ACT504 Chap.7 Consolidating a Wholly Owned Subsidiary
Consolidating a Wholly Owned Subsidiary
Why a worksheet exists at all
The acquisition remeasured the acquiree's assets and liabilities in the acquirer's view of the world, and the acquiree's own books were never touched. The subsidiary keeps reporting at its historical carrying amounts, properly, for as long as it exists.
Every year, therefore, the group has to restate those amounts again, and there is nowhere for that restatement to live except a worksheet.
Nothing on it is a correction of the subsidiary's accounting.
Two families of entry, in a fixed order
Valuation entries restate the subsidiary's identifiable assets and liabilities to their acquisition-date fair values, recognise anything the subsidiary never carried, and bring in the deferred tax effect of each adjustment.
Their credit side accumulates in a business combination valuation reserve, which is a consolidation-only equity account that exists nowhere in either company's books. The pre-acquisition entry then eliminates the parent's investment against the subsidiary's acquisition-date equity, including that reserve, with any residual recognised as goodwill.
The order matters, because the reserve has to exist before it can be eliminated.
Every uplift drags a deferred tax entry
The group says the land is worth sixty thousand more than the books show; the tax authority does not, and will tax the whole gain when the land is sold. The uplift is therefore worth only its after-tax amount to the group.
At thirty per cent that is a sixty thousand debit to land, an eighteen thousand credit to deferred tax and a forty-two thousand credit to the reserve. A newly recognised liability reverses the pattern: debit the reserve, debit a deferred tax asset, credit the liability.
Two sentences generate every valuation entry in the course, and once the underlying item has been sold or fully depreciated the deferred tax balance disappears with the temporary difference.
What the pre-acquisition entry is really doing
The parent holds an asset called shares in the subsidiary; the subsidiary holds equity.
Both describe the same underlying net assets, so leaving both in the consolidated statements would count them twice. The entry debits the subsidiary's share capital, its retained earnings at acquisition date and the valuation reserve, and credits the investment, with goodwill as the debit that makes it balance. Two features catch candidates out.
Only the equity as it stood on the day control passed is eliminated, because profits earned since then are the group's own performance.
And the entry is re-made in full every year with the same figures, because acquisition-date equity does not change and the investment still sits at cost in the parent's books.
How the same entry changes shape in later years
Ask where the effect of the adjustment has landed by the reporting date. If the uplifted asset is still on hand, the effect is still in the asset, so debit the asset.
If it was consumed this year, the effect is in this year's profit, so debit cost of sales or depreciation expense. If it was consumed in an earlier year, the effect is in accumulated profit, so debit opening retained earnings. One question, three answers, and no table of entries to memorise.
A depreciable uplift generates an additional depreciation charge each year which is split between the current year and opening retained earnings as the years accumulate.
A check that names its own failure
The valuation reserve total and the goodwill figure are two views of one schedule.
Net fair value equals the subsidiary's book equity plus the after-tax reserve, and goodwill is the consideration less that total. If a separately computed goodwill disagrees with what falls out of the pre-acquisition entry, the difference is almost always a deferred tax line included in one calculation and not the other.
What this chapter covers
- 01
Why the subsidiary's own books are correct and a worksheet is still required
- 02
Valuation entries and the pre-acquisition entry, and why the order is fixed
- 03
The business combination valuation reserve, an account that exists nowhere else
- 04
Deferred tax on an uplift, and the mirror pattern for a new liability
- 05
Eliminating the investment against acquisition-date equity only
- 06
Where goodwill appears on the worksheet, and what a negative residual means there
- 07
One question that generates the later-year entries
- 08
Reconciling the reserve against a separately computed goodwill
Write the valuation and pre-acquisition entries at acquisition date
- 5Write the three valuation entries, each with its deferred tax line.
- 3Total the valuation reserve and derive goodwill from it.
- 2Write the pre-acquisition entry and check that it balances.
Key terms
- Business Combination Valuation Reserve
- A consolidation-only equity account that carries the credit side of each fair value restatement. It appears in neither company's own books and is eliminated again in the pre-acquisition entry.
- Valuation Entry
- A worksheet entry restating a subsidiary's identifiable assets and liabilities to their acquisition-date fair values, together with the deferred tax effect of each adjustment.
- Pre-acquisition Entry
- The worksheet entry eliminating the parent's investment against the subsidiary's equity at the acquisition date, including the valuation reserve, with any residual recognised as goodwill.
- Deferred Tax Liability
- The tax effect of an upward fair value adjustment, recognised because the group has recognised a gain the tax authority has not yet taxed. It disappears when the underlying item is sold or fully depreciated.
- Acquisition-date Equity
- The subsidiary's share capital, reserves and retained earnings as they stood on the day control passed. Only this equity is eliminated; everything earned since belongs to the group.
- Consolidation Worksheet
- The working paper on which the group's statements are assembled from the two sets of books plus adjusting entries. It holds nothing permanently, which is why every entry is re-made each year.
Consolidating a Wholly Owned Subsidiary FAQ
Why are the same entries written again every year?
Because nothing was ever recorded anywhere to carry forward. The subsidiary's books remain at historical cost and the parent's books show only an investment, so the restatement exists only on a worksheet that starts blank at each reporting date. A candidate who posts only the movement since last year will be wrong by the whole opening balance.
The entries are re-made rather than updated, and their form changes only because the underlying asset has been consumed.
Which of the subsidiary's retained earnings do we eliminate?
Only the balance that stood at the acquisition date. Profits the subsidiary has earned since control passed are the group's own post-acquisition performance and belong in consolidated retained earnings, so eliminating the current balance both understates group reserves and leaves the entry unbalanced, which usually shows up as a false goodwill figure.
Write the phrase at acquisition date into the entry description as a reminder.
Exam move
Take one acquisition and write the full set of entries for the acquisition date, then for one year later and then for two years later, on three separate sheets, without looking back at the previous sheet. Then compare them. Seeing in your own handwriting that the credit never moved while the debit walked from the asset to cost of sales to opening retained earnings is worth more than reading the rule three times.
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