One company may acquire a controlling interest in another
company either:
company either:
(a) By creating a new company and retaining more than 50% of share
holdings of he new entity or;
holdings of he new entity or;
(b) By acquiring more than 50% of the outstanding shares of an
existing company. Both ways of acquiring a controlling interest are widely used.
A holding company may acquire the voting
capital stock of an existing company in either two ways.
existing company. Both ways of acquiring a controlling interest are widely used.
A holding company may acquire the voting
capital stock of an existing company in either two ways.
1. Exchanging shares of holding company stock for more than 50%
of outstanding voting capital stock of the subsidiary (owned by shareholder of
the subsidiary).
of outstanding voting capital stock of the subsidiary (owned by shareholder of
the subsidiary).
If certain additional
criteria are met, this type of acquisition is called pooling of interests. In
this situation, the shareholders of the subsidiary, give up the subsidiary
share and become shareholders of only the holding company.
criteria are met, this type of acquisition is called pooling of interests. In
this situation, the shareholders of the subsidiary, give up the subsidiary
share and become shareholders of only the holding company.
2. Purchasing by the parent, using cash, other assets or debts
of more than 50% of the outstanding shares from shareholder of the subsidiary.
This type of acquisition is known as combination by purchase. In this situation
the shareholders of the subsidiary sell more than 50% of their shareholding and
are net shareholders of either holding or subsidiary.
of more than 50% of the outstanding shares from shareholder of the subsidiary.
This type of acquisition is known as combination by purchase. In this situation
the shareholders of the subsidiary sell more than 50% of their shareholding and
are net shareholders of either holding or subsidiary.
The pooling of interest and
purchase methods have different impact on the consolidated financial
statements.
purchase methods have different impact on the consolidated financial
statements.
Pooling of Interest Method
When one company acquires
another by exchanging shareholdings, the shareholders of the two companies have
pooled their ownership interest. This transaction is not viewed as a
purchased/sale transaction, and as a result, the cost principle is not applied.
For example, where H. Co’s cash isN205,000
and S. Co’sN35,000, using the pooling
method, the consolidated balance sheet will report a cash balance ofN10,000 and the balance sheet of Co. S
shows a payable to co. H ofN10,000.
During consolidation, these amounts are eliminated. The separate balance sheet
of H. Co and S. Co are shown below:
another by exchanging shareholdings, the shareholders of the two companies have
pooled their ownership interest. This transaction is not viewed as a
purchased/sale transaction, and as a result, the cost principle is not applied.
For example, where H. Co’s cash is
and S. Co’s
method, the consolidated balance sheet will report a cash balance of
shows a payable to co. H of
During consolidation, these amounts are eliminated. The separate balance sheet
of H. Co and S. Co are shown below:
Total Liabilities and
Owners Equity N650,000 N180,000
Other amounts to be
eliminated in the consolidation process of these two balance sheets are:
eliminated in the consolidation process of these two balance sheets are:
(a) The debit balance of N150,000
in Co.H investment account will be replaced on the consolidation balance sheet
with the assets (less the liabilities) of Co.S. to prevent double accounting.
The credit balance ofN100,000 in the
Co.S common shares is to be owned by co.H. It is an inter company item that
should be eliminated.
in Co.H investment account will be replaced on the consolidation balance sheet
with the assets (less the liabilities) of Co.S. to prevent double accounting.
The credit balance of
Co.S common shares is to be owned by co.H. It is an inter company item that
should be eliminated.
Finally the difference between the balances in Investment
account and common Share Account of Co.S.N150,000
–N100,000 = N50,000 must be eliminated from the contributed capital from
pooling of interest.
account and common Share Account of Co.S.
–
pooling of interest.
(b) Co.H shows a receivable of N10,000
from co.S and the accounts of Co.S show this is payable to Co.H. This amount is
inter – company debt. When the two balance sheets are combined into a single
consolidated balance sheet, intercompany debt must be eliminated because there
is no external debt or receivable for the combined entity.
from co.S and the accounts of Co.S show this is payable to Co.H. This amount is
inter – company debt. When the two balance sheets are combined into a single
consolidated balance sheet, intercompany debt must be eliminated because there
is no external debt or receivable for the combined entity.
