Accounting for Associates

Associates are the companies over which the other company has significant influence in such a way that it does not hold more than 50 percent shares. By significant influences we mean the power or right to participate in the operating and financial decisions but such influence does not allow the investor to exercise control over these activities. Usually, the holding of shares between 20 {1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} to 50 {1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} constitute the associate status.

Example

Alpha acquired 25{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} shares in the entity C. This entitles Alpha to attend the meetings of C to have a say but this holding of shares does not let him affect any decision singly as he lacks the ownership to exercise significant control over the operating and financial activities.

Accounting Treatment

In order to perform the accounting for associates, there is no need to consolidate its financial figures. The treatment required is to just make one line entry into the financial statements as follows:

Balance Sheets

Non-Current Assets

Investment in associates xxx

Income Statement

Profit or Loss

Share of associate xxx

Question

Alpha acquired 40{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} of the shares in C Plc on 1st June 2013 for $750,000. The accumulated profit figure of C at that time was $700,000. The accounts of both companies for the year ended 30th June 2015 are as follows:

Income Statement
For the period ended 30th June 2015
AlphaC
Sale revenue5,1401,200
Cost of goods sold(2,000)(420)
Gross profit3,140780
Operating expenses(600)(200)
Operating profit2,540580
Investment income2020
Profit before interest2,560600
Finance charges(260)(80)
Profit before tax2,300520
Tax(300)(120)
Profit after tax2,000400
Balance Sheet
Ast at 30th June 2015
Assets
 Non-current assets
Property,Plant & Equipment4,0001,200
Investment – Associate company750
Current Assets200600
Total Assets4,9501,800
Equity
Share capital 1,000500
Accumulated profit/ retained earnings3,7501,100
Current liabilities200200
Total equity and liabilities4,9501,800
C declared and paid a dividend of $100,000 in the year which is included in the operating expenses of Alpha. There is an impairment of goodwill by 20{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} in C.
Required: Prepare consolidated income statement for Alpha Group for the year ended 30th June 2015.

Consolidated income statement

Income Statement
For the period ended 30th June 2015
GoodwillDividendEarningsAlpha
AlphaCWorking 1Working 2Working 3Group
Sale revenue5,1401,2005,140
Cost of goods sold(2,000)(420)(2,000)
Gross profit3,1407803,140
Operating expenses(600)(200)(54)(40)(694)
Profit before interest2,5405802,446
Investment income202020
Profit before tax2,5606002,466
Finance charges(260)(80)(260)
2,206
Share of associate160160
Profit before tax2,3005202,366
Tax(300)(120)(300)
Profit after tax2,0004002,066

Workings

Impairment of goodwill:

Amount paid to acquire the interest in C $750

Net asset received: Share capital + Retained earning at the time of acquisition = 500 + 700 = 1200 x 40{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} share of group = 480

Goodwill on acquisition of A = 750 – 480 = 270

Impairment on goodwill = 20 {1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} x 270 = 54

Dividend recieved from associate company C = 100 x 40{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} = 40

Share of profit from associate = 400 x 40{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} = 160

Investment in C (Associate company)

Cost of investment 750 + 40{1bb28fb76c3d282be6cfd0391ccf1d9529baae691cd895e2d45215811b51644c} x (Change in retained earnings 400) – dividend received 40 – goodwill impairment value 54 = 816