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Interpretation of non controlling interests and effect on EPS and EV

Analysing companies' finances and value from their financial statements using ratios and formulae
Charlottesquare
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Re: Interpretation of non controlling interests and effect on EPS and EV

#166291

Postby Charlottesquare » September 14th, 2018, 12:37 pm

Gengulphus wrote:I know what you mean, but it's actually a bit more complicated than just an addition of the balance sheets. What you're doing is replacing the investment in the subsidiary on the parent company balance sheet with the subsidiary's balance sheet, so you're effectively subtracting the investment-in-subsidiary entry as well as adding in the subsidiary's balance sheet.


Gengulphus


I did say effectively. I am these days rusty but certainly in my younger days I did work on a fair few consolidations, in fact one monster one (Nissan UK) plus a small corner of Woolworths below the then Comet operating division still spring to mind from the 1980s.

As you say there is more than mere addition, the approach tended to be (we did these manually)
Stage 1 is the addition,
Stage 2 is the cancellation of parent investment in sub, sub equity and consequent goodwill creation.
Stage 3 is getting into a mess with minority interests and pre and post acquisition trading figures
Stage 5 is eliminating the sales and expenses between Parent and Sub re the consolidated profit and loss (eliminate double counting)
Stage 4 is when the examiner throws in a touch of foreign currency translation on top of the rest to give the exam question a little more zing.

Charlottesquare
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Re: Interpretation of non controlling interests and effect on EPS and EV

#166302

Postby Charlottesquare » September 14th, 2018, 12:52 pm

Gengulphus wrote:
Charlottesquare wrote:... One possible useful source is say International GAAP 2018, I have not got it or read it but the old EY UK GAAP book I do have did touch on the whys as well as detailing and showing examples of the how, but it is a massive book (5360 pages-a reference not a read) and it assumes some existing knowledge re the basic debits and credits and is not cheap.

https://www.amazon.co.uk/International- ... +gaap+2018

Something I will add is that the photograph on that Amazon page must give a pretty misleading impression about just how massive it is. Getting 5360 pages into that thickness of book must involve the use of very thin paper - so much so that I was rather suspicious about the photograph actually being of the product (especially as the listed product dimensions of 18.8 x 15.5 x 26.2 cm clearly don't match the photograph - but that might be a matter of them being the dimensions of the boxed product). But a check of the publisher's page about it does indicate that it is indeed a photograph of the correct book.

If judging how much text it contains by the standards of more normal paperback books, I would judge (from looking at page counts of various technical paperbacks on my own bookshelves) one should think in terms of something 2-3 times as thick as that photograph would suggest to most users of such paperbacks.

Gengulphus


My dated EY UK GAAP( in the office so cannot check pages but is certainly 3,000 + )is pretty big, one volume of pretty thin paper. Afraid it is the way of accountancy, when I started we had just had the Companies Acts tidied into the 1985 iteration (now superceded by the 2006) and I think about 24-25 Statements of Standard Accounting Practice. This has morphed into FRS105, FRS102, IFRS3 et all plus myriad SORPs

The Amazon one may well be abridged (less guidance) here is Wiley's which quotes the 5,360 pages with same picture but higher price.

https://www.wiley.com/en-gb/Internation ... 1119463726

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Re: Interpretation of non controlling interests and effect on EPS and EV

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Postby Melanie » September 15th, 2018, 3:25 pm

Thanks for all the recent post,

This has definitely covered my OP and much much more.

Thanks again
M&M

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Re: Interpretation of non controlling interests and effect on EPS and EV

#166693

Postby Melanie » September 16th, 2018, 12:17 pm

Charlottesquare wrote:The accounting options would be (This is not what companies can do per the Standards but what might be possible to do re double entry) :

1.Treat as goodwill (you paid more than the asset value for the business) to reflect this "value" you acquired- what the Accounting Standards currently say you ought to do re a business combination. (caveated by impairment reviews)

2.Write off through I & E, perfectly possible but somewhat distorts results for the year, in addition in future years distorts ratios like ROCE as you have (in accounting terms) devalued the capital employed, this then flatters , in percentage terms, how hard the net business assets are being seen to work. It also would make comparing relative performance between two companies tricky, company A makes its profits due to long term organic growth, its relative return is based on earnings over capital retained, company B could squander millions on buying another business, have the earnings, write the acquisition cost against its capital employed reducing the denominator and on paper show itself a far better employer of capital, but that perception would be false as the cost of acquiring that extra business would have been ignored.

