advanced accounting 6e by jeter chaney chapter 07

Intercompany Sales of Nondepreciable Property• When there have been intercompany sales of nondepreciable property, workpaper entries are necessary to: – Include gains or losses on the s

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Learning Objectives

• Understand the financial reporting objectives in accounting for

intercompany sales of nondepreciable assets on the consolidated financial

statements

• State the additional financial reporting objectives in accounting for

intercompany sales of depreciable assets on the consolidated financial

statements

• Explain when gains or losses on intercompany sales of depreciable assets should be recognized on a consolidated basis

• Explain the term “realized through usage”

• Describe the differences between upstream and downstream sales in determining consolidated net income and the controlling and

noncontrolling interests in consolidated income

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Learning Objectives

• Compare the eliminating entries when the selling affiliate is a subsidiary (less than wholly owned) versus when the selling affiliate is the parent company

• Compute the noncontrolling interest in consolidated net income when the selling affiliate is a subsidiary

• Compute consolidated net income considering the effects of intercompany sales of depreciable assets

• Describe the eliminating entry needed to adjust the consolidated financial statements when the purchasing affiliate sells a depreciable asset that was acquired from another affiliate

• Explain the basic principles used to record or eliminate intercompany interest, rent, and service fees

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Intercompany Sales of Nondepreciable Property

• When there have been intercompany sales of nondepreciable

property, workpaper entries are necessary to:

– Include gains or losses on the sale in consolidated net income only at the time such property is sold to parties outside the affiliated group and in an amount equal to the difference between the cost of the property to the affiliated group and the proceeds received from outsiders.

– Present nondepreciable property in the consolidated balance sheet at its cost to the affiliated group

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LO 1 Financial reporting objectives – nondepreciable property.

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• E7-4 (variation): Procter Company owns 90% of the outstanding stock of Silex Company On January 1,

2014, Silex Company sold land to Procter Company for

$350,000 Silex had originally purchased the land on June 30, 2010, for $200,000.

• Procter Company plans to construct a building on the land bought from Silex in which it will house new

production machinery The estimated useful life of the building and the new machinery is 15 years.

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Upstream Sale

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E7-4 (variation): Entries made on the books of each affiliate to record this intercompany sale in 2014

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Entry on Books of Silex

Land 200,000

Gain on sale

150,000

Entry on Books of Procter

Cash 350,000

Additional Entry for Complete Equity

Method: Proctor Only

Investment in Silex 135,000

To reduce its income from subsidiary by its share of the intercompany gain ($150,000 x 90%).

Note: No further entries are recorded

on the books of Procter until the land is sold to outsiders

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E7-4: B(1) Prepare the workpaper entries necessary because of the

intercompany sale of land for the year ended December 31, 2014

Gain on Sale of Land

LO 1 Financial reporting objectives – nondepreciable property

To eliminate the $150,000 gain reported by Silex Company and to reduce the land balance from the $350,000 recorded on the books of Procter to its

$200,000 cost to the affiliated group

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E7-4: B(2) Prepare the workpaper entries for the year ended December

Cost Method and Partial Equity Method

Beg Retained Earnings – Procter (90%) 135,000Beg Noncontrolling Interest (10%) 15,000

Land150,000

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Complete Equity Method

Investment in Silex Company (90%) 135,000Beg/ Noncontrolling Interest (10%) 15,000

Land150,000

Upstream Sale

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E7-4: Summary Points

– Proctor (parent) continues to report the land on their statements

at the intercompany selling price of $350,000 However, in the consolidated balance sheet, the land is reported at its cost to the affiliated group of $200,000.

– If the intercompany seller had been the parent ( downstream sale ), the entire $150,000 would go to the controlling interest, resulting in a $150,000 debit to the beginning retained earnings

of the parent company.

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Sales to Outsiders

stock of S Company On January 1, 2015, S Company sold land to P Company for $600,000 S Company originally purchased the land for $400,000.

purchased from S Company to a company outside the affiliated group for $700,000.

