Myrtle W. Clark UNIVERSITY OF KENTUCKY

EVOLUTION OF CONCEPTS OF MINORITY INTEREST

Abstract: The FASB is currently addressing issues related to accounting for minority interest as a part of the “entity project”. Decisions regarding the measurement and financial statement presentation depend upon the determination of the fundamental nature of minority interest. Alternative views describing the nature of minority interest rely upon alternative equity theories of consolidation. This paper traces the evolution of concepts of minority interest from the early 1900s to the present. The evolution is placed in perspective vis-a-vfs the development of relevant corporate theories of equity.

The Financial Accounting Standards Board (FASB) is cur-rently evaluating consolidation accounting methods under the agenda project — Consolidations and Related Matters [FASB, Highlights, 1991]. The first phase is completed and resulted in the issuance of SFAS No. 94, Consolidation of All Majority-owned Subsidiaries. The second phase is under way; and on September 10, 1991, the FASB issued a discussion memorandum (DM), An Analysis of Issues Related to Consolidation Policy and Procedures, which “is intended to cover all aspects of accounting for affiliations between entities . . .” [FASB, 1991, par. 4].

The DM addresses a number of procedural and theoretical issues wherein a parent company has a controlling interest in a subsidiary entity. In those cases where there is less than 100 percent ownership, the appropriateness of a particular account-ing approach (e.g., the measurement of goodwill or the treat-ment of unrealized profit arising from intercompany transac-tions) hinges upon the nature of noncontrolling “minority” in-terest, which in turn relies upon the nature of the repotting entity.1 Thus, a concept of minority interest is important to the

‘The DM and authors in the literature refer to the two prominent theories of equity — parent company theory and entity theory (discussed later in the paper) — to support positions taken on the nature of minority interest and to relate those positions to various accounting procedures and policies. The following example illustrates the importance of a concept of minority interest to consolidation principles and procedures. When published financial statements are pre development and implementation of consolidation policies and procedures.

Minority interest has not received a great deal of attention in the accounting literature. The question of the fundamental nature of minority interest has been linked to the question of whether the appropriate basis of accounting should rely upon the entity concept or the parent company concept. That is, the two prominent equity theories of consolidation — entity theory2 and parent company theory — typically appear as a basis of support for discussions pertaining to minority interest. Under the entity theory, corporate assets are independent of capital structure, and majority and minority stockholders provide alternative sources of corporate resources. Parent company theorists perceive parent company investors as the primary benefactors of the consolidated group, and minority stockholdings as outside interests.

There is little official guidance on how to account for mi-nority interest or how to handle matters which rely upon a concept of minority interest. “ARB No. 51, Consolidated Financial Statements and FASB Statement No. 94 . . . are the prevailing authoritative literature on accounting and reporting standards for consolidated financial statements” [FASB, 1991, par. 14]. Neither pronouncement offers a definition of minority interest nor prescribes how to treat or measure minority interest in published financial statements.3 Minority interest has appeared as a liability, between liabilities and stockholders’ equity, and in stockholders’ equity. Before accountants can determine how to measure and present minority interest, a consensus on the nature of minority interest is needed. Is it debt or equity, or perhaps neither?

pared from the perspective of the parent company, minority interest is considered an outside interest. Under this view, when an interest in a subsidiary is purchased, goodwill is equal to cost minus the fair value of the proportion of identifiable net assets acquired. Conversely, when the business entity is considered to be independent of its capital providers (entity theory), minority stockholders are viewed as having an equity interest. In this case, goodwill would be recorded at its total fair value, imputed from the cost of the acquisition to the parent.

2In the DM, the FASB referred to entity theory as the “economic unit” theory.
3 ARB No. 51 does not expressly define a concept of reporting entity, a concept of consolidated financial statements, or a concept of minority interest [See for example FASB, 1991, par 20]. According to the DM, ARB No. 51 expressed some preferences, but set forth few hard and fast rules.

