account balance for its share of earnings and dividends (entries 2 and 3). The book value portion of the investment account can be summarized as follows:
Book Value Calculations:
NCI 20% +Peerless 80%5Common Stock+Retained Earnings Beginning Book Value 60,000 240,000 200,000 100,000
+ Net Income 10,000 40,000 50,000
2 Dividends (6,000) (24,000) (30,000)
Ending Book Value 64,000 256,000 200,000 120,000
Note that we use dark shading with a white drop-out font for the amounts in the book value analysis that appear in the basic consolidation entry.
Goodwill = 0 1/1/ X1
Peerless’
$240,000 initial investment
in Special Foods Identifiable
excess = 0
80%
Book value = 240,000
Goodwill = 0 12/31/ X1
Peerless’
$256,000 ending net investment in Special
Foods Excess = 0
80%
Book value = 256,000
Under the equity method, the parent recognized its share (80 percent) of the subsid- iary’s income on its separate books. In the consolidated income statement, however, the individual revenue and expense accounts of the subsidiary are combined with those of the parent. Income recognized by the parent from all consolidated subsidiaries, there- fore, must be eliminated to avoid double-counting. The subsidiary’s dividends must be eliminated when consolidated statements are prepared so that only dividend declara- tions related to the parent’s shareholders are treated as dividends of the consolidated entity. Thus, the basic consolidation entry removes both the investment income reflected in the parent’s income statement and any dividends declared by the subsidiary during the period:
Basic Consolidation Entry:
Common Stock 200,000 Common stock balance
Retained Earnings 100,000 Beginning RE from trial balance Income from Special Foods 40,000 Peerless’ share of Special Foods’ NI NCI in NI of Special Foods 10,000 NCI share of Special Foods’ reported NI Dividends Declared 30,000 100% of sub’s dividends declared Investment in Special Foods 256,000 Peerless’ share of BV of net assets NCI in NA of Special Foods 64,000 NCI share of BV of net assets
Because there is no differential in this example, the basic consolidation entry com- pletely eliminates the balance in Peerless’ investment account on the balance sheet as well as the Income from Special Foods account on the income statement. Note again that the parent’s investment in the stock of a consolidated subsidiary never appears in the consolidated balance sheet and the income from subsidiary account never appears on the consolidated income statement.
Investment in Special Foods
Income from Special Foods Acquisition Price 240,000
80% of Net Income 40,000 40,000 80% Net Income
24,000 80% Dividends
Ending Balance 256,000 40,000 Ending Balance
256,000 Basic entry 40,000
0 0
As explained previously, we repeat the accumulated depreciation entry in each succeed- ing period for as long as the subsidiary owns these assets. The purpose of this entry is to appropriately present these assets in the consolidated financial statements as if they had been purchased on the date the subsidiary was acquired at their acquisition date fair values.
Optional Accumulated Depreciation Consolidation Entry:
Accumulated Depreciation 300,000 Accumulated depreciation at the time of the acquisition netted against cost
Building & Equipment 300,000
Figure 3–3 presents the consolidation work- sheet. We note that there are only two changes on the worksheet when the subsidiary is only partially owned (Chapter 3) relative to when the subsidiary is wholly owned (Chapter 2). First, the income statement calculates the consolidated net income ($190,000 in this example) and then deducts the portion attributable to the NCI shareholders (NCI in Net Income) to arrive at the portion attributable to the parent (controlling interest). In this exam- ple, the final line of the income statement presents Peerless’ share of the consolidated net income, $180,000. This amount should always equal the parent’s net income in the first column of the worksheet if the parent properly accounts for the investment in the subsid- iary using the equity method on its own books. 3 Second, since the parent company consoli- dates the entire balance sheet of the subsidiary, it must disclose the portion of the subsidiary’s net assets that belong to the noncontrolling interest (NCI in Net Assets).
