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Sales of Stocks – Minority Interest

Sales of Stocks – Minority Interest. If it is down stream sales i.e. parent selling to the subsidiary, the profits are recorded by the parent. Any unrealized profit will be adjusted fully in the accounts of the parent. No adjustment is necessary in the calculation of MI in the CSI and CBS.

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Sales of Stocks – Minority Interest

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  1. Sales of Stocks – Minority Interest If it is down stream sales i.e. parent selling to the subsidiary, the profits are recorded by the parent. Any unrealized profit will be adjusted fully in the accounts of the parent. No adjustment is necessary in the calculation of MI in the CSI and CBS. If the sales are up stream sales, i.e. sales by the subsidiary to the parent or horizontal sales, i.e. sales among subsidiaries in a group, profits are recorded by the selling subsidiaries. The unrealized profit adjustment is made in the accounts of the subsidiary. When the full unrealized profits are eliminated on consolidation, MI should be allocated for their share of unrealized profits.

  2. Sales of Stocks – Minority Interest MI share of the profits in the CSI should be based on the subsidiaries’ profits that have been realized. Calculation: Subsidiary’s after tax profit + unrealized profit b/f (net of tax if applicable) - unrealized profit c/f (net of tax if applicable) MI’s percent holding in subsidiary X

  3. Example 5 Assume S Bhd (80% owned subsidiary) reported a net profit after tax of RM57,600. At the end of previous year and end of the current year it had sold stocks to the parent at 20% of invoice price. Computed unrealized profit in opening stocks and ending stocks were RM6,000 and RM4,000 respectively. Determine the realized profit to be shared between the parent and subsidiary.

  4. Solution 1. Compute adjusted current profit RM S Bhd profit after tax 57,600 + unrealized profit b/f (in opening stock) 6,000 - unrealized profit c/f (in ending stock) (4,000) Adjusted S Bhd’s current profit 59,600

  5. Solution 1. Compute the MI’s share in adjusted current profit The share of realized profits in S Bhd consisting: RM P Bhd – (80% x RM59,600) 47,680 MI – (20% x RM59,600) 11,920 59,600

  6. Example 6 See Example 2.3 – CFS, TLT, 4th Edi. On January 20X1, Parent Bhd acquired a 60% interest in the equity capital of Son Sdn Bhd for a cash consideration of RM6,000,000. On this date, the retained profits of Son Sdn Bhd were RM3,000,000. The draft accounts of the two companies for the year ended 31 December 20X4 were as follows:

  7. Draft Income Statements and Retained Profits

  8. Draft Balance Sheets

  9. Cont. Additional Information: a) Included in the property, plant and equipment of Sons Sdn Bhd was a freehold land at cost of Rm1,000,000. At acquisition date, this land was assessed to have a fair value of RM3,000,000. No adjustment had been made in the accounts to reflect the fair value. b) During 20X4, Sons Sdn Bhd sold goods to Parent Bhd for invoices totaling RM2,000,000. Of this amount, RM500,000 remained in the closing stock of the Parent Bhd at 31 December 20X4. The corresponding inter-company sales and closing stock figures for the 20X3 financial year were RM3,000,000 and RM800,000 respectively. The profit margin to Sons Sdn Bhd was 25% on selling price.

  10. Cont. c) The group treats goodwill on acquisition as a permanent item and does not account for deferred tax. Required: Prepare consolidated income statement, consolidated retained profits and consolidated balance sheet of Parent Bhd for 20X4. Also show the movements in the group retained profits.

  11. Solution Consolidated journal entries required on 31 December 20X4 a) Freehold land 2,000 Revaluation reserves 2,000 (To adjust assets of subsidiary to their fair values) b) Share capital (.6 x 4,000,000) 2,400 Retained profits (pre) (.6x3,000,000) 1,800 Revaluation reserves (.6 x 2,000,000) 1,200 Goodwill on acquisition 600 Investment in S 6,000 (To eliminate cost of investment against net assets acquired and to recognise goodwill on acquisition)

  12. Cont’ c) Share capital (.4 x 4,000,000) 1,600 Revaluation reserves (.4 x 2,000,000) 800 Retained profits (W2) 1,920 Minority Interest (BS) 4,320 (To record MI for it’s share in the opening net assets) d) Profit after tax (MI in net income) (W1) 430 (40% x RM1,075,000 net of adjustment) Minority Interest (BS) 430 (to record MI’s share in net income

