Consolidation (business)
Encyclopedia
Consolidation or amalgamation is the act of merging many things into one. In business
, it often refers to the mergers and acquisitions
of many smaller companies into much larger ones. In the context of financial accounting, consolidation refers to the aggregation of financial statements
of a group company as consolidated financial statements. The taxation term of consolidation refers to the treatment of a group of companies and other entities as one entity for tax purposes. Under the Halsbury's Laws of England
, 'amalgamation' is defined as "a blending together of two or more undertakings into one undertaking, the shareholders of each blending company, becoming, substantially, the shareholders of the blended undertakings. There may be amalgamations, either by transfer of two or more undertakings to a new company, or to the transfer of one or more companies to an existing company". Thus, the two concepts are, substantially, the same. However, the term amalgamation is more common when the organizations being merged are private schools or regiments.
Company is formed when in the process of the amalgamation, the combined company is formed out of the transaction. The amalgamated company is otherwise called the transferee company. The company or companies, which merge into the new company, are called the transferor companies and, the company, into which the transferor companies merge, is known as the transferee company.
"Amalgamating company" : The company or companies, which are merged, are called the "amalgamating companies". The amalgamating company or companies are also called the "transferor company/companies."
dsd Date.
Regardless of the method of acquisition; direct costs, costs of issuing securities and indirect costs are treated as follows:
When purchasing the net assets the acquiring company records in its books the receipt of the net assets and the disbursement of cash, the creation of a liability or the issuance of stock as a form of payment for the transfer.
Treatment to the acquired company:
The acquired company records in its books the elimination of its net assets and the receipt of cash, receivables or investment in the acquiring company (if what was received from the transfer included common stock from the purchasing company). If the acquired company is liquidated then the company needs an additional entry to distribute the remaining assets to its shareholders.
When the purchasing company acquires the subsidiary through the purchase of its common stock, it records in its books the investment in the acquired company and the disbursement of the payment for the stock acquired.
Treatment to the acquired company:
The acquired company records in its books the receipt of the payment from the acquiring company and the issuance of stock.
FASB 141 Disclosure Requirements:
FASB 141 requires disclosures in the notes of the financial statements when business combinations occur. Such disclosures are:
Treatment of goodwill impairments:
, the purchasing company’s influence over the acquired company is not significant. (APB 18 specifies conditions where ownership is less than 20% but there is significant influence).
The purchasing company uses the cost method to account for this type of investment. Under the cost method, the investment is recorded at cost at the time of purchase. The company does not need any entries to adjust this account balance unless the investment is considered impaired or there are liquidating dividends, both of which reduce the investment account.
Liquidating dividend
s : Liquidating dividends occur when there is an excess of dividends declared over earnings of the acquired company since the date of acquisition. Regular dividends are recorded as dividend income whenever they are declared.
Impairment loss : An impairment loss occurs when there is a decline in the value of the investment other than temporary.
To account for this type of investment, the purchasing company uses the equity method
. Under the equity method, the purchaser records its investment at original cost. This balance increases with income and decreases for dividends from the subsidiary that accrue to the purchaser.
Treatment of Purchase Differentials: At the time of purchase, purchase differentials arise from the difference between the cost of the investment and the book value of the underlying assets.
Purchase differentials have two components:
Purchase differentials need to be amortized over their useful life; however, new accounting guidance states that goodwill is not amortized or reduced until it is permanently impaired, or the underlying asset is sold.
. The parent company needs to issue consolidated financial statements at the end of the year to reflect this relationship.
Consolidated financial statements show the parent and the subsidiary as one single entity. During the year, the parent company can use the equity or the cost method to account for its investment in the subsidiary. Each company keeps separate books. However, at the end of the year, a consolidation working paper is prepared to combine the separate balances and to eliminate the intercompany transactions, the subsidiary’s stockholder equity and the parent’s investment account. The result is one set of financial statements that reflect the financial results of the consolidated entity
Business
A business is an organization engaged in the trade of goods, services, or both to consumers. Businesses are predominant in capitalist economies, where most of them are privately owned and administered to earn profit to increase the wealth of their owners. Businesses may also be not-for-profit...
, it often refers to the mergers and acquisitions
Mergers and acquisitions
Mergers and acquisitions refers to the aspect of corporate strategy, corporate finance and management dealing with the buying, selling, dividing and combining of different companies and similar entities that can help an enterprise grow rapidly in its sector or location of origin, or a new field or...
of many smaller companies into much larger ones. In the context of financial accounting, consolidation refers to the aggregation of financial statements
Financial statements
A financial statement is a formal record of the financial activities of a business, person, or other entity. In British English—including United Kingdom company law—a financial statement is often referred to as an account, although the term financial statement is also used, particularly by...
of a group company as consolidated financial statements. The taxation term of consolidation refers to the treatment of a group of companies and other entities as one entity for tax purposes. Under the Halsbury's Laws of England
Halsbury's Laws of England
Halsbury's Laws of England is a uniquely comprehensive and authoritative encyclopaedia of law, and provides the only complete narrative statement of law in England and Wales. It has an alphabetised title scheme covering all areas of law, drawing on authorities including Acts of the United Kingdom,...