This paper traces the evolution of concepts of minority in-terest from the early 1900s to the present. The developments are placed in perspective relative to the evolution of the entity and parent company theories. The nature of minority interest, but not its measurement, is discussed. No attempt is made to critically evaluate the theoretical merits of minority interest concepts or related consolidation theories.

EARLY VIEWS OF MINORITY INTEREST

Minority interest has been referred to as a liability, equity, or neither. References describing the placement of minority in-terest in corporate balance sheets began appearing in text books and journal articles in the early 1900s.4 Differences of opinion were evident from the start. Newlowe [1948] examined 150 journal articles and books from 1908 through 1945. He determined that 84 references proposed that minority interest be listed, but either preferred no classification or did not mention where minority interest should be placed. Four authors preferred that minority interest be placed among liabilities, and 28 preferred to classify minority interest as an element of stockholders’ equity. The other 34 sources cited did not address the nature of minority interest.

Early references proffered their views of what minority interest is but did not offer theoretical defenses for particular positions taken. Moreover, proponents of one view did not typically refer to alternative accounting treatments. For example, when referring to matters “… appertaining to minority shareholders . . . ,” Dickinson [1918] stated
The proper practice is to take up as a liability the par value of the outstanding stock, together with its relative share of surplus, but when the amount involved is
4The earliest reference is a presentation made by William M. Lybrand at the annual meeting of the American Association of Public Accountants in October 1908 which was published in two parts in The Journal of Accountancy in November 1908 and December 1908. Lybrand depicted “Common Stock of Subsidiary Companies Not Owned by the Holding Corp.” under a general heading of “Liabilities,” following “Common Stock of the Holding Corp.” [November 1908, p. 40]. In Part II, Lybrand stated that “Under capital stocks will be included the stock issues of the holding company and separately stated, such part of the stocks of the subsidiary companies as are not owned by the holding company” [December 1908, p. 120].

small, the proportion of surplus is not always set aside [1918, p. 183].
Finney described minority interest as a “capital liability to out-siders”, stating
If there is a minority interest, it would be wrong to eliminate the capital stock and surplus or deficit ac-counts of the subsidiary entirely, because they repre-sent two things: (1) The capital liability to the holding company, which is an inter-company relation and is therefore eliminated; and (2) the capital liability to the minority stockholders, which is an outside relation and must therefore be shown in the consolidated balance sheet [1922, p. 20].
Newlowe referred to minority interest as “proprietors,” noting
From the point of view of the majority interests, the algebraic sum of the capital stock, surplus, deficit, and proprietorship reserves belonging to minority interests is a liability. However, the minority stockholders rank as proprietors rather than creditors. The minority interest, therefore should be shown on the consolidated balance sheet as a special net worth account [1926, p. 6].

And, Rorem wrote

In cases where the parent company owns most, but not all, of the stock of the subsidiary, the interest of minority stockholders should be shown separately as a special proprietary item on the consolidated balance sheet [1928, p. 440].
In all four cases, no more was said about the nature of minority interest.

During the 1940s, authors began to offer theoretical argu-ments to support a favored position. For example, Sunley and Carter argued
This interest of the minority is thus somewhat similar to the interest of a creditor. The creditor hopes for the prosperity of his customer so that he may receive some share in that property; but, on the other hand, the creditor does not wish his customer’s prosperity to be made at the expense of the creditor’s own profits [1944, p. 361].

Clark: Evolution of Concepts of Minority Interest 63
In addition, the pros and cons of alternative accounting treat-ments for minority interest began to be compared and con-trasted. Childs wrote
It would seem that a minority interest should not be looked upon as a liability unless it represents recalci-trant stockholders whom the majority is trying to buy out or a capital consumed by losses which, neverthe-less, has a “nuisance” value. It does not have a lien on any assets; it does have a proprietary equity in certain assets and is a part of the capital of the enterprise. To deny a minority interest co-ordinate status with the majority because it does not represent an equity in the assets of more than one legal entity is no more logical than to deny a liability a co-ordinate position with other consolidated liabilities for the same reason [1949, p. 55].

