Group accounting

Published on March 29, 2017   8 min

A selection of talks on Finance, Accounting & Economics

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Hi, and welcome to part eight: Group Accounting in this HSTalks lecture series on Analyzing Financial Statements. My name is David Bond.
If you've been following this series, you may have noticed as we look at Qantas's financial statements, they refer to the income statement, balance sheet, and cash flow statement not just as the income statement, balance sheet, and cash flow statement, but it's the consolidated income statement, consolidated balance sheet, and consolidated cash flow statement. The reason for this is that the information contained in the annual report is not just about one entity but rather about an entire group. According to Qantas's 2016 annual report, there are six operating segments, Qantas Domestic, Qantas International, Jetstar Group, Qantas Freight, Qantas Loyalty, and Corporate in the Qantas group. And there may well be more than one legal entity residing in each of those segments and potentially some which cut across them. If somebody is interested in investing in Qantas, they are just interested in investing in, say, Qantas Loyalty, they're interested in how the entire Qantas group as a whole is performing because it's ultimately the group performance which is reflected in the income statement and Qantas's share price. The consolidated financial statements are simply an aggregate of all the entities which make up the Qantas group.
Let's take two hypothetical airlines, Southern and Northern. Southern earned 75 million of revenue this year, had expenses of 57 million for a profit of 18 million, as a balance sheet with 200 million of assets, 150 million of liabilities, and 50 million of equity. Northern earned 12 million of revenue, had expenses of 8 million for a profit of 4 million, and has a balance sheet with $30 million of assets, 20 million of liabilities, and 10 million of equity. Southern has a $10 million investment in Northern, which means it owns it 100%. This means that Southern is the parent whilst Northern is Southern's subsidiary. If we were to aggregate Southern and Northern into the Southern group using simple arithmetic, we'd have 87 million of revenue, 65 million of expenses for 22 million of profit, 230 million of assets, 170 million of liabilities, and 60 million of equity. But hold on, and I'm sure many of you would have picked up on this, something is not quite right. Firstly, 10 million of the 60 million in equity is not owned by an outside interest. That 10 million represents one part of the group owning another part, in this case, Southern's investment in Northern. It doesn't reflect an external shareholder stake. The entity from a group perspective is the group, so equity for the group needs to reflect the interests of external owners. So we need to get rid of that $10 million of equity, but that leaves us with another problem because the balance sheet now doesn't balance. We have 230 million of assets but liabilities of 170, and equity of 50 for a total of 220. This is because we only dealt with one half of the investment Northern's equity. However, we also need to get rid of Southern's investment in Northern. This is not an investment in something external. Again, it's wholly within the group, so we get rid of it. And now we have $220 million in assets, equalling 170 million in liabilities, and 50 million in equity.