1 Groups and consolidation: an overview

Consolidated statement of cash flows
(this is beyond the scope of the FFA/FA syllabus) 
QUESTION 
Consolidated financial statements
 
Companies with subsidiaries are required to publish consolidated financial statements. 
Required 
State why you feel the preparation of consolidated financial statements is necessary and outline their 
limitations, if any. 
ANSWER 
The object of financial statements is to help shareholders exercise control over their company by 
providing information about how its affairs have been conducted. The shareholders of a parent company 
would not be given sufficient information from the financial statements of the parent company on its 
own, because not enough would be known about the nature of the assets, income and profits of all the 
subsidiary companies in which the parent company has invested. The primary purpose of consolidated 
financial statements is to provide a true and fair view of the position and earnings of the parent company 
group as a whole, from the standpoint of the shareholders in the parent company. 
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PART G: PREPARING SIMPLE CONSOLIDATED FINANCIAL STATEMENTS 
 
414
 
A number of arguments have been put forward, however, which argue that consolidated financial 
statements have certain limitations. 
(a) 
Consolidated financial statements may be misleading. 
(i) 
The solvency (liquidity) of one company may hide the insolvency of another 
(ii) 
The profit of one company may conceal the losses of another 
(iii) 
They imply that group companies will meet each others' debts (this is certainly not true: a 
parent company may watch creditors of an insolvent subsidiary go unpaid without having 
to step in) 
(b) 
There may be some difficulties in defining the group or 'entity' of companies, although IFRS 10 
has removed many of the grey areas here. 
(c) 
Where a group consists of widely diverse companies in different lines of business, a set of 
consolidated financial statements may obscure much important detail unless supplementary 
information about each part of the group's business is provided.
 
One of the competences you require to fulfil performance objective PO7 of the PER is the ability to 
'prepare drafts or review primary financial statements in accordance with relevant accounting standards 
and policies and legislation'. You can apply the knowledge you obtain from this chapter and the 
following two chapters on consolidated financial statements to help demonstrate this competence. 
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CHAPTER 23
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INTRODUCTION TO CONSOLIDATED FINANCIAL STATEMENTS