Minority Interest As a Liability — AAA

The initial position of the American Accounting Association (AAA) was that minority stockholdings are outside interests. Kohler presented a paper at the 1929 annual meeting of the AAA which was later published in The Accounting Review. The paper represented “the main opinion” of the Executive Committee regarding the topic of consolidated reports [Kohler, 1938, p. 63]. The Committee determined that “outside stockholders” possess attributes of creditors because “their interests do not parallel those of the controlling entity” [Kohler, 1938, p. 67]. Consistent with others writing on the topic of minority interest during this period, no theoretical support was given for this statement.

In 1955, the AAA Committee on Concepts and Standards issued Supplementary Statement No. 7, “Consolidated Financial Statements.” Consistent with the 1929 Executive Committee’s position, minority interest was referred to as an “outside finan-cial interest” along with preferred stock and debt instruments [AAA, 1955, p. 194]. However, the 1955 Committee did not mention where minority interest should be shown in published financial statements, nor did the Committee offer a definition of what minority interest is.

The thrust of the 1955 Statement was to set forth basic principles of consolidated financial statements. One of those principles was that: “In so far as practicable, the consolidated data should reflect the underlying assumption that they repre-

sent the operations, resources, and equities of a single entity” [AAA, 1955, p. 194]. A subsequent Statement, “Accounting and Reporting Standards for Corporate Financial Statements: 1957 Re-vision, ” expanded and clarified the principle of the consolidated entity, but again was silent on the subject of the nature of minority interest [AAA, 1957].
Proponents of the entity concept argue that classifying mi-nority interest as a liability is inconsistent with the view that consolidated financial statements are prepared for a single en-tity. Thus, the 1957 AAA Committee’s silence on this point may be interpreted as indicating a shift from the 1929 Executive Committee’s position as described by Kohler.

Minority Interest As Equity

The view which holds that minority interest is an equity interest is rooted in the development of the entity theory. Paton described the essence of the entity theory. Paton [1922] proposed that the accounting equation is properly depicted as “Assets = Equities”. Equities were described as “… a marvelous diffusion of all aspects of ownership — control, income, risk, etc. — among a host of investors” [Paton, 1922, p. 73]. Accordingly, all types of corporate securities represent equity in corporate assets. Paton argued that a mere change in the source of corporate capital does not affect the cost of factors of production. It follows that the corporate entity is independent of its capital structure. Assets are corporate assets, and income is corporate income until distributed as returns to the various capital providers.5 Under this scenario, consolidated financial statements would be prepared for the entity, rather than being extensions of the separate financial statements of the parent company.

Moonitz [1942] pointed out that because there was no generally accepted theory of consolidation, a number of confusing alternative and sometimes contradictory practices coexisted. He extended the discussion of the entity theory to consolidated financial statements and argued that the entity concept provides an appropriate theoretical base. Moonitz viewed the consolidated balance sheet as a depiction of assets and liabilities asso-

In his theory book Paton did not describe minority interest nor did he address any consolidation issues vis-a-vfs the entity theory. His ideas were extended to consolidation policies by Moonitz [1942].

ciated with an affiliated group as though they belonged to a single operating unit. Following Paton’s argument, Moonitz stated
In accordance with our fundamental premise, a con-solidated balance sheet contains a list of the assets and liabilities assignable to an affiliated group treated as a single operating unit. The net worth or capital is therefore the net worth or capital of the whole group [1942, pp. 241-2].

That is, the minority interest, like the controlling interest, pro-vides net worth which is utilized to carry on the operating ac-tivities of the consolidated group. According to Moonitz, “mi-nority interest serves as a reminder that complete community of interest in the affiliated companies does not exist, and the divergence of interest must be recognized” [1942, p. 241]. Thus, net worth should be divided between controlling and minority interest in order not to exaggerate the extent of the equity of the controlling interest.

