Chapter 9: Indirect and Mutual

Holdings
by Jeanne M. David, Ph.D., Univ. of Detroit Mercy
to accompany
Advanced Accounting, 10th edition
by Floyd A. Beams, Robin P. Clement,
Joseph H. Anthony, and Suzanne Lowensohn

Pearson Education, Inc. publishing as Prentice Hall

9-1

Indirect and Mutual Holdings:

Objectives
1. Prepare consolidated statements when the parent
company controls through indirect holdings.
2. Apply consolidation procedures of indirect
holdings to the special case of mutual holdings.

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9-2

Indirect and Mutual Holdings

1: Indirect Holdings

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9-3

Types of Indirect Holdings

Father-Son-Grandson

Connecting Affiliates

Parent

Parent

80%
Subsidiary A
70%
B
ParentSubsidiary
owns 80%
of A,
and through A,
56% of B (80% x 70%).

Pearson Education, Inc. publishing as Prentice Hall

80%

20%

Subsidiary A

Subsidiary B
40%

Parent owns 80% of A,

20% of B,
and through A an additional
32% of B (80% x 40%).
Parent owns a total of 52% of B.

9-4

Equity Method for Father-SonGrandson Holdings

Son applies equity method for Investment in
Grandson
Father applies equity method for Investment in
Son
Controlling interest share of consolidated income
includes
Share for direct holding of son
Share for indirect holding of grandson (by
father through son)
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9-5

Example: Father-Son-Grandson
On 1/1/09 Poe acquires 80% of Shaw. On 1/1/10
Shaw acquires 70% of Turk. Earnings and
dividends for 2010 are below:
Poe Shaw Turk
Separate earnings
Dividends

Pearson Education, Inc. publishing as Prentice Hall

100

50

40

60

30

20

9-6

Equity Method Entries

Shaw applies equity method (70%):
Cash

14

Investment in Turk

14

for dividends

Investment in Turk

28

Income from Turk

28

for income

Poe applies equity method (80%):

Cash
Investment in Shaw
for dividends

Pearson Education, Inc. publishing as Prentice Hall

24
24
9-7

Allocations to CI and NCI

Separate income

Poe

Shaw

Turk

100.0

50.0

40.0

28.0

(40.0)

CI

NCI

Total
190.0

Allocate:
Turk ==>
70% Shaw: 30% NCI
Shaw ==>
80% Poe: 20% NCI
Poe's ==>
CI
Total consolidated
income

62.4
(162.4)

12.0

(78.0)

15.6
162.4

162.4
27.6 190.0
This allocation may look like
the "stepdown method" allocation presented in cost
accounting texts. Mathematically it is!

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9-8

Allocation Results
Separate income

Poe

Shaw

Turk

100.0

50.0

40.0

28.0

(40.0)

CI

NCI

Total
190.0

Allocate:
Turk ==>
70% Shaw: 30% NCI
Shaw ==>
80% Poe: 20% NCI
Poe ==>
CI

62.4
(162.4)

Onconsolidated
separate income statements:
Total
incomePoe's net income = $162.4

12.0
15.6

(78.0)
162.4

162.4 27.6 190.0

Shaw's "Income from Turk" = $28.0

Poe's "Income from Shaw" = $62.4
For consolidated statements:
Noncontrolling interest share = 12.0 + 15.6 = $27.6
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9-9

Indirect Holdings with Connecting

Affiliates
Indirect holdings with connecting affiliates
Handle similar to Father-Son-Grandson, but
Father has direct holdings in both Son and Grandson
Example: Pet holds 70% of Sal and 60% of Ty. Sal holds an
additional 20% of Ty.

Pet

Sal

Ty

Intercompany profit transactions:

Separate income
70 with35a gain
20of $10. This will be
Downstream:
Pet sold Sal land
fully
attributed to Pet.
Dividends
40
20
10
Upstream: Sal sold $15 inventory to Pet, and Pet holds ending
inventory with unrealized profit of $5. This will be allocated
between Pet and NCI.

