Chapter 8 Consolidated Financial statements: Intercompany Transactions Objectives of the Chapter



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Acquisition of Affiliate’s Bonds in An Open Market (Contd.) Example 8.8: (Contd.)

  • From the viewpoint of the consolidated entity, Post’s acquisition of Sage’s bonds is equivalent to the extinguishment of the bonds at a realized gain of $24,601, computed as follows:
  • Carrying amount of Sage Company’s
  • bonds acquired by Post Corporation on
  • Dec.31,2001 ($300,000 –18,224)
  • $ 281,776
  • 257,175
  • Realized gain on extinguishment of
  • bonds
  • $ 24,601

Acquisition of Affiliate’s Bonds in An Open Market (Contd.) Example 8.8: (Contd.)

  • The $24,601 realized gain is not recorded in the accounting records of either the parent company or the subsidiary.
  • However, it is recognized in the working paper elimination (in journal entry format) on 12/31/2001, shown as follows:

Acquisition of Affiliate’s Bonds in An Open Market (Contd.) Example 8.8: (Contd.)

  • (e) Intercompany Bonds Payable—
  • Sage
  • 300,000
  • 18,224
  • 257,175
  • 24,601
  • To eliminate subsidiary’s bonds acquired by parent and to recognize gain on the extinguishment of the bonds.(Income tax effects are disregarded.)

Acquisition of Affiliate’s Bonds in An Open Market (Contd.)

  • Notes to the partial working paper elimination:
  • 1. The intercompany interest receivable -- Post ($30,000) and intercompany interest payable-Sage ($30,000) are offset in the working paper elimination.

Acquisition of Affiliate’s Bonds in An Open Market (Contd.)

  • 2. The gain is attributes to Sage – the bond issuer (the subsidiary).
  • This treatment assumes that parent’s open market acquisition of the subsidiary’s bonds was, in substance, the extinguishment of the bonds by the subsidiary.

Acquisition of Affiliate’s Bonds in An Open Market (Contd.)

  • 3. The gain is included in the consolidated income statement of Post and subsidiary for the year ended 12/31/2001.
  • If the gain is material, it is displayed as an extraordinary item.

Acquisition of Affiliate’s Bonds in An Open Market (Contd.) Minority interest in Gain on Extinguishemtn of Bonds

  • Since the gain is attributed to the partially owned subsidiary, the gain should be considered in the computation of the minority interest in the subsidiary’s net income for the year ended 12/31/2001.

Acquisition of Affiliate’s Bonds in An Open Market (Contd.) Minority interest in Gain on Extinguishemtn of Bonds(Contd.)

  • This gain is also included in the subsidiary’s retained earnings to be included in the consolidated retained earnings on 12/31/2001.
  •  
  • See Example 8.9 for example. 

Accounting for Gain (from Acquisition of Affiliate’s Bonds) in Subsequent Years

  • In the following four years, the realized gain which is unrecorded by either affiliate on the date of acquisition,is reported by the consolidated entity through the differences in the two affiliates’ interest expense and the interest revenue.

Accounting for Gain (from Acquisition of Affiliate’s Bonds) in Subsequent Years (Contd.)

  • The accounting for the bond interest by the two affiliates for the year ended 12/31/2002 and related ledger accounts for four remaining years for both companies are as follows:

Accounting for Gain (from Acquisition of Affiliate’s Bonds) in Subsequent Years (Contd.)

  • 2002 Post Corporation Journal Entries
  • 1/2
  • Cash
  • 30,000
  • 30,000
  • To record receipt of accrued interest on Sage Company’s 10% bonds.
  • 12/31
  • 30,000
  • 8,576
  • Intercompany Interest
  • Revenue
  • 38,576
  • To accrue annual interest on Sage Company’s 10% bonds ($257,175 x 0.15 =$38,576).

Accounting for Gain (from Acquisition of Affiliate’s Bonds) in Subsequent Years (Contd.)

  • 1/2
  • 30,000
  • Interest Payable
  • 20,000
  • Cash
  • 50,000
  • To record payment of accrued interest on 10% bonds.
  • 12/31
  • 33,813
  • Interest Expense
  • 22,542
  • Intercompany Interest Payable
  • 30,000
  • Interest Payable
  • 20,000
  • Discount on Intercompany Bonds
  • Payable
  • 3,813
  • 2,542
  • To accrue annual interest on 10% bonds. Interest is computed as follows:
  • Intercompany ($300,000-$18,224) x 0.12= $33,813
  • Other ($200,000- $12,150) x 0.12= $22,542
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