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Intercompany Profit

Transactions Plant Assets


Chapter 6

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Learning Objective 1

Assess the impact of intercompany


profit on transfers of plant assets
in preparing consolidation
working papers.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Intercompany Profits on
Nondepreciable Plant Assets

Company P

Company S

Nondepreciable asset

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Intercompany Profits on
Nondepreciable Plant Assets
A transfer at a price other than book
value gives rise to unrealized profit
or loss to the consolidated entity.
Any gain or loss on sales downstream
from parent to subsidiary is initially
included in parent company income
and must be eliminated.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Intercompany Profits on
Nondepreciable Plant Assets
The amount of elimination is 100%,
regardless of the minority
interest percentage.
Subsidiary accounts include any
profit or loss from upstream sales.
The parent company recognizes only
its share of the subsidiarys income.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Learning Objective 2

Defer unrealized profits on


asset transfers by either
the parent or subsidiary.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of Land


Stan is a 90%-owned subsidiary of Park Corporation,
acquired for $270,000 on January 1, 2005.
Cost was equal to book value and fair value.
Stans net income for 2005:
$70,000
Parks income (excluding Stans income): $90,000
Parks income includes a $10,000 unrealized gain
from sale of land to Stan that cost $40,000.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of Land

Investment in Stan
63,000
Income from Stan
63,000
To record 90% of Stans reported income

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of Land

Cash
50,000
Land
40,000
Gain
10,000
To record sale of land to Stan
0ffset
Income from Stan
10,000
Investment in Stan
10,000
To eliminate unrealized profit on land sold to Stan
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Papers December 31, 2005


Income Statement

Sales
Income from Stan
Gain on sale of land
Expenses
Minority interest expense
($70,000 10%)
Net income
Retained earnings Park
Retained earnings Stan
Add: Net income
Retained earnings 12/31

Park

Adjustments/ ConsolStan Eliminations idated

$380 $220
53
b 53
10
a 10
(300) (150)
c 7
$143 $ 70
$207
$100 d 100
143
70
$350 $170

$600
(450)
(7)
$143
$207
143
$350

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Papers December 31, 2005


Balance Sheet

Other assets
Land
Investment in Stan
Liabilities
Capital stock
Retained earnings
Minority interest

Park

Adjustments/ ConsolStan Eliminations idated

$477 $350
50
323

a 10
b 53
d 270

$800 $400
$ 50 $ 30
400 200 d 200
350 170

$867
$ 80
400
350
c 7
d 30

$800 $400

$827
40

37
$867

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Upstream Sale of Land


Now, assume that Stan sells land to Park
with a cost of $40,000 for $50,000.
The net incomes for Stan and Park remain
the same, but the unrealized profit on the
sale of land is now reflected in the income
of Stan, rather than Park.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Upstream Sale of Land

Investment in Stan
63,000
Income from Stan
63,000
To record 90% of Stans reported net income
Income from Stan
9,000
Investment in Stan
9,000
To eliminate 90% of the unrealized profit
on land purchased from Stan
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Papers December 31, 2005


Income Statement

Sales
Income from Stan
Gain on sale of land
Expenses
Minority interest expense
($70,000 10%)
Net income
Retained earnings Park
Retained earnings Stan
Add: Net income
Retained earnings 12/31

Park

Adjustments/ ConsolStan Eliminations idated

$390 $210
54
b 54
10 a 10
(300) (150)
c 6
$144 $ 70
$207
$100 d 100
144
70
$351 $170

$600
(450)
(6)
$144
$207
144
$351

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Papers December 31, 2005


Balance Sheet

Other assets
Land
Investment in Stan
Liabilities
Capital stock
Retained earnings
Minority interest

Park

Adjustments/ ConsolStan Eliminations idated

$427 $400
50
324

a 10
b 54
d 270

$801 $400
$ 50 $ 30
400 200 d 200
351 170

$867
$ 80
400
351
c 6
d 30

$801 $400

$827
40

36
$867

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of
Depreciable Plant Assets
Perry, Corporation sells machinery to its
80%-owned subsidiary, Soper Corporation,
on December 31, 2003.
Book value: $90,000 $40,000 = $50,000
Perry sold the machine for $80,000.
What are the journal entries?