, 'amalgamation' is defined as "a blending together of two or more undertakings into one undertaking, the shareholders of each blending company, becoming, substantially, the shareholders of the blended undertakings. There may be amalgamations, either by transfer of two or more undertakings to a new company, or to the transfer of one or more companies to an existing company". Thus, the two concepts are, substantially, the same. However, the term amalgamation is more common when the organizations being merged are private schools or regiments.
Types of business amalgamations
There are three forms of business combinations:- Statutory Merger: a business combination that results in the liquidation of the acquired company’s assets and the survival of the purchasing company.
- Statutory Consolidation: a business combination that creates a new company in which none of the previous companies survive.
- Stock Acquisition: a business combination in which the purchasing company acquires the majority, more than 50%, of the Common stockCommon stockCommon stock is a form of corporate equity ownership, a type of security. It is called "common" to distinguish it from preferred stock. In the event of bankruptcy, common stock investors receive their funds after preferred stock holders, bondholders, creditors, etc...
of the acquired company and both companies survive. - Amalgamation: Means an existing Company which is taken over by another existing company. In such course of amalgamation, the consideration may be paid in "cash" or in "kind", and the purchasing company survives in this process....
Terminology
- Parent-subsidiary relationship: the result of a stock acquisition where the parent is the acquiring company and the subsidiary is the acquired company.
- Controlling Interest: When the parent company owns a majority of the common stock.
- Non-Controlling Interest or Minority InterestMinority interestMinority interest in business is an accounting concept that refers to the portion of a subsidiary corporation's stock that is not owned by the parent corporation...
: the rest of the common stock that the other shareholders own. - Wholly owned subsidiary: when the parent owns all the outstanding common stock of the subsidiary.
Company is formed when in the process of the amalgamation, the combined company is formed out of the transaction. The amalgamated company is otherwise called the transferee company. The company or companies, which merge into the new company, are called the transferor companies and, the company, into which the transferor companies merge, is known as the transferee company.
"Amalgamating company" : The company or companies, which are merged, are called the "amalgamating companies". The amalgamating company or companies are also called the "transferor company/companies."
dsd Date.
Accounting treatment (US GAAP)
A parent company can acquire another company in two ways:- By purchasing the net assets.
- By purchasing the common stock of another company.
Regardless of the method of acquisition; direct costs, costs of issuing securities and indirect costs are treated as follows:
- Direct costs, Indirect and general costs: the acquiring company expenses all acquisition related costs as they are incurred.
- Costs of issuing securities: these costs reduce the issuing price of the stock.
Purchase of Net Assets
Treatment to the acquiring company:When purchasing the net assets the acquiring company records in its books the receipt of the net assets and the disbursement of cash, the creation of a liability or the issuance of stock as a form of payment for the transfer.
Treatment to the acquired company:
The acquired company records in its books the elimination of its net assets and the receipt of cash, receivables or investment in the acquiring company (if what was received from the transfer included common stock from the purchasing company). If the acquired company is liquidated then the company needs an additional entry to distribute the remaining assets to its shareholders.
Purchase of Common Stock
Treatment to the purchasing company:When the purchasing company acquires the subsidiary through the purchase of its common stock, it records in its books the investment in the acquired company and the disbursement of the payment for the stock acquired.
Treatment to the acquired company:
The acquired company records in its books the receipt of the payment from the acquiring company and the issuance of stock.
FASB 141 Disclosure Requirements:
FASB 141 requires disclosures in the notes of the financial statements when business combinations occur. Such disclosures are:
- The name and description of the acquired entity and the percentage of the voting equity interest acquired.
- The primary reasons for acquisition and descriptions of factors that contributed to recognition of goodwill.
- The period for which results of operations of acquired entity are included in the income statement of the combining entity.
- The cost of the acquired entity and if it applies the number of shares of equity interest issued, the value assigned to those interests and the basis for determining that value.
- Any contingent payments, options or commitments.
- The purchase and development assets acquired and written off.
Treatment of goodwill impairments:
- If Non-Controlling Interest (NCI) based on fair value of identifiable assets: impairment taken against parent's income & R/E
- If NCI based on fair value of purchase price: impairment taken against subsidiary's income & R/E
1. 20% ownership or less
When a company purchases 20% or less of the outstanding common stockCommon stock
Common stock is a form of corporate equity ownership, a type of security. It is called "common" to distinguish it from preferred stock. In the event of bankruptcy, common stock investors receive their funds after preferred stock holders, bondholders, creditors, etc...
, the purchasing company’s influence over the acquired company is not significant. (APB 18 specifies conditions where ownership is less than 20% but there is significant influence).
The purchasing company uses the cost method to account for this type of investment. Under the cost method, the investment is recorded at cost at the time of purchase. The company does not need any entries to adjust this account balance unless the investment is considered impaired or there are liquidating dividends, both of which reduce the investment account.
