Advanced Accounting, Fourth Edition

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Elimination of UnrealizedElimination of UnrealizedGains or Losses onGains or Losses onIntercompany Sales ofIntercompany Sales ofProperty and EquipmentProperty and Equipment

Advanced Accounting, Fourth Edition

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Intercompany Sales of Nondepreciable Intercompany Sales of Nondepreciable PropertyProperty

LO 1 Financial reporting objectives nondepreciable property.LO 1 Financial reporting objectives nondepreciable property.

When there have been intercompany sales of nondepreciable property, workpaper entries are necessary to:

Include gains or losses on the sale in consolidated net income only at the time such property is sold to parties outside the affiliated group and in an amount equal to the difference between the cost of the property to the affiliated group and the proceeds received from outsiders.

Present nondepreciable property in the consolidated balance sheet at its cost to the affiliated group.

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E7-4 (variation): Procter Company owns 90% of the outstanding stock of Silex Company. On January 1, 2011, Silex Company sold land to Procter Company for $350,000. Silex had originally purchased the land on June 30, 2007, for $200,000.

Procter Company plans to construct a building on the land bought from Silex in which it will house new production machinery. The estimated useful life of the building and the new machinery is 15 years.

Upstream Sale

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E7-4 (variation): Entries made on the books of each affiliate to record this intercompany sale in 2011.



Entry on Books of SilexCash 350,000

Land 200,000

Gain on sale150,000

Entry on Books of ProcterLand 350,000

Cash 350,000

Additional Entry for Complete Equity Method: Proctor Only

Equity in income135,000Investment in Silex 135,000

To reduce its income from subsidiary by its share of the intercompany gain ($150,000 x 90%).

Note: No further entries are recorded on the books of Procter until the land is sold to outsiders.

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E7-4: B(1). Prepare the workpaper entries necessary because of the intercompany sale of land for the year ended December 31, 2011.

Gain on Sale of Land 150,000

Land ($350,000 - $200,000) 150,000



To eliminate the $150,000 gain reported by Silex Company and to reduce the land balance from the $350,000 recorded on the books of Procter to its $200,000 cost to the affiliated group.

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E7-4: B(2). Prepare the workpaper entries for the year ended December 31, 2012.

Cost Method and Partial Equity MethodBeg. Retained Earnings – Procter (90%) 135,000Noncontrolling Interest (10%) 15,000

Land 150,000



Complete Equity MethodInvestment in Silex Company (90%) 135,000Noncontrolling Interest (10%) 15,000

Land 150,000

Upstream Sale

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E7-6: P Company owns 90% of the outstanding common stock of S Company. On January 1, 2011, S Company sold land to P Company for $600,000. S Company originally purchased the land for $400,000.On January 1, 2012, P Company sold the land purchased from S Company to a company outside the affiliated group for $700,000.

Required:

A. Calculate the amount of gain on the sale of the land that is recognized on the books of P Company in 2012.



Sales to Outsiders

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Selling price to third party $ 700,000Cost of land to P Company 600,000Gain recognized by P Company $ 100,000

E7-6: A. Calculate the gain on the sale of the land that is recognized on the books of P Company in 2012.



B. Calculate the gain that should be recognized in the consolidated statements in 2012.

Selling price to third party $ 700,000Cost of land to affiliate group 400,000Gain recognized in consolidation $ 300,000

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E7-6: C. Prepare the workpaper entries for the year ended December 31, 2012.Cost Method and Partial Equity Method

Beg. Retained Earnings – Procter (90%) 180,000Noncontrolling Interest (10%) 20,000

Gain on Sale of Land 200,000 *



Complete Equity MethodInvestment in Silex Company (90%) 180,000Noncontrolling Interest (10%) 20,000

Gain on Sale of Land 200,000 ** Gain recognized in consolidation less gain recognized by P Company

($300,000 - $100,000 = $200,000).

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A firm may sell property or equipment to an affiliate for a price that differs from its book value.From the view of the consolidated entity, the intercompany gain (loss) is considered to be realized from the use of the property or equipment in the generation of revenue. The use is measured by depreciation adjustments.

Intercompany Sales of Depreciable Intercompany Sales of Depreciable PropertyProperty(Machinery, Equipment, and Buildings)(Machinery, Equipment, and Buildings)Realization through Usage

LO 4 Intercompany gain realized through usage.LO 4 Intercompany gain realized through usage.

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P7-1 (Cost or Partial Equity): Powell Company owns 80% of the outstanding common stock of Sullivan Company. On June 30, 2011, Sullivan Company sold equipment to Powell Company for $500,000. The equipment cost Sullivan Company $780,000 and had accumulated depreciation of $400,000 on the date of the sale. The management of Powell Company estimated that the equipment had a remaining useful life of four years from June 30, 2011. In 2012, Powell Company reported $300,000 and Sullivan Company reported $200,000 in net income from their independent operations (including sales to affiliates but excluding dividend or equity income from subsidiary).

Intercompany Sales of Depreciable Intercompany Sales of Depreciable PropertyProperty

LO 6 Subsidiary vs. parent as the seller.LO 6 Subsidiary vs. parent as the seller.

