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Chapter 29

Further consolidation issues I: Accounting for intra-group


transactions

29.1

Intragroup transactions are transactions undertaken between the separate legal entities
(subsidiaries and the parent entity) comprising an economic entity (the group). We need to
know about them because there is a requirement that on consolidation the effects of all
intragroup transactions must be eliminated in full and this applies even if the subsidiary is
not 100 percent owned. Specifically, Paragraph 29 of AASB 127 stipulates that: Intragroup
balances, transactions, income and expenses shall be eliminated in full.

29.2

An intragroup inventory transaction will require us to perform a consolidation adjustment to


tax expense when the related profits are unrealised from the perspective of the economic
entity (the profits can be considered to be realised if the related assets have been sold by the
economic entity). Although unrealised profits (for example, where a subsidiary sells inventory
to the parent entity at a profit, but the parent entity still holds the inventory at year end) are
eliminated from the consolidated accounts, from the perspective of the separate individual
legal entity the profits have been earned, leading to a liability for taxation. The economic
entity does not necessarily pay tax on a collective basis if the group has not notified the Tax
Office that it wants to be treated as a tax consolidated entity. If the companies have not
notified the Tax Office that they want to be treated as a single entity for tax purposes and
this is the maintained assumption throughout this text - then the individual legal entities pay
tax on their own account. From the groups perspective, an amount of profit related to the
sale has not been realised and should not be included in the economic entitys profits until
such time as a sale has been made to an entity that is not part of the group. Therefore, if tax
has been paid by one of the separate legal entities, from the groups perspective this
represents a prepayment of tax (a deferred tax asset), as this income will not be earned by the
economic entity until the inventory is sold outside the group.

29.3

The only dividends that should be shown as paid, declared, payable or receivable in the
consolidated financial statements are dividends that are paid or payable to entities outside of
the group. Intragroup dividends are not to be included as part of dividends paid or payable.

29.4

They would be treated as a return of part of the investment in the subsidiary. Consequently,
the amount received out of pre-acquisition profits of the subsidiary would be credited to the
investment account.

29.5

There would be no effect on the amount of goodwill recognised. The payment out of preacquisition reserves will reduce the carrying value of the investment, and the pre-acquisition
capital and reserves by the same amount.

29.6

AASB 127 requires that, in preparing consolidated accounts, the effects of all transactions
between entities within the economic entity shall be eliminated in full. This is the case if a
subsidiary is 100 percent owned, or 80 percent owned.

29.7

(a)

The only revenue that should be shown in the consolidated financial statements of the
economic entity is the revenue that relates to sales external to the entity. In this case,
the sales revenue for the financial year from the economic entitys perspective would
be $180 000, as shown diagrammatically below.

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(b)

Inventory must be valued at the lower of cost and net-realisable value. From the
economic entitys perspective, the inventory cost $100 000 to produce. As half of this
inventory is on hand at reporting date, the value of inventory for the purposes of the
consolidated financial statements is $50 000.

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29.8
Income statement
Profit before tax
Tax
Profit after tax
Opening retained earnings
Less: dividends proposed
Balance sheet
Shareholders funds
Retained profits
Share capital
Liabilities
Accounts payable
Dividends payable
Assets
Cash
Accounts receivable
Dividends receivable
Inventory
Plant and equipment
Investment in Small
Company

Eliminations and
adjustments
Dr
Cr

Big
Company

Small
Company

Consolidated
Statement

500
125
375
1 000
1 375
175

250
100
150
750
900
125

1 200
1 250

775
1 250

2 500
175
5 125

250
125
2 400

250
125
250
375
2 125

175
325

400
1 500

1253

425
450
125
775
3 625

2 000
5 125

2 400

2 0001
2 250

5 400

1252

625
225

7501

1 000
1 400
175

1252

1 250

1 225
1 250

2 750
175
5 400

1253

2 250

Consolidation adjustments
1.

Dr
Dr
Cr

Share capital
Retained earnings
Investment in Small Company

1 250
750
2 000

To eliminate investment in Small Company


2.

Dr
Cr

Profit before tax


Dividend proposed

125
125

To eliminate inter-company dividend income


3.

