Non-Controlling Interest

CFA Level I
#1

Which of the following statements is most accurate?

Treasury stock is non-voting and receives no dividends.

A classified balance sheet arises when in an auditor’s opinion the financial statements materially depart from accounting standards and are not presented fairly.

Non-controlling interest on the balance sheet represents a position the company owns in other companies.

I was torn between the first and third statement - the answer turned out to be the first statement was the most accurate. I know that treasury stock is non-voting and receives no dividends, but then that left me to wonder why the last statement wasn’t also correct.

I thought that a non-controlling interest was the proportion of a company that is owned by another company, as a minority interest. Say if company A owns 15% of company B then they will report 15% of company B’s assets and liabilities on their balance sheet, whereas if they own a majority interest they would report the full 100% of the asstes and liabilities as they are deemed to be “in control” of them.

What am I missing - why is statement 3 not also correct?

#2

The answer says that it’s the interest your company has in another company.

In fact, it’s the interest that _ another company has _ in your subsidiaries.

#3

Oh wow, ok I thought it was the other way around…or perhaps I am getting controlling vs non-controlling interests mixed up.

my understanding was as follows:

If I am looking at the balance sheet of company A, and if company A owns a controlling interest in company B, 100% of company B’s assets and liabilities will appear on the balance sheet of company A - as company A in effect controls the them even though it does not own them 100%.

Am I correct in thinking that?

I also believed that if company A owned only say 15% of company B’s, 15% of company B’s assets and liabilities would appear on the balance sheet of company A. Are you saying that in fact with regards to non controlling interests, if company A owned 15% of company B, nothing would show up on the balance sheet of company A with regard to this, and that company A’s 15% ownership of company B would show up on the balance sheet of company B instead?

I know its a bit wordy, I just havnt a clue what shows up where!

#4

Mostly.

What you’re describing is called full consolidation, which is the most common method of consolidating a subsidiary’s operations with your own on your financil statements. If you own less than 100% of the subsidiary, then you include the minority interest: the percentage that is owned by someone else. On the income statement, it appears as a deduction from net income. On the balance sheet, it appears as Minority Interest in the equity section.

What you’re describing here is called proportional (or proportionate) consolidation. It used to be fairly common, but nobody uses it anymore. With proportional consolidation there is no minority interest shown, because you’re not consolidating 100% of the subsidiary’s income statement and balance sheet; you’re consolidating only your portion.

#5

Right I understand now, many thanks for clearing that up for me - much appreciated!!

#6

My pleasure.

#7

You all should read all of s2000 magicians posts. He’s what makes this board what it is.

#8

It’s funny because I could swear I’ve read both definitions. NCI could be the share of a subsidiary you do not own (defined by the CFAI) and could be the share of a subsidiary you DO own (seen on investopedia) http://www.investopedia.com/terms/n/noncontrolling_interest.asp

#9

Referring to the balance sheet item about which we’ve been talking as noncontrolling interest is uncommon; it’s usually called _ minority interest _.

In either case, Company A – which has a controlling interest in Subsidiary B (which is the reason that Company A has consolidated Subsidiary B’s financial statements with their own) – is recognizing on its income statement and balance sheet Company C’s minority (or noncontrolling) interest in Subsidiary B, that minority (or noncontrolling) interest being consistent with Investopedia’s definition.

Whew!

#10

Haha yes it was the inclusion of a “company C” that allowed me to get this straight in my mind when it comes to minority interest. My paradigm only had two companies which got me confused.

#11

If you own another interest in another company it won’t show up as NCI on your consolidated financial statements. You would record the investment as an asset on your books using either the cost method or equity method depending on your ownership percentage and influence in the percentage interest you own in the other company.

For a simple example of NCI say you own 51% interest in a company. Assuming you have control of the company you would consolidate the assets + liabilities on your books. However, in Stock Holders Equity you would show the 49% interest not owned by you as NCI this includes the equity + income attributable to the NCI holders.

Now those NCI holders would show an equity investment on their balance sheet at cost + adjustments for NI - dividends based on their ownership percentage.

A little outiside the scope of the CFA, but hope that helps.

#12

When you own a noncontrolling interest (but have influence), you generally use the equity method to account for the ownership. This is a Level II topic.