3. Write off against reserves, avoids the in year I & E hit, but the other issues in 2 remain.

4. Argue the extra paid was re the assets, but that wholly distorts those assets either carried in the balance sheet (Fixed) or say stock (which will impact cost of sales and gross profit in later I & E accounts)

There is a subjectivity but the difference does have to go somewhere, if you follow the Debits and Credits the extra Debit has to go somewhere, so treating the excess as goodwill is a solution, not perfect, but near enough acceptable.

It is still not perfect, in my example suppose company A paid out most of its past earnings in dividends but gradually it grew its customer base and earnings organically, it then shows a very high ROCE because the internally generated goodwill that exists (but is not shown in its balance sheet) is not recognised so its capital employed in economic terms is understated (though not in accounting terms due to internally generated goodwill not being included in the accounts per the Accounting Standards).

I wouldn't be surprised if some of the options you reveal above go part of the way toward explaining why we've found it very difficult to apply any coarse-drained analysis to the financial statements of some of the older companies, which, we guess have gone through several cycles of acquisitions and acquiring subsidiaries.

When I read your writings for option 2. i.e. "Write off through I & E, perfectly possible but somewhat distorts results for the year", I recollected the Income statements of Sage (SGE) and Dairy Crest (DCG) which we reviewed a while ago:

For Sage's 2017 Annual report
https://www.sage.com/corporate/investors/annual-report/ (then browse for the latest)
or this link may take you straight there:
http://fr.zone-secure.net/11650/458628/#page=1
Income statement is on page 119

For Dairy Crest 2018 Annual report
http://www.dairycrest.co.uk/~/media/Fil ... t-2018.pdf (page 72)

Anyway, whilst I appreciate that this is now a little off topic re. my OP, however I'm wondering if the some of the categorisations of the Income Statement could be explained by your above Option 2., Charlottesquare. On Sage's we see 3 columns for the P&L, i.e. "underlying, adjustments and statutory" and on DairyCrest's we see "before exceptional items, exceptional items and total". Both reports, then go on to split profit by "continuing" and "discontinued operations". To newbies, we found all this very confusing, and haphazard.

So the naive in the room, are wondering if (especially the reference to "discontinued") this is the way in which written-off parts of the business are being reported? That is, written off in I&E?

In particular, with these firms, as you mentioned earlier, it was easy in my analysis spreadsheet, by selection of differing figures for apparently the same datas to arrive at slightly more or less flattering values for margins, ROCE, cash flows etc.

Charlottesquare wrote:Consolidations, Mergers, Business Combinations is not Accounting 101, student first learn and get very comfortable dealing with individual accounts for single companies/other business entities and then consolidation etc gets added in Acccountancy 102, the catch for you is you want to learn re quoted companies and they do, for myriad reasons, use groups/combinations as the way they operate, so I appreciate it is a steep learning curve especially if the underlying guidance re valuation issues is not firmly grounded.

You point re subjectivity may not be that well covered in basic textbooks which more tend to concentrate on what we do per current standards rather than what we ought to do. Years ago accounting magazines used to discuss journal articles re these issues (Students reading into the why as against the how) but these days it is tricky for me to point where you ought to go if you want to delve into the arguments re why. One possible useful source is say International GAAP 2018, I have not got it or read it but the old EY UK GAAP book I do have did touch on the whys as well as detailing and showing examples of the how, but it is a massive book (5360 pages-a reference not a read) and it assumes some existing knowledge re the basic debits and credits and is not cheap.

https://www.amazon.co.uk/International- ... +gaap+2018

Yes, you are right about the learning curve. To be honest, I'm hoping that I can avoid that exact level of intellectual commitment, though I do think, that getting a rough idea of these matters is useful when delving into the books.

M&M


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