Position of the Committee on Accounting Procedure

Although the AICPA has not taken an official stand on the nature of minority interest, ARB 43 [1953] does provide support for the entity concept. In Chapter 7, the following statement is made: “The income of the corporation is determined as that of a separate entity without regard to the equity of the respective shareholders in such income” [Section B, par. 6]. This statement is consistent with the entity theory position taken by Paton and Littleton in 1940. Specifically, the corporation can be viewed as “an institution separate and distinct from the parties who furnish funds” [Paton and Littleton, 1940, p. 8],
On the other hand, ARB 51 states

The purpose of consolidated statements is to present, primarily for the benefit of the shareholders and creditors of the parent company, the results of operations and the financial position of a parent company and its subsidiaries essentially as if the group were a single company with one or more tranches or divisions” [par. 1].
No mention is made of where to place outside interests on the balance sheet, but the above statement could provide support for the “parent company” theory of equity which has been uti-lized to justify placement of minority interest outside of owners’ equity. If consolidated financial statements are prepared to benefit parent company capital providers, then the consolidation process merely sets forth the details of parent company invest-ments. From the parent company perspective, consolidations transform parent company financial statements and do not pro-vide information which is relevant for minority interest deci-sion-making.

The Origin of Parent Company Theory

The parent company theory has evolved from the propri-etary theory of equity, which in the corporate context has been referred to as an association, or representative viewpoint. Hus-band described the corporation as “… a group of individuals associated for the purpose of business enterprise, so organized that its affairs are conducted through representatives” [1938, p. 242]. He argued that although stockholders do not have legal title to corporate assets, they are proprietors because their equity changes in response to the incurrence of corporate income. Consequently, stockholders are proprietors. They possess title in equity. In a later paper, Husband expanded his arguments and referred to the corporation as an agency organization which operates for the benefit of the common stockholder entrepreneur [Husband, 1954]. Although Husband referred to his theory as an association, or representative viewpoint, it is consistent with the proprietary theory of equity in which the corporation is seen as an association of entrepreneurs [Li, 1960, p. 258].

Husband did not address the issue of the nature of minority interest. Although he referred to consolidated statements, no attempt was made to link the development of the proprietary theory to the early propositions that minority interest is not appropriately considered a part of owners’ equity. As a result, the early concepts of “outside interests” and the proprietary theory were developed independently of each other. Conversely, early concepts of minority interest as owners’ equity were linked to the entity concept and arguments of proponents have relied upon the development of and implications inherent in the entity concept.
POSITIONS TAKEN IN THE 1960s Those Based on the Entity Theory
During the 1960s, the entity concept was expanded upon, but little new was said about implications for minority interest.

Moonitz continued to defend the entity concept and argued that minority interest clearly reflects proprietary ownership because there is no obligation to pay anything to minority shareholders [1960, p. 46]. Sapienza [1960] agreed and proposed that minor-ity interest be presented in the balance sheet as a special class of stockholders.

In 1964, an AAA Committee was charged to explore the depth and significance of the entity concept. The ensuing AAA report concluded that the role of the entity concept should be to serve as a guide for determining what information should be reported to users [AAA, 1965, p. 358]. The report stated that consolidated financial statements are prepared primarily for parent company stockholders (a position which is consistent with that taken by the AICPA in ARB 51). Those stockholders are interested in information about investments in subsidiary companies. However, because the essence of the reporting entity is that its existence is separable from any view on how to report, “the concept does not dictate solutions to the valuation and disclosure problems arising from business combinations” [AAA, 1965, p. 367].

On the surface, the 1965 AAA report appeared to support the entity concept, but narrowed it from that envisioned by Moonitz and Paton and Littleton. Instead of the economic unit being regarded as the corporation itself, the emphasis that consolidated statements are prepared primarily for the parent company’s stockholders appeared to redefine the entity concept in terms of the primary user of published financial statements. In essence, this new definition could be seen as a relabeling of Husband’s proprietary theory, and as such could be interpreted as providing support for the 1938 AAA “outside interests” position. However, like its predecessor committees, the 1965 AAA committee report did not specifically address minority interest.

