Intercompany Eliminations

Topics: Generally Accepted Accounting Principles, Asset, Balance sheet Pages: 5 (1170 words) Published: April 28, 2013
Intercompany Eliminations
In addition to the basic elimination entries that are needed to eliminate the equity in subsidiary companies during consolidation, there are specific types of events that must also be eliminated. The intercompany transactions−such as sales of inventory or other assets, subsidiary stock transactions, or intercompany bond transactions−that require special attention during the consolidating process are overviewed in this module.  

Elimination Entries
When preparing financial statements for a consolidated entity, elimination entries are prepared that are not recorded on the books of either the parent or the subsidiary entries. A summary of elimination entries is provided below.  


Intercompany Sales of Merchandise
Intercompany sales of inventory cause there to be unrealized profit on the books of the consolidated entity. The consolidated income statement should reflect only revenues earned through transactions with parties outside of the consolidated group; profits earned through intercompany transactions are considered to be unrealized, and therefore must be eliminated when preparing consolidated financial statements. Consolidated sales, on the consolidated income statement, should include only sales to parties outside of the affiliated group; consolidated cost of sales, also on the consolidated income statement, should reflect the cost of the goods to the affiliated group; and consolidated inventory, on the consolidated balance sheet, should reflect the cost to the affiliated group (Jeter & Chaney, 2010).  

Sales amongst an affiliated group can be upstream, downstream, or horizontal. Upstream sales are sales made from a subsidiary to a parent, downstream sales are sales from a parent to a subsidiary, and horizontal sales are from one subsidiary to another, within the same affiliated group (Jeter & Chaney, 2010). The intercompany profit in each of these types of transactions must be eliminated.  

Intercompany Sales of Property
Intercompany sales of tangible property between affiliated entities must be eliminated during the consolidation process. Tangible fixed assets are either depreciable or nondepreciable. The only nondepreciable fixed asset is land; all other assets that are considered part of property, plant, and equipment are depreciable.  

To eliminate the intercompany sales of nondepreciable property in the year of sale, the gain or loss recorded on the sale of land on the books of the seller company is offset against the change to the land account that is recorded on the books of the purchaser. For example, if the parent company sold land costing $1 million to a subsidiary company for $1.4 million (downstream sale), the resulting journal entries would be recorded:  

      Parent Company's Books
                                    Cash                                                    $1,400,000                                     Land                                                    $1,000,000                                     Gain on Sale of Land                           $   400,000  

      Subsidiary Company's Books
                                    Land                                                    $1,400,000                                     Cash                                                    $1,400,000  

The elimination (workpaper only) entry that is needed during the consolidation process offsets the gain recorded against the increase in the land value, as follows:  
                                    Elimination Entry                                     Gain on Sale of Land                           $   400,000                                     Land                                                    $   400,000  

In subsequent periods, the increase in the value of the land must be eliminated against the effects of the gain or loss recorded on the intercompany sale transaction. The gain or loss would have affected the seller...
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