1
Single Economic Entity
 Consolidated statements present financial
performance and status of consolidated
companies as a single economic entity
 Intercompany transactions must be removed
 Two types of intercompany sales/transfers
 Downstream sale/transfer
 Occurs when the parent sells to a subsidiary
 Upstream sale/transfer
 Occurs when a subsidiary sells to a parent
Often used to enhance supply chain efficiencies
©Cambridge Business Publishing, 2010
Eliminating Intercompany
Transactions
 Why eliminate intercompany revenues and
expenses?
 Do not arise out of transactions with outside
parties
 Must avoid overstatement of consolidated
revenues and expenses
 Also eliminate related intercompany
receivables and payables
 Eliminate gains and losses on
intercompany asset transfers
 Since gains and losses are not ‘confirmed’
by outside party transactions, assets held at
end of period must be adjusted
©Cambridge Business Publishing, 2010
2
3
Eliminating Entries
Eliminate current year’s equity method entries
Eliminate the effects of upstream and downstream
intercompany transactions
Eliminate subsidiary’s beginning-of-year
stockholders’ equity account balances
Revalue the subsidiary’s assets and liabilities as of
the beginning of the year
Recognize current year write-offs of the
subsidiary’s asset and liability revaluations
Recognize the noncontrolling interest in net income
©Cambridge Business Publishing, 2010
Intercompany Service & Financing
Transactions
 Providing services such as design,
maintenance, accounting, payroll, etc.
 Eliminate revenue on the provider’s books
 Eliminate expense on the recipient’s books
 Loans between parent and subsidiary




Eliminate loan receivable on lender’s books
Eliminate loan payable on borrower’s books
Eliminate interest revenue on lender’s books
Eliminate interest expense on borrower’s
books
©Cambridge Business Publishing, 2010
4
Eliminating Intercompany Service
Transactions Example
Parrish Shoe Factory is a subsidiary of Jordan Athleticwear. In
2010, Jordan provides design services costing $650,000 to
Parrish and bills Parrish $900,000. At year-end, Parrish still owes
Jordan $100,000.
Balances at December 31, 2010:
Balance Sheet:
Accounts receivable
Accounts payable
Income Statement:
Design revenue
Design expense
Jordan
Parrish
$100,000
$100,000
900,000
650,000 900,000
To eliminate the intercompany receivable/payable:
(I) Accounts payable
Accounts receivable
100,000
100,000
To eliminate the intercompany service revenue/expense:
(I) Design revenue
Design expense
©Cambridge Business Publishing, 2010
900,000
900,000
5
Eliminating Intercompany Loan
Transactions Example
Parrish Shoe Factory is a subsidiary of Jordan Athleticwear. In
2010, Jordan loans $1,000,000 to Parrish. Interest on the loan
totals $50,000, and is accrued and paid.
Balances at December 31, 2010:
Balance Sheet:
Loan receivable
Loan payable
Income Statement:
Interest revenue
Interest expense
Jordan
Parrish
$1,000,000 $
1,000,000
50,000
50,000
To eliminate the intercompany loan principal:
(I) Loan payable
Loan receivable
1,000,000
1,000,000
To eliminate the intercompany interest revenue/expense:
(I) Interest revenue
Interest expense
©Cambridge Business Publishing, 2010
50,000
50,000
6
7
Intercompany Profits
 Result from transferred assets from one
affiliate to the other
 Per ARB 51, profits not yet confirmed by
further sale to outside parties must be
eliminated
 Both upstream and downstream transactions
 i.e., not considered to be arm’s-length transactions
 Confirmed profits require no elimination
©Cambridge Business Publishing, 2010
Eliminating Intercompany Profits
Example
Parrish Shoe Factory is a subsidiary of Jordan Athleticwear. In 2010,
Jordan sells land to Parrish for $1,400,000 that had an original cost of
$1,000,000. Prior to consolidation, Jordan shows a gain of $400,000
on its books while Parrish carries the land at $1,400,000.