Minority Interest, As a Separate and Distinct Equity

Writing prior to the 1965 AAA report, Smolinski [1963] de-scribed minority interest as a “unique” interest. He said that it is neither a liability nor an item of owners’ equity. Rather, minor-ity interest “is an interest in only one unit of the consolidated entity, and any rights which it has, are rights to the net assets of this unit” [Smolinski, 1963, p. 167]. In other words, majority stockholders, not minority stockholders have a claim to the total consolidated net assets. This view has apparently been shared
by a large number of consolidated entities, because historically, a majority of companies have reported minority interest between debt and stockholders’ equity [See for example, Campbell, 1962, p. 99 and FASB, 1991, p. 21].

POSITIONS TAKEN IN THE 1970s Expansion of the Entity Concept

Hendriksen [1970] favored a return of the entity concept to encompass like consideration of all equity providers as envi-sioned by Paton and Littleton and Moonitz. He pointed out that the stated objective of ARB 51 was to view the reporting enterprise as a single economic unit, but at the same time emphasized the interests of the parent company’s shareholders.

Hendriksen stated

If the entire enterprise is really one economic unit, all interested parties should be given equal consideration, as in the enterprise theory; or the entity theory should be expanded to include the entire economic entity rather than merely the legal entity of the parent corpo-ration [1970, p. 515].

Stated differently, Hendriksen felt that the entity concept as described in official pronouncements was too narrowly defined to encompass the true nature of economic entity. Limiting the reporting entity to the parent company has resulted in treating minority shareholders as outsiders, in the same manner as liabilities. Nevertheless, both majority and minority stockholders provide equity capital to the entire enterprise. Hence, minority interest should be accorded treatment similar to that of the parent company’s stockholders.
International Accounting Standards

In 1972, the Accountants International Study Group, which was associated with the AICPA and similar bodies in other countries, reported on the results of a study regarding the nature of consolidated financial statements. The report favored the “parent company” concept which it described as one which views consolidated financial statements as an extension of the parent company statements. As such, the consolidation process simply replaces the parent company’s investment account with the individual assets and liabilities underlying that investment.

When this occurs, minority shareholders are considered an out-side group.

The study group report stated that the predominant prac-tice in the United States, Canada and the United Kingdom is to show the minority interest as a separate item outside stockholders’ equity. The report concluded that this practice is appropriate. It did not state whether minority interest should be reported as a liability or be placed in a separate category between liabilities and stockholders’ equity. However, to state that it should be reported as a separate item could be interpreted as supporting the latter position. The subsequent pronouncement (International Accounting Standard No. 3) officially affirmed the position taken by the study group. That is, minority interest is not an element of stockholders’ equity and should be shown as a separate item.

Minority Interest As a Standing Source of Capital

Scott [1979] was critical of placing minority interest in a separate category. He described placement of items such as minority interest between liabilities and stockholders’ equity as “items, seemingly adrift in a ‘no man’s land'” [Scott, 1979, p. 758].

Instead, Scott proposed that the classification of equities should depend on whether or not they provide permanent sources of capital. He argued that the going concern assump-tion negates the relevance of dividing equities between liabilities and owners’ equity. Accordingly, such a division is based upon legal claims which are not resorted to under normal circumstances [Scott, 1979, p. 759]. Scott stated that sources of capital should be divided between transitory sources and standing sources. Because contributions of majority and minority stockholders are relatively permanent, both should be classified as standing sources of capital.

RECENT VIEWS

No Reporting of Minority Interest

A recent argument holds that because there is no consensus on the nature of minority interest, parent company stockholders would be better served if no minority interest was reported at all. Rosenfield and Rubin [1985] commented that minority interest does not fit neatly into any balance sheet category. Proportional consolidation, in which the parent company reports only its proportionate share of the items reported by a subsid-iary, was described as having appealing characteristics [Rosenfield and Rubin, 1985, p. 95]. Although both authors appear to believe that minority interest should not be reported in consolidated financial statements, their 1986 article presented opposing views on how not to do so.

