Understanding Intragroup Transactions in Advanced Financial

School
The University of Hong Kong**We aren't endorsed by this school
Course
ACCT 4104
Subject
Accounting
Date
Dec 10, 2024
Pages
8
Uploaded by MinisterArtZebra10
Prof. Winnie S.C. Leung1ACCT4104 Advanced Financial AccountingCHAPTER 22 – CONSOLIDATION: INTRAGROUP TRANSACTIONSLEARNINGOBJECTIVES Explain the rationale for adjusting for intragroup transactionsPrepare worksheet entries for intragroup transactions including intragroup inventory transfer, intragroupservices, intragroup dividends, intragroup borrowings, intragroup land transfer and intragroup depreciable asset transfer.Rationale forAdjusting IntragroupTransactions Intragroup transactions are those transactions that occur between entities in the group.The purpose of consolidated financials is to provide information on the group as a result of its dealingswith externalparties.IFRS 10 requires:-Intragroup balances, transactions, income and expenses to be eliminated in full-Tax effect accounting to be applied where temporary differences arise due to the elimination ofprofits and lossesBesides adjusting for the effects of transactions occurring in the current period, it is also necessary toadjust current period’s consolidated financial statements for the ongoing effects of transactions in previous periods.IntragroupInventoryTransfer The broad effect of intragroup sales and purchases of inventory can be illustrated by reference to the examples below.1.The parent sells none of the inventory to external parties before the end of the current year.ParentSubsidiaryTotalRecordedGroupAdjustmentSales010 00010 0000Dr 10 000Cost of sales0 (8 000) (8 000) 0 Cr 8 000 Profit0 2 000 2 000 0 Inventory10 000010 0008 000Cr 2 000
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Prof. Winnie S.C. Leung2ACCT4104 Advanced Financial AccountingDiscussion Question:What is the amount of profit (ignore tax) to be recognized in the Consolidated P&L for the year ended 30 June 2023 with regard to this inventory?Choice 1: $0Choice 2: $2,000Choice 3: $10,000Choice 4: Cannot be determined as we do not know the selling price as set by the Parent Consolidation adjustment entry:DRSales10 000CRCost of Sales8 000CRInventory2 0002.The parent subsequently sells some of the inventory to external parties before the end of the current year.ParentSubsidiaryTotalRecordedGroupAdjustmentSales14 00010 00024 00014 000Dr 10 000Cost of sales(7 500) (8 000) (15 500) (6 000) Cr 9 500 Profit6 500 2 000 8 500 8 000 Inventory2 50002 5002 000Cr 500Discussion Question:What is the amount of profit (ignore tax) to be recognized in the Consolidated P&L for the year ended 30 June 2023 with regard to this inventory?Choice 1: $0Choice 2: $6,500Choice 3: $8,000Choice 4: $8,500Consolidation adjustment entry:DRSales10 000CRCost of Sales9 500CRInventory500
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Prof. Winnie S.C. Leung3ACCT4104 Advanced Financial Accounting3.The parent subsequently sells all of the inventory to external parties before the end of the current year.Suppose by the year end, the parent had sold all the transferred inventory to an external party for $18 000. Discussion Question:Do we need any consolidation adjusting entry for the year ended 30 June 2023 with regard to this inventory?Choice 1: YesChoice 2: NoIf yes, what is the entry? If no, what is the reason? DR Sales10 000CR Cost of Sales10 0004.The parent sells the unsold inventory remained from last year.Consolidation entries for 30 June 2022:DebitCreditSales7,000Cost of Sales4,500Inventory2,500Consolidation entries for 30 June 2023:DebitCreditRetained Earnings – opening 2500Cost of Sales2500To transfer last year profit (in opening RE) to this year profit (in P&L).Since the consolidation adjustments are made only in a worksheet and not in the records of any of the legalentities, any differences in balances between the legal entities and the consolidated group at the end of oneperiod must still exist at the beginning of the next period.Intragroup Services
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Prof. Winnie S.C. Leung4ACCT4104 Advanced Financial AccountingOften in a group, one entity (normally the parent) provides services (such as accounting, HR, IT) to the other entities (normally the subsidiaries) to reduce duplication. Provider normally charges a managementfee to the user:Journal entry recorded by provider:Journal entry recorded by user:DRCashxxxDR Service ExpensexxxCRService RevenuexxxCR CashxxxThis must be eliminated on consolidation as follows:DRServices RevenuexxxCRServices ExpensexxxIf payable/receivable balances also exist, these balances must be eliminated on consolidation as follows:DRAccounts PayablexxxCRAccounts ReceivablexxxIntragroup Dividends Declared and paid in the current periodJournal entry recorded by subsidiary:Journal entry recorded by parent: DR Dividend PaidxxxDR CashxxxCR CashxxxCR Dividend RevenuexxxJournal entries on consolidation: DR Dividend Revenue xxxCR Dividend PaidxxxDeclared but not paid in the current periodJournal entry recorded by subsidiary:Journal entry recorded by parent: DR Dividend DeclaredxxxDR Dividend ReceivablexxxCR Dividend PayablexxxCR Dividend RevenuexxxJournal entries on consolidation: DR Dividend RevenuexxxCR Dividend DeclaredxxxDR Dividend PayablexxxCR Dividend ReceivablexxxIntragroup Borrowings
