Consolidation Journal Entries: Cats Group Limited - Example

Cats Group Limited Consolidation journal entries As at 30th June 2010 1. Dr. Investment account $225,000 Cr. Cash or bank account $225000 To record the investment cost of acquiring 100 % interest in Pies ltd 2. Dr. Goodwill $25,000 Cr. Cash or bank $25,000 To record the difference of the cost and market value of the acquired company termed as goodwill. 3. Dr. cash or bank $154,375 Cr. Profit and loss account $154,375 To record the retained earnings acquired from the subsidiary 4. Dr. Investment account $125,000 Cr. Share capital account $125,000 To record the acquired share capital by Cats ltd from the Pies ltd 5. Dr. Account receivable account $ 38,938 Cr. cash or bank $ 38938 To record the acquisition of assets (account receivable) 6. Dr. inventory $18,125 Cr. cash or bank $18,125 To record the acquisition of assets (inventory) 7. Dr. Land and building $203,750 Cr. Cash or bank $203,750 To record the acquisition of assets (land and buildings) 8. Dr. plant $135625 Cr. cash or bank $135625 To record the acquisition of assets (plant) 9. Dr. cash or bank $ 40,625 Cr. Sales $40,625 To record of sales to the subsidiary 10. Dr. Inventory $32,500 Cr. Cash or bank $32,500 To record the purchases of inventory from the subsidiary 11. Dr. Inventory $ 26,250 Cr. Cash or bank $21,875 Cr. Profit and loss account $ 4,375 To record opening inventory acquired from Pies at market value 12. Dr. Inventory $21,000 Cr. Cash bank $17,500 Cr. Profit and loss account $ 4,500 To record the closing inventory acquired from the subsidiary at fair value 13. Dr. cash or bank $ 7,500 Cr. Inventory $ 6000 Cr. Profit and loss account $ 1,500 To record the closing inventory of the subsidiary acquired from the parent company. 14. Dr. cash or bank $ 1,875 Cr. Goodwill $ 1,875 To record the impairment of goodwill 15. Dr. cash or bank $75,000 Cr. Plant $ 50,625 Cr. profit and loss account $ 24,375 To record the sale of a plant item to the subsidiary 16. Dr. Depreciation $ 8,437.50 Cr. Cash or bank $ 8,437.50 To record the depreciation of the plant item Memo From the …….Accounting Department To ……………..Board of Directors The accounting department wishes to clarify on the journal entries of the consolidated group accounts as they appear above. The adjustments that have been done are deemed to be in accordance to International accounting Standards (IAS 24). IAS 24 requires that disclosure of related companies be done in the preparation of all financial statements of a company. The term related company is taken to encompass the consolidation of financial statements of subsidiary companies together with their parent companies. It is necessary to have inter-company adjustments where consolidation of financial statement is done. One of the major reasons for the adjustment is compliance with the accounting standards like the IAS 24 as mentioned above. Again it is necessary because it ensures that only those transactions and balances that affect consolidated group dealing without the outsiders are considered (Camfferman and Zeff, 2007). The adjustments of inter-company transactions are important in the elimination of profits or losses or even the inclusion of the inter-company profits and losses. This is made possible by the ensuring that unrealized profits and losses related to transactions in the affiliate or subsidiary groups as well as the outsiders are eliminated. The elimination of the inter-company losses and profits is also important in recognition of the realized profits or losses. The first journal entry is adjusted o accommodate the increase of the investment after the parent company, Cats Group limited has acquired 100 percent interest from the subsidiary, Pies limited. The increase in the investment has an effect to raise the asset base of the parent company. Failure to adjust the investment will give a vague picture of the parent company’s assets base which can scare away investors or reduce their confidence in the future operations of the company (Camfferman and Zeff, 2007). In the elimination of profit and losses the inter-company transactions have been adjusted in the transactions number 10 and 11 so that the profits realized there are ploughed back to cater for other expenses and acquisition costs that the parent company might have experienced in the process. The elimination of the unrealized profits is a critical process which ensures that the profit and loss account is not exaggerated or under valued. An exaggerated profit and loss account may mislead the investors into venturing into the company only for the company to fail to give the projected results. The inclusion of unrealized profits distorts the company’s liquidity as it fools the stakeholders in believing that the company has the capacity to honor its obligations whereas it is not possible. The adjustment of the inter-company transactions is important because it makes it possible for the transfer pricing to be balanced. For instance the journal entries number 8 and 9 are examples of transfer pricing. The sale or purchase of inventory from the subsidiary or vice versa should be adjusted through transfer pricing effect so that the both companies can establish whether they are operating at a loss or profits with their affiliates. Inter-company transactions adjustments are important in the assessment of the performance f each entity in the consolidated group. Meaningful assessment of the inter-company transactions would be impossible without first consolidating the financial statements. This forms one of the operational importances which have the effect of rendering the companies nonfunctional if the practice is foregone. For instance the presentation of the Cats Group limited and Pies limited in a consolidated form and adjacent to one another makes it possible to assess areas of weakness and deviations and calls for measures (Kester, 1933). Inter-company accounts The adjustment of inter-company accounts is important in that the inter-company payable account and the receivable account for the subsidiary basis for currency are used balance debits and credits in each subsidiary. Failure to adjust them will result to unbalanced financial accounts which are no as per the accepted accounting principles. For instance the accounts receivable in the subsidiary are acquired by the parent company together with all the current liabilities which include the accounts payable. And because the acquisition is a 100 percent it means that the parent company takes over all the operation and will be obligated to honor all the transactions which had been started by the subsidiary (Paton, 1955). The adjustment of the assets is done by acquiring the land at cost while other assets like the building and plants are acquired in a fair market value. For instance the plants and buildings are acquired at the current book value. They have been adjusted for the depreciation so that the acquiring company cannot suffer losses either through the inflation or price exaggeration. The Generally Accounting Principles requires the practice to be followed and any deviation is considered a malpractice. The acquisition of assets at the fair market value is also accepted in the case of acquisition of inventory. This is so because the inventories are not expected to generate any future return to the parent company as opposed to the other assets like machines which will last more than one accounting period. References Kester, R. (1933). Accounting theory and practice. The Ronald press company United States. Federal Trade Commission (1937) Utility corporations: letters from the chairman of the Federal Trade Commission transmitting, in response to Senate resolution no. 83, 70th Congress, a monthly report on the electric power and gas utilities inquiry, Issues 68-69 New York: United States Government Printing Office Paton, W. (1955). Corporation accounts and statements: an advanced course Macmillan Press Holmes, F. and International Monetary Fund (1987) Economic adjustment: policies and problems: papers presented at a seminar held in Wellington, New Zealand, February 17-19, 1986 International Monetary Fund Press Fischer, P.,Taylor, W. and Cheng, R. (2007) Fundamentals of Advanced Accounting New York: Cengage Learning Press Gray, S., Coenenberg, A. and Gordon, P (1993) International group accounting: issues in European harmonization New York: Routledge Press Camfferman, K. and Zeff, S. (2007). Financial reporting and global capital markets: a history of the International Accounting Standards Committee, 1973-2000 Oxford: Oxford University Press Read More