According to Rosenfield, a new view of equity is needed. He argued that consolidated financial statements should continue to reflect the total assets and liabilities of the parent and subsidiary. But, the residual represents the combined interest of majority and minority stockholders in the consolidated reporting entity itself and is therefore, the entity’s equity in its own assets. The implication is that consolidated entities should report only one amount — the residual [Rosenfield and Rubin, 1986, p. 84]. This view is consistent with Husband’s description of the entity concept as providing a rationale for disclosing stockholder claims as equity [1954, p. 556]. Another name given to the Rosenfield view is contemporary theory (see Beams below).

Rubin countered, stating that Rosenfield’s approach would still include minority interest in stockholders’ equity. Hence it would still be disclosed, but camouflaged. He proposed that “the only sound way to exclude amounts that relate to minority stockholdings from the numbers column is to exclude all such amounts, and the only way to do that is through proportional consolidation” [Rosenfield and Rubin, 1986, p. 88]. The contention is that when a subsidiary’s voting stock is acquired, the parent obtains the right to receive a pro-rata share of dividends, when declared. This pro-rata claim implies that only the parent’s pro-rata share of the subsidiary’s assets and liabilities is relevant information to parent company stockholders. Hence, proportional consolidation provides relevant information to the primary users of consolidated statements, present and prospective parent company investors.

The FASB’s View

Like its predecessors, the Committee on Accounting Procedure and the Accounting Principles Board, the FASB has yet to take an official stand on the nature of minority interest. Nevertheless, the Board has described minority interest as an example of a financial statement item which fits the definition of equities, rather than liabilities. Reflecting the view of Moonitz, SFAC No. 6 [1985] states

Minority interests in net assets of consolidated subsidiaries do not represent present obligations of the enterprise to pay cash or distribute other assets to minority stockholders. Rather, these stockholders have ownership or residual interests in a consolidated enterprise [par. 254].

In the recent Discussion Memorandum, Distinguishing be-tween Liability and Equity Instruments and Accounting for In-struments with Characteristics of Both, the FASB reiterated the position that minority interest does not meet current definitions of liabilities and thus must be an equity interest [FASB, 1990, par. 16]. The Board acknowledged that “Advocates of the parent company concept, however, generally take the position that a minority interest is a liability or perhaps that it is neither a liability nor equity” [FASB, 1990, par. 16]. The Discussion Memorandum went on to say that the issue of the nature of minority interest is being addressed as a part of the entity project.

SFAS No. 94 determined that, unless control was clearly lacking, all majority owned subsidiaries should be consolidated. The standard amends ARB 51, but does not change the stated objective of consolidated financial statements. When discussing the basis for its conclusions, the Board stated that “Those who invest in the parent company of an affiliated group of corporations invest in the whole group, which constitutes the enterprise that is a potential source of cash flows to them as a result of their investment” [SFAS No. 94, Appendix B, 1987, par. 34]. This means that consolidated financial statements provide relevant information to parent company investors in accordance with the objectives of financial reporting as outlined in SFAC No. I [SFAS No. 94, Appendix B, 1987, par. 35]. At the same time, the reference to investing in “the whole group” could be interpreted as implying that parent company stockholders provide capital for the economic entity, an entity concept perspective.

The FASB’s 1991 consolidation procedures DM presented and discussed the pros and cons of alternative views of consolidation theory and the nature of minority interest. Based on paragraph 1 of ARB 51, the Board defined consolidated financial statements as

A set of financial statements that presents, primarily for the benefit of the shareholders and creditors of the parent company, the combined assets, liabilities, rev-enues, expenses, gains, losses, and cash flows of a parent and those of its subsidiaries that satisfy the criteria established for consolidation [1991, par. 61].