To eliminate the unconfirmed intercompany profit and
reduce the land to original acquisition cost:
(I) Gain on sale of land
Land
400,000
400,000
• Land in consolidated balance sheet will be $1,000,000
• Gain of $400,000 remains in Jordan’s retained earnings
• Land remains at $1,400,000 on Parrish’s books
©Cambridge Business Publishing, 2010
8
9
If Subsidiary Has Noncontrolling Interest
 Elimination of intercompany profits arising in
downstream sales must be made
 Affects only the controlling interest in consolidated
income
 No effect on subsidiary’s income
 No effect on any noncontrolling interest in income
 Elimination of intercompany profits arising in
upstream sales must be made
 Affects both controlling and noncontrolling
interests in consolidated net income
 Elimination of profit shared between controlling
and noncontrolling interests
©Cambridge Business Publishing, 2010
10
Equity Method Income Effects
 Affects equity method income accrual
 Due to unconfirmed intercompany gains and
losses on upstream and downstream sales
 Parent’s share of unconfirmed intercompany
gains (losses) is deducted (added) to its share
of subsidiary’s reported net income
 Because unconfirmed profits are eliminated in
consolidation
©Cambridge Business Publishing, 2010
Equity Method Effects of
Unconfirmed Intercompany Profits
Effects of Unconfirmed Intercompany Profits
Noncontrolling Interest in
Equity in Net Income
Net Income
Downstream
transactions
Remove all unconfirmed
profit
No effect
Upstream
transactions
Remove parent's share of
unconfirmed profit
Remove noncontrolling
interest's share of
unconfirmed profit
©Cambridge Business Publishing, 2010
11
Equity Method Example
Jordan Athleticwear acquires 80% of Parrish Shoe Factory on
January 1, 2010. During 2010, Jordan sells merchandise costing
$380,000 to Parrish for $400,000, which Parrish still holds at yearend.
$20,000 profit
unconfirmed until Parrish
sells to an outside
customer
Equity in Income of Parrish
Deduct $20,000 to remove
downstream intercompany profit
Suppose Parrish sells the merchandise to Jordan, and Jordan
holds the merchandise at year-end.
$20,000 profit
unconfirmed
until Jordan
sells to an
outside
customer
©Cambridge Business Publishing, 2010
Jordan’s Equity in Income
Deduct Jordan’s 80% share of unconfirmed profit
($16,000 )to remove upstream intercompany profit
Noncontrolling Interest in Net Income
Deduct noncontrolling interest’s 20% share of
unconfirmed profit ($4,000)
12
13
Intercompany Transfers of Land
Eliminations in Year of Transfer
If sale is downstream
 Unconfirmed gains are deducted from the equity
accrual
 Creates an offset of the gain in the parent’s
separate income statement
If sale is upstream
 Parent’s share of the subsidiary’s unconfirmed
gain is deducted from the equity accrual
 Offsets the parent’s share of the gain in the
subsidiary’s separate income statement
©Cambridge Business Publishing, 2010
Intercompany Transfers of Land –
Year of Transfer Example
In 2010, one affiliate sells land costing $2,000,000 to the
other affiliate for $2,300,000. The buying affiliate holds the
land at year-end.
Consolidation eliminating entry, year of transfer
To eliminate the unconfirmed intercompany profit and reduce
the land to original acquisition cost (same entry, downstream
or upstream):
(I) Gain on sale of land
Land
300,000
300,000
Effects of $300,000 Unconfirmed Intercompany Profit in Year of Transfer
Equity in Net
20% Noncontrolling
Income
Interest in Net Income
Subtract $300,000
No effect
Downstream transfer
Subtract $240,000
Subtract $60,000
Upstream transfer
©Cambridge Business Publishing, 2010
14
Intercompany Transfers of Land –
Subsequent Years
Sold Upstream in a Prior Period
 Must eliminate the unconfirmed gain from
subsidiary’s beginning retained earnings
 Facilitates elimination of the investment account
against the parent’s share of the subsidiary’s
stockholders’ equity
Sold Downstream
 In subsequent years, must add back the unconfirmed
gain to the investment account
 No adjustment to retained earnings because
downstream transfers have no effect on subsidiary’s
income
©Cambridge Business Publishing, 2010
15
Intercompany Transfers of Land –
Subsequent Year Upstream Example
Parrish Shoe is a subsidiary of Jordan Athleticwear. In 2010,
Parrish sells land costing $2,000,000 to Jordan for
$2,300,000. Jordan still holds the land at the end of 2011.