Dr
Cr

Dividend payable
Dividend receivable

125
125

To eliminate inter-company receivable/payable. It is assumed that there are dividends


receivable from other entities that were not controlled and were sold prior to reporting date
that is why there is still a balance of $125 in dividends receivable in the consolidated
balance sheet.
29.9

2009 Consolidation entries

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Dr
Dr
Cr

Profit on sale of non-current assets


Plant
Accumulated depreciation

900 000
900 000
1 800 000

To reverse the profit that would have been recorded in Bernie Ltds accounts [$3 600 000
($4 500 000 $1 800 000)], and to reinstate accumulated depreciation so that the accounts
will reflect the balances that would have been in place if the inter-entity sale did not occur.
Dr
Cr

Deferred tax asset


Income tax expense

297 000
297 000

Bernie Ltd would have recorded a related tax expense of $900 000 33%. From the
economic entitys perspective, no gain has been made and hence the tax expense is reversed.
Dr
Cr

Accumulated depreciation
Depreciation expense

75 000
75 000

Computer Ltd would be depreciating the asset by $3 600 000/12 = $300 000. From the
economic entitys perspective, the depreciation should be $2 700 000/12 = $225 000.
Dr
Cr

Income tax expense


Deferred tax asset

24 750
24 750

Increase in tax expense due to the reduction in depreciation expense. Additional tax expense
= 75 000 33%). This entry represents a partial reversal of the deferred tax asset of
$297 000 recognised in the earlier entry. After 12 periods, the balance of the deferred tax
asset related to the sale of the non-current asset will be $nil.
2010 consolidation entries
Dr
Dr
Dr
Cr

Retained earnings
Deferred tax asset
Plant
Accumulated depreciation

603 000
297 000
900 000
1 800 000

The debit to retained earnings = the gain on sale (1 tax rate) = $900 000 0.67.
Dr
Cr
Cr

Accumulated depreciation
Retained earnings
Depreciation expense

150 000
75 000
75 000

Depreciation adjustment for the current and prior period.


Dr
Dr
Cr

Retained earnings
Income tax expense
Deferred tax asset

24 750
24 750
49 500

Tax effects of this periods and last periods depreciation adjustments. Each decrease of
$75 000 in depreciation leads to an increase in accounting income of $75 000 and an
associated increase in income tax expense of $24 750 ($75 000 33%) with the adoption of
tax-effect accounting.
29.10

Eliminations and

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Income statement
Profit before tax
Tax
Profit after tax
Opening retained earnings
Less: dividends proposed
Balance sheet
Shareholders funds
Retained earnings
Share capital
Liabilities
Accounts payable
Dividends payable
Assets
Cash
Accounts receivable
Dividends receivable
Inventory
Plant and equipment
Investment in Smaller
Company
Goodwill

Bigger
Company

Smaller
Company

adjustments
Dr
Cr

Consolidated
Statement

500

500

125
375
4 000
4 375
175

200
300
1 500
1 800
250

4 200
1 250

1 550
2 500

2 500
175
8 125

500
250
4 800

250
125
250
375
2 125

350
650

800
3 000

2503

600
775

1 175
5 125

5 000

8 125

4 800

5 0001
504
5 550

950
8 625

2502
504

700

1 5001
2502

2 500

4 200
1 250

3 000
175
8 625

2503

1 0001
5 550

325
375
4 000
4 375
175

Consolidation adjustments
1.

Dr
Dr
Dr
Cr

Share capital
Retained earnings
Goodwill
Investment in Smaller Company

2 500
1 500
1 000
5 000

To eliminate investment in Smaller Company.

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2.

Dr
Cr

Profit before tax


Dividend proposed

250
250

To eliminate inter-company dividend income.


3.

Dr
Cr

Dividend payable
Dividend receivable

250
250

To eliminate inter-company receivable/payable.


4.

Dr
Cr

Goodwill impairment loss


Goodwill

50
50

To recognise goodwill impairment expense. (NOTE: the question should say that the
impairment loss is $50 and not $5000.)
29.11
Current assets
Cash
Accounts receivable
Non-current assets
Plant
Investment in Midget Ltd
Goodwill
Current liabilities
Accounts payable
Non-current liabilities
Loans
Shareholders equity
Share capital
Retained earnings

Eliminations and
adjustments
Dr
Cr

Nat
Company

Midget
Company

Consolidated
statement

60
900

45
135

105
1 035

4 440
1 500

6 900

1 800

1 980

6 240

300

90

390

2 400

540

2 940

3 000
1 200
6 900

600
750
1 980

1500
150

600
750
1 500

150
7 530

______

1 500

3 000
1 200
7 530

Consolidation adjustments
In this question there has been a payment of a dividend by the subsidiary out of preacquisition earnings. The dividend has not been recognised in the accounts of Nat or Midget
as at 30 June 2009. The payment of a dividend out of pre-acquisition earnings will have no
impact on goodwill as there will be a corresponding decrease in the cost of the investment,
and the share of pre-acquisition capital and reserves of the subsidiary. For example, without
the dividend the investment would be recorded at $1.5 million and the pre-acquisition capital
and reserves would be $1.35m, giving goodwill of $150,000. After the dividend, the
investment will be reduced by the amount of the dividend from pre-acquisition reserves, and
the pre-acquisition reserves of Midget will be decreased. Goodwill will still be $150,000 and
will be the calculated as $900,000 less $$750,000 (which is the share capital of $600,000
plus the remaining retained earnings of $150,000).
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At this point in time there is no need to make an adjustment for the dividend paid after the
time the 30 June 2009 accounts were prepared.
Dr
Dr
Dr
Cr

