Advances to Subsidiary Concerns
Where control is secured through the medium of advances made on open account or by means of such advances together with ownership of stocks and bonds, a valuation must be made of these claims separately from the stocks owned. Where ownership is complete and valuation is shown by the consolidated balance sheet method, intercompany accounts and claims are, of course, eliminated and so do not show. In all cases, however, where claims against a subsidiary arise on account of advances, or even of sales, and these must be shown on the balance sheet of the owner of the claims, more than average care must be taken in placing a value on them. In the case of advances, frequently their exact status is not known at the time when made. The record is carried in a suspense account until its final status is determined, when record is made accordingly. The advance may be temporary, for the purpose, say, of enabling the subsidiary concern to take advantage of very favorable market conditions in the purchase of raw materials, in which case, of course, the claim is a current asset; or possibly the subsidiary company is about to make additions to plant and equipment and is financing the expansion temporarily by means of borrowings from the parent company. Whatever method of permanent finance is finally settled upon, this should convert the open-account claim of the parent company on account of advances, into the regular securities or obligations of the subsidiary concern. Again, it is unfortunately true that advances to the subsidiary company often become necessary to recoup it because of operation at a loss. This may continue with little hope of repayment for years to come, if ever. The parent company may ultimately lose all the funds advanced to the subsidiary company because of the latter’s financial instability.
Rules for Valuation
Because of the many factors involved, it is apparent that no absolute rule can be laid down for valuing the advances to a subsidiary enterprise. Each case will require careful investigation and must be settled on the basis thus established. If the investigation shows the loan to be temporary with good expectation of its full return, it should be shown at its face value among the current assets. If the advance is to be converted into the securities of the subsidiary concern and the latter is in good condition, the advance may be carried at par among the fixed assets. When the securities are received they should be valued as any other permanent stock investments, with due regard to the basis of conversion in comparison with the value of the securities given in settlement. If conditions upon examination are found to be serious, it may be necessary to treat advances made as expenses, i.e., they are of no realizable value. If the bankruptcy of the subsidiary concern seems probable, a question of financial policy and law arises, viz.: whether the interests of the parent company are best conserved by allowing its claims to remain on open account and so rank with other creditors, or to be converted into stock and rank with those of other owners. It may be necessary to take that phase of the matter into account when determining the value of claims against the subsidiary concern.
Investments in Partial Holdings
For the sake of business connections, prestige, and good-will, oftentimes more or less permanent investments are made of such a nature or in such amounts as not to secure a controlling interest. Here, because the reins of business control are not held by the investing company, manifestly such an investment is on a very different basis from those in companies whose control is held by the investor. In the one case, business policy can be determined and made effective; in the other case, success or failure is under the control of others. Accordingly, the valuation of these partial holdings differs from investments in companies entirely owned or controlled by the investor. Where the holdings of these minor interests are not particularly substantial in comparison with other properties owned, there is no serious objection to valuing them at cost. They are held to secure certain benefits, and so long as the real values of the companies concerned are being maintained or enhanced, there is little probability of the investment being disposed of. Market fluctuations, therefore, should be given little or no consideration. Where, however, partial or minor holdings form a comparatively large portion of the investments, it may sometimes be wise to value them on the same basis as temporary investments of a current nature. In this case the profit or loss attendant upon bringing market values into the books should be handled as with temporary investments.
Where investments of this kind are shown on the balance sheet at cost, it is sound policy to call attention in a footnote or otherwise to their market values, as oftentimes the market gives some indication of the condition of the company. The savings banks of the State of New York, in reporting to the State Department of Banking, must show the market value of the securities held. Usually three values are shown, viz.: market, par, and so-called investment value, to be explained later. Where the securities held are not listed on any exchange or are held closely and not traded in extensively, it is often difficult to secure reliable market quotations for them. Here cost, unless known conditions demand otherwise, seems the best basis for valuation.
Investments Producing No Income
Some investments may be of a permanent type and yet of themselves produce no income. Such are memberships on stock and produce exchanges, boards of trade, and the like, which are valuable for the privileges and prestige accruing therefrom and the business associations secured thereby. They should usually be valued at cost, thus allowing the period in which they are sold, if disposal becomes necessary, to get the profit or loss incident thereto.
Bond Values and Market Interest Rates