This is from the “Accounting Makes Cents” podcast episode #82 released on Monday, 10 February 2025.

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I thought I’d do a series of episodes talking a little bit more about accounting standards since it seems to be a topic that a lot of students are interested in, especially when they’re taking a CIMA case study exam. I think for objective tests, this might not be so much of an issue, since it is a technical topic and if you know the requirements or criteria of the standard, the answer is clear cut and straightforward. However, it is a little more tricky when you are using this technical knowledge and applying it to a situation or scenario.

Jump to show notes.

In fact, in the recent examiners report that was issued after the November 2024 session, examiners note that “Level 1 answers often did little more than summarise the requirements of one or more potentially relevant accounting standards. Such answers often suggested a detailed knowledge of the standard but offered little application of the standard’s requirements to the task in hand. It is rarely sufficient to quote, say, a formal definition set out by an accounting standard if little or no attempt is made to relate that definition to the issues raised in the scenario. Candidates still appear to be weak in terms of their understanding of the F Pillar.”

I think for now I’ll focus on group accounts. For those who want to know where this fits, this is a management level topic, so it normally appears on the MCS. Maybe I’ll do about 3-5 for group accounts or related topics, and then I’ll see how I go along, I might decide to do the other accounting standards and just kinda break it down into digestible, bite-size information. For today though, I’d like us to cover an overall view of consolidating group accounts. It’s one of those areas that can feel overwhelming at first, but once you understand the logic behind it, everything starts to click.

We’ll cover why group consolidation is necessary. We will look at the step-by-step process of consolidation. We’ll touch on common adjustments, including goodwill and non-controlling interests. And we will end off discussing some of the biggest pitfalls students face when learning this topic.

So let’s start.

Why do we consolidate?

At its core, consolidation is about presenting a group of companies as if they were a single entity. So understand what I just said there. It’s a group of companies, be it 2 to many, and putting all their numbers together, and showing only 1 set of financial statements. This ensures that financial statements provide a clear and accurate picture to investors, regulators, and other stakeholders.

Let’s take an example: Suppose Parent Co. owns 80% of Sub Co. On their own, each company prepares its own financial statements. But if we were to just add them together, we’d double-count some elements, like intra-group sales and profits.

To avoid misleading financial reporting, we consolidate by:

• Adding up assets, liabilities, income, and expenses of both companies.
• Eliminating intra-group transactions to prevent double counting.
• Recognising non-controlling interest (NCI) for the part of the subsidiary not owned by the parent.

So let’s try this in practice.

Steps to consolidate

The consolidation process follows a structured approach. Let’s go through it step by step.

1. Start with the individual financial statements of the parent and subsidiary.
2. Combine assets and liabilities line by line.
3. Eliminate the parent’s investment in the subsidiary against the subsidiary’s share capital and reserves.
4. Calculate goodwill. This is done by taking the consideration paid less the difference between fair value of assets acquired and the liabilities assumed. If the goodwill is negative, we recognise a bargain purchase gain.
5. Account for non-controlling interest (NCI). In our example, the parent owns less than 100%, we calculate the proportion of net assets belonging to minority shareholders, which in this case is 20%.
6. Eliminate intra-group transactions. This could include sales between the parent and subsidiary, intra-group balances (loans, receivables, payables), and unrealised profits in inventory or non-current assets

Following these steps ensures that the consolidated statements reflect only external transactions and not internal ones.

Common adjustments in consolidation

Now, let’s break down some of the biggest adjustments students struggle with:

Goodwill Impairment

Goodwill isn’t amortised—it’s tested annually for impairment. If impaired, the loss reduces profit. Imagine your Parent Co. acquired 80% of Sub Co. for $500,000. The fair value of Sub Co.’s net assets is $400,000. To get to goodwill, you take $500,000 and subtract 80% of $400,000, which gives you an amount of $180,000. And that’s your goodwill.

Non-Controlling Interest (NCI)

This represents the portion of a subsidiary owned by external shareholders. It’s shown separately in equity and the income statement. In our example, it is 20%, so that just means NCI holds 20% of Sub Co.’s net assets, recorded in equity.

Intra-Group Transactions

Any sales, expenses, or balances between group entities must be eliminated. So as an example: If Parent Co. sells goods to Sub Co., the sales on Parent Co. and the purchase on Sub Co. have to be eliminated. Dividends paid by the subsidiary to the parent get eliminated in consolidation as well. Any intra-group loans must be eliminated so that the group doesn’t appear to be lending to itself.

By understanding these adjustments, you’ll avoid common pitfalls in consolidation.

You may want more details as to what and why for some of these adjustments. I’ll try and cover those in separate episodes so that this specific episode doesn’t feel so tedious and burdensome with too much information. And I wanna keep it just about consolidation as an overview.

Real-world importance of consolidation

So, why does all of this matter? And I’d like to keep asking that for each of these episodes. Because the more you understand why you’re doing something for the standards, and not just to follow some rules, the more you will be able to apply your knowledge to a specific circumstance, scenario or situation.

The first reason is investor decisions. Investors rely on group financials to assess company performance. If consolidation isn’t done correctly, they might be misled.

The second reason is regulatory compliance. They are accounting standards for a reason. IFRS and other standards require accurate consolidation. Failing to eliminate intra-group transactions can lead to regulatory issues, which could result in fines, etc.

Thirdly, in mergers  and acquisitions, when companies acquire others, we need accurate fair valuation and reporting, and consolidation contributes to that, especially when we are looking at buying a group of companies. A great example of not following these rules properly is the collapse of Enron, which cites poor consolidation practices playing a major role in hiding financial issues from investors. That’s how they were able to do it.

Common student questions

Before we end, let’s address some common questions students have:

“Do we always have to calculate goodwill?”
Yes, if there’s an acquisition. If there’s no goodwill, you check for a bargain purchase gain.

“What happens if a subsidiary makes a loss?”
The loss is consolidated, and if there is non-controlling interest in the subsidiary, then a part of that loss is allocated to the NCI.

“How do we treat foreign subsidiaries?”
Exchange rates come into play, but it’s really not a lot different to how you would treat local subsidiaries. Assets and liabilities are translated at the closing rate, income at the average rate, and exchange differences go to reserves. That’s the extra step that you have to perform in order to be able to consolidate foreign subsidiaries into the consolidated account.

Show notes simplified

In this episode, MJ the tutor starts a series on the F pillar by tackling an overview on group consolidation. She’ll explore why it’s necessary, what common adjustments are made during consolidation, and what pitfalls students face when learning about this topic.

Resources and links from this episode: Management Case Study Interim Examiners Report November 2024