Methodological guidelines for the consolidation of financial statements of a group of enterprises

The obligation to prepare consolidated financial statements arises according to the Accounting Act Section IV Consolidated Financial Statements. Art. 31 determines that a consolidated financial statement is drawn up by the parent company according to the rules of the corresponding national or international accounting standards. Article 32 stipulates that small groups may not prepare consolidated financial statements. However, this privilege does not apply to small groups in which at least one of the enterprises is of public interest. However, this does not mean that, despite the fact that there is no legal requirement, the group cannot prepare such a report, since this is in the interest of the owners, and also a frequent requirement of lending institutions.

The thresholds for a small group are the same as for a small enterprise:
Art. 21 para. 2 of the Civil Code Small groups are groups of enterprises for which the sum of the indicators according to their annual financial statements on a consolidated basis, drawn up as of December 31 of the current reporting period, does not exceed the thresholds of at least two of the following three indicators:
1. balance sheet value of assets – BGN 8,000,000;
2. net revenue from sales – BGN 16,000,000;
3. average number of personnel for the reporting period – 50 people

From the audit point of view, the consolidated financial statements are subject to an independent financial audit, as well as all financial statements of the individual enterprises included in the consolidation, including the individual statement of the parent enterprise.

The procedure for drawing up and presenting consolidated financial statements is defined in SS 27 Consolidated Financial Statements and Accounting of Investments in Subsidiary Enterprises as last revised in SG No. 3/2016, and for enterprises applying IAS this is IAS 27 Consolidated and Individual financial statements.

The purpose of this article is not to explain or otherwise recreate the statements in the standards, but to consider the technical methods and propose methodological solutions when carrying out consolidation. In the presentation, we will adhere to the consolidation procedures in SS27 Appendix 1 to this article Sample from SS27 and all examples will be tailored to companies that apply NSS as a basis for preparing financial statements. The article does not cover all possible cases that may arise during consolidation in different groups of enterprises. The emphasis here is on what technical tricks to use so that the consolidation process can be automated to the maximum extent.

Consolidation procedures as a theory are very logical and easy to understand. In practice, however, the consolidation of a group of several enterprises faces many cases, which are sometimes technically difficult to solve, and often put the result of the consolidation at risk as a whole. Even the simple collection of several reports into one is sometimes accompanied by unpleasant technical errors, the detection of which is very labor-intensive. Consolidation of financial statements covers not only the balance sheet, income statement, cash flow and equity statement, but also the notes related to them. The basis for preparing the consolidated statement is the individual statement of the parent company and the financial statements of the companies in the group with the corresponding recalculations, reclassifications and eliminations. Usually, the person doing the consolidation checks that the entity’s report matches the submitted consolidation file before starting. Is it possible to compile the individual reporting requirements with the consolidated reporting requirements into a single file to use in both cases. This would increase the efficiency of the work, and it would also give greater certainty that no technical errors would be made. For this to happen, however, a structured file must be prepared that covers the specifics of the entire group. Especially in the part of the notes, which should reflect the specifics of the respective enterprise and subsequently of the group as a whole. This file must be prepared in advance and sent to the enterprises. It must list the enterprises that participate in the group, as well as determine the necessary information related to transactions in the group in a uniformly structured form.
Let’s consider an example with the consolidation of 4 enterprises: Alpha1, Alpha2 , Alpha 3 and Alpha 4, where Alpha1 is a parent enterprise with three children Alpha2 , Alpha 3 and Alpha 4. The four enterprises work with the same file that describes their order : Alpha1, Alpha2, Alpha3, Alpha4.

When preparing the individual report, each of the enterprises describes the information about the transactions with the other enterprises in the group in identically structured forms.
For example, the information on Receivables from enterprises in the Alpha 1 group will be submitted in the following form:

Alpha 2 will submit its claims information in the same form:

Accordingly, obligations to enterprises of the group

Note that enterprises are always in the same column or row, regardless of the fact that an enterprise cannot transact with itself. In this way, the individual information submitted by individual enterprises can be easily converted into a matrix, where counter calculations can be seen on the one hand and controls and eliminations can be automated on the other. The arrangement in a matrix in the consolidated file prepared by the individual is a task of specialized software.

