Slide

6-1
 66
Elimination of Unrealized
Profit on Intercompany
Sales of Inventory

Advanced Accounting, Fourth Edition

Slide
6-2
 Learning
Learning Objectives
Objectives
1. Describe the financial reporting objectives for intercompany sales of
inventory.
2. Determine the amount of intercompany profit, if any, to be eliminated
from the consolidated statements.
3. Understand the concept of eliminating 100% of intercompany profit not
realized in transactions with outsiders, and know the authoritative
position.
4. Distinguish between upstream and downstream sales of inventory.
5. Compute the noncontrolling interest in consolidated net income for
upstream and downstream sales, when not all the inventory has been sold
to outsiders.
6. Prepare consolidated workpapers for firms with upstream and
downstream sales using the cost, partial equity, and complete equity
methods.
7. Discuss the treatment of intercompany profit earned prior to the parent
subsidiary affiliation.
Slide
6-3
 Upstream
Upstream and
and Downstream
Downstream Sales
Sales of
of Inventory
Inventory

Company P

P sells inventory S2 sells inventory

Downstream Upstream
S1 sells inventory
Horizontal
Company S1 Company S2

Consolidated Entity

Profit (loss) that has not been realized through subsequent

sales to third parties must be eliminated in the preparation
of consolidated financial statements.

Slide
6-4
LO 4 Upstream and downstream sales.
 Effects
Effects of
of Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise on
on
the
the Determination
Determination of
of Consolidated
Consolidated Balances
Balances

The financial reporting objectives are:

 Consolidated sales include only sales with parties outside
the affiliated group.
 Consolidated cost of sales includes only the cost to the
affiliated group of goods that have been sold to parties
outside the affiliated group.

 Consolidated inventory on the balance sheet is recorded at

its cost to the affiliated group.

Objective is to eliminate the effects of intercompany sales as if they

had never occurred.

Slide
6-5
LO 1 Financial reporting objectives for intercompany sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

Determination of Consolidated Sales, Cost of Sales,

and Inventory Balances Assuming Downstream Sales

E6-7: (Downstream Sales-variation) Perkins Company owns

85% of Sheraton Company. Perkins Company sells merchandise to
Sheraton Company at 20% above cost. During 2011 and 2012,
such sales amounted to $450,000 and $486,000, respectively.
At the end of each year, Sheraton Company had sold all of
inventory purchased from Perkins to third parties.
Required: Prepare the workpaper entries necessary to eliminate
the effects of the intercompany sales for 2011.

Slide
6-6
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: Summary of 2011 Intercompany Sales

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 450,000 $ 450,000 $ -
Intercompany COGS 375,000 375,000 -
Gross profit $ 75,000 $ 75,000 $ -

1. The “Total” column represents the Sales and COGS booked by

Perkins to record the sale to Sheraton. The Sales amount also
represents the cost of the inventory recorded by Sheraton.
2. The “Resold” column represents intercompany inventory that was
resold to third parties. Portions resold are recorded in COGS.
3. “On Hand” represents intercompany inventory still on hand in the
affiliate group.
Slide
6-7
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: Summary of 2011 Intercompany Sales

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 450,000 $ 450,000 $ -
Intercompany COGS 375,000 375,000 -
Gross profit $ 75,000 $ 75,000 $ -

Prepare the workpaper entry to eliminate intercompany

sales for 2011.
Sales 450,000
Cost of Goods Sold (Purchases) 450,000
To eliminate intercompany sales of merchandise

Slide
6-8
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

Determination of Consolidated Sales, Cost of Sales,

and Inventory Balances Assuming Downstream Sales

E6-7: (Downstream Sales) Perkins Company owns 85% of

Sheraton Company. Perkins Company sells merchandise to
Sheraton Company at 20% above cost. During 2011 and 2012,
such sales amounted to $450,000 and $486,000, respectively.
At the end of each year, Sheraton Company had in its inventory
one-third of the amount of goods purchased from Perkins during
that year.
Required: Prepare the workpaper entries necessary to eliminate
the effects of the intercompany sales for 2011 and 2012.