December 31, 2011 Consolidation eliminating entry:
To eliminate the unconfirmed upstream intercompany profit from a
previous year and reduce the land to the original acquisition cost:
(I) Retained earnings, beginning-Parrish
Land
300,000
300,000
The gain was originally included in Parrish’s 2010 net income.
©Cambridge Business Publishing, 2010
16
17
Intercompany Transfers of Land –
Subsequent Year Downstream Example
Parrish Shoe is a subsidiary of Jordan Athleticwear. In 2010,
Jordan sells land costing $2,000,000 to Parrish for
$2,300,000. Parrish still holds the land at the end of 2011.
December 31, 2011 Consolidation eliminating entry:
To eliminate the unconfirmed downstream intercompany profit
from a previous year and reduce the land to the original
acquisition cost:
(I) Investment in Parrish
Land
300,000
300,000
The gain was originally subtracted from the investment account.
©Cambridge Business Publishing, 2010
Intercompany Transfers of Land –
Year of Sale to Outside Party
 Requires that the original intercompany gain
be recognized in consolidated net income in
the year of sale to outside party
 Upstream
 Entry transfers the original gain out of the
subsidiary’s retained earnings and into current
income
 Downstream
 Entry adds the gain back to the investment
account from which it was previously deducted via
the equity method income accrual and recognizes
it as current income
©Cambridge Business Publishing, 2010
18
Intercompany Transfers of Land –Year
of Sale to Outside Party Example
19
Assume the land was sold in 2012 for $3 million. The original cost
to the consolidated entity was $2 million, requiring a consolidated
gain of $1 million to be reported. The selling entity carries the land
at $2,300,000, and reports a gain of $700,000.
Upstream - To include in current consolidated net income the previously
recorded upstream gain now confirmed through external sale:
(I) Retained earnings, beginning-Parrish
Gain on sale of land
300,000
300,000
Downstream - To include in current consolidated net income the
previously recorded downstream gain now confirmed through external
sale:
(I) Investment in Parrish
Gain on sale of land
©Cambridge Business Publishing, 2010
300,000
300,000
Intercompany Transfers of Land –Year
of Sale to Outside Party Example
Assume the land was sold in 2012 for $3 million. The original cost
to the consolidated entity was $2 million, requiring a consolidated
gain of $1 million to be reported. The selling entity carries the land
at $2,300,000, and reports a gain of $700,000.
Effects of $300,000 Unconfirmed Intercompany Profit in Year of Sale to
Outside Party
Equity in Net
20% Noncontrolling
Income
Interest in Net Income
Add $300,000
No effect
Downstream transfer
Add $240,000
Add $60,000
Upstream transfer
©Cambridge Business Publishing, 2010
20
21
Intercompany Transfers of Inventory
 Elimination of intercompany revenues and
expenses required
 Unconfirmed gains or losses may exist
 If intercompany transfer price differs from cost,
and
 Goods remain in the affiliated entity at year-end
 Unconfirmed gain is part of ending or
beginning inventory balance
 Eliminated by adjusting cost of goods sold
Eliminating intercompany
profit in ending inventory
Increases cost of goods sold
©Cambridge Business Publishing, 2010
Eliminating intercompany profit
in beginning inventory
Decreases cost of goods sold
Intercompany Transfers of Inventory
Example
During 2010, Jordan sells merchandise costing $1 million to
Parrish for $1.5 million. Parrish holds all the inventory in its
year-end inventory at December 31, 2010.
