Introduction to Groups

Introduction to Groups

• Companies grow by building their business, merging with other companies, or acquiring other companies.
• Merging involves two companies combining to form a new, larger entity.
• Acquisitions (takeovers) occur when one company absorbs another.
• Upon acquisition, a new single entity can be created, or the acquired business can continue to operate as a subsidiary of the larger organization.

Main Terms in Group Accounts

• A parent is an entity that controls others.
• A subsidiary is an entity controlled by another entity, known as the parent or investor.
• An associate is an entity over which the investor has significant influence (20% or more of voting rights) but is not an interest in a joint venture nor a subsidiary.
• A group consists of a parent company, its subsidiaries, and associates, controlled or significantly influenced by the parent.
• Control is the power to govern financial and operating policies to obtain benefits.
• Significant influence is the power to participate in policy decisions without having control.
• Power refers to existing rights that enable the direction of activities.
• An investor controls an investee only if the investor has power over the investee, exposure to variable returns, and the ability to affect the amount of return.
• Control is presumed when the parent has a majority of voting rights, a dominant influence, the right to appoint/remove a majority of directors, and the ability to affect the amount of return.
• Significant influence is evidenced by representation on the board, participation in policy making, material transactions, interchange of personnel, or provision of technical information.

The Concept of Group Accounts

• Acquisitions involve acquiring shares, control (subsidiary), or significant influence (associate) in other companies.
• The parent company prepares consolidated financial statements, as if the group is a single entity.

Types of Acquisitions

• Acquisitions can take the form of investments in subsidiaries or associates.
• Investment in Subsidiary
  • Parent acquires 50% or more of the ownership
  • Regulated through IAS 27
  • Parent can govern the financial and operating policies of the entity
  • Parent has the contol of the company
• Investment in Associate
  • Parent acquires between 20%-50% of the ownership
  • Regulated through IAS 28
  • Influence the financial, operational and other decisions of the Associate (significant influence).

Accounting of Acquisitions

• Parent entities acquiring subsidiaries or associates continue to be separate legal entities.
• Separate financial statements need to be prepared at the end of the accounting period.
• Parent entity financial statements must present a set of financial statements for the entire group.
• Consolidated or Group Financial Statements need to be prepared by the Parent Entity.

Accounting for Subsidiaries

• The consolidated method is applied.
  • The parent and subsidiary financial statements are presented as one set of financial statements by adding all like items, such as assets, liabilities, equity, income, and expenses.
  • Overlapping transfers, payments, and loans between parent and subsidiaries are eliminated.
  • Investment in S Ltd cancels out directly against Share capital and Retained Earnings

Accounting for Associates

• The equity method is applied for accounting for associates.
• In Parent’s books, Acquisition is shown as an Investment – Non-Current Asset.
• In Associate’s books, Acquisition is shown as Equity – Share Capital.
• Using the equity method of accounting for a 25% purchase of A Ltd by P Ltd for €40:
  • The investment is under Non-Current Assets.
  • Other assets are reduced due to the decrease in bank balance.

Identification of Group Structures

• Examples of questions include whether beta has 15% votes, delta has 52% votes, gamma has 45% shares held by alpha, and theta has 100% votes held by Alpha
• A parent should control and own the majority of the votes in the other company for a company to qualify as a parent of another.
• Subsidiaries of A plc were sought given investment stakes in B, C, D, and E Ltd, with differing stakes in ordinary shares, preference shares, loan stock, and the right to appoint directors.
• In consolidation, a subsidiary and an associate are not treated identically.
• Earl Ltd has rights to variable returns from its involvement in Amber Ltd and has the ability to affect those returns through its power over Amber Ltd in relation to Amber Ltd
• The statement that Grange Ltd is a subsidiary of Moat Ltd must be evaluated as true or false, with Moat Ltd owning 6,000 ‘A’ €1 shares in Grange Ltd and given capital structure of Grange.

Consolidated Accounts in Malta

• All parent companies in Malta must prepare consolidated accounts under IFRS or GAPSME.
• IFRS must be used if the group figures exceed any two of the following three criteria:
  • Balance sheet total: < €20,000,000 net / < €24,000,000 gross
  • Turnover: < €40,000,000 net / < €48,000,000 gross
  • Average number of employees: < 250
• If any two of the criteria are not exceeded, consolidated financial statements can be prepared under GAPSME.

Consolidation Exemptions in Malta

• Unlike IFRS, GAPSME provides exemptions from consolidation where the parent and its subsidiaries do not exceed at least two out of three criteria:
  • Balance sheet total: < €4,000,000 net / < €4,800,000 gross,
  • Turnover: < €8,000,000 net / < €9,600,000 gross
  • Average number of employees: < 50

Related Parties in Groups

• Related parties include key management personnel, family members, and companies within groups.
• Related party is a person or entity related to the entity preparing financial statements.
• A related party is a person or a close member of that person's family and has control or joint control over the reporting entity.
• An entity is related to a reporting entity when they are the same group subsidiary or parent & are associates or joint ventures of the same third party.
• A customer, supplier, franchisor, etc., based on economic dependence alone are not.
• A related party transaction involves a transfer of resources, services, or obligations between related parties.
• Financial statements must disclose related party transactions and balances.
• Disclosures based on type of relation include relationships between parents and subsidiaries and management compensation including the amount of advances and credits granted, indications of the interest rates, main conditions and any amounts repaid or written off or waived.
• Related party transactions includes amount of transactions, outstanding balances, term & conditions, guarantees and provisions for bad debt.