Slide
6-9
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: Summary of 2011 Intercompany Sales

2011 (COGS) (Inventory)

Total Resold On Hand
Intercompany Sales $ 450,000 $ 300,000 $ 150,000
Intercompany COGS 375,000 250,000 125,000
Gross profit $ 75,000 $ 50,000 $ 25,000

Prepare the workpaper entry to eliminate intercompany sales

for 2011.

Sales 450,000
Cost of Goods Sold (purchases) 450,000
Cost of Goods Sold (ending inventory) 25,000
Inventory 25,000
To eliminate intercompany sales and defer unrealized profit
Slide
6-10
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: 2011 (COGS) (Inventory)

Total Resold On Hand
Intercompany Sales $ 450,000 $ 300,000 $ 150,000
Alternate
Intercompany COGS 375,000 250,000 125,000
View Gross profit $ 75,000 $ 50,000 $ 25,000

Workpaper entry to eliminate intercompany sales for 2008.

Sales 1 450,000
1
Cost of Goods Sold 375,000
Cost of Goods Sold 2 50,000
Inventory 3 25,000

1. Original Sales and COGS recorded by Perkins (parent) is reversed.

2. COGS overstated by Sheraton on resale of goods to third parties.
3. Inventory on hand is overstated on Sheraton’s books by $25,000 unrealized profit.

Slide
6-11
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: Prepare the workpaper entry to eliminate intercompany

sales for 2012.
2011 Unrealized Profit in Inventory
(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 150,000
Intercompany COGS 125,000
Gross profit $ 25,000

Cost or Partial Equity Method *

Retained earnings 25,000
Cost of Goods Sold (beg. inventory) 25,000
To realize the gross profit in inventory deferred in the prior period.
* If the complete equity method is used, the debit is to the Investment account.

Slide
6-12
LO 6 Consolidated workpapers for downstream sales.
 Downstream
Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise Sales

E6-7: Prepare the workpaper entry to eliminate intercompany

sales for 2012.
2012 Intercompany Sales
(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 486,000 $ 324,000 $ 162,000
Intercompany COGS 405,000 270,000 135,000
Gross profit $ 81,000 $ 54,000 $ 27,000

Sales 486,000
Cost of Goods Sold (purchases) 486,000
Cost of Goods Sold (ending inventory) 27,000
Inventory 27,000
To eliminate intercompany sales and defer unrealized profit
Slide
6-13
LO 6 Consolidated workpapers for downstream sales.
 Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise

Determination of Amount of Intercompany Profit

Gross profit may be stated either as a percentage of sales or
as a percentage of cost.

Inventory Pricing Adjustments

The amount of intercompany profit subject to elimination
should be reduced to the extent that the related goods have
been written down by the purchasing affiliate.

Slide
6-14
LO 2 Determining the amount of intercompany profit.
 Intercompany
Intercompany Sales
Sales of
of Merchandise
Merchandise

Determination of Proportion of Intercompany Profit

to Be Eliminated
The amount of intercompany profit or loss to be eliminated . . .
is not affected by the existence of a minority [noncontrolling]
interest.
The complete elimination of the intercompany profit or loss is
consistent with the underlying assumption that consolidated
statements represent the financial position and operating
results of a single business enterprise. [Accounting Research
Bulletin (ARB) No. 51, paragraph 14] [ASC 810-10-45-6]

Slide
6-15
LO 3 Eliminating 100% of intercompany profit.
 Cost
Cost Method:
Method: Consolidated
Consolidated Statements
Statements
Workpaper—Upstream
Workpaper—Upstream Sales
Sales

Determination of the Noncontrolling Interest in

Combined Income—Upstream or Horizontal Sales
Modification of the calculation of the noncontrolling interest
is applicable only when the subsidiary is the selling affiliate
(upstream or horizontal sales).

Where the parent company is the selling affiliate

(downstream sale), no adjustment is necessary in the
calculation of the noncontrolling interest in consolidated net
income.

Slide
6-16
LO 5 Noncontrolling interest (NCI) for upstream sales.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7: Paque Corporation owns 90% of the common stock of

Segal Company. The stock was purchased for $810,000 on
January 1, 2009, when Segal Company’s retained earnings were
$150,000.

