Chapter 20 Consolidation: intragroup transactions Prepared by Mark Vallely,Learning objectives,Explain the need for making adjustments for intragroup transactions (p. 992) Prepare worksheet entries for intragroup transactions involving profits and losses in beginning and ending inventory (p. 994) Prepare worksheet entries for intragroup transactions involving profits and losses on the transfer of property, plant and equipment in both the current and previous periods (p. 1001) Prepare worksheet entries for intragroup transactions involving transfers from inventory to property, plant and equipment and from property, plant and equipment to inventory (p. 1005) Prepare worksheet entries for intragroup services such as management fees (p. 1008) Prepare worksheet entries for intragroup dividends (p. 1009) Prepare worksheet entries for intragroup borrowings (p. 1012).,Introduction,The structure of the group under discussion in this lecture is restricted to one where: There are only two entities within the group The parent owns all the shares of the subsidiary Consolidation involves adding together the financial statements, with two major adjustments BCVR entries and pre-acquisition equity entries (see CH 19) Elimination of intragroup balances and transactions,Rationale for adjusting intragroup transactions,Intragroup transactions Are transactions that occur between entities in the group, such as borrowing / lending money or trading with other Each separate legal entity records such transactions in their accounts The effects of such transactions will be included in the consolidated assets, liabilities, equity, income and expenses when the separate financial statements are added together These transactions must be eliminated on consolidation From a group viewpoint a transaction has not occurred with an entity outside of the group AASB 10 Consolidated Financial Statements requires: The full adjustment for the effects of intragroup transactions Eliminate in full intragroup assets and liabilities, equity, income, expenses and cash flows Adjustments will also be required in future periods,Rationale for adjusting intragroup transactions,AASB 112 Income Taxes applies to temporary differences that arise from the elimination of profits and losses resulting from intragroup transactions (AASB 10 para. B86(c) Where the carrying amount of an asset or liability is adjusted on consolidation the tax effect must be accounted for in the worksheet The combination of the tax-effect entries in the subsidiaries and the tax-effect adjustments on consolidation will account for the temporary difference between The carrying amount as reported by the group and The tax base for the individual entity This book assumes each subsidiary is a tax-paying entity Some countries have a tax consolidation system Under such a scheme, the tax-effect adjustments demonstrated in this chapter would not apply,Sales of inventory The broad effect of intragroup sales and purchases of inventory can be illustrated by reference to the diagram below,Subsidiary,Parent,External supplier sells inventory to the subsidiary for $100 on 1 June 2016,Sells inventory for $150 on 25 June 2016,All inventory still held by the parent at 30 June 2016,Transfers of inventory,Transfers of inventory,Realisation of profits and losses The subsidiary would record sales of $150 and COGS of $100 - recognising a profit of $50 The $50 profit made by the subsidiary is considered to be unrealised at 30 June 2016, as the inventory is yet to be sold to an external party The parent would record inventory of $150 The inventory asset balance reported in the consolidated accounts includes this unrealised profit AASB 10 requires profits /(losses) recognised in assets be fully eliminated To determine how to eliminate the effects of this transaction it is helpful to consider the journal entries that would have been recorded in the subsidiary and parents books respectively,Transfers of inventory,Subsidiary Parent 1 June 2016 DR Inventory 100 CR A/C Payable 100 25 June 2016 DR Cash 150 DR Inventory 150 CR Sales 150 CR Cash 150 DR COGS 100 CR Inventory 100 DR ITE 15 CR CTL 15,Transfers of inventory,Profits in ending inventory inventory still on hand Consolidation journal adjustment (1) is required at 30 June 2016 for the following: DR Sales 150 CR COGS 100 CR Inventory 50 From a consolidated viewpoint, there is NO sale, NO COGS (and therefore no profit). In addition, inventory must be shown at the cost to the group (i.e. $100 not $150),The credit to inventory eliminates in full the unrealised profit on the internal sale of the inventory,Transfers of inventory,Profits in ending inventory inventory still on hand Consolidation journal adjustment (2) is required to recognise the tax effect of decreasing the carrying amount of the inventory asset (to remove the unrealised profit): DR DTA 15 CR ITE 15 From group viewpoint there was NO profit and therefore should be NO tax exp