Studies and Scientific Researches. Economics Edition, No 32, 2020 http://sceco.ub.ro 48 A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE Mihai Deju “Vasile Alecsandri” University of Bacău mihai.deju@ub.ro Abstract The preparation of annual consolidated financial statements, in the context of the existence of group companies, represents a relatively new problematic issue for accounting practitioners, the world of the academia, as well as for the regulating bodies in the field of accounting. This situation generates intense debates among accounting specialists with the aim of finding practical solutions that facilitate the understanding and correct application of accounting regulations in the area of consolidating accounts. The present article approaches, by means of a case study, the specific aspects related to the consolidation of affiliated entities’ accounts by means of using the global integration method and the direct consolidation procedure. Keywords consolidation of accounts; consolidation procedures; global integration; direct consolidation JEL Classification M41 The drawing up of consolidated financial statements by means of the global integration method, irrespective of the employed procedure (consolidation on levels or direct consolidation) involves the cumulation of the items from the balance sheets and the profit and loss accounts of affiliated entities with the balance sheet items and the items of the profit and loss accounts of the parent company, as well as the making of the following adjustments: - the division of the subsidiaries’ equity capital elements between the quota the parent company is entitled to and the quotas for “other shareholders” of the subsidiaries as “interests of minority shareholders”; - the accounting recording, as elements of consolidated equity capitals, of the quotas from the equity elements of the subsidiaries that are allocated to the parent company; - the separate accounting recording of the quota from the equities that are allocated to “other shareholders” of the subsidiaries as “interests of minority shareholders”; - the elimination of the equivalent value of shareholding titles owned by the parent company, directly or indirectly, from the consolidated subsidiaries and the diminishing of the equities of affiliated entities with an equivalent sum. We will further present a case study regarding the consolidation of financial statements of affiliated entities by means of the direct consolidation procedure, starting from the hypothesis that the group is composed of four companies, as follows: the parent company A and the subsidiaries B, C and D. The parent company A owns 70% of the capital and voting rights of company B. Company B owns 80% of the capital and voting rights of company C, and company C owns 90% of the capital and voting rights of company D. A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE 49 In this study, we considered that all shareholding titles owned in subsidiaries B, C and D represent ordinary shares and were purchased when the respective companies were established. The study does not present the particularities of accounting treatments corresponding to the reciprocal operations among the companies of the group because they can be the subject of other approaches. Taking into account that the parent company has exclusive control over the subsidiaries, in order to carry out the consolidation of their financial statements we will employ the global integration method. We will further present the individual financial statements of the group companies that will be the subject of consolidation, as follows: a) Balance sheets of the companies that are part of the group: Items of balance sheets Company A Company B Company C Company D A. Fixed assets 840,000 690,000 460,000 420,000 - Tangible fixed assets 490,000 450,000 190,000 420,000 - shareholding titles 350,000 240,000 270,000 - B. Current assets, among which: 570,000 340,000 320,000 220,000 - Stocks 150,000 230,000 130,000 80,000 - Clients 250,000 60,000 120,000 120,000 - Cash and bank accounts 170,000 50,000 70,000 20,000 C. Advance expenses - - - - D. Debts – sums that should be paid within a year 190,000 150,000 160,000 130,000 - Suppliers 65,000 70,000 65,000 50,000 - Various creditors 125,000 80,000 95000 80,000 E. Net current assets/ Net current debts (B-D) 380,000 190,000 160.000 90,000 F. Total assets minus current debts 1,220,000 880,000 620,000 510,000 G. Debts – sums that should