The January 1, 2013, inventory of Paque Corporation includes

$45,000 of profit recorded by Segal Company on 2012 sales.
During 2013, Segal Company made intercompany sales of
$300,000 with a markup of 20% of selling price. The ending
inventory of Paque Corporation includes goods purchased in
2013 from Segal Company for $75,000.

Required: Prepare the worksheet entries and the consolidated

statements workpaper for the year ended December 31, 2013.
Slide
6-17
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7: Prepare the worksheet entries for Dec. 31, 2013.

Acquisition date retained earnings - Segal $ 150,000

Retained earnings 1/1/13 - Segal 180,000
Increase 30,000
Ownership percentage 90%
$ 27,000

1. Investment in Segal 27,000

Beg. Retained Earnings ‑ Pague Co. 27,000
To establish reciprocity/convert to equity as of 1/1/2013.

Slide
6-18
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7: Prepare the worksheet entries for Dec. 31, 2013.

2013 Intercompany Sales

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 300,000 $ 225,000 $ 75,000
Intercompany COGS 240,000 180,000 60,000
Gross profit $ 60,000 $ 45,000 $ 15,000

2. Sales 300,000
Cost of Goods Sold (purchases) 300,000
3. Cost of Good Sold (ending inventory) 15,000
Inventory 15,000
To eliminate intercompany sales and defer unrealized profit

Slide
6-19
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7: Prepare the worksheet entries for Dec. 31, 2013.

2012 Unrealized Profit in Inventory

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales
Intercompany COGS
Gross profit $ 45,000

4. Retained Earnings ($45,000 x 90%) 40,500

Noncontrolling Interest ($45,000 x 10%) 4,500
Cost of Goods Sold (beg. inventory) 45,000
To realize the gross profit in inventory deferred in the prior period.

Slide
6-20
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7: Prepare the worksheet entries for Dec. 31, 2013.

5. Dividend Income ($60,000 x 80%) 54,000

Dividends Declared 54,000
To eliminate intercompany dividends

6. Beg. Retained Earnings - Segal 180,000

Common Stock - Segal 750,000
Investment in Segal 837,000
Noncontrolling Interest 93,000
To eliminate investment account and create NCI account

Slide
6-21
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7:
Eliminations Consolidated
Income Statement Paque Segal Debit Credit NCI Balances
Sales $ 1,650,000 $ 795,000 300,000 (2) $ 2,145,000
Dividend income 54,000 54,000 (5) -
Total revenue 1,704,000 795,000 2,145,000
Cost of goods sold 1,290,000 517,500 15,000 (3) 300,000 (2) 1,477,500
45,000 (4)
Other expenses 310,500 206,250 516,750
Total cost and expense 1,600,500 723,750 1,994,250
Net income 103,500 71,250 150,750
Noncontrolling interest 10,125 (10,125)
Net income $ 103,500 $ 71,250 $ 369,000 $ 345,000 $ 10,125 $ 140,625

Retained Earnings Statement

Retained earnings, 1/1
Paque 811,500 40,500 (4) 27,000 (1) 798,000
Segal 180,000 180,000 (6) -
Net income 103,500 71,250 369,000 345,000 10,125 140,625
Dividends declared (150,000) (60,000) 54,000 (5) (6,000) (150,000)
Retained earnings, 12/31 $ 765,000 $ 191,250 $ 589,500 $ 426,000 $ 4,125 $ 788,625

NCI in Consolidated Income = 10%  ($71,250 + $45,000 – $15,000) = $10,125

Slide
6-22
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Workpaper
Workpaper Sales

P6-7:
Eliminations Consolidated
Balance Sheet Paque Segal Debit Credit NCI Balances
Cash $ 93,000 $ 75,000 $ 168,000
Accounts receivable 319,500 168,750 488,250
Inventory 210,000 172,500 15,000 (3) 367,500
Investment in Segal 810,000 27,000 (1) 837,000 (6) -
Other assets 750,000 630,000 1,380,000
Total assets $ 2,182,500 $ 1,046,250 $ 2,403,750
-
Accounts payable $ 105,000 $ 45,000 $ 150,000
Other current liabilities 112,500 60,000 172,500
Common stock 1,200,000 750,000 750,000 (6) 1,200,000
Retained earnings 765,000 191,250 589,500 426,000 4,125 788,625
NCI in net assets 4,500 (4) 93,000 (6) 88,500
92,625 92,625
Total liab. & equity $ 2,182,500 $ 1,046,250 $ 1,371,000 $ 1,371,000 $ 2,403,750

