Non-controlling interest accounting is a crucial part of consolidated financial statements. It deals with the portion of a subsidiary's equity not owned by the parent company, affecting how income, equity, and other financial elements are reported.

Understanding non-controlling interest is key to grasping the full picture of a company's financial position. It impacts various aspects of financial reporting, from balance sheets to income statements, and plays a significant role in financial analysis and decision-making.

Non-controlling interest in consolidated statements

Definition and role

• Non-controlling interest (NCI), also known as minority interest, represents the portion of a subsidiary's equity not owned by the parent company
• NCI arises when the parent company owns less than 100% of the subsidiary's outstanding shares
• In consolidated financial statements, NCI is reported as a separate component of equity, distinct from the equity attributable to the parent company's shareholders
• The presence of NCI affects the allocation of a subsidiary's net income, comprehensive income, and equity between the parent company and the non-controlling shareholders

Reporting in consolidated statements

• On the consolidated balance sheet, NCI is reported as a separate component of equity, typically between liabilities and equity attributable to the parent company's shareholders
• The consolidated income statement includes a separate line item for the allocation of net income to NCI, which is deducted from the consolidated net income to arrive at the net income attributable to the parent company
• The consolidated statement of changes in equity presents the changes in NCI during the reporting period, including the allocation of net income, dividends paid to non-controlling shareholders, and any transactions between the parent company and NCI
• When analyzing consolidated financial statements, it is important to consider the impact of NCI on key financial ratios, such as return on equity and earnings per share, as these ratios may differ from those of the parent company on a standalone basis

Calculating non-controlling interest

Calculating NCI in subsidiary equity

• NCI in the equity of a subsidiary is calculated by multiplying the subsidiary's total equity by the percentage of ownership held by non-controlling shareholders
• The subsidiary's total equity includes common stock, additional paid-in capital, retained earnings, and accumulated other comprehensive income (if applicable)
• When calculating NCI, it is essential to consider any preferred stock issued by the subsidiary, as it may have different rights and preferences compared to common stock
• Example: If a subsidiary has total equity of $1,000,000 and the parent company owns 80% of its outstanding shares, the NCI would be calculated as $1,000,000 x 20% = $200,000

Factors to consider

• The calculation of NCI should take into account any changes in the subsidiary's equity during the reporting period, such as the issuance of new shares, share repurchases, or dividend distributions
• If the subsidiary has multiple classes of stock with different rights and preferences, the calculation of NCI should be adjusted accordingly to reflect the economic interests of non-controlling shareholders
• In some cases, the parent company may have a contractual arrangement with non-controlling shareholders that affects the allocation of the subsidiary's equity (put options or forward contracts)

Allocating consolidated net income

Allocation process

• Consolidated net income must be allocated between the parent company and NCI based on their respective ownership percentages in the subsidiary
• The allocation of consolidated net income to NCI is calculated by multiplying the subsidiary's net income by the percentage of ownership held by non-controlling shareholders
• The remaining portion of the subsidiary's net income is allocated to the parent company and is included in the consolidated retained earnings
• If the subsidiary has any items of other comprehensive income (OCI), the allocation of OCI between the parent company and NCI follows the same approach as the allocation of net income

Examples

• If a subsidiary reports net income of $100,000 and the parent company owns 80% of its outstanding shares, the allocation of net income would be:
  • NCI: $100,000 x 20% = $20,000
  • Parent company: $100,000 x 80% = $80,000
• If the subsidiary also reports OCI of $50,000, the allocation of OCI would be:
  • NCI: $50,000 x 20% = $10,000
  • Parent company: $50,000 x 80% = $40,000

Journal entries for non-controlling interest

Acquisition of subsidiary

• When a parent company acquires less than 100% of a subsidiary's outstanding shares, the transaction is recorded using the acquisition method
• The journal entry to record the acquisition includes debiting the subsidiary's identifiable assets and goodwill (if any), crediting the subsidiary's liabilities, and crediting NCI for the portion of the subsidiary's equity attributable to non-controlling shareholders
• Example: If the parent company acquires 80% of a subsidiary's outstanding shares for $800,000, and the subsidiary's identifiable net assets have a fair value of $900,000, the journal entry would be:
  • Debit: Identifiable net assets $900,000
  • Debit: Goodwill $100,000
  • Credit: Cash $800,000
  • Credit: NCI $200,000

Subsequent transactions with NCI

• Subsequent transactions between the parent company and NCI, such as the sale of additional shares to non-controlling shareholders or the purchase of shares from non-controlling shareholders, are recorded as equity transactions
• Journal entries for NCI transactions may involve adjustments to additional paid-in capital, NCI, and any gain or loss on the transaction, which is recognized directly in equity
• Example: If the parent company sells an additional 10% of the subsidiary's outstanding shares to non-controlling shareholders for $120,000, and the carrying value of the subsidiary's equity attributable to the 10% interest is $110,000, the journal entry would be:
  • Debit: Cash $120,000
  • Credit: NCI $110,000
  • Credit: Additional paid-in capital $10,000

Impact of non-controlling interest

Financial statement presentation

• The presence of NCI affects various aspects of consolidated financial statements, including the balance sheet, income statement, and statement of changes in equity
• NCI is reported as a separate component of equity on the consolidated balance sheet, distinguishing it from the equity attributable to the parent company's shareholders
• The consolidated income statement includes a separate line item for the allocation of net income to NCI, which is deducted from the consolidated net income to arrive at the net income attributable to the parent company
• The consolidated statement of changes in equity presents the changes in NCI during the reporting period, including the allocation of net income, dividends paid to non-controlling shareholders, and any transactions between the parent company and NCI

Financial ratios and analysis

• When analyzing consolidated financial statements, it is important to consider the impact of NCI on key financial ratios, such as return on equity (ROE) and earnings per share (EPS)
• ROE calculated based on the consolidated financial statements may differ from the parent company's standalone ROE, as the consolidated ROE takes into account the profit attributable to both the parent company and NCI
• EPS calculated based on the consolidated financial statements reflects the earnings attributable to the parent company's shareholders, excluding the portion of net income allocated to NCI
• Analysts and investors should be aware of the presence of NCI when comparing the financial performance of companies with different ownership structures in their subsidiaries