Question

Intragroup Transaction from previous period

I have the following problem to solve and I'm a bit confused as there's no identified Cost of Sales but I may not need that?

3. On 30 June 2018, 20% of Island Engineering Ltd's inventory was sold to Eno Advanced Manufacturing Ltd at a profit of $35 000. All of this inventory had been sold to external entities by 30 June 2019. On 1 July 2017, Eno Advanced Manufacturing Ltd acquired 70 per cent of the share capital of Island Engineering Ltd The Australian income tax rate is 30%. Balance sheet worksheet DATA As at 30 June 2019 AUD AUD Eno Advanced Manufacturing Ltd Island Engineering Ltd 22,000 317,850 650,400 8,500 Assets Cash at Bank Receivables Inventory Other current assets Advance - Allan Design Pty Ltd Deferred Tax Asset Shares in Island Engineering Ltd Shares in Cloud Press (NZ) Ltd Shares in Allan Design Pty Ltd Patent Plant Accumulated Depreciation Furniture Accumulated Depreciation Buildings Accumulated Depreciation Land Total Assets 123,000 280,000 865,150 25,000 50,000 65,220 1,200,000 420,000 800,000 123,000 620,000 180,000 90,000 20,000 1,345,000 287,000 600,000 630,000 360,000 45,000 13,000 665,000 2,688,750 5,396,370

I recognise that the transaction between the groups falls into the previous period so therefore profit is included in Retained Profits as at 1/7/2018.

Would the consolidated entries be a Debit to Retained Profits of $35,000 minus 30% tax?
Such as:
Dr Retained profits (1/7/2018) 24,500
Dr Income tax expense 10,500
Cr Cost of Sales 35,000

Hmm doesn't seem right to me.

Answer 1

Hi Sir,

As the transfer had happened on 30 June, 2018, these inventory would be lying in the closing stock of Eno as on 30 June, 2018. As they have mentioned, the transfer has happened at a profit of $35,000, the said amount will have to be reversed by Eno upon consolidation of the financial statements.

While consolidating, the holding company need to reduce the value of inventory to the extend of profit carried on it as well as reduce the unrealised profits. This unrealised profit made by the selling company is to be eliminated at the time of preparing a Consolidated Balance Sheet since such profit is true from the individual point of view but not from the view of a group. While consolidating, the company need to look at these transactions from a group point of view and only such profits shall be recorded which the group has actually realised from its operations.

The following principles should be followed for the purpose: (i) Ascertain the amount of profit on unsold stock supplied by the company in the group; (ii) Share of minority interest should be deducted from such unrealised profit so calculated, and

(iii) The balance of unrealised profit (i.e., Molding Company's share or after deducting minority interest) is to be deducted from the profit of the company who is selling the goods and from the books of the company receiving those goods as well. In short, holding company's share of unrealised profit should be deducted from the Consolidated Stock in the assets side of the Consolidated Balance Sheet and the same amount should also be deducted from the Profit and Loss Account in the Consolidated Balance Sheet. There are some authorities who prefer to eliminate the whole of such unrealised profit in all cases since it represents the original cost of the asset in the group. Similarly, unrealised profit on fixed assets (i.e., if one company transfers a fixed asset at a profit to an another company in the group) should also be adjusted. However, As per AS 21, Clause 16, Consolidated Financial Statements, Unrealised Profit must be deducted in full. However, the elimination of inter-company profits is made only so long as such asset is held. On the disposal of the asset, the profit is treated for consolidation purposes as a realised profit.

Therefore, in the given question, as on 30 June, 2018, Inventory value is to be reduced to the extend of $35,000 and unrealised profits to the extend of $35,000.

Journal Entries:

(i) To remove unrealised profits at the end of June 30, 2018:

COGS - Closing Inventory a/c Dr. : $ 35,000
Inventory a/c :   $ 35,000

Once this entry is passed, the unrealised profit in both the accounts will be eliminated.

As they have mentioned that all stocks are sold in 2018-19 year, no additional entries need to be passed during 2019.