The importance of consolidated statements

Often, a company, in its quarterly or annual financial results announcements, gives what is called ‘consolidated financial statements'. What are these and how much attention should you pay to it?

The basics

Consolidated financial statements show the company's financials together with those of all its subsidiaries. The financial statements independent of such consolidation are called ‘standalone financial statements'. In many cases, consolidated financial statements vastly differ from the standalone figures, either pushing up profits or weighing on them.

The company is termed a parent, and the parent, together with all its subsidiaries, becomes a group. In simple words, consolidation is the line-by-line summing up of the revenues, expenses, assets and liabilities of the parent and all its subsidiaries, in tune with the parent's reporting period and accounting policies. Common transactions between the two, such as a sale of goods or services to the parent by the subsidiary, are eliminated to avoid double counting of items and distorting the final figures. Investment in associate companies will be recorded at cost and the share in the profits or losses of the associate will be incorporated in the final figures. The portion of the assets to which the minority shareholders (shareholders other than the parent) are entitled will appear in the balance sheet as ‘minority interest' on the liabilities side. This is to show that the parent does not own all the assets or the income or losses resulting from operations.

When is it required?

A company provides consolidated financials when it controls (holds more than half the voting power) a subsidiary. Consolidation of financials is also necessary when there are joint ventures or if there are investments in associate companies, in which the company can influence, but not control, policy decisions. Infrastructure companies are a good example of joint ventures necessitating consolidation. Consider IRB Infrastructure, which uses subsidiary companies for its various road projects. Standalone revenues and profits for FY-11 stood at Rs 267 crore and Rs 90 crore, while consolidated revenues and profits were Rs 2,438 crore and Rs 454 crore, respectively. But where holdings are meant to be temporary, consolidation will not be done.

Importance

Sticking to the standalone figures to judge a company, therefore, may prove rather disastrous sometimes. Given that a company may have subsidiaries aplenty, whether or not in the same line of business, where these are profitable, they add to shareholder's wealth. But poor performance of a subsidiary will affect the earnings of the parent. Companies can even suffer a loss on a consolidated basis while making profits independently and vice versa. Take the case of Shoppers' Stop. Its nascent business of opening hypermarkets is yet to break even. A Rs 12-crore standalone profit for the June '11 quarter slipped into losses of Rs 1.5 crore on a consolidated level after incorporating the hypermarket subsidiary. Therefore, where a company declares consolidated figures, especially on a quarterly basis, comb through it. Compare consolidated numbers to the standalone figures to judge whether the company has benefited from the subsidiary activities, which subsidiary adds to or detracts from the company. It may just sway your investment decision.

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