Share capital
Retained earnings
Goodwill
Investment in Midget Ltd

600
750
150
1,500

29.12

Income statement
Sales revenue
Less: cost of goods sold
Less: other expenses
Other revenue
Profit
Tax expense
Profit after tax
Retained earnings
30 June 2004
Dividends paid
Balance sheet
Shareholders equity
Retained earnings
30 June 2005
Share capital
Current liabilities
Accounts payable
Non-current liabilities
Loans

Eliminations and
adjustments
Dr
Cr
$000
$000

Consolidated
statement

Jacko
Company
$000

Jackson
Company
$000

4 200
(1 750)
(210)
245
2 485
700
1 785

1 400
(490)
(105)
87.5
892.5
350
542.5

7002
1403
356
1405

3 500
5 285
700

1 400
1 942.5
140

1 4001

4 585
14 000

1 802.5
1 750

350

297.5

647.5

2 100
21 035

875
4 725

2 975
22 481.2

875
525
2 100

87.5
612.5
1 050

962.5
1 137.5
3 010

5 040
8 645
3 500
350

21 035

1 400
1 400

175

4 725

700

46.24

1405

$000
4 900
(1 680)
(350)
192.5
3062.5
1003.8
2 058.7
3 500
5 558.7
700

4 858.7
14 000

1 7501

Current assets
Cash
Accounts receivable
Inventory
Non-current assets
Land
Plant
Investment in Jackson Ltd
Deferred tax asset
Goodwill

1403

3 5001
46.24
3501
4 561.2

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4 561.2

6 440
10 045

571.2
315
22 481.2
297

Consolidation adjustments
1.

Dr
Dr
Dr
Cr

Share capital
Retained earnings
Goodwill
Investment in Jackson

1 750 000
1 400 000
350 000
3 500 000

To eliminate the investment in Jackson Ltd.


2.

Dr
Cr

Sales revenue
Cost of goods sold

700 000
700 000

To eliminate inter-company transaction.


3.

Dr
Cr

Cost of goods sold


Inventory

140 000
140 000

To eliminate unrealised profit in closing inventory.


140 000 = (700 000 420 000) 0.5. From the economic entitys perspective the cost of
goods sold should be the cost to the entity of producing the goods that were sold externally,
and this would be $210 000 (half of $420 000). The total cost of goods sold in the separate
accounts of the legal entities would be $770 000, which would be represented by $420 000 in
the accounts of Jackson, and $350 000 in the accounts of Jacko. Hence, on consolidation we
need to reduce cost of goods sold by $560 000 (which is $770 000 less $210 000). The
above two journal entries provide this net result.
4.

Dr
Cr

Deferred tax asset


Income tax expense

46 200
46 200

To adjust tax expense by the unrealised profit.


46 200 = 140 000 33%.
5.

Dr
Cr

Dividend revenue
Dividend paid

140 000
140 000

To eliminate dividend paid by Jackson to Jacko.


6.

Dr
Cr

Goodwill impairment loss


Goodwill

35 000
35 000

Goodwill impairment loss recognised for the year.

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10.13 Please note, in the first print run of the 5th Edition of this text there was an error in the
question as the Dividends paid by the 100 percent owned subsidiary (Irons Ltd) does not
equal the Dividends received from Irons Ltd in the accounts of Andy Ltd (the parent entity).
Obviously these two amounts should be the same. Apologies for this. Before commencing
this question please make the following changes in the accounts of Andy Ltd. Please change
Dividends received from Irons Ltd to $116 250 (from $93 000), and please change Sales
revenue in the accounts of Andy Ltd to $839 250 (from $862,500). This mistake was fixed in
subsequent print runs of the 5th Edition of the text.
Elimination of the investment in Irons Ltd and the recognition of goodwill on consolidation
Irons Ltd
Share capital at acquisition date - 1 July 2002
Retained earnings at acquisition date - 1 July 2002
Investment in Irons Ltd
Goodwill on consolidation

$
250 000
200 000
450 000
500 000
50 000

As shown above, the net assets of Irons Ltd are $450 000 at acquisition date. As $500 000 is paid
for the investment, the goodwill amounts to $50 000.The consolidation entry to eliminate the
investment is:
(a)Dr
Dr
Dr
Cr

