Question

Consolidated financial statements, rationale for                                                                   adjustments

Lead beaters Ltd acquired all the issued shares (cum div.) of Possum Ltd on 1 July 2014. At this

date the shareholders’ equity of Possum Ltd was:

Share capital – 100 000 shares General reserve Asset revaluation surplus Retained earnings

$

450 000 45 000 45 000 15 000

   At 1 July 2014, the accounting records of Possum Ltd contained a dividend payable of $15 000.

This dividend was paid in August 2014. All the identifiable assets and liabilities at acquisition

date were recorded at amounts equal to their fair values except for:

	Carrying amount	Fair value
Plant (cost $290 000)	$220 000	$227 500
Inventory	160 000	175 000

   The plant was considered to have a further 4-year life. It was sold on 1 January 2017 for

$118 000. The inventory was all sold by 30 June 2015. Possum Ltd did not record a contingent

liability relating to a lawsuit by a customer for faulty goods. Possum Ltd considered this liability

had a fair value of $18 000. The lawsuit was settled in May 2015 when Possum Ltd was required

to pay damages of $20 000.

Additional information

(a) On 1 July 2015, Lead beaters Ltd sold plant to Possum Ltd at a before-tax profit of $6000.

       This class of non-current asset is depreciated at 25% p.a. on cost by Lead beaters Ltd while

       Possum Ltd uses a rate of 10% p.a. on cost.

(b) In June 2016 Possum Ltd sold $50 000 worth of inventory to Lead beaters Ltd at a before-tax profit of $5400. At 30 June 2017, inventory on which Possum Ltd had made a profit of $750 on sale to Lead beaters Ltd was still on hand.

(c) On 10 February 2017, Possum Ltd used the whole of the general reserve existing at 1 July

       2014 to pay a bonus dividend of three shares for every ten held.

(d) Both Lead beaters Ltd and Possum Ltd use the valuation method to measure land. In June

       2017, Leadbeaters Ltd recorded revaluation increases of $15 000 while Possum Ltd recorded increases of $12 000.

(e) The tax rate is 30%.

Financial information provided by the companies at 30 June 2017 was as follows:

	Lead beaters Ltd	Possum Ltd
Plant	$  558 750	$  318 000
Accumulated depreciation – plant	(318 000)	(165 000)
Land	531 300	397 500
Shares in Possum Ltd	580 000	—
Inventory	280 000	240 000
Receivables	43 500	22 500
Cash	37 500	15 000
Total assets	$1 713 050	$  828 000
Dividend payable	15 000	6 000
Other current liabilities	52 050	60 000
Loans	150 000	60 000
Total liabilities	$  217 050	$  126 000
Share capital	$1 200 000	$495 000
Asset revaluation surplus	225 000	120 000
Retained earnings (1/7/16)	22 500	18 000
Revenues	162 000	210 000
Expenses	(48 000)	(80 000)
Gains/(losses) on sale of non-current assets	6 000	5 000
Tax expense	(52 500)	(60 000)
Dividend declared	(15 000)	(6 000)
Total equity	$1 500 000	$  702 000

Required

Prepare the consolidated financial statements for Lead Beaters Ltd at 30 June 2017.

Show the following

• acquisition analysis (8 marks),
• consolidation journals (8 marks)
• worksheet entries (5 marks).
• Explain the rationale of intragroup transactions for (a) and (b) above. (4 marks)
• Presentation and referencing (5 marks)

Answer 1

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B. Retained earnings: This is a prior period transaction. As there were no external parties to the group involved in this transaction, the prior period profit is unrealised to the group. Hence, retained earnings (1/7/16) must be reduced by $4 200 (profit after tax) Plant: The plant is still held by Possum Ltd at 30 June 2017 and recorded at $6 000 more than the cost to the group. As the asset is reported in the consolidated financial statements at cost to the group, plant must be reduced by $6 000 Deferred tax asset: A change in the carrying amount of the asset causes a temporary difference between the carrying amount and the tax base of the asset. As the carrying amount is reduced, a deferred tax asset of $1 800 (30% x $6 000) is raised Depreciation expense and accumulated depreciation: The asset is depreciated by Possum Ltd based on the price paid to Leadbeaters Ltd which includes the unrealised profit of $6 000. Depreciation for the group should be based on cost to the group which means depreciation p.a. must be reduced by $600 (10% x $6 000). A reduction to prior period depreciation, via retained earnings of $600, and a reduction in current depreciation expense of $600. This means a reduction to accumulated depreciation of $1200 Deferred tax asset and income tax expense: As changes to accumulated depreciation change the carrying amount of the asset, there is a tax-effect to be considered. The deferred tax asset raised in relation to the sale of the asset within the group is reversed as the asset is depreciated. Hence, there is an overall reversal of $360, being 30% x $1200, being the change to accumulated depreciation with resultant effects on tax expense both in the current period and prior period of $180 (30% x $600) Retained earnings: This is a prior period transaction. In the previous period, Possum Ltd recorded a $750 before-tax profit, or a $525 after-tax profit on sale of inventory still held within the group at 30/6/16. Because the sale did not involve external entities, the pro must be eliminated on consolidation. Any profit on sale of other inventory now sold to external entities does not require any adjustment on consolidation as the profits on the sale are realised by the group. Inventory: At 30 June 2017, Leadbeaters Ltd still has the inventory on hand from intragroup transactions in the prior period and records them at cost which includes an unrealised profit of $750 The cost of this inventory to the group is $750 less than the amount recorded by the legal entity; hence inventory is then reduced by $750 Deferred tax asset/income tax expense: A change in the carrying amount of the asset inventory causes a temporary difference between the carrying amount and the tax base of the asset. As the carrying amount is reduced, a deferred tax asset of $225 (30% x $750) is raised