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Prof. Winnie S.C. Leung5ACCT4104 Advanced Financial AccountingThe consolidation journal entry to eliminate intragroup balances in payable and receivable accounts is:DR Loan PayablexxxCR Loan ReceivablexxxTo eliminate interest revenue and expense recorded by each entity during the year:DR Interest RevenuexxxCR Interest ExpensexxxThe adjustment to the asset and liability is necessary as long as the intragroup loan exists. In relation to any past period’s payments and receipts of interests, no ongoing adjustment is necessary as the net effect of the consolidation adjustment is zero on that item. Intragroup LandTransfer If land is transferred between the parent and sub at a gain, the gain is considered unrealized and must be eliminated. By crediting land for the same amount, this effectively returns the land to its carrying value on the date of transfer.DRGain on Sale of LandXXCRLandXXAs long as the land remains on the books of the buyer, the unrealized gain must be eliminated at the end ofeach fiscal period. The original gain was closed to the retained earnings at the end of that period. When weeliminate the gain in subsequent years, it must come from retained earnings.DRRetained Earnings (beginning balance of Seller)XXCRLandXXIn the period the land is sold to a third party, the unrealized gain in the retained earnings must be eliminated, and finally recognized as a REALIZED gain in the current period’s consolidated financial statements.DRRetained Earnings (beginning balance of Seller)XXCRGain on Sale of LandXXAs an example, assume that the subsidiary sold a piece of land to the parent for $10 000. The land has a cost of $8 ParentSubsidiaryTotalGroupAdjustment
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Prof. Winnie S.C. Leung6ACCT4104 Advanced Financial Accounting000 in the subsidiary’s books.In the year of transaction,DRGain on Sale of Land2 000CRLand2 000In subsequent years,DRRetained Earnings – opening 2 000CRLand2 000Discussion Question:What if the land was sold to an external party at a price of $10 500 in the current year? Any consolidation adjustment needed for the current year end?In the year the land is sold,DRRetained Earnings – opening 2 000CRGain on Sale of Land2 000ParentSubsidiaryTotalRecordedGroupAdjustmentLand0000Gain on Sale of Land5000 5002 500CR 2 000Retained Earnings - opening02 0002 0000DR 2 000Discussion Question:What if the land was sold to an external party at a price of $8 500 in the current year? DRRetained Earnings – opening 2 000CRLoss on Sale of Land1 500CRGain on Sale of Land500ParentSubsidiaryTotalRecordedGroupAdjustmentLand0000Loss on Sale of Land1 50001 5000CR 1 500Gain on Sale of Land00 500500CR 500Retained Earnings - opening02 0002 0000DR 2 000Intragroup DepreciableAssetTransfer
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Prof. Winnie S.C. Leung7ACCT4104 Advanced Financial AccountingExampleParent Co owns 100% of Sub Co. Parent purchased equipment for $100,000 several years ago, and has recorded $40,000 of depreciation since that time. Sub then buys the equipment from Parent for $90,000 onJanuary 1, 2021. The equipment has a remaining useful life of 10 years.January 1, 2021On Parent’s Books:DRCash90,000DRAccumulated Depreciation40,000CREquipment100,000CRGain on Sale of Equipment30,000Parent WOULD record depreciation expense at $6,000 per year if the equipment had not been sold.On Sub’s Books:DR Equipment90,000CR Cash90,000Sub WILL record $9,000 per year in depreciation based on the remaining life of the equipment.Consolidation adjustment (Year of Transfer at Dec 31, 2021)In the year of transfer, the unrealized gain must be eliminated and the assets restated to original historical cost.DRGain on Sale of Equipment30,000DREquipment10,000CRAccumulated Depreciation40,000In addition, Sub’s depreciation is based on the inflated transfer price. The excess depreciation expense must be eliminated.DRAccumulated Depreciation3,000CRDepreciation Expense3,000
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Prof. Winnie S.C. Leung8ACCT4104 Advanced Financial AccountingIn subsequent years, for example, on consolidation at Dec 31, 2022:Elimination of unrealized gainDRRetained Earnings - opening30,000DREquipment10,000CRAccumulated Depreciation40,000DepreciationDRAccumulated Depreciation6,000CRRetained Earnings - opening3,000CRDepreciation Expense3,000Discussion Question:What if the equipment was sold at a gain on June 30, 2023? Any consolidation adjustment needed for the year ended Dec 31, 2023?DRRetained Earnings - opening24 000CRGain on Sale of Equipment22 500CRDepreciation Expense1 500Assume the equipment was sold to an external party at a price of $100,000. At the date of sale, the equipment was carried at $90,000 – 9,000 x 2.5 = $67,500 and thus a gain of $32,500 was recognized in the subsidiary’s books.If this intra-group transfer didn’t happen, the equipment would be carried at $60,000 – 6,000 x 2.5 = $45,000 and thus a gain of $55,000 should be recognized at the group level.ParentSubsidiaryTotalRecordedGroupAdjustmentEquipment, Cost00000Accumulated Depreciation 00000Gain on Sale of Equipment032,50032,50055,000CR 22,500Depreciation Expense04,5004,5003,000CR 1,500Retained Earnings - openingDR 30,000CR 3,000CR 3,0000Net DR 24,0000DR 24,000~~ End of Chapter 22 ~~
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