Slide
6-23
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Cost
Cost Method—Analysis
Method—Analysis of
of Consolidated
Consolidated Net
Net
Income
Income and
and Consolidated
Consolidated Retained
Retained Earnings
Earnings

Consolidated Net Income

Consolidated net income is the parent company’s income from
its independent operations that has been realized in
transactions with third parties
plus (minus) subsidiary income (loss) that has been
realized in transactions with third parties
plus or minus adjustments for the period relating to the
depreciation, amortization, and impairment of
differences between implied and book values.

Slide
6-24
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Net
Net Income
Income Sales

P6-7: Prepare a calculation of Paque’s share of Segal’s income.

Reported income of Segal $ 71,250

Less: amortization of difference between
implied and book value 0
Less: unrealized profit on 2013 sales to Paque (15,000)
Plus: profit on prior year's sales to Paque realized
in transactions with third parties in 2013 45,000
Subsidiary income included in consolidated income $ 101,250

Paque's share of Segal’s income ($101,250 x 90%) $ 91,125

NCI share of Segal’s income ($101,250 x 10%) 10,125
Subsidiary income included in consolidated income $ 101,250
Slide
6-25
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Upstream
Cost
Cost Method:
Method: Consolidated
Consolidated Net
Net Income
Income Sales

P6-7: Prepare a calculation of CI in Consolidated Income.

Paque's net income $103,500

Less: subsidiary dividend income (54,000)
Paque's net income from its independent operations 49,500
Less: unrealized profit on 2013 sales to Segal 0
Plus: profit on prior year's sales to Segal realized
in transactions with third parties in 2013 0
Paque's income from independent operations that
has been realized in transactions with third parties 49,500
Paque's share of Segal’s income (previous slide) 91,125
Controlling interest in Consolidated net income $140,625

Slide
6-26
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Cost
Cost Method—Analysis
Method—Analysis of
of Consolidated
Consolidated Net
Net
Income
Income and
and Consolidated
Consolidated Retained
Retained Earnings
Earnings

Consolidated Retained Earnings

Consolidated Consolidated retained earnings is the parent’s cost
basis retained earnings that has been realized in transactions
with third parties
plus (minus) the parent’s share of the increase (decrease) in
subsidiary retained earnings that has been realized in
transactions with third parties from the date of acquisition to
the current date
plus (minus) the cumulative effect of adjustments to date
relating to the amortization, depreciation, and impairment of
differences between implied and book values.
Slide
6-27
LO 6 Consolidated workpapers for upstream Sales- Cost Method.
 Consolidated
Consolidated Statements
Statements Workpaper
Workpaper —
—
Partial
Partial Equity
Equity Method
Method

Reminder:
The balances reported by the parent company in income,
retained earnings, and the investment account differ
depending on the method used by the parent company to
record its investment.
However, the method used by the parent company to
record its investment has no effect on the consolidated
balances.

Slide
6-28
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13: (Note: This is the same problem as Problem 6-7, but

assuming the use of the partial equity method.)

Paque Corporation owns 90% of the common stock of Segal

Company. The stock was purchased for $810,000 on January 1,
2009, when Segal Company’s retained earnings were $150,000.

The January 1, 2013, inventory of Paque Corporation includes

$45,000 of profit recorded by Segal Company on 2012 sales.
During 2013, Segal Company made intercompany sales of $300,000
with a markup of 20% of selling price. The ending inventory of
Paque Corporation includes goods purchased in 2013 from Segal
Company for $75,000. Paque Corporation uses the partial equity
method to record its investment in Segal Company.

Slide
6-29
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13: Prepare the worksheet entries for Dec. 31, 2013.