The matrix clearly shows that Alpha 1’s receivables from all firms 4,000 units are equal to the liabilities of all firms to it 4,000 units; Alpha 2’s receivables to all companies’ liabilities to it of 3500 units are also correctly submitted, but Alpha 4 has not submitted a claim to Alpha 3 or Alpha 3 has submitted a non-existent liability. Accordingly, this should be further specified. Of course, this clarification should have been done during the inventory, but nevertheless it sometimes happens that the files originally sent contain certain inaccuracies.
The method of submitting and summarizing information on: cash flows, income and expenses is similar. Countertotals presented in a matrix are easy to check and embed controls.

When submitting the information related to participation in net assets and the value of shares and shares, the fact that the value of shares and shares may be different from participation in net assets, which in practice is the value of goodwill in the consolidated statement, should be foreseen. The file must provide for the possibility of dividing the investment amount in advance. In this way, it is easy to see in the matrix the amounts to be eliminated and the amount of goodwill. Amortization of goodwill is carried out in accordance with CC22 and is presented in the consolidated statement of income and expenses. With proper elimination, the item “Investments in Subsidiaries” cannot exist in the consolidated statement. The size of the group’s share capital should be equal to the share capital of the parent company.

More complicated is the case where we have a sale of material stocks and fixed assets. CC 27 defines: 6.2 g) the balance sheet value of the assets is adjusted with the profits and losses arising as a result of transactions between enterprises of the group, when the same are included in the balance sheet value of these assets, etc. 7.3. In the consolidated statement of income and expenses, the income and expenses reported as a result of transactions between enterprises of the group are eliminated; b) the profits and losses arising as a result of transactions between enterprises of the group, when the same are included in the balance sheet value of the assets.

These seemingly simple requirements hide a lot of pitfalls. In order to make these corrections, all the accompanying information about the completed transactions, both on the buyer’s side and on the seller’s side, must be present. With a large number of transactions with different % sales markups, the consolidation process becomes very complicated and contains many risks for the report as a whole. In some groups, a single % is accepted for transactions within the group, which leads to a significant simplification of the procedures, but this is not always possible. We recommend that in groups, management should set a common markup policy for all transactions in the group, if possible.

Let’s consider a significantly simplified example of the sale of inventory from company Alpha 1 to company Alpha 2 with the following parameters: Alpha 1 sells inventory (goods) to Alpha 2 with a reported value of 1,000 units and a sale value of 1,200 units. Accordingly, Alpha 2 records the purchased materials as raw materials worth 1,200 units. Subsequently, it uses part of these materials for managerial needs worth 800 units, and the rest is in stock at the reporting date. As of 31.12. Alpha 1 and Alpha 2 reports are as follows:

K% markup:(1200/1000-1)*100=20%

From a methodological point of view, it is important when considering the information on transactions with material stocks in the group that the submitted information is divided into transactions carried out during the year and material stocks purchased by enterprises in the group that are available at the beginning of the period. This separation is important for correctly detecting the opposite numbers in the matrix and determining the overestimate coefficients. If the markup coefficients for different transactions are different, it is not advisable to use an average coefficient, because this can lead to significant distortions in the results. In the seller’s balance sheet, inventories can be: raw materials, goods, production, work in progress. The sale is covered in two articles in the ODA. However, when there is a sale of raw materials and materials to the buyer, it is not necessary that the purchase is also reflected as raw materials and materials. For the buyer, the purchase can be reflected as: material, commodity or fixed asset. All this reflects the structuring of the form in which the consolidator will collect the information from the enterprises in the group. It is most logical for the information to be provided by the enterprise where it is available.

The seller to provide information on:

⮚ Report value of sold: materials, goods, production;
⮚ Value of income;

Thus we will have a calculation of K% of markup; we will reverse the amount of income and expense from the carrying amount of assets sold;
The buyer has in its accounting records:

⮚ Purchase value that is equal to the seller’s revenue and can be identified;
⮚ Value of materials input, value of materials sold, value of materials available;
⮚ Value of the accrued depreciation, if it is DMA
With the information obtained in this way, the consolidator must:
⮚ Identify the counter transactions;
⮚ To select K% for cost adjustment and balance number of assets;
We said that it is important that the information on the opening balances of materials purchased by enterprises in the group is shown separately in the file. This is because these stocks are from transactions that are from previous years and the current submissions from the sellers will not have counter amounts to compare. Also, the K% for correction may be different for them. In these cases, the consolidator must look up K% information to work with from prior years’ files;