Liquidating dividend
Liquidating dividend
A liquidating distribution, sometimes called a liquidating dividend, is a type of nondividend distribution made by a corporation to its stockholders during its partial or complete liquidation. Like nondividend distributions, they are not paid out of the earnings and profits of the corporation...
s : Liquidating dividends occur when there is an excess of dividends declared over earnings of the acquired company since the date of acquisition. Regular dividends are recorded as dividend income whenever they are declared.
Impairment loss : An impairment loss occurs when there is a decline in the value of the investment other than temporary.
2. 20% to 50% ownership — Associate company
When the amount of stock purchased is between 20% and 50% of the common stock outstanding, the purchasing company’s influence over the acquired company is often significant. The deciding factor, however, is significant influence. If other factors exist that reduce the influence or if significant influence is gained at an ownership of less than 20%, the equity method may be appropriate (FASB interpretation 35 (FIN 35) underlines the circumstances where the investor is unable to exercise significant influence).To account for this type of investment, the purchasing company uses the equity method
Equity method
Equity method in accounting is the process of treating equity investments, usually 20–50%, in associate companies. The investor keeps such equities as an asset. The investor's proportional share of the associate company's net income increases the investment , and proportional payment of dividends...
. Under the equity method, the purchaser records its investment at original cost. This balance increases with income and decreases for dividends from the subsidiary that accrue to the purchaser.
Treatment of Purchase Differentials: At the time of purchase, purchase differentials arise from the difference between the cost of the investment and the book value of the underlying assets.
Purchase differentials have two components:
- The difference between the fair market value of the underlying assets and their book value.
- GoodwillGoodwill (accounting)Goodwill is an accounting concept meaning the value of an entity over and above the value of its assets. The term was originally used in accounting to express the intangible but quantifiable "prudent value" of an ongoing business beyond its assets, resulting perhaps because the reputation the firm...
: the difference between the cost of the investment and the fair market value of the underlying assets.
Purchase differentials need to be amortized over their useful life; however, new accounting guidance states that goodwill is not amortized or reduced until it is permanently impaired, or the underlying asset is sold.
3. More than 50% ownership — Subsidiary
When the amount of stock purchased is more than 50% of the outstanding common stock, the purchasing company has control over the acquired company. Control in this context is defined as ability to direct policies and management. In this type of relationship the controlling company is the parent and the controlled company is the subsidiarySubsidiary
A subsidiary company, subsidiary, or daughter company is a company that is completely or partly owned and wholly controlled by another company that owns more than half of the subsidiary's stock. The subsidiary can be a company, corporation, or limited liability company. In some cases it is a...
. The parent company needs to issue consolidated financial statements at the end of the year to reflect this relationship.
Consolidated financial statements show the parent and the subsidiary as one single entity. During the year, the parent company can use the equity or the cost method to account for its investment in the subsidiary. Each company keeps separate books. However, at the end of the year, a consolidation working paper is prepared to combine the separate balances and to eliminate the intercompany transactions, the subsidiary’s stockholder equity and the parent’s investment account. The result is one set of financial statements that reflect the financial results of the consolidated entity
See also
- Arrangements between railroadsArrangements between railroadsRailway companies can interact with and control others in many ways. These relationships can be complicated by bankruptcies.-Operating:Often, when a railroad first opens, it is only a short spur of a main line. The owner of the spur line may contract with the owner of the main line for operation of...
- Associate companyAssociate companyAn associate company in accounting and business valuation is a company in which another company owns a significant portion of voting shares, usually 20–50%. In this case, an owner does not consolidate the associate's financial statements. Ownership of over 50% creates a subsidiary, with its...
- Business valuationBusiness valuationBusiness valuation is a process and a set of procedures used to estimate the economic value of an owner’s interest in a business. Valuation is used by financial market participants to determine the price they are willing to pay or receive to consummate a sale of a business...
- Consolidated financial statement
- Enterprise valueEnterprise valueEnterprise value , Total enterprise value , or Firm value is an economic measure reflecting the market value of a whole business. It is a sum of claims of all the security-holders: debtholders, preferred shareholders, minority shareholders, common equity holders, and others...
- Goodwill (accounting)Goodwill (accounting)Goodwill is an accounting concept meaning the value of an entity over and above the value of its assets. The term was originally used in accounting to express the intangible but quantifiable "prudent value" of an ongoing business beyond its assets, resulting perhaps because the reputation the firm...
- Minority interestMinority interestMinority interest in business is an accounting concept that refers to the portion of a subsidiary corporation's stock that is not owned by the parent corporation...
- Mergers and acquisitionsMergers and acquisitionsMergers and acquisitions refers to the aspect of corporate strategy, corporate finance and management dealing with the buying, selling, dividing and combining of different companies and similar entities that can help an enterprise grow rapidly in its sector or location of origin, or a new field or...
- Tax consolidationTax consolidationTax consolidation is a regime adopted in the tax or revenue legislation of a number of countries which treats a group of wholly owned or majority-owned companies and other entities as a single entity for tax purposes...