Share capital
Retained earnings
Goodwill
Investment in Irons Ltd

250 000
200 000
50 000
500 000

Elimination of intercompany sales


We need to eliminate the intragroup sales because, from the perspective of the economic entity, no
sales have in fact occurred. This will ensure that we do not overstate the turnover of the economic
entity.
Sale of inventory from Irons Ltd to Andy Ltd

(b)Dr Sales
65 000
Cr Cost of goods sold
65 000
Under the periodic inventory system, the above credit entry would be to purchases, which would
ultimately lead to a reduction in cost of goods sold. (Cost of goods sold equals opening inventory
plus purchases less closing inventory, so any reduction in purchases leads to a reduction in cost of
goods sold.)

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Elimination of the unrealised profit in the closing inventory of Andy Ltd


In this case, the unrealised profit in closing amounts to $7 000. In accordance with AASB 102
Inventories, we must value the inventory at the lower of cost and net realisable value. Therefore
on consolidation we must reduce the value of recorded inventory as the amount shown in the
accounts of Andy Ltd exceeds what the inventory cost the economic entity.
(c)Dr Cost of goods sold
7 000
Cr Inventory
7 000
Under the periodic inventory system, the above debit entry would be to closing inventoryprofit
and loss. We increase cost of goods sold by the unrealised profit in closing inventory because
reducing closing inventory effectively increases cost of goods sold. (Remember, cost of goods
sold equals opening inventory plus purchases less closing inventory.) The effect of the above
entries is to adjust the value of inventory so that it reflects the cost of the inventory to the group.
Consideration of the tax paid or payable on the sale of inventory that is still held within the
group
From the groups perspective, $7 000 has not been earned. However, from Irons Ltds individual
perspective (as a separate legal entity), the full amount of the sale has been earned. This will
attract a tax liability in Irons Ltds accounts of $2100 (30 per cent of $7000). However, from the
groups perspective some of this will represent a prepayment of tax as the full amount has not
been earned by the group even if Irons Ltd is obliged to pay the tax.
(d)
Dr
Deferred tax asset
2 100
Cr Income tax expense
2 100
($7000 x 30 per cent)
Sale of inventory from Andy Ltd to Irons Ltd

During the current financial period Andy Ltd sold inventory to Irons Ltd at a price of $81 250.
The unrealised profit component is $3000.
(e) Dr Sales
81 250
Cr Cost of goods sold
81 250
Elimination of unrealised profits in the closing inventory of Irons Ltd

(f) Dr Cost of goods sold


Cr Inventory
(g)

Dr
Cr Income tax expense
($3 000 x 30 per cent)

3 000
3 000
Deferred tax asset

900
900

Unrealised profit in opening inventory


At the end of the preceding financial year, Andy Ltd had $52 500 of inventory on hand, which had
been purchased from Irons Ltd. The inventory had cost Irons Ltd $43 750 to produce. Assume
that the inventory has been sold to an external party in the current period and is therefore
realised<em>so there is no need to adjust the closing balance of inventory.
(h) Dr Retained earnings - 30 June 2008
Dr Income tax expense
Cr Cost of sales

6 125
2 625
8 750

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Adjustments for intragroup sale of plant

On 1 July 2008 Andy Ltd sold an item of plant to Irons Ltd for $145 000 when its carrying value
in Irons Ltds accounts was $101 250 (cost of $168 750 and accumulated depreciation of $67
500). This item of plant was being depreciated over a further six years from acquisition date, with
no expected residual value.
Reversal of profit recognised on sale of asset and reinstatement of cost and accumulated depreciation

The result of the sale of the item of plant to Irons Ltd is that the profit of $43 750 - the difference
between the sales proceeds of $145 000 and the carrying amount of $101 250 - will be shown in
Andy Ltds financial statements. However, from the economic entitys perspective there has been
no sale and, therefore, no gain on sale given that there has been no transaction with a party
external to the group. The following entry is necessary for the accounts to reflect the balances that
would have applied had the intragroup sale not occurred.
(i) Dr Profit on sale of plant
Dr Plant
Cr Accumulated depreciation

43 750
23 750
67 500

The result of this entry is that the intragroup profit is removed and the asset and accumulated
depreciation accounts revert to reflecting no sales transaction. The profit of $43 750 will be
recognised progressively in the consolidated financial report of the economic entity by
adjustments to the amounts of depreciation charged by Irons Ltd in its accounts. As the service
potential or economic benefits embodied in the asset are consumed, the $43 750 profit will be
progressively recognised from the economic entitys perspective. This is shown in journal entry k.
Effect of tax on profit on sale of item of plant