be paid over a period exceeding one year 50,000 60,000 50,000 40,000 H. Provisions - - - - I. Advance incomes - - - - J. Equity capitals - - - - - Subscribed capital 850,000 500,000 300,000 300,000 - Capital premium - - - - - Reserves from reevaluation - - - - - Reserves 130,000 190,000 130,000 80,000 - Profit or loss carried forward - - - - - Profit or loss of financial year 190,000 130,000 140,000 90,000 TOTAL equity capitals 1,170,000 820,000 570,000 470,000 Deju 50 b) Profit and loss accounts of companies within the group: Income and expense items Company A Company B Company C Company D Operating income 2,800,000 1,300,000 1,600,000 900,000 Financial income 200,000 150,000 230,000 150,000 Operating expenses 2,600,000 1,200.000 1,450,000 850,000 Financial expenses 174,000 95,000 213,000 93,000 Expenses with corporation tax 36,000 25,000 27,000 17,000 Profit or loss of financial year 190,000 130,000 140,000 90,000 In order to draw up the consolidated financial statements by means of the direct consolidation procedure, the following stages will be taken into account: STAGE 1 The establishment of the shareholders’ interest percentage of the parent company (of the group) in each subsidiary, as well as of the interests of minority shareholders: Indicators Subsidiary B Subsidiary C Subsidiary D Interest percentage of the parent company 70% 56% 50,40% Percentage of the interests of minority shareholders 30% 44% 49,60% STAGE 2. The cumulation of group companies’ balance sheet items and their corresponding accounting recording: 2a. The table regarding the cumulation of the items of the balance sheets of the companies included in the consolidation area is presented below: Items of balance sheets Company A Company B Company C Company D TOTAL A+B+C+D A. Fixed assets 840,000 690,000 460,000 420,000 2,410,000 - tangible fixed assets 490,000 450,000 190,000 420, 000 1,550,000 - shareholding titles 350,000 240,000 270,000 - 860,000 B. Current assets, among which: 570,000 340,000 320,000 220,000 1,450,000 - Stocks 150,000 230,000 130,000 80,000 590,000 - Clients 250,000 60,000 120,000 120,000 550,000 -Cash accounts and bank accounts 170,000 50,000 70,000 20,000 310,000 C. Advance expenses - - - - - D. Debts – sums that must be paid within a year 190,000 150,000 160,000 130,000 630,000 - Suppliers 65,000 70,000 65,000 50,000 250,000 A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE 51 - Various creditors 125,000 80,000 95,000 80,000 380,000 E. Net current assets/ Net current debts (B-D) 380,000 190,000 160,000 90,000 820,000 F. Total assets minus current debts 1,220,000 880,000 620,000 510,000 3,230,000 G. Debts – sums that should be paid over a period exceeding one year 50,000 60,000 50,000 40,000 200,000 H. Provisions - - - - - I. Advance incomes - - - - - J. Equity capitals - - - - - - Subscribed capital 850,000 500,000 300,000 300,000 1,950,000 - Capital premium - - - - - - Reserves from reevaluation - - - - - - Reserves 130,000 190,000 130,000 80,000 530,000 - Profit or loss carried forward - - - - - - Profit or loss of financial year 190,000 130,000 140,000 90,000 550,000 TOTAL equity capitals 1,170,000 820,000 570,000 470,000 3,030,000 2b. Accounting recording regarding the cumulation of group companies’ balance sheet items (recording in the balance sheet): 3,860,000 1,550,000 350,000 240,000 270,000 590,000 550,000 310,000 % Fixed assets Shareholding titles B Shareholding titles C Shareholding titles D Stocks Clients Cash and bank accounts = % Share capital A Share capital B Share capital C Share capital D Reserves A Reserves B Reserves C Reserves D Profit or loss A Profit or loss B Profit or loss C Profit or loss D Suppliers Various creditors Long-term bank credits 3,860,000 850,000 500,000 300,000 300,000 130,000 190,000 130,000 80,000 190,000 130,000 140,000 90,000 250,000 380,000 200,000 STAGE 3 Cumulation of profit and loss accounts of companies within the group and the making of corresponding adjustments: Deju 52 3a. The cumulation table of profit and loss items of the companies included in the consolidation area is presented below: Income and expense items Company A Company B Company C Company D TOTAL A+B+C+D Operating incomes 2,800,000 1,300,000 1,600,000 900,000 6,600,000 Financial incomes 200,000 150,000 230,000 150,000 730,000 Operating expenses 2,600,000 1,200,000 1,450,000 850,000 6,100,000 Financial expenses 174,000 95,000 213,000 93,000 575,000 Expenses with corporation tax 36,000 25,000 27,000 