Transcript Intercompany Inventory Transactions

Chapter 06
Intercompany
Inventory
Transactions
McGraw-Hill/Irwin
Copyright © 2012 by The McGraw-Hill Companies, Inc. All rights reserved.
Learning Objective 1
Understand and explain
intercompany transfers and
why they must be
eliminated.
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Road Map: Intercompany Transactions
 Typical intercompany transactions

Intercompany reciprocal accounts (Chapter 4)

Inventory transfers (Chapter 6)

Fixed asset transfers (Chapter 7)

Intercompany Indebtedness (Chapter 8)
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Arm’s-Length Transactions
Q:
What are “Arm’s-length” Transactions?
A:
“Transactions that take place between
completely independent parties.”
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Categories of Transactions
 Arm’s Length Transactions
 The only transactions that can be reported in the
consolidated statements.
 We want to report the results of our interactions
with outside parties!
 Non-Arm’s Length Transactions
 Usually referred to as “related party
transactions.”
 Include all intercompany transactions.
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Types of “Related Party” Transactions
 Involving only Individuals
 Transactions among family members
 Involving Corporations
 With management and other employees
 With directors and stockholders
 With affiliates (controlled entities)

Probably constitutes at least 99% of all corporate
related-party transactions
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Necessity of Eliminating Intercompany Transactions
 Eliminate all intercompany transactions in
consolidation:
 Because they are internal transactions from a
consolidated perspective.
 Not because they are related-party transactions.
 Only transactions with outside unrelated parties
can be reported in the consolidated statements.
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Let’s work through an example:
 Assume Parent Co. owns 100% of Sub Co.
 The following intercompany transactions occurred during
the year:



Parent loaned $500 to Sub. To keep things simple, assume that
there is no interest revenue or interest expense associated with this
loan.
Parent made a sale to Sub for $400 cash. The inventory had
originally cost Parent $250. Sub then sold that same inventory to an
outsider for $500.
Parent made a sale to Sub for $300 cash. The inventory had
originally cost Parent $200. Sub has not yet sold that same
inventory to an outsider.
 What consolidation worksheet entries would you make?
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(a) Loan from Parent to Sub
Does this transaction include outsiders?
Parent $500
Sub
Reverse the entries made by
the parent and the sub.
To eliminate intercompany loans:
Loan Payable
Loan Receivable
Parent:
Receivable
Cash
Sub:
Cash
500
500
500
Payable
500
500
500
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(b) Sale from Parent to Sub to Outsider
Arm’s
Length
Keep Parent’s COGS
Keep Sub’s Sale
Are these legitimate transactions?
$250
Keep
This
Purchase
Parent $400
Eliminate effect
of this internal
Transaction
Get rid of Parent’s Sale
Sub
$500
Keep
This
Sale
Get rid of Sub’s COGS
Internal (fake)
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(b) Sale from Parent to Sub to Outsider
Which transactions are legitimate?
Parent’s sale to Sub:
Sub’s sale to Outsider:
Parent:
Cash
Sales
COGS
Inventory
Sub:
Inventory
Cash
Sub:
Cash
500
Sales
500
COGS
400
Inventory
400
400
400
250
250
400
400
Reverse the rest!
To eliminate sale from Parent to Sub to Outsider:
Sales (parent to sub)
400
Cost of Goods Sold (to outsider)
400
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(c) Sale From Parent to Sub (Not Outside)
Is this a legitimate arm’s length transaction?
$200
Keep
this
purchase
Parent $300
Sub
Eliminate effect
of this internal
transaction
Parent:
Cash
300
Sales
300
COGS
200
Inventory
200
Sub:
Inventory 300
Cash
300
Summary of the Transaction:
 Parent purchased inventory for $200.
 Parent sold the inventory to a Sub for $300.
Reverse the entries made by the parent and sub.
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(c) Sale From Parent to Sub (Not Outside)
Reverse the entries made by the parent and sub.
Parent:
Cash
300
Sales
300
COGS
200
Inventory
200
Sub:
Inventory
Cash
Parent $300
Sub
300
300
To eliminate sale from Parent to Sub, not yet to Outsider:
Sales
300
Cost of Goods Sold
200
Inventory (net)
100
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Summary of Consolidation Entries:
To eliminate intercompany loans:
Loan Payable
Loan Receivable
500
To eliminate sale from Parent to Sub to Outsider:
Sales
400
Cost of Goods Sold
500
400
To eliminate sale from Parent to Sub, not yet to Outsider:
Sales
300
Cost of Goods Sold
200
Inventory
100
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