Balances at December 31, 2010:
Balance Sheet:
Income Statement:
Inventory
Sales revenue
Cost of goods sold
Jordan
$1,500,000
1,000,000
Parrish
$1,500,000
-
To eliminate intercompany merchandise sales and purchases:
(I-1) Sales
Cost of goods sold
1,500,000
1,500,000
To eliminate unconfirmed profit from Parrish's ending inventory:
(I-2) Cost of goods sold
Inventory
©Cambridge Business Publishing, 2010
500,000
500,000
22
Intercompany Transfers of Inventory
Example
During 2010, Jordan sells merchandise costing $1 million to
Parrish for $1.5 million. Parrish sells all the inventory for
$1.8 million during 2010.
Balances at December 31, 2010:
Balance Sheet:
Income Statement:
Inventory
Sales revenue
Cost of goods sold
Jordan
$1,500,000
1,000,000
Parrish
$1,800,000
1,500,000
To eliminate intercompany merchandise sales and purchases:
(I) Sales
Cost of goods sold
1,500,000
1,500,000
The profit is confirmed, so no other elimination is needed.
©Cambridge Business Publishing, 2010
23
Unconfirmed Profit in Ending
Inventory
Eliminating intercompany
profit in ending inventory
Increases cost of goods sold
 Same whether upstream or downstream
 i.e., whether the parent or subsidiary holds the
inventory
 Adjustments required for parent’s equity
income accrual and noncontrolling interest
in net income
©Cambridge Business Publishing, 2010
24
Unconfirmed Profit in Ending
Inventory Example
Assume merchandise priced at $5 million is sold to an affiliate
during 2010. The buyer’s ending inventory includes $840,000
purchased from the seller. The seller’s markup is 20% of cost.
Eliminations are the same whether upstream or downstream.
To eliminate intercompany merchandise sales and purchases.
(I-1) Sales
Cost of goods sold
5,000,000
5,000,000
To eliminate unconfirmed profit from the buyer’s ending
inventory:
$840,000 – ($840,000 ÷ 1.2) = $140,000
(I-2) Cost of goods sold
Inventory
©Cambridge Business Publishing, 2010
140,000
140,000
25
Unconfirmed Profit in Ending
Inventory Example
26
Assume merchandise priced at $5 million is sold to an affiliate
during 2010. The buyer’s ending inventory includes $840,000
purchased from the seller. The seller’s markup is 20% of cost.
Effect of $140,000 unconfirmed profit in ending inventory:
Equity in Net
20% Noncontrolling
Income
Interest in Net Income
No effect
Downstream transfer Subtract $140,000
Subtract $112,000
Subtract $28,000
Upstream transfer
20% × $140,000 = $28,000
©Cambridge Business Publishing, 2010
Unconfirmed Profit in Beginning
Inventory
Eliminating intercompany
profit in beginning inventory
Decreases cost of goods sold
 Consolidated cost of goods sold is overstated
by the previous year’s unconfirmed profits
 Must eliminate these gains by transferring into
current year income and reduce cost of goods sold
 Adjustments required for parent’s equity
income accrual and noncontrolling interest in
net income
©Cambridge Business Publishing, 2010
27
Unconfirmed Profit in Beginning
Inventory Example
28
Assume merchandise priced at $5 million is sold to an affiliate
during 2010. The buyer’s ending inventory includes $840,000
purchased from the seller. The seller’s markup is 20% of cost.
Downstream: Parrish’s beginning inventory includes $840,000
purchased from Jordan.
To eliminate intercompany merchandise sales and purchases:
(I) Investment in Parrish
Cost of goods sold
140,000
140,000
Upstream: Jordan’s beginning inventory includes $840,000
purchased from Parrish.
To eliminate unconfirmed profit from beginning inventory:
(I) Retained earnings, beginning - Parrish
Cost of goods sold
©Cambridge Business Publishing, 2010
140,000
140,000
Unconfirmed Profit in Beginning
Inventory Example
29
Assume merchandise priced at $5 million is sold to an affiliate
during 2010. The buyer’s ending inventory includes $840,000
purchased from the seller. The seller’s markup is 20% of cost.
