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MagicDiligence (< 20)

Minority Interest: What it is, How it is accounted for, Why it matters

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May 29, 2009 – Comments (0) | RELATED TICKERS: VIA-B.DL

MagicDiligence has published several articles on analyzing stocks, including explanations of the income statement and the balance sheet, among others. But one topic that has not been covered that has generated some reader questions is the topic of minority interest.

When looking at a company's financial statements, minority interest generally shows up in two places. On the income statement, it usually appears as a non-operating line item, and on the balance sheet, it nearly always occurs as its own line item at the bottom as a stand-alone liability. But what is the point of these? What causes these charges (or gains) to appear and how do they effect common shareholders like you or me? What is the relevance of minority interest when calculating Magic Formula statistics?

The concept of minority interest is not difficult to understand. By definition, it refers to the ownership of a business subsidiary by a third party with less than 50% control. This third party, or parties, can represent an individual investor, a group of investors, or even another company. Normally, minority interest is the by-product of joint ventures, or happens when the seller of an acquired business maintains ownership of a portion of that business (i.e., the seller sold 90% of his business to the acquiring company but maintains 10% control).

In these cases, the buyer generally consolidates all profits and assets of the acquired business into its income statement and balance sheet. However, a percentage of those profits (or losses) and net assets belong to the third party discussed above. These percentages then have to be subtracted from the income statement (profits or losses) and the balance sheet (net assets) to get a true picture of what portion the common shareholders own.

As usual, it's most instructive to go through a simple, Magic Formula based example to show how this works. We'll look at a stock in one of the most fertile industries to find minority interest: media and entertainment, specifically MFI stock Viacom (VIA-B). To keep things simple, we'll just use one of Viacom's assorted minority interest businesses. In 1993, Viacom looked to expand its Nickelodeon brand into the United Kingdom. In order to get wide distribution, the company entered a 50/50 joint venture with British Sky Broadcasting (BSkyB), creating private unlimited company Nickelodeon UK. In the venture, Viacom consolidated all of Nickelodeon UK's revenues, costs, assets, and liabilities on its own balance sheet, but BSkyB actually maintained ownership of 50%. Therefore, BSkyB's portion of net income was subtracted out as part of the $17 million in minority interest last year, and BSkyB's portion of ownership in Nickelodeon UK's net assets is part of the $38 million of minority interest on Viacom's balance sheet. Those profits and assets are not available to owners of VIA-B common stock.

For Magic Formula investors, minority interest is applicable when calculating the enterprise value, used in generating the earnings yield figure for ranking the relative cheapness of stocks. When calculating the enterprise value, minority interest is treated the same as debt, and added onto market capitalization. The resulting calculation looks like this:

Enterprise Value = Market Capitalization + Debt + Minority Interest - Excess Cash

In general, minority interest is not of great consequence to overall financial results, but is still useful for investors to understand when analyzing prospective investments.

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