17,000 105,000 Profit or loss of financial year 190,000 130,000 140,000 90,000 550,000 3b. Recording of the cumulation of profit and loss items of the companies within the group (recording in the profit and loss account)1: 7,330,000 6,100,000 575,000 105,000 190,000 130,000 140,000 90,000 % Operating expenses Financial expenses Expenses with corporation tax Profit or loss A Profit or loss B Profit or loss C Profit or loss D = % Operating incomes Financial incomes 7,330,.000 6,600,000 730,000 STAGE 4. The division of the subsidiaries’ equity capitals between the parent company and the minority interests (that do not have control) and the elimination of the equivalent value of the titles of the consolidated companies as well as their accounting recording 4.a. Table representing the division of equity capitals and the elimination of the equivalent value of the shareholding titles owned by Company A in Subsidiary B as a result of direct consolidation by parent company A Indicators Total subsidiary B Part attributed to group A (70%) Part attributed to interests of minority shareholders (30%) 1. Share capital B 500,000 350,000 150,000 2. Elimination of shareholding titles (B) owned by company A -350,000 -350,000 - 3. Divided share capital (1-2) 150,000 - 150,000 4. Reserves B 190,000 133,000 57,000 5. Profit or loss Subsidiary B 130,000 91,000 39,000 TOTAL (3+4+5) 470,000 224,000 246,000 1 Note: The cumulation of the income and expenses items is carried out at the level of the profit and loss account - a component of consolidated financial statements. A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE 53 4.a1. Accounting recording corresponding to the division of the subsidiaries’ equity capitals, the elimination of the shareholding titles owned by Subsidiary B and the different representation of the interests of minority shareholders (recording at the level of the balance sheet): 820,000 500,000 190,000 130,000 % Share capital B Reserves B Profit or loss B = % Shares owned in affiliated entities (B) Consolidated reserves Consolidated profit or loss Interests of minority shareholders 820,000 350,000 133,000 91,000 246,000 4.a2. Division of the financial result (profit/loss) in Subsidiary B (recording in the profit and loss account)2: 130,000 91,000 39,000 % Profit or loss which is attributed to parent company Profit or loss which is attributed to interests of minority shareholders = Profit or loss B 130,000 4.b. Table representing the division of equity capitals and the elimination of the equivalent value of the shareholding titles owned by Subsidiary B in Subsidiary C as a result of direct consolidation by parent company A: Indicators Total subsidiary C Part attributed to company A (56%) Part attributed to interests of minority shareholders (44%) 1. Share capital C 300,000 168,000 132,000 2. . Elimination of shareholding titles (C) owned by company B (70%) * 240,000 -168,000 (240,000x70%) -72,000 (240,000x30%) 3. Divided share capital (1-2) 60,000 - 60,000 4. Reserves C 130,000 72,800 57,200 5. Profit or loss of Subsidiary C 140,000 78,400 61,600 TOTAL (3+4+5) 330,000 151,200 178,800 * The elimination of shareholding titles in subsidiary C is done on the basis of shareholders’ interest percentage owned by the mother company in subsidiary B (70%). 4.b1. Accounting recording corresponding to the division of the subsidiaries’ equity capitals, the elimination of the shareholding titles owned by Subsidiary B in Subsidiary C and the different representation of the interests of minority shareholders (recording at the level of the balance sheet): 2 The accounting recording is registered in the profit and loss account - a component of consolidated financial statements. Deju 54 570,000 300,000 130,000 140,000 % Share capital C Reserves C Profit or loss C = % Shares owned in affiliated entities (B) Consolidated reserves Consolidated profit or loss Interests of minority shareholders 570,000 240,000 72,800 78,400 178,800 4.b2. Division of the financial result (profit/loss) of Subsidiary C (recording in the profit and loss account – a component of financial statements): 140,000 78,400 61,600 % Profit or loss which is attributed to parent company Profit or loss which is attributed to interests of minority shareholders = Profit or loss C 140,000 4.c. Table representing the division of equity capitals and the elimination of the equivalent value of the shareholding titles owned by Subsidiary C in Subsidiary D as a result of direct consolidation by parent company A: Indicators Total D Part attributed to company A (50,40%) Part attributed to interests of minority shareholders (49,60%) 1. Share capital D 300,000 151,200 148,800 2. Elimination of shareholding titles (D) owned by company C (56%)* 270,000 151,200 (270,000x56%) 118,800 (270,000x56%) 3. Divided share capital (1-2) 30,000 - 30,000 4. Reserves D 80,000 40,320 39,680 5. Profit or loss D 90,000 45,360 44,640 TOTAL (3+4+5) 200,000 85,680 114,320 *The elimination of shareholding titles in subsidiary D is performed on the basis of shareholders’ interest percentage owned by the mother company in subsidiary C (56%). 