Advance Key Ch.6 Floyd

Chapter 6

INTERCOMPANY PROFIT TRANSACTIONS — PLANT ASSETS

Answers to Questions

1 The objective of eliminating the effects of intercompany sales of plant assets is to reflect plant assets and related depreciation amounts in the consolidated financial statements at cost to the consolidated entity.

2 Consolidation procedures for eliminating unrealized profit on plant assets are affected by the direction of the sale. The full amount of unrealized profit or loss on downstream sales (parent to subsidiary) is charged or credited to the majority interest. In the case of upstream sales, however, unrealized profit or loss is allocated between majority and minority interests. Because there is no allocation to minority interests in the case of a 100 percent owned subsidiary, consolidation procedures are the same for upstream sales as for downstream sales.

3 Unrealized gains and losses from intercompany sales of land are realized from the viewpoint of the selling affiliate when the purchasing affiliate resells the land to parties outside the consolidated entity. This is also the point at which the consolidated entity recognizes gain or loss on the difference between the selling price to outside parties and the cost to the consolidated entity.

4 Minority interest expense is not affected by downstream sales of land because the realized income of the subsidiary is not affected by downstream sales. In the case of upstream sales of land, the reported income of the subsidiary is adjusted downward for unrealized profits and upward for unrealized losses to determine realized income. Since minority interest expense is computed on the basis of realized subsidiary income, the computation of minority interest expense is affected by upstream sales of land.

5 Consolidation procedures are designed to eliminate 100 percent of all unrealized profit or loss on all intercompany transactions. The issue is not whether 100 percent of the unrealized profit or loss is eliminated,...