1. Equity in Subsidiary Income 64,125

Investment in Segal Company
10,125
Dividends
To reverse declared
the effect ($60,000
of parent x 90%)
entries for subsidiary
54,000
dividends and income

Slide
6-30
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13: Prepare the worksheet entries for Dec. 31, 2013.

2013 Intercompany Sales

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 300,000 $ 225,000 $ 75,000
Intercompany COGS 240,000 180,000 60,000
Gross profit $ 60,000 $ 45,000 $ 15,000

2. Sales 300,000
Cost of Goods Sold (purchases) 300,000
3. Cost of Goods Sold (end. inventory) 15,000
Inventory 15,000
To eliminate intercompany sales and defer unrealized profit

Slide
6-31
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13: Prepare the worksheet entries for Dec. 31, 2013.

2012 Unrealized Profit in Inventory

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales
Intercompany COGS
Gross profit $ 45,000

4. Retained Earnings ($45,000 x 90%) 40,500

Noncontrolling Interest ($45,000 x 10%) 4,500
Cost of Goods Sold (beg. inventory) 45,000
To realize the gross profit in inventory deferred in the prior period.

Slide
6-32
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13: Prepare the worksheet entries for Dec. 31, 2013.

5. Beg. Retained Earnings - Segal 180,000

Common Stock - Segal 750,000
Investment in Segal 837,000
Noncontrolling Interest 93,000
To eliminate investment account and create NCI account

Slide
6-33
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13:
Eliminations Consolidated
Income Statement Paque Segal Debit Credit NCI Balances
Sales $ 1,650,000 $ 795,000 300,000 (2) $ 2,145,000
Equity in Segal income 64,125 64,125 (1) -
Total revenue 1,714,125 795,000 2,145,000
Cost of goods sold 1,290,000 517,500 15,000 (3) 300,000 (2) 1,477,500
45,000 (4)
Other expenses 310,500 206,250 516,750
Total cost and expense 1,600,500 723,750 1,994,250
Net income 113,625 71,250 150,750
Noncontrolling interest 10,125 (10,125)
Net income $ 113,625 $ 71,250 $ 379,125 $ 345,000 $ 10,125 $ 140,625

Retained Earnings Statement

Retained earnings, 1/1
Paque 838,500 40,500 (4) 798,000
Segal 180,000 180,000 (5) -
Net income 113,625 71,250 379,125 345,000 10,125 140,625
Dividends declared (150,000) (60,000) 54,000 (1) (6,000) (150,000)
Retained earnings, 12/31 $ 802,125 $ 191,250 $ 599,625 $ 399,000 $ 4,125 $ 788,625

NCI in Consolidated Income = 10%  ($71,250 + $45,000 – $15,000) = $10,125

Slide
6-34
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Partial
Partial Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-13:
Eliminations Consolidated
Balance Sheet Paque Segal Debit Credit NCI Balances
Cash $ 93,000 $ 75,000 $ 168,000
Accounts receivable 319,500 168,750 488,250
Inventory 210,000 172,500 15,000 (3) 367,500
Investment in Segal 847,125 837,000 (5) -
10,125 (1)

Other assets 750,000 630,000 1,380,000

Total assets $ 2,219,625 $ 1,046,250 $ 2,403,750
-
Accounts payable $ 105,000 $ 45,000 $ 150,000
Other current liabilities 112,500 60,000 172,500
(5)
Common stock 1,200,000 750,000 750,000 1,200,000
Retained earnings 802,125 191,250 599,625 399,000 4,125 788,625
(4) (5)
NCI in net assets 4,500 93,000 88,500
92,625 92,625
Total liab. & equity $ 2,219,625 $ 1,046,250 $ 1,354,125 $ 1,354,125 $ 2,403,750

Slide
6-35
LO 6 Consolidated workpapers – partial equity method.
 Partial
Partial Equity
Equity Method—Analysis
Method—Analysis of
of Consolidated
Consolidated
Net
Net Income
Income and
and Consolidated
Consolidated Retained
Retained Earnings
Earnings

Consolidated Net Income Same as Cost Method

Consolidated net income is the parent’s income from its

independent operations that has been realized in transactions
with third parties
plus (minus) subsidiary income (loss) that has been
realized in transactions with third parties
plus or minus adjustments for the period relating to the
depreciation, amortization, and impairment of
differences between implied and book values.