The wording of the definition retains the parent company focus of ARB 51 while allowing the flexibility to include alternative consolidation criteria. The Board acknowledged that issues being addressed and those to be addressed in subsequent FASB releases may result in redefinitions or even new categories of the elements of financial statements. Hence, it is unclear just what position, if any, will emerge.

Legal Claims

According to SFAC No. 6, “liabilities and equities are mutually exclusive claims to or interests in the enterprise’s assets by entities other than the enterprise, and liabilities take precedence over ownership interests” [1985, par. 54]. This statement implies that the classification of minority interest should be unambiguous. Minority interest is either an equity or a liability interest. Classification between liabilities and stockholders’ equity does not qualify as an element of financial statements.

The FASB determined that equity is an “ownership interest” which is “enhanced or burdened by increases and decreases in net assets from nonowner sources as well as investments by owners and distributions to owners” [SFAC No. 6, 1985, par 62]. Assets and liabilities can be independently defined and measured [Hendriksen, 1970, p. 495]. But, the value of equity is affected by operations and the income of the enterprise. Unlike liabilities, “no class of equity carries an unconditional right to receive future transfers of assets from the enterprise except in liquidation, and then only after liabilities have been satisfied” [SFAC No. 6, 1985, par. 62].

There is no question that majority stockholdings fit the definition of equity. A strong case can be made that minority stockholdings do also. Minority interest is affected by invest-ments, dividends and earnings of the subsidiary entity. Their only claim to corporate assets is residual in nature. Like the majority, minority interest does not represent a present obliga-tion to distribute corporate resources. Future receipt of corporate assets is contingent upon the declaration of dividends or liquidation.

Nevertheless, while majority stockholders control and have an ownership interest in the combined entity, the minority interest’s residual claim is limited to the net assets of the subsidiary’s segment of the combined entity. Moreover, their segment of the consolidated group is controlled by the parent company. They may participate in policy decisions of the subsidiary, but cannot control them. Hence, from the minority stockholders’ perspective, a noncontrolling interest in the consolidated entity is unlike that of the majority.
Positions Taken in Recent Text Books

The inability of official bodies to decide what to do with minority interest is reflected in current advanced accounting text books. Like their early counterparts, some textbooks clas-sify minority interest as a liability, some as a part of stockhold-ers’ equity, and some as neither. Others present alternative views but express no preference.6
Fischer, Taylor and Leer [1990] stress entity theory. They define and measure minority interest as an equity interest and include it in stockholders’ equity. Heufner and Largay concur, stating

We believe that the minority interest problem is one of disclosure of the fact that not all of S’s shares are held internally. Since the resources controlled by the con-solidated entity relate to both the majority and minor-ity stockholders, in consolidation both sets of interests must be treated consistently. In our view, minority shareholders may be viewed as shareholders in the consolidated entity even though their interest is limited to part of the consolidated entity. Therefore it is our view that the amount assigned to the minority interest should be included as a separate item within consolidated stockholders’ equity [1992, p. 181].

Larsen [1991] takes the opposite view. He argues that mi-nority shareholders are a special class of creditors. This position

For example, Hoyle [1991] and Griffin, Williams, Boatsman, and Vickrey, [1991] do not express a preference for a particular consolidation approach, nor do they appear to prefer any one method of presenting minority interest in consolidated financial statements.

is buttressed by the argument that minority shareholders typi-cally do not exercise ownership control whatsoever.
Pahler and Mori [1991] assert that the consolidation pro-cess has no impact upon the reporting entity. Therefore, “. . . consolidated financial statements are usually of no benefit whatsoever to the minority shareholders” [Pahler and Mori, 1991, p. 212], and minority interest should not be a part of stockholders’ equity. At the same time, reporting minority interest as a liability has little or no theoretical support. Rather, minority interest “… is an equity interest, but not of the parent company, which is the reporting entity” [Pahler and Mori, 1991, p. 211]. Pahler and Mori conclude that reporting minority interest between liabilities and stockholders’ equity reflects its unique nature.

