Cost of Control, Goodwill and Capital Reserve in Consolidation

Understand Cost of Control, Goodwill and Capital Reserve

Key rules to remember

Parent's share in subsidiary equity

Equity at acquisition = Share capital + Pre-acquisition reserves and profits (other adjustments as given)

Use balances on the date of investment, not the balance sheet date.

Parent's portion

Parent's portion = Equity at acquisition × Parent's % holding

Holding % is based on shares held ÷ total shares (or voting power as the question states).

Cost of control

Cost of control = Cost of investment − Parent's portion of equity at acquisition

Positive = goodwill. Negative = capital reserve.

Minority interest

Minority interest = Minority % × (Equity at acquisition) + Minority % × (Post-acquisition movement in equity)

Equals minority % × current equity of the subsidiary, if no adjustments.

Parent's post-acquisition reserves

Consolidated reserves = Parent's reserves + Parent % × Post-acquisition reserves of subsidiary

Goodwill is not reduced from reserves unless impaired or the question says so.

Carrying amount rule

If carrying amount of investment ≠ cost, use the carrying amount

AS 21 para 13 states this.

How to solve Cost of Control, Goodwill and Capital Reserve questions

1. 1Find the holding percentage of the parent and the minority percentage.
2. 2Note the date of acquisition and list the subsidiary's share capital and reserves on that date.
3. 3Add them to get equity at acquisition. Make any given adjustments such as revaluation.
4. 4Multiply by the parent's percentage to get the parent's portion.
5. 5Subtract the parent's portion from the cost of investment. Excess is goodwill. Shortfall is capital reserve.
6. 6Work out post-acquisition profit: current reserves minus reserves at acquisition.
7. 7Split post-acquisition profit between the parent and the minority. Add the parent's share to consolidated reserves.
8. 8Compute minority interest and present goodwill or capital reserve in the consolidated balance sheet.

Quickest way: Three-line cost of control table

Common mistakes in Cost of Control, Goodwill and Capital Reserve

• Using the subsidiary's current reserves instead of reserves at the date of acquisition.

  The closing balance sheet is what you see first, so it feels like the obvious figure.

  Fix: Take reserves from the acquisition date only. The later increase is post-acquisition.

• Applying 100% of subsidiary equity instead of the parent's percentage.

  Students forget the minority share in a partly owned subsidiary.

  Fix: Multiply equity by the holding percentage. The balance belongs to minority interest.

• Showing goodwill as a reduction from reserves.

  Goodwill and capital reserve are confused with the elimination entry.

  Fix: Goodwill is an asset in the consolidated balance sheet. Capital reserve is shown under reserves.

• Treating a loss in the subsidiary's profit and loss account as nil at acquisition.

  Students focus on credit balances only.

  Fix: A debit balance at acquisition reduces equity. Deduct it from share capital and reserves.

• Adding the subsidiary's pre-acquisition profits to consolidated reserves.

  Students merge all reserves together.

  Fix: Pre-acquisition profits are used in cost of control. Only the parent's share of post-acquisition profits goes to group reserves.

• Ignoring unpaid or partly paid shares when finding equity.

  Students use the face value without checking paid-up amounts.

  Fix: Use paid-up share capital of the subsidiary and apply the holding on that basis.

Worked examples