Problems regarding Business Combination and Consolidated Financial Statement

This memorandum provides solutions to accounting issues related to business combination and consolidated financial statements. It discusses the applicable accounting standards and analyzes four independent situations to determine the presence of parent-subsidiary relationship and the need for consolidated financial statements.

Running head: FINANCIAL ACCOUNTING AND REPORTING 2
Financial Accounting and Reporting 2
Name of the Student
Name of the University
Author’s Note

1FINANCIAL ACCOUNTING AND REPORTING 2
MEMO
To: Ms Samantha Cole
From: Accounting Team of PWC Ltd
Date:31/09/2019
Subject: Problems regarding Business Combination and Consolidated Financial Statement
This particular memorandum aims at providing solution to certain accounting issues related
to business combination and consolidated financial reports that can be noticed in four
independent situations provided by King Edwards, the CFO of Tom Ltd. At the starting of the
discussion, it is important to mention that the applicable accounting standards of Australia are
important in the analysis involves in ascertaining the presence of parent-subsidiary
association.
According to the provided four Independent situations, there are certain problems in the
determination of parent-subsidiary relationship which need to be fixed along with the
determination of the aspect that whether it is needed to develop consolidated financial
statements in compliance with AASB 10. AASB 10 Consolidated Financial Statements
provides the required principles and guidelines to the entities for guiding them in the
development of consolidated financial reports when a business organization has control over
another entity or more than one entity. It is needed to take into consideration the analysis of
certain sections of AASB 10 in order to analyse and evaluate the issues presented in the
provided situations. The following discussion provides the brief of these sections of AASB
10.
B2. For determining whether he/she has control over an investee, it is needed for an investor
to evaluate if it has the subsequent components:

2FINANCIAL ACCOUNTING AND REPORTING 2
a) Power over the investee.
b) Rights or exposure to participation’s adjustable returns with the investee. And,
c) The capability of utilizing its power over the investee with the aim to influence the
return of the investors (legislation.gov.au 2019).
B3. The requirement is to consider the following factors because these are essential for the
procedure to determine the status:
a) The investee’s purpose and design.
b) Revealing the relevant activities along with the relevant processes for making
decisions on the relevant activities (legislation.gov.au 2019).
c) Determining the aspect that whether rights of the investors provide them with the
present ability to give direction to direct the relevant activities.
d) Ascertaining the aspect that if the investor has the rights or is exposed to variable
returns from its contribution with the investee.
e) Ascertaining the aspect that whether the investor has the possession of the ability to
utilize its power over the investee with the aim to create influence on the return
amount for the investors (legislation.gov.au 2019).
B4. An investor is required to consider the nature of its association with other parties while
making the assessment of the controls over the investees(legislation.gov.au 2019).
The following discussion involves in ascertaining the fact that whether there is any presence
of parent-subsidiary relationship and if it is needed to prepare the consolidated financial
statements in accordance with AASB 10 for the four independent situations.
Issue 1
As per the provided information of this case, Tom Ltd and Toots Ltd hold 50% shares of
Jerry Ltd and these entities operate in the mining sector. Tom Ltd has agreed that Toots Ltd

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should form the management of Jerry Ltd as Bob Gates, the managing director has the
required expertise in the same industry; and therefore, Toots Ltd gets a fee that is related to
management fee. Thus, the whole situation is that Tom Ltd and Toots Ltd hold 50% shares of
Jerry Ltd and due to have the required expertise, Toots Ltd is actually directing Jerry Ltd.
This situation states that one cannot consider Jerry Ltd as Tom Limited’s or Toots Limited’s
subsidiary company; and none of the investors has the power over Jerry Ltd in the presence
of the aspect that they do not have the authority of allowing as well as directing Jerry
Limited’s relevant business activities (Gul, Hsu and Liu 2018). Even in the presence of the
fact that Tom Ltd permits Toots Ltd to manage the investee, it has the power of overruling at
any time while also has the power to challenge the management arrangement of the company.
Because of the fact that no one of the investors holds more than 50% of the shares in Jerry
Ltd, they do not possess the power over Jerry Ltd. Therefore, on the basis of all these crucial
elements, it can be concluded that there is no requirement to develope consolidated financial
statements because Jerry Ltd is not the subsidiary of the other two companies (Lang 2014).
Issue 2
The provided situation shows that Tom Ltd has recently obtained 35% of the interest of Tyke
Ltd. A large deposit of iron ore has been discovered by Tyke Ltd. The Board of Directors of
Tyke Ltd has four directors of Tom Ltd and the number of directors in Tyke Ltd is six. The
majority of the directors of Tyke Ltd come from Tom Ltd as it has extensive knowledge and
experience in the operations of the mining sector. This situation implies that Tom Ltd has the
power to elect the majority portion of the Board of Directors of Tyke Ltd and the key reason
for this is the possession of widespread expertise of Tom Ltd in the mining industry (Müller
2014). Therefore, this is a major reason for not giving power to Tyke Ltd. No information in
the provide case can suggest the aspect that it could not be possible to gather the rest 60% of
the shareholders of Tyke Ltd for the purpose of modifying the management of the company.

