Terms

Unconsolidated Subsidiary Meaning and Examples

Unconsolidated Subsidiary: Meaning and Examples

What Is an Unconsolidated Subsidiary?

An unconsolidated subsidiary is a company owned by a parent company, but its individual financial statements are not included in the parent company’s consolidated financial statements. Instead, the unconsolidated subsidiary appears as an investment on the parent company’s consolidated financial statements. This usually happens when the parent company does not have a controlling stake in the subsidiary.

Key Takeaways

  • Unconsolidated subsidiaries are owned by a parent company, but their individual financial statements are not included in the parent company’s consolidated financial statements.
  • Instead of individual financial statements, unconsolidated subsidiaries appear as investments on the parent company’s consolidated financial statements.
  • Companies are considered unconsolidated subsidiaries when the parent company lacks control, has temporary control, or operates differently from the subsidiary.
  • The equity method or historic cost method is used to record the investment in the subsidiary, depending on the parent company’s equity stake.
  • Parent companies usually have less than a 50% ownership stake in unconsolidated subsidiaries. The accounting method used depends on whether the ownership stake is more or less than 20%.

Understanding an Unconsolidated Subsidiary

A company may be treated as an unconsolidated subsidiary when the parent company does not have control, has temporary control, or operates differently from the subsidiary.

Different accounting treatments apply based on the percentage owned by the parent company, which is always less than 50%. If the ownership stake is 20% or more (but less than 50%), the parent typically exerts some type of control over the subsidiary.

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In this case, the parent company uses the equity method to account for the unconsolidated subsidiary, considering it an investment with more than 20% ownership in the subsidiary’s voting stock. This is known as an influential investment. Under this method, the parent must record any profits or losses realized by the subsidiary on its income statement.

For parent companies with less than a 20% stake and no control over the subsidiary, the investment is recorded at historical cost or purchase price on the balance sheet. This is known as a passive investment. However, if dividends are paid, which are cash payments to shareholders, the parent records the dividend income but does not record any investment income from the subsidiary.

Reasons to Have an Unconsolidated Subsidiary

Parent companies often create unconsolidated subsidiaries for various reasons, such as joint ventures (JVs) to share costs with another company or special purpose vehicles (SPVs) to separate revenues, costs, and profits for specific projects from those of the parent company.

Financial statements of a parent company may not fully reflect its true exposure to all elements of its business when a subsidiary or affiliated entity is a significant operation.

While a parent company may lack managerial control over a subsidiary, it could still have significant exposure to the subsidiary’s financial and operational dealings. For example, a multinational enterprise may face political risk in another region. From an accounting perspective, it may not be necessary to account for the subsidiary beyond an investment on the parent company’s financial statements, but the exposure does extend to the parent’s core business.

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Example of an Unconsolidated Subsidiary

Let’s consider an example where Company ABC has a 40% controlling interest in its unconsolidated subsidiary, Business XYZ. ABC created XYZ as an SPV for a new construction project in a foreign country that will last for a year.

XYZ records $1 billion in profits for the year. As ABC owns more than 20% (but less than 50%) of XYZ, it uses the equity method of accounting for its unconsolidated subsidiary. ABC must record $400 million in earnings on its income statement and increase the value of the initial investment on the balance sheet by $400 million, as it has a 40% stake and some control over XYZ.

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