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Upstream Sale

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700,000 Cost of land to P Company 600,000

B Calculate the gain that should be recognized in the

consolidated statements in 2016

700,000 Cost of land to affiliate group 400,000

Gain recognized in consolidation $

300,000

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E7-6: C Prepare the workpaper entries for the year ended December

31, 2016.

Cost Method and Partial Equity Method

Beg Retained Earnings – Procter (90%) 180,000

Complete Equity Method

Investment in Silex Company (90%) 180,000

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Intercompany Sales of Depreciable Property

Realization through Usage

• A firm may sell property or equipment to an affiliate for a price that differs from its book value.

• From the view of the consolidated entity, the intercompany gain (loss) is considered to be realized from the use of the property or equipment in the generation of revenue

– Because such use is measured by depreciation, the recognition

of the realization of intercompany profit (loss) is accomplished through depreciation adjustments.

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LO 4 Intercompany gain realized through usage.

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• When there have been intercompany sales of depreciable property, workpaper entries are necessary to accomplish the following

objectives:

– To report only those gains or losses that result from the sale of

depreciable property to outside parties.

– To present property in the consolidated balance sheet at its cost to

the affiliated group.

– To present accumulated depreciation in the consolidated balance

sheet based on the cost to the affiliated group.

– To present depreciation expense in the consolidated income

statement based on the cost to the affiliated group.

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LO 2 Financial reporting objectives— depreciable property.

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Workpaper Elimination Entries

• Firms using the cost or partial equity method– An additional objective is to equate beginning consolidated retained earnings with the amount of consolidated retained earnings reported at the end of the prior reporting

• Firms using the complete equity method– This final objective is not necessary because the parent’s retained earnings already reflects all adjustments accurately

• For upstream sales– The entries also serve to equate beginning NCI and prior ending NCI

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LO 2 Financial reporting objectives— depreciable property.

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P7-1 (Cost or Partial Equity): Powell Company owns 80% of the outstanding common stock of Sullivan Company On June 30, 2014, Sullivan Company sold equipment to Powell Company for $500,000 The equipment cost Sullivan Company $780,000 and had accumulated

depreciation of $400,000 on the date of the sale The management of Powell Company estimated that the equipment had a remaining useful life of four years from June 30, 2014 In 2015, Powell Company reported $300,000 and Sullivan Company reported $200,000 in net income from their independent operations (including sales to affiliates but excluding dividend or equity income from subsidiary)

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LO 6 Subsidiary vs parent as the seller.

Upstream Sale

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Powell Company

Cash 500,000

Sullivan Company

Equipment 780,000

Gain on Sale of Equipment 120,000

P7-1: Entries on the books of Powell and Sullivan to record the intercompany sale are:

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Equipment 280,000

Accumulated Depreciation - Equipment400,000

To eliminate the intercompany gain and restore equipment to its original cost to the consolidated entity.

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P7-1: A Prepare the workpaper entries necessary because of the sale of

equipment for the year ended December 31, 2014

2014

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Accumulated Depreciation - Equipment 15,000

2014

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Beg Retained Earnings - Powell ($120,000 x 80%) 96,000Noncontrolling Interest ($120,000 x 20%) 24,000

To eliminate prior period intercompany gain and restore equipment to its original cost to the consolidated entity.

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LO 7 Computing the noncontrolling interest.

2015

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To adjust depreciation for the current and prior year on equipment sold to affiliate.

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2015

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P7-1 (variation): For the Compete Equity Method , the 2015

workpaper entries would have changed as follows:

Investment in Sullivan ($120,000 x 80%) 96,000Noncontrolling Interest ($120,000 x 20%) 24,000

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P7-1 (variation): If this had been a Downstream sale , the 2015 entries would have changed as follows:

Cost or Partial Equity

Noncontrolling interest of 20% would be included in Beginning Retained Earnings of Powell Company.

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Complete Equity Method

Noncontrolling interest of 20% would be included in Investment

in Sullivan.