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All these elements demonstrate the crucial fact that Tom Ltd does not have any power over
the operations of Tyke Ltd; and this can be considered as the prime reason for this there is not
any requirement of preparing consolidated financial statements (Cîrstea2014).
Issue 3
According to the scenario, Tom Ltd holds 30% shares of Toodles Ltd and the other
shareholders come from diverse background; and 10% of the shares of Toodles Ltd are
acquired by each shareholders on an average basis. Four of the seven directors of Toodles Ltd
have been chosen by Tom Ltd and the rest of the shareholders having interest in managing
the entity have appointed the other three directors. Most of the remaining shareholders rarely
attend the board meeting because they live outside Australia; and they attend the board
meeting in case they have any work in Australia. Therefore, this whole situation indicates
towards the crucial fact that 30% shares of Toodles Ltd is held by Tom Ltd while an average
of 10% shares are held by remaining of each of the shareholders. In this case, there are two
crucial aspects that need to be considered; first, most of the shareholders reside outside
Australia and second, they hardly attend the company’s annual general meeting. This
situation indicates towards the need to make judgement on the presence of control when the
investors have less than 50% shareholding in the investee (Robinson et al.2015). For this
reason, it is needed to inspect the probable activities of other shareholders of Toodles Ltd.
There are some aspects in Toodles Ltd that make it problematic to ascertain the fact
that whether there is any parent-subsidy relationship.
First, other shareholders belong to diverse environment and only three of them are required to
associate for obtaining the same voting authority like Tom Ltd which fade the possibility of
having control on Toodles Ltd by Tom Ltd (Budding, Grossi and Tagesson2014).

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Second, majority quantity of the shareholders of Toodles Ltd reside outside Australia and this
fades the probability that they would get together in order to take control over Toodles Ltd,
but this can be done by providing substitutes to each other (Cîrstea2014).
Third, there has been constantly low attendance in the annual general meeting of Toodles
Ltdby the shareholders. However, there is a possibility of altering this situation by upsetting
the management of Tom Ltd (Pacter2014).
Fourth, the other shareholders have shown their interest in managing the business of Toodles
Ltd which is clear from the fact that they have elected rest of three directors that is less than
one elected by Tom Ltd. These shareholders can become heavily involved in the management
of Toodles Ltd in case the management of Tom Ltd lets them down (Hadi2015).
In the presence of all these factors, it can be said that there is not any parent-subsidiary
relation between Toodles Ltd and Tom Ltd since there is not enough power to manage as well
as direct Toodles Limited’s relevant activities. This eliminates the need for preparing
consolidated financial reports.
Issue 4
According to the case, Tom Ltd possesses 80% shares of Beep Ltd and 100% shares of
Looney Ltd are owned by Beep Ltd. All these three companies complies with the Australian
Accounting Standards. The debt instruments of Beep Ltd is publicly trade instead of its
shares (Weil, Schipper and Francis 2013). This indicates towards the fact that Tom Ltd owns
majority part of the shares of Beep Ltd which provides Tom Ltd with the power and control
over Beep Ltd and the return of the shareholders of Beep Ltd can be affected by Tom Ltd.
Therefore, parent-subsidiary relationship exists between Tom Ltd and Beep Ltd which leads
to the need to prepare the consolidated financial reports (Edwards 2013).

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References
Budding, T., Grossi, G. and Tagesson, T. eds., 2014. Public sector accounting. Routledge.
Cîrstea, A., 2014. The need for public sector consolidated financial statements. Procedia
Economics and Finance, 15, pp.1289-1296.
Edwards, J.R., 2013. A History of Financial Accounting (RLE Accounting). Routledge.
Gul, F.A., Hsu, A.W.H. and Liu, S.H.T., 2018. Parent-subsidiary investment layers and audit
fees. Journal of Accounting, Auditing & Finance, 33(4), pp.555-579.
Hadi, K.T., 2015. Consolidated financial statements.
Lang, J.T., 2014. How Can the Problem of the Liability of a Parent Company for Price Fixing
by a Wholly-owned Subsidiary Be Resolved?. Fordham International Law Journal, 37(5),
p.1481.
Legislation.gov.au. 2019. AASB 10 - Consolidated Financial Statements - July 2015 . [online]
Available at: https://www.legislation.gov.au/Details/F2018C00317 [Accessed 3 Aug. 2019].
Müller, V.O., 2014. The impact of IFRS adoption on the quality of consolidated financial
reporting. Procedia-Social and Behavioral Sciences, 109, pp.976-982.
Pacter, P., 2014. Global accounting standards-From Vision to reality. Professional
Accountant, 2014(1), pp.26-27.
Robinson, T.R., Henry, E., Pirie, W.L. and Broihahn, M.A., 2015. International financial
statement analysis. John Wiley & Sons.
Weil, R.L., Schipper, K. and Francis, J., 2013. Financial accounting: an introduction to
concepts, methods and uses. Cengage Learning.