Question

Bright Ltd acquired all of the issued shares in Star Ltd a number of years ago. On 1 June 2019, Bright Ltd transferred inventory to Star Ltd at a profit, where all of these inventories remained with Star Ltd at 1 July 2019, and were all on-sold to external parties as at 30 June 2020. In your own words, briefly explain the necessary adjustments required in preparing the consolidated financial statements for Bright Ltd’s group for the year ended 30 June 2020.

Answer 1

Since Bright Ltd acquired all shares of Star Ltd, Bright Ltd becomes the parent company and Star Ltd becomes the subsidiary company.

Sale of goods from Parent Company to Subsidiary Company:

Purchase and sale of goods is common transaction between parent and subsidiary. Both the company in their standalone financial statements will record the entries. However, certain adjustment will be required while consolidation of financial statements. Basically two adjustments would require while preparing consolidated financial statements for year ended 30 June 2020.

Adjustment 1:

Since the goods are sold by Bright (parent) to Star (subsidiary), the parent will record it as sales and subsidiary will record it as purchase in their Standalone Financial Statements. However, while making consolidation at year end both the purchase and sales need to be eliminated. So the following adjustment entry would be recorded:

Sales A/c              Debit     Amount

Purchase A/c     Credit    Amount

Adjustment 2:

If the goods purchased by Star Ltd is not in entirely sold to external parties i.e. some of the goods purchased are still lying in the inventory              of Star Ltd, than the unrealized profit of Star Ltd on the unsold inventory should be eliminated at the time of consolidation. The unrealized profit amount will be calculated by multiplying unsold inventory purchase from Bright Ltd to Mark Up Percentage or Profit Margin Percentage charge by Bright Ltd on sales. So the following adjustment entry would be recorded at year end:

Profit and Loss A/c          Debit     Amount

Inventory A/c                    Credit    Amount