Second and Subsequent Years of Ownership
The consolidation procedures employed at the end of the second and subsequent years are basically the same as those used at the end of the first year. Adjusted trial balance data of the individual companies are used as the starting point each time consolidated statements are prepared because no separate books are kept for the consolidated entity. An additional
3 Note that the “Consolidated Net Income” line properly adds Peerless’ reported net income, $180,000, to Special Foods’ net income, $50,000, and eliminates Peerless’ share of Special Foods’ net income such that the total consolidated net income is equal to Peerless’ income from separate operations ($140,000) plus Special Foods’ reported net income ($50,000). On the other hand, the “Controlling Interest in Net Income”
line indicates that Peerless’ true income can be calculated in two ways. Either start with total “Consolidated Net Income” and deduct the portion that belongs to the NCI shareholders in the far right column or simply use Peerless’ correctly calculated equity method net income, $180,000, which is its income from separate operations ($140,000), plus its share of Special Foods’ net income ($40,000). The controlling interest in the Net Income line starts with this correctly calculated number from Peerless’ income statement (in the first column) and adds it to Special Foods’ reported income (in the second column), but then eliminates Special Foods’ reported income in the Consolidation Entries column. Thus, the controlling interest in net income in the Consolidation column equals Peerless’ reported net income under the equity method.
CAUTION
Note that the $10,000 debit to NCI in Net Income in the Consolidation Entries column of Figure 3–3 is added to the $40,000 Consolidated Net Income debit subtotal to arrive at the total debit adjustments in the Con- trolling Interest in the Net Income row. Students sometimes forget that the Consolidation Entries columns simply add total debit and credit adjust- ments (ignoring the “formula” used in the income calculation). The reason the $10,000 NCI in Net Income is listed with brackets in the Consolidated column is because a debit decreases income.
check is needed in each period following acquisition to ensure that the beginning balance of consolidated retained earnings shown in the completed worksheet equals the balance reported at the end of the prior period. In all other respects, the consolidation entries and worksheet are comparable with those shown for the first year.
Parent Company Entries
Consolidation after two years of ownership is illustrated by continuing the example of Peerless Products and Special Foods. Peerless’ separate income from its own operations for 20X2 is $160,000, and its dividends total $60,000. Special Foods reports net income of $75,000 in 20X2 and pays dividends of $40,000. Equity-method entries recorded by Peerless in 20X2 are as follows:
(4) Investment in Special Foods 60,000
Income from Special Foods 60,000
Record Peerless’ 80% share of Special Foods’ 20X2 income.
(5) Cash 32,000
Investment in Special Foods 32,000
Record Peerless’ 80% share of Special Foods’ 20X2 dividend.
Peerless Products
Special Foods
Consolidation Entries
Consolidated
DR CR
Income Statement
Sales 400,000 200,000 600,000
Less: COGS (170,000) (115,000) (285,000)
Less: Depreciation Expense (50,000) (20,000) (70,000)
Less: Other Expenses (40,000) (15,000) (55,000)
Income from Special Foods 40,000 40,000 0
Consolidated Net Income 180,000 50,000 40,000 0 190,000
NCI in Net Income 10,000 (10,000)
Controlling Interest in Net Income 180,000 50,000 50,000 0 180,000 Statement of Retained Earnings
Beginning Balance 300,000 100,000 100,000 300,000
Net Income 180,000 50,000 50,000 0 180,000
Less: Dividends Declared (60,000) (30,000) 30,000 (60,000)
Ending Balance 420,000 120,000 150,000 30,000 420,000
Balance Sheet
Cash 264,000 75,000 339,000
Accounts Receivable 75,000 50,000 125,000
Inventory 100,000 75,000 175,000
Investment in Special Foods 256,000 256,000 0
Land 175,000 40,000 215,000
Buildings & Equipment 800,000 600,000 300,000 1,100,000
Less: Accumulated Depreciation (450,000) (320,000) 300,000 (470,000)
Total Assets 1,220,000 520,000 300,000 556,000 1,484,000
Accounts Payable 100,000 100,000 200,000
Bonds Payable 200,000 100,000 300,000
Common Stock 500,000 200,000 200,000 500,000
Retained Earnings 420,000 120,000 150,000 30,000 420,000
NCI in NA of Special Foods 64,000 64,000 Total Liabilities & Equity 1,220,000 520,000 350,000 94,000 1,484,000 FIGURE 3–3 December 31, 20X1, Equity-Method Worksheet for Consolidated Financial Statements, Initial Year of Ownership;
80 percent Acquisition at Book Value
Peerless’ reported net income totals $220,000 ($160,000 from separate operations 1
$60,000 from Special Foods).