When buying used DMAs, the information must also be divided into transactions from the current year and transactions from previous years. For transactions from the current year, the seller must submit information on:

⮚ Book value at sale;
⮚ Value of sale proceeds;
⮚ Additional depreciation that would have been charged to the end of the accounting period if the asset had not been sold;

Accordingly, the buyer submits information about:

⮚ Book value at the end of the year;
⮚ Charged depreciation for this asset in its ODA;

Let’s look at an example: Alpha 1 sells to Alpha 2 a machine worth 2000 units with a book value at the date of sale of 1500 units and accumulated depreciation until the sale of 150 units. If the machine had not been sold, Alpha 1 would have charged another 100 units . depreciation expense until the end of the reporting period. Alpha 2 starts the machine with an accounting value of 2,000 units and charges 180 units of depreciation until the end of the accounting period.

How will this example be reflected in the consolidation statement?

Consolidators should take care to retain information on DMA transactions and separately request information on available DMA at the end of the year purchased from group entities that were the subject of a transaction in previous years.

An important point in consolidation is the calculation of the minority interest. This is the minority interest in the group’s net assets. Let’s look at the following example:

The parent company Alpha 1 has subscribed capital: 1000 units. It has subsidiaries as follows:
Alpha 2 with subscribed capital 2000 units, of which 60%=1200 belong to Alpha 1 and 40%=800 units belong to the minority;
Alpha 3 with registered capital 3000 units, of which 70% = 2100 belong to Alpha 1 and 30% =900 units belong to the minority;
Alpha 4 with a registered capital of 2,500 units, of which: 40%=1,000 units are in Alpha 3; 40%=1000 units belong to Alpha2 and 20%=500 units belong to the minority;

In this example, the holdings in Alpha 2 and Alpha 3 are clear because they directly belong to the parent Alpha 1. However, this is not the case with Alpha 4. In Alpha 4, the minority directly owns 20%=500 units, but through the holdings of Alpha3 and Alpha 2 have additional appearances. Alpha 3 is divided between Alpha 1 and the minority 70/30. That is why 1000 units of Alpha 3 participation in Alpha 4 must be divided in the same proportions, ie: 700 units Alpha 1 and 300 units – minority; The participation of Alpha 2 is divided 60/40 ie. Alpha 1 has 600 units and 400 units belong to the minority; From the calculations, it can be seen that the capital of Alpha 4 is actually distributed between Alpha 1 and the minority: Alpha 1=600+700=1300 and the Minority: 500+400+300=1200 units. After the eliminations, as indicated in item 6.2 on SS27, the minority participation in the net assets of the group will be worth: 800 units + 900 units + 1200 units. The amount of the basic capital in the group must remain 1000 units, which is the basic capital of the parent company. In this case, that part of the capital that belongs to the minority will be part of the reserves.

The financial result in the consolidated ODA and reflected as the financial result for the current period in the balance sheet must also be divided into the financial result belonging to the group and the financial result belonging to the minority participation. Let’s look at an example:

Enterprise Alpha 1 is the parent; Alpha 2 subsidiary with a ratio of 70/30; Alpha 3 daughter with a ratio of 65/35.
Alpha 2 ends the year with a profit of 1000 units, incl. minority share: 300 units;
Alpha 3 ends the year with a profit of 2000 units, incl. minority share: 700 units
In OPR-consolidated the profit is 1500 units minority share of 1000 units is the same as their share of profit in subsidiaries.
Reclassifications deserve special attention during consolidation. These are the cases where certain items in the individual statements have one treatment and in the consolidated statement they have another.

Example: Enterprise Alpha 1 has a building that it leases to its subsidiaries Alpha 2 and Alpha 3. In the individual report of Alpha 1, the building is presented as an investment property and the accounting policies adopted in this case are in accordance with SS 40. In the consolidated report, however, this building must be classified in the Buildings article on the balance sheet and its book value must be calculated as for DMA used in the company’s activities.
Interesting cases also arise when individual enterprises apply different bases for preparing their financial statements under the NSS and IAS, as well as different asset and liability valuation policies. In such cases, it is necessary to switch to a common base, applying the corresponding recalculations for this purpose. The same goes for the issue of different evaluation policies. In principle, the parent company should set a single accounting policy for the entire group, but this is not always possible. So the individual reports before consolidation must be converted to a single policy.

