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Training Material. June 5 2013. ADVANCED FINANCIAL ACCOUNTING. CONSOLIDATED FINANCIAL STATEMENT. Drs Kurnia Irwansyah Rais M.Ak. Section 6. Intercompany Inventory Transactions. Transactions of Affiliated Companies. 6- 3. Parent Company. Subsidiary A. Subsidiary B.

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  1. Training Material June 5 2013 ADVANCED FINANCIAL ACCOUNTING CONSOLIDATED FINANCIAL STATEMENT Drs Kurnia Irwansyah Rais M.Ak

  2. Section 6 Intercompany Inventory Transactions

  3. Transactions of Affiliated Companies 6-3 Parent Company Subsidiary A Subsidiary B Consolidated Entity

  4. Intercorporate Transfers The central idea of consolidated financialstatements is that they report on the activities of the consolidating affiliates as if the separate affiliates actually constitute a singlecompany. Because single companies are not permittedto reflect internal transactions in their financial statements, consolidated entities also must exclude from their financial statements the effects of transactions that are contained totally within the consolidated entity. 6-4

  5. Intercorporate Transfers Building on the basic consolidation procedures presented in this chapter, this section and next deal withtheeffects of intercorporate transfers. This chapter deals with intercorporate sales inventory, while intercorporate sales of fixed assets and intercorporate debt transfers are discussed in section 6 and 7, respectively. 6-5

  6. Intercorporate Transfers All aspects of intercorporate transfersmust be eliminated in preparing consolidated financial statements so that the statements appear as if they were those of a single company. PSAK 4 mentions open account balances, security holdings, sales and purchases, and interest and dividends as examples of the intercompany balances and transactions that must be eliminated. 6-6

  7. 7-7 Aspects of Workpaper Elimination When intercorporate sales include profits or losses, there are two aspects of the workpaper elimination needed in the period of transfer to prepare consolidated financial statements.

  8. Elimination of the income statement effects of the intercorporate sale in the period in which the sale occurs, including the sales revenue from the intercorporate sale and the related cost of goods sold recorded by the transferring affiliate. Elimination from the inventory on the statementof financial position of any profit or loss on the intercompany sale that has not been confirmed by resale of the inventory to outsiders. 7-8 Aspects of Workpaper Elimination

  9. 7-9 Peerless Products Mar. 1 Inventory 7,000 Cash 7,000 Purchase of inventory. March 1, 20X1 Purchased inventory for $7,000 Downstream Sale – Resale All of Inventory Special Foods Peerless Products Consolidated Entity

  10. 7-10 Peerless Products Peerless Products Special Foods Apr. 1 Cash 10,000 Sales 10,000 Sale of inventory to Special Foods. Apr. 1 Cost of Goods Sold 7,000 Inventory 7,000 Cost of inventory sold toSpecial Foods. Apr. 1 Inventory 10,000 Cash 10,000 Purchase of inventory from Peerless. April 1, 20X1 Intercorporate transfer of inventory $10,000 Downstream Sale – Resale All of Inventory Special Foods Peerless Products Consolidated Entity

  11. 7-11 Special Foods Special Foods Nov. 5 Cash 15,000 Sales 15,000 Sale of inventory to Nonaffiliated. Nov. 5 Cost of Goods Sold 10,000 Inventory 10,000 Cost of inventory sold to Nonaffiliated. Nov. 5, 20X1 Downstream Sale – Resale All of Inventory Special Foods Peerless Products Sell inventory for $15,000 Consolidated Entity

  12. 7-12 Downstream Sale – Resale All of Inventory 20X1 Peerless Special Unadjusted Consolidated Item Products Foods Totals Amounts (10,000) (10,000) Sales $10,000 $15,000 $25,000 $15,000 Cost of goods sold -7,000-10,000-17,000-7,000 Gross profit $ 3,000 $ 5,000 $ 8,000 $ 8,000 Sales 10,000 Cost of goods sold 10,000 Eliminate intercompany inventory sale.

