PPTs to accompany Deegan, Australian Financial Accounting 7e 16-1 Objectives of this lecture • Understand the nature of intragroup transactions • Understand how and why to eliminate intragroup dividends on consolidation • Understand how to account for intragroup sales of inventory inclusive of the related tax expense effects • Understand how to account for intragroup sales of non-current assets inclusive of the related tax expense effects
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-2 Introduction to accounting for intragroup transactions Overview • During a financial period it is common for separate legal entities within an economic entity to transact with each other • In preparing consolidated financial statements, the effects of all transactions between entities within the economic entity are eliminated in full, even where the parent entity holds only a fraction of the issued equity. • Examples of intragroup transactions • Consolidation adjustments for intragroup transactions: – Typically eliminate these transactions by reversing the original accounting entries – Such eliminations can also introduce temporary tax differences into the consolidated financial statements
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-3 Dividend payments from pre- and post-acquisition earnings Dividend payments • In the consolidation process it is necessary to eliminate: – all dividends paid/payable to other entities within the group – all dividends received/receivable from other entities within the group • Only dividends paid externally should be shown in the consolidated financial statements AASB 10 requires that: • on consolidation of intragroup balances, transactions, income and expenses are all to be eliminated in full Refer to Worked Example 28.1 on pp. 922–924—Dividend payments to a subsidiary out of post-acquisition earnings
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-4 Dividend payments out of pre- and post-acquisition earnings (cont.) Dividends out of pre-acquisition profits • If an entity pays dividends out of profits earned before acquisition, it is effectively returning part of the net assets originally acquired (return of part of investment in subsidiary) • In 2008 the above treatment was changed and now dividends paid by a subsidiary are to be recorded as dividend revenue in the parent entity’s accounts AASB 127 Separate Financial Statements now states: An entity shall recognise a dividend from a subsidiary, jointly controlled entity or associate in profit or loss in its separate financial statements when its right to receive the dividend is established
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-5 Dividends paid from pre-acquisition earnings of the investee • If a dividend payment is made out of pre-acquisition profits of the subsidiary then this in itself may have implications for the value of the parent’s investment in the subsidiary. • The dividend payment will have the effect of reducing the net assets of the subsidiary. This in turn might provide an indication that the parent entity’s investment in the subsidiary may thereafter have a value that may be below the original cost of the investment. • If an impairment loss is recognised in the accounts of the parent entity then that impairment loss would be reversed as a consolidation adjustment prior to the consolidation entry that eliminates the parent’s investment in a subsidiary....
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-6 Intragroup sale of inventory • From the group’s perspective, revenue should not be recognised until inventory is sold to parties outside the group • We will need to eliminate any unrealised profits from the consolidated financial statements • Unrealised profits result from inventory, which is sold within the group for a profit, remaining on hand within the group at the end of the reporting period As we know, AASB 10 requires: Consolidated financial statements eliminate in full intragroup assets and liabilities, equity, income, expenses and cash flows relating to transactions between entities of the group (profits or losses resulting from intragroup transactions that are recognised in assets, such as inventory and fixed assets, are eliminated in full).
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-9 Intragroup sale of inventory (cont.)
Journal entry to eliminate inter-company sales
• To eliminate total intragroup sales as no sales have occurred from perspective of group Dr Sales x Cr Cost of goods sold (perpetual) or x purchases (periodic)
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-10 Intragroup sale of inventory (cont.)
Journal entry to eliminate unrealised profit in closing stock
Accounting Standards require that inventory must be valued at the lower of cost and net realisable value. Therefore, on consolidation we must reduce the value of closing inventory to its cost to the economic entity. Dr Cost of goods sold (perpetual) or x closing inventory—(periodic) Cr Inventory x
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-11 Intragroup sale of inventory (cont.)
Consideration of tax paid on intragroup sale of inventory
Any tax paid by members of the group related to intragroup sales where full amount of revenue has not been earned from the group’s perspective, effectively represents a prepayment of tax. The adjusting consolidation entry would be:
Dr Deferred tax asset x
Cr Income tax expense x
Refer to Worked Example 28.3 on p. 930—Unrealised profit
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-14 Sale of non-current assets within the group • Assets of the group need to be valued as if the intragroup sale had not occurred
• Need to reinstate the non-current asset to the
original cost or revalued amount – Eliminate any unrealised profits on sale – Adjust depreciation – There may be tax on profit of sale, which will represent a temporary difference in the consolidated financial statements
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-15 Sale of non-current assets within the group (cont.) Consolidation journal entries to eliminate sale of non- current asset Reversing gain and reinstating accumulated depreciation Dr Gain on sale x Dr Asset x Cr Accumulated depreciation x
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-16 Sale of non-current assets within the group (cont.) Consolidation journal entries to eliminate sale of non- current asset (cont.) Adjusting depreciation to reflect correct amount Dr Accumulated depreciation x Cr Depreciation expense x
Partially reversing deferred tax asset to reflect depreciation
adjustment Dr Income tax expense x Cr Deferred tax asset x Refer to Worked Example 28.5 on pp. 939–42—Intragroup sale of a non-current asset
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-17 Summary • The lecture considered the consolidation process and, in particular, how to account for intragroup transactions • Only dividends paid externally should be shown in the consolidated financial statements—intragroup dividends paid by one entity within the group are to be offset against the dividend revenue recorded in other entity • Within the consolidation worksheet, the liability associated with dividends payable is to be offset against dividend receivable • Where intragroup sales of inventory have taken place and inventory remains on hand at year end, consolidation adjustments are required to reduce the consolidated balance of closing inventory
PPTs to accompany Deegan, Australian Financial Accounting 7e 16-18 Summary (cont.)
• Where there is sale of non-current assets within
the group, consolidation adjustments are required to eliminate any intragroup profit on sale and to adjust the cost of the asset to reflect the cost of the asset to the economic entity—this may also require adjustments to depreciation expense • If there are non-controlling interests, the effect of intragroup transactions will be still eliminated in full even though the parent entity might hold only a proportion of the capital of the respective subsidiaries