Consolidated Financial Statements

1. Introduction

Definition: Consolidated financial statements (CFS) present the combined financial position, results of operations, and cash flows of a parent company and its subsidiaries as a single entity. This eliminates intra-group transactions and balances, providing a clear view of the group’s overall performance.

Purpose:

• Reflect the financial health of the entire group as if it were a single economic entity.

• Provide stakeholders with comprehensive information on group-level operations.

• Facilitate compliance with accounting and regulatory standards.

Key Users:

• Investors seeking a holistic view of the group’s performance.

• Creditors evaluating the group’s overall creditworthiness.

• Management for strategic decision-making.

2. Components of Consolidated Financial Statements

1. Consolidated Balance Sheet:

   • Combines assets, liabilities, and equity of the parent and its subsidiaries.

   • Eliminates intra-group balances like intercompany loans and receivables.

2. Consolidated Income Statement:

   • Aggregates revenues and expenses of the parent and subsidiaries.

   • Excludes intra-group revenues and expenses to avoid double-counting.

3. Consolidated Statement of Cash Flows:

   • Summarizes the cash inflows and outflows of the group.

   • Reflects cash transactions with external parties only.

4. Notes to Accounts:

   • Provide details of consolidation methodology, intra-group eliminations, and other significant disclosures.

3. Steps in Preparing Consolidated Financial Statements

1. Identify Parent-Subsidiary Relationship:

   • Determine entities to be included based on control (ownership of more than 50% voting rights or other significant influence).

2. Align Accounting Policies:

   • Ensure uniform accounting policies are applied across the group.

3. Combine Financial Statements:

   • Add line items (e.g., revenues, expenses, assets) of the parent and subsidiaries.

4. Eliminate Intra-Group Transactions:

   • Remove intercompany sales, expenses, and balances to avoid inflating group figures.

5. Adjust Non-Controlling Interest (NCI):

   • Allocate a share of subsidiary’s net assets and profit to NCI based on ownership percentage.

6. Prepare Final Statements:

   • Compile consolidated balance sheet, income statement, and cash flow statement.

4. Key Adjustments in Consolidation

1. Intra-Group Balances:

   • Remove intercompany receivables/payables and loans.

2. Unrealized Profit on Inventory:

   • Exclude unrealized profit from intercompany sales of inventory.

3. Dividend Adjustments:

   • Eliminate intra-group dividends to avoid double counting.

4. Goodwill or Gain on Bargain Purchase:

   • Calculate goodwill if acquisition cost exceeds the fair value of net assets acquired.

   • Record a gain if the fair value of net assets exceeds acquisition cost.

5. Non-Controlling Interest (NCI):

   • Reflect the share of profits and net assets attributable to minority shareholders.

5. Importance of Consolidated Financial Statements

1. Comprehensive View:

   • Eliminates the need to analyze multiple standalone statements.

2. Transparency:

   • Provides clarity by eliminating intra-group transactions.

3. Compliance:

   • Meets legal and regulatory requirements.

4. Decision-Making:

   • Enables better analysis for investment and management decisions.

6. Limitations of Consolidated Financial Statements

1. Loss of Individuality:

   • Masks the performance of individual subsidiaries.

2. Complexity:

   • Preparation is time-consuming and requires expertise.

3. Accounting Policy Differences:

   • Requires adjustments for uniformity.

4. Non-Financial Factors Ignored:

   • Overlooks operational, cultural, and managerial factors impacting the group.

7. Practical Example

Scenario: Parent Co. owns 80% of Subsidiary Co. Their standalone statements show:

Steps:

1. Consolidate Revenues:

   • Total Revenue = 1,000,000 + 600,000 – 200,000 = ₹1,400,000.

2. Consolidate Expenses:

   • Total Expenses = 700,000 + 400,000 = ₹1,100,000.

3. Net Profit:

   • ₹1,400,000 – ₹1,100,000 = ₹300,000.

4. Allocate NCI:

   • NCI Share = 20% of Subsidiary Co. = 20% of ₹1,000,000 = ₹200,000.

5. Consolidated Net Assets:

   • ₹2,500,000 + (₹1,000,000 – ₹200,000) = ₹3,300,000.