  13. If Inventory is not resold by Special Foods

  14. 7-14 Downstream Sale – Inventory Not Resold 20X1 Peerless Special Unadjusted Consolidated Item Products Foods Totals Amounts (10,000) (7,000) (3,000) Sales $10,000 $ -0- $10,000 $ -0- Cost of goods sold -7,000 -0--7,000-0- Gross profit $ 3,000 $ -0- $ 3,000 $ -0- Inventory $ -0- $10,000 $10,000 $ 7,000 Sales 10,000 Cost of goods sold 7,000 Inventory 3,000 Eliminate intercompany inventory sale.

  15. If Special Food sold only 75% of Inventory bought from Peerless

  16. 7-16 Downstream Sale – Resale Some of Inventory 20X1 Peerless Special Unadjusted Consolidated Item Products Foods Totals Amounts (10,000) (9,250) ( 750) Sales $10,000 $11,250 $21,250 $ 11,250 Cost of goods sold -7,000 -7,500-14,500-5,250 Gross profit $ 3,000 $ 3,750 $ 6,750 $ 6,000 Inventory $ -0- $ 2,500 $ 2,500 $ 1,750 $15,000 x .75 $10,000 x .75 Sales 10,000 Cost of goods sold 9,250 Inventory 750 Eliminate intercompany inventory sale.

  17. Modified Equity Method Downstream from Parent to Subsidiary

  18. 6-18 Downstream Sale – Inventory Not Resold • Peerless purchases 80 percent of the stock of Special Foods on December 31, 20X1, at the stock’s book value of $240,000. • On April 1, 20X1, Peerless sells inventory to Special Foods for $10,000. The inventory originally cost Peerless $7,000 on March 1, 20X1. Special Foods sells the inventory to Nonaffiliated Parties for $15,000 on January 2,20X2. • During 20X1, Special Foods reports net income of $50,000 and declares dividends of $30,000. • During 20X2, Special Foods reports net income of $75,000 and declares dividends of $40,000. • Peerless accounts for its investment in Special Foods using the modified equity method.

  19. 7-19 April 1, 20X1 March 1, 20X1 January 2, 20X2 Inter-corporate transfer of inventory $10,000 Sell inventory for $15,000 Purchased inventory for $7,000 Resale in Period Following Transfer Peerless Products Special Foods Consolidated Entity

  20. Modified Equity-Method Entries--20X1 7-20 Peerless records purchase of Special Foods’ share of $240,000 at acquisition date in 20X1: (7) Investment in Special Foods Stock 240,000 Cash 240,000 Record investment in Special Foods.

  21. Modified Equity-Method Entries--20X1 7-21 During 20X1, Peerless records its pro rata portion of Special Foods’ net income of $50,000 and dividends of $30,000 for 20X1: (8) Investment in Special Foods Stock 40,000 Income from Subsidiary 40,000 Record equity-method income. $50,000 x .80 (9) Cash 24,000 Investment in Special Foods Stock 24,000 Record dividends from Special Foods. $30,000 x .80

  22. 7-22 Consolidation Workpaper--20X1 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Income from Subsidiary 40,000 Dividends Declared (60,000) (30,000) Investment in Special Foods 256,000 Income from Subsidiary 40,000 Dividends Declared (60,000) (30,000) Investment in Special Foods 256,000 Income from Subsidiary 40,000 (1) 40,000 Dividends Declared (60,000) (30,000) (1) 24,000 Investment in Special Foods 256,000 (1) 16,000 An entry is needed to eliminate Peerless’s share of Special Foods’ income and dividends. This entry also eliminates the change in the investment account for the period.

  23. 7-23 Consolidation Workpaper--20X1 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Income to Non- controlling Interest Dividends Declared (60,000) (30,000) 24,000 Noncontrolling Interest Income to Non- controlling Interest Dividends Declared (60,000) (30,000) (1) 24,000 Noncontrolling Interest (2) 10,000(10,000) (2) 6,000(60,000) (2) 4,000 The noncontrolling interest is assigned a pro rata portion of the net income of Special Foods (50,000 x 0.20). Also, the noncontrolling stockholders’ share of Special Foods’ dividends (30,000 x 0.20) is eliminated and the noncontrolling interest is increased to reflect the excess of Special Foods’ income over its dividends.

