ACC 618 Exam 2
Retained earnings COGS
Entry G* to recognize previously deferred intra entity upstream inventory gross profit as part of current year net income when the parent uses the equity method
retained earnings Land
Entry GL to eliminate effects of intra entity transfers of land after the first year
retained earnings Gain on sale of land
Entry GL year of sale to outside party
Interest income Interest expense
Entry IE for VIE
Long term debt Loan receivable from VIE
Entry P for VIE
Retained earnings Common Stock Noncontrolling Interest
Entry S for VIE
common stock retained earnings Investment in sub noncontrolling interest
Entry S to eliminate stockholders equity accounts along with recognizing noncontrolling interest
The sales between Barker and Walden totaled $100,000. Regardless of the ownership percentage or the gross profit rate, the $100,000 was simply an intra-entity asset transfer. Thus, within the consolidation process, the entire $100,000 should be eliminated from both the Sales and the Purchases (Inventory) accounts.
Barker company owns 80% of the outstanding stock of Waldon company. During the current year, intra-entity sales amount to $100,000. these transactions were made with a gross profit rate of 40% of the transfer price. In consolidating the two companies, what amount of these sales would be eliminated?
Sales COGS
Entry TI to eliminate effects of intra-entity transfer of inventory
gain on sale of land land
Entry TL to eliminate effects of intra entity transfer of land
patented technology Noncontrolling Interest
Entry A for VIE
Other operating Expenses Patented technology
Entry E for VIE
COGS Inventory
Entry G to remove gross profit in ending inventory created by intra entity sale
Investment in sub COGS
Entry G* to recognize previously deferred intra entity downstream inventory gross profit as part of current year net income when the parent uses the equity method
-the VIEs nature, purpose, size, and activities -the significant judgements and assumptions made by an enterprise in determining whether it must consolidate a VIE and/or disclose information about its involvement in a VIE -the nature of restrictions on a consolidated VIE's assets and on the settlement of its liabilities reported by an enterprise in its statement of financial position, including the carrying amount of such assets and liabilities -the nature of, and changes in, the risks associated with an enterprises involvement with the VIE -How an enterprise's involvement with the VIE affects the enterprise's financial position, financial performance, and cash flows
VIE enhanced disclosure requirements
Because the bonds were purchased from an outside party, the acquisition price is likely to differ from the carrying amount of the debt in the subsidiary's records. This difference creates accounting challenges in handling the intra-entity transaction. From a consolidated perspective, the debt is retired; a gain or loss is reported with no further interest being recorded. In reality, eachcompany continues to maintain these bonds on their individual financial records. Also, because discounts and/or premiums are likely to be present, these account balances as well as the interest income/expense will change from period to period because of amortization. For reporting purposes, all individual accounts must be eliminated with the gain or loss being reported so that the events are shown from the vantage point of the consolidated entity
a parent company acquires from a third party bonds that had been issued originally by one of its subsidiaries. What accounting problems are created by this purchase?
-the power to direct the activities of a VIE that most significantly impact the entitys economic performance -the obligation to absorb losses of the entity that could potentially be significant to the VIE or the right to receive benefits from the entity that could potentially be significant to the VIE
a primary beneficiary will have both the following characteristics
Basic Earnings per Share. The existence of subsidiary convertible securities does not affect basic EPS. The parent's basic earnings per share is computed by dividing the parent's share of consolidated net income by the weighted average number of parent shares outstanding. Diluted Earnings per Share. The subsidiary's diluted earnings per share is computed by including both convertible items. The portion of the parent's controlled shares to the total shares used in this calculation is then determined. Only this percentage (of the income figure used in the subsidiary's computation) is added to the parent's income in arriving at the parent company's diluted earnings per share.
a subsidiary has (1) a convertible preferred stock and (2) a convertible bond. How are these items factored into the computation of wariness per share for a parent company?
In intra-entity transactions, a transfer price is often established that exceeds the cost of the inventory. Hence, the seller is recording a gross profit on its books that, from the perspective of the consolidated entity as a whole, must be deferred until the asset is consumed or sold to an outside party. Any intra-entity gross profit on merchandise still held by the buyer must be deferred whenever consolidated financial statements are prepared. For the year of transfer, this consolidation procedure is carried out by removing the intra-entity gross profit from the inventory account on the balance sheet and from the ending inventory balance within cost of goods sold. In the year following the transfer (if the goods are resold or consumed), the previously deferred gross profit must be recognized within the consolidation process. Reductions are made on the worksheet to the beginning inventory component of cost of goods sold and to the beginning retained earnings balance of the original seller. The gross profit is thus taken out of last year's earnings (retained earnings) and recognized in the current year through the reduction of cost of goods sold. If the transfer was downstream in direction and the parent company has applied the equity method, the adjustment in the subsequent year is made to the Investment in Subsidiary account rather than to retained earnings.
how are intra-entity gross profits created, and what consolidation entries does the presence of these gross profits necessitate?
Currently accounting pronouncement allow discretion regarding the effect of intra-entity profits in inventory and noncontrolling interest values. This textbook reasons that intra-entity profits relate to the seller and to the computation of the seller's income. Therefore, any intra-entity profits created by upstream transfers (from subsidiary to parent) are attributed to the subsidiary. The effects resulting from the deferral and eventual recognition of these intra-entity profits are considered in the calculation of noncontrolling interest balances. In contrast, intra-entity profits from downstream transfers are viewed as relating solely to the parent (as the seller) and, thus, have no effect on the noncontrolling interest.
how do intra-entity profits present in any year affect the non controlling interest calculations?