Effect of $140,000 unconfirmed profit in ending inventory:
Downstream transfer
Upstream transfer
Equity in Net
Income
Add $140,000
Add $112,000
20% Noncontrolling
Interest in Net Income
No effect
Add $28,000
20% × $140,000 = $28,000
©Cambridge Business Publishing, 2010
Intercompany Profits and Inventory
Cost Flow Assumptions
 Eliminating entries apply to any cost flow
assumption
 Elimination of profit from beginning
inventory assumes beginning inventory is
sold and profit confirmed
 But if beginning inventory is not sold, it
appears in ending inventory and elimination
of profit from ending inventory corrects that
assumption
©Cambridge Business Publishing, 2010
30
Intercompany Transfers of
Depreciable Assets
31
 Intercompany gains and losses are confirmed when
 Asset is sold to an outside party or
 Asset depreciates
 Portion of gain equal to excess depreciation is
‘confirmed’
 Objectives of eliminations
 Eliminate the unconfirmed intercompany gain or loss
 Eliminate the difference between depreciation
expense recorded by purchasing entity and the
amount based on original acquisition cost, i.e. excess
depreciation
 Restate the asset and accumulated depreciation
accounts so that they are based on cost
©Cambridge Business Publishing, 2010
Eliminations in Year of Transfer for
Depreciable Assets Example
On January 2, 2010, Jordan sells equipment with a 10-year remaining
life and an original cost of $5 million to Parrish for $4,500,000.
Accumulated depreciation on the transfer date was $2 million.
Balances on 2010 statements:
Balance Sheet, December 31, 2010
Equipment (remaining on Parrish's books)
Accumulated depreciation
2010 Income Statement
Depreciation expense
Gain on sale of equipment
Jordan
$
-
1,500,000
Parrish
$4,500,000
450,000
450,000
-
Jordan’s gain = $4,500,000 – ($5,000,000 – $2,000,000) = $1,500,000
Parrish’s depreciation = $4,500,000/10 = $450,000
©Cambridge Business Publishing, 2010
32
Eliminations in Year of Transfer for
Depreciable Assets Example
continued
December 31, 2010 consolidation eliminating entries:
To eliminate unconfirmed gain on intercompany transfer of equipment:
(I-1) Gain on sale of equipment
Equipment
1,500,000
1,500,000
To eliminate the excess annual depreciation expense recorded by
the purchasing affiliate: $1,500,000 ÷ 10 = $150,000
(I-2) Accumulated depreciation
Depreciation expense
150,000
150,000
To restate the assets and accumulated depreciation accounts to
their original acquisition cost basis. The amount of adjustment is
equal to the accumulated depreciation at the date of transfer:
(I-3) Equipment
2,000,000
Accumulated depreciation
2,000,000
©Cambridge Business Publishing, 2010
33
Effects in Year of Transfer for Depreciable
Assets
Effect of $1,500,000 unconfirmed gain on intercompany
transfer of depreciable assets in year of transfer:
Equity in Net Income
Downstream transfer
Upstream transfer
Subtract $1,500,000
Add $150,000
Subtract $1,200,000
Add $120,000
20% Noncontrolling
Interest in Net Income
No effect
Subtract $300,000
Add $30,000
The $1,500,000 unconfirmed gain as of the date of transfer is
confirmed by reducing depreciation expense by $150,000 in each of
the asset’s 10 years of remaining life.
©Cambridge Business Publishing, 2010
34
Eliminations in Subsequent Years for
Depreciable Assets Downstream Example
December 31, 2011 downstream consolidation eliminating
entries:
To eliminate unconfirmed gain on intercompany transfer of equipment:
(I-1) Investment in Parrish
1,350,000
Accumulated depreciation
150,000
Equipment
1,500,000
To eliminate the excess annual depreciation expense recorded by
the purchasing affiliate: $1,500,000 ÷ 10 = $150,000
(I-2) Accumulated depreciation
Depreciation expense
150,000
150,000
To restate the assets and accumulated depreciation accounts to
their original acquisition cost basis.