Slide
6-36
LO 6 Consolidated workpapers – partial equity method.
 Partial
Partial Equity
Equity Method—Analysis
Method—Analysis of
of Consolidated
Consolidated
Net
Net Income
Income and
and Consolidated
Consolidated Retained
Retained Earnings
Earnings

Consolidated Retained Earnings

When the parent uses the partial equity method, the parent’s
share of subsidiary income since acquisition is already included
in the parent’s reported retained earnings.
Consequently, consolidated retained earnings is calculated as
the parent’s recorded partial equity basis retained earnings that
has been realized in transactions with third parties plus or
minus the cumulative effect of the adjustments to date relating
to the depreciation, amortization, and impairment of
differences between implied and book values.

Slide
6-37
LO 6 Consolidated workpapers – partial equity method.
 Partial
Consolidated
Consolidated Retained
Retained Earnings
Earnings Equity

P6-13: Calculate consolidated retained earnings on Dec. 31,

2013.

Paque's Retained Earnings on 12/31/13 $ 802,125

Unrealized profit on downstream sales 0
Unrealized profit on upstream sales ($15,000 x 90%) (13,500)
Consolidated retained earnings on 12/31/2013 $ 788,625

Slide
6-38
LO 6 Consolidated workpapers – partial equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17: (Note: This is the same problem as Problem 6-7 and 6-13,
but assuming the use of the complete equity method.)

Paque Corporation owns 90% of the common stock of Segal

Company. The stock was purchased for $810,000 on January 1,
2009, when Segal Company’s retained earnings were $150,000.

The January 1, 2013, inventory of Paque Corporation includes

$45,000 of profit recorded by Segal Company on 2012 sales.
During 2013, Segal Company made intercompany sales of $300,000
with a markup of 20% of selling price. The ending inventory of
Paque Corporation includes goods purchased in 2013 from Segal
Company for $75,000. Paque Corporation uses the complete equity
method to record its investment in Segal Company.

Slide
6-39
LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17: Prepare the worksheet entries for Dec. 31, 2013.

1. Equity in Subsidiary Income 91,125

Investment in Segal Company
37,125
Dividends
To reverse declared
the effect ($60,000
of parent x 90%)
company entries
54,000 dividends and income
for subsidiary

Slide
6-40
LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17: Prepare the worksheet entries for Dec. 31, 2013.

2013 Intercompany Sales

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales $ 300,000 $ 225,000 $ 75,000
Intercompany COGS 240,000 180,000 60,000
Gross profit $ 60,000 $ 45,000 $ 15,000

2. Sales 300,000
Cost of Goods Sold (purchases) 300,000
3. Cost of Goods Sold (end. inventory) 15,000
Inventory 15,000
To eliminate intercompany sales and defer unrealized profit

Slide
6-41
LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17: Prepare the worksheet entries for Dec. 31, 2013.

2012 Unrealized Profit in Inventory

(COGS) (Inventory)
Total Resold On Hand
Intercompany Sales
Intercompany COGS
Gross profit $ 45,000

4. Retained earnings ($45,000 x 90%) 40,500

Noncontrolling Interest ($45,000 x 10%) 4,500
Cost of Goods Sold (beg. inventory) 45,000
To realize the gross profit in inventory deferred in the prior period

Slide
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LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17: Prepare the worksheet entries for Dec. 31, 2013.

5. Beg. Retained Earnings - Segal 180,000

Common Stock - Segal 750,000
Investment in Segal 837,000
Noncontrolling Interest 93,000
To eliminate investment account and create NCI account

Slide
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LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17:
Eliminations Consolidated
Income Statement Paque Segal Debit Credit NCI Balances
Sales $ 1,650,000 $ 795,000 300,000 (2) $ 2,145,000
Equity in Segal income 91,125 91,125 (1) -
Total revenue 1,741,125 795,000 2,145,000
Cost of goods sold 1,290,000 517,500 15,000 (3) 300,000 (2) 1,477,500
45,000 (4)
Other expenses 310,500 206,250 516,750
Total cost and expense 1,600,500 723,750 1,994,250
Net income 140,625 71,250 150,750
Noncontrolling interest 10,125 (10,125)
Net income $ 140,625 $ 71,250 $ 406,125 $ 345,000 $ 10,125 $ 140,625

