RSM321H1 Chapter Notes - Chapter 5: Consolidated Financial Statement, Equity Method, Financial Statement

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Published on 3 Dec 2017
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Chapter 5
While a parent company can account for its investment by either the equity method or the cost
method, the consolidated statements are the same regardless of the method used. The method of
presentation is quite different between the separate-entity financial statements and the
consolidated financial statements.
The cost method is a method of accounting for investments whereby the investment is initially
recorded at cost; income from the subsidiary is recognized in net income when the investor’s
right to receive a dividend is established. This usually occurs when the dividend is declared.
IAS 28 Investments in Associates and Joint Ventures defines the equity method as a method of
accounting whereby the investment is initially recognized at cost and adjusted thereafter for the
post-acquisition change in the investor’s share of net assets of the investee. The profit or loss of
the investor includes the investor’s share of the profit or loss of the investee. Distributions
received from an investee reduce the carrying amount of the investment. Adjustments to the
carrying amount may also be necessary for changes in the investor’s proportionate interest in the
investee’s other comprehensive income. Such changes include those arising from the revaluation
of property, plant, and equipment and from foreign-exchange translation differences. The
investor’s share of those changes is recognized in other comprehensive income.
The cost method is the simplest of the two methods for the parent to use in its separate-entity
records because typically the only entry made by the parent each year is to record, as revenue, its
pro rata share of the dividends declared by the subsidiary. However, when it comes time to
prepare the consolidated financial statements, if the parent uses the equity method to record the
investment in the subsidiary, then consolidation process is much simpler since the equity method
of accounting for a subsidiary will produce the same net income and retained earnings on the
internal records of the parent as reported on the parent’s consolidated financial statement. The
only difference is that the consolidated financial statements incorporate the subsidiary’s values
on a line-by-line basis, whereas the equity method incorporates the net amount of the subsidiary’s
values on one line (investment in the subsidiary) on the balance sheet and typically on one line
(investment income from the subsidiary) on the income statement. For this reason, the equity
method is often referred to as the “one-line consolidation”. Consolidated net income will be the
same regardless of whether the parent used the cost method or the equity method for its internal
accounting records. The method of presentation is quite different between the separate-entity
financial statements and the consolidated financial statements.
Consolidated net income for any fiscal year is made up of the following:
The net income of the parent from its own operations (i.e., excluding any
income resulting from its investment in the subsidiary)
$ XXX
plus: the net income of the subsidiary
XXX
less: the amortization and impairment of the acquisition differential
(XXX)
equals: consolidated net income
$ XXX
Attributable to:
Shareholders of parent company
$ XXX
Non-controlling interest
XXX
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Document Summary

While a parent company can account for its investment by either the equity method or the cost method, the consolidated statements are the same regardless of the method used. The cost method is a method of accounting for investments whereby the investment is initially recorded at cost; income from the subsidiary is recognized in net income when the investor"s right to receive a dividend is established. This usually occurs when the dividend is declared. The profit or loss of the investor includes the investor"s share of the profit or loss of the investee. Distributions received from an investee reduce the carrying amount of the investment. Adjustments to the carrying amount may also be necessary for changes in the investor"s proportionate interest in the investee"s other comprehensive income. Such changes include those arising from the revaluation of property, plant, and equipment and from foreign-exchange translation differences. The investor"s share of those changes is recognized in other comprehensive income.

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