The parent company will report the ‘investments in subsidiaries’ as an asset, with the subsidiary reporting the equivalent equity owned by the parent as equity on its own accounts. At the consolidated level, an elimination adjustment must be recorded so that the consolidated statement is not overstated by the amount of equity in subsidiaries recorded by the parent. The elimination adjustment is made with the intent of offsetting the intra-group transaction, such that the values are not double counted at the consolidated level. This is to ensure that the consolidated financial statements are the financial statements of a group of entities in which the assets, liabilities, equity, income, expenses and cash flows of the parent entity and its subsidiary entities are presented as those of a single economic entity.
A very simple example just to have an easy understanding of the consolidation/ elimination process, followed by a true life example in a picture.
|Reporting line||Subsidiary 1|
|Cash Elimination of the parent’s investment|
|Investment in subsidiary (equity accounting)|
Some other elements regarding elimination and consolidation: Elimination of the parent’s investment
- Share capital in the consolidated financial statements: The amount of share capital that appears in a consolidated balance sheet is the total par or stated value of the outstanding share capital of the parent company. Elimination of the parent’s investment
- Goodwill from consolidation may appear in the general ledger of the surviving entity in a merger or consolidation accounted for as a purchase. But goodwill from consolidation would not appear in the general ledger of a parent company or its subsidiary. Goodwill is entered in consolidation working papers when the reciprocal investment and equity amounts are eliminated. Working paper entries affect consolidated financial statements, but they are not always entered in any general ledger.
- As shown above the parent company’s investment in subsidiaries does not appear in a consolidated balance sheet if the subsidiary is consolidated. It appears in the parent company’s separate balance sheet under the heading “investments”. Investments in unconsolidated subsidiaries are shown in consolidated balance sheets as investments. They are accounted for under the equity method if the parent can exercise significant influence over the subsidiary; otherwise, they are accounted for by the cost method.
- The shareholders’ equity of a parent company under the equity method is the same as the consolidated shareholders’ equity of a parent company and its subsidiaries provided that the noncontrolling interest, if any, is reported outside of the consolidated shareholders’ equity. If noncontrolling interest is included in consolidated shareholders’ equity, it represents the sole difference between the parent company’s shareholders’ equity under the equity method and consolidated shareholders’ equity.