Upstream Sale

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Powell CompanyEquipment 500,000

Cash 500,000

Sullivan CompanyCash 500,000Accumulated Depreciation 400,000

Equipment 780,000Gain on Sale of Equipment 120,000

P7-1: Entries on the books of Powell and Sullivan to record the intercompany sale are:



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Equipment 280,000Gain on Sale of Equipment 120,000

Accumulated Depreciation 400,000To eliminate the intercompany gain and restore equipment to its original cost to the consolidated entity.

Intercompany Sales of Depreciable Intercompany Sales of Depreciable PropertyPropertyP7-1: A. Prepare the workpaper entries necessary because of the sale of equipment for the year ended December 31, 2011.Accumulated Carrying Depreciation

Cost Depreciation Value Life ExpenseOriginal Cost 780,000$ 400,000$ 380,000$ 4 yr 95,000$ Selling Price 500,000 500,000 4 yr 125,000 Diff erence 280,000$ 400,000$ (120,000)$ (30,000)$


2011

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Accumulated Depreciation - Equipment 15,000Depreciation Expense ($30,000/2) 15,000

To adjust depreciation expense to the correct amount to the consolidated entity, thus realizing a portion of the gain through usage.

Intercompany Sales of Depreciable Intercompany Sales of Depreciable PropertyPropertyP7-1: A. Prepare the workpaper entries necessary because of the sale of equipment for the year ended December 31, 2011.Accumulated Carrying Depreciation



2011

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P7-1: A. Prepare the workpaper entries necessary because of the sale of equipment for the year ended December 31, 2012.Accumulated Carrying Depreciation


Equipment (to original cost) 280,000Beg. Retained Earnings - Powell ($120,000 x80%)96,000Noncontrolling Interest ($120,000 x 20%) 24,000

Accumulated Depreciation - Equipment 400,000 To eliminate prior period intercompany gain and restore equipment to its original cost to the consolidated entity.


LO 7 Computing the noncontrolling interest.LO 7 Computing the noncontrolling interest.

2012

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P7-1: A. Prepare the workpaper entries necessary because of the sale of equipment for the year ended December 31, 2012.Accumulated Carrying Depreciation


Accumulated Depreciation - Equipment 45,000Depreciation Expense ($120,000/4) 30,000Beg. Retained Earnings – Powell ($15,000 x 80%) 12,000Noncontrolling Interest ($15,000 x 20%) 3,000

To adjust depreciation for the current and prior year on equipment sold to affiliate.



2012

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P7-1 (variation): For the Compete Equity Method, the 2012 workpaper entries would have changed as follows:Equipment (to original cost) 280,000Investment in Sullivan ($120,000 x80%) 96,000Noncontrolling Interest ($120,000 x 20%) 24,000

Accumulated Depreciation - Equipment 400,000



Accumulated Depreciation - Equipment 45,000Depreciation Expense ($120,000/4) 30,000Investment in Sullivan ($15,000 x 80%) 12,000Noncontrolling Interest ($15,000 x 20%) 3,000

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P7-1 (variation): If this had been a Downstream sale, the 2012 entries would have changed as follows:

Cost or Partial EquityNoncontrolling interest of 20% would be included in Beginning Retained Earnings of Powell Company.



Complete Equity MethodNoncontrolling interest of 20% would be included in Investment in Sullivan.

There is no differentiation between Controlling interest and Noncontrolling interest with Downstream

Intercompany Sales.

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P7-6 (Cost Method): Pitts Company owns 80% of the common stock of Shannon Company. The stock was purchased for $960,000 on January 1, 2009, when Shannon Company’s retained earnings were $675,000. On January 1, 2011, Shannon Company sold fixed assets to Pitts Company for $960,000; Shannon Company had purchased these assets for $1,350,000 on January 1, 2001, at which time their estimated useful life was 25 years. The estimated remaining useful life to Pitts Company on 1/1/11 is 10 years. Both companies employ the straight-line method of depreciation.Required: A. Prepare a consolidated statements workpaper for the year ended December 31, 2012.


LO 6 Workpaper entries-upstream sales.LO 6 Workpaper entries-upstream sales.

Year Subsequent to Intercompany SaleUpstream Sale

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Income and expenses relating to interest, fees, and rents should be reported in consolidation only when they arise from transactions with parties outside the affiliated group.

Intercompany Interest, Rents, and Intercompany Interest, Rents, and Service FeesService Fees

LO 10 Intercompany interest, rents, service fees.LO 10 Intercompany interest, rents, service fees.

Workpaper entry to eliminate intercompany interest:Interest Income XXX

Interest Expense XXX

Workpaper entry to eliminate intercompany payables and receivables:

Notes Payable XXXNotes Receivable XXX

Interest Payable XXXInterest Receivable XXX

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Intercompany Interest, Rents, and Intercompany Interest, Rents, and Service FeesService Fees

LO 10 Intercompany interest, rents, service fees.LO 10 Intercompany interest, rents, service fees.

Workpaper entry to eliminate intercompany rent:Rent Income XXX

Rent Expense XXX

When one affiliate charges fees to another, the form of the eliminating entry is determined by how the transaction is recorded by the affiliates.

Intercompany Service Fees

Advanced Accounting, Fourth Edition

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