  24. 7-24 Consolidation Workpaper--20X1 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Retained Earnings, January 1 300,000 100,000 Investment in Special Foods 256,000 (1) 16,000 Share Capital Ord- Special Foods 500,000 200,000 Noncontrolling Interest (2) 4,000 , (3)100,000 300,000 (3) 240,000 (3)200,000 500,000 (3) 60,000 64,000 An entry is needed to eliminate the beginning balances of Special Foods’ stockholders’ equity accounts and Peerless’s investment account. This entry also needs to establish the noncontrolling interest at the beginning of the period.

  25. 7-25 Consolidation Workpaper--20X1 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Sales 400,000 200,000 Cost of Goods Sold 170,000 115,000 Inventory 100,000 75,000 (4) 10,000590,000 (4) 7,000 278,000 (4) 3,000172,000 An entry is required to eliminate the effects of the intercompany sale of inventory.

  26. 7-26 Consolidated Net Income--20X1 Peerless’s separate operating income $140,000 Less: Unrealized intercompany profit on downstream inventory sale -3,000 Peerless’s separate realized income $137,000 Special Foods’ net income 50,000 Consolidated net income,20X1 $187,000 Income to Non Cont Int(50,000 x 0.20) -10,000 Income to Controlling Interest $177,000

  27. Modified Equity-Method Entries--20X2 7-27 During 20X2, Peerless records its pro rata portion of Special Foods’ net income and dividends for 20X2: (1) Investment in Special Foods Stock 60,000 Income from Subsidiary 60,000 Record equity-method income. $75,000 x .80 (2) Cash 32,000 Investment in Special Foods Stock 32,000 Record dividends from SpecialFoods. $40,000 x .80

  28. 7-28 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Income from Subsidiary 60,000 Dividends Declared (60,000 (40,000) Investment in Special Foods 284,000 (1) 60,000 (1) 32,000 (1) 28,000 ) An entry is needed to eliminate the effects of income from Special Foods and from Peerless’s share of dividends.

  29. 7-29 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Income to Noncontrolling Interest Dividends Declared (60,000) (40,000) (1)32,000 Noncontrolling Interest (2)15,000 (15,000) (2) 8,000 (60,000) (2) 7,000 An entry is needed to assign the noncontrolling shareholders their share of income and establish the 20X2 increase in the claim of noncontrolling shareholders on the net assets of Special Foods.

  30. 7-30 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Retained Earnings, January 1 420,000 120,000 Investment in Special Foods 284,000 (1) 28,000 Share Capital Ord 500,000 200,000 Noncontrolling Interest (2) 7,000 (3)120,000420,000 (3)256,000 (3)200,000 500,000 (3) 64,000 71,000 A workpaper entry is needed to eliminate the beginning stockholders’ equity balances of Special Foods and Peerless’s beginning investment balance.

  31. 7-31 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Cost of Goods Sold 180,000 160,000 Retained Earnings, January 1 420,000 120,000 (3)120,000 (4) 3,000337,000 (4) 3,000 417,000 An entry is required to eliminate beginning inventory profit.

  32. 7-32 Consolidated Net Income--20X2 Peerless’s separate income $160,000 Realization of deferred intercompany profit 3,000 Peerless’s separate realized income $163,000 Special Food’s net income 75,000 Consolidated net income, 20X2 $238,000 Income to Non Contr Int(75,000 x 0.20) -15,000 Income to Controlling Interest $223,000

  33. Agreement between Parent Company and Consolidated Financial Statements Under the fully adjusted equity method, the parent company’s financial statements should report the same net income and retained earnings amounts as appear in the consolidated statements. Therefore, we record and equity method adjustment on the parent’s books to defer unrealized gross profit, and prepare consolidation worksheet elimination entries to avoid double counting in the income statement and overstating inventory.

  34. Fully Adjusted Equity Method Downstream from Parent to Subsidiary

  35. Fully Adjusted Equity Method Entries--20X1 7-35 (21) Investment in Special FoodsStock 40,000 Income from Subsidiary 40,000 Record equity-method income. $50,000 x .80 (22) Cash 24,000 Investment in Special Foods Stock 24,000 Record dividends from Special Foods. $30,000 x .80

  36. When using the fully adjusted equity method, the parent reduces its income and the balance of investment accountfor its share of unrealized intercompanyprofits that arises during the period. Subsequently, the parent increases its income and the carrying amount ofinvestment account when the intercompany profits are realized through transactions with external parties.

