Question

Trump Corporation sold $180,000 in inventory to Bannon Enterprises during 2017, for $270,000. Bannon resold $108,000 of this merchandise in 2017 with the remainder to be disposed of during 2018.

Required:

1. Assuming Trump owns 25% of Bannon and applies the equity method, prepare the journal entry Trump should have recorded at the end of 2017 to defer gross profit on intra-entity inventory sales.

2. What entry would trump record in 2018 assuming the remainder was disposed during 2018.

Answer 1

It is a case of Down Stream Sale where Parent Company is selling Goods to the Subsidiary. In this case, percentage of holding by Parent Company will not impact the calculation of Inter Company Profits.

So, In this case unrealised Profit needs to calculated and to be reversed.

It is given that, out of Inventory of $270000, $108000 is sold and so remaining portion of $162000 includes the unrealised profits portion which is ($162000/1.5)*0.5= $54000. Now entry needs to be passed so as to eliminate the unrealised profits from the value of Inventory as well as from Profit & Loss A/C by debiting COGS and Crediting Inventory

In the given question, Parent company sold the units at 50% markup on its cost(270000-180000)/180000=50%. So, whatever inventory lying with subsidiary is 1.5 times of its original cost which means 0.5 of Unsold Inventory is its Unrealised profits.

Requirement 1:

Cost of Goods Sold / Profit & Loss A/C Dr $54000

To Inventory Cr $54000   

( Being Entry passed for Inter Company Unrealised Profits)

Requirement 2:

No entry is required in the next year because whenever sale happened in the next year from subsidiary company, entire profit will be booked at that time in the subsidiary books due to reduced Inventory.