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of
Depreciable Plant Assets

Cash
80,000
Accumulated Depreciation
40,000
Machinery
Gain on Sale of Machinery
To record sale of machine to Soper

90,000
30,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of
Depreciable Plant Assets
Income from Soper
30,000
Investment in Soper
30,000
To offset the unrealized gain
Investment in Soper
6,000
Income from Soper
6,000
To partially recognize the gain over five years
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Downstream Sale of
Depreciable Plant Assets

Machinery
80,000
Cash
80,000
To record purchase of machine from Perry

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Papers Adjustment

Gain on Sale of Machinery


30,000
Machinery
30,000
To eliminate gain and adjust machinery

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Learning Objective 3

Recognize realized, previously


deferred profits on asset transfers
by either the parent or subsidiary.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Sale in Subsequent Year to


Outside Entity
Assume that Stan uses the land for three
years and sells it for $65,000 in 2009.
Stan gain:
$65,000 $50,000 = $15,000
Consolidated entity:
$65,000 $40,000 = $25,000
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Sale in Subsequent Year to


Outside Entity

Investment in Stan
10,000
Income from Stan
10,000
To recognize previously deferred profit
on sale to Stan
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Sale in Subsequent Year to


Outside Entity

Cash
65,000
Land
Gain
To record sale of land

50,000
15,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Sale in Subsequent Year to


Outside Entity

Investment in Stan
10,000
Gain on Land
10,000
To adjust gain on land to the $25,000 gain
to the consolidated entry
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Learning Objective 4

Adjust the calculations of minority


interest amounts in the presence
of intercompany profits
on asset transfers.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Upstream Sale of Land:


Minority Interest

Stans reported net income: $70,000

70,000

$63,000 to Park

$7,000 to MI

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Upstream Sale of Land:


Minority Interest
Stans reported net income:
Unrealized gain:
Realized net income:

$70,000
10,000
$60,000

60,000

$54,000 to Park

$6,000 to MI

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Consolidated Example
Plank Corporation acquired a 90% interest
in Sharp Corporation at its book value of
$450,000 on January 3, 2005.
On July 1, 2005, Plank sold land
to Sharp at a gain of $5,000.
During 2007, Sharp sold the land to an
outsider at a loss to Sharp of $1,000.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Consolidated Example
On January 2, 2006, Sharp sold equipment with a
five-year remaining life to Plank at a gain of $20,000.
Plank still had the equipment on 12/31/2007.
On January 5, 2007, Plank sold a building
to Sharp at a gain of $32,000.
The remaining useful life on this date was 8 years.
Sharp still owned the building on 12/31/2007.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Consolidated Example

Underlying equity in Sharp 12/31/2006


($600,000 equity of Sharp 90%)
$540,000
Less: Unrealized profit on land
(5,000)
Unrealized profit on equipment
($16,000 90 %)
(14,400)
Investment in Sharp 12/31/2006
$520,600
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Consolidated Example
Investment in Sharp 12/31/2006
$520,600
Add: Income from Sharp
($80,000 90%)
72,000
Gain on land
5,000
Piecemeal recognition
of gain on equipment
3,600
Deduct: Unrealized profit on building
(28,000)
Dividends received 2007
(27,000)
Investment in Sharp 12/31/2007
$546,200
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries

a Investment in Sharp
5,000
Gain on Land
5,000
To recognize previously deferred gain on land

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries


b Investment in Sharp
14,400
Minority Interest January 1 1,600
Accumulated Depreciation 8,000
Depreciation Expense
4,000
Equipment
20,000
To eliminate unrealized profit on upstream
sale of equipment
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries

c Gain on Buildings
32,000
Accumulated Depreciation
4,000
Buildings
32,000
Depreciation Expense
4,000
To eliminate unrealized gain on the downstream
sale of buildings

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries

d Income from Sharp 52,600


Dividends
27,000
Investment in Sharp
25,600
To eliminate income and dividend
from subsidiary

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries

e Minority Interest Expense


8,400
Dividends Sharp
3,000
Minority Interest
5,400
To enter minority interest share of subsidiary
income and dividends

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries


f Retained Earnings Sharp 200,000
Capital Stock Sharp
400,000
Investment in Sharp
540,000
Minority Interest Beginning
60,000
To eliminate reciprocal investment and
equity balances

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Inventory Items Purchased for


Use as Operating Assets
Paco Electronics sells a computer that it
manufactures at a cost of $150,000 to Santana.
The selling price is $200,000.
Santana is Pacos 100%-owned subsidiary.
The computer has a five-year expected useful live.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries:


Year of Sale
Sales
200,000
Cost of Sales
150,000
Equipment
50,000
To eliminate intercompany sales and to reduce
cost of sales and equipment for the cost and
gross profit, respectively
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries:


Year of Sale

Accumulated Depreciation
10,000
Depreciation Expense
10,000
To eliminate depreciation on the gross profit from
the sale ($50,000 5)

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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Working Paper Entries:


Second Year
Investment in Santana
40,000
Accumulated Depreciation
20,000
Equipment
50,000
Depreciation Expense
10,000
To reduce equipment to its cost basis to the consolidated
entity, to eliminate the effect of the intercompany sale
from depreciation expense and accumulated depreciation,
and to establish reciprocity between beginning-of-the-period
equity and investment amounts
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

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End of Chapter 6

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

6 - 43