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9-10

Calculating Investment Balances

Sal:
Underlying equity
Capital stock

Ty:
Jan 1 Dec 31
200

200

Retained earnings

50

69

Goodwill

12

12

100

Retained earnings

80

90

Goodwill

12

12

192

202

276

Investment in Ty
(60%)

115.2

121.2

(10)

Investment in Ty
(20%)

38.4

40.4

262

266

183.4

183.2

Noncontrolling
interest (20%)

38.4

40.4

(5)

Subtotal (split 70:30)

Unrealized profit on
land
Investment in Sal (70%)

* (70%
x 276)
- 10 =
Pearson
Education,
Inc.183.2
publishing as Prentice Hall

Capital stock

Jan 1 Dec 31
100

Unrealized profit in
inventory

Total

Underlying equity

Total

9-11


Separate income

Pet

Sal

Ty

70.0

35.0

20.0

Unrealized $5 profit on
inventory (upstream)
Unrealized $10 gain on land
(downstream)

CI

NCI Total
125.0

(5)

(5)

(10)

(10)

Allocate:
Ty ==> 60% Pet: 20% Sal: 20% NCI

12.0

Sal ==> 70% Pet: 30% NCI

23.8 (34.0)

Pet ==> CI

(95.8)

Total consolidated income

4.0 (20.0)

4.0
10.2
95.8
95.8 14.2 110.0

Dividend distributions:
6
2
(10)
Ty ==> 60% Pet: 20% Sal: 20% NCI
Sal's Income from Ty = $4.0
Pet's70%
Income
from
(20)
Sal ==>
Pet: 30%
NCITy = $12.0 14
Pet's Income from Sal = $23.8 - $10 unrealized gain = $13.8
(40)
40
Pet ==> CI
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2
6
9-12

Worksheet Entries
Sales

15.0

Cost of sales
Cost of sales

15.0
5.0

Inventory
Gain on sale of land

5.0
10.0

Land
Income from Ty

10.0
16.0

Dividends

8.0

Investment in Ty

8.0

both Sal's and Pet's

Noncontrolling interest share (Ty)

Pearson Education, Inc. publishing as Prentice Hall

4.0

9-13

Income from Sal

13.8

Investment in Sal

0.2

Dividends

14.0

including 10 unrealized gain on land

Noncontrolling interest share (Sal)

10.2

Dividends

6.0

Noncontrolling interest (Sal)

4.2

Capital stock (Ty)

100.0

Retained earnings (Ty)

80.0

Goodwill

12.0

Investment in Ty (Sal & Pet)

153.6

Noncontrolling interest (Ty)

38.4

Capital stock (Sal)

Retained earnings (Sal)
Pearson Education, Inc. publishing as Prentice Hall

Goodwill

200.0
50.0
12.0

9-14

Consolidation Worksheet
Income statement:
Sales

Pet

Sal

Ty

DR

200.0

150.0

100.0

15.0

435.0

13.8

0.0

16.0

0.0

10.0

0.0

Income from Sal

13.8

Income from Ty

12.0

Gain on land

10.0

Cost of sales
Other expenses

4.0

(100.0) (80.0)

(50.0)

(40.0) (35.0)

(30.0)

Noncontrolling
interest share
Controlling interest
share

5.0 15.0

Pearson Education, Inc. publishing as Prentice Hall

39.0

20.0

Consol

(220.0)
(105.0)

10.2
4.0
95.8

CR

14.2
95.8
9-15

Statement of retained
earnings:
Beginning retained
earnings
Add net income
Deduct dividends

Ending retained
earnings

Pet

Sal

Ty

DR

CR Consol

80.0
50.0

223.0

223.0

50.0

80.0

95.8

39.0

20.0

(40.0)

95.8

(20.0) (10.0)

8.0
2.0
14.0
6.0

(40.0)

278.8

69.0

90.0

Pet

Sal

Ty

Other assets

50.6

19.6

85.0

Inventories

50.0

40.0

15.0

5.0

100.0

Plant assets, net

400.0

200.0

100.0

10.0

690.0

Investment in Sal (70%)

183.2

183.4

0.0

Investment in Ty (60%,
20%)

121.2

8.0
153.6

0.0

Balance sheet:

Pearson Education, Inc. publishing as Prentice Hall

Goodwill

278.8
DR

CR Consol
155.2

0.2
40.4
12.0

9-16

Pet

Sal

Ty

Liabilities

126.2

31.0

10.0

Capital stock

400.0

200.0

100.0

Retained earnings

278.8

69.0

90.0

Noncontrolling
interest
Total

DR

CR

167.2
100.0
200.0
278.8
2.0
4.2
38.4
78.6

805.0

300.0

Pearson Education, Inc. publishing as Prentice Hall

200.0

Consol

123.2
969.2

9-17

Indirect and Mutual Holdings

2: Mutual Holdings

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9-18

Types of Mutual Holdings

Parent Mutually Owned

Connecting Affiliates
Mutually Owned

Parent

Parent

80%

10%

Subsidiary A
Parent owns 80% of A,
and through A,
has 8% (80% x 10%) of
its own (treasury) stock.

Pearson Education, Inc. publishing as Prentice Hall

80%
Subsidiary A

20%

20%
Subsidiary B

40%
Parent owns 80% of A,
20% of B,
through A an additional
32% (80% x 40%) of B, and
through B an additional 4%
(20% x 20%) of A.

9-19

Treasury Stock or Conventional

Treasury stock method
Treats parent mutually held stock as treasury
stock
Parent has fewer shares outstanding
"Interdependency" assumed eliminated by
treasury stock treatment
Conventional method for mutual holding
Treats stock as retired
Parent has fewer shares outstanding
Simultaneous set of equations
Fully recognizes interdependencies
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9-20

Parent Stock Mutually Held

One or more affiliates holds parent company stock
Treasury stock method
Recognize treasury stock at cost of
subsidiary's investment in parent
Reduce Investment in subsidiary
Conventional method
Parent treats stock as retired, reducing
common stock, and additional paid in capital
or retained earnings
Reduce Investment in subsidiary
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9-21

Comparison
Both methods reduce
Income from Subsidiary for the
Parent dividends paid to subsidiary
Methods result in different
Equity accounts
Treasury stock
Retired common stock
Consolidated retained earnings
Noncontrolling interest
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9-22

Treasury Stock Method - Data

Pace owns 90% of Salt acquired at fair value
equal to cost, no goodwill. Salt owns 10% of
Pace. At the start of 2010:
Investment in Salt, $297
Noncontrolling interest, $33
Salt's total stockholders' equity
Common stock $200
Retained earnings $130
During 2010,
Separate income: Pace $60, Salt $40
Dividends: Pace $30, Salt $20
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9-23

Pace Uses Treasury Stock Method

Allocations of income to CI and NCI:
Pace Salt
CI
NCI Total
Separate Income
60.0
40.0
100.0
Parent dividends
(3.0)
3.0
Allocate:
Salt => 90%:10%
38.7 (43.0)
4.3
Pace
Controlling
share $95.7 95.7
=> 100% interest95.7
Noncontrolling interest share $4.3
4.3 100.0
Totals
Pace's Income from Salt $38.7 95.7
3.0 = $35.7

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9-24

Pace's Equity Method Entries

Cash

18.0

Investment in Salt

18.0

for dividends
Investment in Salt

38.7

Income from Salt

38.7

for income
Income from Salt

3.0

In place
of the last entry, the Pace could record its dividend directly
Dividends
3.0as:

Dividends

for Pace dividends paid to Salt

Income from Salt
Cash

Pearson Education, Inc. publishing as Prentice Hall

27.0
3.0

30.09-25

Worksheet Entries
Income from Salt

35.7

Dividends

18.0

Investment in Salt

17.7

Noncontrolling interest share

4.3

Dividends

2.0

Noncontrolling interest

2.3

Common stock

200.0

Retained earnings

130.0

Investment in Salt

297.0

Noncontrolling interests
Pearson Education, Inc. publishing as Prentice Hall

Treasury stock

33.0
70.0

9-26

Parent Mutually Held - Data

Pace2 owns 90% of Salt2 acquired at fair value equal to cost,
no goodwill. Salt owns 10% of Pace. At the start of 2010:
Investment in Salt2, $226,154
Investment and
Noncontrolling interest, $33,846
noncontrolling interest
Salt2's total stockholders' equity
= 226,154 + 33,846
Common stock $200,000
Retained earnings $130,000
equals underlying
equity less mutual
During 2010,
holding
Separate income: Pace2 $60,000, Salt2 $40,000
Dividends: Pace2 $30,000, Salt2 $20,000 = 200,000 + 100,000
70,000.