(I-3) Equipment
2,000,000
Accumulated depreciation
2,000,000
©Cambridge Business Publishing, 2010
35
Eliminations in Subsequent Years for
Depreciable Assets Upstream Example
December 31, 2011 upstream consolidation eliminating
entries:
To eliminate unconfirmed gain on intercompany transfer of equipment:
(I-1) Retained earnings, beg.- Parrish
1,350,000
Accumulated depreciation
150,000
Equipment
1,500,000
To eliminate the excess annual depreciation expense recorded by
the purchasing affiliate: $1,500,000 ÷ 10 = $150,000
(I-2) Accumulated depreciation
Depreciation expense
150,000
150,000
To restate the assets and accumulated depreciation accounts to
their original acquisition cost basis.
(I-3) Equipment
2,000,000
Accumulated depreciation
2,000,000
©Cambridge Business Publishing, 2010
36
Effects in Subsequent Years for
Depreciable Assets
Effect of $1,500,000 unconfirmed gain on intercompany
transfer of depreciable assets during the subsequent year,
2011:
Equity in Net Income
20% Noncontrolling
Interest in Net Income
Downstream transfer
Add $150,000
No effect
Upstream transfer
Add $120,000
Add $30,000
The $1,500,000 unconfirmed gain as of the date of transfer
is confirmed by reducing depreciation expense by
$150,000 in each of the asset’s 10 years of remaining life.
©Cambridge Business Publishing, 2010
37
38
Comprehensive Illustration
Adonis Corp. acquired 90% of the voting stock of Reelok Company,
on January 2, 2007 at a cost of $27,830,000. Other data:
Reelock’s book value at date of acquisition
Estimated fair value of noncontrolling interest
Plant and equipment with 10-year remaining life undervalued by
Long-term debt with a 4-year remaining term overvalued by
Previously unreported identifiable intangibles:
Order backlog with a 2-year life
Favorable leaseholds with a 5-year life
Calculation of goodwill:
©Cambridge Business Publishing, 2010
$2,000,000
2,170,000
7,000,000
400,000
1,000,000
3,000,000
39
Comprehensive Illustration
continued
Adonis Corp. acquired 90% of the voting stock of Reelok Company,
on January 2, 2007 at a cost of $27,830,000. Total calculated
goodwill is $16,600,000. The total fair value of Reelok’s identifiable
net assets is $13,400,000.
Goodwill to controlling interest:
Goodwill to noncontrolling interest:
©Cambridge Business Publishing, 2010
40
Comprehensive Illustration
Adonis Corp.’s intercompany
transactions during 2010:
Sale of land in 2008 costing $5
million by Reelock to Adonis for $5.5
million; Sale in 2010 by Adonis to
outside firm for $6.5 million
Reelock sells merchandise to
Adonis at a 20% markup on sales.
Adonis’ January 1, 2010 inventory
balance includes $400,000 of
merchandise purchased from
Reelock, and its December 31, 2010
inventory includes $450,000
purchased from Reelock.
©Cambridge Business Publishing, 2010
continued
Equity in net
income
Noncontrolling
interest in net
income
$450,000
$50,000
$72,000
($81,000)
$8,000
($9,000)
Upstream
41
Comprehensive Illustration
Adonis Corp.’s intercompany
transactions during 2010:
Adonis sells merchandise to Reelock
at a 20% markup on cost. Reelock’s
January 1, 2010 inventory balance
includes $300,000 of merchandise
purchased from Adonis, and its
December 31, 2010 inventory includes
$240,000 purchased from Adonis.
On January 2, 2007, Adonis sold
equipment costing $5 million with $3
million of accumulated depreciation
and a 10-year remaining life to Reelock
for $3.5 million. Reelock holds the
equipment at year-end.