Consolidation Worksheet—Second Year of Ownership
In order to complete the worksheet, Peerless must calculate the worksheet consolidation entries using the following process. The book value of equity can be analyzed and sum- marized as follows:
Book Value Calculations:
NCI 20%+Peerless 80%5Common Stock+Retained Earnings Beginning Book Value 64,000 256,000 200,000 120,000
+ Net Income 15,000 60,000 75,000
− Dividends (8,000) (32,000) (40,000)
Ending Book Value 71,000 284,000 200,000 155,000
The book value calculations indicate that the balance in Peerless’ Investment in Special Foods account increases from $256,000 to $284,000 in 20X2. Recall that the numbers in the lighter font from the book value calculations appear in the basic consolidation entry.
This consolidation entry removes both the investment income reflected in the parent’s income statement and any dividends declared by the subsidiary during the period:
Goodwill = 0 1/1/ X2
Peerless’
$256,000 net investment
in Special Foods Excess = 0
80%
Book value = 256,000
Goodwill = 0 12/31/ X2
Peerless’
$284,000 net investment
in Special Foods Excess = 0
80%
Book value = 284,000
Basic Consolidation Entry:
Common Stock 200,000 Common stock balance
Retained Earnings 120,000 Beginning balance in ret. earnings Income from Special Foods 60,000 Peerless’ share of Special Foods’ NI NCI in NI of Special Foods 15,000 NCI share of Special Foods’ reported NI Dividends Declared 40,000 100% of sub’s dividends declared Investment in Special Foods 284,000 Peerless’ share of BV of net assets NCI in NA of Special Foods 71,000 NCI share of BV of net assets Because there is no differential in this example, the basic consolidation entry completely eliminates the balance in Peerless’ investment account on the balance sheet as well as the Income from Special Foods account on the income statement.
Investment in Special Foods
Income from Special Foods Beginning Balance 256,000
80% of Net Income 60,000 60,000 80% of Net Income
32,000 80% Dividends
Ending Balance 284,000 60,000 Ending Balance
284,000 Basic entry 60,000
0 0
Optional Accumulated Depreciation Consolidation Entry:
Accumulated Depreciation 300,000 Accumulated depreciation at the time of the acquisition netted against cost
Building & Equipment 300,000
In this example, Special Foods had accumulated depreciation on the acquisition date of
$300,000. Thus, we repeat the same accumulated depreciation consolidation entry this year (and every year as long as Special Foods owns the assets) that we used in the initial year.
Peerless Products
Special Foods
Consolidation Entries
Consolidated
DR CR
Income Statement
Sales 450,000 300,000 750,000
Less: COGS (180,000) (160,000) (340,000)
Less: Depreciation Expense (50,000) (20,000) (70,000)
Less: Other Expenses (60,000) (45,000) (105,000)
Income from Special Foods 60,000 60,000 0
Consolidated Net Income 220,000 75,000 60,000 0 235,000
NCI in Net Income 15,000 (15,000)
Controlling Interest Net Income 220,000 75,000 75,000 0 220,000 Statement of Retained Earnings
Beginning Balance 420,000 120,000 120,000 420,000
Net Income 220,000 75,000 75,000 0 220,000
Less: Dividends Declared (60,000) (40,000) 40,000 (60,000)
Ending Balance 580,000 155,000 195,000 40,000 580,000
Balance Sheet
Cash 291,000 85,000 376,000
Accounts Receivable 150,000 80,000 230,000
Inventory 180,000 90,000 270,000
Investment in Special Foods 284,000 284,000 0
Land 175,000 40,000 215,000
Buildings & Equipment 800,000 600,000 300,000 1,100,000
Less: Accumulated Depreciation (500,000) (340,000) 300,000 (540,000)
Total Assets 1,380,000 555,000 300,000 584,000 1,651,000
Accounts Payable 100,000 100,000 200,000
Bonds Payable 200,000 100,000 300,000
Common Stock 500,000 200,000 200,000 500,000
Retained Earnings 580,000 155,000 195,000 40,000 580,000
NCI in NA of Special Foods 71,000 71,000
Total Liabilities & Equity 1,380,000 555,000 395,000 111,000 1,651,000 FIGURE 3–4 December 31, 20X2, Equity-Method Worksheet for Consolidated Financial Statements, Second Year of Ownership;
80 percent Acquisition at Book Value
After placement of the two consolidation entries in the consolidation worksheet, the worksheet is completed in the normal manner as shown in Figure 3–4 .