- Explain the entity theory and parent company theories of consolidations.
- Identify one drawback of each method.
- Suggest to management a strategy to overcome each drawback.
- Be sure to provide a rationale for your suggestion.
Consolidated financial statement theories
what is entity theory?
Consolidated financial statements created using the entity /contemporary theory approach:
- combines in totality the entity created by the parent company and the subsidiary.
- give value to various groups including the parent company shareholders, non-controlling shareholders of the subsidiary, and creditors.
- net income includes total net income of both parent and subsidiary, whereby, controlling, and non-controlling share of subsidiary net income are distributed thus.
- total unrealized gain or loss is eliminated.
One drawback: when the parent can exert total control over the subsidiary, the shares held by non-controlling stockholders is insignificant with regards to equity ownersh