©Cambridge Business Publishing, 2010
Equity in net
income
continued
Noncontrolling
interest in net
income
$50,000
$(40,000)
$0
$150,000
$0
Downstream
42
Comprehensive Illustration
continued
Adonis Corp. acquired 90% of the voting stock of Reelok Company, on
January 2, 2007 at a cost of $27,830,000. Total calculated goodwill is
$16,600,000. Reelock’s reported income for 2010 is $2,000,000.
2010 Equity in net income and noncontrolling interest in income:
©Cambridge Business Publishing, 2010
Comprehensive Illustration
43
continued
Elimination C
The equity in net income of Reelock, reported on Adonis’ books, totals
$951,000. Reelock declared and paid no dividends in 2010.
To eliminate equity in net income on the parent's books and
restore the investment account to its beginning-of-year value:
(C) Equity in income of Reelock
Investment in Reelock
©Cambridge Business Publishing, 2010
951,000
951,000
Comprehensive Illustration
44
continued
Adjustments for Intercompany Transactions
In 2008, Reelock sold land costing $5 million to Adonis for
$5.5 million. In 2010, Adonis sold the land to a real estate
investment firm for $6.5 million.
To recognize the confirmed gain on the upstream land sales.
(I-1) Retained earnings, January 1
Gain on sale of land
©Cambridge Business Publishing, 2010
500,000
500,000
Comprehensive Illustration
45
continued
Adjustments for Intercompany Transactions
Total 2010 retail sales by Reelock to Adonis were $3 million. Adonis’
January 1, 2010 inventory balance includes $400,000 in merchandise
purchased from Reelock. Total 2010 retail sales by Adonis to Reelock
were $2 million. Reelock sells to Adonis at a 20% markup on sales.
To eliminate intercompany sales and purchases:
$3,000,000 + $2,000,000 = $5,000,000
(I-2) Sales revenue
Cost of goods sold
5,000,000
5,000,000
To recognize the confirmed upstream profit in beginning
inventory:
$400,000 × 20% = $80,000
(I-3) Retained Earnings, January 1
Cost of goods sold
©Cambridge Business Publishing, 2010
80,000
80,000
Comprehensive Illustration
46
continued
Adjustments for Intercompany Transactions
Adonis sells to Reelock at a 20% markup on cost. Reelock’s January
1, 2010 inventory includes $300,000 in merchandise purchased from
Adonis.
To recognize the confirmed downstream profit in beginning
inventory: $300,000 – ($300,000 ÷ 1.2) = $50,000
(I-4) Investment in Reelock
Cost of goods sold
50,000
50,000
Reelock’s December 31, 2010 inventory includes $240,000 purchased
from Adonis (20% markup on cost). Adonis’ December 31, 2010 inventory
includes $450,000 purchased from Reelock (20% markup on sales).
To eliminate the unconfirmed upstream and downstream profit in
ending inventory:
($450,000 × 20%) + ($240,000 – ($240,000/1.2)) = $130,000
(I-5) Cost of goods sold
Current assets
©Cambridge Business Publishing, 2010
130,000
130,000
Comprehensive Illustration
47
continued
Adjustments for Intercompany Transactions
On January 2, 2007, Adonis sold equipment costing $5 million with $3
million accumulated depreciation, and a 10-year remaining life,
straight-line, to Reelock for $3.5 million. Reelock still holds the
equipment at year-end.
To remove the unconfirmed beginning-of-year profit on downstream
sale of equipment:
Total gain = $3,500,000 – ($5,000,000 - $3,000,000) = $1,500,000
Unconfirmed gain = $1,500,000 – [($1,500,000 ÷ 10) × 3 years]
= $1,050,000
(I-6) Investment in Reelock
Accumulated depreciation
Plant and equipment
©Cambridge Business Publishing, 2010
1,050,000
450,000
1,500,000
Comprehensive Illustration
48
continued
Adjustments for Intercompany Transactions
On January 2, 2007, Adonis sold equipment costing $5 million with $3
million accumulated depreciation, and a 10-year remaining life,
straight-line, to Reelock for $3.5 million. Reelock still holds the
equipment at year-end.
