Advanced accounting 10th by a beams athony ch05

Intercompany Sales of Inventory• Profits on intercompany sales of inventory – All recognized if goods have been resold to outsiders – Deferred if the goods are still held in inventory •

Chapter 5: Intercompany Profit

Transactions – Inventories

by Jeanne M David, Ph.D., Univ of Detroit Mercy

to accompany

Advanced Accounting , 10th edition

by Floyd A Beams, Robin P Clement, Joseph H Anthony, and Suzanne Lowensohn

Intercompany Profits –

Inventories: Objectives

1 Understand the impact of intercompany profit for inventories on preparation of

consolidation working papers.

2 Apply the concepts of upstream versus downstream inventory transfers.

3 Defer unrealized inventory profits remaining in ending inventory of either the parent or

subsidiary.

Objectives (cont.)

4 Recognize realized, previously deferred inventory profits in the beginning inventory of

either the parent or subsidiary.

5 Adjust the calculations of noncontrolling interest amounts in the presence of

intercompany inventory profits.

1: Intercompany Inventory Profits

Intercompany Profit Transactions – Inventories

Intercompany Sales of Inventory

• Profits on intercompany sales of inventory

– All recognized if goods have been resold to outsiders – Deferred if the goods are still held in inventory

• Previously deferred profits in beginning inventory are recognized

• Consider a FIFO inventory system

– Beginning inventories are sold

– Ending inventories are from current period

No Intercompany Profits in

Inventories

• During 2009, Pretty sold goods costing $1,000 to its subsidiary, Simple, at a gross profit of 30% Simple had none of this

inventory on hand at the end of 2009 Worksheet entry for 2009:

• All intercompany sales of inventories have been resold to outside parties, so remove the full sales price from both sales

and cost of sales

– Pretty's sales are reduced $1,429.

– Simple's cost of sales are reduced $1,429.

• The same entry is used if Simple sells to Pretty.

Sales = $1,000 / (1-30%) = $1,429

Intercompany Profits Only in

Ending Inventories

• Last year, 2009, Paul sold goods costing $500 to its subsidiary, Sal, at a gross profit of 25% Sal had

none of this inventory on hand at the end of 2009.

• During 2010, Paul sold additional goods costing

$900 to Sal at a gross profit of 40% Sal has $200

of these goods on hand at 12/31/2010 Worksheet entries for 2010:

Sales = $900 / (1-40%) = $1,500

Intercompany Profits Beginning

and Ending Inventories

Last year, 2009, Pam sold goods costing $300 to its

subsidiary, Sir, at mark-up of 25% Sir had $120 of this

inventory on hand at the end of 2009.

During 2010, Pam sold additional goods costing $500 to Sir

at a 30% mark-up Sir has $260 of these goods on hand at 12/31/2010 Worksheet entries for 2010:

2: Upstream & Downstream

Inventory Sales

Intercompany Profit Transactions – Inventories

Intercompany Inventory Sales

• The worksheet entries for eliminating intercompany profits for downstream sales

For upstream sales, the last entry would also include a debit to noncontrolling interest, splitting the profit to be realized between controlling and noncontrolling interests.

Data for Example

• For the year ended 12/31/2011:

– Subsidiary income is $5,200

– Subsidiary dividends are $3,000

– Current amortization of acquisition price is $450

• Intercompany (IC) sales information:

– IC sales during 2011 were $650

– IC profits in ending inventory $60

– IC profit in beginning inventory $24

Income Sharing with Downstream Sales – PARENT Makes Sale

Subsidiary net income $5,200

24

$3,764  

$2,400

NCI 20% share

$950    

When parent makes the IC

Income from subsidiary

Income Sharing with Upstream

Sales – SUBSIDIARY Makes Sale

Subsidiary net income $5,200

$3,771.2  

$2,400

NCI 20% share

$950.0 (12.0) 4.8   $942.8

$600

When subsidiary makes the IC sale,

the impact of deferring and

recognizing profits is split among

controlling and noncontrolling

interests.

Income from subsidiary

3: Unrealized Profits in Ending

Inventories

Intercompany Profit Transactions – Inventories

Ending Inventory on Hand

• Intercompany profits in ending inventory

– Eliminate at year end

• Working paper entry

For the unrealized profit

Parent Accounting

Porter owns 90% of Sorter acquired at book value (no

amortizations) During the current year, Sorter reported

$10,000 income Porter sold goods to Sorter during the

year for $15,000 including a profit of $6,250 Sorter still holds 40% of these goods at the end of the year.

• Unrealized profit in ending inventory

• Porter's journal entry to record income

• Worksheet entries to eliminate intercompany sale and unrealized profits

Worksheet – Income Statement

Sales $100.0 $50.0 15.0   $135.0 Income from Sorter 6.5   6.5   0.0 Cost of sales (60.0) (35.0) 2.5 15.0 (82.5) Expenses (15.0) (5.0)     (20.0) Noncontrolling interest share     1.0   (1.0)

Controlling interest share $31.5 $7.5     $31.5

There would be a credit adjustment to Inventory for 2.5 on the balance sheet portion of the worksheet

What if?

If the sales had been upstream, by Sorter to Porter:

• Unrealized profits in ending inventory

• Upstream profits impact both

– Controlling interest share

– Noncontrolling interest share

4: Recognizing Profits from

Beginning Inventories

Intercompany Profit Transactions – Inventories

Intercompany Profits in Beginning Inventory

Unrealized profits in ending inventory one year

Become Profits to be recognized in the beginning inventory of the next year!

5: Impact on Noncontrolling Interest

Intercompany Profit Transactions – Inventories

Direction of Sale and NCI

The impact of unrealized profits in ending inventory and realizing profits in beginning

inventory depends on the direction

Calculating Income and NCI

Downstream sales:

Income from sub

= CI%(Sub's NI) – Profits in EI + Profits in BI

Noncontrolling interest share

= NCI%(Sub's NI)

Upstream sales:

Income from sub

= CI%(Sub's NI – Profits in EI + Profits in BI)

Noncontrolling interest share

= NCI%(Sub's NI – Profits in EI + Profits in BI)

Upstream Example with

During 2009, Salt sold goods costing $700 to Perry at a 20%

markup $240 of these goods were in Perry's ending inventory.

In 2010, Salt sold goods costing $900 to Perry at a 25% markup and Perry still had $100 on hand at the end of the year.

Analysis and Amortization

2009 Income Sharing (Upstream)

Income from Salt

Salt's net income $705

CI 70% share

$455 ($28)

$427  

$196

NCI 30% share

$195 ($12)

$183  

$84

Perry's 2009 Equity Entries

2009 Worksheet Entries

1 Adjust for errors & omissions - none

2 Eliminate intercompany profits and losses

3 Eliminate income & dividends from sub and bring

Investment account to its beginning balance

2009 Entries (3 of 3)

6 Amortize fair value/book value differentials

7 Eliminate other reciprocal balances – none

2010 Income Sharing (Upstream)

Income from Salt

$28

$532  

$210

NCI 30% share

$222 ($6)

$12

Perry's 2010 Equity Entries

For dividends received

For share of income

2010 Worksheet Entries

1 Adjust for errors & omissions - none

2 Eliminate intercompany profits and losses

3 Eliminate income & dividends from sub and bring

Investment account to its beginning balance

2010 Entries (3 of 3)

6 Amortize fair value/book value differentials

7.Depreciation expenseEliminate other reciprocal balances – none 5

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