Asked by Jahmorai Thomas on Jun 10, 2024
Verified
X Inc. owns 80% of Y Inc. During 2020, X Inc. sold inventory to Y for $10,000. Half of this inventory remained in Y's warehouse at year end.
Y Inc. sold inventory to X Inc. for $5,000. 40% of this inventory remained in X's warehouse at year end.
Both companies are subject to a tax rate of 40%. The gross profit percentage on sales is 20% for both companies. Unless otherwise stated, assume X Inc. uses the cost method to account for its investment in Y Inc.
What would be the journal entry to eliminate any unrealized profits from the consolidated financial statements during the year?
A)
Debit Credit Cost of Goods Sold $1,400 Inventory $1,400\begin{array} { | l | r | r | } \hline & \text { Debit } & \text { Credit } \\\hline \text { Cost of Goods Sold } & \$ 1,400 & \\\hline \text { Inventory } & & \$ 1,400 \\\hline\end{array} Cost of Goods Sold Inventory Debit $1,400 Credit $1,400
B)
Debit Credit Sales $15,000 Cost of Goods Sold $15,000\begin{array} { | l | r | r | } \hline & \text { Debit } & \text { Credit } \\\hline \text { Sales } & \$ 15,000 & \\\hline \text { Cost of Goods Sold } & & \$ 15,000 \\\hline\end{array} Sales Cost of Goods Sold Debit $15,000 Credit $15,000
C)
Debit Credit Sales $15,000 Cost of Goods Sold $12,000 Invertory $3,000\begin{array} { | l | r | r | } \hline & \text { Debit } & \text { Credit } \\\hline \text { Sales } & \$ 15,000 & \\\hline \text { Cost of Goods Sold } & & \$ 12,000 \\\hline \text { Invertory } & & \$ 3,000 \\\hline\end{array} Sales Cost of Goods Sold Invertory Debit $15,000 Credit $12,000$3,000
Unrealized Profits
Profits that have been recognized in the accounting records but have not yet been realized through the receipt or payment of cash or other assets.
Inventory
The total amount of goods and materials held by a company for the purpose of sale or production.
- Identify and calculate the effects of unrealized intercompany profits on consolidated financial statements.
Verified Answer
RR
Rameela RatnavarathanJun 14, 2024
Final Answer :
A
Explanation :
To eliminate any unrealized profits from the consolidated financial statements, we need to consider the intercompany sales and the remaining inventory at year-end for both X Inc. and Y Inc.
First, let's calculate the unrealized profit for the inventory that X Inc. sold to Y Inc.:
- X Inc. sold inventory to Y Inc. for $10,000.
- Gross profit percentage on sales is 20%.
- Therefore, the gross profit on this sale is 20% of $10,000 = $2,000.
- Half of this inventory remained in Y's warehouse at year-end, so the unrealized profit in Y's inventory is 50% of $2,000 = $1,000.
Now, let's calculate the unrealized profit for the inventory that Y Inc. sold to X Inc.:
- Y Inc. sold inventory to X Inc. for $5,000.
- Gross profit percentage on sales is 20%.
- Therefore, the gross profit on this sale is 20% of $5,000 = $1,000.
- 40% of this inventory remained in X's warehouse at year-end, so the unrealized profit in X's inventory is 40% of $1,000 = $400.
Since X Inc. owns 80% of Y Inc., we only need to eliminate the unrealized profit attributable to the parent company's ownership percentage. For the inventory Y Inc. sold to X Inc., we eliminate the entire unrealized profit because X Inc. is the parent company.
The total unrealized profit to be eliminated is $1,000 (from X Inc.'s sale to Y Inc.) + $400 (from Y Inc.'s sale to X Inc.) = $1,400.
The journal entry to eliminate this unrealized profit from the consolidated financial statements would be:
DebitCreditCost of Goods Sold$1,400Inventory$1,400\begin{array}{|l|r|r|}\hline& \text{Debit} & \text{Credit} \\\hline\text{Cost of Goods Sold} & \$1,400 & \\\hline\text{Inventory} & & \$1,400 \\\hline\end{array}Cost of Goods SoldInventoryDebit$1,400Credit$1,400
This entry reduces the Cost of Goods Sold by $1,400, which corrects the overstatement due to the unrealized profit, and it also reduces the Inventory by $1,400, which corrects the overstatement of assets on the balance sheet.
Therefore, the correct answer is:
A.
DebitCreditCost of Goods Sold$1,400Inventory$1,400\begin{array}{|l|r|r|}\hline& \text{Debit} & \text{Credit} \\\hline\text{Cost of Goods Sold} & \$1,400 & \\\hline\text{Inventory} & & \$1,400 \\\hline\end{array}Cost of Goods SoldInventoryDebit$1,400Credit$1,400
To eliminate any unrealized profits from the consolidated financial statements, we need to consider the intercompany sales and the remaining inventory at year-end for both X Inc. and Y Inc.
First, let's calculate the unrealized profit for the inventory that X Inc. sold to Y Inc.:
- X Inc. sold inventory to Y Inc. for $10,000.
- Gross profit percentage on sales is 20%.
- Therefore, the gross profit on this sale is 20% of $10,000 = $2,000.
- Half of this inventory remained in Y's warehouse at year-end, so the unrealized profit in Y's inventory is 50% of $2,000 = $1,000.
Now, let's calculate the unrealized profit for the inventory that Y Inc. sold to X Inc.:
- Y Inc. sold inventory to X Inc. for $5,000.
- Gross profit percentage on sales is 20%.
- Therefore, the gross profit on this sale is 20% of $5,000 = $1,000.
- 40% of this inventory remained in X's warehouse at year-end, so the unrealized profit in X's inventory is 40% of $1,000 = $400.
Since X Inc. owns 80% of Y Inc., we only need to eliminate the unrealized profit attributable to the parent company's ownership percentage. For the inventory Y Inc. sold to X Inc., we eliminate the entire unrealized profit because X Inc. is the parent company.
The total unrealized profit to be eliminated is $1,000 (from X Inc.'s sale to Y Inc.) + $400 (from Y Inc.'s sale to X Inc.) = $1,400.
The journal entry to eliminate this unrealized profit from the consolidated financial statements would be:
DebitCreditCost of Goods Sold$1,400Inventory$1,400\begin{array}{|l|r|r|}\hline& \text{Debit} & \text{Credit} \\\hline\text{Cost of Goods Sold} & \$1,400 & \\\hline\text{Inventory} & & \$1,400 \\\hline\end{array}Cost of Goods SoldInventoryDebit$1,400Credit$1,400
This entry reduces the Cost of Goods Sold by $1,400, which corrects the overstatement due to the unrealized profit, and it also reduces the Inventory by $1,400, which corrects the overstatement of assets on the balance sheet.
Therefore, the correct answer is:
A.
DebitCreditCost of Goods Sold$1,400Inventory$1,400\begin{array}{|l|r|r|}\hline& \text{Debit} & \text{Credit} \\\hline\text{Cost of Goods Sold} & \$1,400 & \\\hline\text{Inventory} & & \$1,400 \\\hline\end{array}Cost of Goods SoldInventoryDebit$1,400Credit$1,400
Learning Objectives
- Identify and calculate the effects of unrealized intercompany profits on consolidated financial statements.
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