From Andy Ltds individual perspective it would have made a profit of $43 750 on the sale of the
plant and this gain would have been taxable. At a tax rate of 30 percent, $13 125 would then be
payable by Andy Ltd. However, from the economic entitys perspective, no gain has been made,
which means that the related tax expense must be reversed and a related deferred tax benefit be
recognised. A deferred tax asset is recognised because, from the economic entitys perspective,
the amount paid to the Tax Office represents a prepayment of tax.
(j)Dr Deferred tax asset
Cr Income tax expense

13 125
13 125

Reinstating accumulated depreciation in the balance sheet

Irons Ltd would be depreciating the asset on the basis of the cost it incurred to acquire the asset.
Its depreciation charge would be $145 000 6 = $24 167. From the economic entitys
perspective, the asset had a carrying value of $101 250, which was to be allocated over the next
six years, giving a depreciation charge of $101 250 6 = $ 16 875. An adjustment of $7 292 is
therefore required.
(k)
Dr
Cr Depreciation expense

Accumulated depreciation

7 292
7 292

Consideration of the tax effect of the reduction in depreciation expense

The increase in the tax expense from the perspective of the economic entity is due to the reduction
in the depreciation expense. The additional tax expense is $2 188, which is $7 292 x 30 per cent.
This entry represents a partial reversal of the deferred tax asset of $13 125 recognised in an earlier
entry. After six years the balance of the deferred tax asset relating to the sale of the item of plant
will be $nil.
(l) Dr Income tax expense

2 188

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Cr Deferred tax asset


Impairment of goodwill
(m)Dr Retained earnings
20 000
Dr Impairment loss - goodwill
3 750
Cr Accumulated impairment losses - goodwill

2 188

23 750

Elimination of intragroup transactions - management fees


All of the management fees paid within the group will need to be eliminated on consolidation.
(n)Dr Management fee revenue
33 125
Cr Management fee expense
33 125
Dividends paid
We eliminate dividends paid within the group. Only dividends paid to parties outside the entity
(minority interests and shareholders of the parent entity) are to be shown in the consolidated
accounts.
(o)
Dr
Dividend revenue
116 250
Cr Dividend paid
116 250
We can now post the consolidation journal entries to the consolidation worksheet.

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Eliminations
and adjustments
Andy Ltd
($000)
Detailed reconciliation of opening
and closing retained earnings
Sales revenue
839.25
Cost of goods sold
Gross profit
Other revenue
Dividends received from
Irons Ltd
Management fee revenue
Profit on sale of plant
Expenses
Administrative expenses
Depreciation
Management fee expense
Other expenses

Irons Ltd
($000)

Dr
($000)

725

65(b)
81.25(e)
7(c)
3(f)

(580)

(297.5)

259.25

427.5
-

116.25
33.125
43.75

(38.5)
(30.625)
(126.375)

(48.375)
(71)
(33.125)
(96.25)

256.875

178.75

76.875

52.75

Profit before tax


Tax expense

Cr
($000)

1418
65(b)
81.25(e)
8.75(h)

116.25(o)
33.125(n)
43.75(i)

3.75(m)

Consolidated
statements
($000)

732.5
685.5
-

7.292(k)
33.125(n)

(86.875)
(94.333)
(226.375)
277.917

2.625(h)
2.188 (l)

2.1(d)

118.313

0.9(g)
13.125(j)

Profit for the year

180

126

Retained earnings - 30 June 2008 399.25

299

579.25
(171.75)

425
(116.25)

407.5

308.75

Shareholders equity
Retained earnings
Share capital

407.5
437.5

308.75
250

Current liabilities
Accounts payable
Tax payable

100

57.875
31.25

Dividends paid
Retained earnings-30 June 2009

159.604
200(a)
6.125(h)
20(m)

472.125

116.25(o)

631.729
(171.75)
459.979

Balance sheet

Non-current liabilities
Loans
Current assets
Accounts receivable
Inventory

57.875
131.25

236

145

381

1 181

792 875

1467.604

74.25
115

77.875
36.250

Non-current assets
Deferred tax asset
Land and buildings
Plant at cost
Accumulated depreciation
Investment in Irons Ltd
Goodwill
Accumulated amortisation

459.979
437.5

250(a)

198.75
400
(107)
500

407.5
444.75
(173.5)

1 181

792.875

7(c)
3(f)
2.1(d)
0.9(g)
13.125(j)
23.75(i)
7.292(k)
50(a)
931.23

152.125
141.25

2.188(l)

13.937

67.5(i)
500(a)
23.75(m)

606.25
868.5
(340.708)
50
(23.75)

