- Does the Income Statement give relevant information about the revenues, ex-
penses, gains and losses of the reporting entity, including the revenues and gains it
earns and the expenses and losses it incurs through the ownership of subsidiaries? - Does the Statement of Cash Flows give relevant information about the cash in-
flows and outflows or the reporting entity, including the cash inflows and out-
flows that arise from subsidiaries and any restrictions on the free movement of
cash among the entities? - Do the financial statements taken as a whole give relevant information about the
businesses in which the enterprises participates and the risks to which it is sub-
ject, including the business and risk that it participates in through its investments
in subsidiaries?
(b) Different Legal Forms of Investment. Should the legal form of an investment affect
the accounting for that investment? A company can participate in business and opera-
tions through various forms. A given business might be conducted through a division or
a branch of the company, through a subsidiary, or through a joint venture. Ideally, the
accounting for the different forms of investments should differ only if the legal form
has a material impact on the parent company’s risk or rewards from the investment.
(c) Transactions Between Investor and Investee. The final fundamental issue is the
proper accounting for transactions between the investor and investee. If the investor
contributes or sells assets to the investee, or vice versa, is it appropriate for the trans-
feror to record a gain? Is it appropriate for the transferee to record the asset at an
amount different from the amount at which the transferor recorded it? Some account-
ants believe that recording such transactions at current fair values provides the most
useful information; others believe that the related-party nature of these transactions
creates the potential for accounting abuses and oppose recognition of asset write-ups.
18.4 DESCRIPTION OF ACCOUNTING METHODS
(a) Full Consolidation. In full consolidation the assets, liabilities, revenues, ex-
penses, gains, losses, and cash flows of the investor and the investee are combined in
the investor’s financial statements. The interests of outside investors in the investee
is labeled “minority interest” and is shown as a liability or an item between the lia-
bilities and owners’ equity in the statement of financial position. The interest of the
minority stockholders in the net income of the investee is shown as a deduction from
net income, typically labeled “minority interest in net income.” The result of full con-
solidation is to present the financial statements of the parent company and its sub-
sidiaries as if they were a single company.
(b) Pro rata, or Proportionate, Consolidation. In pro rata, or proportionate, consoli-
dation the investor’s proportionate interest in the asset, liabilities, revenues, ex-
penses, gains, losses, and cash flows of the investee is combined with the similar
items of the investor without distinguishing the amounts. Accordingly, no “minority
interest” is shown on the financial statements. This method is used more often when
accounting for joint ventures.
(c) Equity Method. Another name for this method is one line consolidation. In the
equity method of accounting for investments the investor’s statement of financial po-
18.4 DESCRIPTION OF ACCOUNTING METHODS 18 • 3