To recognize the confirmed profit (excess depreciation) on
downstream sale of equipment: $1,500,000 ÷ 10 = $150,000
(I-7) Accumulated depreciation
Operating expenses
150,000
150,000
To restate the asset and accumulated depreciation accounts
to their original acquisition cost basis:
(I-8) Plant and equipment
Accumulated depreciation
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3,000,000
3,000,000
Comprehensive Illustration
49
continued
Adjustments for Intercompany Transactions
In 2010, Adonis charged Reelock $500,000 for marketing services
costing $400,000. At year-end, Reelock owes Adonis $25,000 related
to marketing services. At year-end, Adonis owes Reelock $100,000
related to merchandise sales, and Reelock owes Adonis $85,000
related to merchandise sales.
To eliminate the intercompany sale of marketing services:
(I-9) Sales revenue
Operating expenses
500,000
500,000
To eliminate intercompany receivables/payables:
$100,000 + $85,000 + $25,000 = $210,000
(I-10) Current liabilities
Current assets
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210,000
210,000
Comprehensive Illustration
50
continued
Elimination E
Reelock’s January 1, 2010 capital stock balance was $1,400,000 and
its retained earnings was $8,600,000. Entry I-1 reduced Reelock’s
retained earnings by $500,000 and entry I-3 reduced it by $80,000.
To eliminate the subsidiary's beginning-of-year capital stock
account and the remainder of its beginning retained earnings
account against the beginning-of-year book value portion of the
investment account, and recognize the beginning-of-year book
value of the noncontrolling interest:
$8,600,000 – $500,000 – $80,000 = $8,020,000
(E) Capital stock
Retained earnings, January 1
Investment in Reelock (90%)
Noncontrolling interest in Reelock (10%)
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1,400,000
8,020,000
8,478,000
942,000
Comprehensive Illustration
51
continued
Elimination R
Reelock’s assets and liabilities were fairly reported except for plant and
equipment undervalued by $7 million; long-term debt overvalued by
$400,000; and previously unreported identifiable intangibles: order
backlog for $1 million and favorable leaseholds for $3 million.
Accumulated goodwill impairment for 2007-2009 was $1 million.
To revalue Reelock's net assets as of the beginning of the year and
allocate the revaluations to the controlling interest:
($7,000,000 + $1,200,000 + $100,000 – $2,100,000) = $6,200,000
(90% × $6,200,000) + (95% × $15,600,000) = $20,400,000
(10% × $6,200,000) + (5% × $15,600,000) = $1,400,000
(R) Plant and equipment
Identifiable intangibles
Long-term debt
Goodwill
Accumulated depreciation
Investment in Reelock
Noncontrolling interest in Reelock
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7,000,000
1,200,000
100,000
15,600,000
2,100,000
20,400,000
1,400,000
Comprehensive Illustration
52
continued
Elimination O
Reelock’s assets and liabilities were fairly reported except for plant
and equipment undervalued by $7 million; long-term debt overvalued
by $400,000; and previously unreported identifiable intangibles: order
backlog for $1 million and favorable leaseholds for $3 million. Goodwill
impairment is $200,000 for 2010.
To write off the revaluations for the current year:
$7,000,000 ÷ 10 = $700,000
$3,000,000 ÷ 5 = $600,000
$400,000 ÷ 4 = $100,000
(O) Operating expenses
Accumulated depreciation
Identifiable intangibles
Long-term debt
Goodwill
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1,600,000
700,000
600,000
100,000
200,000
Comprehensive Illustration
53
continued
Elimination N
The noncontrolling interest in Reelock’s net income for 2010 is
$99,000. Reelock declared and paid no dividends in 2010.
To recognize the noncontrolling interest in the subsidiary's
income:
(N) Noncontrolling interest in net income
Noncontrolling interest in Reelock
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99,000
99,000
54
Comprehensive Illustration
continued
Consolidation Working Paper, December 31, 2010
©Cambridge Business Publishing, 2010
Exhibit 6.1
Comprehensive Illustration
55
continued
Consolidated Balance Sheet, Dec. 31, 2010
©Cambridge Business Publishing, 2010