931.23

1467.604

The next step would be to present the consolidated financial statements. A suggested format for the
consolidated accounts would be as follows (prior year comparatives for the accounts of the parent
entity, both of which would be required in practice, have not been provided):

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Consolidated income statement of Andy Ltd and its subsidiaries


for the year ended 30 June 2010
$
Sales 1 418 000
Cost of good sold
Gross profit
Administrative expenses
Depreciation
Other expenses
Profit before income tax expense
Income tax expense
Profit after income tax expense

732 500
685 500
(86 875)
(94 333)
(226 375)
277 917
118 313
159 604
Consolidated balance sheet of Andy Ltd and its subsidiaries
as at 30 June 2009
$

Current assets
Accounts receivable
Inventory

152 125
141 250
293 375

Non-current assets
Land and buildings
Plant
less Accumulated depreciation
Goodwill
less Accumulated impairment loss
Deferred tax asset
Total assets

606 250
868 500
(340 708)
50 000
(23 750)
13 937
1 174 229
1 467 604

Current liabilities
Accounts payable
Tax payable

57 875
131 250
189 125

Non-current liabilities
Loan
Total liabilities

381 000
570 125

Shareholders equity
Share capital
Retained profits - 30 June 2009 (x)
Total shareholders equity
Total equities

437 500
459 979
897 479
1 467 604

Notes to and forming part of the consolidated accounts


Consolidated
$

Note x: Retained profits


Retained profits - 1 July 2008
Profit after income tax
Final dividend
Retained profits - 30 June 2009

472 125
159 604
(171 750)
459 979

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10.14 Please note, in the first print run of the 5th Edition of this text there was an error in the
question as the Dividends paid by the 100 percent owned subsidiary (Parko Ltd) does not
equal the Dividends received from Parko Ltd in the accounts of Joel Ltd (the parent entity).
Obviously these two amounts should be the same. Apologies for this. Before commencing
this question please make the following changes in the accounts of Andy Ltd. Please change
Dividends received from Parko Ltd to $93 000 (from $74 400), and please change Sales
revenue in the accounts of Joel Ltd to $671 400 (from $690 000). This mistake was fixed in
subsequent print runs of the 5th Edition of the text.
Elimination of the investment in Parko Ltd and the recognition of goodwill on consolidation
Parko Ltd
Share capital at acquisition date - 1 July 2004
Retained earnings at acquisition date - 1 July 2004
Investment in Parko Ltd
Surplus on consolidation

$
200 000
180 000
380 000
356 000
24 000

As shown above, the net assets of Parko Ltd are $380 000 at acquisition date. As $356 000 is paid
for the investment, there has been a discount, or excess, on acquisition. Where an entity is acquired
at a discount, paragraph 56 of AASB 3 requires that:
If the acquirers interest in the net fair value of the identifiable assets, liabilities and
contingent liabilities recognised exceeds the cost of the business combination, the
acquirer shall:
(a) reassess the identification and measurement of the acquirees identifiable assets,
liabilities and contingent liabilities and the measurement of the cost of the
combination; and
(b) recognise immediately in profit or loss any excess remaining after that
reassessment.
The above requirement to reassess the value of assets acquired in the business combination is
consistent with an assumption that an excess on acquisition - which in the past has been referred to
as a discount - usually results from measurement errors and seldom constitutes a real gain to the
acquirer. The acquirer should therefore, in the presence of an excess, reassess the fair values of the
identifiable assets, liabilities and contingent liabilities. However, if the excess remains after
reassessing the fair values of both the amount paid for the subsidiary and the net assets acquired, it is
to be recognised immediately as a gain.
(a)Dr Share capital
200 000
Dr Retained earnings
180 000
Dr Gain on acquisition of subsidiary
24 000
Cr Investment in Parko Ltd
356 000
Elimination of intercompany sales
We need to eliminate the intragroup sales because, from the perspective of the economic entity, no sales have in
fact occurred. This will ensure that we do not overstate the turnover of the economic entity.

