It is important to understand your options when it comes to preparing financial statements and reporting for stakeholders if you own multiple businesses or are a majority shareholder in a company that is a member of a group and is under a parent / subsidiary relationship. Being the owner of a company or group, you should be aware of how the financial statements reflect the health of your business and the subsidiaries or associated companies. You will be a more confident and informed owner / shareholder of the business if you have more knowledge about financial statements.
An overview of financial statements
A financial statement summarizes important information about your business’s financial affairs. The four types of financial statements are the statement of financial position, the statement of comprehensive income, the statement of changes in equity, and the statement of cash flow, according to IAS 1 Presentation of Financial Statements.
In layman’s terms, a financial statement is like a report card for a company, which measures its performance through the Statement of Comprehensive Income, and identifies its grade through the Statement of Financial Position. In deciding to what extent they can rely on the entity, stakeholders take into account the following Grades.
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The types of financial statements
If you own and control multiple entities or groups of companies, you must prepare financial statements of each entity to disclose their financial results, whether it is a parent company or multiple entities. These are some of the most commonly used financial statements:
- A financial statement for one entity;
- Consolidated financial statements; and
- Combined financial statements.
Keeping the owner’s mindset in mind, we will explore the above, and briefly explain the meaning, purpose, and usefulness of all these financial statements.
- Single Entity Financial Statements: As a single entity, a single entity financial statement represents a company’s financial position and performance without taking into account its subsidiaries’ financial positions or performances. An entity’s financial statements are documents that describe its business activities and financial performance.
- Consolidated Financial Statements: Combined financial statements include the results of subsidiaries and the parent company in one financial statement as if they were one company. Despite the fact that subsidiaries operate independently from the parent company, a consolidated financial statement gives a comprehensive view of the group’s finances.
International Financial Reporting Standards on Consolidated Financial Statements (FRS 10) note that consolidated financial statements should be prepared instead of combined financial statements when the parent company has:
- It is the parent’s right to direct the subsidiary’s activities if it has control over the subsidiary (controlling rights);
- Exposure to (variable) returns – the right to receive returns based on the performance of the subsidiary and is not fixed;
- Capacity to influence the number of returns with its power.
- In addition to the application guidance, there is additional guidance that makes the assessment of control more difficult.
- Combined Financial Statements: A combined financial statement, on the other hand, is a consolidated financial statement that reports the financials of two or more entities/segments. To present the financial position of the combined economic activities, as well as their financial performance and cash flow, the document contains financial statements presenting historical financial information for a circumscribed area of economic activities for which consolidated financial statements are not prepared.
An individual or group of individuals may want to see the financial results of two or more legally separate entities as one unit, which leads to the preparation of combined financial statements. They are not by themselves sufficient to qualify as a group under IFRS 10.
When preparing combined financial statements, many entities as well as parts of entities are taken into account. Identifying the parts of an entity from a financial reporting perspective and separable from that entity is possible when the parts of the entity are sufficiently identifiable.
It is required that all entities and segments are controlled by the same entity during the reporting period in order to prepare a combined financial statement. Controls that are common can include:
It is called a common control / management approach when part(s) of an entity are under common control according to the respective reporting framework. The present approach reflects the control principle currently allowed for preparing financial statements for economic activities within larger groups or commonly controlled by the same individual(s) for the respective reporting period.
An Entity or Part of an Entity May Be Combined If There Is Common Ownership – All combined entities or parts of entities may be combined if there is common ownership among them. Jointly owned entities can be managed by different management teams. As a result, combined financial statements can be prepared regardless of changes in management structures and those preparing them can show the historical track record of economic activity for all periods during which this economic activity is commonly managed.
How should Financial Statements be prepared?
As per IFRS 10, you must file a consolidated financial statement when a parent controls a subsidiary, has rights to variable returns from its involvement with the subsidiary and is able to influence the amount of return from the subsidiary.
Combination statements are prepared when there is no parent-company relationship between two or more entities under common control. Since each entity’s financial statements must be prepared separately, the combined statement is easier to prepare.
Combined financial statements may be more appropriate when assessing each entity as a whole instead of as part of the whole.
In much of the reporting done for a specific business, the end goal is to assess the parent and subsidiaries as a whole. You can determine which financial statement structure is most appropriate for presenting your financial information by analyzing the individual components.