sanche5
for a price of =,99!999! including direct acquisition costs 4ook and fair market value of Sanche5 net
assets are the same as in the previous illustrations #he allocation schedule for a consolidated statement of
financial position is shown in E2hibit +51+ $n this case the =,99!999 purchase price is =@!999 less than
))
 
represents the net amount of required writeGdowns in Sanche5 net assets in the consolidated statement of
financial position #he allocation section of the E2hibit +51+ increases the building by its =>!999
undervaluation! the undervalued equipment by =,9!999! and increases the noncontrolling interest by
*1,. to reflect the increased carrying !alues of these t6o identifiable assets #hese revaluations
increase the e-cess of book value over cost to =),!>99 an amount recorded as negative goodwill %applicable
to the controlling interest( Finally this resulting negative goodwill is allocated to the longGterm assets of
the subsidiary in the same manner as the previous illustration
Place E2hibit +51+ about here 4 see E2cel files
#he required elimination entries based on E2hibit +51+ are shown below?
1/1/x0 Common stock, Sanchez 50,000 
Paid in Capital, Sanchez 20,000 
Retained earnings, Sanchez 50,000 
Investment in Sanchez 100,000
Negative goodwill 21,500 
Noncontrolling interest 1,500 
#he first entry eliminates the stockholders/ equity accounts of Sanche5! establishes a
noncontrolling interest account equal to the noncontrolling interest percentage %,9D( multiplied by total
subsidiary equity! and eliminates the account! $nvestment in Sanche5 #he residual figure in this entry is
the e-cess of book value over cost! an =@!999 credit #he second entry ad"usts the buildings and equipment
to fair market value on the acquisition date! eliminates the e-cess of book value over cost from the first
entry! and increases the noncontrolling interest by the noncontrolling interest percentage %,9D( multiplied
)
 
and equipment( #he relative market value allocation calculations are shown in E2hibit +51+ A worksheet
for a consolidated statement of financial position! showing beginning unconsolidated balances for the two
companies! consolidation elimination entries! and consolidated totals in shown in E2hibit +51-
Place E2hibit +51- about here 4 see E2cel files
ummary
#he following learning ob"ective was stated at the beginning of the appendi-
• Prepare a consolidation as of the date of acquisition for a bargain purchase situation
$n a bargain purchase! an allocation schedule is prepared to determine the amount of the
differential %either an e-cess of cost over book value or an e-cess of book value over cost( #he allocation
section of the schedule is prepared in the same manner as in the case of an e-cess of cost over book value!
e-cept that the residual figure for goodwill will be a negative number 1 indicating negative goodwill As
was illustrated for the asset acquisition scenarios in the appendi- to Chapter ,! negative goodwill must be
further allocated to the longGterm assets of the subsidiary other than investment in marketable securities
#his allocation is done using the relative market values of the assets to which it is allocated A relative
market value ratio %&:Mratio( is first computed for each applicable longGterm asset by dividing the
individual market values by the total market value of all applicable longGterm assets #he amount of
negative goodwill assigned to each longGterm asset is determined by multiplying negative goodwill by the
&:M ratios Finally a worksheet entry is made eliminating the negative goodwill and reducing the
applicable longGterm assets by the results of the allocation 'ssentially this process adds one elimination
entry to the consolidation analysis 1 elimination of the negative goodwill
)2