Intercorporate Investments Analysis Implications Validity of Taking Up Earnings dollar-for-dollar equivalence of earnings cannot be taken for granted because: .o A regulatory authority can sometimes intervene in a subsidiary's 令 dividend policy .o A subsidiary can operate in a country where restrictions exist on remittance of earnings or where the value of currency can deteriorate rapidly .2 Dividend restrictions in loan agreements can limit earnings accessibility .s Presence of a stable or powerful minority interest can reduce a parent's discretion in setting dividend or other policies
Intercorporate Investments Analysis Implications Validity of Taking Up Earnings—dollar-for-dollar equivalence of earnings cannot be taken for granted because: ❖ A regulatory authority can sometimes intervene in a subsidiary’s ❖ dividend policy ❖ A subsidiary can operate in a country where restrictions exist on remittance of earnings or where the value of currency can deteriorate rapidly ❖ Dividend restrictions in loan agreements can limit earnings accessibility ❖ Presence of a stable or powerful minority interest can reduce a parent’s discretion in setting dividend or other policies
Intercorporate Investments Analysis Implications Provision for Taxes on Undistributed Subsidiary Earnings .o Current practice assumes all undistributed earnings transfer to the parent and that a provision for taxes is made by the parent in the current period The decision on whether taxes are provided on undistributed earnings is that of management .s Management must report the amount of earnings for which no income taxes are provided by the le parent
Intercorporate Investments Analysis Implications Provision for Taxes on Undistributed Subsidiary Earnings ❖ Current practice assumes all undistributed earnings transfer to the parent and that a provision for taxes is made by the parent in the current period ❖ The decision on whether taxes are provided on undistributed earnings is that of management ❖ Management must report the amount of earnings for which no income taxes are provided by the parent
Intercorporate Investments Analysis Implications Debt in ConsolidatedFinancial statement Liabilities in consolidated financial statements do not operate as a lien upon a common pool of assets Creditors, whether secured or unsecured have recourse in the event of default only to assets owned by the specific corporation that incurred the liability .s If a parent company guarantees a liability of a subsidiary, then the creditor has the guarantee as additional security with potential recourse provisions BAN田 .g To assess the security of liabilities, analysis must examine the individual financial statements of each subsidiary
Intercorporate Investments Analysis Implications Debt in Consolidated Financial Statements ❖ Liabilities in consolidated financial statements do not operate as a lien upon a common pool of assets ❖ Creditors, whether secured or unsecured, have recourse in the event of default only to assets owned by the specific corporation that incurred the liability ❖ If a parent company guarantees a liability of a subsidiary, then the creditor has the guarantee as additional security with potential recourse provisions ❖ To assess the security of liabilities, analysis must examine the individual financial statements of each subsidiary
Intercorporate Investments Analysis Implications Addtional limiations of consolidated financial statements Financial statements of the individual companies comprising the larger entity are not always prepared on a comparable basis-these differences can inhibit homogeneity and impair the validity of ratios, trends, and other analyses Consolidated financial statements do not reveal restrictions on use of cash for indiv idual companies--these factors obscure analysis of liquidity Companies in poor financial condition sometimes combine with financially strong companies, thus obscuring analysis Extent of intercompany transactions is unknown unless the procedures underlying the consolidation process are reported Consolidated retained earnings actually available for payment of dividends are difficult to establish unless reported Composition of minority interest (e.g., between common and preferred) cannot be determined from a"combined"minority interest amount in the consolidated balance sheet .o Aggregation of dissimilar enterprises can distort ratios and other relations-for example, current assets of finance subsidiaries are not generally available to satisfy current liabilities of the parent; assets and liabilities of separate entities are not interchangeable
Intercorporate Investments Analysis Implications Additional Limitations of Consolidated Financial Statements ❖ Financial statements of the individual companies comprising the larger entity are not always prepared on a comparable basis—these differences can inhibit homogeneity and impair the validity of ratios, trends, and other analyses ❖ Consolidated financial statements do not reveal restrictions on use of cash for individual companies--these factors obscure analysis of liquidity ❖ Companies in poor financial condition sometimes combine with financially strong companies, thus obscuring analysis ❖ Extent of intercompany transactions is unknown unless the procedures underlying the consolidation process are reported ❖ Consolidated retained earnings actually available for payment of dividends are difficult to establish unless reported ❖ Composition of minority interest (e.g., between common and preferred) cannot be determined from a “combined” minority interest amount in the consolidated balance sheet ❖ Aggregation of dissimilar enterprises can distort ratios and other relations—for example, current assets of finance subsidiaries are not generally available to satisfy current liabilities of the parent; assets and liabilities of separate entities are not interchangeable