There is no differentiation between Controlling interest and Noncontrolling interest with Downstream Intercompany Sales

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P7-6 (Cost Method): Pitts Company owns 80% of the common stock of Shannon Company The stock was purchased for $960,000 on January 1,

2012, when Shannon Company’s retained earnings were $675,000 On January 1, 2014, Shannon Company sold fixed assets to Pitts Company for

$960,000; Shannon Company had purchased these assets for $1,350,000 on January 1, 2004, at which time their estimated useful life was 25 years The estimated remaining useful life to Pitts Company on 1/1/14 is 10 years Both companies employ the straight-line method of depreciation

Required: A Prepare a consolidated statements workpaper for the year

ended December 31, 2015

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LO 6 Workpaper entries-upstream sales.

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P7-6 (Cost Method):

(4)

(3)

(1) (2)

(5)

(4)

NCI in Consolidated Income = 20% x ($300,000 + $15,000) = $63,000

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(3)

Upstream Sale

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(2) (3)

(5)

(5) (2)

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(1) (5) (2)

(3)

P7-6 (Cost Method):

Upstream Sale

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Acquisition date retained earnings - Shannon

$ 675,000 Retained earnings 1/1/15 - Shannon 1,038,000

Increase 363,000 Ownership percentage 80%

$ 290,400

P7-6: Prepare the worksheet entries for Dec 31, 2015.

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Investment in Shannon Company 290,400

Retained Earnings – Pitts 290,400

To establish reciprocity/convert to equity

1.

Upstream Sale

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Upstream Sale

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Dividend Income 60,000

Dividends Declared

60,000 Beg Retained Earnings - Shannon 1,038,000

To eliminate intercompany dividends

To eliminate investment account and create NCI account

P7-6: Prepare the worksheet entries for Dec 31, 2015. Upstream Sale

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P7-12 (Partial Equity Method): Prather Company owns 80% of the common stock of Stone Company The stock was purchased for $960,000 on January 1, 2012, when Stone Company’s retained earnings were $675,000

On January 1, 2014, Stone Company sold fixed assets to Prather Company for $960,000; Stone Company had purchased these assets for $1,350,000 on January 1, 2004, at which time their estimated useful life was 25 years The estimated remaining useful life to Prather Company on 1/1/14 is 10 years Both companies employ the straight-line method of depreciation

Required: A Prepare a consolidated statements workpaper for the year

ended December 31, 2015

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P7-12 (Partial Equity Method):

(1)

(3)

(3) (2)

(4)

NCI in Consolidated Income = 20% x ($300,000 + $15,000) = $63,000

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(1)

Upstream Sale

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(1) (2)

(4)

(3) (2)

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P7-12: Worksheet entries for Dec 31, 2015

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Dividends Declared ($75,000 x 80%)

60,000 Investment in Stone Company 180,000

To reverse the effect of parent company entries during the year for subsidiary dividends and income

1.

Upstream SalePartial Equity

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P7-12: Worksheet entries for Dec 31, 2015.

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Retained Earnings – Prather ($150,000 x 80%) 120,000Noncontrolling Interest ($150,000 x 20%) 30,000

Accumulated Depreciation 540,000

To reduce controlling and noncontrolling interests for their shares of unrealized intercompany profit at beg of year, to restore fixed assets to its book value to the selling affiliate on the date of the intercompany sale LO 6 Workpaper entries-upstream sales.

Upstream SalePartial Equity

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Beg Retained Earnings - Stone 1,038,000

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P7-16 (Complete Equity Method): Prather Company owns 80% of the common stock of Stone Company The stock was purchased for $960,000 on January 1, 2012, when Stone Company’s retained earnings were $675,000

On January 1, 2014, Stone Company sold fixed assets to Prather Company for $960,000; Stone Company had purchased these assets for $1,350,000 on January 1, 2004, at which time their estimated useful life was 25 years The estimated remaining useful life to Prather Company on 1/1/14 is 10 years Both companies employ the straight-line method of depreciation

Required: Prepare a consolidated statements workpaper for the year ended December 31, 2015

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