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Comprehensive Problem with solution

The document outlines the consolidation process for intercompany sales of inventory between Parent Company P and Subsidiary Company S, detailing both upstream and downstream transactions. It calculates unrealized profits in ending inventory, necessary consolidation adjustments, and the impact on consolidated financial statements, including sales, cost of goods sold, and inventory. Additionally, it addresses the effect of unrealized profits on noncontrolling interest, resulting in a reduction of $1,600.

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Geofrey Rivera
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3 views

Comprehensive Problem with solution

The document outlines the consolidation process for intercompany sales of inventory between Parent Company P and Subsidiary Company S, detailing both upstream and downstream transactions. It calculates unrealized profits in ending inventory, necessary consolidation adjustments, and the impact on consolidated financial statements, including sales, cost of goods sold, and inventory. Additionally, it addresses the effect of unrealized profits on noncontrolling interest, resulting in a reduction of $1,600.

Uploaded by

Geofrey Rivera
Copyright
© © All Rights Reserved
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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Comprehensive Problem: Intercompany Sales of Inventory (Upstream and Downstream) in Business

Combinations
Background: Parent Company P owns 80% of Subsidiary Company S. Consolidated financial
statements are prepared using the acquisition method. Both companies use a perpetual inventory
system. Below are the relevant details for the year ended December 31, 20XX:
Intercompany Transactions
1. Downstream Sale (Parent P to Subsidiary S):
o Parent P sold inventory to Subsidiary S for $150,000.
o The cost of the inventory to Parent P was $100,000.
o At year-end, 30% of this inventory remained unsold by Subsidiary S.
2. Upstream Sale (Subsidiary S to Parent P):
o Subsidiary S sold inventory to Parent P for $80,000.
o The cost of the inventory to Subsidiary S was $60,000.
o At year-end, 40% of this inventory remained unsold by Parent P.
Standalone Financial Information
1. Parent P's Financials (before intercompany adjustments):
o Sales: $1,500,000
o Cost of Goods Sold: $1,100,000
o Inventory: $300,000
2. Subsidiary S's Financials (before intercompany adjustments):
o Sales: $900,000
o Cost of Goods Sold: $600,000
o Inventory: $200,000
Requirements:
1. Calculate the unrealized profit in ending inventory for both the upstream and downstream sales.
2. Prepare the necessary consolidation adjustments.
3. Determine the consolidated sales, cost of goods sold, and inventory.
4. Calculate the impact on the noncontrolling interest (NCI).

Solution
Step 1: Unrealized Profit in Ending Inventory
1. Downstream Sale (Parent P to Subsidiary S):
o Intercompany Profit per Unit = Selling Price - Cost to Parent P
=Selling Price−CostSelling Price=150,000−100,000150,000=33.33%= \frac{\text{Selling
Price} - \text{Cost}}{\text{Selling Price}} = \frac{150,000 - 100,000}{150,000} = 33.33\%
o Unsold Inventory = 30% of $150,000 = $45,000
o Unrealized Profit = $45,000 × 33.33% = $15,000.
2. Upstream Sale (Subsidiary S to Parent P):
o Intercompany Profit per Unit = Selling Price - Cost to Subsidiary S
=Selling Price−CostSelling Price=80,000−60,00080,000=25%= \frac{\text{Selling Price} - \
text{Cost}}{\text{Selling Price}} = \frac{80,000 - 60,000}{80,000} = 25\%
o Unsold Inventory = 40% of $80,000 = $32,000
o Unrealized Profit = $32,000 × 25% = $8,000.

Step 2: Consolidation Adjustments


1. Eliminate Intercompany Sales and Cost of Goods Sold:
o Total intercompany sales to eliminate = $150,000 (downstream) + $80,000 (upstream) =
$230,000.
o Total intercompany cost of goods sold to eliminate = $100,000 (downstream) + $60,000
(upstream) = $160,000.
2. Adjust for Unrealized Profits:
o Downstream Unrealized Profit (Parent P to Subsidiary S):
 Reduce Ending Inventory: $15,000
 Increase COGS: $15,000
o Upstream Unrealized Profit (Subsidiary S to Parent P):
 Reduce Ending Inventory: $8,000
 Increase COGS: $8,000

Step 3: Determine Consolidated Balances


1. Consolidated Sales:
Consolidated Sales=Parent P Sales+Subsidiary S Sales−Intercompany Sales\text{Consolidated Sales}
= \text{Parent P Sales} + \text{Subsidiary S Sales} - \text{Intercompany Sales}
=1,500,000+900,000−230,000=2,170,000= 1,500,000 + 900,000 - 230,000 = 2,170,000
2. Consolidated Cost of Goods Sold (COGS):
Consolidated COGS=Parent P COGS+Subsidiary S COGS−Intercompany COGS+Unrealized Profit Adjust
ments\text{Consolidated COGS} = \text{Parent P COGS} + \text{Subsidiary S COGS} - \
text{Intercompany COGS} + \text{Unrealized Profit Adjustments}
=1,100,000+600,000−160,000+(15,000+8,000)=1,563,000= 1,100,000 + 600,000 - 160,000 + (15,000 +
8,000) = 1,563,000
3. Consolidated Inventory:
Consolidated Inventory=Parent P Inventory+Subsidiary S Inventory−Total Unrealized Profits\
text{Consolidated Inventory} = \text{Parent P Inventory} + \text{Subsidiary S Inventory} - \text{Total
Unrealized Profits} =300,000+200,000−(15,000+8,000)=477,000= 300,000 + 200,000 - (15,000 +
8,000) = 477,000

Step 4: Impact on Noncontrolling Interest


The upstream sale impacts the noncontrolling interest since it originates from Subsidiary S. The
unrealized profit from the upstream sale ($8,000) must be allocated:
NCI Adjustment=Unrealized Profit×NCI Ownership Percentage\text{NCI Adjustment} = \
text{Unrealized Profit} × \text{NCI Ownership Percentage} =8,000×20%=1,600= 8,000 × 20\% = 1,600
The NCI's share of net income is reduced by $1,600 due to the unrealized profit from the upstream
sale.

Final Consolidated Balances:


1. Consolidated Sales: $2,170,000
2. Consolidated COGS: $1,563,000
3. Consolidated Inventory: $477,000
4. Impact on NCI: Reduced by $1,600 due to upstream unrealized profit.
This framework ensures all intercompany transactions are eliminated and profits are correctly
deferred in the consolidated financial statements.

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