6 - 1 Advanced Accounting by Debra Jeter and Paul Chaney Chapter 6: Elimination of Unrealized Profit on Intercompany Sales of Inventory Slides Authored by Hannah Wong, Ph. Rutgers University
6 - 0 Advanced Accounting by Debra Jeter and Paul Chaney Chapter 6: Elimination of Unrealized Profit on Intercompany Sales of Inventory Slides Authored.
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6 - 1
Advanced Accounting by Debra Jeter and Paul Chaney
Chapter 6: Elimination of Unrealized
Profit on Intercompany
Sales of Inventory
Slides Authored by Hannah Wong, Ph.D.Rutgers University
6 - 2
Intercompany Sales of Inventory
Parent Company
SubsidiarySubsidiary
Downstream Sale
Upstream Sale
Horizontal Sale
6 - 3
Financial Reporting Objectives
Consolidated sales = sales with parties outside the affiliated group
Consolidated COGS = cost to the affiliated group of goods that have been sold to outside parties
Consolidated inventory = inventory at its cost to the affiliated group
6 - 4
Financial Reporting Objectives
To present
consolidated
balances of sales,
cost of sales, and
inventory as if the
intercompany sale
had never occurred.
6 - 5
Downstream Sales :No Unrealized Profit
Parent Company
Subsidiary
Sold for
$250,000
Sold for
$270,000
Purchased for
$200,000
Outsider Supplier
OutsideCustomer
6 - 6
Downstream Sales No Unrealized Profit - EE
Sales 250,000
Purchases 250,000
To eliminateintercompany sale
that the parent has recorded
To eliminate intercompanypurchase that the
subsidiary has recorded
6 - 7
Downstream Sales: Unrealized Profit in Ending Inventory
Parent Company
Subsidiary
Sold for
$250,000
Sold 60% of goods
Purchased for
$200,000
Outsider Supplier
OutsideCustomer
Note: it is the parent who records the
intercompany profit, thus the parent’s income
needs to be adjusted in consolidation
6 - 8
Downstream Sales - EEYear of Intercompany Sale
Sales 250,000
Purchases 250,000
Ending Inventory - Inc. state. (COGS) 20,000
Inventory - balance sheet20,000
To eliminate intercompany sale and purchases
To exclude the unrealized profit from ending inventory
To exclude the unrealized profit from consolidated
net income
6 - 9
Downstream Sales - EE Year after Intercompany Sale
Beginning R/E - P 20,000
Beginning Inventory - Inc. State. (Cost of sales) 20,000
To include the intercompanyprofit in beginning inventory,
which is realized in the current year
The intercompany profit inbeginning inventory is
excluded from last year’s consolidated NI, hence
this year’s 1/1 R/E
Cost or Partial Equity Methods
6 - 10
Downstream Sales - EE Year after Intercompany Sale
To include the intercompanyprofit in beginning inventory,
which is realized in the current year
The intercompany profit inbeginning inventory is
excluded from last year’s consolidated NI, hencethe investment account
Complete Equity Method
Investment in S 20,000
Beginning Inventory - Inc. State. (Cost of sales) 20,000
6 - 11
Amount of Intercompany Profit
Gross profit method
intercompany profit that should be eliminated
= ending inventory of buying affiliate
x selling affiliate’s gross profit rate
(i.e., gross profit / cost)
6 - 12
Elimination of Downstream Intercompany Profit
100% elimination eliminate the parent’s and the
noncontrolling stockholders’ portion of intercompany profit despite partial ownership of the parent
required by current GAAP
Partial elimination eliminate only the parent’s portion of
intercompany profit
6 - 13
Upstream Sales
Subsidiary
Parent Company
Intercompany
Sale
Sell
Purchase Outsider Supplier
OutsideCustomer
Note: it is the subsidiary who records the
intercompany profit, thus the subsidiary’s income needs to be adjusted in
consolidation
6 - 14
Upstream SalesAn Example
80% owned
Subsidiary Parent
CompanyTotal sales
$700,000
Profit margin = 25%
x selling price
$400,000
intercompany
merchandise in
ending inventory
6 - 15
Upstream Sales
Cost or Partial Equity Methods
Sales 700,000
Purchases 700,000
Ending Inventory - Inc. state. (COGS) 100,000
Inventory - balance sheet100,000
To eliminate intercompany sale and purchases
To exclude the unrealized profit from ending inventory
To exclude the unrealized profit (400,000x25%)
from consolidatednet income
Year of Intercompany Sale - EE’s
6 - 16
Upstream Sales - EE
Cost or Partial Equity Methods
Beginning R/E - P ($100,000x80%) 80,000
Beginning R/E - S ($100,000x20%) 20,000
Beginning Inventory - Inc. State. (Cost of sales) 100,000
To include the intercompanyprofit in beginning inventory,
which is realized in the current year
Parent’s share of unrealized profit in beginning inventory
Year after Intercompany Sale - EE’s
Noncontrolling interests’ share of unrealized profit in beginning inventory
6 - 17
Noncontrolling Interest in Income
Reported income of S
Upstream-sale profit in beginning inventory
Adjusted NI of S
Noncontrolling %
Noncontrolling interest in income
x
Cost or Partial Equity Methods
Upstream-sale profit in ending inventory
6 - 18
Controlling Interest in Income
Reported income of P
(Adjusted NI of S) x (P %)
Consolidated income
Cost and Partial Equity Methods
Downstream-sale profit in beginning inventory
Downstream-sale profit in ending inventory
Amortization of purchase differential
6 - 19
Consolidated Retained Earnings
Reported R/E of P
P’s share of increase in S R/E since acquisition
Consolidated R/E
Cost and Partial Equity Methods
Downstream-sale profit in S’s ending inventory
P% x (Upstream-sale profit in P’s ending inventory)
Accumulative amortization of purchase differential
6 - 20
Upstream Sales Complete Equity Method
Equity in subsidiary income 80,000
Investment in S 80,000
To exclude the unrealized profit (400,000x25%)from equity in subsidiary income
Year of Intercompany Sales - Journal Entries
6 - 21
Upstream Sales Complete Equity Method
Year after Intercompany Sales - Journal Entries
To include in equity in subsidiary income the intercompanyprofit, which is realized in the current year
Investment in S 80,000
Equity in subsidiary net income80,000
6 - 22
Upstream Sales Complete Equity Method
Sales 700,000
Purchases 700,000
Ending Inventory - Income Statement 100,000
Inventory - Balance Sheet100,000
To eliminate intercompany sale and purchases
To exclude the unrealized profit (400,000x25%)from equity in subsidiary income
Year of Intercompany Sales - EE’s
6 - 23
Upstream Sales Complete Equity Method
Investment in S 80,000
Beginning retained earnings - S 20,000
1/1 Inventory - Income Statement 100,000
To include the intercompanyprofit in beginning inventory,
which is realized in the current year
Parent’s share of unrealized profit in beginning inventory
Year after Intercompany Sale - EE
Noncontrolling interests’ share of unrealized profit in beginning inventory
6 - 24
Upstream Sales Complete Equity Method
Consolidated net income
= Reported net income of Parent
Consolidated retained earnings
= Reported retained earnings of Parent
6 - 25
Advanced Accounting
by
Debra Jeter and Paul Chaney
Copyright © 2001 John Wiley & Sons, Inc. All rights reserved.Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. The purchaser may make back-up copies for his/her own use only and not for distribution or resale. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.
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