  37. Fully Adjusted Equity Method – 20X1 (23) Income from Subsidiary 3,000 Investment in SF 3,000 Deferred unrealized profit on downstream sale of inventory 3,000

  38. Elimination Income from Subs 37,000 Dividend declared 24,000 Investment in SF 13,000 Eliminate income from subsidiary 40,000 – 3,000 = 37,000 Income to Non Cont Int 10,000 Dividend declared 6,000 Non Cont Int 4,000 Assign income to noncontrolling int 50,000 x 0.20

  39. Elimination Share Capital Ordinary – SF 200,000 RE, Jan 1 100,000 Investment in SF 240,000 Noncontrolling interest 60,000 Eliminate beginning investment balance Sales 10,000 Cost of Goods Sold 7,000 Inventory 3,000 Eliminate intercompany upstream sale of inventory

  40. Fully Adjusted Equity Method Entries--20X2 7-40 (27) Investment in Special Foods Stock 60,000 Income from Subsidiary 60,000 Record equity-method income. $75,000 x .80 (28) Cash 32,000 Investment in Special Foods Stock 32,000 Record dividends from Special Foods. $40,000 x .80

  41. Fully Adjusted Equity Method – 20X2 (23) Investment in SF 3,000 Income from Subs 3,000 Realized deferred profit on downstream sale of inventory 3,000

  42. Elimination Income from Subs 63,000 Dividend declared 32,000 Investment in SF 31,000 Eliminate income from subsidiary 60,000 + 3,000 = 63,000 60,000 – 32,000 + 3,000 = 31,000 Income to Non Cont Int 15,000 Dividend declared 8,000 Non Cont Int 7,000 Assign income to noncontrolling int 75,000 x 0.20 = 15,000

  43. Elimination Share Capital Ordinary – SF 200,000 RE, Jan 1 120,000 Investment in SF 256,000 Noncontrolling interest 64,000 Eliminate beginning investment balance Investment in SF 3,000 Cost of Goods Sold 3,000 Eliminate beginning inventory profit

  44. 7-44 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Income from Subsidiary 63,000 Dividends Declared (60,000 (40,000) Investment in Special Foods 284,000 (1) 63,000 (1) 32,000 (1) 31,000 ) An entry is needed to eliminate the effects of income from Special Foods and from Peerless’s share of dividends.

  45. 7-45 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Retained Earnings, January 1 420,000 120,000 Investment in Special Foods 284,000 (1) 31,000 Share Capital Ord 500,000 200,000 Noncontrolling Interest (2) 7,000 (3)120,000420,000 (3)256,000 (3)200,000 500,000 (3) 64,000 71,000 A workpaper entry is needed to eliminate the beginning stockholders’ equity balances of Special Foods and Peerless’s beginning investment balance.

  46. 7-46 Consolidation Workpaper--20X2 Peerless Special Eliminations Item Products Foods Debits Credits Consolidated Cost of Goods Sold 180,000 160,000 Investment in SF 284,000 31,000 256,000 Noncontrolling Interest (2) 7,000 (3) 64,000 (4) 3,000 337,000 (4) 3,000 71,000 A workpaper entry is needed to eliminate the beginning inventory profit

  47. Fully-adjusted Equity Method Adjustment Don’t forget that one of the desirable properties of using the equity method is that the parent’s net income should be equal to the consolidated net income. If you only adjust for unrealized deferred profit in the consolidation, the consolidated net income will be different from the parent’s income!

  48. Fully-adjusted Equity Method Adjustment • Don’t forget that one of the desirable properties of using the equity method is that the parent’s net income should be equal to the consolidated net income. • If you only adjust for unrealized deferred profit in the consolidation, the consolidated net income will be different from the parent’s income! • Thus, an actual adjustment on the parent’s books in addition to the worksheet entries above. • Like we did for the excess fair value amortization.

  49. Cost Method Downstream from Parent to Subsidiary

  50. 7-50 Cost-Method Entries--20X1 During 20X1, Peerless records dividends received of $30,000 for 20X1: (9) Cash 24,000 Dividend Income 24,000 Record dividends from Special Foods. $30,000 x .80

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