  13. Cont’ e) Sales (Son Sdn Bhd) 2,000 Purchases (Parent Bhd) 2,000 (To eliminate inter-company sales of stock) f) Ending Stock (COGS – IS) 125 Stock (BS) 125 (to eliminate unrealized profit c/f in ending stock – 25% x RM500,000)

  14. Cont’ g) Retained profit b/f (Opening) 200 COGS (Opening stock - IS) 200 (To reinstate unrealized profit of opening stock and to account for its realization in the current year)

  15. Cont’ Workings: MI’s share in net assets of Sons Sdn Bhd W1 Calculation of MI’s share in Net Income RM Profit after tax/Net income 1,000 + unrealized profit in opening stock 200 - Unrealized profit in closing stock (125) 1,075 Share of MI in current net income (RM1,075,000 x 40%) 430

  16. Cont’ Remember: Computation and Adjustments required in an upstream sales of stock 1. Unrealized profit in stock b/f Reinstate opening stock figure by: Add the unrealized profit to opening stock – reducing COGS (expense) or credit COGS) Reduce by debiting retained profit b/f by the amount of unrealized profit in opening stock Refer to transaction (g) in example 6

  17. Cont’ 2. Unrealized profit in stock c/f Eliminate unrealized profit in closing stock by: Debiting COGS or reduce ending stock in income by the amount of unrealized profit in closing stock Credit ending stock (BS) Refer to transaction (f) in example 6

  18. Inter-Company Dividend Income The subsidiary will declare and pay dividends on its issued shares, ordinary and preference. Inter-company dividend income arises when: i) the parent company receives dividend income (cash) ii) when the right to receive had been established (when the shareholders approved the dividends at the AGM/proposed dividends)

  19. Cont. The accounting treatment for dividends paid or proposed by the subsidiary differs, depends whether dividends are from: i) post acquisition profits or ii) pre-acquisition profits

  20. Cont. Dividends out of Post Acquisition Profits Dividends are considered as revenue (Dividend income) and are available for distribution by the parent company Journal entries related to dividend income: Example: The parent received grossed dividend income of RM100,000 from its subsidiary. Corporate tax rate is 28%.

  21. Cont. Journal entries: Book’s of Parent Cash/Dividends receivables 72,000 Tax expense 28,000 Dividend income 100,000 (To record received of dividends and tax expense)

  22. Cont. Adjusting journal entry required for the elimination of inter company dividends : Dividend income 100,000 Tax expense 28,000 Dividend paid 72,000 (To record received of dividends and tax expense)

  23. Cont. Dividends out of Pre Acquisition Profits When a subsidiary distributes the pre-acquisition profits, i.e. profits existing on the date shares were acquired, it represents a return of investment to the parent company. Treat the dividends as a reduction on the cost of investment.

  24. Cont. Assume that Parent received cash dividend from subsidiary RM100,000 which was paid out of the subsidiary’s pre-acquisition retained profit. Journal entry to record the dividend received in the Parent’s book : Cash/Dividends receivable 100,000 Cost of investment in subsidiary 100,000

  25. Cont. Does dividends receive out of pre-acquisition profits affect goodwill on consolidation? It does not alter goodwill amount The transaction affects both the pre-acquisition profits of the subsidiary and the cost of investment in that subsidiary by the same amount. Refer to Handout.

  26. Debentures Similar treatment to Dividend Income Example: On 1 April 20X7, Parent bought RM500,000 10% debentures for RM520,000. Interest dates are 30 June and December 31. The price paid includes 3 months’ interest. Required: Show the journal entry in the Parent’s books to record receipt of RM50,000 interest income on 2 July 20X7 and determine the cost of investment in the debenture of the subsidiary immediately after the receipt of interest income.

  27. Cont. Solution: Interest income received consisting of: RM Pre-acquisition profits (1/1 to 31/3, 20X7) 25,000 Post acquisition profits (1/4 to 30/6, 20X7) 25,000 Total interest income 50,000

  28. Cont. Journal entry: Cash/Interest receivables 50,000 Interest income 25,000 Cost of investment 25,000 (To record interest income and to reduce investment in subsidiary from receipt of interest income from pre-acquisition profits)

  29. Cont. Cost of investment: Cost of investment in subsidiary RM520,000 Less: Interest income from pre-acq. profits 25,000 RM495,000

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