Beams [1991] states that neither entity theory nor parent company theory are consistently followed in practice. He de-scribes a third theory which he calls contemporary theory [pp. 437-439]. Contemporary theory is described as a merging of the two equity theories. Like parent company theory, contemporary theory identifies the primary user as common stockholders of the parent company. At the same time, the financial statements present the financial position and results of operations of a single business entity. Minority interest is reported as a part of stockholders’ equity but is not reported as a separate amount. Contemporary theory is consistent with the position taken by Rosenfield [Rosenfield and Rubin, 1986]; with the 1965 AAA Committee’s definition of the entity concept; and with the purpose of consolidated financial statements set forth in ARB 51 (which was reaffirmed in the appendix to SFAS Mo. 94).

Current Accounting Practice

Lack of agreement on a theory of consolidation and a consistent treatment of the nature of minority interest is reflected in current accounting practice. A sample of 100 industrial companies which reported minority interest in their balance sheets in 1990 was drawn from Compustat. Company balance sheets on Compustat Corporate Text were scanned for the placement of minority interest. Of the 100 companies, only 11 reported minority interest as an element of stockholders’ equity. Twenty-one companies added minority interest to liabilities. Twenty-five companies placed minority interest between stockholders’ equity and a subtotal for liabilities. The remaining 43 companies

Clark: Evolution of Concepts of Minority Interest 75
listed minority interest above stockholders’ equity, but did not subtotal the preceding liabilities. In this context, minority inter-est appears to be indistinguishable from liabilities. It appears that the preparer is content to allow the user to decide whether to include minority interest with liabilities when conducting financial statement analyses. It is clear that practice has not conformed to the FASB’s definition of minority interest in SFAC No. 6. However, it is not clear whether practitioners view minority interest as a liability or a separate unclassified item.

SUMMARY

This paper traced the development and discussion of con-cepts regarding the nature of minority interest from the views which appeared in the literature during the early 1900s through 1991. Current views which have appeared in recent journal ar-ticles and text books and in current accounting practice were also examined.

Concepts of minority interest are tied directly to the evolu-tion of theories of corporate equity. The review has shown that entity theorists originally perceived corporate reporting as re-flecting the legal entity of the corporate enterprise. It follows that all claims to corporate assets should receive the same treat-ment. Under this concept, minority interests would be treated in a manner similar to majority stockholdings.

As the entity theory evolved, its definition was narrowed to take a user oriented approach which is consistent with the con-temporary theory as described by Beams. Accordingly, consoli-dated financial statements are prepared primarily for the parent company’s stockholders, but because they report the consoli-dated companies as a single economic entity, the residual equity includes both minority and majority interest in the consolidated net assets.

The parent company concept evolved from the representa-tive viewpoint proposed by Husband. The parent company con-cept is consistent with the proprietary theory of equity which holds that a corporation’s primary responsibility is to provide a return to its common stockholders — the corporate entrepre-neurs. For the consolidated entity, corporate entrepreneurs are the parent company’s common stockholders, not minority stockholders. Hence, minority interest is an outside interest and should not be reported as an element of stockholders’ equity. Proponents have used this theory to argue that minority interest is a liability, and that it should be presented in its own special category, even for proportional reporting wherein no minority interest is reported at all.

The evolution has led to no conclusion on the issue of the nature of minority interest. The FASB has taken no stand. Nor is there any consensus in the literature on the appropriateness of any one position.

REFERENCES

Accountants International Study Group, “Consolidated Financial Statements,”
Current Recommended Practices in Canada, the United Kingdom and the
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(October, 1957): 536-546.
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Statements, Supplementary Statement No. 7.” The Accounting Review (April, 1955): 194-197.
-, 1964 Concepts and Standards Research Study Committee—The
Business Entity Concept, “The Entity Concept,” The Accounting Review (April, 1965): 358-367.
American Institute of Certified Public Accountants, Inc., “Consolidated Financial Statements,” Accounting Research Bulletin No. 51 (August, 1959).
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