Financial Position and Control Types

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Questions and Answers

What is the impact on A Ltd's profit when goods are sold to B Ltd, and how is this profit treated in the consolidated balance sheet?

A Ltd recognizes the profit immediately upon selling the goods to B Ltd, but this profit is not reflected in the consolidated balance sheet until the goods are sold to an external customer.

How is the value of unsold inventory at B Ltd represented in their balance sheet?

Unsold inventory at B Ltd is valued at its cost to B Ltd, which is not the same as the cost to the group.

What calculation is used to determine the unrealized profit in the inventory at B Ltd?

The unrealized profit in inventory is calculated as $1,200 (unsold goods) divided by $2,000 (sales price) multiplied by $400 (profit), resulting in $240.

What role does external customer sales play in recognizing profit for the group?

Profit for the group is only recognized when goods are sold to an external customer, not during internal transactions between group companies. Signup and view all the answers

Why must profits from inter-company transactions be adjusted in the consolidated balance sheet?

These profits must be adjusted because they do not reflect economic reality for the group until an external sale is made, preventing inflated profit figures. Signup and view all the answers

What defines a group under IFRS 10?

A group exists when one enterprise (the parent) controls another enterprise (the subsidiary). Signup and view all the answers

How is control defined in the context of IFRS 10?

Control is defined as the power to govern the financial and operating policies of an entity to obtain benefits from its activities. Signup and view all the answers

Under what condition is control presumed to exist according to IFRS 10?

Control is presumed to exist when more than 50% of the ordinary share capital of another enterprise is acquired. Signup and view all the answers

In a scenario where a parent holds 80% of a subsidiary, what percentage of control does the parent exert over that subsidiary?

The parent exerts 80% control over the subsidiary. Signup and view all the answers

Describe the relationship between a parent P, its subsidiary S, and a sub-subsidiary SS in terms of control.

P controls S, which in turn controls SS, making SS a sub-subsidiary of P. Signup and view all the answers

What does NCI stand for, and what role does it play in a consolidated financial statement?

NCI stands for Non-Controlling Interest, representing the portion of equity in a subsidiary that is not owned by the parent. Signup and view all the answers

How does a mixed group situation affect control over another entity within the group?

In a mixed group situation, combined control between different entities can lead to controlling interests in a third entity. Signup and view all the answers

What is the significance of control not being dependent on the percentage of ownership in certain situations?

Control can still exist through voting power and combined ownership, regardless of full ownership status. Signup and view all the answers

What percentage does Z own of company B through A?

Z owns 48% of B through A. Signup and view all the answers

Why is D classified as an Associate Company rather than a subsidiary of Z?

D is classified as an Associate Company because Z only owns 35% of its shares. Signup and view all the answers

What method of accounting has IFRS 10 mandated for preparing consolidated accounts?

IFRS 10 mandates the purchase method for preparing consolidated accounts. Signup and view all the answers

How is positive goodwill recognized under IFRS 10?

Positive goodwill is recognized as an asset with no amortization required. Signup and view all the answers

What happens if an acquiring company pays less than the fair value of identifiable net assets?

Negative goodwill arises, leading to an immediate recognition in the income statement. Signup and view all the answers

What are pre-acquisition reserves?

Pre-acquisition reserves are profits/losses or reserves made before the acquisition date. Signup and view all the answers

What adjustment is made when the subsidiary's assets are above their fair market values?

Adjustments require debiting Pre-Acquisition Reserves and crediting Assets. Signup and view all the answers

In inter-company sales of non-current assets, how is unrealized profit accounted for?

Unrealized profit is subtracted from Consolidated Retained Earnings. Signup and view all the answers

How should dividends proposed but not recorded be adjusted in retained earnings accounts?

Dividends proposed should be debited from Retained Earnings and credited to Proposed Dividends. Signup and view all the answers

What is the formula to determine Z's ownership in X's sub-subsidiary?