Basically, consolidation
involves combining the balances in each account on the financial statements of
the holding and subsidiary companies. The result is the consolidated financial
statements that would appear if there a single entity. When the holding company
consolidates the balance sheet shown above, Co.H and its subsidiary Co.S (100%
owned) the consolidated Balance Sheet (polling of Interest Method) is as
presented below:
involves combining the balances in each account on the financial statements of
the holding and subsidiary companies. The result is the consolidated financial
statements that would appear if there a single entity. When the holding company
consolidates the balance sheet shown above, Co.H and its subsidiary Co.S (100%
owned) the consolidated Balance Sheet (polling of Interest Method) is as
presented below:
|
Separate
Balance
Sheets
|
Eliminations
|
|
|
Consolidate d Bal.
Sheets
|
|
Co.H
|
Co.S
|
Dr
|
Cr
|
|
Assets
|
|
|
|
|
|
Cash
|
205,000
|
35,000
|
|
|
240,000
|
Accounts Receivable (Net)
|
15,000
|
30,000
|
|
|
45,000
|
Receivable from Co.S
|
10,000
|
|
|
-10,000
|
– 0 –
|
Inventories
|
170,000
|
70,000
|
|
|
240,000
|
Investment in Co.S
|
10,000
|
|
|
– 150,000
|
– 0 –
|
Plants and Equipment
(Net) |
100,000
|
45,000
|
|
|
145,000
|
|
650,000
|
180,000
|
|
|
670,000
|
liabilities
|
|
|
|
|
|
Accounts payable
|
60,000
|
20,000
|
|
|
80,000
|
Payable to Co.H
|
|
10,000
|
10,000
|
|
– 0 –
|
Owner Equity
|
|
|
|
|
|
Common shares, Co.H
|
360,000
|
|
|
|
360,000
|
Common shares, Co.H
|
|
100,000
|
100,000
|
|
– 0 –
|
Contributed capital from
pooling |
90,000
|
|
50,000
|
|
40,000
|
Retained Earnings Co.S
|
140,000
|
50,000
|
|
|
19,000
|
Total liabilities and
Owners equity |
659,000
|
180,000
|
160,000
|
160,000
|
670,000
|
Purchase Method
When a company pays cash to
acquire the shares of another company, a purchase transaction takes place. The
purchase of assets must be recorded in conformity with the cost principle. Thus
in the acquisition date, the investment account for the holding company must be
measured at cost which is the market value of the acquired shares at date of
purchase.
acquire the shares of another company, a purchase transaction takes place. The
purchase of assets must be recorded in conformity with the cost principle. Thus
in the acquisition date, the investment account for the holding company must be
measured at cost which is the market value of the acquired shares at date of
purchase.
Required: List and show the items to
be eliminated for the purpose of preparing a consolidation sheet. Prepare
Consolidated balance sheet reflecting 100% acquisition of Co.S interest by Co.H
on January 1, 1996.
be eliminated for the purpose of preparing a consolidation sheet. Prepare
Consolidated balance sheet reflecting 100% acquisition of Co.S interest by Co.H
on January 1, 1996.
SOLUTION:
Eliminations:
Co.H investment account
balance ofN165,000 represents market
value at date of acquisition. It must be eliminated against shareholders equity
of the subsidiaryN150,000) to acquire
Co.S for two reasons.
balance of
value at date of acquisition. It must be eliminated against shareholders equity
of the subsidiary
Co.S for two reasons.
1. The plant and equipment
owned by Co.s had a market value ofN50,000
at acquisition (compared with the book value ofN45,000 reported by Co.S).
owned by Co.s had a market value of
at acquisition (compared with the book value of
2. Co.S had development a good reputation with its customers
which increased the over all value of Co.s. The difference between the cost and
book value of the investment may be analyzed as follows:
which increased the over all value of Co.s. The difference between the cost and
book value of the investment may be analyzed as follows:
Purchase price for 100%
interest n Co.S 165,000
interest n Co.S 165,000
Net assets purchased, value
at Market, book value 180,000
at Market, book value 180,000
+ Market value increment of
plant and equipment 5,000
plant and equipment 5,000
185,000
Less Liabilities assumed 30,000
Total market value
purchased 155,000
purchased 155,000
Goodwill
purchased 10,000
purchased 10,000
Co.H paid N165,000 each for Co.S which had net
assets (total assets less Liabilities) with a market value ofN155,000. Therefore the goodwill cost of
reputation, customer appeal and general acceptance of the business that an
acquired company had developed over the years.
assets (total assets less Liabilities) with a market value of
reputation, customer appeal and general acceptance of the business that an
acquired company had developed over the years.