4.c1. Accounting recording corresponding to the division of the subsidiaries’ equity capitals, the elimination of the shareholding titles owned by Subsidiary C in Subsidiary D and the different representation of the interests of minority shareholders (recording at the level of the balance sheet): 470,000 300,000 80,000 90,000 % Share capital D Reserves D Profit or loss D = % Shares owned at affiliated entities D Consolidated reserves Consolidated profit or loss Interests of minority shareholders 470,000 270,000 40,320 45,360 114,320 4.c2. Division of the financial result (profit/loss) of Subsidiary D (recording in the profit and loss account – a component of financial statements): A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE 55 90,000 45,360 44,640 % Profit or loss which is attributed to parent company Profit or loss which is attributed to interests of minority shareholders = Profit or loss D 90,000 4.c.3. The transfer of equity capitals’ elements (reserves and profit or loss – in our case) of the parent company to the reserves and the consolidated financial result of Group A (recording at the level of the balance sheet): 320,000 130,000 190,000 % Reserves A Profit or loss A = % Consolidated reserves Consolidated profit or loss 320,000 130,000 190,000 STAGE 5 5.a. The drawing up of the Register corresponding to the consolidation operations of the balance sheet items carried out in stages 1-4: Items of balance sheets Cumulated balance sheet items A+B+C+D Restatements corresponding to consolidation Consolidated balance sheet items (Group A) Debit Credit 1. Fixed assets 1,550,000 - - 1,550,000 2. Shareholding titles B 350,000 - 350,000 - 3. Shareholding titles C 240,000 - 240,000 - 4. Shareholding titles D 270,000 - 270,000 - 5. Stocks 590,000 - - 590,000 6. Clients 550,000 - - 550,000 7. Cash and bank accounts 310,000 - - 310,000 TOTAL ASSETS 3,860,000 - - 3,000,000 8. Share capital A 850,000 - - 850,000 9. Share capital B 500,000 500,000 - - 10. Share capital C 300,000 300,000 - - 11. Share capital D 300,000 300,000 - - 12. Reserves A 130,000 130,000 - - 13. Reserves B 190,000 190,000 - - 14. Reserves C 130,000 130,000 - - 15. Reserves D 80,000 80,000 - 16. Consolidated reserves - - 133,000 72,800 40,320 130,000 376,120 17. Profit or loss A 190,000 190,000 - - 18. Profit or loss B 130,000 130,000 - - 19. Profit or loss C 140,000 140,000 - - 20. Profit or loss D 90,000 90,000 - - 21. Consolidated profit or loss 91,000 78,400 45,360 404,760 Deju 56 190,000 22. Interests of minority shareholders - - 246,000 178,800 114,320 539,120 23. Suppliers 250,000 - - 250,000 24. Various creditors 380,000 - - 380,000 25. Long-term credit 200,000 - - 200,000 26. TOTAL LIABILITIES 3,860,000 3,000,000 27. Total sums D/C 2,180,000 2,180,000 5.b. The drawing up of the Register corresponding to the consolidation operations of the profit or loss account carried out in stages 1-4: Income and expense items Cumulated incomes and expenses A+B+C+D Division of results between Group A and interests of minority shareholders Consolidated incomes and expenses (Group A) Debit Credit Operating incomes 6,600,000 - - 6,600,000 Financial incomes 730,000 - - 730,000 Operating expenses 6,100,000 - - 6,100,000 Financial expenses 575,000 - - 575,000 Expenses with corporation tax 105,000 - - 105,000 Profit or loss of financial year, among which: 550,000 550,000 - - Profit or loss A 190,000 190,000 - - Profit or loss B 130,000 130,000 - - Profit or loss C 140,000 140,000 - - Profit or loss D 90,000 90,000 - - Profit or loss corresponding to parent company (Group A) 91,000 78,400 45,360 190,000 404,760 Profit or loss corresponding to the interests of minority shareholders 39,000 61,600 44,640 145,240 TOTAL 550,000 550,000 STAGE 6 After completing the first 5 stages, the parent company prepares the