Publicly traded companies are required to file an annual report with the Securities and Exchange Commission, distribute it to the shareholders and make it available to the general public on the company website. Private companies may also choose to publish annual reports to attract new customers and raise capital. If a company holds an interest in a subsidiary, this information must be incorporated into the parent's annual report. Because each company operates separately and keeps its own set of books, the subsidiaries must first prepare their own financial statements and give them to the parent company for review and consolidation.
Annual reports present key information to investors, lenders and potential business partners. The parent company's annual report should include a list of all subsidiaries and the percentage of stock owned in each company. Subsidiaries do not usually prepare their own reports unless they are required to do so by a regulatory agency. For example, a foreign subsidiary may be required to prepare an annual report for its local tax authority. The information in this report should be incorporated into the parent's annual report.
Consolidated Financial Statements
The heart of the annual report is the company's financial information. Consolidated financial statements give the most accurate picture of the entire enterprise. A complete set of financial statements consists of a balance sheet, income statement, statement of cash flows and statement of equity. These financial statements eliminate any intercompany transactions that took place between the parent and a subsidiary or between two subsidiaries. This prevents a company from inflating revenue numbers by selling products to one of its subsidiaries.
Types of Consolidation
The correct consolidation method depends on the equity the parent holds in the subsidiary. If the equity is greater than 50 percent, each account on the general ledger should be combined to prepare a fully consolidated set of financial statements. For equity holdings between 20 and 50 percent, the parent should use the equity method to report its investment in the subsidiary. Start with the initial investment in the subsidiary and increase the equity when the subsidiary reports net income. Decrease the equity when the subsidiary reports a net loss or pays dividends. Holdings of less than 20 percent should be reported with the cost method, which lists only the cost of the investment in the subsidiary. The value on the parent's general ledger is not adjusted each year to reflect the subsidiary's income or loss.
Disclosures and Footnotes
The disclosure notes and footnotes to the consolidated financial statements should include any other information that may have an impact on the company's stability or future growth. Discuss industry risks, deteriorating market conditions and the impending departure of key managers or officers. List your top customers and suppliers and explain how their loss would affect the health of the parent company and its subsidiaries. Disclose any commercial interests in other business ventures that may not appear anywhere else on the financial statements.
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