Sale of inventory from Parko Ltd to Joel Ltd

(b)Dr Sales
50 000
Cr Cost of goods sold
50 000
Under the periodic inventory system, the above credit entry would be to purchases, which would
ultimately lead to a reduction in cost of goods sold. (Cost of goods sold equals opening inventory
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plus purchases less closing inventory, so any reduction in purchases leads to a reduction in cost of
goods sold.)
Elimination of the unrealised profit in the closing inventory of Joel Ltd
In this case, the unrealised profit in closing amounts to $5 000. In accordance with AASB 102
Inventories, we must value the inventory at the lower of cost and net realisable value. Therefore
on consolidation we must reduce the value of recorded inventory as the amount shown in the
accounts of Joel Ltd exceeds what the inventory cost the economic entity.
(c)Dr Cost of goods sold
5 000
Cr Inventory
5 000
Under the periodic inventory system, the above debit entry would be to closing inventory - profit
and loss. We increase cost of goods sold by the unrealised profit in closing inventory because
reducing closing inventory effectively increases cost of goods sold. (Remember, cost of goods
sold equals opening inventory plus purchases less closing inventory.) The effect of the above
entries is to adjust the value of inventory so that it reflects the cost of the inventory to the group.
Consideration of the tax paid or payable on the sale of inventory that is still held within the
group
From the groups perspective, $5000 has not been earned. However, from Parko Ltds individual
perspective (as a separate legal entity), the full amount of the sale has been earned. This will
attract a tax liability in Parko Ltds accounts of $1500 (30 per cent of $5000). However, from the
groups perspective some of this will represent a prepayment of tax as the full amount has not
been earned by the group even if Parko Ltd is obliged to pay the tax.
(d)
Dr
Deferred tax asset
1 500
Cr Income tax expense
1500
($5000 x 30 per cent)
Sale of inventory from Joel Ltd to Parko Ltd

During the current financial period Joel Ltd sold inventory to Parko Ltd at a price of $60 000. The
unrealised profit component is $2000.
(e) Dr Sales
60 000
Cr Cost of goods sold
60 000
Elimination of unrealised profits in the closing inventory of Parko Ltd

(f) Dr Cost of goods sold


Cr Inventory
(g)

Dr
Cr Income tax expense
($2000 x 30 per cent)

2 000
2 000
Deferred tax asset

600
600

Unrealised profit in opening inventory


At the end of the preceding financial year, Joel Ltd had $40 000 of inventory on hand, which had
been purchased from Parko Ltd. The inventory had cost Parko Ltd $30 000 to produce. Assume
that the inventory has been sold to an external party in the current period and is therefore
realised<em>so there is no need to adjust the closing balance of inventory.
(h) Dr Retained earnings - 30 June 2008
Dr Income tax expense
Cr Cost of sales

7 000
3 000
10 000

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Adjustments for intragroup sale of plant

On 1 July 2008 Parko Ltd sold an item of plant to Joel Ltd for $116 000 when its carrying value
in Parko Ltds accounts was $81 000 (cost of $135 000 and accumulated depreciation of $54
000). This item of plant was being depreciated over a further six years from acquisition date, with
no expected residual value.
Reversal of profit recognised on sale of asset and reinstatement of cost and accumulated depreciation

The result of the sale of the item of plant to Joel Ltd is that the profit of $35 000 - the difference
between the sales proceeds of $116 000 and the carrying amount of $81 000 - will be shown in
Parko Ltds financial statements. However, from the economic entitys perspective there has been
no sale and, therefore, no gain on sale given that there has been no transaction with a party
external to the group. The following entry is necessary for the accounts to reflect the balances that
would have applied had the intragroup sale not occurred.
(i) Dr Profit on sale of plant
Dr Plant
Cr Accumulated depreciation

35 000
19 000
54 000

The result of this entry is that the intragroup profit is removed and the asset and accumulated
depreciation accounts revert to reflecting no sales transaction. The profit of $35 000 will be
recognised progressively in the consolidated financial report of the economic entity by
adjustments to the amounts of depreciation charged by Joel Ltd in its accounts. As the service
potential or economic benefits embodied in the asset are consumed, the $35 000 profit will be
progressively recognised from the economic entitys perspective. This is shown in journal entry k.
Effect of tax on profit on sale of item of plant

From Parko Ltds individual perspective it would have made a profit of $35 000 on the sale of the
plant and this gain would have been taxable. At a tax rate of 30 per cent, $10 500 would then be
payable by Parko Ltd. However, from the economic entitys perspective, no gain has been made,
which means that the related tax expense must be reversed and a related deferred tax benefit be
recognised. A deferred tax asset is recognised because, from the economic entitys perspective,
the amount paid to the Tax Office represents a prepayment of tax.
(j) Dr Deferred tax asset
Cr Income tax expense

10 500
10 500

Reinstating accumulated depreciation in the balance sheet

Joel Ltd would be depreciating the asset on the basis of the cost it incurred to acquire the asset. Its
depreciation charge would be $116 000 6 = $19 333. From the economic entitys perspective,
the asset had a carrying value of $81 000, which was to be allocated over the next six years,
giving a depreciation charge of $81 000 6 = $ 13 500. An adjustment of $5 833 is therefore
required.
(k)
Dr
Cr Depreciation expense