To eliminate Co.H
investment account and owners equity of Co.S the following five steps are
necessary.
investment account and owners equity of Co.S the following five steps are
necessary.
1. Increase the plant and equipment of Co.S, from the book
value ofN45,000 to the market value of
N50,000. The increase is N5,000.
value of
2. Recognize the N10,000
goodwill purchase as an asset.
goodwill purchase as an asset.
3. Eliminate the investment account balance of N165,000.
4. Eliminate the Co.S ordinary share capital balance of N100,000
5 Eliminate the Co.S retained earnings balance of N50,000.
Having taken care of these
adjustments, we have the following consolidated
adjustments, we have the following consolidated
Co.S & Its Subsidiary Co.S (100% owned) Consolidated
Balnce Sheet (Purchased Method) At January 1, 1996 (Immediately after
acquisition)
Balnce Sheet (Purchased Method) At January 1, 1996 (Immediately after
acquisition)
|
Separate Bal. Sheet
|
Eliminations
Dr Cr |
Consolidated balance sheet
|
||
Assets:
|
Co.H
|
Co.S
|
|
|
|
Cash
|
40,000
|
35,000
|
|
|
75,000
|
Accounts
Received
(A/R Net)
|
15,000
|
30,000
|
|
|
45,000
|
Receivable from Co.S
|
10,000
|
|
|
10,000
|
-0-
|
Inventories
|
170,000
|
70,000
|
|
|
240,000
|
Investment in Co.S
|
165,000
|
|
|
165,000
|
-0-
|
Plant and Equipment (Net)
|
100,000
|
45,000
|
-5,000
|
|
150,000
|
Goodwill
|
|
|
10,000
|
|
10,000
|
|
|
|
|
|
|
Total Assets
|
500,000 |
180,000
|
|
|
520,000
|
Liabilities
|
|
|
|
|
|
Account Payable
|
60,000
|
20,000
|
|
|
80,000
|
Payable to Co.S
|
|
10,000
|
10,000
|
|
-0-
|
Owner’s Equity
|
|
|
|
|
|
Ordinary Shares, Co.H
|
300,000
|
|
|
|
300,000
|
Ordinary Share, Co.S
|
|
100,000
|
-10,000
|
|
-0-
|
Retained Earnings Co.S
|
140,000
|
|
|
|
140,000
|
Retained Earning Co.S
|
|
50,000
|
50,000
|
|
-0-
|
|
500,000
|
180,000
|
175,000
|
175,000
|
520,000
|
We shall further illustrate
the purchase method of consolidation with the demonstration problem below.
the purchase method of consolidation with the demonstration problem below.
The charlemco Ltd acquired
all the outstanding ordinary shares of Oprimo Company Ltd July 1, 1995 forN450,000. The balance sheets for the two
companies on the date of acquisition were as shown below:
all the outstanding ordinary shares of Oprimo Company Ltd July 1, 1995 for
companies on the date of acquisition were as shown below:
Required:
(a) Prepare a work sheet for a consolidation balance sheet on the
date of acquisition.
date of acquisition.
(b) Prepare a consolidated balance sheet for July1, 1995
Solution:
It is possible that the purchase
price of 100% interest in Oprimo Co. Ltd paid by Charlemo may have included
goodwill. Thus it becomes necessary to determine whether the purchase was above
or below the market value. First, the process is as illustrated below:
price of 100% interest in Oprimo Co. Ltd paid by Charlemo may have included
goodwill. Thus it becomes necessary to determine whether the purchase was above
or below the market value. First, the process is as illustrated below:
Purchase price for 100%
interest in
interest in
Oprimo Co. Ltd 450,000
Net assets purchase/value
at Market,
at Market,
book value 512,850
+ Market value increasing
Building
Building
and Land (7,500 + 15,000) 22,500
535,350
less Liabilities assumed 104,550
Total market value
purchased 430,800
purchased 430,800
Goodwill Purchased 19,200