The noncontrolling interest share of the subsidiary's net income is a component of consolidated net income. Consolidated net income then is adjusted for noncash and other items to arrive atconsolidated cash flows from operations. Any dividends paid by the subsidiary to these outside owners are listed as a financing activity because an actual cash outflow occurs.
how do non controlling interest balances affect the consolidated statement of cashflows?
An entity qualifies as a VIE if either of the following conditions exists: - The total equity at risk is not sufficient to permit the entity to finance its activities without additional subordinated financial support provided by any parties, including equity holders. In most cases, if equity risk is less than 10% of total assets, the risk is deemed insufficient - the equity investors in the VIE, as a group, lack any one of the following three characteristics of a controlling financial interest: 1. the power, through voting rights or similar rights, to direct the activities of an entity that most significantly impact the entity's economic performance 2. the obligation to absorb the expected losses of the entity (the primary beneficiary may guarantee a return to the equity investors). 3. The right to receive the expected residual returns of the entity (investors' return may be capped by the entity's governing documents or other arrangements with variable interest holders.
identification of VIE
The original gain is never recognized within the financial records of either company. Thus, within the consolidation process for the year of acquisition, the gain is directly recorded whereas (for eachsubsequent year) it is entered as an adjustment to beginning retained earnings (or the Investment account if the equity method is used). In addition, because the carrying amount of thedebt and the investment are not in agreement, the interest expense and interest income balances being recorded by the two companies will differ each year because of the amortization process. This amortization effectively reduces the difference between the individual retained earnings balances and the total that is appropriate for the consolidated entity. Consequently, a smaller change is needed each period to arrive at the balance to be reported. For this reason, the annual adjustment to beginning retained earnings (or the Investment account if the equity method is used) gradually decreases over the life of the bond.
one company purchases the outstanding debt instruments of an affiliated company on the open market. this transaction creates a gain that is appropriately recognized in the consolidated financial statements of that year. thereafter, a worksheet adjustment is required to correct the beginning balance of consolidated retained earnings. Why is the amount of this adjustment reduced from year to year?
Subsidiary outstanding preferred shares are part of the noncontrolling interest and are included in the consolidated financial statements at acquisition-date fair value and subsequently adjusted for their share of subsidiary income and dividends.
perkins company acquires 90% of the outstanding common stock of butterfly company as well as 55% of its preferred stock. how should these preferred shares be accounted for within the consolidation process?
Several differences can be cited that exist between the consolidated process applicable to inventory transfers and that which is appropriate for land transfers. The total intra-entity Sales balance is offset against Purchases (Inventory) when inventory is transferred but no corresponding entry is needed when land is involved. Furthermore, in the year of the sale, ending intra-entity inventory gross profits are deferred through an adjustment to cost of goods sold, but a specific gross profit account exists (and must be removed) when land has been sold. Finally, intra-entity inventory gross profits are usually expected to be recognized in the year following the transfer. This effect is mirrored in that period by reduction of the beginning inventory figure (within cost of goods sold). For land transfers, however, the intra-entity gain must be repeatedly deferred in each fiscal period for as long as the land continues to be held within the consolidated entity.
the consolidation process applicable when intra-entity land transfers have occurred differs somewhat from that used in itoa-entity inventory sales. what differences should be noted?
Because the new stock was issued at a price above the subsidiary's assigned consolidation value, the overall valuation for Metcalf's stock has been increased. Consequently, the Washburn's investment is increased to reflect this change. To measure the effect, the value of Washburn's investment is calculated both before and after the new issue. Because the increment is the result of a stock transaction, an increase is made to additional paid‑in capital. Although the subsidiary's shares (both new and old) are eliminated in the consolidation process, the increase in the parent's APIC (or gain or loss) carries into the consolidated figures. Also, the noncontrolling interest percentage of the subsidiary increases.
washburn company owns 75% of metcalf companies outstanding common stock. during the current year, metcalf issues additional shares to outside parties at a price more than its per share consolidation value. how odes this transaction affect the business combination? how is this impact recorded within the consolidation statements?
Variable interests are contractual, ownership, or other pecuniary interests in an entity that change with changes in the entity's net asset value. Variable interests will absorb portions of a variable interest entity's expected losses if they occur or receive portions of the entity's expected residual returns if they occur. Variable interests typically are accompanied by contractual arrangements that provide decision making power to the owner of the variable interests. Examples of variable interests include debt guarantees, lease residual value guarantees, participation rights, and other financial interests.
what are variable interests in an entity and how might they provide financial control over an entity?
The gain or loss to be reported is the difference between the price paid and the carrying amount of the debt on the date of acquisition. For consolidation purposes, this gain or loss should be recognized immediately on the date of acquisition.
when a company acquires an affiliated companies debt instruments from a third party, how is the gain or loss on extinguishment of the debt calculated? when should this balance be recognized?
Depreciable assets are often transferred between the members of a consolidated entity at amounts in excess of book value. The buyer will then compute depreciation expense based on this inflated transfer price rather than on an historical cost basis. From the perspective of the consolidated entity, depreciation should be calculated solely on historical cost figures. Thus, within the consolidation process for each period, adjustment of the depreciation (that is recorded by the buyer) is necessary to reduce the expense to a cost‑based figure.
why does an intra-entity sale of a depreciable asset (such as equipment or a building) require subsequent adjustments to depreciation expense within the consolidation process?