Retained Earnings Statement

Retained earnings, 1/1
Paque 798,000 798,000
Segal 180,000 180,000 (5) -
Net income 140,625 71,250 406,125 345,000 10,125 140,625
Dividends declared (150,000) (60,000) 54,000 (1) (6,000) (150,000)
Retained earnings, 12/31 $ 788,625 $ 191,250 $ 586,125 $ 399,000 $ 4,125 $ 788,625

NCI in Consolidated Income = 10%  ($71,250 + $45,000 – $15,000) = $10,125

Slide
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LO 6 Consolidated workpapers – complete equity method.
 Upstream
Complete
Complete Equity
Equity Method:
Method: Workpaper
Workpaper Sales

P6-17:
Eliminations Consolidated
Balance Sheet Paque Segal Debit Credit NCI Balances
Cash $ 93,000 $ 75,000 $ 168,000
Accounts receivable 319,500 168,750 488,250
Inventory 210,000 172,500 15,000 (3) 367,500
Investment in Segal 833,625 40,500 (4) 837,000 (5) -
37,125 (1)
Other assets 750,000 630,000 1,380,000
Total assets $ 2,206,125 $ 1,046,250 $ 2,403,750
-
Accounts payable $ 105,000 $ 45,000 $ 150,000
Other current liabilities 112,500 60,000 172,500
Common stock 1,200,000 750,000 750,000 (5) 1,200,000
Retained earnings 788,625 191,250 586,125 399,000 4,125 788,625
NCI in net assets 4,500 (4) 93,000 (5) 88,500
92,625 92,625
Total liab. & equity $ 2,206,125 $ 1,046,250 $ 1,381,125 $ 1,381,125 $ 2,403,750

Slide
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LO 6 Consolidated workpapers – complete equity method.
 Complete
Complete Equity
Equity Method—Analysis
Method—Analysis ofof
Consolidated
Consolidated Net
Net Income
Income and
and Consolidated
Consolidated
Retained
Retained Earnings
Earnings

Under the complete equity method:

 Consolidated net income equals the parent company’s
recorded income.
 Consolidated retained earnings equals the parent
company’s recorded retained earnings.

Slide
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LO 6 Consolidated workpapers – complete equity method.
 Summary
Summary of
of Workpaper
Workpaper Entries
Entries Illustration 6-21

To eliminate intercompany sales: Parent Selling (Downstream)

All Methods Sales X
Cost of Sales (purchases) X
To eliminate intercompany profit in ending inventory:
All Methods Cost of Sales (ending inventory) X
Inventory X
To recognize intercompany profit in beginning inventory
realized during the year:
Cost or Partial Beg. Retained Earnings—Parent X
Equity Methods Cost of Sales (beg. inventory) X

Complete Equity Investment in S Company X

Method Cost of Sales (beg. inventory) X

Slide
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 Summary
Summary of
of Workpaper
Workpaper Entries
Entries Illustration 6-21

To eliminate intercompany sales: Subsidiary Selling (Upstream)

All Methods Sales X
Cost of Sales (purchases) X
To eliminate intercompany profit in ending inventory:
All Methods Cost of Sales (ending inventory) X
Inventory X
To recognize intercompany profit in beginning inventory
realized during the year:
Cost or Partial Beg. Retained Earnings—Parent X
Equity Methods NCI in Equity X
Cost of Sales (beg. inventory) X

Complete Equity Investment in S Company X

Method NCI in Equity X
Slide Cost of Sales (beg. inventory) X
6-48
 Intercompany
Intercompany Profit
Profit Prior
Prior To
To Parent–
Parent–
Subsidiary
Subsidiary Affiliation
Affiliation

Generally accepted accounting standards are silent as

to the appropriate treatment of unrealized profit on
assets that result from sales between companies prior
to affiliation (preaffiliation profit).

Slide
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LO 7 Intercompany profit prior to affiliation.
 Copyright
Copyright

Copyright © 2011 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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