For the attention of those who carry out the consolidation of financial statements, we offer a structured file with the 4 forms under the NSS together with notes, in which we have worked out the most common cases in the consolidation as much as possible. All group companies prepare their individual reports in this structured file. It provides for the translation of the report into English, as well as the printing of the report forms without zero lines. With the help of additional software Opal 2005, the information from the individual reports is summarized automatically. The data submitted in the specialized Shia regarding transactions carried out in the group is presented in the form of matrices, where the counter-amounts are clearly visible and automatically detected. Balance, OPR and PP eliminations are automated using a built-in methodology. Opal 2005 unites not only the 4 forms, but also the notes to them. Anyone who wants to get acquainted with this methodology can visit the trainings organized by Adasoft. The methodology and way of working are fully presented at the trainings. The participants of the trainings receive a structured file for use in their work and a Demo version of Opal 2005, which works fully for up to 3 enterprises.
Author: Eleonora Bilbileva-manager Adasoft
https://cloud.ada-soft.net/index.php/s/BdrXaFKajcyt7ZK

Appendix 1: Sample SS 27
Consolidated balance sheet

6.1. The assets, liabilities and equity of the group enterprises are fully included in the consolidated accounting balance sheet, combining line by line similar items from the accounting balance sheets of the group enterprises.
6.2. When drawing up the consolidated accounting balance sheet:
a) the investments of the parent enterprise in the subsidiary enterprises and the share of the parent enterprise in the equity capital of these enterprises are eliminated; the elimination is carried out on the basis of their balance sheet values ​​on the date on which the parent company acquires control in the subsidiary company; the differences from the elimination are reported according to SS 22 – Accounting for Business Combinations;
b) the shares or shares of subsidiaries that are owned by other enterprises of the group, other than the parent enterprise, and the share they represent in the equity capital of these subsidiaries are eliminated;
c) the shares or shares of the parent company, which are owned by it or by its subsidiary company, are indicated in the article “Purchased own shares”;
d) the minority participation in the net assets of the subsidiaries is indicated in a separate article entitled “Equity not belonging to the group” and is reported according to SS 22 – Reporting of business combinations;
e) positive and negative goodwill arising from the consolidation of subsidiaries are offset and presented net;
f) intra-group accounts (receivables and liabilities) are eliminated;
g) the balance sheet value of the assets is adjusted with the profits and losses arising as a result of transactions between enterprises of the group, when the same are included in the balance sheet value of these assets.

Consolidated Statement of Income and Expenses
7.1. The income and expenses of the enterprises of the group are fully included in the consolidated statement of income and expenses, combining line by line similar items from the income and expenses statements of the enterprises of the group.
7.2. Minority participation in the profits and losses of subsidiaries is indicated in the consolidated statement of income and expenses in a separate item entitled “Profit (loss) not belonging to the group.”
7.3. In the consolidated statement of income and expenses, the following are eliminated:
a) income and expenses reported as a result of transactions between enterprises of the group;
b) the profits and losses arising as a result of transactions between enterprises of the group, when the same are included in the balance sheet value of the assets.

Consolidated cash flow statement
8.1. The cash flows of the group companies are fully included in the consolidated statement of cash flows, combining line by line similar items from the cash flow statements of the group companies.
8.2. Cash flows from transactions between group entities are eliminated.
Consolidated Statement of Equity
9.1. The consolidated statement of equity is compiled on the basis of information from the consolidated balance sheet.
9.2. The change in the equity capital not belonging to the enterprises of the group is indicated in the consolidated statement of equity capital in a separate column with the name “Equity capital not belonging to the group”.

Evaluation methods
10.1. The assets, liabilities and equity presented in the consolidated financial statements are valued using the same methods.
10.2. When compiling the consolidated financial statement, the parent company applies the same methods of valuation of assets, liabilities and equity as it has applied in its individual financial statement, except when accounting standards require the application of different methods. When different assessment methods are applied, this fact is disclosed in the appendix.
10.3. When the valuation methods applied in the preparation of the individual financial statements of the group companies differ from those applied in the preparation of the consolidated financial statement, the assets, liabilities and equity are recalculated in accordance with the methods applied in the preparation of the consolidated financial statement , except where the results of the recalculation are immaterial for the purposes of true and fair presentation. Deviation from this requirement is allowed only in exceptional cases, and this is disclosed in the application together with the reasons why recalculations were not made.