Z's ownership in X’s sub-subsidiary is determined by $80% imes 40% = 32%$ directly plus 22%. Signup and view all the answers

What should a company do when it recognizes goodwill?

The company must conduct impairment tests annually on the recognized goodwill. Signup and view all the answers

When can negative goodwill arise, and how should it be treated?

Negative goodwill arises when the fair value of net assets exceeds the investment; it should be recognized immediately. Signup and view all the answers

What is required for fair value measurement during acquisition accounting as per IFRS 10?

Both the consideration given and the net assets acquired must be measured at fair values. Signup and view all the answers

How should depreciation adjustment work in the case of inter-company sales?

Adjustments should be made to Consolidated Provision for depreciation to reflect actual group costs. Signup and view all the answers

Study Notes

Consolidated Statement of Financial Position

IFRS 10 replaces IAS 27, defining a group as a parent company controlling one or more subsidiaries.
Control means governing financial and operating policies to gain benefits. Presumed when >50% of ordinary share capital is acquired.
Control can exist with <50% ownership.

Types of Control

Direct Control: Parent (P) directly owns subsidiaries (S1, S2, S3, S4).
Indirect Control: Parent (P) owns a portion of a subsidiary (S), which in turn owns a subsidiary (SS). The parent controls SS through its control of S.
Mixed Control: Parent (H) and subsidiary (S) combined control subsidiary W.

Subsidiaries and Associates

Subsidiary: When one company (e.g., Z) owns >50% of another company (e.g., A), A is a subsidiary of Z.
Associate Company: If Z only owns <50% of D, D is not a subsidiary but an associate.

Alternative Consolidation Methods

Prior to IFRS 10, methods involved "purchase method" and "pooling of interest method".
Only "purchase method" is allowed under IFRS 10 for greater comparability.

Purchase Method (IFRS 10)

Acquiring Company's investment in subsidiary is balanced against subsidiary's fair value of identifiable net assets.
Difference (if any) is accounted for as goodwill.

Goodwill Treatment

Positive Goodwill: Investment exceeds net asset value; recognized as an asset, not amortized, but subject to annual impairment tests.
Negative Goodwill: Investment is lower than net asset value; recognized immediately in the income statement, but potential issues (e.g., errors in valuation, future costs).

Pre- and Post-Acquisition Reserves

Pre-acquisition: Profits/losses/reserves generated before acquisition date; net assets' fair values affect goodwill calculations.
Post-acquisition: Profits/losses generated after acquisition; included in group consolidated income statement and retained earnings.

Fair Value in Acquisitions

Assets and liabilities of acquired subsidiary are valued using fair value at the acquisition date.
Necessary adjustments involving pre-acquisition reserves are made.

Intercompany Transactions

Inter-company sales: Unrealized profits from sales between group members are recorded at the consolidation date.
Adjustments are made to reflect the correct cost for depreciation calculations and to eliminate intercompany profits.

Dividends (unrecorded):

Parent's unrecorded subsidiary dividends: Adjust retained earnings of the parent.
Subsidiary's proposed (but not recorded by parent) dividends: Create dividend receivables to adjust retained earnings in consolidation. This recognizes the dividend payable by the subsidiary.

Closing Inventory (Unrealized Profits)

Separate entity principles vs. group perspective: Inventory is valued at cost to the group, not individually
For intercompany sales, unrealized profits on inventory are recognized at the consolidation date to ensure correct group valuation.

Example (H plc and S plc):

If H plc sells goods to S plc for $2,000 (25% markup), $1,200 unsold at year-end.
$240 (1,200/2,000 × $400) unrealized profit is eliminated to reflect the correct cost to the group.

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Description

This quiz explores the concepts of consolidated statements of financial position, control types under IFRS 10, and the definitions and distinctions between subsidiaries and associates. Test your understanding of how control is defined in financial reporting and the various methods of consolidation.