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9-27

Pace2 Uses Conventional Method

Allocation information:
Pace2
Separate Income
Salt2's allocation

Salt2

CI

NCI

$60,000 $40,000
.90S

Equations:
Pace2's
allocation
P = $60,000 + .9S
S = $40,000 + .1P
CI share = .9P
NCI share = .1S

Total
$100,000

.10S
Solved, substituting 2nd
.10P
.90Pinto 1st:
equation
P = 105,495
S = 50,550
CI share = 94,945
NCI share = 5,055

Conventional method is analogous to reciprocal cost allocation method.

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9-28

Note on Results:
Results:
P = 105,495
S = 50,550
CI = 94,945
NCI = 5,055
CI + NCI = $100,000, the total separate income
Pace2's Income from Salt2 = .9S - .1P = $34,945
90% of Salt's income 10% mutual holding
CI = Pace2's separate income + Income from Salt2

$60,000 + $34,945 = $94,945 (as a check!)

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9-29

Pace2's Equity Method Entries

Cash

18,000

Investment in Salt2

18,000

for dividends
Investment in Salt2

37,945

Income from Salt2

37,945

for income
Income from Salt2
Dividends

3,000
3,000

for Pace2 dividends paid to Salt2

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9-30

Worksheet Entries - Conventional

Income from Salt2

34,945

Dividends

18,000

Investment in Salt2

15,945

Noncontrolling interest share

5,055

Dividends

2,000

Noncontrolling interest

3,055

Common stock

200,000

Retained earnings

130,000

Investment in Salt2

296,154

Noncontrolling interests
Pearson Education, Inc. publishing as Prentice Hall

Investment in Salt2

33,846
70,000

9-31

Subsidiary Stock Mutually Held

Subsidiaries hold stock in each other
Use conventional approach
Treasury stock method is not appropriate
It is not parent's stock
Subsidiary stock is eliminated in
consolidation

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9-32

Subsidiary Mutual Holdings

Poly owns 80% of Seth acquired at book value
plus $25,000 goodwill. Seth owns 70% of Uno
acquired at book value plus $10,000 goodwill.
Uno owns 10% of Seth, cost method.
At the start of 2010:
Investment in Seth (by Poly, 80%), $340,000
Investment in Uno (by Seth, 70%), $133,000
Investment in Seth (by Uno, 10%), $40,000
Noncontrolling interest, $102,000
For 2010:
Separate income
Dividends

Poly

Seth

Uno

112,000

51,000

40,000

50,000

30,000

20,000

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9-33

Allocate income to CI and NCI

Allocation Info.
Separate income

Poly

Seth

CI NCI

112,000 51,000 40,000

Uno's allocation =>

Total
203,000

.7U

Seth's allocation => .8S

Poly's allocation
=>
Equations:
P = 112,000 + .8S
S = 51,000 + .7U
U = 40,000 + .1S
CI = 1P
NCI = .3U + .1S

Uno

.3U
.1S

.1S
1.0P
nd

Solving, substituting 2 equation

into 3rd (or 3rd into 2nd):
U = 48,495
S = 84,946
P = 179,957
CI share = 179,957
NCI share = 14,548 + 8,495 = 23,043

Pearson Education, Inc. publishing as Prentice Hall

9-34

A Look at the Results

Results:
U = 48,495
S = 84,946
P = 179,957
CI share = 179,957
NCI share = 14,548 + 8,495 = 23,043
Consolidated income
CI and NCI shares = 203,000, total separate income.
Intercompany income
Poly's Income from Seth = .8S = 67,957
Seth's Income from Uno = .7U = 33,946
Uno's Dividend income = .1(Seth's dividends) = 3,000
Individual reported income
Poly's separate income + income from Seth = 179,957
Seth's separate income + income from Uno = 84,946

Pearson Education, Inc. publishing as Prentice Hall

9-35

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Printed in the United States of America.

Copyright 2009 Pearson Education, Inc.

Publishing as Prentice Hall
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9-36