Accumulated depreciation

5 833
5 833

Consideration of the tax effect of the reduction in depreciation expense

The increase in the tax expense from the perspective of the economic entity is due to the reduction
in the depreciation expense. The additional tax expense is $1750, which is $5 833 x 30 per cent.
This entry represents a partial reversal of the deferred tax asset of $10 500 recognised in an earlier
entry. After six years the balance of the deferred tax asset relating to the sale of the item of plant
will be $nil.
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(l) Dr Income tax expense


Cr Deferred tax asset

1 750
1 750

Elimination of intragroup transactions - management fees


All of the management fees paid within the group will need to be eliminated on consolidation.
(m) Dr Management fee revenue
26 500
Cr Management fee expense
26 500
Dividends paid
We eliminate dividends paid within the group. Only dividends paid to parties outside the entity
(minority interests) are to be shown in the consolidated accounts.
(n)Dr Dividend revenue
93 000
Cr Dividend paid
93 000
We can now post the consolidation journal entries to the consolidation worksheet.

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Eliminations
and adjustments
Joel Ltd
($000)
Detailed reconciliation of opening
and closing retained earnings
Sales revenue
671.4
Cost of goods sold

Parko Ltd
($000)

Dr
($000)

540

50(b)
60(e)
5(c)
2(f)

(464)

(238)

Gross profit
226
Other revenue
Dividends received from
Parko Ltd
93
Management fee revenue
26.5
Profit on sale of plant
40
Gain on acquisition of subsidiary
Expenses
Administrative expenses
(30.8)
Depreciation
(29.5)
Management fee expense
Other expenses
(101.1)

302
-

Profit before tax


Tax expense

35

93(n)
26.5(m)
35(i)

(38.7)
(56.8)
(26.5)
(72)

205.5

143

61.5

42.2

Cr
($000)

Consolidated
statements
($000)
1101.4

50(b)
60(e)
10(h)

24(a)
5.833(k)
26.5(m)

589
512.4
40
24
(69.5)
(80.467)
(173.1)
253.333

3(h)

1.5(d)

1.75 (l)

0.6(g)

95.85

10.5(j)
Profit for the year

144

100.8

319.4

239.2

463.4
(137.4)

340
(93)

326

247

326
350

247
200

Current liabilities
Accounts payable
Tax payable

54.7
41.3

46.3
25

101
66.3

Non-current liabilities
Loans

173.5

116

289.5

945.5

634.3

1198.483

59.4
92

62.3
29

Retained earnings- 30 June 2008

Dividends paid
Retained earnings- 30 June 2009

157.483
180(a)
7(h)

371.6

93(n)

529.083
(137.4)
391.683

Balance sheet
Shareholders equity
Retained earnings
Share capital

Current assets
Accounts receivable
Inventory
Non-current assets
Deferred tax asset
Land and buildings
Plant at cost
Accumulated depreciation
Investment in Parko Ltd

391.683
350

200(a)

5(c)
2(f)
1.5(d)
0.6(g)
10.5(j)

224
299.85
(85.75)
356

326
355.8
(138.8)

19(i)
5.833(k)

945.5

634.3

700.683

121.7
114

1.75(l)

10.85

54(i)
356(a)

550
674.65
(272.717)
-

700.683

1198.483

The next step would be to present the consolidated financial statements. A suggested format
for the consolidated accounts would be as follows (prior year comparatives for the accounts
of the parent entity, both of which would be required in practice, have not been provided):

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Consolidated income statement of Joel Ltd and its subsidiaries


for the year ended 30 June 2010
$
Sales 1 101 400
Cost of good sold
Gross profit
Profit on sale of plant
Gain on acquisition of subsidiary
Administrative expenses
Depreciation
Other expenses
Profit before income tax expense
Income tax expense
Profit after income tax expense

589 000
512 400
40 000
24 000
(69 500)
(80 467)
(173 100)
253 333
95 850
157 483
Consolidated balance sheet of Joel Ltd and its subsidiaries
as at 30 June 2009
$

Current assets
Accounts receivable
Inventory

121 700
114 000
235 700

Non-current assets
Land and buildings
Plant and equipment
less Accumulated depreciation
Deferred tax asset
Total assets

550 000
674 650
(272 717)
10 850
962 783
1 198 483

Current liabilities
Accounts payable
Tax payable

101 000
66 300
167 300

Non-current liabilities
Loans
Total liabilities

289 500
456 800

Shareholders equity
Share capital
Retained earnings - 30 June 2009 (x)
Total shareholders equity
Total equities

350 000
391 683
741 683
1 198 483

Notes to and forming part of the consolidated accounts


Consolidated
$

Note x: Retained earnings


Retained earnings - 1 July 2008
Profit after income tax
Dividends paid
Retained earnings - 30 June 2009

371 600
157 483
(137 400)
391 683

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