consolidated financial statements, namely, the consolidated balance sheet and the consolidated profit and loss account of group A. A. Consolidated balance sheet GROUP A Items of balance sheets Group of companies A. Fixed assets 1,550,000 B. Current assets 1,450,000 -Stocks 590,000 -Clients 550,000 A CASE STUDY ON THE CONSOLIDATION OF FINANCIAL STATEMENTS OF ENTITIES AFFILIATED THROUGH DIRECT CONSOLIDATION PROCEDURE 57 B. Consolidated profit and loss account GROUP A Indicators Group of companies Operating incomes 6,600,000 Financial incomes 730,000 Operating expenses 6,100,000 Financial expenses 575,000 Expenses on corporation tax 105,000 Profit or loss of the financial year, including - the part attributed to shareholders in the parent company 550,000 404,760 - part attributed to interests of minority shareholders 145,240 Conclusions The simple consultation of the individual financial statements of the companies that are part of the consolidation area of a group, presented cumulatively, does not allow us to create a real picture of the economic-financial situation of the group, taking into account that the reciprocal operations among the companies that are part of the group are not recorded and nor are their consequences. At the same time, the cumulated individual accounts do not provide a truthful image of equity capitals, including the financial results that belong to the shareholders of the parent company, as distinct from the part that is attributed to other “other shareholders” as “interests of minority shareholders” (shareholders of other companies than the parent company or its affiliated entities). The necessity of approaching, by means of a case study, the applicative nature regarding the use of the direct consolidation procedure for the individual financial statements of companies that form a group seems all the more imperative given that the accounting theory and practice do not abound in effective solutions for the application of accounting regulations concerning the preparation of consolidated financial -Cash and bank accounts 310,000 C. Advance expenses D. Current debts – sums that must be paid in less than a year 630,000 -Suppliers 250,000 -Various creditors 380,000 E. Net current assets/ Net current debts (B-D) 820,000 F. Total assets minus current debts (A+B-D) 2,370,000 G. Debts – sums that should be paid over a period exceeding one year 200,000 H. Provisions - I. Advance incomes - J. Equity capitals - 1. Share capital 850,000 2. Capital premium - 3. Reserves from reevaluation - 4. Consolidated reserves (133.000+72.800+40.320+130.000) 376,120 5. Profit or loss carried forward - 6. Consolidated profit or loss of the financial year (91.000+78.400+45.360+190.000) 404,760 Interests of minority shareholders (246.000+178.800+114.320) 539,120 Total equity capitals 2,170,000 Deju 58 statements. This is why we consider that our study can represent a useful guide for accounting practitioners as well as for students in economics that study accounting. Confident that the accounting theory and practice can be permanently improved, I am eager to receive proposals or suggestions regarding the problematics approached in the current article. References Bogdan, V., Fărcane, N., Popa, D.N., Boloş, M.I. (2011), Raportarea financiară la nivelul grupurilor de societăți – Repere contemporane, București, Editura Economică. Deju, M. (2019), Note de curs Contabilitate consolidată – Bacău. Feleagă, N., Feleagă, L. (2007), Contabilitate consolidată. O abordare europeană și internațională, București, Editura Economică. OMPF no. 1802/2014 for the approval of Accounting Standards concerning annual individual financial statements and annual consolidated financial statements, with subsequent amendments and additions. Conclusions The simple consultation of the individual financial statements of the companies that are part of the consolidation area of a group, presented cumulatively, does not allow us to create a real picture of the economic-financial situation of the group, ta... The necessity of approaching, by means of a case study, the applicative nature regarding the use of the direct consolidation procedure for the individual financial statements of companies that form a group seems all the more imperative given that the ... Confident that the accounting theory and practice can be permanently improved, I am eager to receive proposals or suggestions regarding the problematics approached in the current article. References